Investments in Debt and Equity Securities (SFAS No. 159). SFAS No. 159 permits an entity to choose to measure many financial instruments and certain items at fair value. The objective of this standard is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reporting earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS No. 159 permits all entities to choose to measure eligible items at fair value at specified election dates. Entities will report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. The fair value option: (1) may be applied instrument by instrument, with a few exceptions, such as investments accounted for by the equity method; (2) is irrevocable (unless a new election date occurs); and (3) is applied only to entire instruments and not to portions of instruments. SFAS No. 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007, which for the Company would be the fiscal year beginning January 1, 2008. Early adoption is permitted as of the beginning of the previous fiscal year provided that the entity makes that choice in the first 120 days of that fiscal year and also elects to apply FASB Statement No. 157, Fair Value Measurements. The Company did not make such an election. The Company is currently evaluating the impact that the adoption of SFAS No. 159 will have on its consolidated financial statements.

2.    Conversion and Initial Public Offering

Effective February 5, 2007, under the terms of a plan of conversion, EIG converted from a mutual insurance holding company to a stock company. All membership interests in EIG were extinguished on that date and eligible members of EIG received, in aggregate, 22,765,407 shares of EHI’s common stock and $463.0 million of cash.

In addition, effective February 5, 2007, EHI completed an Initial Public Offering (IPO) in which it issued 30,762,500 shares of its common stock at a price of $17.00 per share. The cash proceeds of the IPO, after underwriting discounts and commission of $34.0 million and offering and conversion costs of $16.3 million, were $472.7 million, of which $9.7 million was retained by EHI and was used for working capital, payment of dividends on common stock, repurchase of shares of common stock and other general corporate purposes.

Upon completion of EHI’s IPO, the capitalized issuance costs related to the IPO of $5.4 million were netted against the IPO proceeds in additional paid-in capital in the accompanying consolidated balance sheets. The costs related to the conversion were $10.9 million, of which $0.9 million was incurred in the period from January 1, 2007 through February 5, 2007. Conversion expenses consisted primarily of printing and mailing costs and the aggregate cost of engaging independent accounting, actuarial, financial, investment banking, legal and other consultants. These costs have no tax benefit and were expensed as incurred and are included in the underwriting and other operating expense in the accompanying consolidated statement of income for the six months ended June 30, 2007.

3.    Income Taxes

The Company adopted the provisions of FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes and Interpretation of FASB Statement No. 109 (FIN 48), effective January 1, 2007.

As of December 31, 2006, the Company had recorded, as a liability for tax contingencies, $14.9 million (including interest of $1.6 million). The adoption of FIN 48 did not result in any change in the amount of the unrecognized tax benefit. The Company elected to continue to record both interest and penalties related to any unrecognized tax benefits as a component of income tax expense.

During the six months ended June 30, 2007, the Company made no changes to the amount of the unrecognized tax benefit liability. It is reasonably possible that $5.1 million of the unrecognized tax benefit and related accrued interest will be recognized during the second half of fiscal 2007 as statutory periods expire.

Tax years 2003 through 2006 are subject to examination by the federal taxing authority. There are no income tax examinations currently in progress.

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4.    Liability for Unpaid Losses and Loss Adjustment Expenses

The following table represents a reconciliation of changes in the liability for unpaid losses and LAE:    

			Six months ended June 30,
			2007						2006
			(in thousands)
Beginning of the period				$	2,307,755					$	2,349,981
Reinsurance recoverable for incurred but unpaid losses and LAE					(1,098,103	)					(1,141,500	)
Beginning balance, net of reinsurance					1,209,652						1,208,481
Incurred losses and LAE, net of reinsurance related to:
Current period					115,624						152,967
Prior period					(36,018	)					(12,827	)
Total incurred losses and LAE, net of reinsurance					79,606						140,140
Losses and LAE payments, net of reinsurance, related to:
Current period					12,365						13,147
Prior period					64,599						59,269
Total losses and LAE payments, net of reinsurance					76,964						72,416
Balance, net of reinsurance, June 30					1,212,294						1,276,205
Reinsurance recoverable for incurred but unpaid losses and LAE					1,081,958						1,127,396
Balance, June 30				$	2,294,252					$	2,403,601

The above table excludes the impact of the amortization of the deferred gain—LPT Agreement and the reduction of the ceded reserves on the LPT Agreement (Note 5). The Company amortized $9.1 million and $9.6 million of the deferred gain for the six months ended June 30, 2007 and 2006, respectively, which are reflected in losses and LAE incurred in the consolidated statements of income.

Estimates of incurred losses and LAE attributable to insured events of prior periods decreased due to continued favorable development in losses for such prior accident years (actual losses paid and current projections of unpaid losses were less than the Company originally anticipated). The reduction in the liability for unpaid losses and LAE was $36.0 million and $12.8 million for the six months ended June 30, 2007 and 2006, respectively, which includes $20.4 million and $6.6 million in reductions during the three months ended June 30, 2007 and 2006, respectively.

The major sources of this favorable development are attributable to actual paid losses being less than expected and the continued recalibration of selected patterns of claims emergence and claim payment used in the projection of future loss payments in the Company’s California and Nevada business as more information becomes known.

5.    LPT Agreement

The Company is a party to a 100% quota share retroactive reinsurance agreement (LPT Agreement) under which $1.5 billion in liabilities for losses and LAE related to claims incurred prior to July 1, 1995 were reinsured for consideration of $775.0 million. The LPT Agreement provides coverage up to $2.0 billion. The initial deferred gain resulting from the LPT Agreement was recorded as a liability in the accompanying consolidated balance sheets and is being amortized using the recovery method over the period the underlying reinsured claims are paid. The Company amortized $4.6 million and $9.1 million of the deferred gain for the three months and six months ended June 30, 2007, respectively, and $4.9 million and $9.6 million of the deferred gain for the three months and six months ended June 30, 2006, respectively. The adjustments to the deferred gain are recorded in losses and LAE incurred in the accompanying consolidated statements of income. The remaining deferred gain was $433.9 million and $443.0 million as of June 30, 2007 and December 31, 2006, respectively, which is included in the accompanying consolidated balance sheets as deferred reinsurance gain—LPT Agreement.

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6.    Other Comprehensive Income

Comprehensive income encompasses all changes in equity (except those arising from transactions with stockholders) and includes net income and changes in net unrealized investment gains and losses on investment securities available for sale, net of taxes. The following table summarizes the components of accumulated other comprehensive income as of June 30:

			2007						2006
			(in thousands)
Net unrealized gain on investment, before taxes				$	21,040					$	33,831
Deferred tax expense					(7,404	)					(11,841	)
Total accumulated other comprehensive income, net of taxes				$	13,636					$	21,990

The following table summarizes the change in the components of total comprehensive income:

			Three months ended June 30,												Six months ended June 30,
			2007						2006						2007						2006
			(in thousands)
Unrealized losses arising during the period, before taxes				$	(23,870	)				$	(18,577	)				$	(24,313	)				$	(27,229	)
Less: income tax benefit					(8,315	)					(6,501	)					(8,470	)					(9,530	)
Unrealized losses arising during the period, net of taxes					(15,555	)					(12,076	)					(15,843	)					(17,699	)
Less: reclassification adjustment:
Realized (losses) gains realized in net income					(658	)					3,134						(468	)					2,902
Income tax (benefit) expense					(231	)					1,097						(164	)					1,016
Reclassification adjustment for realized gains (losses)					(427	)					2,037						(304	)					1,886
Other comprehensive loss					(15,128	)					(14,113	)					(15,539	)					(19,585	)
Net income					30,773						21,387						58,639						39,496
Total comprehensive income				$	15,645					$	7,274					$	43,100					$	19,911

7.    Stockholders’ Equity

Stock Repurchase Program

On May 10, 2007, the Company’s Board of Directors authorized a stock repurchase program (the Program). The Program authorizes the Company to use up to $75.0 million in assets for the discretionary repurchase of its common stock during the remainder of fiscal 2007, in accordance with applicable laws and regulations. As of June 30, 2007, the Program resulted in the purchase of 135,716 shares at a cost of $2.9 million which is included in the accompanying consolidated balance sheets as treasury stock, at cost.

Dividend

On May 10, 2007, the Company’s Board of Directors declared its first cash dividend of $0.06 per share of common stock to the stockholders of record as of May 24, 2007. The cash dividend totaled $3.2 million and was paid on June 14, 2007.

8.    Stock-Based Compensation

On October 3, 2006, the Company’s Board of Directors approved the Employers Holdings, Inc. Equity and Incentive Plan (the Plan), effective as of the close of the Company’s IPO. The Plan is administered by the Compensation Committee of the Board of Directors, which is authorized to grant, at its discretion, awards to officers, employees, non-employee directors, consultants and independent contractors. The maximum number of common shares reserved for grants of awards under the Plan is 1,605,838 shares, or

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3% of EHI’s outstanding common shares as of February 5, 2007. The Plan provides for the grant of stock options (both incentive stock options and nonqualified stock options), stock appreciation rights, restricted stock, restricted stock units, stock- or cash-based performance awards and other stock-based awards.

As of June 30, 2007, nonqualified stock options have been granted, but no incentive stock options, stock appreciation rights, restricted stock, restricted stock units or stock- or cash-based performance awards have been granted under the Plan.

SFAS No. 123(R)—Share-Based Payment (SFAS 123(R)), was effective for the Company on January 1, 2006. During 2006, neither EHI nor its predecessor, EIG, had any outstanding shares of common stock and therefore no share-based payments were made. Under SFAS 123(R), share-based payments made to employees, including grants of employee stock options, must be recognized in the consolidated statements of income based on their fair values over the employees’ service period.

Nonqualified Stock Options

During the six month period ended June 30, 2007, EHI made ‘‘founders’ grants’’ to employees, excluding senior officers, in the form of 186,000 nonqualified stock options under the terms set forth in the Plan and the applicable grants. Full-time employees each received 300 options and part-time employees received 150 options. These options vest pro rata on each of the first three anniversaries of the effective date of EHI’s IPO. The options are subject to accelerated vesting in certain limited circumstances, such as: termination other than for cause, termination as a result of retirement, death or disability, and in connection with a change of control. The options expire seven years from the date of grant. The per share exercise price of these options is equal to the IPO price of $17.00 per common share.

The fair value of the stock options granted is estimated using Black-Scholes option pricing model that uses the assumptions noted in the following table. Due to EHI’s limited public history, EHI estimated the expected volatility of its common stock using daily historical volatility from selected peer companies within the property and casualty insurance sector. EHI believes that the historical volatility of this peer group is currently the best estimate of expected volatility of the market price of EHI’s common stock. The expected term of the options granted is calculated using the ‘plain-vanilla’ calculation provided in the guidance of the SEC’s Staff Accounting Bulletin No. 107. The dividend yield was calculated using amounts authorized by the Board of Directors. The risk-free interest rate is the yield on the grant date of the options of U.S. Treasury zero coupon securities with a maturity comparable to the expected term of the options.

The fair market value of the stock options was calculated using the following assumptions:

Expected volatility					32.7	%
Expected life (in years)					4.5
Dividend yield					1.4	%
Risk-free interest rate					4.8	%

The weighted-average grant date fair value of options granted during the period ended June 30, 2007, was $5.22, and the Company will recognize the related stock-based compensation expense on a straight-line basis over the service period of three years.

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Changes in outstanding stock options for the six months ended June 30, 2007 were as follows:

			Number of Options						Weighted- Average Exercise Price						Weighted- Average Remaining Contractual Life
															(in years)
Options outstanding at January 1, 2007					—
Granted					186,000					$	17.00						6.6
Exercised					—						—
Forfeited					(11,344	)					17.00
Options outstanding at June 30, 2007					174,656						17.00						6.6
Exercisable at June 30, 2007					506					$	17.00						0.8

For the three months and six months ended June 30, 2007, stock-based compensation costs of $66.0 thousand and $205.8 thousand, respectively, were recognized as a component of other underwriting expenses. For the three months and six months ended June 30, 2007, related income tax benefits of $23.1 thousand and $72.0 thousand, respectively, were recognized as components of income taxes in the consolidated statement of income. At June 30, 2007, the Company had yet to recognize $705.9 thousand in deferred compensation related to the founders’ grants and expects to recognize these costs over the next 2.6 years. There were no stock-based compensation costs incurred during the six months ended June 30, 2006.

9.    Earnings per share

SFAS No. 128, Earnings per Share (SFAS 128) provides for the calculation of ‘‘Basic’’ and ‘‘Diluted’’ earnings per share. Basic earnings per share includes no dilution and is computed by dividing income applicable to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflect the potential dilution of securities that could share in the earnings of equity. Diluted earnings per common share includes common shares assumed issued under the ‘‘treasury stock method,’’ which reflects the potential dilution that would occur if any outstanding options were to be exercised.

The following table presents the net income and the weighted average shares outstanding used in the earnings per common share calculations were as follows:

			Three months ended June 30, 2007						February 5, 2007 through June 30, 2007
			(in thousands, except share and per share data)
Net income available to common shareholders – basic and diluted				$	30,773					$	52,168
Weighted average number of common shares outstanding – basic and diluted					53,500,722						53,510,963
Earnings per common share:
Basic and diluted				$	0.58					$	0.97

For the three months ended June 30, 2007, earnings per common share—basic and diluted—were calculated using the three months of net income for the period and the actual weighted shares outstanding. The Company’s outstanding options have been excluded in computing the diluted earnings per share for the three months ended June 30, 2007, because their inclusion would be anti-dilutive.

The earnings per common share—basic and diluted—for the period February 5, 2007, through June 30, 2007, was calculated using only the net income available to common stockholders for the period after the IPO, as shown on the consolidated statements of income, and the weighted average shares outstanding during the same period. The Company’s outstanding options have been excluded in computing the diluted earnings per share for the period February 5, 2007, through June 30, 2007, because their inclusion would be anti-dilutive.

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The pro forma earnings per common share—basic and diluted—presented on the accompanying unaudited consolidated financial statements of income is intended to depict the impact of the conversion because neither EHI, nor its predecessor, EIG, had, prior to the conversion, any outstanding common shares. The following table presents the pro forma net income and weighted average shares outstanding used in the earnings per common share calculations were as follows:

			Pro forma for the three months ended June 30, 2006						Pro forma for the six months ended June 30, 2007						Pro forma for the six months ended June 30, 2006
			(in thousands, except share and per share data)
Net income available to common shareholders – basic and diluted				$	21,387					$	58,639					$	39,496
Weighted average number of common shares outstanding – basic and diluted					50,000,002						52,832,048						50,000,002
Earnings per common share:
Basic and diluted				$	0.43					$	1.11					$	0.79

The pro forma earnings per common share for the three months and the six months ended June 30, 2006, is calculated using only those shares available to eligible members in the conversion, or 50,000,002 shares, and does not include any shares issued to new investors in connection with EHI’s IPO. EIG had no common stock equivalents outstanding that would create a dilutive effect on the pro forma earnings per common share for the six months ended June 30, 2006.

The pro forma earnings per common share—basic and diluted—calculation for the six months ended June 30, 2007, is calculated using net income for the six months ended June 30, 2007, as presented on the accompanying unaudited consolidated statements of income. The weighted average shares outstanding was calculated using those shares available to eligible members in the conversion, or 50,000,002 shares, for the period prior to the IPO, and the actual weighted shares outstanding for the period after the IPO. The Company’s outstanding options have been excluded in computing the diluted earnings per share for the period February 5, 2007, through June 30, 2007, because their inclusion would be anti-dilutive.

10.    Subsequent Events

Stock-Based Awards

On August 5, 2007, the Company awarded the non-employee members of the Board of Directors, in aggregate, 23,760 restricted stock units (RSUs). These RSUs vest on the date of the first annual meeting of shareholders after January 1, 2008, except for accelerated vesting in the case of death or disability of the Director or as a result of a change in control. Vested RSUs will be settled in Company stock six months following the awardee’s termination of services as a member of the Board of Directors. Prior to settlement, dividend equivalents are paid with respect to vested RSUs and are credited as additional vested RSUs. RSU awards will be accounted for under the guidance provided by SFAS No. 123(R). Under SFAS No. 123(R), share-based awards made to qualifying non-employee directors are accounted for as employee awards and recognized in the consolidated statements of income based at their fair value on the date of grant, over the requisite service vesting period. The fair market value of the RSU awards on the date of grant is $0.4 million.

Effective August 8, 2007, the Company granted 420,916 options to the officers. These options have a service vesting period of 3.5 years. These options vest 25% on February 8, 2008, and the subsequent three anniversaries of such date. The options are subject to accelerated vesting in certain limited circumstances, such as: termination by the Company other than for cause, termination as a result of retirement, death or disability, and in connection with a change of control. The options expire seven years from the date of grant. The per share exercise price of these options is equal to the fair market value of the stock on grant date (as defined in the Plan), or $18.79. Under SFAS No. 123(R), share-based payments made to employees, including grants of employee stock options, must be recognized in the consolidated statements of income based on their fair value of the options over the requisite vesting period. The Company is in the process of determining the fair market value of these options.

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Additionally, on August 8, 2007, the officers of the Company were awarded, in aggregate, 140,311 performance share awards (PSAs) for the period ending December 31, 2009, if certain performance targets are met, with payouts that range up to 150% of the target award. Under SFAS No. 123 (R), share-based payments made to employees, including the grant of performance stock awards, must be recognized in the consolidated statements of income based on the fair values. The fair market value of the performance stock awards is based on the fair market value of the stock award on grant date.

In accordance with the terms of the Company’s plan of conversion, the Company was precluded from awarding or granting any stock options, restricted stock or other stock-based awards to any senior officer or director until six months after the effective date of the conversion (IPO), February 5, 2007.

Authorized Dividend

On August 9, 2007, the EHI Board of Directors authorized the payment of a cash dividend in the amount of $0.06 per share of common stock to the stockholders of record as of August 23, 2007. The dividend, estimated to be $3.1 million, will be paid on September 13, 2007.

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Item 2.	Management’s Discussion and Analysis of Consolidated Financial Condition and Results of Operations

You should read the following discussion and analysis in conjunction with our consolidated financial statements and the related notes thereto included in Item 1 of Part I. Unless otherwise indicated, all references to ‘‘Employers,’’ ‘‘we,’’ ‘‘us,’’ ‘‘our,’’ ‘‘the Company’’ or similar terms refer to EHI, together with its subsidiaries. The information contained in this quarterly report is not a complete description of our business or the risks associated with an investment in our common stock. We urge you to carefully review and consider the various disclosures made by us in this quarterly report and in our other reports filed with the Securities and Exchange Commission (SEC), including our 2006 Annual Report on Form 10-K for the year ended December 31, 2006, filed with the SEC on March 30, 2007, and our Form 10-Q for the quarter ended March 31, 2007, filed with the SEC on May 15, 2007.

The discussion under the heading ‘‘Risk Factors’’ in Part II, Item 1A of this quarterly report, and similar discussions in our other SEC filings, describe some of the important risk factors that may affect our business, results of operations and financial condition. You should carefully consider those risks, in addition to the other information in this report and in our other filings with the SEC, before deciding to purchase, hold, or sell our common stock.

Some of the statements in this Item 2 and elsewhere in this quarterly report may include forward-looking statements that reflect our current views with respect to future events and financial performance. These statements include forward-looking statements both with respect to us specifically and the insurance sector in general. Statements that include the words ‘‘expect,’’ ‘‘intend,’’ ‘‘plan,’’ ‘‘believe,’’ ‘‘project,’’ ‘‘estimate,’’ ‘‘may,’’ ‘‘should,’’ ‘‘anticipate,’’ ‘‘will’’ and similar statements of a future or forward-looking nature identify forward-looking statements for purposes of the federal securities laws or otherwise.

All forward-looking statements address matters that involve risks and uncertainties. Accordingly, there are or will be important factors that could cause our actual results to differ materially from those indicated in these statements. We believe that these factors include but are not limited to the following:

	•	adequacy and accuracy of our pricing methodologies;

	•	our dependence on a concentrated geographic area and on the workers’ compensation industry;

	•	developments in the frequency or severity of claims and loss activity that our underwriting, reserving or investment practices do not anticipate based on historical experience or industry data;

	•	changes in rating agency policies or practices;

	•	negative developments in the workers’ compensation insurance industry;

	•	increased competition on the basis of coverage availability, claims management, safety services, payment terms, premium rates, policy terms, types of insurance offered, overall financial strength, financial ratings and reputation;

	•	our ability to successfully expand and grow in our new and existing markets;

	•	changes in regulations or laws applicable to us, our policyholders or the agencies that sell our insurance;

	•	changes in legal theories of liability under our insurance policies;

	•	changes in general economic conditions, including interest rates, inflation and other factors;

	•	effects of acts of war, terrorism, or natural or man-made catastrophes;

	•	non-receipt of expected payments, including reinsurance receivables;

	•	performance of the financial markets and their effects on investment income and the fair values of investments;

	•	possible failure of our information technology or communication systems;

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	•	adverse state and federal judicial decisions;

	•	litigation and government proceedings;

	•	possible loss of the services of any of our executive officers or other key personnel;

	•	cyclical nature of the insurance industry;

	•	investigations into issues and practices in the insurance industry; and

	•	changes in demand for our products.

The foregoing factors should not be construed as exhaustive and should be read in conjunction with the other cautionary statements that are included in this report.

These forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical or anticipated results, depending on a number of factors. These risks and uncertainties include, but are not limited to, those listed under the heading ‘‘Risk Factors’’ in our 2006 Annual Report on Form 10-K. All subsequent written and oral forward-looking statements attributable to us or individuals acting on our behalf are expressly qualified in their entirety by these cautionary statements. We caution you not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. Before making an investment decision, you should carefully consider all of the factors identified in this report that could cause actual results to differ.

Overview

Employers Holdings, Inc. (EHI) is a holding company and the successor to EIG Mutual Holding Company (EIG), which was incorporated in Nevada in 2005. Our two wholly-owned insurance subsidiaries, Employers Insurance Company of Nevada (EICN) and Employers Compensation Insurance Company (ECIC), are domiciled in Nevada and California, respectively.

We are a specialty provider of workers’ compensation insurance focused on select small businesses engaged in low to medium hazard industries. Workers’ compensation is a statutory system under which an employer is required to provide coverage for its employees’ medical, disability, vocational rehabilitation and death benefit costs for work-related injuries or illnesses. Our business has historically targeted businesses located in selected states, primarily California and Nevada. We distribute our products almost exclusively through independent agents and brokers and our strategic distribution partners. We operate in a single reportable segment and have three strategic business units overseeing 13 territorial offices serving 11 states in which we are currently doing business.

On June 6, 2007, the A.M. Best Company (A.M. Best) affirmed the financial strength rating (FSR) of A− (Excellent) and assigned issuer credit ratings (ICR) of ‘‘a−’’ to us and our two pooled property/casualty operating subsidiaries, EICN and ECIC. The outlook for all ratings is positive. The outlook reflects the expectation that operating performance and capitalization will continue to be sustained at the strong levels reported in recent years.

Revenues

We derive our revenues primarily from the following:

Net Premiums Earned.    Our net premiums earned have historically been generated primarily in California and Nevada. In California, we have reduced our premium rates by 60.5% from September 2003 through January 1, 2007, including a decline of 35.2% since January 1, 2006. This compares with the recommendation of the California Workers’ Compensation Insurance Rating Bureau (WCIRB) of a 35.9% rate decline since January 1, 2006. Rates in Nevada over the same period have declined by 11.4%. In Nevada, rate levels have increased recently as a result of a decision of the Nevada Commissioner of Insurance to increase rates beginning March 1, 2007, by 3.4%. We adopted the 3.4% rate increase for policies incepting on or after March 1, 2007.

On March 30, 2007, the WCIRB, an industry-backed private organization that provides statistical analysis, submitted a filing with the California Insurance Commissioner recommending an 11.3% decrease

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in advisory pure premium rates on new and renewal policies incepting on or after July 1, 2007. The filing was based upon a review of loss and loss adjustment experience through December 31, 2006, and was made in response to continued reductions in California workers’ compensation claim costs. On May 29, 2007, the California Insurance Commissioner ordered a 14.2% decrease in workers’ compensation advisory pure premium rates for policies incepting on or after July 1, 2007, based on the Commissioner’s actuarial analysis.

As a result of the favorable loss trends in the California market since January 2004, we have previously reduced our California manual premium rates in a manner that we believe dealt prudently with the uncertainty surrounding the long-term outcome of loss cost trends for recent accident years. These manual rates do not necessarily indicate the rates charged to our policyholders because of the application of experience modification factors and our underwriters authority to increase or decrease manual rates further based upon individual risk characteristics.

Our California premium rate decisions are based on our actuarial analysis of current and anticipated loss trends and consideration of any modification to the workers’ compensation system. Based upon our most recent analysis of California loss trends and the competitive market, on July 27, 2007, we submitted a filing which represents an incremental annual 4.5% reduction in premium. Pursuant to the California Insurance Code, if California’s Department of Insurance does not deny our rate filing by August 26, 2007, it will become effective for policies incepting on or after September 15, 2007. Our filing specifically addresses the loss costs of individual classes of business. Therefore, some classes will experience manual rate decreases, some will be unaffected, and others will experience manual rate increases. This approach better enables us to retain our competitive market position than would an average rate change across all classes of business.

Our business continues to target insureds located in selected states, primarily California and Nevada. The following table sets forth our direct premiums written by state and as a percentage of total direct premiums written:

			Three Months Ended June 30,																								Six Months Ended June 30,
States			2007												2006												2007												2006
			(in thousands, except percentages)
California				$	62,617						73.4	%				$	74,741						76.6	%				$	125,491						69.8	%				$	152,240						71.8	%
Nevada					13,813						16.2						16,306						16.7						37,290						20.7						47,140						22.2
Colorado					2,976						3.5						3,292						3.4						6,111						3.4						6,399						3.0
Utah					2,139						2.5						1,846						1.9						4,018						2.2						3,333						1.6
Idaho					1,860						2.2						784						0.8						3,354						1.9						1,782						0.9
Montana					676						0.8						477						0.5						1,680						0.9						912						0.4
Other					1,174						1.4						66						0.1						1,916						1.1						87						0.1
Total				$	85,255						100.0	%				$	97,512						100.0	%				$	179,860						100.0	%				$	211,893						100.0	%

For the six months ended June 30, 2007, we wrote 69.8% and 20.7% of our direct premiums written in California and Nevada, respectively. We currently write business in nine other states (Arizona, Colorado, Florida, Idaho, Illinois, Montana, Oregon, Texas and Utah) and are licensed to write business in six additional states (Georgia, Maryland, Massachusetts, New Mexico, New York and Pennsylvania). We commenced business in Oregon in April 2007 and in Florida in May 2007. We market and sell our workers’ compensation insurance products through independent agents and brokers, and through strategic distribution partners. For the six months ended June 30, 2007, we wrote $51.0 million, or 28.3%, of our direct premiums written through strategic distribution partners.

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The number of policies in force, at the specified dates, was as follows:

States			June 30, 2007						December 31, 2006						June 30, 2006
California					23,467						21,359						19,970
Nevada					6,307						6,523						6,695
Other					2,128						1,860						1,629
Total					31,902						29,742						28,294

During the six months ended June 30, 2007, we experienced an increase of 2,160 policies, or 7.3%, over the total number of policies in force as of December 31, 2006. For the same six month period, policies in California increased by 2,108, or 9.9%, and policies in states other than California and Nevada increased by 268, or 14.4%, which was offset by a decline in policies in Nevada of 216, or 3.3%.

During the 12 months ended June 30, 2007, we experienced an increase of 3,608 policies, or 12.8%, over the total number of policies in force at June 30, 2006. For the same 12 month period, policies in California increased by 3,497, or 17.5%, and policies in states other than California and Nevada increased by 499, or 30.6%, which was offset by a decline in policies in Nevada of 388, or 5.8%.

The decline in policies in Nevada occurred primarily in the first quarter as a result of adherence to our underwriting guidelines, which are designed to minimize the underwriting of classes of business that do not meet our target risk profiles, and due to competitive pressures. The policy count growth in California was insufficient to offset the decline in premiums we experienced principally due to declining rate levels.

Overall, we expect to see declining total premiums in 2007, with policy count growth reducing, but not offsetting, the decline in total premiums written in California and Nevada. It is uncertain how these trends will impact our profitability.

Expenses

Our expenses consist of the following:

Losses and Loss Adjustment Expense (LAE).    Losses and LAE represent our largest expense item and include claim payments made, estimates for future claim payments and changes in those estimates for current and prior periods and costs associated with investigating, defending, and adjusting claims. The quality of our financial reporting depends in large part on accurately predicting our losses and LAE, which are inherently uncertain as they are estimates of the ultimate cost of individual claims based on actuarial estimation techniques. In states other than Nevada, we have a relatively short operating history and must rely on a combination of industry experience and our specific experience to establish our best estimate of losses and LAE reserves. The interpretation of historical data can be impacted by external forces, principally legislative changes, economic fluctuations and legal trends. In recent years, we experienced lower losses and LAE in California than we anticipated due to factors such as regulatory reform designed to reduce loss costs in that market and inflation.

Commission Expense.    Commission expense includes commissions to our agents and brokers for the premiums that they produce for us, and is net of contingent commission income related to the retroactive 100% quota share reinsurance agreement (LPT Agreement). Commissions paid to our agents and brokers are deferred and amortized to commission expense in our statements of income as the premiums generating these commissions and fees are earned.

Underwriting and Other Operating Expense.    Underwriting and other operating expense includes the costs to acquire and maintain an insurance policy (excluding commissions) consisting of premium taxes and certain other general expenses that vary with, and are primarily related to, producing new or renewal business. These acquisition costs are deferred and amortized to underwriting and other operating expense in the statement of income as the related premiums are earned. Other underwriting expenses consist of policyholder dividends and general administrative expenses such as salaries, rent, office supplies, depreciation and all other operating expenses not otherwise classified separately, and fees and assessments of boards, bureaus and statistical agencies for policy service and administration items such as rating manuals, rating plans and experience data. Our underwriting and other operating expense is a

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reflection of our operational efficiency in producing, underwriting and administering our business. We expect that our efficiency will continue to improve with the full implementation of our cost-effective and highly automated underwriting software program, EACCESS^SM, that allows for electronic submission and review of insurance applications, while employing our underwriting standards and guidelines. However, the cost savings realized through such efficiencies may be offset, in whole or in part, by the additional costs that we are incurring in connection with the reporting and internal control requirements to which we are subject by federal securities laws and the New York Stock Exchange as a result of being a public company. Additionally, in 2006 and early 2007, the Company incurred costs related to the conversion of $10.9 million, of which $10.0 million was incurred for the year ended December 31, 2006, and $0.9 million was incurred for the period of January 1 through February 5, 2007. The conversion costs are a non-recurring expense.

Results of Operations

Three Months Ended June 30, 2007 and 2006

The following table summarizes our consolidated financial results for the three months ended June 30, 2007 and 2006:

			Three Months Ended June 30,												Increase (Decrease) 2007 Over 2006						Percentage Increase (Decrease) 2007 Over 2006
			2007						2006
			(in thousands, except for percentages)
Selected Financial Data:
Gross premiums written				$	84,596					$	99,257					$	(14,661	)					(14.8	)%
Net premiums written					81,502						95,613						(14,111	)					(14.8	)
Net premiums earned				$	84,117					$	100,877					$	(16,760	)					(16.6	)%
Net investment income					19,