<PAGE>
 
                    U.S. SECURITIES AND EXCHANGE COMMISSION
                            Washington, D.C.  20549
                                        
                                 FORM 10-KSB/A

                                AMENDMENT NO. 2

Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of
                                      1934
                  For the fiscal year ended December 31, 1997

                        Commission file number 000-23673
                                               ---------

                       GENTLE DENTAL SERVICE CORPORATION
       (Exact name of small business issuer as specified in its charter)



          Washington                         91-1577891
          ----------                         ------------
(State or other jurisdiction of              (IRS Employer
incorporation or organization)               Identification No.)

222 North Sepulvada Boulevard, Suite 740, El Segundo, California      90245  
----------------------------------------------------------------    ----------
(Address of principal executive offices)                            (Zip Code)

Issuer's telephone number: (310) 765-2400

Securities registered pursuant to Section 12(b) of the Act:  None

Securities registered pursuant to Section 12(g) of the Act:  Common Stock

Check whether the registrant (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 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 [_]

Check if disclosure of delinquent filers pursuant to Item 405 of Regulation S-B
is not contained in this form, and no disclosure will be contained, to the best
of registrants knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [X]

Issuer's revenues for its most recent fiscal year:  $43,403,000

Aggregate market value of Common Stock held by nonaffiliates of the registrant
at February 28, 1998:  $39,500,000.  For purposes of this calculation, officers
and directors are considered affiliates.

Number of shares of Common Stock outstanding at February 28, 1998: 7,769,925.

                      Documents Incorporated by Reference
                      -----------------------------------

                                                 Part of Form 10-KSB into
  Document                                          which incorporated
  --------                                        ----------------------

  Proxy Statement for 1998 Annual
  Meeting of Shareholders                             Part III

Transitional Small Business Disclosure Format:  Yes [_]   No [X]
<PAGE>

                                   PART II
 
Item 7. Financial Statements
        
        In accordance with the rules and regulations of the Securities and 
Exchange Commission (the "Commission"), Gentle Dental Service Corporation, a
Washington corporation, is refiling its financial statements to restate: (i) the
loss per share attributable to Common Stock - basic and diluted from $(1.17), as
reported in the Form 10-KSB filed with the Commission on March 31, 1998 (the
"Form 10-KSB"), to $(.91) per share, as reported in the Restated Financial
Statements set forth below (the "Restated Financial Statements"); (ii) the
weighted average common shares utilized for the year ended December 31, 1997
from 3,544,149 shares, as reported in the Form 10-KSB, to 4,559,140 shares, as
reported in the Restated Financial Statements; (iii) the per share amount of
restructuring plan charge recorded in the fourth quarter of 1997 from $.32 per
share, as reported in the Form 10-KSB, to $.25 per share, as reported in the
Restated Financial Statements; (iv) the pro forma net loss per common and common
equivalent share, as reported - basic and diluted from $(1.17) per share, as
reported in the Form 10-KSB, to $(.91) per share, as reported in the Restated
Financial Statements; and (v) the pro forma net loss per common and common
equivalent share, pro forma - basic and diluted from $(1.28) per share, as
reported in the Form 10-KSB, to $(.99) per share, as reported in the Restated
Financial Statements.


                    INDEX TO RESTATED FINANCIAL STATEMENTS

                                                                         Page
                                                                         ----
Independent Auditors' Report ........................................     3

Report of Independent Accountants ...................................     4

Consolidated Balance Sheets at December 31, 1996 and 1997 ...........     5

Consolidated Statements of Operations for the years ended
 December 31, 1996 and 1997 .........................................     7

Consolidated Statements of Shareholders' Equity for the years
 ended December 31, 1996 and 1997 ...................................     8

Consolidated Statements of Cash Flows for the years ended 
 December 31, 1996 and 1997 .........................................    10

Notes to Consolidated Financial Statements ..........................    13

                                       2

<PAGE>

                         INDEPENDENT AUDITORS' REPORT


The Board of Directors and Shareholders
Gentle Dental Service Corporation:

We have audited the accompanying consolidated balance sheet of Gentle Dental
Service Corporation and subsidiaries as of December 31, 1997 and the related
consolidated statements of operations and shareholders' equity and cash flows
for the year ended December 31, 1997 (as restated, see note 15). These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audit.
 
We conducted our audit 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 audit provides a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Gentle Dental
Service Corporation and subsidiaries as of December 31, 1997 and the results of
their operations and their cash flows for the year ended December 31, 1997, in
conformity with generally accepted accounting principles.

We previously audited and reported on the consolidated balance sheet of GMS
Dental Group, Inc. and subsidiaries as of December 31, 1996 and the related
consolidated statements of operations and shareholders' equity and cash flows
for the year ended December 31, 1996, prior to their restatement for the 1997
pooling of interests between Gentle Dental Service Corporation and subsidiaries
and GMS Dental Group, Inc. and subsidiaries. The contribution of GMS Dental
Group, Inc. and subsidiaries to total assets, revenues and net loss represented
50 percent, 26 percent and 42 percent of the respective restated totals.
Separate financial statements of Gentle Dental Service Corporation included in
the 1996 restated consolidated balance sheet and statements of operations and
cash flows were audited and reported on separately by other auditors. We also
audited the combination of the accompanying consolidated balance sheet as of
December 31, 1996 and the related consolidated statements of operations and cash
flows for the year ended December 31, 1996, after restatement for the pooling of
interests; in our opinion, such consolidated statements have been properly
combined on the basis described in note 3 of the notes to the consolidated
financial statements.


                                                       /s/ KPMG PEAT MARWICK LLP
Orange County, California
February 20, 1998, except as to
note 14 which is as of March 16, 1998 

                                       3
<PAGE>
 
                       REPORT OF INDEPENDENT ACCOUNTANTS


To the Shareholders and Board of Directors of
Gentle Dental Service Corporation


In our opinion, the balance sheet and the related statements of operations, of 
redeemable common stock and nonredeemable shareholders' equity and of cash 
flows, not presented separately herein, present fairly, in all material 
respects, the financial position of Gentle Dental Service Corporation at 
December 31, 1996, and the results of its operations and its cash flows for the 
year then ended, in conformity with generally accepted accounting principles. 
These financial statements are the responsibility of the Company's management; 
our responsibility is to express an opinion on these financial statements based 
on our audit. We conducted our audit of these statements in accordance 
with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates 
made by management and evaluating the overall financial statement presentation. 
We believe that our audit provides a reasonable basis for the opinion expressed
above.

As disclosed in Note 10 to the financial statements, the Company has certain
related party transactions.


/s/ PRICE WATERHOUSE LLP

Portland, Oregon
February 28, 1997 

                                       4
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                          Consolidated Balance Sheets

                          December 31, 1996 and 1997

              (in thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                               Assets                                      1996        1997
                                                                        ----------   ----------
Current assets:
<S>                                                                     <C>          <C>
 Cash and cash equivalents                                                $ 2,220       $   302
 Accounts receivable, net of allowances of approximately $1,706 and
  $4,159 in 1996 and 1997, respectively                                     4,826         6,331              
 Receivables from affiliates                                                1,197         1,731              
 Income taxes receivable                                                      169           115              
 Supplies                                                                     554         1,109              
 Prepaid and other current assets                                             877         1,611               
                                                                          -------       -------
 
      Total current assets                                                  9,843        11,199
                                                                          -------       -------
 
Property and equipment, net (notes 4 and 6)                                 5,766        10,084
Intangible assets, net of accumulated amortization (note 5)                10,330        22,843
Other assets                                                                  457           282
                                                                          -------       -------
 
      Total assets                                                        $26,396       $44,408
                                                                          =======       =======
 
Liabilities, Redeemable Convertible Preferred and Common Stock and
                      Shareholders' Equity
 
Current liabilities:
 Accounts payable                                                         $ 1,650       $ 2,452
 Accrued payroll and payroll related costs                                  1,033         2,084
 Other current liabilities                                                  1,667         3,174
 Current portion of long-term debt and capital lease
  obligations (notes 6 and 10)                                              1,124           651
 Short-term borrowings (note 6)                                             2,097             -
                                                                          -------       -------
 
      Total current liabilities                                             7,571         8,361
                                                                          -------       -------
 
Long-term liabilities:
 Obligations under capital leases, net of current portion (note 13)           572           581
 Long-term debt, net of current portion (note 6)                            1,822        13,842
 Other long-term liabilities                                                   91           115
                                                                          -------       -------
 
      Total long-term liabilities                                           2,485        14,538
                                                                          -------       -------
 
      Total liabilities                                                   $10,056       $22,899
                                                                          -------       -------
</TABLE> 
 
                                  (Continued)


                                       5
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                                AND SUBSIDIARIES

                     Consolidated Balance Sheets, Continued

                           December 31, 1996 and 1997

               (in thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                                                            1996        1997
                                                                          --------    -------
 
<S>                                                                       <C>         <C>
Redeemable convertible preferred stock - Series B, $.001 par value,
 9,270,000 shares authorized; 6,180,000 and zero shares issued and
 outstanding in 1996 and 1997, respectively (note 8)                      $ 11,055    $     -
                                                                          --------    -------
 
Redeemable common stock, no par value, 190,302 and 183,686 shares
 issued and outstanding in 1996 and 1997, respectively (note 8)
                                                                             2,199      2,130
                                                                          --------    -------
 
Shareholders' equity (notes 7 and 9):
 Preferred stock, 30,000,000 shares authorized, no shares issued and
  outstanding                                                                    -          -
 Convertible preferred stock - Series A, $.001 par value; 395,000
  shares authorized; 395,000 and zero shares issued and outstanding
  in 1996 and 1997, respectively                                                 1          -
 Convertible preferred stock - Series C, $.001 par value; 5,000
  shares authorized; 1,777 and zero shares issued and outstanding in
  1996 and 1997, respectively                                                    1          -
 Common stock, no par value, 50,000,000 shares authorized, 2,181,622
  and 7,530,781 shares issued and outstanding in 1996 and 1997,
  respectively                                                               2,890     21,784
 Additional paid-in capital                                                  1,443      3,165
 Shareholder notes receivable                                                 (136)      (304)
 Accumulated deficit                                                        (1,113)    (5,266)
                                                                           -------    -------
 
      Total shareholders' equity                                             3,086     19,379
                                                                           -------    -------
 
Commitments and contingencies (notes 13 and 14)
 
      Total liabilities, redeemable convertible preferred and common
       stock and shareholders' equity                                      $26,396    $44,408
                                                                           =======    =======
</TABLE> 
 
See accompanying notes to consolidated financial statements.

                                       6
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                     Consolidated Statements of Operations

                    Years ended December 31, 1996 and 1997

                   (in thousands, except per share amounts)

<TABLE>
<CAPTION>
                                                                           1996       1997
                                                                         --------   --------
<S>                                                                      <C>        <C>  
Dental practice net patient service revenue - consolidated (note 2)       $ 3,701    $29,327
Net management fees (notes 2 and 10)                                       10,712     14,076
                                                                          -------    -------
 
      Net revenues                                                         14,413     43,403
 
Cost and expenses:
 Clinical salaries and benefits                                             1,493     13,701
 Practice nonclinical salaries and benefits                                 4,279      8,177
 Dental supplies and lab expenses                                           2,830      6,271
 Practice occupancy expenses                                                1,563      3,527
 Practice selling, general and administrative expenses                      1,805      4,912
 Corporate selling, general and administrative expenses                     2,998      5,700
 Corporate restructure and merger costs (note 3)                                -      1,809
 Depreciation and amortization                                                990      1,847
                                                                          -------    -------
 
      Operating loss                                                       (1,545)    (2,541)
                                                                          -------    -------
 
Nonoperating income (expense):
 Interest expense, net                                                       (749)      (653)
 Other expense, net                                                           (48)       (74)
                                                                          -------    -------
 
                                                                             (797)      (727)
                                                                          -------    -------
 
      Loss before income taxes                                             (2,342)    (3,268)
 
Income tax benefit (note 11)                                                 (655)       (81)
                                                                          -------    -------
 
      Net loss                                                             (1,687)    (3,187)
 
Dividends on redeemable convertible preferred stock - Series B (note 8)      (240)      (932)
Accretion of redeemable common stock (note 8)                                 (91)       (34)
                                                                          -------    -------
 
      Net loss attributable to common stock                               $(2,018)   $(4,153)
                                                                          =======    =======
 
Loss per share attributable to common stock - basic and diluted -         
 as restated (note 15)                                                    $ (1.18)   $  (.91)
                                                                          =======    =======
</TABLE> 
 
See accompanying notes to consolidated financial statements. 

                                       7
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

               Consolidated Statements of Shareholders' Equity 

                    Years ended December 31, 1996 and 1997
                     (in thousands, except share amounts)

<TABLE>
<CAPTION>
                              Convertible preferred  Convertible preferred                                       Share-
                                stock -- Series A      stock -- Series C         Common stock      Additional    holder    Accumu-
                              ---------------------  ---------------------   ---------------------   paid-in     notes      lated
                                Shares     Amount      Shares     Amount       Shares     Amount     capital   receivable  deficit
                              ---------   ---------  ---------   ---------   ---------   --------- ----------  ----------  -------
<S>                           <C>         <C>        <C>         <C>         <C>         <C>       <C>         <C>         <C>
Balance December 31, 1995...      --      $    --        --      $    --     1,366,145   $   2,795 $    152    $     (40)  $   905
Redeemable convertible
 preferred stock -- Series B
 initial issuance and
 issuance costs............       --           --        --           --            --          --   (1,266)          --        --
Convertible preferred stock
  -- Series A issued for 
  acquisitions.............   395,000           1        --           --            --          --      295           --        --
Convertible preferred stock
 -- Series C issued for
 acquisitions..............       --           --     1,777            1            --          --    1,733           --        --
Issuance of common stock in
 connection with:
 Exchange for shareholder
  notes receivable..........      --           --        --           --       608,524           1      136         (136)       --
 Acquisitions...............      --           --        --           --       226,453          68       99           --        --
Stock warrants issued
 related to debt financing..      --           --        --           --            --          --        9           --        --
Exercise of stock options...      --           --        --           --         2,000           2       --           --        --
Stock options granted to
 nonemployees...............      --           --        --           --            --          --       52           --        --
Stock warrants issued
 related to line of credit
 guarantees.................      --           --        --           --            --          --      233           --        --
Accretion of put rights.....      --           --        --           --            --          --       --           --       (91)
Repurchase of common stock..      --           --        --           --       (24,000)         (1)      --           --        --
Common stock granted to
 nonemployees...............      --           --        --           --         2,500          25       --           --        --
Payments on shareholder
 notes receivable...........      --           --        --           --            --          --       --           40        --
Dividends on redeemable
 convertible preferred
 stock -- Series B.........       --           --        --           --            --          --       --           --      (240)
Net loss....................      --           --        --           --            --          --       --           --    (1,687)
                              -------     -------     -----      -------     ---------   --------- --------    ----------  -------
Balance, December 31, 1996..  395,000           1     1,777            1     2,181,622       2,890    1,443         (136)   (1,113)
                              -------     -------     -----      -------     ---------   --------- --------    ----------  -------
</TABLE>
                                  (Continued) 

                                       8
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

          Consolidated Statements of Shareholders' Equity, Continued

                    Years ended December 31, 1996 and 1997
                     (in thousands, except share amounts)

<TABLE> 
<CAPTION> 
                                      
                                          Convertible        Convertible
                                            preferred          preferred
                                     stock - Series A   stock - Series C    Common stock     Additional  Shareholder
                                     ----------------   ----------------  -----------------     paid-in        notes   Accumulated
                                     Shares    Amount   Shares    Amount  Shares     Amount     capital   receivable       deficit
                                     --------- ------   -------   ------  ---------  ------  ----------  -----------   -----------
<S>                                  <C>       <C>      <C>       <C>     <C>        <C>     <C>         <C>           <C>
Balance, December 31, 1996             395,000      1     1,777        1  2,181,622   2,890       1,443         (136)       (1,113)
Convertible preferred stock -
 Series C issued for acquisitions          --      --     1,156       --         --      --       1,156           --            --
Common stock issued in connection 
 with:
   Acquisitions                            --      --        --       --    109,039     475          --           --            --
   Initial public offering,
    net of issuance costs                  --      --        --       --  1,500,000   6,125          --           --            --
   Employee purchase plan                  --      --        --       --      1,902      17          --           --            --
   Pursuant to options for share-
    holder notes receivable                --      --        --       --    333,816       1         150         (150)           --
Exercise of stock options                  --      --        --       --     20,100     100          --           --            --
Stock options granted to 
 nonemployees                              --      --        --       --         --      --          56           --            --
Accretion of put rights                    --      --        --       --         --      --          --           --           (34)
Interest accrued on shareholder
 notes receivable                          --      --        --       --         --      --          --          (18)           --
Dividends on redeemable convertible
 preferred stock - Series B                --      --        --       --         --      --          --           --          (932)
Issuance of common stock warrants
 for acquisitions                          --      --        --       --         --      --           4           --            --
Shares reserved for earnout                --      --        --       --         --      --         356           --            --
Conversion of convertible
 preferred stock - Series A, B, and
 C into common stock                 (395,000)     (1)   (2,933)      (1) 3,384,302  12,176          --           --            --
Net loss                                   --      --        --       --         --      --          --           --        (3,187)
                                     --------  ------   -------   ------  --------- -------  ----------  -----------   -----------
Balance, December 31, 1997                 --  $   --        --   $   --  7,530,781 $21,784  $    3,165  $      (304)  $    (5,266)
                                     ========  ======   =======   ======  ========= =======  ==========  ===========   ===========
</TABLE> 

See accompanying notes to consolidated financial statements.
 
                                       9
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                                AND SUBSIDIARIES

                     Consolidated Statements of Cash Flows

                     Years ended December 31, 1996 and 1997

                      (in thousands, except share amounts)

<TABLE>
<CAPTION>
                                                                           1996        1997
                                                                        ---------    ---------
<S>                                                                     <C>           <C>  
Cash flows from operating activities:

 Net loss                                                                $ (1,687)    $ (3,187)
 Adjustments to reconcile net loss to net cash used in operating
  activities:
   Depreciation and amortization                                              990        1,847                               
   Loss on disposal of assets                                                  63           31                             
   Loss on investment in joint venture                                         87          135                             
   Stock options granted to nonemployees                                       52           56                             
   Stock issued for fees and compensation                                      25            -                             
   Interest accrued on shareholder notes receivables                            -          (18)                            
   Amortization of warrants                                                   242            -                             
   Deferred income taxes                                                     (146)          14                             
 Change in assets and liabilities, net of the effect of acquisitions:                                                      
    Accounts receivable, net                                                 (997)          47                             
    Receivables from affiliates                                              (562)        (621)                            
    Income taxes receivable                                                     5           54                             
    Supplies                                                                  (48)        (269)                            
    Prepaid expenses and other current assets                                  52       (1,209)                            
    Other assets                                                               46           65                             
    Accounts payable                                                          346          268                             
    Accrued payroll and payroll related costs                               1,145        1,956                             
    Other liabilities                                                           5         (144)                             
                                                                         --------     --------
 
         Net cash used in operating activities                               (382)        (975)
                                                                         --------     --------
 
Cash flows from investing activities:
 Purchase of property and equipment                                          (873)      (2,822)
 Proceeds from sale of property and equipment                                   -           22
 Cash paid for investment in joint venture                                    (75)           -
 Cash paid for organizations costs                                             (5)           -
 Cash paid for acquisitions, including other direct costs, net of
  cash acquired                                                            (7,268)      (9,706)
                                                                         --------     --------
 
         Net cash used in investing activities                           $ (8,221)    $(12,506)
                                                                         --------     --------
</TABLE> 
 
                                  (Continued)

                                      10
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                                AND SUBSIDIARIES

                Consolidated Statements of Cash Flows, Continued

                     Years ended December 31, 1996 and 1997

                      (in thousands, except share amounts)

<TABLE>
<CAPTION>
                                                                           1996         1997
                                                                         ---------    --------
<S>                                                                      <C>          <C>  
Cash flows from financing activities:
 Net proceeds (payments) on short-term borrowings                         $  1,048    $ (2,097)
 Proceeds from issuance of long-term debt                                      466      10,000
 Payments on long-term debt and obligations under capital leases            (1,231)     (3,122)
 Payments of deferred financing costs                                         (150)          -
 Proceeds from issuance of common stock and preferred stock                 10,551       7,703
 Common stock issuance costs                                                  (500)       (918)
 Payments of shareholder notes receivable                                       40           -
 Exercise of put rights                                                        (90)       (103)
 Exercise of stock options                                                       -         100
                                                                          --------    --------
 
      Net cash provided by financing activities                             10,134      11,563
                                                                          --------    --------
 
      Increase (decrease) in cash and cash equivalents                       1,531      (1,918)
 
Cash and cash equivalents, beginning of year                                   689       2,220
                                                                          --------    --------
 
Cash and cash equivalents, end of year                                       2,220         302
                                                                          ========    ========
 
Supplemental disclosure of cash flow information:
 Cash paid during period:
   Interest paid                                                               489         601
   Income taxes paid (received)                                           $   (159)   $      1
                                                                          ========    ========
 
Supplemental schedule of noncash investing and financing activities:
 Purchases of property and equipment under capital lease agreements       $    825    $    278
 Issuance of shareholder notes receivable for purchase of common
  stock                                                                        136         150
 Interest accrued on shareholder notes receivable                                -          18
 Accretion of put rights                                                        91          34
 Issuance of common stock to founders and to purchase the
  predecessor companies                                                        530           -
 Issuance of redeemable convertible preferred stock - Series B to
  investment bankers for services                                              314           -
 Conversion of convertible preferred stock series A, B and C into
  7,603,677 shares of GMS common stock                                           -      12,176
 Conversion of 10,218,578 shares of GMS common stock into 4,548,161
  shares of the Company's common stock                                           -           -
</TABLE> 
 
                                  (Continued)

                                      11
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                                AND SUBSIDIARIES

                Consolidated Statements of Cash Flows, Continued

                     Years ended December 31, 1996 and 1997

               (in thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                                                           1996         1997
                                                                        ----------    ----------
 
Acquisition of clinics:
<S>                                                                     <C>           <C>
 Intangible assets acquired                                                $ 8,501      $13,213
 Liabilities assumed or issued                                               2,921        5,762
 Common and convertible preferred stock and warrants issued                  2,725        1,635
 Tangible assets acquired                                                    4,413        4,246
 Shares reserved for earnout agreements                                          -          356
 Dental clinic prepayments                                                 $   309      $     -
                                                                           =======      =======
</TABLE> 
 
See accompanying notes to consolidated financial statements. 

                                      12
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                                AND SUBSIDIARIES

                   Notes to Consolidated Financial Statements

                     Years ended December 31, 1996 and 1997

               (in thousands, except share and per share amounts)

(1)  Organization

     Gentle Dental Service Corporation ("GDS" or the "Company"), incorporated on
     December 14, 1992, is a Washington corporation headquartered in Yorba
     Linda, California. The Company, as part of a multi-specialty dental care
     delivery network, provides management services to dental practices ("DPs")
     under long-term management service agreements. Under the terms of the
     management service agreements, the Company, among other things, bills and
     collects patient receivables and provides all administrative support
     services to the DPs.

     On February 13, 1997, the Company completed its initial public offering of
     1,500,000 shares of no par value common stock (the "Offering"). The price
     per share in the Offering was $5.00, resulting in gross offering proceeds
     of $7,500. The Company received net proceeds of approximately $6,125 net of
     underwriters' discount and offering expenses. Concurrent with the receipt
     of the net proceeds, the company utilized $4,426 to repay certain
     outstanding principal under the Company's various bank loan arrangements
     (see note 6).

(2)  Basis of Presentation and Significant Accounting Policies

     The consolidated financial statements include the accounts of GDS and its
     subsidiaries. All significant intercompany transactions and accounts have
     been eliminated. As described more fully in Note 3, on November 4, 1997,
     GMS Dental Group, Inc. ("GMS") was merged with and into the Company, with
     former stockholders of GMS owning 59% of the combined company upon
     completion of the merger. These consolidated financial statements have been
     prepared following the pooling-of-interests method of accounting and
     reflect the combined financial position and operating results of GDS and
     GMS (and certain affiliated DPs as discussed below) for all periods
     presented. GMS commenced operations on October 11, 1996. Accordingly, its
     results of operations for 1996 included only approximately 2-2/3 months.

     The Emerging Issues Task Force ("EITF") of the Financial Accounting
     Standards Board recently evaluated certain matters relating to the
     physician practice management industry (EITF issue number 97-2) and reached
     a consensus on the accounting for transactions between physician practice
     management companies and physician practices and the financial reporting of
     such entities. For financial reporting purposes, EITF 97-2 mandates the
     consolidation of physician practice activities with the practice management
     company when certain conditions have been met, even though the practice
     management company does not have an equity investment in the physician
     practice. The accompanying financial statements are prepared in conformity
     with the consensus reached in EITF 97-2.

     Corporate practice of medicine laws in the states in which the Company
     currently operates prohibit the Company from owning dental practices. In
     response to these laws the Company has executed management services
     agreements ("MSAs") with various DPs. Based upon the terms of MSAs with
     certain of the DPs,

                                      13
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


     the Company has met the criteria for consolidation of those DPs with the
     Company. In these circumstances, all the accounts of the DPs are included
     in the accompanying consolidated financial statements. Accordingly, the
     consolidated statements of operations include the net patient revenues and
     related expenses of the DPs.

     In addition to the MSAs discussed above, the Company has entered into MSAs
     with certain DPs where the Company has not met the criteria for
     consolidation of the DPs activities. In these circumstances, the Company
     does not consolidate the accounts of the DPs. Accordingly, the consolidated
     statements of operations exclude the net patient revenues and expenses of
     the DPs. Rather, the statements of operations include only the Company's
     net management fees revenue generated from those MSAs and the Company's
     expenses associated with those MSAs. Subsequent to December 31, 1997, the
     Company entered into new MSAs with the Oregon and Washington DPs. Effective
     January 1, 1998 the criteria has been met for consolidation of these DPs
     financial statements with the Company (see note 14).

     The Company has a 50% equity investment in Celebration Dental Services
     L.L.C., a Florida limited liability company, which is accounted for on the
     equity basis of accounting and is included in other expense, net.

     Net Revenues

     Revenues consist primarily of DP net patient service revenue (net patient
     revenue) and Company net management fees. Net patient revenue represents
     the consolidated revenue of the DPs reported at the estimated net
     realizable amounts from patients, third party payors and others for
     services rendered, net of contractual adjustments. Net management fees
     represent amounts charged to the unconsolidated DPs on an agreed-upon
     percentage of the DPs net patient service revenue under MSAs, net of
     provisions for contractual adjustments and doubtful accounts. The
     components of net revenues are as follow:

<TABLE>
<CAPTION>
                                                     1996          1997
                                                  ----------    ----------
 
<S>                                               <C>           <C>  
DP net patient service revenue--unconsolidated      $ 21,424      $ 26,289
Less amounts retained by the DPs                     (10,712)      (12,583)
Retail sales and other                                     -           370
                                                    --------      --------
 
Net management fees                                   10,712        14,076
DP net patient service revenue--consolidated           3,701        29,327
                                                    --------      --------
 
     Net revenues                                   $ 14,413      $ 43,403
                                                    ========      ========
</TABLE>

     Cash and Cash Equivalents

     The Company considers all highly liquid investments with an original
     maturity of three months or less to be cash equivalents.

                                      14
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


     Accounts Receivable

     Accounts receivable principally represent receivables from patients and
     insurance carriers for dental services provided by the related DPs and are
     recorded net of contractual adjustments and allowance for doubtful
     accounts. Contractual allowances represent an estimate of the difference
     between the amount billed by the Company and the amount which the patient,
     third party payor or other is contractually obligated to pay the Company.
     An allowance for doubtful accounts is provided based upon historical
     collection experience.

     Receivables from Affiliates

     Receivables from affiliates consist primarily of amounts owed to the
     Company from unconsolidated DPs to reimburse the Company for payment of the
     DPs payroll and other direct costs, net of amounts due to the DPs related
     to the acquisitions and the DPs share of revenues (see notes 10 and 14)

     Supplies

     Supplies consist primarily of disposable dental supplies and instruments
     stored at the clinics. Supplies are stated at the lower of cost (first-in,
     first-out basis) or market (net realizable value).

     Property and Equipment

     Property and equipment are stated at cost net of accumulated depreciation
     and amortization. Expenditures for maintenance and repairs are charged to
     expense as incurred and expenditures for additions and betterments are
     capitalized. Equipment held under capital leases is stated at the present
     value of minimum lease payments at the inception of the lease. Depreciation
     of property and equipment is recorded using the straight-line method over
     the shorter of the related lease term or the estimated useful lives which
     generally range from 3 to 15 years.

     Intangible Assets

     Intangible assets result primarily from the excess of cost over the fair
     value of net tangible assets purchased. Such intangibles relate primarily
     to noncompetition covenants and management services agreements. Intangibles
     relating to management service agreements consist of the costs of
     purchasing the rights to provide management support services to DPs over
     the initial noncancelable 40-year terms of the related agreements. Under
     these agreements, the DPs have agreed to provide dental services on an
     exclusive basis only through facilities provided by the Company. Pursuant
     to the terms of the agreements, the Company is the exclusive administrator
     of all non-dental aspects of the acquired DPs, providing facilities,
     equipment, support staffing, management and other ancillary services. The
     agreements are noncancelable except for performance defaults.

     Intangible assets are amortized on the straight-line method over their
     estimated useful lives, 5 years for organizational costs, 25 years for
     management services agreements and other acquired intangibles, and 40 years
     for trademarks. 

                                      15
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                   Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)


   LONG-LIVED ASSETS

   The Company reviews its assets balances for impairment at the end of each
   quarter or more frequently when events or changes in circumstances indicate
   that the carrying amount of assets may not be recoverable. To perform that
   review, the Company estimates the sum of expected future undiscounted net
   cash flows from assets. If the estimated net cash flows are less than the
   carrying amount of the asset, the Company recognizes an impairment loss in an
   amount necessary to write-down the asset to a fair value as determined from
   expected future discounted cash flows. No write-down of assets was recorded
   for the years ended December 31, 1996 and 1997.

   FAIR VALUE OF FINANCIAL ASSETS, LIABILITIES AND REDEEMABLE COMMON STOCK

   The Company estimates the fair value of its monetary assets, liabilities and
   redeemable common stock based upon the existing interest rates related to
   such assets, liabilities and redeemable common stock compared to current
   market rates of interest for instruments with a similar nature and degree of
   risk. The Company estimates that the carrying value of all of its monetary
   assets, liabilities and redeemable common stock approximates fair value as of
   December 31, 1996 and 1997.

   USE OF ESTIMATES

   The preparation of financial statements in conformity with generally accepted
   accounting principles requires management to make estimates and assumptions
   that affect the reported amounts of assets and liabilities, 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.

   NET LOSS PER SHARE

   Net loss per share is computed based on the weighted average number of shares
   of common stock and dilutive common stock equivalents outstanding during the
   periods.  Common stock equivalents consist of the number of shares issuable
   upon exercise of the outstanding common stock warrants and common stock
   options (using the treasury stock method).  Common stock equivalents have
   been excluded from the computation of loss per share as their effect is anti-
   dilutive.  The weighted average common shares utilized for the years ended
   December 31, 1996 and 1997 were 1,707,095 and 4,559,140 (as restated - see
   note 15), respectively.

   NEW ACCOUNTING PRONOUNCEMENTS

   In February 1997, the Financial Accounting Standards Board issued SFAS No.
   128 Earnings Per Share.  In accordance with this pronouncement, the Company
   adopted the new standard for the years ended December 31, 1996 and 1997.  The
   adoption of this pronouncement did not have an effect on reported loss per
   share information.

                                      16
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                   Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)

    STOCK-BASED COMPENSATION

    In October 1995, the Financial Accounting Standards Board issued Statement
    of Financial Accounting Standards No. 123 ("SFAS 123"), Accounting for 
    Stock-Based Compensation. Under SFAS 123, the Company may elect to recognize
    stock-based compensation expense based on the fair value of the awards or
    continue to account for stock-based compensation under Accounting Principles
    Board Opinion No. 25, Accounting for Stock Issued to Employees' and disclose
    in the financial statements the effects of SFAS 123 as if the recognition
    provisions were adopted. The Company has elected to account for stock-based
    compensation under Accounting Principles Board Opinion No. 25 ("APB 25").

(3) BUSINESS COMBINATIONS AND DENTAL PRACTICE ACQUISITIONS

    BUSINESS COMBINATIONS

    On November 4, 1997, GMS merged into GDS. In connection with the merger
    transaction, all of the issued and outstanding shares of GMS common stock
    were converted into 4,548,161 shares of common stock of the Company.

    The merger has been accounted for using the pooling-of-interests method of
    accounting. Accordingly, the historical financial statements for the periods
    prior to the completion of the combination have been restated as though the
    companies had been combined. The restated financial statements have been
    adjusted to conform the lives in computing depreciation of equipment and
    amortization of intangible assets. Such adjustments resulted in no change in
    amortization expense in 1996 and in a decrease in depreciation expense of
    $24 in 1996. Additionally, such adjustments resulted in a decrease in the
    1996 income tax benefit of $10.

    The results of operations of GMS and GDS for 1997 through the date of the
    merger are as follows:

<TABLE>
<CAPTION>
                                            GMS              GDS
                                         ----------       ----------
<S>                                      <C>              <C>
        DP net patient service revenue   $   22,683       $        -
        Net management fees                       -           11,841
                                         ----------       ---------- 
 
            Net income (loss)            $   (1,087)      $      308
                                         ==========       ==========
</TABLE>

   As a result of the merger, the Company recorded direct merger expenses of
   $677. These expenses consist primarily of accounting, legal and other
   advisory fees. Also, the Company recorded a restructuring charge of
   $1,132, or $.25 per share (as restated, see note 15), in the fourth quarter
   of 1997. The charge included $289 for employee related costs, $311 for
   facility consolidation and related leasehold and fixed asset write-offs and
   $532 for the redirection of certain duplicative operations and programs and
   other costs. These charges are scheduled to be substantially completed in
   1998. At December 31, 1997, the Company's remaining obligation related to the
   restructuring charges was $853 and is included in other current liabilities
   in the accompanying financial statements. 

                                      17
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                   Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)

   DENTAL PRACTICE ACQUISITIONS

   In 1996, the Company acquired substantially all of the assets of 15 dental
   office locations, including cash, accounts receivable, supplies and fixed
   assets.  The total price for the fair value of the assets acquired, including
   intangible assets was $12,914.  Approximately $8,501 of the purchase price
   has been allocated to intangible assets.  The total purchase consideration
   included $7,268 in cash, $2,725 in redeemable and nonredeemable preferred and
   common stock and $2,921 in liabilities issued or assumed.

   In 1997, the Company acquired substantially all of the assets of 15 dental
   office locations, including cash, accounts receivable, supplies and fixed
   assets.  The total price for the fair value of the assets acquired, including
   intangible assets was $17,459.  Approximately $13,213 of the purchase price
   has been allocated to intangible assets.  The total purchase consideration
   included $9,706 in cash, $1,991 in nonredeemable preferred and common stock
   and warrants and $5,762 in liabilities issued or assumed.

   In connection with the affiliation of certain dental practices, the Company
   is obligated to pay additional consideration, depending upon the achievement
   of certain financial results, as defined by the purchase agreements.  During
   1997, the Company accrued $356 for the portion of 1997 earnouts which the
   Company expects to pay in common stock.  Additional consideration may be
   payable in cash or stock depending upon the performance of certain affiliated
   practices.  The additional consideration to be paid under these agreements is
   not presently determinable.  However, such additional consideration, if any,
   is not expected to have a material impact on the financial condition or on
   the results of operations of the Company.

   The above asset purchases in 1996 and 1997 have been accounted for using the
   purchase method of accounting.  The excess of the total purchase price over
   the fair value of the net tangible and identifiable intangible assets
   acquired representing the estimated future value of the management services
   agreements are being amortized over the lesser of the term of the related
   management service agreements or 25 years using the straight-line method.
   The results of operations for these practices have been included in the
   consolidated financial statements of the Company since the dates of their
   affiliation.

   The following unaudited pro forma information presents the condensed
   consolidated results of operations as if the 1996 and 1997 affiliations
   discussed above had occurred as of January 1, 1996.  The  pro forma results
   have been prepared for comparative purposes only and are not necessarily
   indicative of what the actual results of operations would have been had the
   practices been affiliated as of that date, nor does it purport to represent
   future operations of the Company:

<TABLE>
<CAPTION>
                                                         1996       1997
                                                       --------   --------
<S>                                                    <C>        <C>
     Pro forma:
       DP net patient service revenue - consolidated   $ 31,006   $ 14,076
       Net management fees                               13,182     35,242
       Net loss                                          (1,084)    (1,918)
                                                       --------   --------
           Net loss per share                          $   (.40)  $   (.41)
                                                       ========   ========
</TABLE>

                                      18
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                   Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)

(4) PROPERTY AND EQUIPMENT

    Property and equipment are summarized as follows:

<TABLE>
<CAPTION>
                                           1996             1997     
                                         ---------       ---------   
<S>                                      <C>             <C>          
      Dental equipment                   $   3,328       $   5,697 
      Computer equipment                     1,098           1,941
      Furniture, fixtures and equipment        728           1,053
      Leasehold improvements                 1,681           3,576
      Vehicles                                  22              32
      Buildings                                 48              48
      Land                                      10              10
                                         ---------       ---------
 
          Total property and equipment       6,915          12,357
 
      Less accumulated depreciation and
       amortization                         (1,149)         (2,273)
                                         ---------       ---------
 
          Property and equipment, net    $   5,766       $  10,084
                                         =========       =========
</TABLE>


    At December 31, 1996 and 1997, property and equipment include assets under
    capital leases with an original cost of $1,262 and $1,524, respectively and
    accumulated amortization of $235 and $456, respectively.

(5) INTANGIBLE ASSETS

    Intangible assets consists of the following:

<TABLE>
<CAPTION>
                                           1996             1997      
                                         ---------       --------- 
<S>                                      <C>             <C>  
      Management services agreements     $  10,430       $  23,338
      Trademarks                                50              44
      Organizational costs                      75               5
      Other                                     56               -
                                         ---------       ---------
                                            10,611          23,387
      Less accumulated amortization           (281)           (544)
                                         ---------       ---------
                                         $  10,330       $  22,843
                                         =========       =========
</TABLE>

                                      19
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                   Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)

(6) DEBT

    SHORT-TERM BORROWINGS

    At December 31, 1996, the Company had a total of $2,097 outstanding under
    two bank operating lines of credit with a bank secured by substantially all
    assets of the Company. In February 1997, the entire outstanding amount was
    fully repaid from the net proceeds from the Offering (see note 1).

    LONG-TERM DEBT

    At December 31, 1997, the Company had a credit facility from a bank in the
    amount of $10,000 (which was increased to a $25,000 credit facility on
    January 7, 1998, see note 14). The proceeds of the credit facility are
    available for working capital needs and to finance dental practice asset
    acquisitions. Principal amounts owed under the credit facility through
    December 31, 1997 bear interest up to 1% above the prime rate or up to 3.25%
    above LIBOR, at the Company's option, dependent on the Company's leverage
    ratio. The outstanding balance on this facility as of December 31, 1997 was
    $10,000. The obligations under this credit agreement are secured by
    substantially all assets of the Company and its subsidiaries.

                                      20
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                    Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)

   Long term debt is summarized as follows:

<TABLE>
<CAPTION>
                                                                            1996            1997
                                                                         ----------     -------------
<S>                                                                      <C>            <C>  
Note payable to bank due in monthly installments of principal and
 interest at prime plus 1.25%, paid during 1997                          $    667       $           -
Notes payable to bank with interest-only payments for the first 12
 months at prime plus 1.5%, paid during 1997                                1,699                   -
Secured notes payable, bearing interest at rates ranging from 9.75%
 to 9.99%; monthly principal and interest payments of $5; maturing
 at various dates through June 2000; secured by mortgage                       70                   -
Credit facility, bearing interest at 3.25% in excess of LIBOR rate
 (9.1% at December 31, 1997), unpaid balance due in equal quarterly
 installments of principal and interest commencing October, 1998
 through October 2001                                                          48              10,000
Subordinated note payable, bearing interest at 8%, interest payable
 annually beginning December 31, 1997 through January 2002;
 principal due 2002                                                             -                 742
Senior subordinated note payable, bearing interest at 8%; due in 60
 monthly installments of principal and interest of $14, beginning
 August 1, 1997 through July 2002                                               -                 637
Subordinated note payable bearing interest at 8%; payable in 36
 monthly installments of $5, beginning December 1, 1997 through
 December 2001                                                                  -                 155
Senior subordinated note payable, face value of $500 discounted at
 8%; due in July 1999                                                           -                 441
Senior subordinated note payable, face value of $2,083  discounted
 at 8%; due in July 2002                                                        -               1,448
Various unsecured notes payable, due in monthly installments of
 principal and interest at rates ranging from 8.25% to 10.75%,
 maturing through November 2003                                               210                 702
                                                                         --------       -------------
                                                                            2,694              14,125
Less current portion                                                         (872)               (283)
                                                                         --------       -------------
                                                                         $  1,822       $      13,842
                                                                         ========       =============
</TABLE>

                                      21
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                    Notes to Financial Statement, Continued
              (in thousands, except share and per share amounts)

    At December 31, 1997, the aggregate maturities of long-term debt for each of
    the next five years are as follows:

<TABLE>
<S>                                    <C>
                  1998                 $     283
                  1999                     1,381
                  2000                     3,061
                  2001                     3,815
                  2002                     5,564
                  Thereafter                  21
                                       ---------
                                       $  14,125
                                       =========
</TABLE>

(7) SHAREHOLDERS' EQUITY

    As of December 31, 1996, the Company had only common stock outstanding and
    GMS had two classes of stock outstanding: common stock and preferred stock.
    GMS preferred stock outstanding consisted of convertible preferred stock -
    Series A, redeemable convertible preferred stock - Series B and convertible
    preferred stock - Series C. The redeemable convertible preferred stock -
    Series B, including dividends and the convertible preferred stock - Series A
    and C, were converted into 7,603,677 shares (3,384,302 shares of GDS common
    stock) of GMS common stock on November 4, 1997 prior to the GMS merger. Upon
    closing of the merger between GMS and the Company, all 10,218,578
    outstanding GMS common shares were converted into 4,548,161 shares of the
    Company's common stock.

    COMMON STOCK

    An aggregate of 608,524 shares of common stock were issued in 1997 at a
    purchase price of $.225 per share to the founders of GMS. 269,278 of these
    shares are subject to a four-year vesting schedule whereby one-quarter of
    the shares vested upon issuance and one-quarter of the shares vested in
    October 1997. The remaining shares vest on a monthly basis during the
    remaining thirty-six months.

    An aggregate of 254,901 shares issued to certain other shareholders, which
    were issued at a price of $.45 per share, and 339,246 shares out of the
    608,524 shares issued to GMS founders, are subject to, in certain events, a
    right of repurchase by the Company, at cost. One half of the shares are
    currently subject to repurchase because the Company's EBITDA (excluding CEO
    salary and related expenses) for 1997 did not exceed $4,724. The second half
    of the shares will be subject to repurchase if, among other things, the
    Company's EBITDA (excluding CEO salary and related expenses) for 1998 does
    not exceed $12,683, and a portion of the second half will be subject to
    repurchase if such EBITDA does not exceed $16,911.

    PREFERRED STOCK

    Preferred stock may be issued by the Board of Directors with preferences to
    be determined at the time of issuance. Through December 31, 1997, none of
    the 30,000,000 authorized shares of the Company's preferred stock has been
    issued or is outstanding. 

                                      22
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                   Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)

   STOCK WARRANTS ISSUED IN CONJUNCTION WITH DEBT ISSUANCE AND ACQUISITIONS

   In May 1996 the Company issued warrants to purchase 4,333 shares of the
   Company's common stock at $7.50 per share to a lender in connection with a
   line of credit agreement.  The stock warrants were valued at $9 and have been
   recorded as debt issuance costs and additional paid-in capital.  The
   estimated fair value of the stock warrants was amortized over the six-month
   term of the line of credit.  Such amortization expense has been included in
   interest expense in the statement of operations.  The stock warrants expire
   on May 31, 2001 and carry certain piggyback registration rights.  The stock
   warrants have not been exercised to date.

   In addition, in May 1996, the Company issued to certain directors, officers
   and shareholders of the Company warrants to purchase 115,000 shares of the
   Company's common stock at $7.50 per share in consideration for guaranteeing a
   total of $1,000 of a line-of-credit which is no longer available and has been
   fully repaid.  The fair value of the stock warrants of $233 was amortized
   over the six-month term of the line of credit.  Such amortization expense has
   been included in interest expense in the statement of operations.  All stock
   warrants expire in May 2001 and no such stock warrants have been exercised to
   date.

   In connection with the Company's $10 million credit facility, warrants were
   issued in 1996 entitling the bank to purchase up to 81,942 shares of the
   Company's common stock at a price of $3.93 per share.  The warrants were
   recorded at their estimated fair market value of $1 which is included in
   interest expense in the accompanying financial statements.  These warrants
   expire in October 2001.

   In connection with the Company's initial public offering, warrants were
   issued in 1997 entitling representatives of the underwriters to purchase up
   to 150,000 shares of the Company's common stock at a price of $6.00 per
   share. These warrants were recorded at their estimated fair value of $1.

   In connection with the acquisition of the net assets of  dental practices in
   1997, the Company issued warrants to purchase approximately 189,160 shares of
   common stock at $7.86 per share.  The warrants expire in 2004; no such stock
   warrants have been exercised to date.  Warrants for 22,254 shares become
   exercisable only if certain performance conditions are met by the acquired
   dental practices.  The estimated fair value of $4 was recorded as part of the
   consideration for the acquisition.

                                      23
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                    Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)

(8) Redeemable Convertible Preferred and Common Stock

    The following summary presents the changes in the redeemable convertible
    preferred stock - Series B and redeemable common stock:

<TABLE>
<CAPTION>
                                         Shares of
                                         Redeemable                Redeemable
                                        Convertible                Convertible                 Shares of              Redeemable 
                                      Preferred Stock-           Preferred Stock-          Redeemable Common           Common
                                          Series B                   Series B                    Stock                  Stock
                                    --------------------       --------------------       --------------------       -------------
<S>                                 <C>                        <C>                        <C>                        <C>
Balance, December 31, 1995                             -       $                  -                     57,551       $      711
Issued in connection with
 private placement                             6,180,000                     10,815                    100,000              957
Issued in connection with
 acquisitions                                          -                          -                     38,994              530
Accretion of put rights                                -                          -                          -               91
Exercise of put rights                                 -                          -                     (6,243)             (90)
Dividends on redeemable
 convertible preferred stock
 - Series B                                            -                        240                          -                -
                                    --------------------       --------------------       --------------------       ---------- 
Balance, December 31, 1996                     6,180,000                     11,055                    190,302            2,199
                                    --------------------       --------------------       --------------------       ---------- 
Issued in connection with
 private placement                               107,142                        188                          -                -
Dividends on redeemable
 convertible preferred stock
 - Series B                                            -                        932                          -                -
Accretion of put rights                                -                          -                          -               34
Exercise of put rights                                 -                          -                     (6,616)            (103)
Conversion into common stock                  (6,287,142)                   (12,175)                         -                -
                                    --------------------       --------------------       --------------------       ---------- 
Balance, December 31, 1997                             -       $                  -                    183,686       $    2,130
                                    ====================       ====================       ====================       ==========
</TABLE>

    REDEEMABLE COMMON STOCK

    In connection with certain acquisitions, the Company granted put rights to
    certain shareholders that may require the Company to redeem up to 96,545
    shares of its common stock, at a redemption price ranging from $13.38 to
    $19.62 per share. If all shareholders with such put rights exercise their
    options, the Company would be required to repurchase the above shares of
    common stock for $1,409. The redemption periods began April 1, 1996 and
    continue through January 4, 2003. If the shareholder does not place a
    redemption request during the redemption period, the put right will expire
    on the stated expiration date. Put rights for all but 20,000 shares
    terminate in the event of the Company successfully completing a public
    offering at a price of at least $20.00 per share. The Company redeemed 6,243
    shares of redeemable common stock for $90 during 1996 and 6,616 shares for
    $103 during 1997.

                                      24
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES
                    Notes to Financial Statements, Continued
              (in thousands, except share and per share amounts)


   The shares of common stock subject to the put rights are reported on the
   balance sheet as redeemable common stock.  Such shares have been recorded at
   their fair value as of date of acquisition, inclusive of accretion during
   each of the two years in the period ended December 31, 1997.  The Company
   records accretion on a ratable basis over the redemption period of the
   respective stock.  Such accretion for the years ended December 31, 1996 and
   1997 was $91 and $34, respectively.

   Such common stock at December 31, 1997 is redeemable as follows:

<TABLE>
<CAPTION>
                                   Shares     Amount       Price range 
                                  -------    -------    -----------------
         <S>                      <C>        <C>        <C>          
         1998                       2,974    $    50    $   16.82    
         1999                       2,754         50        13.38 - 18.16
         2000                      40,849        576        13.60 - 19.62
         2001                      29,681        438        13.60 - 18.80
         2002                       3,714         51        13.60        
         Thereafter                 3,714         51        13.60        
                                   ------    -------                     
                                   83,686    $ 1,216                     
                                   ======    =======
</TABLE>


   PRIVATE PLACEMENT OF REDEEMABLE COMMON STOCK AND WARRANTS

   In June 1996, the Company completed a private placement offering (the
   "Placement Offering") of 100,000 shares Company's redeemable common stock
   which include warrants to purchase 100,000 additional shares of the Company's
   common stock at an exercise price of $7.50 per share.  Total proceeds from
   the Placement Offering (net of Placement Offering costs of $43) were $957.
   The net proceeds allocated to common stock aggregated $732.  The stock
   warrants were recorded at their estimated fair value of $225 and are entitled
   to certain piggyback registration rights.  The stock warrants expire on
   December 14, 2001; no stock warrants have been exercised to date.

   In connection with the private placement, the shareholder received certain
   put rights which are exercisable after June 21, 2001 but not later than June
   21, 2003 if the Company has not completed a public offering of its common
   stock by June 21, 2001 at a price of at least $22.00 per share and with net
   proceeds to the Company of at least $10,000.  The per share price applicable
   to the put rights is 20 times the Company's average adjusted net income per
   share for the two most recent fiscal years preceding the exercise of the
   rights.  As of December 31, 1997, the Company has not recorded any accretion
   related to the above put rights.

                                      25
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


(9)  Stock Options

     The Company has adopted a Stock Incentive Plan (the "Plan"). The Plan
     provides for issuance of up to 1,000,000 shares of common stock in
     connection with various stock grants, awards and sales granted under such
     plan to employees and non-employees (primarily key dental group personnel).
     The Plan authorizes the grant of incentive stock options, non-statutory
     stock options, stock appreciation rights or bonus rights; award of stock
     bonuses; and/or sale of restricted stock. The exercise price for incentive
     stock options may not be less than fair market value of the underlying
     shares on the date of grant. The Plan is administered by the Company's
     Board of Directors. The Board has the authority to determine the persons to
     whom awards will be made, the amounts, and other terms and conditions of
     the awards. Shares issued under the Plan are generally subject to a five-
     year vesting schedule from the date of grant and expire ten years from the
     original grant date.

     On February 13, 1997 (the offering date), the Company repriced all employee
     stock options than outstanding to the offering price of $5.00 per share
     (except for certain stock options held by a principal shareholder, which
     were repriced at 110% of the offering price). All other terms with respect
     to such options were maintained. The Company did not recognize compensation
     expense related to the repricing of the employee stock options as the
     adjusted exercise price was not below the fair value of the common stock as
     of the repricing date.

     Prior to the merger, GMS had two stock-based option plans ("Former Plans")
     which offered essentially the same awards and stock option terms as the
     Plan. Upon consummation of the merger of GMS with the Company, the Former
     Plans were frozen to allow no additional option grants under those plans.
     The number of options and option price for the options granted under the
     Former Plans were converted to the Company share and share price equivalent
     utilizing the same conversion ratio of GMS common stock to Company common
     stock.

     Stock options issued to non-employees have been recorded at their estimated
     fair market value and are being expensed over their respective vesting
     lives of up to five years. Total compensation expense recorded for the
     years ended December 31, 1996 and 1997 was $52 and $56, respectively.

     Statement of Financial Accounting Standards No. 123 ("SFAS 123")

     The Financial Accounting Standards Board has issued SFAS 123, Accounting
     for Stock Based Compensation, which defines a fair value based method of
     accounting for employee stock option or similar compensation plans.
     However, it also allows an entity to continue to measure compensation cost
     related to stock options issued to employees under these plans using the
     method of accounting prescribed by the Accounting Principles Board Opinion
     No. 25 ("APB 25"), Accounting for Stock Issued to Employees. Entities
     electing to remain with the accounting in APB 25 must make pro forma
     disclosures of net income and earnings per share, as if the fair value
     based method of accounting defined in this Statement had been applied.

                                      26
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


     The Company has elected to account for its stock-based compensation plans
     under APB 25; however, the Company has computed for pro forma disclosure
     purposes the value of all options granted during the years ended December
     31, 1996 and 1997. The 1996 options were valued using the minimum value
     pricing model as prescribed by SFAS 123 for nonpublic companies. The
     options issued subsequent to the Company's 1997 initial public offering
     have been valued using the Black-Scholes pricing model as prescribed by
     SFAS 123. The following weighted average assumptions have been used for
     grants of stock options:

<TABLE>
<CAPTION>
                                                1996         1997
                                             ----------   ---------- 
            <S>                              <C>          <C>
            Risk free interest rate                6.5%         6.4%
            Expected dividend yield                 -            -
            Expected lives                     5 years      5 years
            Expected volatility                     -            60%
</TABLE>

     Options were assumed to be exercised over the five-year expected life for
     the purpose of this valuation. Adjustments are made for options forfeited
     prior to vesting. The total value of options granted was computed as the
     following approximate amounts, which would be amortized on the straight-
     line basis over the vesting period of the options:

<TABLE>
                  <S>                                  <C>
                  Year ended December 31, 1996         $  705
                  Year ended December 31, 1997          1,175
</TABLE>

     If the Company had accounted for stock options issued to employees in
     accordance with SFAS 123, the Company's net loss attributable to common
     stock and pro forma net loss per share would have been reported as follows:

     Net loss attributable to common stock:

<TABLE>
<CAPTION>
                                          1996           1997
                                       ----------     ----------
                  <S>                  <C>            <C>
                  As reported           $(2,018)      $(4,153)
                  Pro forma              (2,133)       (4,523)
</TABLE>

     Pro forma net loss per common and common equivalent share:

<TABLE>
<CAPTION>
                                                                 1997
                                                             (as restated -
                                               1996           see note 15)
                                             --------        --------------
            <S>                              <C>             <C>
            As reported - basic              $(1.18)         $ (.91)
            Pro forma - basic                 (1.25)           (.99)
            As reported - diluted             (1.18)           (.91)
            Pro forma - diluted               (1.25)           (.99)
</TABLE>

     The effects of applying SFAS 123 for providing pro forma disclosures for
     1996 and 1997 are not likely to be representative of the effects on
     reported net loss and net loss per common equivalent share for future
     years, because options vest over several years and additional awards
     generally are made each year.


                                      27
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


     The following summary presents the options granted and outstanding under
     the Plan and Former Plans as of December 31, 1997:

<TABLE>
<CAPTION>
                                                                              Weighted
                                           Number of shares                    average
                                      -------------------------               Exercise
                                       Employee    Non-employee     Total       price
                                      ----------   ------------   ---------   --------
<S>                                   <C>          <C>            <C>         <C>
Outstanding, December 31, 1995          215,000       67,750       282,750     $5.47
   Granted                              192,112       38,705       230,817      3.43
   Exercised                             (2,000)         -          (2,000)      -
   Canceled                             (96,549)      (5,833)     (102,382)     8.19
                                       --------      -------      --------     -----
Outstanding, December 31, 1996          308,563      100,622       409,185      3.66
   Granted                              746,306        1,200       747,506      3.03
   Exercised                           (353,918)         -        (353,918)      .71
   Canceled                            (142,100)      (1,200)     (143,300)     4.78
                                       --------      -------      --------     -----
Outstanding, December 31, 1997          558,851      100,622       659,473     $4.85
                                       ========      =======      ========     =====
</TABLE>

     The following table sets forth the exercise prices, the number of options
     outstanding and exercisable, and the remaining contractual lives of the
     Company's stock options granted under the Plan and Former Plans at December
     31, 1997:

<TABLE>
<CAPTION>
                                                        Weighted
                                                         average
                              Number of options        contractual
               Exercise   -------------------------       life
                price     Outstanding   Exercisable     remaining
               --------   -----------   -----------   -------------
               <S>        <C>           <C>           <C>
                $  .20       15,250        15,250        7.57 years
                   .45       84,118        19,195        8.90
                   .67       15,355           -          9.63
                  4.13       45,500           -          6.76
                  5.00      305,250        48,170        8.45
                  5.50       81,000        81,000        5.83
                  8.02       68,000         1,000        9.64
                 10.00       45,000        27,672        7.35
                ------      -------       -------        ----
                $ 4.85      659,473       192,287        8.02
                ======      =======       =======        ====
</TABLE>

     As of December 31, 1997, there are 354,538 options available for future
     grant under the Plan.
 
                                      28
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


(10) Transactions with and Receivables from Related DP's

     The Company currently derives a portion of its management fees from three
     DPs with which it is related through common ownership of certain
     shareholders.

     The Company provides management support services to these related DPs under
     management agreements with forty-year terms. In 1996 and 1997, the Company
     earned management fees based on specified percentages of net dental
     practice patient revenues as defined in the agreements. Such percentages
     ranged from 51% to 53% and were negotiated with the DPs and have been
     developed and revised as necessary based on the Company's services and
     operating needs. Subsequent to December 31, 1997, the Company and the DPs
     have entered into new management services agreements (see note 14).

     Affiliate receivables consist primarily of amounts owed to the Company by
     the unconsolidated DPs to reimburse the Company for payment of the
     unconsolidated DPs payroll and other direct costs, net of amounts due to
     the unconsolidated DPs related to the asset acquisitions and the
     unconsolidated DPs share of revenues. The Company also transacts various
     other business with the related DPs, including short-term operating
     advances.

(11) Income Taxes

     Income tax benefit consists of the following:

<TABLE>
<CAPTION>
                                                 1996
                                    ------------------------------
                                    Current   Deferred     Total
                                    -------   --------   ---------
                              
            <S>                     <C>       <C>        <C>
            U.S. Federal             $(175)    $(420)      $(595)
            State and local             (6)      (54)        (60)
                                     -----     -----       -----
                                     $(181)    $(474)      $(655)
                                     =====     =====       =====

<CAPTION>
                                                 1997
                                    ------------------------------
                                    Current   Deferred     Total
                                    -------   --------   ---------
            <S>                     <C>       <C>        <C>
            U.S. Federal             $(123)    $  34       $ (89)
            State and local              8        -            8
                                     -----     -----       -----
                                     $(115)    $  34       $ (81)
                                     =====     =====       =====
</TABLE>

                                      29
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


     The effective tax rate differed from the U.S. statutory Federal rate due to
     the following:

<TABLE>
<CAPTION>
                                                               1996       1997
                                                             --------   --------
<S>                                                          <C>        <C>
Statutory federal rate                                       $  (796)   $(1,111)
Increase (reduction) in income taxes resulting from:
   State income taxes, net of federal income tax benefit         (90)         3
   Amortization of nondeductible goodwill and other
     nondeductible items                                         163         80
   Valuation allowance for deferred tax assets allocated
     to income tax expense                                        75        691
   Prior year reconciliation                                       -        189
   Other                                                          (7)        67
                                                             -------    -------
Effective tax rate                                           $  (655)   $   (81)
                                                             =======    =======
</TABLE>

     Deferred tax assets (liabilities) are comprised of the following
components:

<TABLE>
<CAPTION>
                                                               1996       1997
                                                             --------   --------
<S>                                                          <C>        <C>
Deferred tax assets:
   Net operating loss carryforward                           $   647    $   645
   Accrued payroll/bonus related                                   -         85
   Allowance for doubtful accounts                               618      1,663
   Compensated absences, principally due to accrual for
     financial reporting purposes                                114        146
   Intangible assets, principally due to differences in
     amortization and capitalized cost                             -        164
   Other                                                          12         38
                                                             -------    -------
       Total gross deferred tax assets                         1,391      2,741
Less valuation allowance                                         (75)      (766)
                                                             -------    -------
       Deferred tax assets, net of valuation allowance         1,316      1,975
                                                             -------    -------
Deferred tax liabilities:
   Accounts receivable                                          (759)    (1,410)
   Plant and equipment, principally due to differences
     in depreciation and capitalized cost                       (444)      (525)
   Intangible assets, principally due to accrual for
     financial reporting purposes                                (11)         -
   Cash versus accrual reporting for tax purposes                (68)       (38)
   Other                                                           -         (2)
                                                             -------    -------
       Deferred tax liabilities                               (1,282)    (1,975)
                                                             -------    -------
       Net deferred tax asset                                $    34    $     -
                                                             =======    =======
</TABLE> 

                                      30
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


(12) Malpractice Insurance

     The dental group's dentists are insured with respect to dentistry
     malpractice risks on a claims-made basis. There are known claims and
     incidents that may result in the assertion of additional claims, as well as
     claims from unknown incidents that may be asserted arising from services
     provided to patients. Management is not aware of any claims against the
     Company or its affiliated groups which might have a material impact on the
     Company's financial position or results of operations.

(13) Commitments and Contingencies

     Lease Commitments

     The Company has primarily entered into operating leases of commercial
     property. Commercial properties under operating leases mostly include space
     required to perform dental services and space for administrative
     facilities. Lease expense, including month-to-month rentals, for the years
     ended December 31, 1996 and 1997 was $1,432 and $3,012, respectively.

     The future minimum lease payments under capital leases and noncancelable
     operating leases with remaining terms of one or more years consist of the
     following at December 31, 1997:

<TABLE>
<CAPTION>
                                                    Capital    Operating
                                                   ---------   ---------
           <S>                                     <C>         <C>
           1998                                      $  465     $ 3,246
           1999                                         312       3,169
           2000                                         232       2,838
           2001                                         103       2,506
           2002                                          36       2,029
           Thereafter                                     -       8,284
                                                     ------     -------
              Total minimum lease obligation          1,148     $22,072
                                                                =======
           Less portion attributable to interest        199
                                                     ------
 
              Obligations under capital leases          949
 
           Less current portion                         368
                                                     ------
                                                     $  581
                                                     ======
</TABLE>

                                      31
<PAGE>

                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


     Litigation

     The Company is subject to various claims and legal actions which arise in
     the ordinary course of business. In the opinion of management, the ultimate
     resolution of such matters will not have a material adverse effect on the
     Company's financial position or results of operations

(14) Subsequent Events

     On January 7, 1998, the Company amended its $10 million credit facility
     (the "Credit Facility") to provide for a maximum credit line of $25
     million, which may be increased at the option of the Company to $30 million
     following completion of an equity offering by the Company in which the
     Company receives at least $20 million in net cash proceeds. The Company
     intends to use the Credit Facility for working capital requirements, to
     purchase non-professional dental practice assets of additional dental
     practices that the Company may seek to affiliate with, and to purchase
     operating assets for existing affiliated dental practices. The Credit
     Facility provides that the aggregate amount borrowed under the Credit
     Facility for working capital purposes and letter of credit obligations may
     not exceed $4 million, and that remaining amounts available under the
     Credit Facility may be used by the Company for permitted acquisitions and
     capital expenditures. The revolving feature of the Credit Facility expires
     on September 30, 1999, at which time it will convert into a three year term
     loan to be repaid in 12 equal quarterly installments. Principal amounts
     owed under the Credit Facility bear interest, at the Company's option and
     dependent upon the Company's leverage ratio, of (i) up to 1.0% over prime
     or (ii) up to 3.25% above LIBOR. The Credit Facility requires the Company
     to pay an unused commitment fee based upon a range from .375 - .50% of the
     amount by which the bank commitment under the Credit Facility exceeds the
     aggregate amount of all loans then outstanding. The Credit Facility
     contains several covenants including (i) restrictions on the ability of the
     Company to incur indebtedness and repurchase, or pay dividends with respect
     to, its capital stock; and (ii) requirements relating to maintenance of a
     specific net worth and specified ratios of current assets to current
     liabilities, debt to cash flow and EBITDAR (earnings before interest
     expense, taxes, depreciation, amortization and operating lease rental
     expense) to fixed charges. In addition, the Credit Facility requires the
     Company to notify the lenders prior to making any acquisition and to obtain
     the consent of the lenders prior to making (i) certain acquisitions with
     purchase price exceeding $3 million, (ii) all acquisitions with purchase
     prices exceeding $5 million and (iii) capital expenditures exceeding $5
     million in any fiscal year. The Credit Facility also requires the Company
     to convert to a holding company that owns no assets other than the stock of
     its operating subsidiaries on or before May 31, 1998. If the Company does
     not attain holding company status on or before May 31, 1998, the interest
     rate applicable to amounts borrowed under the Credit Facility will be
     increased by 0.5% and if holding company status is not obtained on or
     before July 31, 1998 an event of default will exist under the terms of the
     Credit Facility. The Company's obligations under the Credit Facility are
     guaranteed by each of the subsidiaries of the Company. The obligations of
     the Company under the Credit Facility and the subsidiaries under the
     guarantees are secured by a security interest in the equipment, fixtures,
     inventory, receivables, subsidiary stock, certain debt instruments,
     accounts and general intangibles of each of such entities. 

                                      32
<PAGE>
 
                       GENTLE DENTAL SERVICE CORPORATION
                               AND SUBSIDIARIES

                   Notes to Financial Statements, Continued

              (in thousands, except share and per share amounts)


     The Company and its related Washington and Oregon DPs entered into asset
     purchase and management service agreements (collectively, the Agreements)
     on January 1, 1998. The new management service agreements meet the criteria
     for consolidation of the DP accounts with the Company for financial
     reporting purposes as outlined in EITF 97-2.

     Under the terms of the Agreements, the Company acquired all of the fixed
     assets and assumed certain liabilities of the DPs. In exchange, the Company
     paid consideration of $1,674, which was offset by the Company's $1,674
     receivable from the DPs. In addition, the Company issued options to
     purchase 110,000 shares of Company common stock at an exercise price of
     $8.38 per share, subject to a five-year vesting schedule and will pay $575
     in cash over 18 equal monthly installments. Also, the Company may pay
     possible minimal future consideration in cash or options to be determined
     upon the achievement of certain financial results, as defined in the
     Agreements.

     In 1998 the Company completed the acquisitions of two DPs located in
     northern California and western Oregon, representing ten clinical office
     locations. The purchase price for these affiliations totalled $8,410 and
     included cash and 43,077 shares of common stock. These affiliations will be
     accounted for using the purchase method of accounting.

     On February 28, 1998 the Company signed a definitive agreement to acquire
     Managed Dental Care of Oregon, Inc. (MDC). MDC is a dental care
     organization that contracts with the state of Oregon to provide care under
     the Oregon Health Plan. MDC in turn contracts with dental care providers to
     provide dental care to Oregon Health Plan participants. The cash purchase
     price is $950 and the acquisition is subject to Oregon state regulatory
     approval. The acquisition is expected to close during 1998 and will be
     accounted for using the purchase method of accounting.

     During September 1997, the Company entered into definitive agreements to
     acquire Dedicated Dental Systems, Inc. (DDS) and the assets of certain
     related practices. The acquisition includes 15 dental offices located in
     and around Bakersfield, CA. On February 28, 1998 the definitive agreements
     were amended and now provide for a purchase price of $16,431 in cash and
     705,101 shares of common stock valued at $5,769 plus potential future
     amounts based on performance. The acquisition of DDS is expected to close
     during 1998 and is subject to California state regulatory approval. The
     acquisition will be accounted for using the purchase method of accounting.

     During March 1998, the Company entered into an agreement to lease office
     space for a period of sixty months commencing May 1998 at a monthly base
     rent of $15.

(15) Restatement of Consolidated Financial Statements

     The Company has restated its consolidated financial statements for the
     correction of an error in the weighted average number of shares of common
     stock outstanding for the year ended December 31, 1997.  As a result of 
     this correction, the following amounts were restated as of and for the
     year ended December 31, 1997:

<TABLE> 
<CAPTION> 
                                      As Previously                 As
                                        Reported                 Restated
                                   -----------------        -----------------
     <S>                           <C>                      <C>
     Loss per share attributable
      to common stock - basic and
      diluted                              $(1.17)                   $(.91)

     Weighted average common shares
      utilized for the year ended
      December 31, 1997 (note 2)        3,544,149                4,559,140

     Per share amount of re-
      structuring plan charge
      recorded in the fourth
      quarter of 1997 (note 3)             $  .32                    $ .25

     Pro forma net loss per common
      and common equivalent share:
     As reported - basic and diluted       $(1.17)                   $(.91)
     Pro forma - basic and diluted         $(1.28)                   $(.99)
     (note 9)                            
</TABLE> 

                                      33
<PAGE>
 
                                    PART IV


Item 13.  Exhibits and Reports on Form 8-K

          (a)  Exhibits

               23.1  Independent Auditors' Consent of KPMG Peat Marwick LLP.

               23.2  Independent Auditors' Consent of PricewaterhouseCoopers
                     LLP.

               27.1  Financial Data Schedule.

          (b)  Reports on Form 8-K

               On November 19, 1997, the Company filed a Current Report on Form
8-K to report under Item 2 the merger of GMS Dental Group, Inc. with and into
the Company on November 4, 1997. On November 21, 1997, the Company filed a
Current Report on Form 8-K to report under Item 4 a change in the Company's
principal accountants that occurred on November 14, 1997. No financial
statements were included in either report.

                                      34 


<PAGE>
 

                                   SIGNATURE
                                        
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934,
the registrant has caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized, on July 29, 1998.



                                    GENTLE DENTAL SERVICE CORPORATION

                                    By:  /s/  NORMAN HUFFAKER
                                       -----------------------
                                       Norman Huffaker
                                       Chief Financial Officer


                                      35


<PAGE>
 
                                 EXHIBIT INDEX


Exhibit
Number      Document Description
------      --------------------


23.1        Independent Auditors' Consent of KPMG Peat Marwick LLP

23.2        Independent Auditors' Consent of PricewaterhouseCoopers LLP

27.1        Financial Data Schedule