The following discussion and analysis of EMC Insurance Group Inc. and Subsidiaries' financial condition and results of operations should be read in conjunction with the Consolidated Financial Statements and Notes to Consolidated Financial Statements included under Item 1 of this Form 10-Q, and the Management's Discussion and Analysis of Financial Condition and Results of Operations section of the Company's 2007 Form 10-K.

COMPANY OVERVIEW

EMC Insurance Group Inc., a 58.8 percent owned subsidiary of Employers Mutual Casualty Company (Employers Mutual), is an insurance holding company with operations in property and casualty insurance and reinsurance. Property and casualty insurance is the most significant segment, representing 82.1 percent of consolidated premiums earned during the first nine months of 2008. For purposes of this discussion, the term "Company" is used interchangeably to describe EMC Insurance Group Inc. (Parent Company only) and EMC Insurance Group Inc. and its subsidiaries. Employers Mutual and all of its subsidiaries (including the Company) and an affiliate are referred to as the "EMC Insurance Companies."

In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the interim financial statements have been included. The results of operations for the interim periods reported are not necessarily indicative of results to be expected for the year.

MANAGEMENT ISSUES AND PERSPECTIVES

During the first nine months of 2008 management continued to focus its efforts on writing profitable business in the increasingly competitive insurance marketplace, and maintaining adequate and consistent loss and settlement expense reserves. Management was also confronted with a record amount of catastrophe and storm losses during the second and third quarters, and spent a considerable amount of time and effort ensuring that all claims were inspected and adjusted in a timely manner. Management also evaluated and implemented a new investment strategy designed to take advantage of the liquidity-induced market dislocation that currently exists in the securitized residential mortgage marketplace. In addition, management decided that the Company's reinsurance subsidiary will begin writing Germany-based assumed reinsurance business on a direct basis (outside of the quota share agreement with Employers Mutual) effective January 1, 2009 as a result of regulatory changes that will make it unattractive for Employers Mutual to write that business beginning in 2009. Following is a more detailed discussion of these issues.

Competitive insurance marketplace

Net premiums written for the EMC Insurance Companies' pool have remained nearly unchanged in recent years due to the increasingly competitive insurance marketplace and increased reinsurance costs. All lines of business have experienced a decline in premium rate levels of varying magnitude over the past three years. During this period, policy retention has remained at a high level, but policy count has remained flat as a result of the increased competition for desirable business and management initiatives to exit unprofitable business. The increase in premium rate competition is being driven by the profitable underwriting results, and resulting high capitalization level, of the property and casualty insurance industry during the past three years. On an overall basis, premium rate levels declined approximately 3.7 percent in 2006 and 4.9 percent in 2007, and are expected to decline an additional 5.4 percent in 2008. Given this competitive pricing environment, management is targeting a modest level of premium growth through new business writings that are carefully selected and adequately priced, and from continuing efforts to maintain, or improve, policy retention.

In response to this competitive environment, management has over the past three years formulated and implemented strategies to generate profitable business, and is now closely monitoring and adjusting those strategies as necessary. The areas of focus have included establishing business plans with the Company's independent insurance agents to increase new business production; improving the ease of conducting business through technological improvements; expanding on the pool participants' three programs for writing homogenous risks: target markets, "EMC Choice" programs and safety dividend programs; implementing a more formalized process for commercial lines product development; and improving sales effectiveness skills through ongoing training.

Central to management's business plan to increase new business production is a focus on the Company's only distribution channel, the independent insurance agent. Management spent a considerable amount of time during the first nine months of 2008 working closely with local branch underwriting and marketing personnel and their independent insurance agents to identify new business desirable to the Company. Supporting this focus on new business opportunities are sophisticated underwriting tools (including tools with predictive modeling and monitoring capabilities) that help determine whether individually submitted applications, as well as renewal business, are acceptable, and the appropriate price for each individual risk. These underwriting tools produce information in real time to underwriters as they consider a new risk, or renew an existing risk. Management is also implementing data mining software that is capable of producing easily accessible, highly insightful summary information that can be quickly constructed from the vast amounts of data contained in Employers Mutual's claims system. Such information can be used to alert management of conditions that have affected the pool participants' underwriting results. Once alerted, management can adjust underwriting practices and/or pricing in an effort to address and mitigate any developing adverse trends.

Maintaining adequate and consistent loss and settlement expense reserves

Over the past several years management has devoted a substantial amount of time and resources to improving the adequacy and consistency of the Company's case loss reserves by implementing procedures and guidelines that assist claims personnel in establishing and maintaining proper reserve amounts. Because of these improvements in the claims handling process, favorable development on prior years' case loss reserves was not unexpected during calendar years 2006 and 2007; however, the magnitude of the favorable development experienced during these periods was not anticipated.

From management's perspective, investors and potential investors should not place undue emphasis on the composition of the Company's underwriting results (i.e. the breakdown between the amount of favorable development reported on prior years' reserves versus the indicated current accident year results) because, as explained below, the Company's reserving methodology does not lend itself to that type of analysis very well. Management believes that it is important for investors and potential investors to have an appropriate understanding of the Company's reserving methodology so that they are able to properly interpret the Company's results of operations and make informed investment decisions. Following is a brief discussion of the Company's reserving methodology.

Management does not use accident year loss picks to establish the Company's carried reserves. Case loss and IBNR reserves, as well as settlement expense reserves, are established independently of each other and added together to get the Company's total loss and settlement expense reserve estimate.

As part of the ongoing effort to enhance the effectiveness of the Company's reserving process, the methodology was expanded during 2007 to include bulk case loss reserves. These bulk reserves supplement the aggregate reserves of the individual claim files and are used to help maintain a consistent level of overall case loss reserve adequacy. Bulk case loss reserves (both positive and negative) are established when necessary to keep the estimated adequacy of the Company's carried case loss reserves at a level consistent with management's best estimate of the Company's overall liability. For financial reporting purposes, bulk case loss reserves are included in case loss reserves.

Case loss reserves are the individual reserves established for each reported claim based on the specific facts associated with each claim. Individual case loss reserves are based on the probable, or most likely, outcome for each claim, with probable outcome defined as what is most likely to be awarded if the case were to be decided by a civil court in the applicable venue or, in the case of a workers' compensation case, by that state's Worker's Compensation Commission. Bulk case loss reserves are actuarially derived and are allocated to the various accident years on the basis of the underlying aggregate case loss reserves of the applicable lines of business. IBNR and settlement expense reserves are established through an actuarial process for each line of business. The IBNR and certain settlement expense reserves are allocated to the various accident years using historical claim emergence and settlement payment patterns; other settlement expense reserves are allocated to the various accident years on the basis of case loss reserves.

The current and more recent accident years have a larger proportion of case, IBNR and settlement expense reserves than earlier accident years. Since the Company's reserve levels are established somewhat conservatively, the relatively high proportion of reserves in the more recent accident years generates relatively high loss and settlement expense ratios in the early stages of an accident year's development; however, as those accident years mature, claims are gradually settled, the reserves for those years become smaller, and the loss and settlement expense ratios generally decline.

Without a proper understanding of the Company's reserving methodology, the current and more recent accident year combined ratios can be misinterpreted. For example, the Company reported a combined ratio of 109.3 percent for the first nine months of 2008. If the large amount of favorable development experienced on prior years' reserves during this period is added back to the losses and settlement expenses incurred, it would appear that the 2008 accident year generated a combined ratio of 119.8 percent. However, as has been the case for other recent accident years, management believes that the 2008 accident year combined ratio will continue to decline as claims are settled, and will ultimately settle in a range between 109 and 114 percent.

It is management's intention to continue to apply this reserving methodology on a consistent basis. With reasonably consistent levels of reserve adequacy, management expects earnings from downward development of prior accident year reserves to continue in future years. For that reason, management believes that less emphasis should be placed on the composition of the Company's underwriting results between the current and prior accident years, and more emphasis should be placed on where the Company's carried reserves fall within the range of actuarial indications.

As of June 30, 2008, the Company's loss and settlement expense reserves were in the upper quarter of the range of actuarial indications. Although the actuarial analysis as of June 30, 2008 indicates that the Company's loss and settlement expense reserves are at a high level of adequacy, management is not able to predict whether, or to what extent, the Company will continue to experience favorable development on its reserves.

Record catastrophe and storm losses

During the first nine months of 2008 the Company experienced a record $49.1 million of catastrophe and storm losses, including $23.5 million and $19.8 million during the second and third quarters, respectively. This record level of catastrophe and storm losses is attributed to several severe storm systems that produced wind, tornado and hail losses over a wide geographic region of the Midwest, including a devastating EF5 tornado that struck Parkersburg, Iowa during the second quarter and destroyed the high school and many homes, as well as Hurricanes Ike and Gustav during the third quarter. Catastrophe and storm losses added 20.6 and 17.0 percentage points to the Company's combined ratios for the three and nine months ended September 30, 2008, compared to 7.5 and 6.7 points for the same periods in 2007. Assuming normal storm activity for the remainder of the year, management is currently projecting that catastrophe and storm losses will approximate 14.2 percent of earned premiums in 2008, compared to an expected ratio of 6.9 percent of earned premiums.

Absent the excessive level of storm losses, management believes that the Company's underlying book of business continued to perform reasonably well and within expectations during the first nine months of 2008, considering the competitive market conditions. The record level of storm losses that occurred during the first nine months of 2008 was not caused by a concentration of exposures, but rather the number of severe storms and wide geographical region affected by those storms.

Management recognizes that policyholders are counting on the Company to help them get their lives back in order after a storm loss occurs, and takes that responsibility very seriously. As of June 30, all second quarter storm claims had been adjusted and over ninety percent of the claims had been paid, many within days of the loss event. The response to the third quarter storm claims was similar. The Company's various branch locations, aided by the Company's proprietary claims software system, were able to share claim adjusting resources to quickly settle the large number of claims resulting from these storms and minimize the cost of external resources.

Residential Mortgage-Backed Securities Investment Strategy

During the second quarter, management evaluated and implemented a new investment strategy targeting high-quality residential mortgage-backed securities. This investment strategy is being administered by Harris Investment Management, Inc. and is designed to take advantage of the liquidity-induced market dislocation that currently exists in the securitized residential mortgage marketplace. This is a self-liquidating investment strategy that is targeting AAA rated residential mortgage-backed securities (no securities backed by subprime mortgages are being purchased). The investments have been prudently diversified with respect to key risk factors (such as vintage, originator and geography), have an average duration of 5 to 7 years, and have projected yields of approximately 7 to 8 percent. The Company has committed a total of $40.0 million to this investment strategy, of which $28.9 million had been invested as of September 30, 2008.

Direct Writing of Germany-based Assumed Reinsurance Business

As a result of regulatory changes in Germany, Employers Mutual will no longer be an approved reinsurer in Germany beginning January 1, 2009. Rather than risk losing approximately $6.0 million of assumed reinsurance business because of this regulatory change, management determined that the Company's reinsurance subsidiary will begin writing this business on a direct basis (outside the quota share agreement) effective January 1, 2009. Since this business will be written outside the quota share agreement, it will not be subject to the $2.0 million cap on losses per event. Management has determined that this business has a low risk of generating losses above $2.0 million per event and has therefore elected to not purchase stand-alone reinsurance coverage for these risks.

CRITICAL ACCOUNTING POLICIES

The accounting policies considered by management to be critically important in the preparation and understanding of the Company's financial statements and related disclosures are presented in the Management's Discussion and Analysis of Financial Condition and Results of Operations section of the Company's 2007 Form 10-K.

RESULTS OF OPERATIONS

Segment information and consolidated net income for the three months and nine
months ended September 30, 2008 and 2007 are as follows:

                                              Three months ended           Nine months ended
                                                September 30,                September 30,
($ in thousands)                              2008          2007          2008          2007
Property and Casualty Insurance
Premiums earned                            $   78,960     $  80,452     $ 236,514     $ 239,459
Losses and settlement expenses                 65,503        52,200       179,681       139,933
Acquisition and other expenses                 24,915        30,222        80,469        89,572
Underwriting profit (loss)                 $  (11,458 )   $  (1,970 )   $ (23,636 )   $   9,954

Loss and settlement expense ratio                83.0 %        64.9 %        76.0 %        58.4 %
Acquisition expense ratio                        31.5 %        37.5 %        34.0 %        37.4 %
Combined ratio                                  114.5 %       102.4 %       110.0 %        95.8 %

Losses and settlement expenses:
Insured events of current year             $   65,274     $  58,507     $ 199,161     $ 171,750
Increase (decrease) in provision for
insured events of prior years                     229        (6,307 )     (19,480 )     (31,817 )
Total losses and settlement expenses       $   65,503     $  52,200     $ 179,681     $ 139,933

Catastrophe and storm losses ..            $   14,998     $   6,635     $  42,614     $  18,487


                                              Three months ended           Nine months ended
                                                September 30,                September 30,
($ in thousands)                              2008          2007          2008          2007
Reinsurance
Premiums earned                            $   17,450     $  16,363     $  51,491     $  51,361
Losses and settlement expenses                 16,141        12,336        42,307        34,493
Acquisition and other expenses                  4,131         4,354        12,388        11,993
Underwriting profit (loss)                 $   (2,822 )   $    (327 )   $  (3,204 )   $   4,875

Loss and settlement expense ratio                92.5 %        75.4 %        82.2 %        67.2 %
Acquisition expense ratio                        23.7 %        26.6 %        24.0 %        23.3 %
Combined ratio                                  116.2 %       102.0 %       106.2 %        90.5 %

Losses and settlement expenses:
Insured events of current year             $   20,609     $  13,532     $  53,008     $  41,680
Decrease in provision for insured events
of prior years                                 (4,468 )      (1,196 )     (10,701 )      (7,187 )
Total losses and settlement expenses       $   16,141     $  12,336     $  42,307     $  34,493

Catastrophe and storm losses               $    4,825     $     578     $   6,457     $     987