INTEGON CORP /DE/, 10-K/A, 1997-09-15

INTEGON CORP /DE/
10-K/A, 1997-09-15
FIRE, MARINE & CASUALTY INSURANCE

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

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

FORM 10-K/A

AMENDMENT NO. 1

(MARK ONE)

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

For the Fiscal Year Ended December 31, 1996

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

For the transition period from to

Commission file number 001-10997

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INTEGON CORPORATION
(Exact name of registrant as specified in its charter)

DELAWARE 13-3559471
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)

500 WEST FIFTH STREET 27152
WINSTON-SALEM, NORTH CAROLINA (Zip Code)
(Address of principal executive
offices)

REGISTRANT'S TELEPHONE NUMBER, (910) 770-2000
INCLUDING AREA CODE:

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

<TABLE>
<CAPTION>
NAME OF EACH EXCHANGE ON
TITLE OF EACH CLASS WHICH REGISTERED
------------------- ------------------------
<S> <C>
Common Stock, par value $.01 per New York Stock Exchange
share New York Stock Exchange
$3.875 Convertible Preferred
Stock,
par value $.01 per share
</TABLE>

SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:

None

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No

Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K ((S)229.405 of this chapter) is not contained herein,
and will not be contained, to the best of registrant's knowledge, in
definitive proxy or information statements incorporated by reference in Part
III of this Form 10-K or any amendment to this Form 10-K. [ X ]

The aggregate market value based on published prices as of January 24, 1997
of Integon Corporation's voting common stock held by non-affiliates was
approximately $185.1 million.

As of January 24, 1997, there were 15,736,121 shares outstanding of Integon
Corporation's Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE

Selected portions of Integon Corporation's definitive proxy statement for
its 1997 Annual Meeting of Shareholders are incorporated by reference into
Part III of this Form 10-K/A.

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<PAGE>

PART I

ITEM 1. BUSINESS

OVERVIEW

Integon Corporation (together with its subsidiaries unless the context
otherwise requires, the "Company"), through its wholly owned property and
casualty insurance subsidiaries, specializes in the marketing and underwriting
of nonstandard automobile insurance to individuals. To a lesser extent, the
Company also writes specialty automobile insurance and, in North Carolina,
preferred risk automobile insurance. The Company has been writing insurance
for more than 25 years and currently markets its products in 29 states through
approximately 13,000 independent agencies located principally in the eastern
United States.

The Company's nonstandard automobile insurance products are designed for
drivers who are unable to obtain coverage from standard market carriers due to
prior driving records, other underwriting criteria or market conditions. These
drivers are normally charged higher premium rates than the rates charged for
preferred or standard risk drivers and generally obtain lower liability limits
than preferred or standard risk policyholders. The Company's specialty
automobile insurance products include business vehicle insurance designed
primarily for tradespeople and artisans who have small fleets or lightweight
single vehicles, as well as motorcycle insurance.

RECENT HISTORY; STRATEGY

In October 1994, the Company acquired Bankers and Shippers Insurance Company
(which changed its name to Integon National Insurance Company in 1996)
("Bankers and Shippers"), for a purchase price of $153.2 million. The
acquisition of Bankers and Shippers, which was also engaged in the nonstandard
automobile insurance business, increased to 19 the number of states in which
the Company then marketed its products and provided significant geographic
diversity. Since the acquisition, the Company has continued to expand into
additional states in its effort to become a national provider of nonstandard
automobile insurance. Currently, the Company is writing business in 29 states.

For the year ended 1995, the Company reported net income of $34.0 million
and net income available to common stockholders of $28.4 million. Net premiums
written grew 70.7% over 1994 to $620.4 million as a result of the Bankers and
Shippers acquisition and increased market penetration in most of the Company's
existing states, as well as in new markets. The GAAP combined ratio for 1995
was 95.0%.

For the year ended 1996, the Company reported net income of $170,000 and a
loss to common stockholders of $5.4 million. While net premiums written
increased 28.6% to $798.0 million in 1996 over 1995, the Company's GAAP
combined ratio increased to 102.4% from 95.0% in 1995, attributable primarily
to a significant increase in the loss ratio from 73.4% to 80.0%.

The Company's results for the fourth quarter of 1996 were significantly
below those for the 1996 third quarter and those for the fourth quarter of
1995. The Company recorded a net loss of $16.4 million and net loss to common
stockholders of $17.8 million for the three months ended December 31, 1996,
compared to net income of $10.5 million and net income available to common
stockholders of $9.2 million for the comparable 1995 period, and net income of
$4.9 million and net income available to common stockholders of $3.5 million
for the three months ended September 30, 1996. The Company's loss, expense and
combined ratios were 89.1%, 25.6% and 114.7% for the fourth quarter of 1996,
compared to 76.8%, 21.9% and 98.7% for the third quarter of 1996 and 74.2%,
20.5% and 94.7% for the fourth quarter of 1995. At December 31, 1996 the
Company's statutory premium to surplus ratio increased to 3.248x, compared to
3.03x at September 30, 1996 and 2.74x at December 31, 1995.

The deterioration in fourth quarter results was due to a number of factors,
including increased frequency, an increase in the Company's expense ratio,
deferred acquisition cost writeoffs, an increase in bad debt reserves, a $2.0
million write-down of bonds in its investment portfolio and an increase in the
Company's loss and loss

2
<PAGE>

adjustment expense ("LAE") reserves of $12.5 million. Increased fourth quarter
frequency trends were experienced by the Company in most states, including
several of its larger core markets. The loss reserve increase related
primarily to less than adequate reserves being set in earlier periods in the
1996 accident year, as the Company was writing business at prices that were
inadequate and that attracted segments of business with higher loss
frequencies. In addition, the need for increased use of outside adjusters
following Hurricane Fran in September 1996 adversely affected the Company's
loss and LAE experience in October and November.

During the actuarial review performed during the fourth quarter of 1996, the
Company recognized that the pricing of its products during 1996 was
inadequate, losses were greater than anticipated, and the Company experienced
some negative development in its loss reserves due to increased physical
damage claim frequency and severity, which was offset by certain favorable
developments such as a reduction of claims costs from loss control initiatives
and a decrease in bodily injury severity trends. Recognizing these offsetting
and conflicting trends, the Company, utilizing the same reserve methodology
that it had successfully used for the past five years (which had produced
favorable loss development), estimated the loss reserve requirements and
recorded the $12.5 million reserve increase referred to above. During 1995 and
1996, the Company experienced growth in its nonstandard private passenger
automobile insurance business and expanded such business into nine new states.
The business in the new states comprised approximately $9.8 million and $36.1
million of additional net written premiums for 1995 and 1996, respectively.
Entrance into new markets also caused the Company's loss ratio to increase
because new business is generally less profitable than renewal business.

The Company's expense ratio was adversely impacted in the fourth quarter by
increased expenses for beginning the modifications necessary to accommodate
the Year 2000.

As a result of the increased loss ratio in the fourth quarter primarily
relating to the earlier periods in the 1996 accident year, the Company
reviewed the recoverability of its deferred policy acquisition cost and
determined that the sum of the expected loss and LAE based on the loss and LAE
reserve analysis at year end, the deferred policy acquisition cost, and
expected policy maintenance expenses for the net written premium for which the
deferred policy acquisition cost was recorded, did not support the level of
the acquisition cost deferred. As a result, the Company wrote off $3.5 million
of estimated unrecoverable deferred policy acquisition cost.

During the fourth quarter of 1996, the Company experienced greater than
anticipated bad debt write offs relating to its insureds' non-payment of
premiums. This increase in bad debt write offs related to the extension of
more favorable credit terms to its insureds in prior quarters, which emerged
in the fourth quarter and resulted in the Company's re-estimation of its
required bad debt reserves on the remaining premiums due and uncollected at
the end of the fourth quarter.

The write-down in the Company's investment portfolio related primarily to a
single bond investment. During the fourth quarter of 1996, the Company relied
on new lead outside counsel to evaluate the possibility of recovery on this
bond and concluded that any recovery on such bond would be based solely on the
outcome of litigation with the issuer. After a review of the likelihood of
successful litigation, the Company wrote the asset down to zero. For a
discussion of other factors affecting the fourth quarter and year ended
December 31, 1996, see Item 7. Managament's Discussion and Analysis of
Financial Condition and Results of Operations."

In November 1996, John C Head III, Chairman of the Board, was appointed
Chief Executive Officer of the Company, and will continue to serve as such
until the Company appoints a replacement pursuant to an on-going executive
search.

The Company has announced that its focus in 1997 will be on restoring
underwriting profits. Growth in net premiums written has slowed, and will
continue to be slowed, as the Company seeks to achieve an acceptable combined
ratio. During the period of October 1996 through March 1997, the Company has
increased or is planning to increase rates in states representing
approximately 95% of 1996 net premiums written. These increases vary by state
and are expected to range from 3% to 20%. Due to changes which occur in the
mix of business, it is not possible to precisely measure the amount of
increased premiums realized from rate increases. The determination of the
premium amount is calculated based on a number of variables, including rate
changes, limits of liability, deductible levels, geographic location, and
model of vehicle. Notwithstanding the foregoing,

3
<PAGE>

the Company estimates that the average earned private passenger premium rate
level increased 2.4% in 1996. Where rates could not be increased within 30
days because of regulatory constraints, underwriting restrictions were put
into place. These restrictions include requiring higher down payments,
reducing the number of payments permitted, restricting reinstatement
provisions and requiring shorter term policies. Such pricing and underwriting
actions may impact the Company's competitive position, insofar as its
competitors may be able to offer more attractive policy rates and terms.

Management is also continuing to pursue its strategy of the Company being a
low-cost provider of nonstandard automobile insurance while maintaining a
commitment to provide excellent service to both agents and insureds. The
Company is continuing to invest in technology and information systems
personnel, which will enhance its current ability to automate certain
marketing, underwriting, claims and administrative functions to ensure that
the Company will be able to continue to provide excellent service to its
agents and insureds. This new automated technology will reduce the manual
effort of agents to initiate new business, process payments and endorsements,
and communicate with the Company. While such increased investment in
technology has resulted, and may in the future result, in an increase in the
Company's expense ratio, management believes that such continuing investment
is essential for the Company to maintain a competitive position in the
industry.

On January 28, 1997, the Company announced that Integon Capital I (the
"Trust"), a Delaware business trust the beneficial interests represented by
the common securities of which are owned by the Company, proposed to sell,
pursuant to Rule 144A and Regulation D under the Securities Act of 1933 (the
"Securities Act"), $100 million aggregate liquidation amount of Capital
Securities, Series A (the "Capital Securities"), the proceeds of which would
be used to purchase Junior Subordinated Deferrable Interest Debentures, Series
A (the "Junior Subordinated Debentures") of the Company. No assurance can be
given as to the timing of the consummation of the offering. The Company
expects to use the net proceeds of the proposed sale of Junior Subordinated
Debentures (approximately $96.25 million) to contribute $50 million to its
insurance subsidiaries and to fund an escrow account in an amount equal to two
interest payments on the Junior Subordinated Debentures (which funds will be
applied to make such payments), and expects to apply the balance of such
proceeds to reduce the amount outstanding under the Company's bank credit
facility (the "Credit Facility").

The Junior Subordinated Debentures will mature in 2027, which may be
shortened to a date not earlier than a date in 2016 in certain circumstances
upon the occurrence of a Tax Event (as defined). The Junior Subordinated
Debentures will be unsecured and rank junior and be subordinated to all Senior
Indebtedness (as defined) of the Company.

Holders of the Capital Securities will be entitled to receive preferential
cumulative cash distributions, payable semi-annually. The distribution rate
and the distribution payment dates and other payment dates for the Capital
Securities will correspond to the payments and payment dates on the Junior
Subordinated Debentures. Subject to certain exceptions, the Company will have
the right to defer payments of interest on the Junior Subordinated Debentures
by extending the interest payment period thereon for up to 10 consecutive
semi-annual periods. The Company will guarantee (the "Guarantee") the Trust's
obligations under the Capital Securities, but only to the extent of funds held
by the Trust.

The Capital Securities will be subject to mandatory redemption upon
repayment of the Junior Subordinated Debentures at maturity or their earlier
redemption. The Junior Subordinated Debentures will be redeemable at the
option of the Company commencing in 2007, or in certain circumstances within
90 days following the occurrence of a Tax Event. The Company will have the
right at any time to terminate the Trust and, after satisfaction of the
liabilities to creditors of the Trust, cause the Junior Subordinated
Debentures to be distributed to the holders of the Capital Securities. Each
holder of Capital Securities will have the right, upon a Change of Control (as
defined), to cause a repurchase of the Capital Securities held by such holder.

The Capital Securities will not have been registered under the Securities
Act and may not be offered or sold by any purchaser thereof absent
registration or an applicable exemption therefrom. The Company and the Trust
are expected to agree to use their best efforts to file a registration
statement relating to an exchange offer pursuant to which another series of
capital securities, junior subordinated debentures and guarantee covered by
such registration statement and containing substantially the same terms as the
Capital Securities, the Junior Subordinated Debentures and the Guarantee will
be offered in exchange for the Capital Securities, the Junior Subordinated
Debentures and the Guarantee.

4
<PAGE>

CORPORATE STRUCTURE

The Company, which was incorporated in 1989, is a Delaware corporation whose
principal executive offices are located at 500 West Fifth Street, Winston-
Salem, North Carolina 27152, telephone number (910) 770-2000. The Company's
principal insurance subsidiaries are Integon Preferred Insurance Company,
Integon National Insurance Company, Integon Casualty Insurance Company,
Integon Indemnity Corporation, Integon General Insurance Corporation, New
South Insurance Company, Integon Specialty Insurance Company (collectively,
the "Domestic Insurance Subsidiaries") and Carolina National, Ltd. (together
with the Domestic Insurance Subsidiaries, the "P&C Subsidiaries"). In
addition, through Salem Underwriters, Inc. ("Salem"), the Company offers
premium financing for the Company's insureds in North Carolina.

GENERAL

The Company's business is focused on the writing of nonstandard automobile
insurance. The following table sets forth the net premiums written by line of
business of the P&C Subsidiaries for the periods indicated:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1996 1995 1994
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Nonstandard Automobile........................... $722,941 $568,110 $334,604
Specialty Automobile............................. 49,773 26,347 3,694
Preferred Risk Automobile........................ 24,842 24,576 24,025
Other............................................ 433 1,414 1,144
-------- -------- --------
Total.......................................... $797,989 $620,447 $363,467
======== ======== ========
</TABLE>

Detailed below are the loss, expense and combined ratios for the P&C
Subsidiaries on a statutory and GAAP basis, for the periods indicated:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------
1996 1995 1994(1)
-------- ------- ----------
(IN THOUSANDS)
<S> <C> <C> <C>
STATUTORY BASIS
Loss Ratio................................... 79.4% 73.2% 70.8%
Expense Ratio................................ 22.1 21.5 21.7
-------- ------- -------
Combined Ratio............................... 101.5% 94.7% 92.5%
======== ======= =======
GAAP BASIS
Loss Ratio................................... 80.0% 73.4% 70.4%
Expense Ratio................................ 22.4 21.6 22.0
-------- ------- -------
Combined Ratio............................... 102.4% 95.0% 92.4%
======== ======= =======
</TABLE>
- --------
(1) Statutory and GAAP ratios for 1994 are computed including Bankers and
Shippers' results for the period after the acquisition date of October 18,
1994.

MARKETING

Management believes that concentrating on nonstandard automobile insurance
offers greater opportunities for profit than the marketing of a broad range of
insurance products. The Company is currently pursuing a strategy of
restricting growth and improving underwriting profitability through price
increases impacting most of its new business and renewal business. The Company
selects areas for expansion of its business based on a number of criteria,
including the size of the nonstandard automobile insurance market, state-wide
loss results, competition and the regulatory climate.

The Company offers both liability and physical damage coverage in the
nonstandard automobile insurance marketplace, with policies having terms of
six or 12 months. Most nonstandard automobile insurance

5
<PAGE>

policyholders choose the basic limits of liability coverage, which, though
varying from state to state, generally are $25,000 per person and $50,000 per
accident for bodily injury, and in the range of $10,000 to $20,000 for
property damage.

Management is continuing its strategy of the Company being a low-cost
provider of nonstandard automobile insurance while maintaining a commitment to
provide excellent service to both agents and insureds. The Company is
continuing to invest in technology and information systems personnel, which
will enhance its current ability to automate certain marketing, underwriting,
claims and administrative functions to ensure that the Company will be able to
continue to provide excellent service to its agents and insureds. While such
increased investment in technology has resulted, and may in the future result,
in an increase in the Company's expense ratio, management believes that
continuing such investment is essential for the Company to maintain a
competitive position in the industry.

Management emphasizes quality service through established standards in all
phases of its operations and believes, based on surveys of agents, insureds
and claimants conducted for the Company by an independent research firm, this
approach has enabled the Company to maintain strong relationships with its
agents and customers. The Company's renewed focus on technology includes the
enhancement of the computer software that provides on-line communication with
its agency force. Management believes that the efficiency, convenience and
reliability of the computer system is highly valued by its agents. In
addition, to deliver prompt service while ensuring consistent underwriting,
the Company provides its agents rating software, which includes automated
underwriting procedures enabling agents to rate policies accurately while the
customer is in the agent's office. Generally, the agent has the authority to
sell and bind insurance coverage for a limited period of time in accordance
with procedures established by the Company. The Company generally reviews all
coverages bound by its agents within seven business days of receipt of the
application and decides whether to accept the insurance as quoted. If a claim
is made on the policy prior to the Company's acceptance of the application,
the Company may be liable for any loss reported up to the policy limit. These
losses have historically been immaterial to the Company's results of
operations. The Company continually reviews its agency relationships and may
terminate agents whose underwriting results are not profitable and are not
expected to be profitable for the Company.

As part of its marketing strategy, the Company also utilizes Salem, its
wholly-owned premium finance company and the largest premium finance company
in North Carolina. Salem currently finances premiums only for customers of its
subsidiaries in North Carolina. Such financing provides customers the
alternative of a down payment with monthly installments rather than paying the
premium in a lump sum. Salem has financed direct premiums written of
approximately $164.5 million, $164.5 million and $168.0 million for the years
ended December 31, 1996, 1995 and 1994, respectively. In all other states in
which the Company does business, it utilizes installment pay plans through its
Domestic Insurance Subsidiaries in lieu of premium financing.

UNDERWRITING

Management believes that most classes of nonstandard automobile insurance
risks can be written profitably if they are priced adequately. The Company
seeks to classify risks into narrowly defined segments through the utilization
of all available underwriting criteria. The Company maintains an extensive,
proprietary database, which contains statistical records with respect to its
insureds on driving and repair experience by location, class of driver and
type of automobile. Management believes this database gives the Company the
ability to be more precise in the underwriting and pricing of its products.

The Company utilizes many factors in determining its rates. Some of the
characteristics used are type, age and location of the vehicle, number of
vehicles per policyholder, number and type of traffic convictions or
accidents, limits of liability, deductibles and, where allowed by law, age,
sex and marital status of the insured. Factors also include trends in costs of
automobile repair, which are increasing due to more expensive components as
well as general price inflation. The rate approval process varies from state
to state. Some states generally require approval of the insurance department
prior to the use of the rates, while others allow rates to be used after
filing.

6
<PAGE>

The automation of the Company's underwriting process is highly integrated
with the agency force. For example, the Company provides a rating software
package to agents for automated underwriting in their offices. In addition, in
many instances the agent has access to the automated retrieval of motor
vehicle reports, which, in conjunction with the rating software, is designed
to obtain more accurate underwriting, pricing and policy issuance at the point
of sale. The Company believes the automated underwriting system improves
efficiencies for the agent and the Company, further linking the agent to the
Company, and improves the accuracy and consistency of the underwriting
decisions.

CLAIMS DIVISION

Management believes that the employment of salaried claims personnel, as
opposed to the utilization of independent adjusters, results in reduced
ultimate loss payments, lower loss adjustment expenses and improved customer
service. Approximately 95% of the claims handled by the Company for the year
ended December 31, 1996 were handled by salaried claims personnel, as compared
to 95% and 85% in 1995 and 1994. The Company maintains 91 field claims
offices, which are staffed with the salaried claims personnel. In addition to
utilizing independent adjusters when required by an unusual volume of claims
from catastrophes, the Company also uses them when it is not cost effective to
utilize salaried claims personnel, such as when the Company expands into a new
state or when claims volume is not sufficient to support such personnel.

The Company's claims strategy also includes extensive training of adjusters,
continuously surveying claimant satisfaction, providing automation to field
claims adjusters and focusing on improving processes to reduce claims
settlement times and improve service.

SPECIALTY AUTO, PREFERRED RISK AUTO AND OTHER PRODUCTS

SPECIALTY AUTO

The Company's Specialty Auto Division writes local and intermediate business
automobile insurance in 23 states. These policies are designed primarily for
tradespeople and artisans, including contractors, landscapers and other
proprietors, who have small fleets or lightweight single vehicles. This
division also writes motorcycle insurance in 17 states. Business auto and
motorcycle insurance require the same underwriting and claims-handling skills
as nonstandard automobile insurance. The Company plans to expand these
programs through increased penetration within existing states and expansion
into new states.

PREFERRED RISK AUTO AND OTHER PRODUCTS

The Company writes preferred risk automobile insurance in North Carolina,
and until December 31, 1995 and April 1, 1996, respectively, also wrote mobile
homeowners and homeowners insurance in North Carolina. The preferred risk
automobile insurance line provides customers who meet certain strict
underwriting criteria with competitive rates. Agents are qualified by the
Company to write these lines based on their historic loss ratios as well as
the number of years the agent has been in business. Effective January 1, 1996,
the Company's mobile homeowners insurance was 100% reinsured. The Company
discontinued writing new homeowners business effective April 1, 1996 and began
non-renewing existing policies in force on January 1, 1997. Effective January
1, 1997, the Company reinsured 100% of its homeowners property business under
a quota share agreement. The Company intends to continue to offer preferred
risk automobile insurance in North Carolina.

LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES

Loss reserves are estimates of what an insurer expects to pay claimants. The
P&C Subsidiaries are required to maintain reserves for payment of estimated
loss and loss adjustment expenses for both reported claims ("Case Reserves")
and claims which have been incurred but not yet reported ("IBNR"). The
ultimate liability incurred by the P&C Subsidiaries may be different from
current reserve estimates. The policy of the P&C Subsidiaries is to reserve
for the ultimate probable expenditure for claims.

7
<PAGE>

The P&C Subsidiaries establish initial reserves for newly reported claims
using amounts developed from historical averages. The case-by-case reserve
amounts are determined by claim adjusters handling the claims, based on the
adjusters' judgment and experience, and the nature and extent of the damages,
liability and other criteria established by the Company. More experienced
claims personnel establish reserves on larger, more complicated cases. With
respect to LAE, certain formula calculations are utilized. The Company's
claims department regularly monitors the adequacy of reserves for losses that
have been reported to the Company and adjusts such reserves as necessary.

Loss and LAE reserves for IBNR claims are estimated based on many variables,
including historical and statistical information, inflation, legal
developments, economic conditions, general trends in claim severity and
frequency and other factors that could affect the adequacy of loss reserves.
The chief actuary, senior claims and financial officers of the Company review
reserves quarterly and IBNR reserves are adjusted as necessary.

Adjustments in aggregate reserves, if any, 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, the
reserves for losses and LAE are not discounted, except as required to
calculate taxable income for federal income tax purposes.

The following table provides a reconciliation of beginning and ending loss
and LAE reserve balances of the P&C Subsidiaries for each of the years in the
three-year period ended December 31, 1996 as computed in accordance with GAAP.
These reserves differ from such reserves calculated in accordance with
statutory accounting practices ("SAP") primarily due to reinsurance receivable
on unpaid losses and LAE, which are not included under SAP.

RECONCILIATION OF LIABILITY FOR LOSS AND LOSS ADJUSTMENT EXPENSES

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------
1996 1995 1994
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Gross reserves for losses and LAE at the beginning
of the year...................................... $416,740 $395,300 $255,364
Deduct: Reinsurance receivable.................... 181,952 193,519 147,882
Add: Bankers and Shippers net reserves at
acquisition date................................. -- -- 75,804
-------- -------- --------
Reserves for losses and LAE, net of reinsurance
receivable....................................... 234,788 201,781 183,286
-------- -------- --------
Add: Provision for losses and LAE for claims
occurring in:
Current year.................................... 583,782 419,143 249,688
Prior years..................................... 1,929 (3,170) (14,240)
-------- -------- --------
Total incurred losses and LAE................. 585,711 415,973 235,448
-------- -------- --------
Deduct: Loss and LAE payments for claims occurring
in:
Current year.................................... 359,053 262,129 159,850
Prior years..................................... 154,531 120,837 57,103
-------- -------- --------
Total loss and LAE payments................... 513,584 382,966 216,953
-------- -------- --------
Reserves for losses and LAE at end of year, net of
reinsurance receivable........................... 306,915 234,788 201,781
Add: Reinsurance receivable ...................... 171,116 181,952 193,519
-------- -------- --------
Gross reserves for losses and LAE at end of year.. $478,031 $416,740 $395,300
======== ======== ========
</TABLE>

See "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations" for an explanation of the increased losses and LAE in
1996.

8
<PAGE>

The following table sets forth the development of loss and LAE reserves of
the P&C subsidiaries for the ten-year period ended December 31, 1996:

ANALYSIS OF LOSS AND LOSS ADJUSTMENT EXPENSES DEVELOPMENT

<TABLE>
<CAPTION>
1986 1987 1988 1989 1990 1991 1992 1993 1994 1995
------- ------- ------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Gross Unpaid Losses
and LAE.............. $55,926 $72,548 $98,138 $117,696 $150,307 $186,865 $226,238 $255,364 $395,300 $416,740
Deduct: Reinsurance
Recoverable........ 38,112 52,748 69,303 82,389 101,761 115,103 138,081 147,882 193,519 181,952
Add: Bankers and
Shippers net reserves
at acquisition date.. -- -- -- -- -- -- -- 75,804 -- --
------- ------- ------- -------- -------- -------- -------- -------- -------- --------
Unpaid Losses and LAE,
Net of Reinsurance... 17,814 19,800 28,835 35,307 48,546 71,762 88,157 183,286 201,781 234,788
Liability reestimated
as of:
One year later....... 17,116 19,155 29,938 42,539 49,770 66,225 74,215 169,046 198,611 236,717
Two years later...... 16,411 21,423 33,828 45,878 52,087 60,246 70,195 166,233 188,399
Three years later.... 17,837 23,414 35,222 47,674 46,797 56,352 67,360 156,416
Four years later..... 19,310 24,280 36,979 44,789 44,798 55,632 62,185
Five years later..... 20,239 25,399 35,782 43,992 44,759 53,297
Six years later...... 21,097 25,148 35,266 44,663 43,359
Seven years later.... 20,916 24,779 35,796 44,191
Eight years later.... 20,634 25,142 35,937
Nine years later..... 21,105 25,520
Ten years later...... 21,478
Cumulative redundancy
(deficiency)......... (3,664) (5,720) (7,102) (8,884) 5,187 18,465 25,972 26,870 13,382 (1,929)
Cumulative redundancy
(deficiency) as a
percentage of unpaid
losses and LAE....... (21)% (29)% (25)% (25)% 11% 26% 29% 15% 7% (1)%
Paid (cumulative) as
of:
One year later....... $ 9,409 $12,659 $20,154 $ 25,372 $ 23,463 $ 32,140 $ 36,304 $ 57,103 $120,837 $154,531
Two years later...... 12,448 16,276 24,747 33,428 34,658 41,961 49,850 81,569 159,336
Three years later.... 14,276 18,146 29,173 38,829 39,022 46,781 59,187 94,470
Four years later..... 15,024 20,404 32,569 40,420 41,107 50,285 63,591
Five years later..... 16,820 22,784 33,122 41,227 42,688 52,098
Six years later...... 18,913 22,868 33,465 42,284 43,560
Seven years later.... 18,854 23,030 34,073 42,896
Eight years later.... 18,983 23,546 34,530
Nine years later..... 19,490 23,992
Ten years later...... 19,917
<CAPTION>
1996
--------
<S> <C>
Gross Unpaid Losses
and LAE.............. $478,031
Deduct: Reinsurance
Recoverable........ 171,116
Add: Bankers and
Shippers net reserves
at acquisition date.. --
--------
Unpaid Losses and LAE,
Net of Reinsurance... 306,915
Liability reestimated
as of:
One year later.......
Two years later......
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 redundancy
(deficiency).........
Cumulative redundancy
(deficiency) as a
percentage of unpaid
losses and LAE.......
Paid (cumulative) as
of:
One year later.......
Two years later......
Three years later....
Four years later.....
Five years later.....
Six years later......
Seven years later....
Eight years later....
Nine years later.....
Ten years later......
</TABLE>

The fourth line of the preceding table sets forth the estimated net
liability for unpaid losses and LAE for each of the indicated years. This
liability represents the estimated amount of losses and LAE for claims arising
in that year and all prior years that are unpaid as of the balance sheet date,
including losses incurred but not yet reported to the Company. The preceding
table also shows the reestimated amount of the previously recorded liability
net of reinsurance based on experience as of the end of each succeeding year,
including cumulative payments made. The lower portion of the table shows the
cumulative amounts paid as of successive years for such claims. The estimates
change as more information becomes known about the frequency and severity of
claims for each year. A redundancy (deficiency) exists when the liability
estimate is greater (less) than the reestimated liability at each December 31.
The cumulative redundancy (deficiency) depicted in the table, for any
particular calendar year, shows the aggregate change in estimates over the
period of years subsequent to the calendar year reflected at the top of the
respective columns.

The Company has experienced a cumulative reserve deficiency due to adverse
developments in the 1995 accident year, which was partially offset by
favorable developments in the 1989 through 1994 accident years. Reserves were
increased in late 1996 for the 1996 and prior accident years. See "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations."

9
<PAGE>

Reserves are necessarily based on estimates and there can be no assurance
that the ultimate liability will not exceed such estimates. Management
believes that the Company's reserves at December 31, 1996 are adequate.
Conditions and trends that have historically affected the Company's claims may
not necessarily occur in the future. Accordingly, it would not be appropriate
to extrapolate future deficiencies or redundancies based on the results set
forth above.

INVESTMENTS

It is the Company's investment policy to invest primarily in investment-
grade fixed income securities, as defined by the National Association of
Insurance Commissioners ("NAIC"). The Company's investment objective is to
maximize total return while maintaining safety of capital together with
adequate liquidity for its insurance operations. The investments of each
Domestic Insurance Subsidiary are also reviewed and approved by the investment
committee of the board of directors of such subsidiary.

As of December 31, 1996, 99.5% of the Company's investment portfolio
consisted of fixed maturity securities and cash and cash equivalents. As of
such date, approximately 99.5% of the Company's fixed maturity securities
portfolio consisted of investment grade securities (rated Baa or better by
Moody's or the equivalent).

The investments of the Company are managed by an investment advisory firm,
which is an affiliate of Head & Company L.L.C. ("Head Company"), which in turn
is an affiliate of John C Head III and the Company. See "Item 13. Certain
Relationships and Related Transactions--Transactions with Directors, Officers
and Affiliates of Head & Company L.L.C."

The following table sets forth certain information concerning the Company's
investment portfolio as of December 31, 1996 and December 31, 1995:

<TABLE>
<CAPTION>
DECEMBER 31, 1996 DECEMBER 31, 1995
------------------- -------------------
AMORTIZED MARKET AMORTIZED MARKET
TYPE OF INVESTMENT COST VALUE (1) COST VALUE (1)
------------------ --------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Fixed maturities:
Available for sale:
Bonds and notes:
U.S. government obligations(2).... $ 97,801 $ 97,357 $ 86,361 $ 89,210
Obligations of states and
political subdivisions(2)........ 172,281 172,925 161,116 164,729
Foreign obligations............... 11,422 11,541 30,788 32,193
Public utilities.................. 21,427 21,376 8,083 8,540
All other corporate bonds......... 152,825 151,440 107,604 110,105
Collateral-backed
securities(2)(3)................. 66,696 66,672 71,267 73,087
Redeemable preferred stock......... -- -- 4,000 4,080
-------- -------- -------- --------
522,452 521,311 469,219 481,944
-------- -------- -------- --------
Other long-term investments......... 2,679 2,743 2,088 2,114
Cash and short-term investments..... 43,838 43,838 21,046 21,046
-------- -------- -------- --------
Total........................... $568,969 $567,892 $492,353 $505,104
======== ======== ======== ========
</TABLE>
- --------
(1) The Company obtains market value information primarily through an
independent pricing service. Market values are also obtained, to a lesser
extent, from the Company's investment advisors. The advisors utilize
financial market data systems and broker quotes to provide such prices.

10
<PAGE>

(2) The Company invests in floating rate and stepped rate structured notes. At
December 31, 1996 and 1995, the market value of the floating rate
investments were $43.0 million and $9.7 million, respectively, and the
market value of the stepped rate structured notes were $.4 million and
$10.7 million, respectively.
(3) The Company's investment policy prohibits investments in certain mortgage-
backed securities, such as interest only, principal only, residuals, Z
bonds and inverse floaters. At December 31, 1996, the Company held $27.1
million in collateralized mortgage obligations compared to $29.5 million
at December 31, 1995.

The fixed maturity securities portfolio is composed primarily of
intermediate-term, investment-grade securities. Moody's uses 10 symbols to
indicate the relative investment quality of a rated bond. Issuers of "Aaa"
rated bonds, the highest rating assigned by Moody's, are deemed to be of the
best quality because interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. Issuers of "Aa" rated
bonds are deemed to be of high quality by all standards; the quality of these
bonds differs from "Aaa" bonds only in a small degree. Issuers of "Aa" rated
bonds are deemed to have a strong capacity to pay interest and repay
principal, but are rated lower than "Aaa" bonds because margins of protection
may not be as large or there may be other elements which create a somewhat
larger long-term risk. Issuers of "A" rated bonds are deemed to possess many
favorable investment attributes. Factors giving security to principal and
interest are considered adequate but elements which suggest a susceptibility
to impairment in the future may be present. Issuers of "Baa" rated bonds are
deemed to be neither highly protected nor poorly secured. Interest payment and
principal security appear adequate but certain protective elements may be
lacking or may be unreliable over any great length of time.

The table below contains additional information concerning the investment
ratings of the Company's investment portfolio at December 31, 1996:

<TABLE>
<CAPTION>
TYPE/RATINGS OF INVESTMENT(1) CARRYING AMOUNT(2) PERCENTAGE
----------------------------- ------------------ ----------
(IN THOUSANDS)
<S> <C> <C>
Fixed maturities:
Available for sale:
Government and Agencies.......................... $116,629 20.5%
Aaa.............................................. 160,973 28.3%
Aa............................................... 70,527 12.4%
A(3)............................................. 165,665 29.2%
Baa.............................................. 4,961 .9%
-------- -----
Total Baa or Better............................ 518,755 91.3%
Ba and Below..................................... 2,556 0.5%
-------- -----
Subtotal....................................... 521,311 91.8%
Other long-term investments...................... 2,743 0.5%
Cash and cash equivalents........................ 43,838 7.7%
-------- -----
Total.......................................... $567,892 100.0%
======== =====
</TABLE>
- --------
(1) The ratings set forth above are based on the ratings, if any, assigned by
Moody's. If Moody's ratings were unavailable, the equivalent ratings
supplied by Standard & Poor's or the NAIC were used where available. The
percentage of rated securities that were not assigned a rating by Moody's
at December 31, 1996 was 10.6%.
(2) Carrying amount is estimated market value for bonds.
(3) The "A" category includes $25.6 million of securities which were not rated
by Moody's or Standard & Poor's, but were rated "1" by the NAIC.

11
<PAGE>

The table below sets forth the contractual maturity profile of the Company's
fixed maturity securities portfolio as of December 31, 1996:

<TABLE>
<CAPTION>
MATURITY/AVERAGE LIFE CARRYING AMOUNT(1) PERCENTAGE
--------------------- ------------------ ----------
(IN THOUSANDS)
<S> <C> <C>
Available for sale:
1 year or less............................... $ 2,038 .4%
More than 1 year through 5 years............. 110,778 21.2
More than 5 years through 10 years........... 223,521 42.9
More than 10 years........................... 118,302 22.7
-------- -----
454,639 87.2
Collateral Backed Securities................. 66,672 12.8
-------- -----
Total...................................... $521,311 100.0%
======== =====
</TABLE>
- --------
(1) Carrying amount is estimated market value.

The Company's net investment income, average invested assets and return on
average invested assets for each of the three years ended December 31, 1996
were as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
1996 1995 1994
-------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Net investment income...................... $ 31,970 $ 29,937 $ 17,914
Average invested assets(1)................. 541,792 472,999 333,839
Pre-tax return on average invested assets.. 5.9% 6.3% 6.3%(2)
After tax return on average invested
assets.................................... 4.1% 4.7% 4.9%(2)
</TABLE>
- --------
(1) Includes fixed maturity securities valued at amortized cost.
(2) Returns for 1994 have weighted for Bankers and Shippers' net investment
income using cash and invested assets at the October 18, 1994 acquisition
date.

FACTORS AFFECTING BUSINESS

REGULATION

The Domestic Insurance Subsidiaries, and the Company as their indirect
parent, are subject to the insurance laws and regulations of North Carolina,
and the laws and regulations of the other states in which the Domestic
Insurance Subsidiaries are licensed to do business. The Company's subsidiaries
collectively are licensed to do business as insurance companies in 50 states.
The insurance laws and regulations, as well as the level of supervisory
authority that may be exercised by the various state insurance departments,
vary by jurisdiction, but generally grant broad powers to supervisory agencies
or state regulators to examine and supervise insurance companies and insurance
holding companies with respect to every significant aspect of the conduct of
the insurance business, including the establishment of premium rates. These
laws and regulations generally require insurance companies to maintain minimum
standards of business conduct and solvency, meet certain financial tests, file
certain reports with regulatory authorities, including information concerning
their capital structure, ownership, management and financial condition,
require prior approval of certain changes of control of domestic insurance
companies and their direct and indirect parents and the payment of
extraordinary dividends and distribution. In addition, these laws and
regulations require approval for certain inter-company transfers of assets and
certain transactions between insurance companies and their direct and indirect
parents and affiliates, and generally require that all such transactions have
terms no less favorable than terms that would result from transactions between
parties negotiating at arm's length. Further, many states have enacted laws
that restrict an insurer's underwriting discretion, such as the ability to
terminate policies, terminate agents or reject insurance coverage
applications, and many state regulators have the power to reduce, or to
disallow increases in, premium

12
<PAGE>

rates. These laws may adversely affect the ability of an issuer to earn a
profit on its underwriting operations. In general, such laws and regulations
are for the protection of policyholders rather than security holders.

Each Domestic Insurance Subsidiary is required to file quarterly and annual
financial statements prepared using SAP in each jurisdiction in which it is
licensed, and is subject to single and aggregate risk limits and other
statutory restrictions concerning the types and quality of investments and the
filing and use of policy forms and premium rates. Additionally, the Domestic
Insurance Subsidiaries' accounts and operations are subject to periodic
examination by the insurance commissioner of the state of domicile and by
other state insurance regulatory authorities.

The North Carolina insurance laws and regulations, including insurance
holding company laws, impose restrictions on the amount of dividends that may
be paid by the Domestic Insurance Subsidiaries. See "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations--
Liquidity and Capital Resources." Permission for the payment of dividends in
excess of amounts permitted pursuant to such restrictions must be obtained
from the North Carolina Insurance Commissioner, who has the discretion to deny
any request for such approval.

Most states have enacted legislation regulating insurance holding companies.
The insurance holding company laws and regulations vary by state, but
generally require an insurance holding company and its insurance company
subsidiaries licensed to do business in the state to register and file certain
reports with the regulatory authorities, including information concerning
capital structure, ownership, financial condition, certain inter-company
transactions and general business operations. State holding company laws also
require prior notice or regulatory agency approval of direct or indirect
changes of control of an issuer or its holding company and of certain material
inter-company transfers of assets within the holding company structure.

Insurance holding company laws and regulations provide that no person may
acquire control of the Company, and thus indirect control of its insurance
subsidiaries, without obtaining the prior approval of the insurance
commissioner in the state in which the insurance company is domiciled. Any
purchaser of 10% or more of the voting stock of an insurance holding company
is generally deemed to have acquired control of that company and is required
to obtain the approval of the appropriate insurance commissioners before
consummating such purchase. The Restated Certificate of Incorporation of the
Company provides that no stockholder of the Company may cast votes with
respect to 10% or more of the voting stock of the Company unless such
stockholder's acquisition or ownership of such voting stock has been
previously approved by the North Carolina Insurance Commissioner.

Most states in which the Domestic Insurance Subsidiaries transact business
have guaranty fund laws pursuant to which insurers doing business in such
states are assessed by a state insurance guaranty association in order to fund
liabilities to policyholders and claimants of insolvent insurance companies.
Since the likelihood and amount of any particular assessment generally cannot
be determined until an insolvency has occurred, potential liabilities for
assessments are generally not reflected on the books of insurers. During each
of the three years ended December 31, 1996, 1995 and 1994, the amounts of such
insolvency assessments of the Domestic Insurance Subsidiaries were
approximately $195,000, $191,000 and $104,000, respectively.

The property and casualty insurance business has been the subject of much
legislative activity in various states seeking to address the issues of
affordability and availability of different lines of insurance. Private
passenger automobile insurance has received attention from legislatures in an
effort to stem premium increases for such coverage. The enactment of such
legislation in the states in which the Domestic Insurance Subsidiaries do
business may have an adverse effect on their profitability. Or, conversely,
such legislation may cause standard insurers to tighten underwriting criteria,
causing the nonstandard market to grow.

An insurer's profitability may also be adversely affected by court
decisions. Premium rates are established using actuarial methods to permit an
insurer to earn an underwriting profit. A court decision may undermine or
change the assumptions used in the analysis so as to impact the projected
level of profitability.

13
<PAGE>

In expanding its operations into additional states, the Company carefully
considers the legislative and regulatory environment in that state before
commencing operations and will not do business in states where the climate is
not conducive to the operation of its business.

Salem is subject to laws governing the operation of premium finance
companies. These laws pertain to such matters as books and records that must
be kept, forms, licensing, fees and charges. For example, in North Carolina,
the maximum rate of interest Salem may charge is one percent per month on the
outstanding principal balance; the maximum late payment fee is five percent of
the amount of the overdue payment; and the maximum set-up fee is $15.00 per
finance agreement.

Carolina National, Ltd. is subject to the laws and regulations of Bermuda.

RESIDUAL MARKETS

Many states require that companies writing private passenger automobile
insurance in that state participate in a residual market mechanism,
alternatively referred to as the shared market. Although regulations vary by
state, residual market mechanisms are generally designed to provide insurance
coverage for consumers who are unable to obtain insurance in the voluntary
automobile insurance market. Companies participate in the administration,
profit and/or loss associated with those consumers' policies as provided by
state regulations.

North Carolina requires that motorists of the state carry a certain minimum
amount of automobile liability insurance. The NCRF was established in 1973 as
a non-profit legal entity to provide automobile liability insurance to
motorists who otherwise would not be covered. All insurance companies licensed
to write automobile insurance in the state must be members of the NCRF. The
Domestic Insurance Subsidiaries are thus required to provide up to the maximum
liability coverage allowed by the NCRF to any eligible North Carolina resident
applying for coverage. The maximum liability coverage available under the NCRF
for each motorist is $100,000 for bodily injury per individual, $300,000 for
bodily injury per accident and $50,000 for property damage. The member
companies may select whether to retain such risk or to cede the risk to the
NCRF. The premium rates for business ceded to the NCRF are approved by the
Board of Governors of the NCRF and are filed with the North Carolina Insurance
Department. Generally, such rates have been at levels higher than that of the
voluntary insurance market. For the year ended December 31, 1996, the Company
ceded approximately $162.8 million, or 83.2% of its automobile liability
direct premiums written in North Carolina, to the NCRF.

Business ceded to the NCRF is then retroceded to all member companies in the
same proportion as business is ceded to the NCRF by member companies. However,
pursuant to recommendations made by the North Carolina Insurance Commissioner,
each insurer may, and the Company does, exclude the assumed business from its
SAP financial statements. The Company remains secondarily liable for the
losses with respect to business ceded to the NCRF, as is the case with all
reinsurance transactions, and as a result, maintains direct reserves on its
books for the NCRF for GAAP reporting purposes and a corresponding reinsurance
receivable. While the business retroceded by the NCRF is technically assumed
by the Company, no risk is transferred back to the Company because North
Carolina laws provide that cumulative losses incurred by the NCRF are
recoverable either through direct surcharges to North Carolina motorists or by
assessments of the member insurers which are subsequently recouped from
individual policyholders. As of September 30, 1996, the NCRF had a cumulative
operating surplus of $105.2 million. As of December 31, 1996, the Company had
$147.9 million of reinsurance recoverables on unpaid losses from the NCRF,
arising out of the reinsurance ceded by the Domestic Insurance Subsidiaries to
the NCRF. The reinsurance recoverables represent ceded reserves for reported
NCRF claims and incurred but not reported NCRF claims. The Company reports all
transactions between the Company and the NCRF on a monthly basis. Such
transactions involve premium collections, allowances for expenses, claims paid
and recoupments. This report generates either a payable to or a receivable
from the NCRF, which is generally settled with the NCRF within 60 days from
the date of the report. To date, all paid NCRF losses have been reimbursed by
the NCRF on a timely basis.

14
<PAGE>

Many states utilize assigned risk plans as the residual market mechanism.
Assigned risk plan applicants are assigned on a rotating basis to all
automobile insurers based on the individual insurer's share of the automobile
insurance market in each of those states. Insurers then issue and service
those individual insurance risks assigned to them and accept the profit or
loss from those policies. Coverage is provided for both automobile liability
and physical damage risks. In some jurisdictions, credits for writing certain
classes of business may be used to offset assignments under assigned risk
plans.

Some states utilize a joint underwriting association as the residual market
mechanism. Certain carriers service the business associated with such plan and
all automobile insurers are charged or credited with any loss or profit
associated with such business.

A.M. BEST RATING

A.M. Best, publisher of Best's Insurance Reports, Property-Casualty, has
assigned a consolidated "A" (Excellent) rating to the Domestic Insurance
Subsidiaries based on 1995 results, subject to a "negative outlook". This
rating was issued on the basis of a number of factors, including a review
concluded in May 1996. A.M. Best ratings are prepared for the protection of
policyholders and not investors. A.M. Best currently is conducting its annual
review of the Company's rating based on a number of factors, including 1996
results. See "Certain Considerations--Importance of Maintaining Statutory
Surplus and Ratings."

REINSURANCE

In accordance with insurance industry practice, the Domestic Insurance
Subsidiaries reinsure a portion of their exposure and pay to the reinsurers a
portion of the premiums received on all policies reinsured. Insurance is ceded
principally to reduce net liability on individual risks and to provide
protection for individual loss occurrences, including catastrophic losses.
Although reinsurance does not legally discharge the ceding insurer from
primary liability for the full amount of the policies ceded, the assuming
reinsurer is liable to the extent of the coverage ceded. Reserves for losses
and LAE and a corresponding reinsurance receivable to the extent of
reinsurance ceded are reported under GAAP.

In 1996, the largest net per risk exposure retained by the P&C Subsidiaries
on any one individual risk was $350,000. The Company's net per casualty risk
exposure retention on personal lines auto was $350,000 and excess of loss
coverage on specialty auto lines with net casualty risk exposure was $250,000.
Effective January 1, 1997, the Company's net per casualty risk exposure on
personal lines increased to $500,000 and excess of loss coverage on specialty
auto lines was increased to $350,000. Casualty risks exceeding the net risk
exposure retention are covered on an excess of loss basis, up to $7.0 million
for 1995 and 1996 and $10.0 million in 1997. All property risks on homeowners
policies up to $500,000 were reinsured on a 75% quota share basis through
1996. All additional property risks over $500,000 are covered by excess of
loss reinsurance. Effective January 1, 1997, the Company ceded 100% of such
homeowners' property risks pursuant to a quota share agreement. The Company
discontinued writing new homeowners business effective April 1, 1996 and began
non-renewing existing policies in force on January 1, 1997.

Catastrophic reinsurance serves to protect the insurer from significant
aggregate loss exposure arising from a single event such as windstorm, hail,
tornado, hurricane, riot, vandalism, earthquake, freezing temperatures or
other extraordinary events. In 1996, the P&C Subsidiaries retained per
occurrence risk arising from such a single event up to $2.0 million, and 95%
of the per occurrence risk in excess of $2.0 million up to $9.0 million was
reinsured. Such coverage limits have not been changed for 1997.

Based upon the resulting net retained exposures as compared to the statutory
surplus of the P&C Subsidiaries, the Company believes that it has established
appropriate reinsurance coverage. The Company also believes that, based on its
review of its reinsurers' financial statements and reputation in the
reinsurance marketplace, its unaffiliated reinsurers are financially sound and
that the terms of the Company's reinsurance policies are consistent with
customary industry practice. Reinsurance earned premiums ceded by the Company
to all reinsurers, excluding the NCRF, were $23.1 million, $60.8 million and
$26.9 million, for the years ended December 31, 1996, 1995 and 1994,
respectively.

15
<PAGE>

NATURE OF BUSINESS; COMPETITION

The nonstandard automobile insurance business is affected by many factors
that can cause fluctuations in the results of operations of the P&C
Subsidiaries. Many of these factors are not subject to the control of the
Company. An economic downturn in the states where the Company writes business
could result in fewer new car sales, less demand for automobile insurance and
lower policy amounts. Economic upturns generally result in more driving with a
resulting increase in accidents. Severe adverse weather conditions could
adversely affect the Company's business. For example, certain recent weather
conditions, such as Hurricanes Fran and Bertha, as well as severe winter
weather, adversely affected earnings for the year ended December 31, 1996.
These factors, together with competitive pricing, could result in fluctuations
in the Company's underwriting results and net income.

The Company competes with both large national writers and smaller regional
companies in each state in which it operates. Certain of these competitors are
larger and have greater financial resources, higher ratings, superior
technological resources and greater access to sources of capital than the
Company. In addition, certain of such competitors have from time to time
decreased prices in order to gain market share. The Company's recent losses
and resulting efforts to improve profitability through reduced growth,
significant rate increases and implementation of more restrictive policy terms
and underwriting criteria may adversely impact the Company's competitive
position, insofar as its competitors may be able to offer more attractive
policy rates and terms.

EMPLOYEES

As of December 31, 1996, the Company employed approximately 2,300 full-time
employees. Employees of the Company are not covered by any collective
bargaining agreement. The Company considers its relationship with its
employees to be excellent.

CERTAIN CONSIDERATIONS

This Form 10-K contains forward-looking statements that inherently involve
risks and uncertainties. The Company's actual results could differ materially
from those anticipated in these forward-looking statements as a result of
various factors, including those set forth below.

RESULTS FOR THE QUARTER AND YEAR ENDED DECEMBER 31, 1996

The Company recorded a net loss of $16.4 million and net loss to common
stockholders of $17.8 million for the fourth quarter of 1996, compared to net
income of $10.5 million and net income available to common stockholders of
$9.2 million for the fourth quarter of 1995. For the year ended December 31,
1996, the Company recorded net income of $170,000 and a net loss to common
stockholders of $5.4 million, compared to net income of $34.0 million and net
income available to common stockholders of $28.4 million in 1995. While the
Company is implementing a plan to improve profitability, which includes the
introduction of premium rate increases, increasing minimum policy down
payments and implementing underwriting restrictions, there can be no
assurances as to the effect of such measures on the Company's results in
future quarterly and annual periods.

LIMITED DIVIDENDS AVAILABLE FROM DOMESTIC INSURANCE SUBSIDIARIES

The Company, a holding company whose principal asset is the capital stock of
the P&C Subsidiaries and Salem, relies primarily on dividends from the
Domestic Insurance Subsidiaries to meet its obligations for payment of
interest and principal on outstanding debt obligations, dividends to
stockholders and corporate expenses. The ability of the Domestic Insurance
Subsidiaries to pay dividends to the Company is restricted by the insurance
laws of North Carolina, under which the maximum amount of ordinary dividends
that a Domestic Insurance Subsidiary may pay to the Company at any point in
time without regulatory approval is the lesser of (a) 10% of the
policyholders' statutory surplus of such Domestic Insurance Subsidiary as of
the preceding December 31 or (b) the statutory net income of such Domestic
Insurance Subsidiary for the preceding calendar year, less the amount of
dividends paid during the preceding 12 months. In 1996, the maximum amount of
ordinary dividends payable by the Company's Domestic Insurance Subsidiaries
was approximately $22.3 million. The Company's Domestic Insurance Subsidiaries
paid approximately $4.8 million of ordinary dividends in 1996.

16
<PAGE>

After taking into account dividends paid in 1996 and the statutory net
income of the P&C Subsidiaries for 1996, an aggregate of only $7.9 million is
available for the payment of dividends by the Company's Domestic Insurance
Subsidiaries in 1997 without regulatory approval. However, the Company's
Credit Facility also restricts the ability of the P&C Subsidiaries to pay
dividends to the Company and restricts the ability of the Company to incur
additional indebtedness (see "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital
Resources--Sources of Funds"), and no dividends may currently be paid under
the terms thereof. Commencing in 1997, and taking into account the proposed
issuance of the Junior Subordinated Debentures, annual debt service and
preferred stock dividend requirements of the Company are estimated to be
approximately $29.4 million, including the interest payments on the Junior
Subordinated Debentures estimated to be $10.0 million. In addition, corporate
expenses in 1996 were $5.5 million and common stock dividends were $5.7
million. Accordingly, unless the Domestic Insurance Subsidiaries receive
approval for the payment of extraordinary dividends from the North Carolina
Insurance Commissioner, additional borrowings (including borrowings under the
Credit Facility), the issuance of additional securities or obtaining other
funds, including from Salem, will be necessary to pay debt service, including
interest, on the Junior Subordinated Debentures, as well as dividends on the
Company's outstanding preferred stock and common stock and other expenses of
the Company.

No assurance can be given that there will be no further or additional
regulatory actions or developments restricting the ability of the Company and
the Domestic Insurance Subsidiaries to pay dividends or otherwise advance
funds to the Company. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources--
Regulation."

HIGH LEVERAGE

The Company has substantial indebtedness and is highly leveraged. At
December 31, 1996, the Company had total indebtedness of $194.8 million
(including $44.0 million of short-term debt under the Credit Facility) and
stockholders' equity of $215.4 million. Additionally, because the Company may
not receive dividends from the Domestic Insurance Subsidiaries in the near
future without approval from the North Carolina Insurance Commissioner, the
Company may be required, to the extent permitted under the Company's debt
instruments, to incur additional indebtedness to fund its interest payments,
stockholder dividends and operating expenses. The Company's Credit Facility
currently restricts the Company's ability to borrow thereunder if its premiums
written to statutory surplus ratio exceeds 3.25x or its debt to total
capitalization ratio exceeds 55%. The Company's premiums written to statutory
surplus ratio for the year ended December 31, 1996 was approximately 3.248x
and its debt to total capitalization ratio was 47.5%. In addition, the
proposed terms of the Junior Subordinated Debentures restrict the Company's
ability to incur indebtedness. Accordingly, additional indebtedness to fund
operating expenses may not be available.

IMPORTANCE OF MAINTAINING STATUTORY SURPLUS AND RATINGS

The capacity for the Company's growth in premiums, like that of other
insurance companies, is in part a function of its statutory surplus.
Maintaining appropriate levels of statutory surplus is considered important by
the Company's management, state insurance regulatory authorities, and the
agencies that rate insurers' financial strength. Failure to maintain certain
levels of statutory capital and surplus could result in increased scrutiny or,
in some cases, action taken by state regulatory authorities and/or downgrades
in an insurer's ratings.

The Company's Domestic Insurance Subsidiaries' financial strength are rated
"A" (Excellent) by A.M. Best based on a number of factors, including their
1995 results of operations, subject to a "negative outlook." This rating was
issued on the basis of a review concluded in May 1996. A.M. Best's ratings are
based on factors considered to be of concern to policyholders and are not
directed toward protection of investors. A.M. Best currently is conducting its
annual review of the financial strength rating of the Domestic Insurance
Subsidiaries based on a number of factors, including their 1996 results of
operations. There can be no assurance that the Domestic Insurance Subsidiaries
will be able to maintain their current A.M. Best ratings. In early December
1996, Standard & Poor's placed the Company's senior debt and preferred stock
ratings on CreditWatch with negative

17
<PAGE>

implications, and on December 31, 1996 lowered such ratings to BB+ and BB-
from BBB- and BB+, respectively. In taking such action, Standard & Poor's
stated that the downgrades reflected greater-than-anticipated deterioration in
the Company's operating performance and the resultant weaker cash flow
available to the Company to service its debt. Standard & Poor's also stated
its view that the Company's combined ratio is not expected to rebound to or
remain at historic levels because of continued strong competition in the
nonstandard auto marketplace. Standard & Poor's current ratings outlook is
stable. The Company's senior debt and preferred stock are currently rated
"Ba2" and "ba3," respectively, by Moody's.

Any further downgrade in ratings could materially adversely affect the
Company's business and the value of the Company's securities. In addition,
increased public and regulatory concerns regarding the financial stability of
participants in the insurance industry have resulted in greater emphasis being
placed by policyholders and independent agents upon insurance company ratings
and has created some measure of competitive advantage for insurance carriers
with higher ratings.

LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES

The amounts established and to be established by the Company for loss and
LAE reserves are estimates of future costs based on many variables, including
historical and statistical information, inflation, legal developments,
economic conditions and estimates of future trends in claims severity and
frequency. The Company has in the past experienced and may in the future
experience cumulative deficiencies in reserving for losses and LAE. In
December 1996, the Company increased its loss and LAE reserves by $12.5
million, primarily with respect to the 1996 accident year, with $1.9 million
attributable to prior accident years. In each case, such reserve increases
reflected the Company's determination that prior reserve levels for such years
were not adequate. The establishment of appropriate reserves is an inherently
uncertain process, and although, following the recent reserve increases, the
Company believes adequate provision has been made for the Company's loss and
LAE reserves, there can be no assurance that future adjustments to loss and
LAE reserves will not be required. Shortfalls in the Company's reserve
estimates could materially adversely affect the Company.

COMPETITION

REGULATION AND LEGAL PROCEEDINGS

The Company is subject to extensive regulation and supervision in the
jurisdictions in which it does business. This regulatory oversight includes,
by way of example, matters relating to licensing and examination, rate
setting, trade practices, policy forms, limitations on the nature and amount
of certain investments, claims practices, mandated participation in shared
markets and guaranty funds, reserve adequacy, insurer solvency, transactions
between affiliates, the amount of dividends that may be paid, and restrictions
on underwriting standards. Such regulation and supervision are primarily for
the benefit and protection of policyholders and not for the benefit of
investors.

In recent years, the automobile insurance industry has been under pressure
from certain state regulators, legislators and special interest groups to
reduce, freeze or set rates at levels that may not correspond with underlying
costs, including initiatives to roll back automobile and other personal lines
rates. This activity has adversely affected, and may in the future adversely
affect, the profitability of the Company's business in various states because
increasing costs of litigation, combined with rising automobile repair costs,
continue to increase the costs of providing automobile insurance coverage.
Adverse legislative and regulatory activity constraining

18
<PAGE>

the Company's ability to adequately price automobile insurance coverage may
occur in the future. The impact of the automobile insurance regulatory
environment on the Company's results of operations in the future is not
predictable.

In recent years the state insurance regulatory framework has come under
increased federal scrutiny, and certain state legislatures have considered or
enacted laws that alter and, in many cases, increase state authority to
regulate insurance companies and insurance holding company systems. Further,
the National Association of Insurance Commissioners ("NAIC") and state
insurance regulators are re-examining existing laws and regulations,
specifically focusing on insurance company investments, issues relating to the
solvency of insurance companies, risk-based capital guidelines,
interpretations of existing laws, the development of new laws, and the
definition of extraordinary dividends. It is presently not possible to predict
the outcome of any of the above matters, or their potential effect on the
Company.

Various regulatory, governmental and other legal actions are currently
pending involving or affecting the Company and its subsidiaries and specific
aspects of the conduct of their businesses. Additionally, the Company and
certain of its subsidiaries are defendants in numerous legal actions and
proceedings of a character normally incident to their businesses and certain
of these complainants seek damages of unspecified amounts.

VOLATILITY OF UNDERWRITING RESULTS

Nonstandard automobile insurers such as the Company are subject to
volatility in their underwriting results, primarily as a result of the
frequency and severity of claims, as well as due to expense ratio
fluctuations. The Company has experienced, and can be expected in the future
to experience, losses from weather-related events, including hurricanes, wind
and hail, and severe winter weather, and the frequency and severity of such
events are inherently unpredictable. The Company's loss experience is also
affected by such factors as changes in automobile repair costs, medical costs,
driving habits and macroeconomic conditions, all of which are largely beyond
the Company's control. To the extent geographically concentrated in the
eastern United States, an area from which the Company drew approximately 75%
of its business in 1995 and 1996, based on nonstandard net premiums written,
the effect of any one of these factors on the Company may be accordingly
exacerbated. The Company's expense levels have also been significantly
affected in recent periods by the need for additional technology investments,
including those for beginning the modifications necessary to accommodate the
Year 2000, and may in the future be affected by additional such expenditures.

POLICYHOLDER RENEWALS

Nonstandard automobile insurance is highly price sensitive. Due to the
nature of the Company's policyholders (for example, insureds seeking the least
expensive insurance which satisfies the requirements of state laws), the
renewal rate of the Company's policyholders is lower than that typically
experienced by preferred and standard risk insurance companies. The success of
the Company's business, therefore, depends on its ability to replace non-
renewing insureds with new policyholders. The Company monitors rates of
retention and the cancellation of its policies and attempts to refine its
products in response to loss experience and rates of retention in particular
markets. Although a majority of the Company's insureds will likely remain
nonstandard risks because of, among other things, their desire for minimum
policy limits, many of the Company's insureds may seek to obtain standard or
preferred policies in order to reduce their cost of insurance. In addition,
the recent actions taken by the Company to improve profitability, including
the implementation of significant rate increases and more restrictive policy
and payment terms, may have the effect of reducing the Company's renewal rates
and decreasing premium volumes in certain states or lines of business. There
can be no assurance that the Company will be successful in its efforts to
improve its renewal rates or to replace non-renewing policyholders.

19
<PAGE>

DEPENDENCE ON KEY PERSONNEL

The success of the Company is dependent on the efforts and abilities of its
management, including its Chairman, Chief Executive Officer, Chief Operating
Officer and Chief Financial Officer, and the ability of the Company to attract
and retain qualified personnel. There can be no assurance as to the effect
upon the Company's performance of future changes in senior management,
including the choice of a successor chief executive officer, the timing of
which is not certain. The Company is presently seeking a successor chief
executive officer.

INVESTMENTS

Because a significant portion of the Company's revenues are generated from
its invested assets, the performance of its investment portfolio may
materially affect the Company's results of operations and financial condition.
Total pre-tax net realized investment gains were $2.7 million and $9.7 million
in 1996 and 1995, respectively. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."

All of the Company's fixed income securities have been designated as
"available for sale" pursuant to GAAP. Fixed income securities designated as
"available for sale" are carried in the Consolidated Financial Statements at
estimated market value, as determined in the aggregate. As of December 31,
1996, the aggregate market value of fixed income securities "available for
sale" was less than amortized cost by $1.1 million. Future declines in the
market value of such securities could have a material adverse impact on the
Company's financial condition. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital
Resources--Investments."

HOLDING COMPANY STRUCTURE

The operations of the Company are conducted through the P&C Subsidiaries.
Except to the extent that the Company may itself be a creditor with recognized
claims against the P&C Subsidiaries, claims of creditors of such subsidiaries
will have priority with respect to the assets and earnings of such
subsidiaries over the claims of creditors of the Company. Statutory
liabilities of the P&C Subsidiaries, including loss reserves and unearned
premium reserves, aggregated $687.4 million at December 31, 1996 and assets of
such subsidiaries totaled $933.3 million at such date.

In addition, in the event of a default on the Company's debt or an
insolvency, liquidation or other reorganization of the Company, creditors of
the Company will have no right to proceed against the assets of the P&C
Subsidiaries or to cause their liquidation under Federal and state bankruptcy
laws. If any of the Company's Domestic Insurance Subsidiaries were to be
liquidated, such liquidation would be conducted under the insurance laws of
North Carolina by the North Carolina Insurance Commissioner as the receiver
with respect to such subsidiary's property and business.

ITEM 2. PROPERTIES

The Company owns its 410,000 square foot corporate headquarters buildings,
associated parking facilities and a 13,500 square foot child care facility
located in downtown Winston-Salem, North Carolina. The Company also owns a
191,000 square foot office complex in Burlington, North Carolina. The Domestic
Insurance Subsidiaries rent various small office facilities, primarily field
claims offices, throughout its marketing territories.

ITEM 3. LEGAL PROCEEDINGS

The Company is a party to various lawsuits primarily incident to the
ordinary course of its business that would not materially affect the financial
position and results of operations of the Company.

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

Not Applicable.

20
<PAGE>

PART II

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

The following table sets forth, for the calendar quarters indicated, the
high and low prices of the Company's common stock, par value $.01 per share
("Common Stock"), reported by the New York Stock Exchange under the symbol
"IN." On January 24, 1997 the closing price of the Common Stock was 14 5/8.

<TABLE>
<CAPTION>
1996 HIGH LOW
---- ------ ------
<S> <C> <C>
First Quarter $22.13 $19.13
Second Quarter 20.50 17.25
Third Quarter 21.25 18.38
Fourth Quarter 20.63 16.00
</TABLE>

<TABLE>
<CAPTION>
1995 HIGH LOW
---- ------ ------
<S> <C> <C>
First Quarter $14.75 $11.75
Second Quarter 17.38 13.13
Third Quarter 18.13 15.88
Fourth Quarter 21.25 15.88
</TABLE>

The Company's Board of Directors' policy is to review dividends in the first
quarter of each year after completion of the fiscal year-end financial
results. The declaration and payment of future dividends to holders of Common
Stock will be at the discretion of the Board of Directors and will depend upon
many factors, including the Company's financial condition, earnings and
capital requirements of the Company's Domestic Insurance Subsidiaries, legal
requirements and regulatory constraints. Accordingly, there is no requirement
or assurance that dividends will be declared or paid in the future. For a
discussion of restrictions on the ability of the Domestic Insurance
Subsidiaries to pay dividends to the Company and the ability of the Company to
pay dividends, see "Item 1. Business--Certain Considerations--Limited
Dividends Available from Domestic Insurance Subsidiaries" and "--High
Leverage" and "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations."

21
<PAGE>

ITEM 6. SELECTED FINANCIAL INFORMATION

The selected consolidated income statement and balance sheet data set forth
below have been derived from the financial statements of the Company. The
selected consolidated financial information below should be read in
conjunction with the financial statements and the notes thereto and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations".

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------------------------------
1996(4) 1995 1994(3) 1993(3) 1992(3)
---------- ---------- ---------- -------- --------
(IN THOUSANDS, EXCEPT RATIOS AND PER SHARE
AMOUNTS)
<S> <C> <C> <C> <C> <C>
OPERATING RESULTS
Direct premiums
written.............. $ 935,011 $ 797,373 $ 545,483 $395,767 $341,957
Net premiums written.. 797,989 620,447 363,467 246,393 193,459
Total revenues........ 783,411 627,458 369,587 267,510 215,287
Income from continuing
operations........... 170 36,619 22,538 43,286 31,324
Net income............ 170 33,995 23,188 44,196 30,110
Net income (loss)
available to common
stockholders......... (5,400) 28,425 22,306 44,196 29,772
PER SHARE
Income from continuing
operations........... $ (.34) $ 1.86 $ 1.38 $ 2.53 $ 1.94
Net income............ (.34) 1.73 1.42 2.58 1.87
Weighted average
shares outstanding... 15,850 19,635 15,750 17,119 15,918
Dividends paid........ $ .36 $ .36 $ .36 $ .32 $ .16
FINANCIAL POSITION
Cash and invested
assets............... $ 567,892 $ 505,104 $ 420,919 $244,588 $242,249
Total assets.......... 1,356,799 1,241,679 1,152,123 656,721 584,070
Short-term debt....... 44,000 16,000 21,000 16,049 --
Notes payable......... 150,760 150,807 150,812 75,826 74,808
Stockholders' equity.. 215,391 234,847 195,259 127,462 115,820
GAAP COMBINED RATIO(1)
Loss ratio............ 80.0% 73.4% 70.4% 62.1% 57.0%
Expense ratio......... 22.4 21.6 22.0 21.9 24.1
---------- ---------- ---------- -------- --------
Combined ratio........ 102.4% 95.0% 92.4% 84.0% 81.1%
---------- ---------- ---------- -------- --------
SELECTED INSURANCE
COMPANY STATUTORY
DATA(2)
Loss ratio............ 79.4% 73.2% 70.8% 63.0% 57.0%
Expense ratio......... 22.1 21.5 21.7 22.0 20.9
---------- ---------- ---------- -------- --------
Combined ratio........ 101.5% 94.7% 92.5% 85.0% 77.9%
---------- ---------- ---------- -------- --------
Statutory net income.. $ 6,882 $ 41,814 $ 37,883(3) $ 35,097 $ 39,267
Statutory surplus..... 245,919 226,832 198,589 103,033 105,395
Net premiums written
to statutory
surplus.............. 3.2x 2.7x 2.6x(3) 2.4x 1.8x
</TABLE>
- --------

(1) Ratios for 1993 exclude the effect of non-recurring items relating to the
settlement of a premium rate dispute.

(2) Combined ratio for 1994 is computed including the results of Bankers and
Shippers for the period after the acquisition date of October 18, 1994.

(3) During October 1994, the Company acquired Bankers and Shippers for $153.2
million and the transaction was accounted for under the purchase method.
The results of operations of Bankers and Shippers are included with the
results of the Company from October 18, 1994. See Note B "Acquisitions-
Purchase of Bankers and Shippers" to the financial statements for selected
proforma operating results assuming the acquisition occurred on January 1,
1994 and 1993, respectively. The net premiums written to statutory surplus
and statutory net income includes the results of Bankers and Shippers for
the full year 1994.

(4) The financial statements of the Company for the year ended December 31,
1996 include the effects of increases in loss and loss adjustment expenses
payable of $12.5 million due to actual loss and loss adjustment expenses
in excess of original expectations.

22
<PAGE>

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

The following section contains forward-looking statements regarding future
profit levels, premium growth, cash flows and other matters, which involve
risks and uncertainties that may affect the Company's actual results of
operations.

The following important factors, among others, could cause actual results to
differ materially from those set forth in the forward looking statements:
claims frequency, claims severity, severe adverse weather conditions, the cost
of automobile repair, economic activity, competitive pricing and the
regulatory environment in which the Company operates. See "Item 1. Business--
Certain Considerations."

RESULTS OF OPERATIONS

YEAR ENDED DECEMBER 31, 1996 COMPARED WITH YEAR ENDED DECEMBER 31, 1995

Net premiums written increased 28.6% from $620.4 million in 1995 to $798.0
million in 1996. Of that amount, nonstandard automobile insurance net premiums
written increased from $568.1 million in 1995 to $722.9 million in 1996, or
27.3%. The increase in nonstandard automobile insurance net premiums written
is attributable, in part, to a shift in the Company's business towards states
with higher premium rates. Certain states' premium rates are generally higher
because of competitive conditions, higher expected losses and expenses or
higher limits of liability required. The increase is also attributable to the
Company insuring a greater percent of its customers with 12 month policies
instead of six month policies. Unit growth and, to a lesser extent, rate
increases also contributed to the increase in net premiums written. Specialty
auto products net premiums written increased 88.9% from $26.3 million in 1995
to $49.8 million in 1996. Premiums earned on all lines of business increased
29.1% from $567.0 million in 1995 to $732.0 million in 1996 and reflects the
increase in net premiums written.

Loss and LAE increased 40.8% from $416.0 million in 1995 to $585.7 million
in 1996. The loss ratio, defined as loss and LAE as a percentage of premiums
earned, increased from 73.4% in 1995 to 80.0% in 1996. Inadequate pricing, and
changes in product design and underwriting criteria, undertaken during 1996
contributed to the increase in loss and LAE and resulted in the Company
attracting some new insureds with higher loss characteristics than previously
experienced. The process of estimating loss and LAE requires the reliance on
past history to predict the development of known claims and claims incurred
but not reported. There are no methodologies that can be used to guarantee the
ultimate accuracy of the estimates developed. The Company had utilized the
same reserve methodology for five years and had consistently experienced
favorable loss reserve development. During 1995 and 1996, the Company
experienced growth in its nonstandard private passenger automobile insurance
business and expanded such business into nine new states. The business in the
new states comprised approximately $9.8 million and $36.1 million of
additional net written premiums for 1995 and 1996, respectively. Entrance into
new markets also caused the Company's loss ratio to increase because new
business is generally less profitable than renewal business. The Company's
loss and LAE were also adversely affected by an increase in the frequency and
severity of claims. In particular, during the first and third quarters,
respectively, the Company was impacted by severe winter weather and Hurricanes
Fran and Bertha, which accounted for an increase in loss and LAE of
approximately $12.0 million. During the fourth quarter of 1996, the Company
experienced some negative development in its loss reserves due to increased
physical damage claim frequency and severity, which was offset by certain
favorable developments, such as reduction of claims costs from loss control
initiatives and a decrease in bodily injury severity trends. Recognizing these
offsetting and conflicting trends, the Company estimated the loss reserve
requirements utilizing the methods employed during the past five years and
recorded a $12.5 million reserve increase primarily for the 1996 accident year
with $1.9 million being attributable to prior accident years. Reliance was
placed on the "normal" development patterns, which had been experienced for
accident years 1995, 1994 and prior years. These development patterns were
applied to known results for accident year 1996 to estimate required reserves.
The Company consistently utilized the same actuarial methods in evaluating the
required level of loss and LAE reserves.

23
<PAGE>

The Company believes that the recent events causing the net losses for the
year ended December 31, 1996 are not indicative of the future earnings
potential of the Company. The primary reason for the losses in this period was
the charging of inadequate prices to customers. The Company has revised its
pricing and implemented underwriting restrictions designed to enhance
profitability.

The Company believes that the severity trends noted above reflect general
increases in the costs of repairing automobiles, attributable to air bags,
advanced technology and anti-lock brakes and other more expensive components
in an increasing number of vehicles insured by the Company, as well as to
general price inflation. To some extent, the Company's pricing in 1996 did not
adequately factor in such cost increases.

Policy acquisition and other underwriting expenses increased 33.7% from
$122.7 million in 1995 to $164.0 million in 1996. The expense ratio, defined
as policy acquisition and other underwriting expenses as a percentage of
premiums earned, increased from 21.6% in 1995 to 22.4% in 1996. The increase
in policy acquisition and other underwriting expenses was due to an increase
in personnel-related and other information systems costs. Such costs were
incurred primarily to enhance the Company's operations, and also included
expenditures for beginning the modifications necessary to accommodate the Year
2000. Bad debt expense during 1996 increased from $8.1 million in 1995 to
$16.1 in 1996 due in part to increased net premiums written and the extension
of more favorable credit terms to its insureds. As a result of the increased
loss ratio in the fourth quarter primarily relating to the earlier periods in
the 1996 accident year, the Company reviewed the recoverability of its
deferred policy acquisition cost and determined that the sum of the expected
loss and LAE based on the loss and LAE reserve analysis at year end, the
deferred policy acquisition cost, and expected policy maintenance expenses for
the net written premium for which the deferred policy acquisition cost was
recorded, did not support the level of the acquisition cost deferred. As a
result, the Company wrote off $3.5 million of estimated unrecoverable deferred
policy acquisition cost.

Other income less other expenses resulted in expenses of $.8 million in 1996
and income of $2.5 million in 1995. The decrease in income primarily reflects
the fact that 1995 results included $.9 million of income from the sale of a
joint venture.

Net investment income increased 6.8% from $29.9 million in 1995 to $32.0
million in 1996 as a result of the $68.8 million increase in average invested
assets. This higher level of invested assets was partially offset by a
decrease in comparable investment yields and a higher percentage of tax-exempt
securities, which resulted in a pre-tax yield on the investment portfolio of
5.9% in 1996 compared to 6.3% in 1995. The percentage of cash and invested
assets invested in tax-exempt securities was 25.5% and 24.3% in 1996 and 1995,
respectively. In addition to the variances discussed above, the Company
realized investment gains of $2.7 million in 1996 after a $2.0 million write-
down of bonds in its investment portfolio, compared to $9.7 million of
realized investment gains in 1995. The write-down in the Company's investment
portfolio related primarily to a single bond investment. During the fourth
quarter of 1996, the Company relied on new lead outside counsel to evaluate
the possibility of recovery on this bond and concluded that any recovery on
such bond would be based solely on the outcome of litigation with the issuer.
After a review of the likelihood of successful litigation, the Company wrote
the asset down to zero.

Interest expense increased from 3.5% from $14.5 million in 1995 to $15.0
million in 1996 due to increased short-term borrowings to pay parent company
expenses.

Federal income taxes decreased $18.4 million from $16.3 million incurred in
1995 to a $2.1 million tax benefit in 1996. The tax benefit is a result of the
Company having a loss from operations before federal income tax.

Income from continuing operations decreased $36.4 million from $36.6 million
in 1995 to $.2 million in 1996. See Note O "Discontinued Operations" to the
Financial Statements.

YEAR ENDED DECEMBER 31, 1995 COMPARED WITH YEAR ENDED DECEMBER 31, 1994

Net premiums written increased 70.7% from $363.5 million in 1994 to $620.4
million in 1995. Nonstandard auto insurance net premiums written increased
69.8% from $334.6 million in 1994 to $568.1 million in 1995.

24
<PAGE>

Premiums earned on all lines of business increased 69.5% from $334.5 million
in 1994 to $567.0 million in 1995. Nonstandard auto insurance premiums earned
increased $216.6 million, or 70.2%, over the amount earned in 1994. The growth
in premium volume is due to the acquisition of Bankers and Shippers in October
1994 and increased market penetration in most of the Company's existing
territories as well as entrance into new markets.

Loss and LAE increased 76.7% from $235.4 million in 1994 to $416.0 million
in 1995. The loss ratio increased from 70.4% in 1994 to 73.4% in 1995. The
increase in the loss ratio was due primarily to increased severity of physical
damage claims resulting from newer automobiles that are more complicated and
expensive to repair.

Policy acquisition and other underwriting expenses increased 66.7% from
$73.6 million in 1994 to $122.7 million in 1995. The expense ratio decreased
from 22.0% in 1994 to 21.6% in 1995. The decrease in the expense ratio was due
primarily to increased operating efficiencies.

Net investment income increased 67.1% from $17.9 million in 1994 to $29.9
million in 1995. The average balance of invested assets increased 41.7% from
1994 to 1995 due primarily to the acquisition of Bankers and Shippers and
operating cash flow. The overall pre-tax yield for the Company was 6.3% in
1994 and 1995. The Company significantly reduced investments in tax-exempt
securities to 24.3% of total cash and invested assets at December 31, 1995
compared to 57.4% at December 31, 1994. The after-tax yield was 4.7% in 1995
compared to 4.9% in 1994.

Other income less other expenses resulted in income of $2.5 million and $.4
million in 1995 and 1994, respectively. The increase in income in 1995 was
primarily due to lower corporate expenses of $1.3 million and $.7 million of
income associated with a joint venture that was sold during the year. The
decrease in corporate expenses was due to lower legal expenses and reduced
costs associated with directors' compensation. A settlement was reached in
litigation early in the year which reduced legal expenses and a reduction in
Board members in 1995 resulted in lower compensation expense compared to 1994.

Interest expense increased from $8.4 million in 1994 to $14.5 million in
1995 due to the issuance in October 1994 of 9.5% Senior Notes due 2001 in
connection with the acquisition of Bankers and Shippers and short-term
borrowings under the committed credit facility in 1995.

Federal income taxes increased $6.6 million from $9.7 million in 1994 to
$16.3 million in 1995. The effective tax rate increased from 30.0% in 1994 to
30.8% in 1995 due primarily to higher underwriting income and decreased
holdings of tax-exempt securities in 1995. Underwriting income is taxed at the
statutory rate of 35.0% while net investment income is taxed at a lower
effective rate due to the investment in tax-exempt securities.

Income from continuing operations increased $14.1 million from $22.5 million
in 1994 to $36.6 million in 1995. Additionally, there were net realized
investment losses of $1.1 million in 1994 compared to net realized investment
gains of $9.7 million in 1995. Adjusting for these factors, income from
continuing operations increased $7.1 million from $23.2 million to $30.3
million. Additional factors affecting results have been discussed above. See
Note O "Discontinued Operations" to the Financial Statements.

LIQUIDITY AND CAPITAL RESOURCES

SOURCES OF FUNDS: The major sources of operating funds for Integon
Corporation, the parent company, have been (i) dividends from its
subsidiaries, (ii) reimbursements of costs and expenses in connection with the
management agreement among the Company and its subsidiaries pursuant to which
the Company provides certain services to such subsidiaries, (iii) tax sharing
payments from the operating subsidiaries to the Company and (iv) borrowings
under credit facilities. The Company files a consolidated federal income tax
return including its subsidiaries and receives payments pursuant to a tax
sharing agreement among the Company and its subsidiaries. Taxes are computed
for each subsidiary and paid to the Company as if such subsidiary were filing
a tax return on a stand-alone basis, thereby providing additional funds to the
Company because the aggregate of such payments generally exceeds taxes to be
paid by the Company on a consolidated basis.

25
<PAGE>

Subject to the limitations on dividends described below, the foregoing
sources are expected to be available for future needs of Integon Corporation.
Such dividends are limited pursuant to the North Carolina insurance laws and
regulations. In determining the ability of its insurance subsidiaries to pay
dividends, the Company monitors its subsidiaries' operating leverage based on
the level of net premiums written to statutory surplus. In addition, the P&C
Subsidiaries' ability to pay dividends is limited by the terms of the
Company's Credit Facility, which requires the P&C Subsidiaries to maintain a
net premiums written to statutory surplus of 3.25x. The P&C Subsidiaries'
premium written to statutory surplus ratio for the year ended December 31,
1996 was approximately 3.248x. See "--Financing Activities." Dividends will be
retained by the subsidiaries as needed to comply with the covenants of the
Company's Credit Facility and, in any event, may be retained to fund growth.

The maximum amounts of dividends from the Domestic Insurance Subsidiaries
that could be payable during 1997 without the approval by the North Carolina
Insurance Commissioner is approximately $7.9 million. However, the payment of
dividends is further restricted by the terms of the Company's Credit Facility.
See "--Financing Activities."

As of December 31, 1996, Integon Corporation had approximately $1.4 million
of cash and cash equivalents that were available for general corporate
purposes, including debt service, dividend payments and working capital.

The principal sources of funds for the Company's subsidiaries are net
premiums collected, proceeds from investment income and from investments that
have been sold, matured or repaid, and premium financing revenues.

On a consolidated basis, net cash flows provided by operating activities for
the year ended December 31, 1996 and 1995 were $75.6 and $54.0 million,
respectively. Based on the Company's current financial plans, management
believes that its subsidiaries will continue to realize positive cash flows
from their operating activities and that the operating liquidity needs of such
subsidiaries can be funded exclusively from such cash flow.

USES OF FUNDS: Integon Corporation's principal uses of funds are the payment
of corporate operating expenses, taxes, debt service and dividends on
preferred and common stock. During 1996, Integon Corporation contributed $10.1
million of capital to the P&C Subsidiaries.

The principal uses of funds of the Company's subsidiaries are the payment of
claims on insurance policies, the payment of operating expenses, purchase of
investments, tax sharing payments and, to the extent permissible, dividends to
Integon Corporation.

The Company and its subsidiaries are committed to using funds to continue
its investment in new technology and to continue to expand information system
personnel primarily to enhance operations, as well as to accomplish the
modifications necessary to accommodate the Year 2000.

FINANCING ACTIVITIES: In July 1996, the Company's Credit Facility was
increased from $25.0 million to $75.0 million to reflect the increased size of
the Company and to pay parent company expenses as the insurance subsidiaries
retain earnings to fund future growth. The interest rate charged on the Credit
Facility is based on the bids of the participating lenders and, in the case of
Eurodollar loans, a margin percentage ranging from .55% to .675% is added. The
facility fee ranges from .20% to .35% of the total amount of the facility.

The Credit Facility contains certain covenants, including a limitation on
net premiums written to statutory surplus of 3.25x and a maximum ratio of debt
to total capitalization of 55%. The amount of the Credit Facility available,
subject to the borrowing conditions thereunder, for future borrowings at
December 31, 1996 was $31 million. The Company expects to use a portion of the
proceeds from the sale of the Junior Subordinated Debentures to reduce the
amount outstanding under the Credit Facility. See "Item 1. Business--Recent
History; Strategy."

26
<PAGE>

The Company's interest expense also includes payments with respect to its 9
1/2% Senior Notes due October 15, 2001 (the "9 1/2% Senior Notes") and its 8%
Senior Notes due August 15, 1999 (the "8% Senior Notes" and together with the
9 1/2% Senior Notes, the "Senior Notes"). The indentures governing the Senior
Notes contain covenants that restrict the ability of the Company and its
subsidiaries to dispose of the capital stock of any subsidiary and to incur
indebtedness secured by the capital stock of any subsidiary. The Senior Notes
are not redeemable by the Company prior to maturity.

INVESTMENTS: In accordance with the Company's investment policy, the
Company's investments at December 31, 1996 consisted primarily of investment-
grade securities (rated Baa or better by Moody's or the equivalent).
Consolidated cash and cash equivalents at December 31, 1996 amounted to $43.8
million, or 7.7% of total cash and invested assets.

Management has determined that the entire fixed maturity securities
portfolio should be classified as "available for sale." Fixed maturity
securities classified as "available for sale" are carried at estimated market
value. The market value and amortized cost of all fixed maturity securities at
December 31, 1996 were $521.3 million and $522.5 million, respectively.

Management believes that the securities in the Company's investment
portfolio at December 31, 1996 are readily marketable.

REGULATION: Insurance laws and regulations impose certain restrictions on
the amount of dividends that may be paid by insurance companies. The maximum
amount of ordinary dividends that a North Carolina domiciled property and
casualty insurance company may pay at any point in time without regulatory
approval is the lesser of (a) 10% of the policyholders' statutory surplus of
such property and casualty insurance company as of the preceding December 31
or (b) the statutory net income of such property and casualty insurance
company for the preceding calendar year, less the amount of dividends paid
during the preceding 12 months. The Company's insurance subsidiaries paid
approximately $4.8 million of ordinary dividends in 1996, which was less than
that available for payment in 1996. See "--Sources of Funds" for a discussion
of the maximum amount of dividends payable in 1997.

If the insurance subsidiaries are not able to pay ordinary dividends and
their requests for the payment of extraordinary dividends are not granted, and
if amounts needed are in excess of the available funds under the credit
facility, additional borrowings, the issuance of additional securities or
obtaining other funds could be necessary to pay debt service, preferred and
common stock dividends and other expenses of the Company.

27
<PAGE>

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEPENDENT AUDITORS' REPORT

To The Board of Directors and Stockholders of
Integon Corporation
Winston-Salem, North Carolina

We have audited the accompanying consolidated balance sheets of Integon
Corporation and subsidiaries as of December 31, 1996 and 1995, and the related
consolidated statements of operations, stockholders' equity, and cash flows
for each of the three years in the period ended December 31, 1996. These
financial statements are the responsibility of the Company's management. Our
audits also included the financial statement schedules listed in the Index at
Item 14. Our responsibility is to express an opinion on the 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, such consolidated financial statements present fairly, in
all material respects, the financial position of Integon Corporation and
subsidiaries as of December 31, 1996 and 1995, and the results of their
operations and their cash flows for each of the three years in the period
ended December 31, 1996, in conformity with generally accepted accounting
principles. Also, in our opinion, such financial statement schedules, when
considered in relation to the basic consolidated financial statements taken as
whole, present fairly in all material respects the information set forth
therein.

/s/ Deloitte & Touche LLP

Deloitte & Touche LLP

Winston-Salem, North Carolina
January 22, 1997

(September 12, 1997 as to Note O)

28
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

BALANCE SHEETS

DECEMBER 31,
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
1996 1995
---------- ----------
<S> <C> <C>
ASSETS
Investments:
Fixed maturities available for sale--at market
(amortized cost $522,452 and $469,219)............. $ 521,311 $ 481,944
Other long-term investments......................... 2,743 2,114
---------- ----------
524,054 484,058
Cash and cash equivalents............................. 43,838 21,046
Reinsurance receivable................................ 185,077 199,826
Premiums due and uncollected (less allowance for
doubtful accounts of $5,282 and $3,591).............. 248,537 199,087
Prepaid reinsurance premiums.......................... 48,909 56,726
Accounts receivable, primarily financing receivables
(less allowance for doubtful accounts of $1,112 and
$850)................................................ 32,957 28,277
Accrued investment income............................. 8,933 7,683
Deferred policy acquisition costs..................... 55,106 46,413
Property and equipment (less accumulated depreciation
of $10,808 and $4,878)............................... 68,271 65,247
Goodwill (less accumulated amortization of $13,885 and
$10,812)............................................. 106,957 110,976
Deferred income taxes................................. 22,044 12,934
Other assets.......................................... 12,116 9,406
---------- ----------
$1,356,799 $1,241,679
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Unearned premiums..................................... $ 364,081 $ 305,911
Loss and loss adjustment expenses payable............. 478,031 416,740
Accrued expenses and other liabilities................ 104,536 117,374
Short-term debt....................................... 44,000 16,000
Notes payable......................................... 150,760 150,807
---------- ----------
1,141,408 1,006,832
---------- ----------
Stockholders' Equity:
$3.875 Convertible Preferred Stock--$.01 par value per
share, 1,437,500 shares authorized, issued and
outstanding.......................................... 14 14
Preferred Stock--$.01 par value per share, 562,500
shares authorized, issued and outstanding--none...... -- --
Common Stock--$.01 par value per share, authorized--
35,000,000 shares; issued 17,303,321 and 17,271,707
shares............................................... 173 173
Class A Non-Voting Common Stock--$.01 par value per
share, authorized 20,000,000 shares; issued and
outstanding--none.................................... -- --
Additional paid-in capital............................ 147,891 147,296
Net unrealized appreciation (depreciation) of
securities........................................... (700) 8,288
Retained earnings..................................... 105,834 116,897
Treasury stock--at cost, 1,567,200 shares............. (37,821) (37,821)
---------- ----------
215,391 234,847
---------- ----------
$1,356,799 $1,241,679
========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.

29
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

STATEMENTS OF OPERATIONS

YEARS ENDED DECEMBER 31,
(IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
REVENUES
Net premiums written............................ $797,989 $620,447 $363,467
======== ======== ========
Premiums earned................................. $732,002 $567,018 $334,460
Net investment income........................... 31,970 29,937 17,914
Net realized investment gains (losses).......... 2,711 9,698 (1,110)
Other income.................................... 16,728 20,805 18,323
-------- -------- --------
783,411 627,458 369,587
-------- -------- --------
BENEFITS AND EXPENSES
Loss and loss adjustment expenses............... 585,711 415,973 235,448
Policy acquisition and other underwriting
expenses....................................... 164,015 122,653 73,565
Other expenses.................................. 17,504 18,286 17,966
Amortization of goodwill........................ 3,072 3,096 1,985
Interest expense................................ 15,021 14,510 8,433
-------- -------- --------
785,323 574,518 337,397
-------- -------- --------
INCOME (LOSS) FROM OPERATIONS BEFORE FEDERAL
INCOME TAXES AND INCOME (LOSS) OF DISCONTINUED
OPERATIONS..................................... (1,912) 52,940 32,190
Federal income tax (benefit).................... (2,082) 16,321 9,652
-------- -------- --------
INCOME BEFORE INCOME (LOSS) OF DISCONTINUED
OPERATIONS..................................... 170 36,619 22,538
Income (Loss) of Discontinued Operations, net of
federal income tax (benefit) of $0, $(276), and
$350........................................... -- (2,624) 650
-------- -------- --------
NET INCOME...................................... 170 33,995 23,188
Preferred stock dividends....................... 5,570 5,570 882
-------- -------- --------
Net income (loss) available to common
stockholders................................... $ (5,400) $ 28,425 $ 22,306
======== ======== ========
EARNINGS PER COMMON SHARE
Primary:
Income (loss) before income (loss) of
discontinued operations...................... $ (.34) $ 1.98 $ 1.38
Income (loss) of discontinued operations...... -- (.17) .04
-------- -------- --------
NET INCOME (LOSS)............................. $ (.34) $ 1.81 $ 1.42
======== ======== ========
Fully diluted:
Income (loss) before income (loss) of
discontinued operations...................... $ (.34) $ 1.86 $ 1.38
Income (loss) of discontinued operations...... -- (.13) .04
-------- -------- --------
NET INCOME (LOSS)............................. $ (.34) $ 1.73 $ 1.42
======== ======== ========
Weighted average common shares outstanding:
Primary....................................... 15,850 15,701 15,750
======== ======== ========
Fully diluted................................. 15,850 19,635 15,750
======== ======== ========
</TABLE>

The accompanying notes are an integral part of these statements.

30
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

STATEMENTS OF CASH FLOWS

YEARS ENDED DECEMBER 31,
(IN THOUSANDS)

<TABLE>
<CAPTION>
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income................................... $ 170 $ 33,995 $ 23,188
Adjustments to reconcile net income to net
cash provided by operating activities:
Net realized investment (gains) losses..... (2,711) (9,698) 1,110
Depreciation and amortization.............. 9,786 7,351 4,085
Net amortization of discounts and
premiums.................................. 1,382 (638) (214)
Provision for deferred federal income taxes
(benefit)................................. (4,098) 1,728 (2,984)
Change in assets and liabilities net of
effects from purchase of subsidiaries:
Net (increase) decrease in reinsurance
assets.................................. 22,566 38,616 (12,667)
Increase in premiums due and
uncollected............................. (49,450) (49,423) (24,961)
Increase in deferred policy acquisition
costs................................... (8,693) (9,906) (5,157)
Increase in unearned premiums............ 58,170 21,082 30,596
Increase in loss and loss adjustment
expenses payable........................ 61,291 21,440 25,689
Other, net............................... (12,827) (592) 2,663
--------- --------- ---------
Net Cash Flows Provided by Operating
Activities................................ 75,586 53,955 41,348
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Investment securities sold................... 657,090 566,424 213,609
Investment securities matured, called or
redeemed.................................... 32,273 26,493 21,984
Investment securities purchased.............. (741,858) (651,928) (278,746)
Property and equipment purchased............. (9,660) (5,289) (7,842)
Sale of (investment in) joint venture........ -- 5,236 (4,868)
Purchase of Bankers and Shippers Insurance
Company (net of cash acquired).............. -- -- (116,071)
Purchase of Integon Preferred Insurance
Company (net of cash acquired).............. -- -- (7,367)
Purchase of Integon Services Company (net of
cash acquired).............................. -- -- (1,932)
Other........................................ 950 (353) 2,290
--------- --------- ---------
Net cash flows used in investing
activities................................ $ (61,205) $ (59,417) $(178,943)
--------- --------- ---------
</TABLE>

The accompanying notes are an integral part of these statements.

31
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

STATEMENTS OF CASH FLOWS--(CONTINUED)

YEARS ENDED DECEMBER 31,
(IN THOUSANDS)

<TABLE>
<CAPTION>
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES
Increase (decrease) in book cash overdrafts... $ (8,309) $ 11,218 $ 15,413
Increase (decrease) in short-term debt........ 28,000 (5,000) 4,951
Common stock dividends........................ (5,663) (5,653) (5,649)
Preferred stock dividends..................... (5,570) (5,570) (882)
Issuance of debt.............................. -- -- 74,960
Purchase of treasury stock.................... -- -- (3,323)
Issuance of convertible preferred stock....... -- -- 68,655
Other......................................... (47) (36) --
--------- --------- ---------
Net cash flows provided by (used in)
financing activities....................... 8,411 (5,041) 154,125
--------- --------- ---------
Net increase (decrease) in cash and cash
equivalents.................................. 22,792 (10,503) 16,530
Cash and cash equivalents at beginning of
period..................................... 21,046 31,549 15,019
--------- --------- ---------
Cash and cash equivalents at end of period.... $ 43,838 $ 21,046 $ 31,549
========= ========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOWS
INFORMATION
Cash paid during the period for:
Interest.................................... $ 14,577 $ 14,055 $ 6,687
Federal income taxes........................ 12,875 11,700 18,517
</TABLE>

SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND FINANCING ACTIVITIES

Increases in common stock and additional paid-in capital of $522, $146 and
$731 in 1996, 1995 and 1994, respectively, were due to grants of common stock
to non-employee directors.

The accompanying notes are an integral part of these statements.

32
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

STATEMENTS OF STOCKHOLDERS' EQUITY

YEARS ENDED DECEMBER 31,
(IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
$3.875 CONVERTIBLE PREFERRED STOCK
Balance at beginning of year.................... $ 14 $ 14 $ --
Issuance........................................ -- -- 14
-------- -------- --------
Balance at end of year.......................... $ 14 $ 14 $ 14
======== ======== ========
PREFERRED STOCK
Balance at beginning of year.................... $ -- $ -- $ --
Issuance........................................ -- -- --
-------- -------- --------
Balance at end of year.......................... $ -- $ -- $ --
======== ======== ========
COMMON STOCK
Balance at beginning of year.................... $ 173 $ 173 $ 172
Issuance........................................ -- -- 1
-------- -------- --------
Balance at end of year.......................... $ 173 $ 173 $ 173
======== ======== ========
ADDITIONAL PAID-IN CAPITAL
Balance at beginning of year.................... $147,296 $147,161 $ 77,544
Issuance of convertible preferred stock......... -- (11) 68,641
Issuance of common stock........................ 522 146 730
Other........................................... 73 -- 246
-------- -------- --------
Balance at end of year.......................... $147,891 $147,296 $147,161
======== ======== ========
NET UNREALIZED APPRECIATION (DEPRECIATION) OF
SECURITIES
Balance at beginning of year.................... $ 8,288 $ (8,393) $ 6,776
Change during year.............................. (8,988) 16,681 (15,169)
-------- -------- --------
Balance at end of year.......................... $ (700) $ 8,288 $ (8,393)
======== ======== ========
RETAINED EARNINGS
Balance at beginning of year.................... $116,897 $ 94,125 $ 77,468
Net income...................................... 170 33,995 23,188
Common dividends................................ (5,663) (5,653) (5,649)
Preferred dividends............................. (5,570) (5,570) (882)
-------- -------- --------
Balance at end of year.......................... $105,834 $116,897 $ 94,125
======== ======== ========
TREASURY STOCK
Balance at beginning of year.................... $(37,821) $(37,821) $(34,498)
Purchases on the open market.................... -- -- (3,323)
-------- -------- --------
Balance at end of year.......................... $(37,821) $(37,821) $(37,821)
======== ======== ========
</TABLE>

The accompanying notes are an integral part of these statements.

33
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

CAPITAL STOCK ACTIVITY

YEARS ENDED DECEMBER 31,

<TABLE>
<CAPTION>
1996 1995 1994
----------- ----------- -----------
<S> <C> <C> <C>
$3.875 CONVERTIBLE PREFERRED STOCK
Balance at beginning of year............ 1,437,500 1,437,500 --
Issuance................................ -- -- 1,437,500
----------- ----------- -----------
Balance at end of year.................. 1,437,500 1,437,500 1,437,500
=========== =========== ===========
PREFERRED STOCK
Balance at beginning of year............ -- -- --
Issuance................................ -- -- --
----------- ----------- -----------
Balance at end of year.................. -- -- --
=========== =========== ===========
COMMON STOCK
Balance at beginning of year............ 17,271,707 17,262,607 17,245,143
Shares issued under the 1992 Non-
Employee Directors Stock Plan.......... -- 9,100 17,464
Shares issued under the Integon
Corporation Omnibus Long-Term
Performance Incentive Compensation
Plan................................... 11,014 -- --
Exercise of stock options............... 20,600 -- --
----------- ----------- -----------
Balance at end of year.................. 17,303,321 17,271,707 17,262,607
----------- ----------- -----------
TREASURY STOCK
Balance at beginning of year............ (1,567,200) (1,567,200) (1,389,400)
Purchases on the open market............ -- -- (177,800)
----------- ----------- -----------
Balance at end of year.................. (1,567,200) (1,567,200) (1,567,200)
----------- ----------- -----------
Outstanding at end of year.............. 15,736,121 15,704,507 15,695,407
=========== =========== ===========
</TABLE>

The accompanying notes are an integral part of these statements.

34
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)

NOTE A--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

BASIS OF PRESENTATION: The consolidated financial statements and notes are
presented in accordance with generally accepted accounting principles ("GAAP")
for property and casualty insurance companies. All material intercompany
accounts and transactions have been eliminated for all periods presented.
Integon Corporation (the "Company") has one segment that is engaged in the
business of developing, marketing and financing property and casualty
insurance products, primarily nonstandard auto. Certain reclassifications have
been made to the 1995 and 1994 amounts to conform to the 1996 presentation.

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

CASH AND CASH EQUIVALENTS: Included in cash and cash equivalents are
investments that, at purchase, have a maturity of three months or less.

INVESTMENTS: Investments are classified at the time of purchase based on the
maturity of the investment. Investments, including redeemable preferred stock,
that mature in one year or longer are classified as fixed maturity
investments.

The entire fixed maturity portfolio has been classified as "available for
sale." Management determines the appropriate classification of debt securities
at the time of purchase and reevaluates the designation as of each balance
sheet date. Securities classified as "available for sale" are carried at
estimated market value, with the unrealized gains and losses reported as a
separate component of stockholders' equity, net of tax effect.

The amortized cost of debt securities in these categories is adjusted for
amortization of premiums and accretion of discounts. Such amortization and
accretion are included in interest income from investments. Realized
investment gains and losses, and declines in value judged to be other-than-
temporary, are included in net realized investment gains (losses). The cost of
securities sold is based on the specific identification basis.

DEFERRED POLICY ACQUISITION COSTS: Commissions and other costs of acquiring
insurance that are primarily related to and vary with the production of
business are deferred. Deferred policy acquisition costs are amortized over
the effective period of the related insurance policies in proportion to
premiums earned. The average amortization period is less than one year. Also
included in deferred policy acquisition costs was the value assigned to the
insurance contracts in force at the acquisition date of Bankers and Shippers
Insurance Company ("Bankers and Shippers"). The Company does not consider
anticipated investment income in determining the recoverability of these
costs. The deferral and amortization are summarized as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------
1996 1995 1994
--------- --------- --------
<S> <C> <C> <C>
Beginning.................................. $ 46,413 $ 36,507 $ 17,969
Acquisition of Bankers and Shippers........ -- -- 13,381
Deferral................................... 149,219 111,858 68,345
Amortization............................... (140,526) (101,952) (63,188)
--------- --------- --------
Ending..................................... $ 55,106 $ 46,413 $ 36,507
========= ========= ========
</TABLE>

35
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE A--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)

PROPERTY AND EQUIPMENT: Property and equipment consist primarily of office
buildings, furniture, and equipment and are stated at cost less accumulated
depreciation. Property and equipment are depreciated over the useful life of
the assets using the straight-line method. Property and related improvements
are depreciated over periods ranging from 15 to 45 years. Equipment is
depreciated over 3 to 7 years. Depreciation expense for the years ended
December 31, 1996, 1995 and 1994 was $6.3 million, $3.8 million, and $1.9
million, respectively.

GOODWILL: Goodwill, which represents the excess of cost over the fair value
of net assets acquired, is amortized on a straight-line basis over periods not
exceeding 40 years. The realizability of goodwill and other intangibles is
evaluated periodically. Such evaluation is based on various analyses,
including cash flow and profitability projections that incorporate, as
applicable, the impact on existing company businesses. The analyses
necessarily involve significant management judgment to evaluate the capacity
of the Company and its acquired businesses to perform within projections.

CASH OVERDRAFT: The Company operates a cash management program, which at
times results in book cash overdrafts supported by its cash equivalents and
short-term investments. Included in other liabilities at December 31, 1996 and
1995 are cash overdrafts of $18.3 million and $26.6 million, respectively.

RECOGNITION OF PREMIUM REVENUE: Premiums are recognized as revenue primarily
on a pro rata basis over the period of risk.

STATUTORY ACCOUNTING PRACTICES: Integon Corporation's insurance
subsidiaries, domiciled in North Carolina, prepare their statutory financial
statements in accordance with accounting practices prescribed or permitted by
the North Carolina Insurance Department. 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.

Although prohibited by statutory accounting practices prescribed by North
Carolina, the Company, during 1995, received written approval from the North
Carolina Insurance Department to recognize anticipated salvage and subrogation
in the determination of statutory unpaid loss reserves. As of December 31,
1996, that permitted transaction increased statutory surplus by $12.5 million
over what it would have been had the prescribed accounting practice been
followed.

LOSS AND LOSS ADJUSTMENT EXPENSES PAYABLE: Loss and loss adjustment expenses
payable represent the estimated liability on claims reported to the Company
plus reserves for claims incurred but not yet reported and the estimated
settlement expenses related to these claims. The liabilities for claims and
related settlement expenses are determined using "case basis" evaluations and
statistical analysis and represent estimates of the ultimate net cost of all
losses incurred through the balance sheet date. Although considerable
variability is inherent in such estimates, management believes that the
liabilities for unpaid claims and related settlement expenses are adequate.
The estimates are continually reviewed by management and, as adjustments to
these liabilities become necessary, such adjustments are reflected in current
operations.

REINSURANCE: Premiums and loss and loss adjustment expenses ceded to other
companies are reported as a reduction of premiums and loss and loss adjustment
expenses, respectively. Amounts applicable to reinsurance ceded for unearned
premium reserve and claim liabilities are reported as prepaid reinsurance
premiums and reinsurance receivable, respectively. Expense allowances received
in connection with reinsurance ceded are accounted for as reductions of the
related policy acquisition costs and are deferred and amortized accordingly.
Reinsurance premiums, commissions, and reserves related to assumed reinsurance
are accounted for on bases

36
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE A--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)

consistent with those used in accounting for the original policies issued and
the terms of the reinsurance contracts.

FEDERAL INCOME TAX: Current income taxes are based upon amounts estimated to
be payable or recoverable as a result of taxable operations for the current
year. Deferred income tax assets and liabilities are recognized based on the
differences between financial statements carrying amounts and income tax bases
of assets and liabilities using enacted income tax rates and laws.

EARNINGS PER COMMON SHARE: Primary earnings per common share are calculated
by dividing net income (after deducting preferred stock dividend requirements)
by the weighted average number of shares of common and common equivalent
shares outstanding during the period. Common equivalent shares include the
assumed exercise and conversion of stock options. Fully diluted earnings per
share are computed by dividing net income by the weighted average number of
shares of common and common equivalents and assumes conversion of the $3.875
Convertible Preferred Stock unless assumed conversion has the effect of
increasing earning per share.

STOCK-BASED COMPENSATION: The Company has adopted Statement of Financial
Accounting Standard No. 123 (SFAS 123), "Accounting for Stock-Based
Compensation," and has elected to utilize the provisions of APB Opinion No. 25
(APB 25) and related Interpretations in measuring stock-based compensation for
employees. While use of APB 25 is acceptable under the provisions of SFAS 123
the Company must provide all the disclosures required for SFAS 123's fair
value based method of accounting for stock based compensation. In addition,
SFAS 123 requires the Company to make pro forma disclosures of net income and
earnings per share as if the fair value method had been applied. The
disclosure provisions of SFAS 123 are effective for fiscal years beginning
after December 15, 1995.

NOTE B--ACQUISITIONS

PURCHASE OF INTEGON PREFERRED INSURANCE COMPANY: In June 1994, the Company
acquired AMSTATS Insurance Company for $8.2 million of cash and created
goodwill of $1.2 million. The company's name has since been changed to Integon
Preferred Insurance Company ("Integon Preferred"). The acquisition of Integon
Preferred was accounted for by the purchase method of accounting.

PURCHASE OF BANKERS AND SHIPPERS: In October 1994, the Company acquired
Bankers and Shippers, which changed its name to Integon National Insurance
Company, for a purchase price of $153.2 million. The transaction was financed
through public offerings of $75.0 million principal amount of 9.5% Senior
Notes due 2001, at a price of 99.947 to yield 9.51% and 1,437,500 shares of
$3.875 Convertible Preferred Stock with an issue price of $50.00 per share,
convertible at $19.05 per common share (collectively, the "Offerings"). The
transaction was accounted for by the purchase method of accounting.

37
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE B--ACQUISITIONS--(CONTINUED)

The purchase price paid by the Company was allocated to the assets acquired
and liabilities assumed in accordance with GAAP. Adjustments to the carrying
value of the net assets acquired to record them at their fair value at the
purchase date are as follows:

<TABLE>
<CAPTION>
PURCHASE
--------
<S> <C>
Net assets acquired, seller's basis.............................. $103,518
Less historical goodwill......................................... (9,812)
--------
93,706
Reinsurance transaction.......................................... 26
Fair value adjustments:
Goodwill....................................................... 57,890
Property and equipment......................................... 2,385
Deferred policy acquisition costs.............................. (10,966)
Value assigned purchased insurance in force.................... 13,381
Deferred tax benefit........................................... (2,615)
Capitalized software........................................... (1,528)
Assigned risk reserve.......................................... (700)
Employee and retiree benefits.................................. 1,621
--------
Net assets acquired, at fair value............................... $153,200
========
</TABLE>

The Company acquired the nonstandard private passenger automobile insurance
business (the "Acquired Business") of Bankers and Shippers and its subsidiary,
Bankers and Shippers Indemnity Company ("Bankers and Shippers Indemnity").
Simultaneously with the closing of the acquisition, Bankers and Shippers,
Bankers and Shippers Indemnity and a subsidiary of TravelersGroup
("Travelers") entered into reinsurance agreements, pursuant to which Bankers
and Shippers and Bankers and Shippers Indemnity ceded to Travelers all of the
risks of the business written by Bankers and Shippers and its subsidiaries
that were not related to the Acquired Business (the "Unrelated Business").
Bankers and Shippers transferred to Travelers the assets of the Unrelated
Business, together with a portion of the cash and invested assets of Bankers
and Shippers (the "B&S Portfolio"), which collectively was equal to the
reserves and other liabilities of the Unrelated Business, adjusted to take
into account a portion of the net unrealized losses in the B&S Portfolio as of
the closing of the acquisition.

The results of operations of Bankers and Shippers are included with the
results of the Company from October 18, 1994.

38
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE B--ACQUISITIONS--(CONTINUED)

The following information is presented assuming the acquisition of Bankers
and Shippers and the Offerings had occurred on January 1 of each year
presented (unaudited):

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------
1994 1993
------------ ------------
<S> <C> <C>
Total revenue..................................... $ 503,292 $ 397,399
Income from continuing operations................. 27,138 49,182
Net income........................................ 27,788 50,092
Primary earnings per share:
Income from continuing operations............... $ 1.37 $ 2.55
Net income...................................... 1.41 2.60
Weighted average common shares outstanding (in
thousands)..................................... 15,750 17,119
Fully diluted earnings per share:
Income from continuing operations............... $ 1.37 $ 2.35
Net income...................................... 1.41 2.39
Weighted average common shares outstanding (in
thousands)..................................... 15,750 20,892
</TABLE>

PURCHASE OF INTEGON SERVICES COMPANY: In December 1994, the Company acquired
Integon Services Company ("ISC") at a purchase price equal to the net book
value of ISC of approximately $3.0 million. Prior to such acquisition, ISC
provided administrative and financial services to the Company pursuant to an
agreement. See Note I.

NOTE C--DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

The following table presents the carrying amounts and estimated fair values
of financial instruments held by the Company at December 31, 1996 and 1995.
The fair value of a financial instrument is the amount at which the instrument
could be exchanged in a current transaction between willing parties, other
than in a forced or liquidation sale. The table excludes cash and cash
equivalents, short-term investments, reinsurance receivable, short-term debt,
net premiums due and uncollected, and net accounts and notes receivable, all
of which had fair values approximating carrying values.

FIXED MATURITIES AVAILABLE FOR SALE: In determining fair value for fixed
maturities, the Company obtains market value information through independent
pricing services. Market values are also obtained, to a lesser extent, from
the Company's investment advisors who utilize financial market data systems
and broker quotes to provide prices.

OTHER LONG-TERM INVESTMENTS: The fair values of some investments are
estimated based on quoted market prices for similar investments. For other
investments, a reasonable estimate of fair value is determined and is carried
at the lower of cost or estimated market value.

39
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE C--DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS--(CONTINUED)

NOTES PAYABLE--These estimates are based upon issues with similar current
yields and credit ratings.

<TABLE>
<CAPTION>
1996 1995
------------------- -------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
-------- ---------- -------- ----------
<S> <C> <C> <C> <C>
FINANCIAL ASSETS:
Fixed maturities available for sale
Unaffiliated....................... $521,311 $521,311 $481,944 $481,944
Other long-term investments......... 2,743 2,743 2,114 2,114
FINANCIAL LIABILITIES:
Notes payable....................... 150,760 150,867 150,807 159,427
</TABLE>

NOTE D--INVESTMENTS

Income by type of investment was as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Fixed maturities--unaffiliated.................. $ 30,784 $ 27,519 $ 16,387
Fixed maturities--affiliated.................... -- 801 1,000
Short-term investments and cash equivalents..... 2,636 2,651 1,323
Other long-term investments..................... 60 151 132
-------- -------- --------
Investment income............................. 33,480 31,122 18,842
Less investment expenses........................ 1,510 1,185 928
-------- -------- --------
Net investment income......................... $ 31,970 $ 29,937 $ 17,914
======== ======== ========
</TABLE>

The Company had $2.3 million of securities producing income at a lower than
contractual rate at December 31, 1996.

Net realized investment gains (losses) are summarized as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Fixed maturities:
Gains..................................... $ 7,310 $ 13,248 $ 2,416
Losses.................................... (4,530) (3,519) (4,063)
-------- -------- --------
2,780 9,729 (1,647)
Other long-term investments................. (69) (31) 537
-------- -------- --------
Net realized investment gains (losses)...... $ 2,711 $ 9,698 $ (1,110)
======== ======== ========
</TABLE>

The changes in net unrealized appreciation (depreciation) of fixed
maturities for the years ended December 31, 1996, 1995 and 1994 were
$(13,866), $25,262 and $(22,421), respectively.

40
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE D--INVESTMENTS--(CONTINUED)

The amortized cost and estimated market values of investments in fixed
maturities were as follows:

<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
December 31, 1996
Bonds and notes:
U. S. government obligations..... $ 97,801 $ 794 $1,238 $ 97,357
Obligations of states and
political subdivisions.......... 172,281 1,242 598 172,925
Foreign obligations.............. 11,422 119 -- 11,541
Public utilities................. 21,427 158 210 21,376
All other corporate bonds........ 152,825 795 2,179 151,440
Collateral-backed securities..... 66,696 414 438 66,672
-------- ------- ------ --------
$522,452 $ 3,522 $4,663 $521,311
======== ======= ====== ========
December 31, 1995
Bonds and notes:
U. S. government obligations..... $ 86,361 $ 2,849 $ -- $ 89,210
Obligations of states and
political subdivisions.......... 161,116 3,743 130 164,729
Foreign obligations.............. 30,788 1,405 -- 32,193
Public utilities................. 8,083 457 -- 8,540
All other corporate bonds........ 107,604 2,520 19 110,105
Collateral-backed securities..... 71,267 1,822 2 73,087
Redeemable preferred stocks........ 4,000 80 -- 4,080
-------- ------- ------ --------
$469,219 $12,876 $ 151 $481,944
======== ======= ====== ========
</TABLE>

The amortized cost and estimated market value of fixed maturities at
December 31, 1996, by contractual maturity, are shown below. Expected
maturities will differ from contractual maturities as borrowers may have the
right to call or prepay obligations with or without call or prepayment
penalties.

<TABLE>
<CAPTION>
ESTIMATED
AMORTIZED MARKET
COST VALUE
--------- ---------
<S> <C> <C>
Fixed maturities:
Due in one year or less.............................. $ 2,027 $ 2,038
Due after one year through five years................ 110,564 110,778
Due after five years through ten years............... 224,805 223,521
Due after ten years.................................. 118,360 118,302
-------- --------
Subtotal........................................... 455,756 454,639
Collateral-backed securities......................... 66,696 66,672
-------- --------
$522,452 $521,311
======== ========
</TABLE>

The Company maintains a diversified portfolio, and management believes a
concentration of credit risk does not exist. Cash equivalent investments are
primarily invested in mutual funds comprised of issues of the U.S. Treasury
with an average maturity of less than 90 days.

At December 31, 1996, fixed maturities with a carrying value of
approximately $23.1 million were on deposit with state regulatory authorities,
as required by law.

41
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE E--FEDERAL INCOME TAX

The provision for federal income taxes consists of the following:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Currently payable............................. $ 2,016 $ 15,328 $ 12,636
Deferred tax (benefit)........................ (4,098) 993 (2,984)
-------- -------- --------
$ (2,082) $ 16,321 $ 9,652
======== ======== ========
</TABLE>

The Company and its subsidiaries file a consolidated federal income tax
return.

The components of the provision for deferred income taxes were as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Unearned premium reserve.................... $ (5,139) $ (4,402) $ (2,133)
Deferred policy acquisition costs........... 3,043 3,468 1,805
Goodwill.................................... 620 2,132 132
Loss reserves............................... (1,861) (788) (829)
Provision for legal expenses................ 2 (348) 2
Reserve for rate dispute.................... (222) (280) --
Investments, net............................ (177) 210 (458)
Bad debt reserve............................ (725) 190 (542)
Adjustment for North Carolina Reinsurance
Facility................................... (93) 123 (55)
Other items, net............................ 454 688 (906)
-------- -------- --------
$ (4,098) $ 993 $ (2,984)
======== ======== ========
</TABLE>

A reconciliation between the federal income tax rate and the effective tax
rate is as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Statutory federal income tax rate........... 35% 35% 35%
Federal income tax (benefit) at statutory
rate....................................... $ (670) $ 18,529 $ 11,267
Tax-preferenced investment income........... (1,941) (2,942) (2,767)
Amortization of goodwill.................... 593 645 570
Other items, net............................ (64) 89 582
-------- -------- --------
Provision for federal income taxes.......... $ (2,082) $ 16,321 $ 9,652
======== ======== ========
</TABLE>

Federal income taxes recoverable of $3,948 have been included in other
assets at December 31, 1996. Federal income taxes payable of $7,730 have been
included in accrued expenses and other liabilities at December 31, 1995.

42
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE E--FEDERAL INCOME TAX--(CONTINUED)

Deferred income taxes reflect the net tax effects 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
comprising the Company's net deferred tax assets were as follows:

<TABLE>
<CAPTION>
DECEMBER 31,
-----------------
1996 1995
-------- --------
<S> <C> <C>
Deferred tax liabilities:
Reinsurance recoverable on unpaid losses................... $ 59,891 $ 63,705
Prepaid reinsurance premiums............................... 17,118 19,854
Deferred policy acquisition costs.......................... 19,287 16,245
Premiums due and uncollected............................... 4,886 6,288
Net unrealized appreciation of securities.................. -- 4,463
Goodwill................................................... 2,884 2,264
Other items, net........................................... 1,203 1,249
-------- --------
Total deferred tax liabilities........................... 105,269 114,068
-------- --------
Deferred tax assets:
Loss reserves.............................................. 72,214 74,168
Unearned premium reserve................................... 40,788 38,385
Accrued expenses and other liabilities..................... 4,886 6,288
Adjustment for North Carolina Reinsurance Facility......... 2,301 2,208
Postretirement benefits.................................... 1,289 1,512
Bad debt reserve........................................... 2,221 1,495
Investments, net........................................... 179 435
Net unrealized depreciation of securities.................. 377 --
Other items, net........................................... 3,058 2,511
-------- --------
Total deferred tax assets................................ 127,313 127,002
-------- --------
Net deferred tax assets...................................... $ 22,044 $ 12,934
======== ========
</TABLE>

For financial reporting purposes, a valuation allowance was not recognized
to offset the deferred tax assets. The Company believes it is more likely than
not that the deferred tax assets will be realized based on the available
evidence of the existence of sufficient taxable income in carryback and
carryforward periods under existing tax law.

NOTE F--DEBT

Notes payable consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------------------
1996 1995
------------------- -------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
-------- ---------- -------- ----------
<S> <C> <C> <C> <C>
9.5% Senior Notes due October 15, 2001,
$75,000 face amount, effective yield
9.51%; interest payable semiannually.. $ 74,970 $ 74,993 $ 74,965 $ 82,262
8% Senior Notes due August 15, 1999,
$75,000 face amount, effective yield
8.05%; interest payable semiannually.. 74,912 74,991 74,883 76,518
Promissory Note........................ 878 883 959 647
-------- -------- -------- --------
$150,760 $150,867 $150,807 $159,427
======== ======== ======== ========
</TABLE>

43
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE F--DEBT--(CONTINUED)

The estimated fair value of the notes payable is based upon issues with
similar current yields and credit ratings.

Short-term debt consists of borrowings under a revolving line of credit
("Credit Facility"). In 1996, the maximum amount of the Credit Facility was
increased from $25.0 million to $75.0 million and the term of the Credit
Facility was extended to 1999. The interest rate charged on the Credit
Facility is based on the bids of the participating lenders and in the case of
Eurodollar loans a margin percentage ranging from .55% to .675% is added. The
facility fee ranges from .20% to .35% of the total amount of the facility. The
weighted average interest rate of all outstanding loans at December 31, 1996
and 1995 was 6.37% and 6.93%, respectively. At December 31, 1996 and 1995,
borrowings under the Credit Facility were $44.0 million and $16.0 million,
respectively.

The Credit Facility contains certain covenants including a limitation on net
premiums written to statutory surplus of 3.25x and a maximum amount of debt to
total capitalization of 55%. As of December 31, 1996, these ratios were 3.248x
and 47.5%, respectively.

NOTE G--REINSURANCE

The Company is involved in the cession of insurance to other insurance
companies. Ceded unearned premiums and ceded loss and loss adjustment expenses
payable are reported in the financial statements as prepaid reinsurance
premiums and reinsurance receivable, respectively. To the extent of
reinsurance ceded, the Company has transferred insurance risk to the
reinsurer; however, the Company remains liable to the extent the reinsuring
companies cannot meet their obligations under these reinsurance treaties.
Failure of reinsurers to honor their obligations could result in losses to the
Company; consequently, allowances are established for amounts deemed
uncollectible. The Company evaluates the financial condition of its reinsurers
and monitors concentrations of credit risk to minimize its exposure to
significant losses from reinsurer insolvencies.

Under statute, the Company is required to participate in the North Carolina
Reinsurance Facility (the "NCRF"). The Company's insurance subsidiaries cede
business to the NCRF. The balance sheets reflect the following amounts related
to reinsurance ceded:

<TABLE>
<CAPTION>
DECEMBER 31,
-----------------
1996 1995
-------- --------
<S> <C> <C>
Reinsurance receivable:
NCRF.................................................. $160,809 $174,918
Other................................................. 24,268 24,908
-------- --------
$185,077 $199,826
======== ========
Prepaid reinsurance premiums:
NCRF.................................................. $ 43,689 $ 42,787
Other................................................. 5,220 13,939
-------- --------
$ 48,909 $ 56,726
======== ========
</TABLE>

44
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE G--REINSURANCE--(CONTINUED)

The impact of reinsurance on the income statements is shown below:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
Net premiums written:
Direct.................................. $ 935,011 $ 797,373 $ 545,483
Assumed................................. 40,138 21,777 3,413
Ceded--NCRF............................. (162,791) (168,339) (160,735)
Ceded--Other............................ (14,369) (30,364) (24,694)
--------- --------- ---------
Net..................................... $ 797,989 $ 620,447 $ 363,467
========= ========= =========
Premiums earned:
Direct.................................. $ 882,986 $ 778,570 $ 513,005
Assumed................................. 33,992 19,230 5,295
Ceded--NCRF............................. (161,889) (169,977) (156,981)
Ceded--Other............................ (23,087) (60,805) (26,859)
--------- --------- ---------
Net..................................... $ 732,002 $ 567,018 $ 334,460
========= ========= =========
Loss and loss adjustment expenses:
Direct.................................. $ 731,397 $ 590,215 $ 399,091
Assumed................................. 30,154 13,317 (338)
Ceded--NCRF............................. (148,576) (155,544) (155,154)
Ceded--Other............................ (27,264) (32,015) (8,151)
--------- --------- ---------
Net..................................... $ 585,711 $ 415,973 $ 235,448
========= ========= =========
</TABLE>

Under the NCRF's operating guidelines, all business ceded to it by member
companies is then assigned back to the member companies. Under North Carolina
law, member companies do not participate in any gain or loss resulting from
the NCRF's operations. Accordingly, the Company has not reflected
approximately $123,063, $112,691 and $110,746, for the periods ended December
31, 1996, 1995 and 1994, respectively, of assigned premiums earned and related
incurred losses and other expenses from the NCRF in the financial statements.

Adjustment services are provided on claims ceded to the NCRF for a fee
established by the NCRF. These fees are reflected, as earned, as a reduction
of loss adjustment expenses in the financial statements. Fees earned were
approximately $17,221, $18,075 and $18,279, for the periods ended December 31,
1996, 1995, and 1994, respectively.

North Carolina law provides that cumulative losses incurred by the NCRF are
recoverable either through direct surcharges to North Carolina motorists or by
assessments of the member insurers, which are subsequently recouped from
individual policyholders. The net reinsurance receivable on paid claims less
ceded premiums due from the NCRF was approximately $12,897 and $17,849, at
December 31, 1996 and 1995, respectively. As of September 30, 1996, the NCRF
had a cumulative operating surplus of $105,205.

45
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE H--LOSS AND LOSS ADJUSTMENT EXPENSES PAYABLE

The following table provides a reconciliation of beginning and ending loss
and loss adjustment expense reserve balances:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Gross reserves for losses and LAE at beginning of
year............................................. $416,740 $395,300 $255,364
Deduct: Reinsurance receivable.................... 181,952 193,519 147,882
Add: Bankers and Shippers net reserves at -- -- 75,804
acquisition date................................. -------- -------- --------
Reserves for losses and LAE, net of reinsurance
receivable....................................... 234,788 201,781 183,286
-------- -------- --------
Add: Provisions for losses and LAE for claims
occurring in:
Current year.................................... 583,782 419,143 249,688
Prior years..................................... 1,929 (3,170) (14,240)
-------- -------- --------
Total incurred losses and LAE................. 585,711 415,973 235,448
-------- -------- --------
Deduct: Loss and LAE for claims occurring in:
Current year.................................... 359,053 262,129 159,850
Prior years..................................... 154,531 120,837 57,103
-------- -------- --------
Total loss and LAE payments................... 513,584 382,966 216,953
-------- -------- --------
Reserves for losses and LAE at end of year, net of
reinsurance receivable........................... 306,915 234,788 201,781
Add: Reinsurance receivable....................... 171,116 181,952 193,519
-------- -------- --------
Gross reserves for losses and LAE at end of year.. $478,031 $416,740 $395,300
======== ======== ========
</TABLE>

NOTE I--TRANSACTIONS WITH RELATED PARTIES

ADVISORY SERVICES: Effective December 1, 1990, the Company entered into an
Investment Advisory Agreement with Head Asset Management L.L.C. ("Head Asset
Management"), an affiliate of Head & Company L.L.C. ("Head Company"), a
managing member of which is John C Head III, the Chairman of the Board and
Chief Executive Officer of the Company. In accordance with the terms of the
agreement, Head Asset Management provides investment advisory and related
services to the Company and its subsidiaries. In consideration of the services
provided by Head Asset Management, the Company pays Head Asset Management a
fee at the rate of $1.50 per $1,000 (15 basis points) on the market value of
all invested assets managed by Head Asset Management. The Investment Advisory
Agreement may be terminated upon 90 days prior written notice by either party.
For the years ended December 31, 1996, 1995 and 1994, the Company paid $779,
$685 and $409, respectively, in fees under the Investment Advisory Agreement.

Mr. Head and Edward W. Ross, former Vice Chairman of the Board of Directors,
provided advisory services to the Company pursuant to consulting agreements
entered into with the Company effective January 1, 1993 for which each
received $300 per year plus reimbursement of out-of-pocket expenses. These
agreements terminated on December 31, 1995. Pursuant to these agreements, the
Company paid Messrs. Head and Ross, respectively, as follows: 1995--$317 and
$300; and 1994--$314 and $309. In connection with the acquisition of Bankers
and Shippers by the Company, the Company paid an advisory fee to Head Company
in the amount of $620.

NOTES RECEIVABLE: To effect the restructuring, the Company loaned $10.0
million to Integon Life Corporation ("ILC"), an affiliate. ILC prepaid the
note in full in September 1995. Interest income of $.8 million and $1.0
million was recorded for the years ended December 31, 1995 and 1994,
respectively.

46
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE I--TRANSACTIONS WITH RELATED PARTIES--(CONTINUED)

SERVICES/LEASE AGREEMENTS: The Company was a party to a services agreement
with an affiliate, ISC, under which the Company purchased certain services
needed for operations. These services were charged based upon direct costs
incurred. The Company expensed $17.3 million for the year ended December 31,
1994 for these services. In December 1994, the Company purchased ISC from an
affiliate of John C Head III for approximately $3.0 million.

ISC was also a party to a services agreement with ILC pursuant to which ISC
provided the same type of services provided to the Company. Effective February
1, 1995, ISC and ILC mutually agreed to terminate such services agreement, and
the Company entered into a services agreement with ILC's subsidiary, Integon
Life Insurance Corporation ("ILIC"), pursuant to which ILIC purchases certain
administrative and financial services from the Company. Services provided
under the services agreement were charged based upon direct costs incurred.
ILIC paid approximately $2.6 million for such services in 1995. The services
agreement has been terminated.

In connection with the sale of ILC to PennCorp Financial Group, Inc.
("PennCorp"), upon recommendation of the Company's non-affiliated directors,
the Company entered into an intercompany agreement, dated January 20, 1995
(the "Intercompany Agreement"), with ILC, ILIC, ISC and PennCorp pursuant to
which the parties, among other things, made certain agreements regarding (i)
the payment and administration of certain employee-related liabilities and
(ii) payments in connection with any adjustments to the Company's or its
subsidiaries', on the one hand, and ILC's or its subsidiaries', on the other
hand, tax returns for the periods dating from the acquisition of the Company
in 1990 to the Restructuring.

On December 31, 1993, the Company purchased its home office buildings and
associated parking facilities as well as furniture and equipment from ILIC for
$38.0 million and $2.3 million, respectively. Simultaneously with the
acquisition, the Company entered into a five-year lease agreement with ILIC at
an annual rate of approximately $.7 million. The Company can terminate the
lease upon 180 days notice. Pursuant to the Intercompany Agreement, the
Company acknowledged that from the date of the acquisition by PennCorp, ILIC
will only be liable for rent under the lease agreement through January 25,
1997 and that such lease payments shall not exceed $1.3 million.

Effective December 31, 1993, the Company also entered into a one-year lease
agreement with ILIC, whereby ILIC agreed to lease certain furniture and
equipment for an amount equal to the sum of the depreciation charge of such
furniture and equipment plus interest on the remaining net book value of such
property. Absent termination, the agreement automatically renews annually by
either party. The agreement was terminated.

Effective August 31, 1994, one of the Company's non-insurance subsidiaries
purchased certain computer and telecommunications equipment from ILIC for its
net book value of approximately $3.2 million. Certain of the equipment
purchased was being used by the Company and leased from ILIC prior to the date
of purchase.

NOTE J--STOCKHOLDERS' EQUITY

COMMON STOCK: The amount of Common Stock authorized to be issued by the
Company is 55,000,000 shares, par value of $.01 per share, consisting of (i)
35,000,000 shares of Common Stock, and (ii) 20,000,000 shares of Class A Non-
Voting Common Stock.

PREFERRED STOCK: The Company is authorized to issue 2,000,000 shares of
preferred stock, $.01 par value, in series as designated by the Board of
Directors of the Company.

47
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE J--STOCKHOLDERS' EQUITY--(CONTINUED)

On October 12, 1994, the Company issued 1,437,500 shares of $3.875
Convertible Preferred Stock with an issue price of $50.00 per share. Dividends
at an annual rate of $3.875 per share are cumulative from the date of original
issue and are payable quarterly in arrears out of legally available funds on
each March 15, June 15, September 15 and December 15, when, as and if declared
by the Board of Directors. The liquidation value is $50 per share plus accrued
and unpaid dividends. The Convertible Preferred Stock is convertible into
Common Stock at any time at the option of the holder at an initial conversion
price of $19.05 per share, subject to adjustment in certain events. The
Convertible Preferred Stock may be redeemed at the option of the Company, in
whole or in part, after September 15, 1997 at $52.33 per share and thereafter
at prices that decline ratably annually to $50.00 per share after September
15, 2003, in each case plus accrued and unpaid dividends. The Convertible
Preferred Stock is non-voting, except that holders will be entitled to vote
separately as a class (together with stock ranking on a parity) to elect two
directors if the equivalent of six or more quarterly dividends (whether or not
consecutive) on the Convertible Preferred Stock are in arrears. These voting
rights will continue until the dividend arrearage on the Convertible Preferred
Stock and other stock ranking on a parity with it has been paid in full. See
Note Q.

NOTE K--RESTRICTIONS, COMMITMENTS AND CONTINGENCIES

RESTRICTIONS: The net assets of the Company's property and casualty
insurance subsidiaries available for distribution to the Company are limited
to the amounts that such assets, as determined in accordance with statutory
accounting practices, exceed minimum statutory capital requirements. Payment
of dividends is restricted and may be subject to approval by insurance
regulatory authorities. The maximum amount of dividends
that may be paid by the Company's insurance subsidiaries within any calendar
year without prior regulatory approval is the lesser of (a) 10% of the
policyholders' statutory surplus as of the preceding December 31 or (b) its
statutory net income for the preceding calendar year, less the amount of
dividends paid during the preceding twelve months.

Statutory surplus (capital and surplus) and statutory net income (including
Bankers and Shippers results for the full year 1994) as determined in
accordance with statutory accounting practices for the Company's insurance
subsidiaries are shown below:

<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Statutory surplus............................... $245,919 $226,832 $198,589
Statutory net income............................ 6,882 41,814 37,883
</TABLE>

Each of the Company's domestic insurance subsidiaries is required to
maintain minimum statutory capital and surplus of $4.5 million according to
North Carolina law. At December 31, 1996, capital and surplus of these
subsidiaries ranged from $7.6 million to $98.5 million. The maximum amounts of
dividends from the Domestic Insurance Subsidiaries that could be payable
during 1997 without the approval by the North Carolina Insurance Commissioner
is approximately $7.9 million. However, the payment of dividends is further
restricted by the terms of the Company's Credit Facility. See Note F.

COMMITMENTS AND CONTINGENCIES: The Company is party to various lawsuits
primarily incident to the ordinary course of its business that would not
materially affect the financial position and the results of operations of the
Company.

In July 1995, ILC, a former affiliate, paid the Company a nominal amount for
the Company to acquire the common stock of International. The Company is now
liable for any claims that may arise out of the business reinsured by
International. However, management believes that the transfer of International
will not have any material effect on the financial condition or results of
operations of the Company.

48
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE K--RESTRICTIONS, COMMITMENTS AND CONTINGENCIES--(CONTINUED)

The Company executed an indemnity letter in favor of certain former
subsidiaries that were sold in which the Company agreed to indemnify,
reimburse and hold harmless the subsidiaries for, among other things, (i)
certain employment related liabilities provided any such liability arises
solely on account of such subsidiaries' affiliation with the Company and its
subsidiaries prior to the Restructuring under the Internal Revenue Code of
1986, as amended, or the Employment Retirement Income Security Act of 1974, as
amended, and (ii) taxes assessed against such subsidiaries by reason of their
being a member of an affiliated group of which the Company was a member. As of
December 31, 1996, no amounts have been paid or requested to be paid under the
indemnity letter.

NOTE L--EMPLOYEE BENEFIT PLANS

RETIREE BENEFITS: Prior to December 31, 1994, the Company provided
postretirement life and health benefits for employees who retired at age 55 or
later with 10 or more years of service. Spouses, surviving spouses and
dependent children are eligible for life and health benefits.

Retired home office employees under age 65 are covered by a health
maintenance organization under which benefits are generally paid at 100% after
various co-payments. Retirees under this plan contribute to their own benefits
and their dependents' benefits.

Retired employees under age 65, outside the service area, are covered by a
self-insured indemnity plan which has a deductible with 80%-20% coinsurance.
Under this plan, retirees only contribute toward dependent coverage. Retired
employees 65 and older are covered under a self-insured type plan which has a
deductible with 80%-20% coinsurance that coordinates with Medicare. Under this
plan retirees only contribute toward dependent coverage.

Effective January 1, 1995, the Company amended its retirement benefit plan.
The Company will continue to provide medical and reduced life benefits to
current retirees and active, full-time employees who had attained age 55 with
10 years or more of service on or before December 31, 1994. Medical benefits
are provided until age 65 or covered by Medicare, whichever comes first, and
reduced life retirement benefits will continue to be available to active,
full-time employees who were at least age 45 on or before December 31, 1994.
No retiree medical and life insurance benefits will be available to employees
who did not attain age 45 on or before December 31, 1994 or who were hired
after December 31, 1994.

The plan amendment reducing the benefits available to employees who were at
least age 45 on or before December 31, 1994, resulted in the reduction of the
accumulated postretirement benefit obligation of $787, which is being
recognized as a reduction in benefit expense on a straight line basis over
periods of 6 to 7 years.

The curtailment of retiree benefits to employees under age 45 resulted in a
reduction to the accumulated postretirement benefit obligation of $973 which
was recognized in 1994 and is reflected in the accrued postretirement benefit
cost at December 31, 1994.

49
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE L--EMPLOYEE BENEFIT PLANS--(CONTINUED)

Postretirement benefits are accrued (but not funded) for eligible retirees.
The accrued postretirement benefit cost was as follows:

<TABLE>
<CAPTION>
DECEMBER 31,
--------------
1996 1995
------ ------
<S> <C> <C>
Accumulated postretirement benefit obligation
Retirees................................................. $1,739 $1,742
Fully eligible active plan participants.................. 812 756
Other active plan participants........................... 631 520
------ ------
Unfunded status............................................ 3,182 3,018
Unrecognized prior service cost............................ (562) (199)
Unrecognized net gain...................................... 2,014 2,008
------ ------
Accrued postretirement benefit cost........................ $4,634 $4,827
====== ======
</TABLE>

The components of the expense for postretirement benefits were as follows:

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Service costs.................................. $ 72 $ 59 $ 238
Interest costs................................. 221 210 250
Amortization of gain........................... (69) (34) --
Amortization of past service cost.............. (113) (33) --
-------- ------- -------
Net periodic costs............................. $ 111 $ 202 $ 488
======== ======= =======
</TABLE>

The postretirement benefit liability as of December 31, 1996 was calculated
assuming an annual trend rate in medical care inflation of 8.0% in 1997
grading down to 5.5% in 2000 and thereafter. The liability as of December 31,
1995 was calculated assuming an annual trend rate in medical care inflation of
9.0% in 1996, grading down to 5.5% in 2000 and thereafter. Mortality rates
were calculated by referencing the 1983 group annuity mortality table (set
back six years for females). Contribution increases were assumed to match the
rates of inflation for medical care. The net cost of the postretirement
benefits discounted value was based on a 7.5% rate in 1996 and 1995.

If the medical care inflation assumption increased by 1.0%, the accumulated
postretirement benefit obligation would increase $329 or 7.1% and the 1996
service and interest expense would increase $24 or 8.2%.

DEFERRED COMPENSATION: The liability for deferred compensation agreements
for certain officers was $488 and $548 as of December 31, 1996 and 1995,
respectively. Expenses for the periods ended December 31, 1996, 1995 and 1994,
were $27, $34 and $20, respectively.

RETIREMENT SAVINGS PLAN: All full-time, permanent employees who attain age
21 and complete one year of service are eligible to participate in the Integon
Employees' Retirement Savings Plan (the "Retirement Savings Plan"). Under the
Retirement Savings Plan, participants are eligible to reduce their
compensation by up to 10%, which is contributed to the trust established for
the Retirement Savings Plan. The Company matches 50% of contributions (up to
3% of employees' compensation). The matching contributions for the periods
ended December 31, 1996, 1995 and 1994 were $1,142, $923 and $492,
respectively. Participants are fully vested in all contributions.

50
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE L--EMPLOYEE BENEFIT PLANS--(CONTINUED)

The Retirement Savings Plan also provided for a discretionary Company profit
sharing contribution, which was determined annually by the Board of Directors
for the succeeding plan year. Participants vested 20% for each completed year
of service, or became 100% vested in the event of death, attainment of age 65,
disability or plan termination. Profit sharing contributions for the years
ended December 31, 1995 and 1994 were $1,012 and $488, respectively. Effective
January 1, 1996, the Retirement Savings Plan was amended to discontinue the
discretionary profit sharing contributions and it has been replaced by the
Employee Stock Ownership Plan.

EMPLOYEE STOCK OWNERSHIP PLAN: Effective January 1, 1996, all full-time,
permanent employees who attain age 21 and complete one year of service are
eligible to participate in the Integon Corporation Employee Stock Ownership
Plan ("ESOP"). Each year the Board of Directors will have the discretion to
set the amount for the Company to contribute.

The Company will make monthly contributions to the trust fund. The trust
will primarily buy shares of Integon Corporation Common Stock with the
Company's contribution. Allocations will be made to participants on a
quarterly basis. The discretionary contribution for 1996 has been set by the
Board of Directors at 2.75% of employees' eligible compensation. Participants
vest 20% for each completed year of service, or become 100% vested in the
event of death, attainment of age 65, permanent disability or plan
termination. The Company's contribution for the year ended December 31, 1996
was $1.2 million.

EMPLOYEE STOCK PURCHASE PLAN: In September 1995, the Company established the
Integon Corporation Employee Investment Program. The Program is designed to
provide employees with a convenient and economical way to purchase shares of
the Corporation's Common Stock, through payroll deduction, and to reinvest
their cash dividends in additional shares of Common Stock.

NOTE M--STOCK OPTION AND INCENTIVE PLANS

At December 31, 1996, the Company had two stock-based compensation plans,
which are described below. The Company applies APB Opinion No. 25 and related
Interpretations in accounting for these plans. Accordingly, no compensation
cost has been recognized for stock options issued under either the 1992 Stock
Option Plan or the Omnibus Long-Term Performance Incentive Compensation Plan.
Had compensation cost for stock based compensation under these two plans been
determined consistent with SFAS No. 123, the Company's net income and earnings
per share for the years ended December 31, 1996 and 1995 would have been
reduced to the pro forma amounts indicated below:

<TABLE>
<CAPTION>
1996 1995
----- -------
<S> <C> <C>
Net income:
As reported.............................................. $ 170 $33,995
Pro forma................................................ $(332) $33,836
Primary earnings per share:
As reported.............................................. $(.34) $ 1.81
Pro forma................................................ $(.37) $ 1.80
Fully diluted earnings per share:
As reported.............................................. $(.34) $ 1.73
Pro forma................................................ $(.37) $ 1.72
</TABLE>

1992 STOCK OPTION PLAN: The 1992 Stock Option Plan ("1992 Plan") is a fixed
stock option plan which was adopted in February 1992. Under the 1992 Plan, the
Company may grant options to its employees for up to 1,430,000 shares of
common stock. The exercise price of each option equals the closing market
price of the Company's common stock on the date of grant, and an option's
maximum term is ten years. The options become exercisable in 20% increments on
each anniversary date of the grant.

51
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE M--STOCK OPTION AND INCENTIVE PLANS--(CONTINUED)

The fair value of each option under the 1992 Plan is estimated on the date
of grant using the Black-Scholes option pricing model with the following
weighted average assumptions used for grants in 1996 and 1995, respectively:
dividend yield of 1.80% and 2.06%; expected volatility of 32.58% and 32.94%;
risk-free interest rates of 5.95% and 5.93%; and expected lives of 5 years.

A summary of the status of the Company's fixed stock option plan as of
December 31, 1996, 1995 and 1994 and changes during the years ended on those
dates is presented below:

<TABLE>
<CAPTION>
1996 1995 1994
-------------------- -------------------- ------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
FIXED OPTIONS SHARES PRICE SHARES PRICE SHARES PRICE
- ------------- --------- --------- --------- --------- ------- ---------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning
of year................ 1,172,160 $17.50 883,300 $17.52 653,900 $17.65
Granted................. 219,300 19.95 291,700 17.50 230,200 17.19
Exercised............... (20,600) 15.48 -- -- -- --
Forfeited............... (37,760) 19.75 (2,840) 21.43 (800) 30.25
--------- --------- -------
Outstanding at end of
year................... 1,333,100 17.88 1,172,160 17.50 883,300 17.52
========= ========= =======
Options exercisable at
year-end............... 685,600 416,592 238,140
Weighted average fair
value of options
granted during the
year................... $ 6.56 $ 5.64 $ --
</TABLE>

The following table summarizes information about fixed stock options
outstanding at December 31, 1996:

<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------- --------------------------
NUMBER WEIGHTED-AVG. NUMBER
OUTSTANDING REMAINING WEIGHTED-AVG. EXERCISABLE WEIGHTED-AVG.
RANGE OF EXERCISE PRICES AT 12/31/96 CONTRACTUAL LIFE EXERCISE PRICE AT 12/31/96 EXERCISE PRICE
- ------------------------ ----------- ---------------- -------------- ----------- --------------
<S> <C> <C> <C> <C> <C>
$15 to $21.............. 1,231,200 7.0 years $16.86 614,660 $15.81
$30 to $31.............. 101,900 6.4 30.19 70,940 30.18
</TABLE>

OMNIBUS LONG-TERM PERFORMANCE INCENTIVE COMPENSATION PLAN:

In February 1996, the Company adopted the Omnibus Long-Term Performance
Incentive Compensation Plan ("Omnibus Plan"), an incentive compensation plan
designed to attract and retain both key employees and non-employee directors.
The Omnibus Plan allows for the grant of incentive compensation awards for up
to 1,000,000 shares of common stock and is administered by the Compensation
and Personnel Committee ("Compensation Committee") of the Board of Directors.
The type of awards available under the Omnibus Plan in 1996 included: (i) non-
qualified stock options to key employees and non-employee directors, (ii)
performance awards to key employees payable in cash and/or performance
restricted stock, (iii) unit awards to key employees payable in unit
restricted stock or cash, (iv) common stock awards for non-employee directors,
and (v) common stock, deferral restricted stock and deferral stock options in
lieu of cash compensation for non-employee directors.

The non-qualified performance stock options become exercisable based on the
attainment of specific performance goals for performance cycles established by
the Compensation Committee. Options granted under this plan become fully
exercisable no later than 9 1/2 years after the effective date and expire 10
years after such effective date. The exercise price of options granted equals
the closing market price of the Company's common stock on the date of grant.

52
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE M--STOCK OPTION AND INCENTIVE PLANS--(CONTINUED)

The fair value of each option under the Omnibus Plan was estimated on the
date of grant using the Black-Scholes option pricing model with the following
assumptions: risk-free interest rate of 6.85%, dividend yield of 1.96%,
volatility of 32.83% and expected lives of 8.5 years.

A summary of the status of the performance stock options issued under the
Omnibus Plan as of December 31, 1996 and the changes during the year then
ended is presented below:

<TABLE>
<CAPTION>
1996
----------------
WEIGHTED-
AVERAGE
EXERCISE
FIXED OPTIONS SHARES PRICE
------------- ------ ---------
<S> <C> <C>
Outstanding at beginning of year......................... -- $ --
Granted.................................................. 93,475 18.38
Exercised................................................ -- --
Forfeited................................................ -- --
------ ------
Outstanding at end of year............................... 93,475 18.38
====== ======
Options exercisable at year-end.......................... --
Weighted average fair value of options granted during the
year.................................................... $ 7.76
</TABLE>

As of December 31, 1996, the 93,475 performance options outstanding under
the Omnibus Plan have an exercise price of $18.38 and a weighted average
remaining contractual life of 9.4 years. None of the performance options are
currently vested.

During 1996 and 1995, the Company also issued 74,000 and 98,000 unit awards,
respectively to key employees. The initial dollar value of all such awards was
$13.00. The Company established multipliers applicable to such units.
Multipliers are numbers used to obtain the final dollar value for a particular
unit award based on growth in the Company's net written premiums and average
combined operating ratio for the three year period commencing on the first day
of the fiscal year in which such unit is awarded and ending on the last day of
the second fiscal year following the year in which the unit is awarded. Due to
an amendment to the Omnibus Plan at the end of the measurement period, the
awards, if any, will be paid out to participants in the form of Common Stock
rather than restricted stock. Generally, if a participant terminates
employment prior to the end of the measurement period, the units awarded will
be forfeited. See Note Q.

Prior to being replaced by the Omnibus Plan, the 1992 Non-Employee Directors
Stock Plan provided for annual grants of shares of common stock equal to $10
in unrestricted shares and 1,650 restricted shares. During 1995 and 1994,
grants of restricted shares totaled 6,600 and 13,200, respectively. Under the
Omnibus Plan, each non-employee director is eligible to receive an annual
award of up to 1,650 shares of common stock. During 1996, non-employee
directors received 7,858 shares of common stock under this provision of the
Omnibus Plan.

NOTE N--LEASE COMMITMENTS

The Company has operating lease commitments with terms greater than one year
for equipment and office space, some with options to renew at the end of the
lease periods. The minimum rental commitments under all such noncancelable
leases at December 31, 1996 were as follows: 1997--$3.0 million; 1998--$2.0
million; 1999--$1.3 million; 2000--$.1 million and 2001--$.1 million. Total
rental expense incurred by the Company for 1996, 1995 and 1994 was $2.9
million, $4.3 million and $2.9 million, respectively.

53
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE O--DISCONTINUED OPERATIONS

DISCONTINUED OPERATIONS CONSISTS OF:

AUTOMOBILE WARRANTY BUSINESS: In 1988, the Company decided to discontinue
its automobile warranty line of business written through Integon
International, Ltd. ("International"), a subsidiary of the Company, that was
sold to an affiliate of John C Head III. In connection with the sale of
International, the Company guaranteed to fund up to $8.1 million of claims
related to this business. Reevaluations by management of the estimated
ultimate liabilities associated with the guarantee resulted in reductions of
the liability by $.9 million, ($.6 million after federal tax benefit), and
$1.0 million ($.7 million after federal tax benefit) in 1995 and 1994,
respectively.

LITIGATION SETTLEMENT: On April 27, 1995, Integon Corporation paid to
Southmark Corporation $3.8 million ($3.2 million after federal tax benefit)
pursuant to a settlement of all claims and counterclaims asserted in a legal
action commenced by Southmark Corporation against Integon Corporation on
December 3, 1993 in the United States District Court for the Southern District
of New York relating to the tax treatment of International. Pursuant to the
terms of the settlement, the Southmark action has been dismissed with
prejudice.

The reductions in the automobile warranty liability and resulting gains and
the litigation settlement and resulting loss were previously reported as
extraordinary items. In September 1997, the Company determined that it should
have reported these items as discontinued operations and changed the caption
accordingly. This change resulted in a change in financial statement caption
only and did not result in a change in income from continuing operations or in
net income.

NOTE P--QUARTERLY FINANCIAL DATA (UNAUDITED)

<TABLE>
<CAPTION>
1996 1995
----------------------------------- ------------------------------------
1ST 2ND 3RD 4TH 1ST 2ND 3RD 4TH
-------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues................ $178,820 $191,276 $205,121 $208,194 $142,655 $152,201 $162,599 $170,003
Income (loss) from
continuing operations.. 3,385 8,297 4,871 (16,383) 7,044 9,120 9,910 10,545
Loss of discontinued
operations............. -- -- -- -- (2,624) -- -- --
Net income (loss)....... 3,385 8,297 4,871 (16,383) 4,420 9,120 9,910 10,545
Primary per share
information:
Income (loss) from
continuing
operations............ .13 .44 .22 (1.13) .36 .49 .55 .58
Loss of discontinued
operations............ -- -- -- -- (.17) -- -- --
Net income (loss)...... .13 .44 .22 (1.13) .19 .49 .55 .58
Fully diluted per share
information:
Income from continuing
operations............ .13 .42 .22 (1.13) .36 .46 .51 .53
Loss of discontinued
operations............ -- -- -- -- (.17) -- -- --
Net income (loss)...... .13 .42 .22 (1.13) .19 .46 .51 .53
Cash dividends paid per
common share.......... .09 .09 .09 .09 .09 .09 .09 .09
Market price:(1)
High................... 22.13 20.50 21.25 20.63 14.75 17.38 18.13 21.25
Low.................... 19.13 17.25 18.38 16.00 11.75 13.13 15.88 15.88
</TABLE>
- --------
(1) The Company's Common Stock trades on the New York Stock Exchange. The
number of Common Stock shareholders of record at January 24, 1997 was 264.

54
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES

NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

NOTE Q--SUBSEQUENT EVENTS

STOCKHOLDERS RIGHTS PLAN:

On January 22, 1997, the Board of Directors adopted a Shareholder Rights
Plan (the "Rights Plan") and declared a dividend of one preferred share
purchase right with respect to each share of common stock outstanding at the
close of business on February 11, 1997. Each right entitles the holder to
purchase one-thousandth of a share of a newly authorized series of the
Company's preferred stock at a purchase price of $70. Each one-thousandth of a
share of such preferred stock is intended to be the economic and voting
equivalent of one share of common stock. The rights are not presently
exercisable, and initially will be evidenced by the Company's common stock
certificates and will trade automatically with the common stock.

In the event any person or group commences a tender or exchange offer that
if consummated would result in such person or group becoming the beneficial
owner of 20 percent or more of Integon's common stock, then after a specified
period separate rights certificates will be distributed and each right will
entitle its holder to purchase one-thousandth of a share of such preferred
stock at a purchase price of $70.

In the event a person or group acquires beneficial ownership of 20 percent
or more of the Company's common stock, then after a specified period each
right (other than Rights beneficially owned by such person or group, which
become void) will entitle its holder to purchase, at the purchase price,
shares of the Company's common stock, (or, at the option of the Board, such
preferred stock) having a market value equal to twice the purchase price.
Additionally, if after any such person or group acquires beneficial ownership
of 20 percent or more of Integon's common stock, the Company is acquired in a
merger or other business combination or 50 percent or more of its consolidated
assets or earning power are sold, each right (other than rights beneficially
owned by such person or group, which will have become void) will entitle its
holder to purchase, at the purchase price, shares of common stock of the
person or group with whom the Company engaged in such transaction having a
market value equal to twice the purchase price.

Under certain circumstances, the Company may, at its option, exchange for
each outstanding right (other than voided rights) one share of common stock or
one-thousandth of a share of such preferred stock. The Company may also, at
its option, redeem the rights at a price of $.01 per right at any time prior
to a specified period of time after a person or group has become the
beneficial owner of 20 percent or more of its common stock.

The rights will expire on January 22, 2007, unless earlier redeemed.

OMNIBUS LONG-TERM PERFORMANCE INCENTIVE COMPENSATION PLAN:

In January 1997, the Omnibus Plan was amended and restated. The Amended and
Restated Omnibus Plan provides for (i) non-qualified stock options, (ii)
performance awards payable in cash or deferred compensation that is
denominated in Common Stock share units or both and (iii) units to key
employees payable in cash and common stock. As amended, any future stock
options granted under the Omnibus Plan will be subject to terms and conditions
set by the Compensation and Personnel Committee of the Board of Directors. All
stock options will expire no later than 10 years after the effective date of
the option. Unit awards granted under the Amended and Restated Omnibus Plan
will be valued annually and paid at the end of the three year cycle rather
than valued using a three year average, and restricted stock will no longer be
granted under the Omnibus Plan. Common Stock will be granted in lieu of
restricted stock.

55
<PAGE>

INTEGON CORPORATION AND SUBSIDIARIES NOTES TO FINANCIAL STATEMENTS --
(CONTINUED)

SCHEDULE I -- SUMMARY OF INVESTMENTS

INTEGON CORPORATION

DECEMBER 31, 1996
(IN THOUSANDS)

<TABLE>
<CAPTION>
AMORTIZED MARKET CARRYING
COST VALUE VALUE
--------- -------- --------
<S> <C> <C> <C>
Fixed maturities
Bonds and notes
U.S. government obligations...................... $ 97,801 $ 97,357 $ 97,357
Obligations of states and political subdivisions. 172,281 172,925 172,925
Foreign obligations.............................. 11,422 11,541 11,541
Public utilities................................. 21,427 21,376 21,376
All other corporate bonds........................ 152,825 151,440 151,440
Collateral-backed securities..................... 66,696 66,672 66,672
-------- -------- --------
Total fixed maturities........................... 522,452 521,311 521,311
-------- -------- --------
Other long-term investments........................ 2,679 2,743 2,743
Cash and cash equivalents.......................... 43,838 43,838 43,838
-------- -------- --------
Total.......................................... $568,969 $567,892 $567,892
======== ======== ========
</TABLE>

56
<PAGE>

SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT

INTEGON CORPORATION (PARENT COMPANY)

BALANCE SHEETS

DECEMBER 31,
(IN THOUSANDS)

<TABLE>
<CAPTION>
1996 1995
ASSETS: -------- --------
<S> <C> <C>
Fixed maturities available for sale-at market............ $ -- $ 1,031
Other long-term investments.............................. 883 964
Cash and cash equivalents................................ 1,355 677
Investment in subsidiaries............................... 370,739 358,054
Furniture and equipment.................................. 659 557
Goodwill................................................. 51,233 53,724
Deferred income taxes.................................... 1,807 2,224
Other assets............................................. 4,866 4,972
-------- --------
$431,542 $422,203
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY:
LIABILITIES:
Accrued expenses and other liabilities................. $ 21,391 $ 20,549
Short-term debt........................................ 44,000 16,000
Notes payable.......................................... 150,760 150,807
-------- --------
216,157 187,356
-------- --------
STOCKHOLDERS' EQUITY:
Preferred stock........................................ 14 14
Common stock........................................... 173 173
Additional paid-in capital............................. 147,891 147,296
Net unrealized appreciation (depreciation) of securi-
ties.................................................. (700) 8,288
Retained earnings...................................... 105,834 116,897
Treasury stock......................................... (37,821) (37,821)
-------- --------
215,391 234,847
-------- --------
$431,542 $422,203
======== ========
</TABLE>

57
<PAGE>

SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT -- (CONTINUED)

INTEGON CORPORATION (PARENT COMPANY)

STATEMENTS OF OPERATIONS

(IN THOUSANDS)

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------
1996 1995 1994
-------- ------- -------
<S> <C> <C> <C>
REVENUES:
Dividends -- affiliated.......................... $ 5,208 $19,644 $20,800
Net investment income............................ 317 1,110 1,405
Net realized investment gains (losses)........... (34) 210 106
Other income..................................... 126 956 177
-------- ------- -------
5,617 21,920 22,488
-------- ------- -------
EXPENSES:
Operating and administrative..................... 5,511 4,720 6,065
Interest expense................................. 15,021 14,510 8,433
Amortization of goodwill......................... 1,544 1,563 1,569
-------- ------- -------
22,076 20,793 16,067
-------- ------- -------
INCOME (LOSS) BEFORE FEDERAL INCOME TAXES, EQUITY
IN EARNINGS OF SUBSIDIARIES AND INCOME (LOSS) OF
DISCONTINUED OPERATIONS......................... (16,459) 1,127 6,421
Federal income tax benefit......................... (6,272) (6,360) (4,250)
INCOME (LOSS) BEFORE EQUITY IN EARNINGS OF
SUBSIDIARIES AND INCOME (LOSS) OF DISCONTINUED
OPERATIONS...................................... (10,187) 7,487 10,671
Equity in earnings of subsidiaries (net of
dividends to parent of $5,208, $19,644 and 10,357 29,132 11,867
$20,800)........................................ -------- ------- -------
INCOME BEFORE INCOME (LOSS) OF DISCONTINUED
OPERATIONS...................................... 170 36,619 22,538
Income (loss) of discontinued operations........... -- (2,624) 650
-------- ------- -------
NET INCOME......................................... $ 170 $33,995 $23,188
======== ======= =======
</TABLE>

58
<PAGE>

SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT -- (CONTINUED)

INTEGON CORPORATION (PARENT COMPANY)

STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------
1996 1995 1994
-------- ------- ---------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income..................................... $ 170 $33,995 $ 23,188
Equity in earnings of subsidiaries............. (15,565) (48,776) (32,667)
Net realized investment gains (losses)......... 37 (210) (106)
Provision for deferred federal income tax
expense (benefit)............................. 1,378 305 (475)
Amortization of goodwill and deferred loan
costs......................................... 1,946 1,999 1,790
Depreciation of furniture and equipment........ -- 131 615
Net amortization of discounts and premium...... 257 (159) 56
Net (increase) decrease in other assets and 781 (5,459) 5,066
liabilities................................... -------- ------- ---------
Net cash flows used in operating activities.. (10,996) (18,174) (2,533)
-------- ------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Dividends from subsidiaries.................... 5,208 19,644 20,800
Investment securities sold..................... 1,035 10,431 5,012
Investment securities matured, called, or
redeemed.................................... -- 350 500
Investment in subsidiaries..................... (27,461) (661) (164,620)
Furniture and equipment sold (purchased)....... (1,123) 2,536 (1,493)
Net decrease in short-term investments......... -- -- 2,000
Other.......................................... 769 9 --
-------- ------- ---------
Net cash flows provided by (used in) $(21,572) $32,309 $(137,801)
investing activities...................... -------- ------- ---------
</TABLE>

59
<PAGE>

SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT

INTEGON CORPORATION (PARENT COMPANY)

STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase in book cash overdrafts.................. $ 185 $ 2,515 $ --
Increase (decrease) in short-term debt............ 28,000 (5,000) 4,951
Common stock dividends............................ (5,933) (5,765) (5,760)
Preferred stock dividends......................... (5,570) (5,570) (882)
Issuance (repayment) of debt...................... (46) (36) 74,960
Contribution (purchase) of treasury stock......... 16,610 -- (3,323)
Issuance of preferred stock....................... -- -- 68,655
------- ------- -------
Net cash flows provided by (used in) financing
activities..................................... 33,246 (13,856) 138,601
------- ------- -------
Net increase (decrease) in cash and cash equiva-
lents.......................................... 678 279 (1,733)
Cash and cash equivalents at beginning of peri-
od............................................. 677 398 2,131
------- ------- -------
Cash and cash equivalents at end of period...... $ 1,355 $ 677 $ 398
======= ======= =======
SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION:
Cash paid during the period for:
Interest........................................ $14,577 $14,055 $ 6,687
Federal income taxes............................ 12,875 11,700 18,517
</TABLE>

SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND FINANCING ACTIVITIES:

Increases in common stock and additional paid-in capital of $522, $146 and
$731 in 1996, 1995 and 1994, respectively, were due to grants of common stock
to non-employee directors.

Dividends from subsidiaries and furniture and equipment purchased includes
$244 in leasehold improvements for the year ended December 31, 1995.

Investment in subsidiaries includes $16,610 of treasury stock contributed to
the Company's subsidiaries in 1996.

60
<PAGE>

SCHEDULE II -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT -- (CONTINUED)

INTEGON CORPORATION (PARENT COMPANY)

NOTES TO CONDENSED FINANCIAL INFORMATION

The condensed financial information of Integon Corporation (Parent Company)
should be read in conjunction with the financial statements of Integon
Corporation and subsidiaries and the notes thereto incorporated elsewhere
herein by reference.

Investment in subsidiaries is accounted for by using the equity method of
accounting.

During 1994, the Company purchased 177,800 shares of its Common Stock at a
cost of $3.3 million and are reflected as Treasury Stock on the Company's
balance sheet. During 1996, the Company contributed 880,000 shares of treasury
stock to its subsidiaries. As of December 31, 1996 and 1995, the Company's
balance sheet reflected Treasury Stock of $37.8 million.

61
<PAGE>

SCHEDULE IV -- REINSURANCE

INTEGON CORPORATION

(IN THOUSANDS)

<TABLE>
<CAPTION>
PERCENT OF
AMOUNT
GROSS ASSUMED
PREMIUM CEDED ASSUMED NET TO NET
-------- -------- ------- -------- ----------
<S> <C> <C> <C> <C> <C>
For the year ended December 31,
1996........................... $935,011 (177,160) 40,138 $797,989 5.0%
For the year ended December 31,
1995........................... $797,373 (198,703) 21,777 $620,447 3.5%
For the year ended December 31,
1994........................... $545,483 (185,429) 3,413 $363,467 .9%
</TABLE>

62
<PAGE>

SCHEDULE V -- VALUATION AND QUALIFYING ACCOUNTS

INTEGON CORPORATION

(IN THOUSANDS)

<TABLE>
<CAPTION>
CHARGED
BEGINNING TO CHARGE ENDING
BALANCE EXPENSE OFFS BALANCE
--------- ------- ------ -------
<S> <C> <C> <C> <C>
As of December 31, 1996 and for the year
ended:
Allowance for doubtful accounts for financed
contracts.................................. $ 850 9,065 8,803 $1,112
Allowance for doubtful accounts for premiums
due and uncollected........................ $3,591 19,834 18,143 $5,282
As of December 31, 1995 and for the year
ended:
Allowance for doubtful accounts for financed
contracts.................................. $ 847 8,005 8,002 $ 850
Allowance for doubtful accounts for premiums
due and uncollected........................ $4,092 9,145 9,646 $3,591
As of December 31, 1994 and for the year
ended:
Allowance for doubtful accounts for financed
contracts.................................. $ 563 7,518 7,234 $ 847
Allowance for doubtful accounts for premiums
due and uncollected........................ $2,705
Add Bankers and Shippers balance at acqui- 125
sition date.............................. ------
Total................................... $2,830 8,710 7,448 $4,092
</TABLE>

63
<PAGE>

SCHEDULE VI--SUPPLEMENTAL INFORMATION

INTEGON CORPORATION
(IN THOUSANDS)

<TABLE>
<CAPTION>
LOSS AND LOSS
ADJUSTMENT EXPENSES
INCURRED RELATED TO
--------------------
RESERVES
FOR
UNPAID AMORTIZATION
DEFERRED LOSS AND OF DEFERRED PAID LOSSES
POLICY LOSS NET POLICY AND LOSS NET
ACQUISITION ADJUSTMENT UNEARNED EARNED INVESTMENT CURRENT PRIOR ACQUISITION ADJUSTMENT PREMIUM
COSTS EXPENSES PREMIUMS PREMIUMS INCOME YEAR YEARS COSTS EXPENSES WRITTEN
----------- ---------- -------- -------- ---------- ---------- --------- ------------ ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
As of December
31, 1996
and for the
year ended..... $55,106 $478,031 $364,081 $732,002 $31,970 $ 583,782 $ 1,929 $140,526 $513,584 $797,989
As of December
31, 1995
and for the
year ended..... $46,413 $416,740 $305,911 $567,018 $29,937 $ 419,143 $ (3,170) $101,952 $382,966 $620,447
As of December
31, 1994
and for the
year ended..... 36,507 395,300 284,829 334,460 17,914 249,688 (14,240) 63,188 216,953 363,467
</TABLE>

64
<PAGE>

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

Not applicable.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information required by Item 10 is incorporated by reference from a
definitive proxy statement to be filed with the Securities and Exchange
Commission within 120 days of the end of the fiscal year covered by this
report.

ITEM 11. EXECUTIVE COMPENSATION

The information required by Item 11 is incorporated by reference from a
definitive proxy statement to be filed with the Securities and Exchange
Commission within 120 days of the end of the fiscal year covered by this
report.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information required by Item 12 is incorporated by reference from a
definitive proxy statement to be filed with the Securities and Exchange
Commission within 120 days of the end of the fiscal year covered by this
report.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

TRANSACTIONS WITH DIRECTORS, OFFICERS AND AFFILIATES OF HEAD & COMPANY L.L.C.

Effective as of December 1, 1990, the Company entered into an Investment
Advisory Agreement with Head Asset Management L.L.C. ("Head Asset
Management"), an affiliate of Head Company and John C Head III pursuant to
which Head Asset Management manages the Company's investment assets and
provides investment advisory related services to the Company and its
subsidiaries. The fee paid by the Company to Head Asset Management for
services rendered pursuant to the Investment Advisory Agreement is an annual
fee at the rate of $1.50 per $1,000 (15 basis points) on the market value of
all invested assets managed by Head Asset Management in the Company's
portfolio. The fee is payable in quarterly installments in advance. The
Investment Advisory Agreement may be terminated upon 90 days' prior written
notice by either party. If such agreement is terminated, the Company believes
that it could obtain similar services on comparable terms. The Company paid
approximately $778,729 in fees under the Investment Advisory Agreement in
1996.

On March 1, 1996, the Company made an interest-free loan to Mr. Yorke in the
amount of $550,000 in connection with his relocation. The loan was repaid in
full on August 9, 1996.

In July 1996, the Company entered into an Information Products Agreements
with Equifax Services, Inc. for certain products and services. Mr. Smith is
the President of Equifax Services, Inc. The Company paid approximately $5.0
million for services rendered by Equifax Services, Inc. during 1996. The term
of the agreement is for two years and will expire on June 30, 1998. Either
party may terminate the agreement in the event of a material breach upon 60
days' notice.

CONFLICTS OF INTEREST

Conflicts of interest between or among the Company and Head Company and
their affiliates, respectively could arise with respect to transactions
involving business dealings between such parties, potential acquisitions of
businesses or properties and other matters. Because Head Company and certain
of its affiliates specialize in making investments in, and providing services
to, insurance companies and related concerns, particular conflicts may arise
between the Company and Head Company and its affiliates with respect to
insurance-related acquisitions and investment opportunities.

The Company has not instituted a formal plan or arrangement to address
potential conflicts of interest that may arise between or among the Company
and Head Company and their affiliates. However, the Company intends to
continue to seek approval from its non-affiliated independent directors on any
business transactions between the Company and such affiliates. Directors of
the Company have a fiduciary obligation to act in the best interest of the
Company's stockholders and to deal fairly and in good faith with the Company.

65
<PAGE>

PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a) Documents filed as part of this report.

<TABLE>
<CAPTION>
PAGE
REFERENCE
---------
FORM 10-K
---------
1. Financial Statements
<S> <C>
Independent Auditors' Report........................................ 28
Balance Sheets...................................................... 29
Statements of Operations............................................ 30
Statements of Cash Flows............................................ 31
Statements of Stockholders' Equity.................................. 33
Notes to Financial Statements....................................... 35

2. Financial Statement Schedules
Independent Auditors' Report........................................ 27
Schedule I -- Summary of Investments................................ 57
Schedule II -- Condensed Financial Information of Registrant........ 58 - 62
Schedule IV -- Reinsurance.......................................... 63
Schedule V -- Valuation and Qualifying Accounts..................... 64
Schedule VI -- Supplemental Information............................. 65
</TABLE>

All other financial statement schedules are omitted as the required
information is inapplicable or the information required therein is included
elsewhere in the financial statements or notes thereto or in another schedule.

3. Exhibits

<TABLE>
<CAPTION>
FILED HEREWITH (*),
NONAPPLICABLE (NA), OR
INCORPORATED BY REFERENCE
FROM
--------------------------
INTEGON
EXHIBIT REGISTRATION NO.
NUMBER EXHIBIT OR REPORT
------- ------- ------------------
<C> <S> <C> <C>
2.1 Stock Purchase Agreement dated July 27,
1994 between Integon Corporation and The 1994 Third Quarter
Travelers Indemnity Company.............. 2.1 Form 10-Q
2.2 Stock Purchase Agreement dated as of
October 21, 1994 between Integon
Corporation and Integon Partners II L.P.,
as amended December 15, 1994............. 2.2 1994 Form 10-K
3.1 Certificate of Incorporation of the
Company currently in effect, and all
amendments thereto....................... 4.1 33-58022
3.2 By-laws of the Company, as currently in
effect................................... 4.2 33-93744
4.1 Specimen Common Stock Certificate........ 4.1 33-42463
4.2 Indenture dated as of August 15, 1993
between the Company and The First
National Bank of Chicago, as Trustee,
relating to the Company's 8% Senior Notes
due 1999, including form of such Notes... 4.2 33-54676
4.3 Indenture dated October 15, 1994 between
the Company and the First National Bank
of Chicago, as Trustee, relating to the 1994 Third Quarter
Company's 9 1/2% Senior Notes due 2001... 4.2 Form 10-Q
4.4 Certificate of Designation of the 4.1 1994 Third Quarter
Company's Preferred Stock................ Form 10-Q
</TABLE>

66
<PAGE>

<TABLE>
<CAPTION>
FILED HEREWITH (*),
NONAPPLICABLE (NA), OR
INCORPORATED BY REFERENCE FROM
---------------------------------
INTEGON
EXHIBIT REGISTRATION NO.
NUMBER EXHIBIT OR REPORT
------- ---------------------------------
<C> <S> <C> <C>
10.1 Investment Advisory Agreement dated
as of December 1, 1990 between the
Company and Head Asset Management
L.P. ............................... 10.9 33-42463
10.2 Indemnity and Guaranty dated
September 1, 1985 between Old
Integon and American Security
Insurance Company (assumed by the
Company)............................ 10.15 33-42463
+10.3 Form of Employee Deferred
Compensation Agreement entered into
by Old Integon (assumed by the
Company) and each of James T. Lambie
and Arthur S. Lyon, Jr. ............ 10.31 33-42463
+10.4 Integon Corporation Severance
Policy, as amended.................. 10.19 1992 Form 10-K
+10.5 1992 Stock Option Plan, as amended.. 10.8 1995 Form 10-K
10.6 Tax Allocation Agreement dated as of
August 1, 1990 among the Company and
its subsidiaries.................... 10.45 33-42463
10.7 Amendment to Tax Allocation
Agreement among the Company and its
subsidiaries ....................... 10.30 1991 Form 10-K
10.8 Management Agreement among the
Company and its subsidiaries........ 10.31 1991 Form 10-K
10.9 Amendment No. 1 to Investment
Advisory Agreement dated as of
December 1, 1990 between the Company
and Head Asset Management L.P. ..... 10.40 1991 Form 10-K
10.10 Integon Corporation Relocation
Policy.............................. 10.48 1991 Form 10-K
10.11 Amendment No. 1 to Management
Agreement dated November 13, 1992
among the Company and its
subsidiaries........................ 10.64 33-54676
10.12 Amendment No. 2 to Investment
Advisory Agreement dated as of
December 1, 1990 between the Company 1993 Second Quarter
and Head Asset Management L.P....... 19.1 Form 10-Q
10.13 Addendum to Tax Allocation Agreement
dated as of August 1, 1990 and
amended on February 13, 1992........ 10.41 1993 Form 10-K
10.14 Addendum to Management Agreement
dated as of February 13, 1992 and
amended November 13, 1992........... 10.42 1993 Form 10-K
10.15 Indemnity Letter between the Company
and Integon Partners II dated
February 13, 1992................... 10.1 33-82766
10.16 Agreement between Jupiter
Industries, John C Head III and
Madie Ivy........................... 10.52 1993 Form 10-K
10.17 Amended and Restated Credit
Agreement between the Company and
The Chase Manhattan Bank, N.A., as
Agent dated October 12, 1993 and
amended and restated as of July 26, 1996 Second Quarter
1996................................ 10.1 Form 10-Q
10.18 Amendment to Management Agreement
dated February 13, 1992 and amended
December 31, 1993................... 10.52 1994 Form 10-K
10.19 Amendment to Management Agreement
dated February 13, 1992 and amended
June 3, 1994........................ 10.53 1994 Form 10-K
10.20 Amendment to Management Agreement
dated February 13, 1992 and amended
October 18, 1994.................... 10.54 1994 Form 10-K
10.21 Amendment to Tax Allocation
Agreement dated August 1, 1990 and
amended December 31, 1993........... 10.55 1994 Form 10-K
10.22 Amendment to Tax Allocation
Agreement dated August 1, 1990 and
amended June 3, 1994................ 10.56 1994 Form 10-K
</TABLE>

67
<PAGE>

<TABLE>
<CAPTION>
FILED HEREWITH (*),
NONAPPLICABLE (NA), OR
INCORPORATED BY REFERENCE
FROM
---------------------------
INTEGON
EXHIBIT REGISTRATION NO.
NUMBER EXHIBIT OR REPORT
------- ------- -------------------
<C> <S> <C> <C>
10.23 Amendment to Tax Allocation Agreement
dated August 1, 1990 and amended October
18, 1994................................ 10.57 1994 Form 10-K
10.24 Assignment and Assumption Agreement
dated January 20, 1995 between the
Company and Integon Life Corporation.... 10.59 1994 Form 10-K
10.25 Intercompany Agreement dated January 20,
1995 between PennCorp Financial Group,
Inc., the Company, Integon Life
Corporation, Integon Life Insurance
Corporation and Integon Services
Company................................. 10.60 1994 Form 10-K
10.26 Registration Rights Agreement dated
October 17, 1994 between the Company and
Head Insurance Investors L.P............ 10.64 1994 Form 10-K
10.27 Letter dated January 20, 1995 from the
Company to Integon Life Corporation
regarding the Allocation Agreement dated
March 11, 1993.......................... 10.65 994 Form 10-K
10.28 Letter Agreement dated July 25, 1995 by
and among Integon Corporation, Integon
Life Corporation and PennCorp Financial 1995 Second Quarter
Group, Inc.............................. 10.2 Form 10-Q
10.29 Amendment to Intercompany Agreement
dated September 29, 1995 between
PennCorp Financial Group, Inc., the
Company, Integon Life Insurance
Corporation, Integon Services Company 1995 Third Quarter
and Salem Holdings Corporation.......... 10.1 Form 10-K
+10.30 Amended and Restated Integon Corporation
Omnibus Long-Term Performance Incentive
Compensation Plan....................... 10.30 1996 Form 10-K
+10.31 Integon Corporation Annual Incentive
Award Program........................... 10.49 1995 Form 10-K
10.32 Letter Agreement dated December 1, 1996
between James T. Lamere and the Company. 10.32 1996 Form 10-K
10.33 Agreement between Equifax Financial
Services, Inc. and the Company dated,
July 15, 1996........................... 10.33 1996 Form 10-K
11.1 Computation of Earnings per Shares...... * NA
12.1 Ratio of Earnings to Fixed Charges and
Ratio of Earnings to Combined Fixed
Charges and Preferred Stock Dividends... * NA
21.1 Subsidiaries of the Company............. 21.1 1996 Form 10-K
23.1 Consent of Independent Auditors......... 23.1 1996 Form 10-K
27.1 Financial Data Schedule................. **
</TABLE>
- --------
+ Management contracts and compensatory plans or arrangements required to be
filed as exhibits.
** Contained in the EDGAR filing of the Form 10-K.

(b) Reports on Form 8-K.

Form 8-K filed January 23, 1997

68
<PAGE>

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized, on September 12,
1997.

INTEGON CORPORATION

/s/ John B. McKinnon
By__________________________________
JOHN B. MCKINNO
President and Chief Executive
Officer

<PAGE>

EXHIBIT 11.1

INTEGON CORPORATION

COMPUTATION OF EARNINGS PER SHARE
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
----------------------------------
1996 1995 1994
---------- ---------- ----------
<S> <C> <C> <C>
INCOME AVAILABLE TO COM-
MON SHAREHOLDERS:
Income before income
(loss) of discontinued
operations............ $ 170 $ 36,619 $ 22,538
Preferred stock divi- 5,570 5,570 882
dends................. ---------- ---------- ----------
Income (loss) before
income (loss) of dis-
continued operations
available to common
shareholders.......... (5,400) 31,049 21,656
Income (loss) of dis-
continued operations, -- (2,624) 650
net................... ---------- ---------- ----------
Net income (loss)
available to common $ (5,400) $ 28,425 $ 22,306
shareholders......... ========== ========== ==========
WEIGHTED AVERAGE SHARES
OUTSTANDING:
Primary:
Common shares......... 15,726,852 15,701,007 15,716,044
Assumed exercise of 123,151 -- 34,132
stock options........ ---------- ---------- ----------
Total................ 15,850,003 15,701,007 15,750,176
========== ========== ==========
Fully diluted:
Common shares......... 15,726,852 15,701,007 15,716,044
Assumed conversion of
convertible preferred
stock................ -- 3,772,966 --
Assumed exercise of 123,151 160,960 34,132
stock options........ ---------- ---------- ----------
Total................ 15,850,003 19,634,933 15,750,176
========== ========== ==========
EARNINGS PER COMMON
SHARE:
Primary:
Income (loss) before
income (loss) of dis-
continued operations. $(.34) $1.98 $1,38
Income (loss) of dis-
continued operations, -- (.17) .04
net.................. ---------- ---------- ----------
Net income (loss) .... $(.34) $1.81 $1.42
========== ========== ==========
Fully diluted:
Income (loss) before
income (loss) of dis-
continued operations. $(.34) $1.86 $1.38
Income (loss) of dis-
continued operations, -- (.13) .04
net.................. ---------- ---------- ----------
Net income (loss) .... $(.34) $1.73 $1.42
========== ========== ==========
</TABLE>

<PAGE>

EXHIBIT 12.1

RATIO OF EARNINGS TO FIXED CHARGES AND RATIO OF EARNINGS TO COMBINED FIXED
CHARGES AND PREFERRED STOCK DIVIDENDS

<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, 1996 DECEMBER 31, 1995 DECEMBER 31, 1994
----------------- ----------------- -----------------
<S> <C> <C> <C>
Income (loss) from
continuing operations... $(1,912) $52,940 $32,190
Fixed charges deducted
from income (loss) from
continuing operations:
Interest expense....... 15,021 14,510 8,433
Portion of rents
representative of 978 1,372 1,415
interest factor....... ----------- ------- -------
Total fixed charges
deducted from income 15,999 15,882 9,848
(loss).............. ----------- ------- -------
Earnings available for
fixed charges and (a) $14,087 $68,822 $42,038
preferred dividends..... =========== ======= =======
Fixed charges deducted
from income (loss) from
continuing operations
per above............... (b) $15,999 $15,882 $ 9,848
Preferred dividends(1)... 8,569 8,053 1,260
----------- ------- -------
Fixed charges and (c) $24,568 $23,935 $11,108
preferred dividends... =========== ======= =======
Ratio of earnings to 0.88 4.33 4.27
fixed charges (a/b)..... ----------- ------- -------
Ratio of earnings to
fixed charges and
preferred dividends 0.57 2.88 3.78
(a/c)................... ----------- ------- -------
</TABLE>
- --------

(1) Adjusted to an amount equal to the pre-tax earnings necessary to provide
the required dividends.