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UNITED STATESSECURITIES ANDEXCHANGE COMMISSIONWashington, DC 20549

**FORM 10–Q**

| (Mark One)                                       |                                                       |
|--------------------------------------------------|------------------------------------------------------------|
|                                                  | QUARTERLY REPORT PURSUANT TO SECTION    13 OR 15(d) OF THE |
| SECURITIES EXCHANGE ACT OF    1934               |
|                                             |
| For the quarterly period ended December 31, 2004 |
|                                             |
| or                                               |
|                                             |
|                                                  | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF  THE  |
| SECURITIES EXCHANGE ACT OF 1934                  |

For the transition period from ___________________ to ___________________

Commission File Number:000–50351

| **GENESIS HEALTHCARE CORPORATION**                    |
|-------------------------------------------------------|
| (Exact name ofregistrant as specified in its charter) |

| **Pennsylvania**                | **20–0023783**                 |
|---------------------------------|-------------------------------------|
| (State or other jurisdiction of | (I.R.S. Employer IdentificationNo.) |
| incorporation ororganization)   |                                |

| **101 East State Street**                                |      |
|----------------------------------------------------------|-----------|
| **Kennett Square,Pennsylvania**                          | **19348** |
| (Address of principal executiveoffices)                  | (Zipcode) |
|                                                     |      |
| **(610) 444–6350**                                  |
| (Registrant’s telephone number, including areacode) |

| **N/A**                                                                           |
|-----------------------------------------------------------------------------------|
| (Former name, former address andformer fiscal year, if changed since last report) |

      Indicate by check mark whether theregistrant (1) has filed all reports required to be filed by Section 13 or 15(d)of the Securities Exchange Act of 1934 during the preceding 12 months (or forsuch shorter period that the registrant was required to file such reports), and(2) has been subject to such filing requirements for the past 90days.

YES    NO 

     Indicate bycheck mark whether the registrant is an accelerated filer (as defined by Rule12b–2 of the Act).

YES   NO 

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APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS.

     Indicate by check mark whether theregistrant has filed all documents and reports required to be filed by Sections12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to thedistribution of securities under a plan confirmed by a court. 

| YES      (1)        NO |
|---------------------------------------|

|   |                                                                                                                                                                                                            |
|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (1)    | In 2000, prior to the creation ofthe registrant, a substantial majority of the registrant’s subsidiaries filedfor relief under Chapter 11 of the Bankruptcy Code and emerged from suchproceedings in 2001. |

APPLICABLE ONLY TO CORPORATE ISSUERS.

     As of February 4, 2005: 20,119,571shares of the registrant’s common stock were outstanding, including 134,009shares currently held in escrow to be issued in connection with a joint plan ofreorganization confirmed by the Bankruptcy Court on September 20, 2001.

 

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| TABLE OF CONTENTS                                             |
|---------------------------------------------------------------|
|                                                          |   |   | Page |
|                                                          |   |   |   |
| CAUTIONARY STATEMENT REGARDING FORWARD–LOOKINGSTATEMENTS |  |  | 1 |
|                                                          |   |   |   |   |   |   |
| PART I: FINANCIALINFORMATION                                  |  |  |   |
|                                                          |   |   |   |   |   |   |
| ITEM 1:                                                       |  |  | Financial Statements |  |  | 3 |
|                                                          |   |   |   |   |   |   |
| ITEM 2:                                                       |  |  | Management’s Discussion and Analysis of FinancialCondition and Results of Operations |  |  | 18 |
|                                                          |   |   |   |   |   |   |
| ITEM3:                                                        |  |  | Quantitative and Qualitative Disclosures About MarketRisk |  |  | 29 |
|                                                          |   |   |   |   |   |   |
| ITEM 4:                                                       |  |  | Controls andProcedures |  |  | 30 |
|                                                          |   |   |   |   |   |   |
| PART II: OTHERINFORMATION                                     |  |  |   |
|                                                          |   |   |   |   |   |  |
| ITEM 1:                                                       |  |  | Legal Proceedings |  |  | 31 |
|                                                          |   |   |   |   |   |   |
| ITEM 2:                                                       |  |  | Unregistered Sales of Equity Securitiesand Use of Proceeds |  |  | 31 |
|                                                          |   |   |   |   |   |   |
| ITEM 3:                                                       |  |  | Defaults Upon Senior Securities |  |  | 31 |
|                                                          |   |   |   |   |   |   |
| ITEM4:                                                        |  |  | Submission of Matters to a Vote of SecurityHolders |  |  | 31 |
|                                                          |   |   |   |   |   |   |
| ITEM 5:                                                       |  |  | OtherInformation |  |  | 32 |
|                                                          |   |   |   |   |   |   |
| ITEM 6:                                                       |  |  | Exhibits |  |  | 34 |
|                                                          |   |   |   |   |   |   |
| SIGNATURES                                                    |  |  | 35 |

 

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**CAUTIONARYSTATEMENT REGARDING FORWARD–LOOKING STATEMENTS**

       As used herein, unless the context otherwise requires, all referencesto “GHC,” “we,” “our,”“us,” and similar terms in this report refer to Genesis HealthCare Corporation together with its subsidiaries.   All references to “NCI” in this report refer to NeighborCare, Inc. together with its subsidiaries, formerlyknown as Genesis Health Ventures, Inc.

       Statements made in this report, andin our other public filings and releases, which are not historical facts,contain “forward–looking” statements (as defined in the Private SecuritiesLitigation Reform Act of 1995) that involve risks and uncertainties and aresubject to change at any time. These forward–looking statements may include,but are not limited to:

|        | • | statements contained in “Management’s        Discussion and Analysis of Financial Condition and Results of Operations,” and        the notes to our unaudited condensed consolidated financial statements,        such as demographic trends and our ability to take      advantage of such demographic trends; the expected impact of recently      implemented staffing and retention programs; our ability to meet our      working capital requirements, debt service, and future cash needs; capital      expenditure, debt and lease requirements; our potential extension of      credit to our joint venture partners; the expected changes in and effects      of government legislation and regulation on our business; the nature,      timing and amount of provider tax assessments, including with respect to      the Commonwealth of Pennsylvania; estimates in our pro forma financial      data and critical accounting policies, including the adequacy of our      allowance for doubtful accounts, any anticipated impact of long–lived      asset impairments and our ability to provide for outstanding losses and      loss expenses for our self–insured programs; the estimated impact      of new accounting pronouncements upon adoption; the estimated amount of      net operating loss carryforwards available to us; |
|--------|---------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|        | • | statements contained in “Quantitative and Qualitative Disclosures About Market Risk;” and                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|   |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|   | • | statements contained in “Legal Proceedings” regarding theeffects of litigation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |

        The forward–looking statementsinvolve known and unknown risks, uncertainties and other factors that are, insome cases, beyond our control. You are cautioned that these statements are notguarantees of future performance and that actual results and trends in thefuture may differ materially.

        Factors that could cause actual results to differ materiallyinclude, but are not limited to, the following, certain of which are discussedmore fully in our Annual Report on Form 10–K for the fiscal year endedSeptember 30, 2004:

|   | • | changesin the reimbursement rates or methods of payment from Medicare and Medicaid, orthe implementation of other measures to reduce the reimbursement for ourservices; |
|--------|---------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |    |                                                                                                                                                                    |
|   | • | theexpiration of enactments providing for additional governmentalfunding;                                                                                               |
|   |    |                                                                                                                                                                    |
|   | • | theimpact of federal and state regulations;                                                                                                                             |
|   |    |                                                                                                                                                                    |
|   | • | changes in case mix, payor mix and paymentmethodologies;                                                                                                                |
|   |    |                                                                                                                                                                    |
|   | • | competition in our businesses;                                                                                                                                          |
|   |    |                                                                                                                                                                    |
|   | • | the capital intensive nature of our inpatient servicessegment;                                                                                                          |
|   |    |                                                                                                                                                                    |
|   | • | anincrease in insurance costs and potential liability for losses not covered by,or in excess of, our insurance;                                                         |
|   |    |                                                                                                                                                                    |
|   | • | competition for, and availability of, qualified staff in thehealthcare industry, and risks of potential labor strikes;                                                  |
|   |    |                                                                                                                                                                    |
|   | • | our ability to control operating costs and generatesufficient cash flow to meet operational and financial requirements;                                                 |

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|   | • | our ability, and the ability of oursubsidiary guarantors, to fulfill debt obligations;                                                   |
|--------|---------|------------------------------------------------------------------------------------------------------------------------------------------|
|   |    |                                                                                                                                     |
|   | • | our covenants and restrictions contained in financingagreements which limit our discretion in the operation of ourbusiness;              |
|   |    |                                                                                                                                     |
|   | • | theeconomic condition of or changes in the laws affecting our business in thosemarkets in which we operate;                              |
|   |    |                                                                                                                                     |
|   | • | theimpact of acquisitions, and our ability to integrate acquired businesses, on ouroperations and finances;                              |
|   |    |                                                                                                                                     |
|   | • | ourability to quantify and realize tax benefits relating to our estimated netoperating loss carryforwards;                               |
|   |    |                                                                                                                                     |
|   | • | our ability to ensure and maintain an effective system of internalcontrol over financial reporting;                                      |
|   |    |                                                                                                                                     |
|   | • | the impact of implementing new information systems;                                                                                      |
|   |    |                                                                                                                                     |
|   | • | our charter documents and the Pennsylvania BusinessCorporation Law of 1988, as amended, which could delay or prevent a change ofcontrol; |
|   |    |                                                                                                                                     |
|   | • | thedifficulty in evaluating certain of our financial information due to thespin–off;                                                |
|   |    |                                                                                                                                     |
|   | • | theability to engage successfully in acquisitions and other strategictransactions;                                                       |
|   |    |                                                                                                                                     |
|   | • | federalincome tax liabilities and indemnification obligations related to thespin–off;                                               |
|   |    |                                                                                                                                     |
|   | • | potential conflicts of interest as a result of continuingrelationships with NCI;                                                         |
|   |    |                                                                                                                                     |
|   | • | theability of NCI, as our single largest supplier of pharmaceutical products andservices, to act as a stand–alone entity; and       |
|   |    |                                                                                                                                     |
|   | • | acts of God or public authorities, war, civil unrest,terrorism, fire, floods, earthquakes and other matters beyond ourcontrol.           |

        In addition to these factors andany risks and uncertainties specifically identified in the text surroundingforward–looking statements, any statements in this report or the reports andother documents filed by us with the SEC that warn of risks or uncertaintiesassociated with future results, events or circumstances also identify factorsthat could cause actual results to differ materially from those expressed in orimplied by the forward–looking statements.

        We do not undertake any obligation to release publiclyany revisions to these forward–looking statements to reflect events orcircumstances after the date of this report or to reflect the occurrence ofunanticipated events, except as may be required under applicable securitieslaw.

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**PART I: FINANCIALINFORMATION**

**ITEM1: Financial Statements**

| **GENESIS HEALTHCARE CORPORATION AND SUBSIDIARIES**                                                                                                                                                       |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **UNAUDITED CONDENSED CONSOLIDATED BALANCE          SHEETS**                                                                                                                                              |
| **DECEMBER 31, 2004 AND SEPTEMBER 30, 2004**                                                                                                                                                              |
| **(IN THOUSANDS, EXCEPT SHARE AND PER SHARE          DATA)**                                                                                                                                              |
|                                                                                                                                                                                                      |
|                                                                                                                                                                                                      | **** | **December 31, 2004** |   | **September 30, 2004** |   |
|                                                                                                                                                                                                           |  |  |  |  |
| **Assets:**                                                                                                                                                                                               |   |   |   |   |   |   |
| Current assets:                                                                                                                                                                                           |   |   |   |   |   |   |
|    Cash        and equivalents                                                                                                                                                             | $ | 118,300 |   | $ | 126,071 |   |
|    Current portion of        restricted investments in marketable securities                                                                                                               |   | 30,387 |   |   | 29,887 |   |
|    Accounts        receivable, net of allowances for doubtful accounts of $29,352 and $29,382       atDecember 31, 2004 and September 30, 2004, respectively |   | 170,044 |   |   | 164,622 |   |
|    Prepaid expenses        and other current assets                                                                                                                                        |   | 32,428 |   |   | 33,526 |   |
|    Assets held for sale                                                                                                                                                                    |   | 1,400 |   |   | 6,267 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
|          Total        current assets                                                                                                                         |   | 352,559 |   |   | 360,373 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
| Property and equipment, net of accumulated        depreciation of $125,027        and$114,162, at December 31, 2004 and September 30, 2004, respectively                    |   | 696,214 |   |   | 695,511 |   |
| Assets held for sale                                                                                                                                                                                      |   | 2,511 |   |   | 2,511 |   |
| Restricted investments in marketable    securities                                                                                                                                                        |   | 66,491 |   |   | 65,121 |   |
| Other long–term assets                                                                                                                                                                               |   | 115,552 |   |   | 120,647 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
|          Total        assets                                                                                                                                 | $ | 1,233,327 |   | $ | 1,244,163 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
| **Liabilities and Shareholders’ Equity:**                                                                                                                                                            |   |   |   |   |   |   |
| Current liabilities:                                                                                                                                                                                      |   |   |   |   |   |   |
|    Current installments of long–term debt                                                                                                                                             | $ | 5,528 |   | $ | 27,230 |   |
|    Accounts payable and accrued    expenses                                                                                                                                                |   | 143,325 |   |   | 150,661 |   |
|    Current portion of self–insurance liability    reserves                                                                                                                            |   | 30,387 |   |   | 29,887 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
|          Total current liabilities                                                                                                                           |   | 179,240 |   |   | 207,778 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
| Long–term debt                                                                                                                                                                                       |   | 372,793 |   |   | 375,841 |   |
| Self–insurance liability    reserves                                                                                                                                                                 |   | 63,899 |   |   | 62,920 |   |
| Other long–term liabilities                                                                                                                                                                          |   | 31,302 |   |   | 28,858 |   |
| Commitments and contingencies                                                                                                                                                                             |   |   |   |   |   |   |
| Shareholders’ equity:                                                                                                                                                                                |   |   |   |   |   |   |
|    Common stock – par $0.01, 45,000,000      authorized at December 31, 2004                                                                                                          |   |   |   |   |   |   |
|       and September 30, 2004, 20,107,646      and 20,011,795 issued and                                                                                                     |   |   |   |   |   |   |
|       outstanding at December 31, 2004      and September 30, 2004, respectively                                                                                            |   | 201 |   |   | 200 |   |
|    Additional paid in capital                                                                                                                                                              |   | 554,636 |   |   | 547,841 |   |
|    Retained    earnings                                                                                                                                                                    |   | 31,352 |   |   | 20,504 |   |
|    Accumulated other comprehensive (loss)      income                                                                                                                                      |   | (96 | ) |   | 221 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
|          Total shareholders’ equity                                                                                                                     |   | 586,093 |   |   | 568,766 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |
|          Total liabilities and shareholders’ equity                                                                                                     | $ | 1,233,327 |   | $ | 1,244,163 |   |
|                                                                                                                                                                                                           |  |  |  |  |  |  |

See accompanying notes to unaudited condensed consolidatedfinancial statements.

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| **GENESIS HEALTHCARE CORPORATION AND SUBSIDIARIES**                |
|--------------------------------------------------------------------|
| **UNAUDITED CONDENSED CONSOLIDATED STATEMENTS      OF OPERATIONS** |
| **THREE MONTHS ENDED DECEMBER 31, 2004 AND 2003**                  |
| **(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)**                |
|                                                               |   |   |   |   |   |   |
|                                                               | **Three months ended** |
| ****                                                               | **December 31, 2004** | **** |   **December      31, 2003** |   |
|                                                                    |
| Net revenues                                                       | $ | 402,436 |   | $ | 369,395 |   |
| Operating expenses:                                                |   |   |   |   |   |   |
|    Salaries, wages and benefits                     |   | 246,042 |   |   | 226,867 |   |
|    Other operating expenses                         |   | 93,461 |   |   | 84,819 |   |
|    General and administrative costs                 |   | 20,834 |   |   | 20,735 |   |
|    Loss on early extinguishment of debt             |   | 543 |   |   | 173 |   |
| Lease expense                                                      |   | 7,062 |   |   | 7,411 |   |
| Depreciation and amortization expense                              |   | 11,345 |   |   | 11,588 |   |
| Interest expense                                                   |   | 6,632 |   |   | 5,821 |   |
|                                                                    |
| Income before income tax expense, equity in net income    of       |   |   |   |   |   |   |
|    unconsolidated affiliates and minority interests |   | 16,517 |   |   | 11,981 |   |
| Income tax expense                                                 |   | 6,705 |   |   | 4,860 |   |
|                                                                    |
| Income before equity in net income of unconsolidated               |   |   |   |   |   |   |
|    affiliates and minority interests                |   | 9,812 |   |   | 7,121 |   |
| Equity in net income of unconsolidated affiliates                  |   | 1,111 |   |   | 558 |   |
| Minority interests                                                 |   | (271 | ) |   | (75 | ) |
|                                                                    |
| Income from continuing operations                                  |   | 10,652 |   |   | 7,604 |   |
| Income (loss) from discontinued operations,      net of taxes      |   | 196 |   |   | (1,598 | ) |
|                                                                    |
| Net income                                                         | $ | 10,848 |   | $ | 6,006 |   |
|                                                                    |

| Per common share data and pro forma per common share data        (note 5): |   |       |   |   |       |   |
|----------------------------------------------------------------------------|--------|------------|--------|--------|------------|--------|
| Basic:                                                                     |   |       |   |   |       |   |
|    Income from continuing operations                        | $      | 0.53       |   | $      | 0.38       |   |
|    Income (loss) from discontinued operations               |   | 0.01       |   |   | (0.08      | )      |
|    Net income                                               | $      | 0.54       |   | $      | 0.30       |   |
|    Weighted average shares                                  |   | 20,023,478 |   |   | 19,898,150 |   |
|                                                                       |   |       |   |   |       |   |
| Diluted:                                                                   |   |       |   |   |       |   |
|    Income from continuing operations                        | $      | 0.52       |   | $      | 0.38       |   |
|    Income (loss) from discontinued operations               |   | 0.01       |   |   | (0.08      | )      |
|    Net income                                               | $      | 0.53       |   | $      | 0.30       |   |
|    Weighted average shares                                  |   | 20,517,525 |   |   | 19,935,017 |   |

See accompanying notes to unaudited condensed consolidated financialstatements. 

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| **GENESIS HEALTHCARE CORPORATION AND SUBSIDIARIES**                              |
|----------------------------------------------------------------------------------|
| **UNAUDITED CONDENSED CONSOLIDATED STATEMENTS          OF CASH FLOWS**           |
| **THREE MONTHS ENDED DECEMBER 31, 2004 AND 2003**                                |
| **(IN          THOUSANDS)**                                                      |
|                                                                             | **Three months ended** |   |
|                                                                             | **December 31,    2004** |   | **December 31,    2003** |   |
|                                                                                  |  |  |  |  |  |   |
| Cash flows from operating activities:                                            |   |   |   |   |   |   |
|    Net income                                                     | $ | 10,848 |   | $ | 6,006 |   |
|    Net charges included in operations not        requiring funds  |   | 20,802 |   |   | 17,894 |   |
|    Changes in assets and liabilities:                             |   |   |   |   |   |   |
|       Accounts receivable                          |   | (5,448 | ) |   | (2,525 | ) |
|       Accounts payable and        accrued expenses |   | (10,616 | ) |   | 14,126 |   |
|       Other, net                                   |   | 8,916 |   |   | (3,298 | ) |
|                                                                                  |  |  |  |  |  |  |
|    Total adjustments                                              |   | 13,654 |   |   | 26,197 |   |
|                                                                                  |  |  |  |  |  |  |
|    Net cash provided by operating activities                      |   | 24,502 |   |   | 32,203 |   |
|                                                                                  |  |  |  |  |  |  |
| Cash flows from investing activities:                                            |   |   |   |   |   |   |
|    Capital expenditures                                           |   | (11,126 | ) |   | (7,806 | ) |
|    Net purchases of restricted marketable        securities       |   | (2,187 | ) |   | (2,454 | ) |
|    Purchase of eldercare centers and lease        amendments      |   | – |   |   | (40,589 | ) |
|    Proceeds from sale of eldercare assets                         |   | 5,292 |   |   | 7,129 |   |
|    Other, net                                                     |   | 905 |   |   | 568 |   |
|                                                                                  |  |  |  |  |  |  |
|    Net cash used in investing activities                          |   | (7,116 | ) |   | (43,152 | ) |
|                                                                                  |  |  |  |  |  |  |
| Cash flows from financing activities:                                            |   |   |   |   |   |   |
|    Proceeds from issuance of long–term debt                  |   | – |   |   | 410,000 |   |
|    Repayment of long–term debt                               |   | (26,393 | ) |   | (228,610 | ) |
|    Debt issuance costs                                            |   | – |   |   | (9,337 | ) |
|    Proceeds from exercise of stock options                        |   | 1,236 |   |   | – |   |
|    Net transactions with NCI, prior to the        spin–off   |   | – |   |   | (55,548 | ) |
|                                                                                  |  |  |  |  |  |  |
|    Net cash (used in) provided by financing        activities     |   | (25,157 | ) |   | 116,505 |   |
|                                                                                  |  |  |  |  |  |  |
| Net (decrease) increase in cash and equivalents                                  | $ | (7,771 | ) | $ | 105,556 |   |
| Cash and equivalents:                                                            |   |   |   |   |   |   |
|    Beginning of period                                            |   | 126,071 |   |   | 8,791 |   |
|                                                                                  |  |  |  |  |  |  |
|    End of period                                                  | $ | 118,300 |   | $ | 114,347 |   |
|                                                                                  |  |  |  |  |  |  |
| Supplemental disclosure of cash flow information:                                |   |   |   |   |   |   |
|    Interest paid                                                  | $ | 11,054 |   | $ | 4,823 |   |
|    Taxes paid (principally state income tax)                      |   | 2,247 |   |   | – |   |
|                                                                                  |  |  |  |  |  |  |

See accompanying notes to unauditedcondensed consolidated financial statements.

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**Genesis HealthCare Corporation andSubsidiaries****Notes to Unaudited Condensed Consolidated  Financial Statements**

| **(1)** | **Organization and Basis of Presentation** |
|---------|--------------------------------------------|
|    |                                       |
|    | ***Spin–off***                        |

                On December 1, 2003, NeighborCare, Inc. (NCI) completed the distribution (the spin–off) of the common stock of Genesis HealthCare Corporation (GHC or the Company).  The spin–off was effected by way of a pro–rata tax free distribution of GHC’s common stock to holders of NCI’s common stock on December 1, 2003 at a rate of 0.5 shares of GHC stock for each share of NCI stock owned as of October 15, 2003.

                In connection with the spin–off,  NCI and GHC have agreed contractually to continue certain transitional  arrangements and practices for a limited time after the spin–off. In  addition, NCI and GHC have entered into certain mutually beneficial commercial  arrangements. Specifically, NCI and GHC entered into a separation and  distribution agreement, a tax sharing agreement, a transition services  agreement, a group purchasing agreement, an employee benefits agreement, a  pharmacy services agreement, as amended, a pharmacy benefit management  agreement, as amended, and a durable medical equipment agreement.

       The following  unaudited pro forma financial information gives effect to the spin–off as  if it occurred on October 1, 2003. The unaudited pro forma data is for  informational purposes only and does not purport to represent the results of  future periods. The unaudited pro forma data reflects adjustments based upon  available information and certain assumptions that management of GHC considers  reasonable. No changes in operating revenues and expenses have been made to  reflect the results of any modifications to operations that might have been  made had the spin–off been completed on the aforesaid effective date for  purposes of the unaudited pro forma results. The following unaudited pro forma  information is presented in thousands, except per share information: 

|                                                              | **Three months ended      December 31, 2003** |    |
|-------------------------------------------------------------------|-----------------------------------------------|---------|
|                                                              |                                               |    |
|                                                              |                                          |    | **Pro forma** |   |
|                                                              | **As reported**                               |    | **(Unaudited)** |   |
|                                                              |                                               |    |  |   |
| Net revenues                                                      | $                                             | 369,395 |   | $ | 369,395 |   |
| Income from continuing operations                                 |                                          | 7,604   |   |   | 6,425 |   |
| Diluted earnings per share – from continuing      operations |                                          | 0.38    |   |   | 0.32 |   |

                ***Basis of Presentation***

        The accompanying unauditedcondensed consolidated financial statements through November 30, 2003 have beenprepared on a basis which reflects the historical financial statements of GHCassuming that the operations of NCI contributed in the spin–off were organizedas a separate legal entity, owning certain net assets of NCI. Beginning December1, 2003, the accompanying unaudited condensed consolidated financial statementshave been prepared on a basis which reflects the net operation of GHC as astand–alone entity.

       Prior to the spin–off, certain assets and liabilities related to GHC weremanaged and controlled by NCI on a centralized basis. The accompanyingconsolidated balance sheet as of September 30, 2004 reflects the spin–off ofGHC’s net assets from NCI.

        Prior to the spin–off, substantially all of GHC’s cash accountswere linked to NCI’s centralized cash management system. Accordingly,substantially all cash generated from or used in GHC’s operations had beentransferred to and from NCI. For instance, NCI funded nearly all routine andcapital cash disbursements on behalf of GHC. Likewise, on a daily basis, GHCtransferred its cash receipts directly to the concentrated bank account of NCI.The net transactions with NCI as reflected in the unaudited condensedconsolidated statements of cash flows for the three months ended December 31,2003 represent these cash activities between NCI and GHC. Prior to thespin–off, the financing activities between NCI and GHC were in the form ofequity capital advances and there were no formal repayment or interestarrangements.

        Theaccompanying unaudited condensed consolidated financial statements have beenprepared in accordance with accounting principles generally accepted in theUnited States of America which requires the use of management’s estimates. Inthe opinion of management, the unaudited condensed consolidated financialstatements for the periods presented include all necessary adjustments for afair presentation of the financial position and results of operations for theperiods presented and all such adjustments are of a normal recurring nature.Certain prior period balances have been reclassified to conform to the currentperiod classification.

       ***Correction of an Error***

        In the three months ended December 31, 2004, the Company recordedan increase to accounts payable and other operating expenses of $2.8 million toreflect an estimate of previously unaccrued costs resulting from a weakness inthe Company’s purchasing cut–off procedures. The Company has remediated theinternal control weakness and believes that the correction is not material toany previously reported financial statements and is not material to earningstrends.

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        ***Description ofBusiness***

        GHC’sbusiness is comprised of two primary business segments, inpatient services andrehabilitation therapy services. These segments are supported by complementaryservice capabilities and a general and administrative function.

        GHC provides inpatient servicesthrough skilled nursing and assisted living centers primarily located in theeastern United States. At December 31, 2004, GHC had 215 owned, leased, managedand jointly owned eldercare centers with 26,462 beds. Included in the managedtotal are 13 transitional care units with 331 beds. Revenues of GHC’s owned andleased centers constitute approximately 89% of GHC’s revenues, and are presentedin GHC’s segment information as inpatient services revenues. Management feesearned from eldercare centers that are managed and/or jointly owned by GHC areincluded in all other revenues presented in GHC’s segment information. See note8– “Segment Information.”

        GHC provides an extensive range of rehabilitation therapyservices, including speech pathology, physical therapy and occupational therapy.These services are provided by approximately 4,300 licensed rehabilitationtherapists and assistants employed or contracted at substantially all of theeldercare centers operated by GHC, as well as by contract to healthcarefacilities operated by others and through any one of GHC’s 14 certifiedoutpatient rehabilitation agencies. After the elimination of intercompanyrevenues, the rehabilitation therapy services segment constitutes approximately8% of GHC’s revenues.

       GHC also provides an array of other specialty medical services, includingmanagement services, respiratory health services, physician services,hospitality services, staffing services and other healthcare relatedservices.

| **(2)** | **Certain    Significant Risks and Uncertainties** |
|---------|----------------------------------------------------|
|    |                                               |
|    | ***Revenue Sources***                              |

                GHC receives revenues from Medicare, Medicaid, private insurance, self–pay residents, other third–party payors and long–term care facilities that utilize its rehabilitation therapy services and other service related businesses.

                The sources and amounts of GHC’s revenues are determined by a number of factors, including licensed bed capacity and occupancy rates of its eldercare centers, the mix of patients and the rates of reimbursement among payors.  Likewise, payment for ancillary medical services, including services provided by GHC’s rehabilitation therapy services business, vary based upon the type of payor and payment methodologies.  Changes in the case mix of the patients as well as payor mix among Medicare, Medicaid and private pay can significantly affect GHC’s profitability.

        It is not possible to quantifyfully the effect of legislative changes, the interpretation or administration ofsuch legislation or any other governmental initiatives on GHC’s business and thebusiness of the customers served by GHC’s rehabilitation therapy business.Accordingly, there can be no assurance that the impact of any future healthcarelegislation or regulation will not further adversely affect GHC’s business.There can be no assurance that payments under governmental and privatethird–party payor programs will be timely, will remain at levels similar topresent levels or will, in the future, be sufficient to cover the costsallocable to patients eligible for reimbursement pursuant to such programs.GHC’s financial condition and results of operations will be affected by thereimbursement process, which in the healthcare industry is complex and caninvolve lengthy delays between the time that revenue is recognized and the timethat reimbursement amounts are settled.

| **(3)** | **Significant    Transactions and Events** |
|---------|--------------------------------------------|
|    |                                       |
|    | ***Share Repurchase***                     |

        In November 2004, GHC’s Board of    Directors authorized the repurchase of up to $25.0 million of the Company’s    common stock commencing in December 2004. Share repurchases, if any, may    take place at management’s discretion and/or under pre–established,    nondiscretionary programs from time to time, depending on market conditions,    in the open market, and in privately negotiated transactions. There were no    share repurchases for the three monthsended December 31, 2004.

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                ***Sale of Assets***

                On December 1, 2004, GHC  sold its two remaining eldercare centers based in the State of Wisconsin for  net cash proceeds of $4.6 million. These centers are classified as assets held  for sale in the consolidated balance sheet at September 30, 2004.

| **(4)** | **Long–Term    Debt** |
|---------|----------------------------|

        Long–term debt at December 31,2004 and September 30, 2004 consists of the following (in thousands):

|                                    | **December 31, 2004** |    | **September 30, 2004** |   |
|-----------------------------------------|-----------------------|---------|------------------------|--------|
|                                         |
| Senior credit facility – term loan | $                     | 119,657 |                   | $      | 134,075 |   |
| Senior subordinated notes               |                  | 225,000 |                   |   | 225,000 |   |
| Mortgages and other secured debt        |                  | 33,664  |                   |   | 43,996 |   |
|                                         |
|                                    |                  | 378,321 |                   |   | 403,071 |   |
| Less:                                   |                  |    |                   |   |   |   |
| Current portion of long–term debt  |                  | (5,528  | )                      |   | (27,230 | ) |
|                                         |
| Long–term debt                     | $                     | 372,793 |                   | $      | 375,841 |   |
|                                         |

        *Senior credit facility.* On    December 1, 2003, GHC entered into a senior credit facility that provides    for a $185.0 million term loan, which was fully drawn at the consummation of    the spin–off, and a revolving credit facility of $75.0 million. The term    loan has a seven year term and amortizes one percent per year through year    six. The revolving credit facility has a five year term. GHC’s senior creditfacility includes an excess cash flow recapture requirement that may increasethe required principal payments above contractual minimum amounts each yeardepending on a defined formula in the senior credit agreement. There can be noassurances of the final excess cash flow recapture requirement forfiscal 2005 until the preparation of GHC’s fiscal year end consolidatedfinancial statements. On November 23, 2004, GHC repaid $14.0 million satisfyingin full its fiscal 2004 obligation under the excess cash flow recaptureprovision of the senior credit facility. The total fiscal 2004 provision amountwas determined to be $22.8 million, however, certain participating lenders chosenot to require GHC to make the most recent mandatory payment. The term loanportion of GHC’s senior credit facility has a rate of interest of the LondonInterbank Offered Rate (LIBOR) plus 2.25% or a base rate plus an applicablemargin. The revolving portion of GHC’s senior credit facility has a rate ofinterest of LIBOR plus 2.50% or a base rate plus an applicable margin on anyborrowings thereunder, and a commitment fee on the revolving portion of 0.50% onany unused commitment.

       *Senior subordinated notes*. In October 2003, GHC issued 8% seniorsubordinated notes in an aggregate principal amount of $225.0 million with aterm of ten years. In April 2004, GHC filed a registration statement on FormS–4 with the Securities and Exchange Commission in connection with its offer toexchange the unregistered senior subordinated notes issued in October 2003 forregistered notes. In July 2004, upon the expiration of the exchange offer,$224.0 million aggregate principal amount of senior subordinated notesregistered under the Securities Act of 1933, as amended, were exchanged for theunregistered notes issued in October 2003. The aggregate principal amount of$1.0 million of unregistered notes was not exchanged and remainsoutstanding.

       *Mortgages and other secured debts.*At December 31, 2004 and September 30,2004, GHC had $33.7 million and $44.0 million, respectively, of other secureddebt consisting principally of revenue bonds and secured bank loans, includingloans insured by the Department of Housing and Urban Development. These loansare secured by the underlying real and personal property of individual eldercarecenters and have fixed or variable rates of interest ranging from 2.4% to 11.0%,with a weighted average interest rate of 6.3% and 7.4% at December 31, 2004 andSeptember 30, 2004, respectively. On November 30, 2004, GHC prepaid an $11.0million, 11% fixed rate mortgage. GHC paid the lenders a $0.3 million penalty inconnection with the prepayment.

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| **(5)**  | **Earnings Per Share** |
|---------------|------------------------|

**       The computation of basic netincome per common share is calculated by dividing net income by the weightedaverage number of common shares outstanding during the reporting period. Thecomputation of basic weighted average common shares presented for the threemonths ended December 31, 2004 is based upon the number of GHC sharesdistributed by NCI on December 1, 2003 in connection with the spin–off,assuming such distribution took place on October 1, 2003. Therefore, the basicweighted average common shares presented for the three months ended December 31,2003 are labeled “pro forma”. The computation of diluted net income per commonshare is calculated by dividing net income by the sum of the weighted averagebasic common shares and potentially dilutive securities. For the three monthsended December 31, 2004 and 2003, GHC’s outstanding stock options yielded217,532 and 12,150, respectively, potentially dilutive securities, under thetreasury stock method which assumes that the proceeds from the exercise of allGHC stock options are used to repurchase GHC common stock at the average marketprice for the period. For the same three month periods, respectively, unvestedrestricted stock yielded an additional 276,515 and 24,717 potentially dilutivesecurities under the modified treasury stock method. 

| **(6)** | **Comprehensive    Income** |
|---------|-----------------------------|

**       The following table setsforth the computation of comprehensive income for the three months endedDecember 31, 2004 and 2003 (in thousands):

|                                                 | **Three months ended December          31,** |   |
|------------------------------------------------------|----------------------------------------------|--------|
|                                                 | **2004**                                     |   | **2003** |   |
|                                                      |                                              |
| Net income                                           | $                                            | 10,848 |   | $ | 6,006 |   |
| Net unrealized (loss) gain on restricted investments |                                         |   |   |   |   |   |
| in marketable securities                             |                                         | (317   | ) |   | 117 |   |
|                                                      |                                              |
| Total comprehensive income                           | $                                            | 10,531 |   | $ | 6,123 |   |
|                                                      |                                              |        |  |  |  |  |

| **(7)** | **Assets Held for Sale and Discontinued    Operations** |
|---------|---------------------------------------------------------|

**       In the normal course of    business, GHC continually evaluates the performance of its operating units,    with an emphasis on selling or closing under–performing or non–strategic    assets. GHC accounts for discontinued operations and assets held for sale    under the provisions of Statement of Financial Accounting Standards No. 144,    *"Accounting for the Impairment of Long–Lived Assets and    for Long–Lived Assets to be Disposed of"* (SFAS 144). Under SFAS 144,discontinued businesses, including assets held for sale, are removed from theresults of continuing operations. The results of operations in the current andprior year periods, along with any cost to exit such businesses in the year ofdiscontinuation, are classified as discontinued operations in the consolidatedstatements of operations. 

**       The Company has classifiedseveral businesses as held for sale or closed. In 2002, GHC identified, and hassince sold, all of its eldercare centers located in the states of Florida,Wisconsin and Illinois. In addition to these assets, since fiscal 2002 GHC hasidentified 15 eldercare centers in other states, one rehabilitation therapyservices clinic, two physician service practices and its ambulance anddiagnostics businesses as held for sale or closed due tounder–performance.

**       Consolidated interest expense has been allocated to discontinuedoperations for all periods presented based on allocated debt expected to berepaid in connection with the sale of the assets. The amount of after–taxinterest expense allocated to discontinued operations in the three months endedDecember 31, 2004 and 2003 was $0.1 million and $0.2 million,respectively.

**       GHChas separately classified an aggregate of $3.9 million and $8.8 million ofcarrying value associated with its assets held for sale in its unauditedcondensed consolidated balance sheets at December 31, 2004 and September 30,2004, respectively. GHC’s assets held for sale are classified in the unauditedcondensed consolidated balance sheets within both current and non–currentassets. The current portion of assets held for sale represents those assets forwhich the Company has binding agreements of sale.

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**       The following table sets forthnet revenues and the components of income (loss) from discontinued operationsfor the three months ended December 31, 2004 and 2003 (in thousands):

|                                                        | **Three Months Ended December          31,** |   |
|-------------------------------------------------------------|----------------------------------------------|--------|
|                                                        | **2004**                                     |   | **2003** |   |
|                                                             |
| Net revenues                                                | $                                            | 2,676  |   | $ | 11,099 |   |
|                                                             |
| Net operating income (loss) of discontinued    businesses   | $                                            | 179    |   | $ | (2,037 | ) |
| Gain (loss) on discontinuation or sale of    businesses     |                                         | 151    |   |   | (583 | ) |
| Income tax (expense) benefit                                |                                         | (134   | ) |   | 1,022 |   |
|                                                             |
| Income (loss) from discontinued operations, net of    taxes | $                                            | 196    |   | $ | (1,598 | ) |
|                                                             |

**       The loss on discontinuationof businesses in the 2003 period includes the write–down of assets to estimatednet realizable value.

| **(8)** | **Segment    Information** |
|---------|----------------------------|

**       The    Company’s principal operating segments are identified by the types ofproducts and services from which revenues are derived and are consistent withthe reporting structure of the Company’s internal organization.

**       The Company includes ininpatient services revenues all room and board charges and ancillary servicerevenue for its eldercare customers at the eldercare centers which the Companyowns or leases.

**       The Company includes in rehabilitation therapy services all revenuesearned from the provisions of speech pathology, physical therapy andoccupational therapy.

**       The accounting policies of the segments are the same as those of theconsolidated organization. All intersegment sales prices are marketbased.

**       Summarized financialinformation concerning the Company’s reportable segments is shown in thefollowing table. The “All other services and corporate costs” category ofrevenues and EBITDA represents operating information of business units below theprescribed quantitative thresholds that trigger segment reporting requirements,and the Company’s corporate support functions. The operating business units inthis category derive revenues from the following services: management services,respiratory health services, physician services, hospitality services, staffingservices and other healthcare related services. The “Other adjustments” categoryconsists of certain expenses that have not been allocated to the Company’sreportable segments or the “All other services and corporate costs” category.This approach to segment reporting is consistent with the Company’s internalfinancial reporting and the information used by the chief operating decisionmaker regarding the performance of the Company’s reportable and non–reportablesegments.

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|                                                                                       | **Three months ended December 31,** |    |
|--------------------------------------------------------------------------------------------|-------------------------------------|---------|
| **(in thousands)**                                                                         | **2004**                            |    | **2003** |   |
|                                                                                            |
| Revenues:                                                                                  |                                |    |   |   |   |   |
|    Inpatient services – external                                       | $                                   | 357,545 |   | $ | 330,891 |   |
|    Rehabilitation services:                                                 |                                |    |   |   |   |   |
|       External                                               |                                | 32,195  |   |   | 27,935 |   |
|       Intersegment                                           |                                | 19,780  |   |   | 17,674 |   |
|    All other services:                                                      |                                |    |   |   |   |   |
|       External                                               |                                | 12,696  |   |   | 10,569 |   |
|       Intersegment                                           |                                | 13,847  |   |   | 17,052 |   |
|    Elimination of intersegment revenues                                     |                                | (33,627 | ) |   | (34,726 | ) |
|                                                                                            |
|             Total net revenues |                                | 402,436 |   |   | 369,395 |   |
|                                                                                            |
| EBITDA (1):                                                                                |                                |    |   |   |   |   |
|       Inpatient services                                     |                                | 50,085  |   |   | 41,455 |   |
|       Rehabilitation services                                |                                | 2,466   |   |   | 2,593 |   |
|       All other services      and corporate costs            |                                | (17,514 | ) |   | (14,485 | ) |
|       Loss on early extinguishment of debt                   |                                | (543    | ) |   | (173 | ) |
|                                                                                            |
|             Total    EBITDA    |                                | 34,494  |   |   | 29,390 |   |
|                                                                                            |
| Capital and other:                                                                         |                                |    |   |   |   |   |
|       Depreciation      and amortization expense             |                                | (11,345 | ) |   | (11,588 | ) |
|       Interest    expense                                    |                                | (6,632  | ) |   | (5,821 | ) |
|       Income    tax expense                                  |                                | (6,705  | ) |   | (4,860 | ) |
|       Equity      in net income of unconsolidated affiliates |                                | 1,111   |   |   | 558 |   |
|       Minority    interests                                  |                                | (271    | ) |   | (75 | ) |
|                                                                                            |
|    Income from continuing operations                                        |                                | 10,652  |   |   | 7,604 |   |
|    Income (loss) from      discontinued operations, net of taxes            |                                | 196     |   |   | (1,598 | ) |
|                                                                                            |
|    Net income                                                               | $                                   | 10,848  |   | $ | 6,006 |   |
|                                                                                            |

|        |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |   |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
| (1)    |   | GHC defines EBITDA      as earnings from continuing operations before equity in net income of      unconsolidated affiliates, minority interests, interest expense, income      taxes, depreciation and amortization. EBITDA can be calculated through      GHC’s unaudited condensed consolidated statements of operations by adding      back interest expense, income taxes, depreciation and amortization, equity      in net income of unconsolidated affiliates and minority interests costs to      GHC’s income from continuing operations. |   |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |   |
|   |   | **Total assets by segment at December    31, 2004 and September 30, 2004 were as follows (in thousands):                                                                                                                                                                                                                                                                                                                                                                                                                                                      |   |

|                            | **December 31, 2004** |      | **September 30, 2004** |   |
|---------------------------------|-----------------------|-----------|------------------------|--------|
|                                 |                       |
| Inpatient services              | $                     | 856,044   |                   | $      | 865,440 |   |
| Rehabilitation therapy services |                  | 36,717    |                   |   | 36,212 |   |
| All other                       |                  | 340,566   |                   |   | 342,511 |   |
|                                 |                       |
| Total assets                    | $                     | 1,233,327 |                   | $      | 1,244,163 |   |
|                                 |                       |

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| **(9)** | **Organization          and Basis of Presentation** |
|---------|-----------------------------------------------------|

**          **Restricted Investments in Marketable Securities**

**          At December 31, 2004 andSeptember 30, 2004, the Company reported restricted investments in marketablesecurities of $96.9 million and $95.0 million, respectively. The Company’srestricted investments are held by Liberty Health Corporation, LTD. (LHC), GHC’swholly owned captive insurance subsidiary incorporated under the laws ofBermuda. The investments held by LHC are restricted by statutory capitalrequirements in Bermuda. In addition, certain of these investments are pledgedas security for letters of credit issued by LHC. As a result of suchrestrictions and encumbrances, GHC and LHC are precluded from freelytransferring funds through inter–company loans, advances or cashdividends.

**          TheCompany’s restricted investments in marketable securities are classified in theunaudited condensed consolidated balance sheets within both current andnon–current assets. The current portion of restricted investments in marketablesecurities represents an estimate of the level of outstanding self–insuredlosses the Company expects to pay in the succeeding 12 months.

| **(10)** | **Stock    Option Plan** |
|----------|--------------------------|

**          GHC    applies the intrinsic–value–based method of accounting prescribed by Accounting    Principles Board (APB) Opinion No. 25, “*Accounting for Stock Issued to Employees*,” and    related interpretations including FASB Interpretation No. 44, “*Accounting    for Certain Transactions Involving Stock Compensation, an interpretation of    APB Opinion No. 25*,” issued in March 2000, to account for its    fixed–plan stock options. Under this method, compensation expense is    recorded on the date of grant only if the current market price of the    underlying stock exceeded the exercise price. SFAS No.    123, “*Accounting for Stock–Based Compensation*,” established accounting and disclosurerequirements using a fair–value–based method of accounting for stock–basedemployee compensation plans. As allowed by SFAS No. 123, the Company has electedto continue to apply the intrinsic–value–based method of accounting describedabove, and has adopted only the disclosure requirements of SFAS No. 123. Seenote 11 – “New Accounting Pronouncements” regarding the issuance of SFAS No.123R.

**          Thefollowing table illustrates the effect on net income (in thousands, except pershare data) if the fair–value–based method had been applied to all outstandingand unvested awards in each period.

|                                                                  |   **Three      months ended December 31,**      |     |
|-----------------------------------------------------------------------|---------------------------------------------------------------------|----------|
|                                                                  |                                                                | **2004** |   |   | **2003** |   |
|                                                                       |                                                                     |          |
| Net income – as reported                                         | $                                                                   | 10,848   |   | $ | 6,006 |   |
| Deduct: Total stock–based employee                               |                                                                |     |   |   |   |   |
|      compensation determined under fair      |                                                                |     |   |   |   |   |
|      value based method for all stock option |                                                                |     |   |   |   |   |
|      awards, net of related tax effects      |                                                                | (768     | ) |   | (1,894 | ) |
|                                                                       |                                                                     |          |
| Net income – pro forma                                           | $                                                                   | 10,080   |   | $ | 4,112 |   |
|                                                                       |                                                                     |          |
| Earnings per share:                                                   |                                                                |     |   |   |   |   |
|      Basic – as reported                | $                                                                   | 0.54     |   | $ | 0.30 |   |
|      Basic – pro forma                  |                                                                | 0.50     |   |   | 0.21 |   |
|      Diluted – as reported              | $                                                                   | 0.53     |   | $ | 0.30 |   |
|      Diluted – pro forma                |                                                                | 0.49     |   |   | 0.21 |   |
|                                                                       |                                                                     |          |

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**          The fair value of stockoptions granted in 2004 and 2003 is estimated at the grant date using theBlack–Scholes option–pricing model, which requires the use of highlysubjective assumptions, including expected stock price volatility. Theassumptions used in preparing the estimates were as follows:

|                     | **Three months ended December          31,** |   |
|--------------------------|----------------------------------------------|--------|
|                     | **2004**                                     |   | **2003** |   |
|                          |
| Volatility               | 26.89                                        | %      | 36.47 | % |
| Expected life (in years) | 9.1                                          |   | 9.9 |   |
| Rate of return           | 4.19                                         | %      | 4.46 | % |
| Dividend yield           | 0.00                                         | %      | 0.00 | % |
|                          |

| **(11)** | **New    Accounting Pronouncements:** |
|----------|---------------------------------------|

**          In December 2004, theFinancial Accounting Standards Board (FASB) issued Statement No. 123R,*"Share–Based Payment"* (SFAS 123R), which requires companies to measureand recognize compensation expense for all stock–based payments at fair value.SFAS 123R is effective for all interim periods beginning after June 15, 2005and, thus, will be effective for GHC beginning with the fourth quarter of fiscal2005. Early adoption is encouraged and retroactive application of the provisionsof SFAS 123R to the beginning of the fiscal year that includes the effectivedate is permitted, but not required. GHC estimates the adoption of SFAS 123Rwill reduce its net income by $0.6 million ($0.02 per diluted share) in itsfourth fiscal quarter of 2005. See note 10 – “Stock Option Plan” for informationrelated to the pro forma effects of stock–based employee compensation on GHC’sreported results assuming application of the fair value recognition provisionsof SFAS 123. 

| **(12)** | **Condensed          Consolidating Financial Statements of Genesis HealthCare Corporation    and Subsidiaries** |
|----------|-----------------------------------------------------------------------------------------------------------------|

                   The    following condensed consolidating financial statements of GHC andsubsidiaries have been prepared pursuant to Rule 3–10 of RegulationS–X.

           These unaudited condensedconsolidating financial statements have been prepared on the same basis ofaccounting as the consolidated financial statements. GHC is the borrower underthe senior credit facility and the senior subordinated notes described in note 4– “Long–Term Debt” and incurs interest expense thereunder. In April 2004, GHCfiled a registration statement on Form S–4 with the Securities and ExchangeCommission in connection with the exchange offer relating to the seniorsubordinated notes. In July 2004, upon the expiration of the exchange offer,$224.0 million aggregate principal amount of senior subordinated notesregistered under the Securities Act of 1933, as amended, were exchanged for theunregistered notes issued in October 2003. The aggregate principal amount of$1.0 million of unregistered notes was not exchanged and remains outstanding.The senior subordinated notes are fully and unconditionally guaranteed on ajoint and several basis by certain 100% owned subsidiaries of GHC (Guarantors).Non–guarantor subsidiaries do not guarantee the senior subordinated notes andprincipally consist of LHC, GHC’s wholly owned insurance captive, and certainseparately mortgaged eldercare centers (Non–guarantors). The following tablespresent the unaudited condensed consolidating financial statements of GHC(Parent), the Guarantors and the Non–guarantors.

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**GENESIS HEALTHCARE CORPORATION ANDSUBSIDIARIES  UNAUDITED CONDENSED CONSOLIDATING BALANCE SHEETS  DECEMBER 31, 2004  (IN THOUSANDS)**

|                                            |                             | **Parent** |    | **Guarantors** |    | **Non–guarantors** |   | **Eliminations** |   | **Consolidated** |     |
|-------------------------------------------------|----------------------------------|------------|---------|----------------|---------|-------------------------|--------|------------------|--------|------------------|----------|
|                                                 |
| Assets:                                         |                             |       |    |           |    |                    |   |             |   |             |     |   |   |   |   |
|                                            | Current assets                   | $          | 118,176 |           | $       | 195,483                 |   | $                | 39,208 |             | $        | (308 | ) | $ | 352,559 |   |
|                                            | Property and equipment, net      |       | 23,166  |           |    | 657,530                 |   |             | 15,518 |             |     | – |   |   | 696,214 |   |
|                                            | Other long–term assets      |       | 96,675  |           |    | 30,392                  |   |             | 70,898 |             |     | (13,411 | ) |   | 184,554 |   |
|                                            | Investments in subsidiaries      |       | 303,224 |           |    | –                  |   |             | – |             |     | (303,224 | ) |   | – |   |
|                                            | Intercompany receivables         |       | 514,414 |           |    | –                  |   |             | – |             |     | (514,414 | ) |   | – |   |
|                                                 |
| Total assets                                    | $                                | 1,055,655  |    | $              | 883,405 |                    | $      | 125,624          |   | $                | (831,357 | ) | $ | 1,233,327 |   |
|                                                 |                                  |            |
|                                            |                             |       |    |           |    |                    |   |             |   |             |     |   |   |   |   |   |
| Liabilities and shareholders’ equity:      |                             |       |    |           |    |                    |   |             |   |             |     |   |   |   |   |
|                                            | Current liabilities              | $          | 64,805  |           | $       | 66,501                  |   | $                | 49,482 |             | $        | (1,548 | ) | $ | 179,240 |   |
|                                            | Intercompany payables            |       | –  |           |    | 493,094                 |   |             | 21,320 |             |     | (514,414 | ) |   | – |   |
|                                            | Long–term debt              |       | 349,421 |           |    | 15,646                  |   |             | 12,169 |             |     | (4,443 | ) |   | 372,793 |   |
|                                            | Other long–term liabilities |       | 55,336  |           |    | 85                      |   |             | 39,780 |             |     | – |   |   | 95,201 |   |
|                                            | Shareholders’ equity        |       | 586,093 |           |    | 308,079                 |   |             | 2,873  |             |     | (310,952 | ) |   | 586,093 |   |
|                                                 |
| Total liabilities and shareholders’ equity | $                                | 1,055,655  |    | $              | 883,405 |                    | $      | 125,624          |   | $                | (831,357 | ) | $ | 1,233,327 |   |
|                                                 |                                  |            |

**GENESIS HEALTHCARE CORPORATION AND SUBSIDIARIES  UNAUDITED CONDENSED CONSOLIDATING BALANCE SHEETS  SEPTEMBER 30, 2004  (IN THOUSANDS)**

|                                            |                             | **Parent** |    | **Guarantors** |    | **Non–guarantors** |   | **Eliminations** |   | **Consolidated** |     |
|-------------------------------------------------|----------------------------------|------------|---------|----------------|---------|-------------------------|--------|------------------|--------|------------------|----------|
|                                                 |
| Assets:                                         |                             |       |    |           |    |                    |   |             |   |             |     |   |   |   |   |
|                                            | Current assets                   | $          | 127,796 |           | $       | 188,928                 |   | $                | 45,139 |             | $        | (1,490 | ) | $ | 360,373 |   |
|                                            | Property and equipment, net      |       | 21,489  |           |    | 657,866                 |   |             | 16,156 |             |     | – |   |   | 695,511 |   |
|                                            | Other long–term assets      |       | 93,319  |           |    | 38,701                  |   |             | 69,713 |             |     | (13,454 | ) |   | 188,279 |   |
|                                            | Investments in subsidiaries      |       | 259,220 |           |    | –                  |   |             | – |             |     | (259,220 | ) |   | – |   |
|                                            | Intercompany receivables         |       | 547,964 |           |    | –                  |   |             | – |             |     | (547,964 | ) |   | – |   |
|                                                 |
| Total assets                                    | $                                | 1,049,788  |    | $              | 885,495 |                    | $      | 131,008          |   | $                | (822,128 | ) | $ | 1,244,163 |   |
|                                                 |
|                                            |                             |       |    |           |    |                    |   |             |   |             |     |   |   |   |   |   |
| Liabilities and shareholders’ equity:      |                             |       |    |           |    |                    |   |             |   |             |     |   |   |   |   |
|                                            | Current liabilities              | $          | 93,415  |           | $       | 76,724                  |   | $                | 40,290 |             | $        | (2,651 | ) | $ | 207,778 |   |
|                                            | Intercompany payables            |       | –  |           |    | 520,640                 |   |             | 27,324 |             |     | (547,964 | ) |   | – |   |
|                                            | Long–term debt              |       | 341,596 |           |    | 26,500                  |   |             | 12,188 |             |     | (4,443 | ) |   | 375,841 |   |
|                                            | Other long–term liabilities |       | 46,011  |           |    | 421                     |   |             | 45,346 |             |     | – |   |   | 91,778 |   |
|                                            | Shareholders’ equity        |       | 568,766 |           |    | 261,210                 |   |             | 5,860  |             |     | (267,070 | ) |   | 568,766 |   |
|                                                 |
| Total liabilities and shareholders’ equity | $                                | 1,049,788  |    | $              | 885,495 |                    | $      | 131,008          |   | $                | (822,128 | ) | $ | 1,244,163 |   |
|                                                 |

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**GENESIS HEALTHCARE CORPORATION ANDSUBSIDIARIES UNAUDITED CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONSTHREE MONTHS ENDED DECEMBER 31, 2004 (IN THOUSANDS)**

|                                                            | **Parent** |    | **Guarantors** |    | **Non–guarantors** |   | **Eliminations** |   | **Consolidated** |    |
|-----------------------------------------------------------------|------------|---------|----------------|---------|-------------------------|--------|------------------|--------|------------------|---------|
|                                                                 |
| Net revenues                                                    | $          | 1,350   |           | $       | 417,894                 |   | $                | 16,819 |             | $       | (33,627 | ) | $ | 402,436 |   |
| Equity in net income (loss) of    subsidiaries                  | 29,888     |    |           | –  |                    |   | –           |   |             | (29,888 | ) |   | – |   |
|                                                            |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |   |
| Operating expenses                                              | 25,174     |    |           | 353,773 |                    |   | 15,394           |   |             | (33,461 | ) |   | 360,880 |   |
| Lease expense                                                   | 505        |    |           | 6,627   |                    |   | (70              | )      |             | –  |   |   | 7,062 |   |
| Depreciation and amortization expense                           | 2,025      |    |           | 9,156   |                    |   | 164              |   |             | –  |   |   | 11,345 |   |
| Interest expense                                                | 6,037      |    |           | 428     |                    |   | 240              |   |             | (73     | ) |   | 6,632 |   |
|                                                                 |
| Income (loss) before income tax (benefit)    expense,           |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |
| equity in net income (loss) of unconsolidated                   |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |
| affiliates and minority interests                               | (2,503     | )       |           | 47,910  |                    |   | 1,091            |   |             | (29,981 | ) |   | 16,517 |   |
| Income tax (benefit) expense                                    |       | (11,984 | )              |    | 18,507                  |   |             | 421    |             |    | (239 | ) |   | 6,705 |   |
|                                                                 |
| Income (loss) before equity in net income (loss)        of      |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |
| unconsolidated affiliates and minority    interests             | 9,481      |    |           | 29,403  |                    |   | 670              |   |             | (29,742 | ) |   | 9,812 |   |
| Equity in net income (loss) of unconsolidated        affiliates | 1,367      |    |           | –  |                    |   | –           |   |             | (256    | ) |   | 1,111 |   |
| Minority interests                                              | –     |    |           | –  |                    |   | –           |   |             | (271    | ) |   | (271 | ) |
|                                                                 |
| Income (loss) from continuing    operations                     | 10,848     |    |           | 29,403  |                    |   | 670              |   |             | (30,269 | ) |   | 10,652 |   |
| Gain (loss) from discontinued operations, net        of taxes   | –     |    |           | 413     |                    |   | (217             | )      |             | –  |   |   | 196 |   |
|                                                                 |
| Net income (loss)                                               | $          | 10,848  |           | $       | 29,816                  |   | $                | 453    |             | $       | (30,269 | ) | $ | 10,848 |   |
|                                                                 |

**GENESIS HEALTHCARE CORPORATION AND SUBSIDIARIESUNAUDITED CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONSTHREE MONTHS ENDED DECEMBER 31, 2003(IN THOUSANDS)**

|                                                            | **Parent** |    | **Guarantors** |    | **Non–guarantors** |   | **Eliminations** |   | **Consolidated** |    |
|-----------------------------------------------------------------|------------|---------|----------------|---------|-------------------------|--------|------------------|--------|------------------|---------|
|                                                                 |
| Net revenues                                                    | $          | 3,437   |           | $       | 396,333                 |   | $                | 12,444 |             | $       | (42,819 | ) | $ | 369,395 |   |
| Equity in net income (loss) of    subsidiaries                  | 21,873     |    |           | –  |                    |   | –           |   |             | (21,873 | ) |   | – |   |
|                                                            |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |   |
| Operating expenses                                              | 22,839     |    |           | 338,995 |                    |   | 13,579           |   |             | (42,819 | ) |   | 332,594 |   |
| Lease expense                                                   | 593        |    |           | 6,818   |                    |   | –           |   |             | –  |   |   | 7,411 |   |
| Depreciation and amortization expense                           | 1,896      |    |           | 9,126   |                    |   | 566              |   |             | –  |   |   | 11,588 |   |
| Interest expense                                                | 4,944      |    |           | 645     |                    |   | 232              |   |             | –  |   |   | 5,821 |   |
|                                                                 |
| Income (loss) before income tax (benefit)    expense,           |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |
| equity in net income (loss) of unconsolidated                   |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |
| affiliates and minority interests                               | (4,962     | )       |           | 40,749  |                    |   | (1,933           | )      |             | (21,873 | ) |   | 11,981 |   |
| Income tax (benefit) expense                                    |       | (10,145 | )              |    | 15,816                  |   |             | (754   | )                |    | (57 | ) |   | 4,860 |   |
|                                                                 |
|                                                            |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |   |
| Income (loss) before equity in net income (loss)        of      |       |    |           |    |                    |   |             |   |             |    |   |   |   |   |
| unconsolidated affiliates and minority    interests             | 5,183      |    |           | 24,933  |                    |   | (1,179           | )      |             | (21,816 | ) |   | 7,121 |   |
| Equity in net income (loss) of unconsolidated        affiliates | 840        |    |           | (135    | )                       |   | –           |   |             | (147    | ) |   | 558 |   |
| Minority interests                                              | (17        | )       |           | (58     | )                       |   | –           |   |             | –  |   |   | (75 | ) |
|                                                                 |
| Income (loss) from continuing    operations                     | 6,006      |    |           | 24,740  |                    |   | (1,179           | )      |             | (21,963 | ) |   | 7,604 |   |
| Loss from discontinued operations, net of    taxes              | –     |    |           | (1,539  | )                       |   | (59              | )      |             | –  |   |   | (1,598 | ) |
|                                                                 |
| Net income (loss)                                               | $          | 6,006   |           | $       | 23,201                  |   | $                | (1,238 | )                | $       | (21,963 | ) | $ | 6,006 |   |
|                                                                 |

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**GENESIS HEALTHCARE CORPORATION AND SUBSIDIARIES  UNAUDITED CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS  THREE MONTHS ENDED DECEMBER 31, 2004  (IN THOUSANDS)**

|                                                | **Parent** |    | **Guarantors** |   | **Non-guarantors** |   | **Consolidated** |   |
|-----------------------------------------------------|------------|---------|----------------|--------|--------------------|--------|------------------|--------|
|                                                     |
| Net cash (used in) provided by operating activities | $          | (28,942 | )              | $      | 48,247             |   | $                | 5,197  |   | $ | 24,502 |   |
| Net cash (used in) provided by investing activities |       | (1,947  | )              |   | (8,241             | )      |             | 3,072  |   |   | (7,116 | ) |
| Net cash provided by (used in) financing activities |       | 19,545  |           |   | (38,681            | )      |             | (6,021 | ) |   | (25,157 | ) |
|                                                     |
| Net (decrease) increase in cash and equivalents     | $          | (11,344 | )              | $      | 1,325              |   | $                | 2,248  |   | $ | (7,771 | ) |
|                                                     |

**GENESIS HEALTHCARE CORPORATION AND SUBSIDIARIES  UNAUDITED CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS  THREE MONTHS ENDED DECEMBER 31, 2003  (IN THOUSANDS)**

|                                                | **Parent** |    | **Guarantors** |   | **Non-guarantors** |   | **Consolidated** |   |
|-----------------------------------------------------|------------|---------|----------------|--------|--------------------|--------|------------------|--------|
|                                                     |
| Net cash (used in) provided by operating activities | $          | (25,374 | )              | $      | 54,860             |   | $                | 2,717  |   | $ | 32,203 |   |
| Net cash (used in) provided by investing activities |       | (14,639 | )              |   | (31,387            | )      |             | 2,874  |   |   | (43,152 | ) |
| Net cash provided by (used in) financing activities |       | 155,032 |           |   | (31,526            | )      |             | (7,001 | ) |   | 116,505 |   |
|                                                     |
| Net increase (decrease) in cash and equivalents     | $          | 115,019 |           | $      | (8,053             | )      | $                | (1,410 | ) | $ | 105,556 |   |
|                                                     |

| **(13)** | **Subsequent    Events**                     |
|----------|----------------------------------------------|
|     |                                         |
|     | ***Purchase of Joint Venture    Interests*** |

           Effective January 1, 2005, GHC    acquired its joint venture partner’s interest in a Commonwealth of    Massachusetts skilled nursing facility having 123 beds which it previously    managed and owned a 50% interest in the facility. Upon completion of the    transaction, GHC owns 100% of the facility and will begin consolidating the    revenues, expenses, assets and liabilities of the facility beginning January    1, 2005. The aggregate consideration consisted of $0.5 million to acquire    the remaining partnership interests and the assumption of approximately $6.0    million of debt, all of which was repaid at the closing of the transaction.    The facility’s annual revenues and pretax income approximate $9.8 million    and $1.1 million, respectively. The facility had total assets of $10.4    million at December31, 2004.

                   ***Acquisition of Previously Leased ElderCare Center and Lease Termination***

           In January 2005, GHC acquired theland and building of a State of New Jersey skilled nursing facility having 136beds that it previously leased. The purchase price of approximately $15.8million includes the assumption of a 6%, $9.5 million fixed rate mortgage thatmatures in October 2007. The revenues, operating expenses and working capital ofthe purchased center are consolidated in GHC’s historical results. Thetransaction will result in an annual reduction in lease expense of approximately$1.6 million and an increase to depreciation expense of approximately $0.6million.

           In January2005, GHC terminated the lease of a State of New Jersey skilled nursing facilityhaving 186 beds. Upon termination, the center will be treated as a discontinuedoperation, consequently, its results of operations in the current and prior yearperiods will be classified as discontinued operations in the unaudited condensedconsolidated statements of operations. The annual revenues and pretax income ofthis center approximate $12.3 million and $1.4 million, respectively.

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             ***Passage of Pennsylvania ProviderAssessment***

             InJanuary 2005, the Centers for Medicare and Medicaid Services (CMS) approved thePennsylvania provider assessment which is subject to a public comment period.The net benefit of the Pennsylvania provider assessment, which is retroactive toJuly 1, 2003 and will expire June 30, 2007, will be recognized when the finalimplementation and calculation instructions are issued, which is expected tooccur in the quarter ended March 31, 2005. Recognition of the Pennsylvaniaprovider assessment is expected to be positive to GHC’s revenues and netincome.

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**ITEM 2:   Management’s Discussion andAnalysis of Financial Condition and Results of Operations**

**Overview**

             We are one of the largest providers ofhealthcare and support services to the elderly in the United States. Within ournetwork of geographically concentrated facilities, we offer services focusing onthe primary medical, physical and behavioral issues facing the medically complexelderly population. We are focused on qualitative and quantitative clinicalperformance measures in order to enhance and improve continuously the careprovided in our facilities. Through our physicians, nurses, therapists and othermembers of our interdisciplinary medical care team, we apply a comprehensiveapproach to the complex needs facing the elderly, which we believe has resultedin our above–industry average occupancy levels and an enhanced level ofMedicare and private paying patients. We receive higher rates of reimbursementfrom Medicare and private paying patients. For the three months ended December31, 2004, the average occupancy level in our inpatient facilities wasapproximately 90%, and approximately 48% of our net revenues were from Medicare,private pay and other non–Medicaid patients.

             Approximately 89% of our net revenues are generatedthrough inpatient services. Our inpatient services business is offered through anetwork of skilled nursing and assisted living centers primarily located in theeastern United States. Our eldercare centers are concentrated in the states ofPennsylvania, New Jersey, Maryland and Massachusetts. We currently own, lease,manage or jointly own 214 eldercare facilities, consisting of 178 skillednursing facilities, 23 assisted living facilities and 13 transitional care unitstogether totaling 26,231 beds.

             Our rehabilitation therapy business, which representsapproximately 8% of our net revenues, provides an extensive range ofrehabilitation therapy services to the elderly, including speech pathology,physical therapy and occupational therapy in our eldercare regional marketconcentrations. These services are provided by approximately 4,300 licensedrehabilitation therapists and assistants employed or contracted by us atsubstantially all of the eldercare facilities we operate, as well as by contractto third–party healthcare facilities operated by other providers and throughour 14 outpatient rehabilitation agencies. We also provide other complementaryhealthcare services, the revenues for which are included in all other servicesrevenues in our segment financial information.

             The aging of the population and increased lifeexpectancies are the primary driving forces behind the growth of our businesses.We believe that positive demographic trends imply that there will be a growingdemand for the services offered by healthcare providers that deliver the mostefficient, responsive, cost effective and high quality eldercare services. Weare continually engaged in various efforts to improve our profitability byfocusing on key operational initiatives, including: improving the level ofMedicare and private paying patients, increasing our rate of occupancy,improving nursing staff scheduling and retention, reducing reliance on overtimecompensation and temporary nursing agency services, and capitalizing on bestdemonstrated practices in various areas of cost control. As a result, we believewe will be well positioned to take advantage of the favorable demographic andgrowth trends in our industry.

             Government funded programs, principally Medicaid and Medicare,provide approximately 74% of our revenue. Over the past five years, changes infunding from these government sources has had a significant impact on our cashflows and profitability. Through trade and other organizations, we activelyparticipate in partnership with other healthcare providers to pursue strategiesto minimize any potentially adverse impact of government funding proposals. Webelieve the continuation of government funding at levels sufficient to operateour business profitably is our greatest financial risk. 

             Labor costs, including salaries, wagesand benefits, account for approximately 74% of our total operating expenses. Wecompete with other healthcare providers and with non–healthcare providers forboth professional and non–professional employees. In recent years, we and ourindustry have experienced shortages in qualified professional clinical staff.While in our inpatient services segment we have been able to retain the servicesof an adequate number of qualified personnel to staff our facilities and sitesof services, we have used expensive temporary nursing agency services tosupplement staffing, particularly in fiscal 2001 and 2002. In fiscal 2003, weimplemented programs to improve staff scheduling and retention, and to reducereliance on overtime compensation and temporary nursing agency services. Ourefforts resulted in a significant reduction in our reliance on temporary nursingagency services, without a significant change in overall nursing hours perpatient day. However, if a shortage of nurses or other health care workersoccurred in the geographic areas in which we operate, it could adversely affectour ability to attract and retain qualified personnel and could further increaseour operating costs, without a corresponding increase in the level of governmentfunded reimbursement. Beginning in fiscal 2004 and continuing into fiscal 2005,we and our industry are experiencing a shortage of qualified rehabilitationtherapists. As the demand for these services continues to exceed the supply ofavailable therapists, we and our competitors have been forced to offer moreattractive wage and benefit packages to these professionals while utilizingoutside contractors for these services at premium rates. Although we have beenable to retain adequate levels of qualified therapists to maintain our standardsof quality care in the services we provide, the shortage of qualified therapistshas impacted negatively our ability to generate new therapy business. Werecently hired an individual specifically responsible for the management ofrecruitment and retention of rehabilitation therapists.

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             For a description of the materialchallenges and risks of the Company, including an analysis of industry trendsand the effect of recent legislation on our operations, see “Risk Factors –Risks Related to Our Business” included in our Annual Report on Form 10–K forthe fiscal year ended September 30, 2004.

**Revenue Sources**

             We receive revenues from Medicare, Medicaid, privateinsurance, self–pay residents, other third–party payors and long–term carefacilities that utilize our rehabilitation therapy services and other servicerelated businesses.

             Thesources and amounts of our revenues are determined by a number of factors,including licensed bed capacity and occupancy rates of our eldercare centers,the mix of patients and the rates of reimbursement among payors. Likewise,payment for ancillary medical services, including services provided by ourrehabilitation therapy services business, vary based upon the type of payor andpayment methodologies. Changes in the case mix of the patients as well as payormix among Medicare, Medicaid and private pay can significantly affect ourprofitability.

             On    July 30, 2004, the Centers for Medicare and Medicaid Services (CMS) published    noticeof the fiscal year 2005 prospective payment system rates that became effectiveOctober 1, 2004. The fiscal year 2005 rules provide for a 2.8% increase in theannual inflation update factor and continue the current payment system withcertain payment add–ons that were authorized to compensate for non–therapyancillaries. While no significant changes were made to the fiscal year 2005 rules,CMS affirms that its contractor, the Urban Institute, has completed its studyoftheskilled nursing payment system in an effort to explore both short–term andlong–term solutions to its case mix methodology. The study recommendationsare expected to be incorporated into a report to the Congress that was scheduledtobe completed by early 2005. It is our understanding the report is in finalCMS review and that its recommendations will be considered as part of theproposed fiscal year 2006 rules, effective October 1, 2005. We refer to theanticipated refinement to the resource utilization group classification systemas “RUGs refinement.” Although we are unable to predict with certaintythe extent of the impact of RUGs refinement on our operating results, we believeitcould result in a significant reduction in our EBITDA.

             The Medicare Modernization Actsuspended application of the $1,500 payment caps (therapy caps) on Medicare PartB rehabilitation through December 31, 2005. The therapy caps in place effectiveSeptember 1, 2003 imposed payment limits to services provided by independenttherapists as well as to those provided by outpatient rehabilitation facilitiesand other forms of rehabilitation agencies. Extension of the moratorium removesa significant financial threat to our therapy business for the short term.Previously, we estimated that the therapy caps would reduce our annual netrevenues by approximately $18.9 million and EBITDA by approximately $4.9million. No assurances can be made or given that Congress will extend themoratorium on application of the therapy caps beyond calendar year 2005. Asmandated by the law, the General Accounting Office is conducting a study ofalternatives to the therapy caps. 

             State budget pressures in recent years have translated intoreductions in the rate of state spending growth in certain jurisdictions. Giventhat Medicaid outlays are a significant component of state budgets, we expectcontinuing cost containment pressures on Medicaid outlays for skilled nursingfacilities in the states in which we operate. In each of the major states wherewe provide services, we are working with trade groups, consultants andgovernment officials to address responsibly the particular fundingissues.

             Among    the alternative Medicaid funding approaches that states have explored are    nursinghome provider assessments as tools for leveraging increased Medicaid matchingfunds. Such initiatives are authorized under the law. Nursing home providerassessments have been implemented in five states where we operate(Massachusetts, West Virginia, Rhode Island, North Carolina and New Hampshire).In the fourth quarter of fiscal 2004, we recognized $10.7 million of revenuewhich increased EBITDA and net income by $3.5 million and $2.1 million,respectively, for the New Hampshire provider assessment for the period May 1,2003 through September 30, 2004. In January 2005, CMS approved the Pennsylvaniaprovider assessment which is subject to a public comment period. The net benefitof the Pennsylvania provider assessment, which is retroactive to July 1, 2003,will be recognized when the final implementation and calculation instructionsare issued, which is expected to occur in the quarter ended March 31, 2005. TheCommonwealth’s Department of Public Welfare has not issued an officialexplanation of the rate methodology, nor have they issued facility–by–facilityrate notices. Recognition of the Pennsylvania provider assessment is expectedto be positive to our revenues and net income. NewJerseyhas submitted for federal government approval a revised state plan amendment.Giventhe on–going negotiations between New Jersey and CMS, it is not possibletocomplete an accurate evaluation of the financial impact of this providerassessment proposal. If enacted, we expect its implementation to have a positiveimpact on our financial condition and results of operations. Further delays inthe federal processing of the pending provider assessment plans in New Jerseycould adversely impact future nursing home funding in thatjurisdiction.

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             It is not possible to quantify fullythe effect of legislative changes, the interpretation or administration of suchlegislation or any other governmental initiatives on our business and thebusiness of the customers served by our rehabilitation services business.Accordingly, there can be no assurance that the impact of any future healthcarelegislation or regulation will not further adversely affect our business. Therecan be no assurance that payments under governmental and private third–partypayor programs will be timely, will remain at levels similar to present levelsor will, in the future, be sufficient to cover the costs allocable to patientseligible for reimbursement pursuant to such programs. Our financial conditionand results of operations will be affected by the reimbursement process, whichin the healthcare industry is complex and can involve lengthy delays between thetime that revenue is recognized and the time that reimbursement amounts aresettled.

             The    federal government and state governments continue to focus on efforts to    curb spendingon healthcare programs such as Medicare and Medicaid. The President is expectedto release details of the proposed fiscal 2006 Federal Budget in late February2005. These budget recommendations are expected to include proposed changes inboth Medicare and Medicaid that could impact payment and coverage of servicesprovided by us. We anticipate the President’s proposed fiscal 2006 Budgetwill be carefully scrutinized by the Congress. It is impossible to predict theoutcome of the legislative process. We cannot at this time predict the extenttowhich these proposals will be adopted or, if adopted and implemented, whateffect, if any, such proposals and existing new legislation will have on us.Efforts to impose reduced allowances, greater discounts and more stringent costcontrols by government and other payors are expected to continue. 

**Significant Transactions andEvents**

            ***Spin–off***

            On December 1, 2003, NeighborCare, Inc. (NCI) completed the distribution (thespin–off) of our common stock. The spin–off was effected by way of a pro–ratatax free distribution of our common stock to holders of NCI’s common stock onDecember 1, 2003 at a rate of 0.5 shares of our stock for each share of NCIstock owned as of October 15, 2003.

             In connection with the spin–off, we and NCI have agreedcontractually to continue certain transitional arrangements and practices for alimited time after the spin–off. In addition, we and NCI have entered intocertain mutually beneficial commercial arrangements. Specifically, we and NCIentered into a separation and distribution agreement, a tax sharing agreement, atransition services agreement, a group purchasing agreement, an employeebenefits agreement, a pharmacy services agreement, as amended, a pharmacybenefit management agreement, as amended, and a durable medical equipmentagreement.

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             ***Share        Repurchase***

             In November 2004, our Board ofDirectors authorized the repurchase of up to $25.0 million of our common stockcommencing in December 2004. Share repurchases, if any, may take place atmanagement’s discretion and/or under pre–established, nondiscretionary programsfrom time to time, depending on market conditions, in the open market, and inprivately negotiated transactions. In January 2005, we repurchased 20,000 sharesof our common stock for approximately $0.7 million. The total remainingauthorization under the repurchase program was $24.3 million as of January 31,2005. The repurchase program has no set expiration or terminationdate.

             ***Sale        ofAssets***

             OnDecember 1, 2004, we sold our two remaining eldercare centers based in the Stateof Wisconsin for net cash proceeds of $4.6 million. These centers are classifiedas assets held for sale in the consolidated financial statements at and for theyear ended September 30, 2004.

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**Results ofOperations**

**FactorsAffecting Comparability of Financial Information**

             Our unaudited condensed consolidatedstatements of operations for the first two months (through November 30, 2003) ofthe three months ended December 31, 2003 have been prepared on a basis whichreflects our historical financial statements assuming that the operations of NCIcontributed in the spin–off were organized as a separate legal entity whichowned certain net assets of NCI.

             The allocation methodology followed in preparing the consolidatedfinancial statements prior to the December 1, 2003 spin–off may not necessarilyreflect the results of operations, cash flows or financial position of us in thefuture, or what the results of operations, cash flows or financial positionwould have been had we been a separate stand–alone public entity for allperiods presented.

            Management believes that the unaudited condensed consolidated statement ofoperations for the three months ended December 31, 2004 is generally comparableto the unaudited condensed consolidated statement of operations for the threemonths ended December 31, 2003, with the exception of interest expense anddepreciation and amortization expense. This lack of comparability is due to therestructuring of our capital structure following the spin–off and the relatedincremental interest costs and amortization of deferred financing fees inconnection with our new financing arrangements.

**Reasons for Non–GAAP FinancialDisclosure**

             Thefollowing discussion includes EBITDA which is a non–GAAP financial measure. Forpurposes of SEC Regulation G, a non–GAAP financial measure is a numericalmeasure of a registrant’s historical or future financial performance, financialposition or cash flows that excludes amounts, or is subject to adjustments thathave the effect of excluding amounts, that are included in the most directlycomparable financial measure calculated and presented in accordance with GAAP inthe statement of operations, balance sheet or statement of cash flows (orequivalent statements) of the registrant; or includes amounts, or is subject toadjustments that have the effect of including amounts, that are excluded fromthe most directly comparable financial measure so calculated and presented. Inthis regard, GAAP refers to accounting principles generally accepted in theUnited States of America. Pursuant to the requirements of Regulation G, we haveprovided reconciliations of the non–GAAP financial measures to the mostdirectly comparable GAAP financial measures.

             Management believes that the presentation of EBITDAprovides useful information to investors regarding our results of operationsbecause it is useful for trending, analyzing and benchmarking the performanceand value of our business. We use EBITDA primarily as a performance measure andbelieve that the GAAP financial measure most directly comparable to EBITDA isnet income. We use EBITDA as a measure to assess the relative performance of oureldercare properties and other of our operating businesses, as well as theemployees responsible for operating such businesses. EBITDA is useful in thisregard because it does not include such costs as interest expense, income taxesand depreciation and amortization expense which may vary from business unit tobusiness unit depending upon such factors as the method used to finance theoriginal purchase of the business unit or the tax law in the state that abusiness unit operates in. By excluding such factors when measuring financialperformance, many of which are outside of the control of the employeesresponsible for operating our business units, management is better able toevaluate operating performance of the business unit and the employeesresponsible for business unit performance. Consequently, management uses EBITDAto determine the extent to which our employees have met performance goals, andtherefore may or may not be eligible for incentive compensation awards. We alsouse EBITDA in our annual budget process. We believe EBITDA facilitates internalcomparisons to historical operating performance of prior periods and externalcomparisons to competitors’ historical operating performance. Although we useEBITDA as a financial measure to assess the performance of our business, the useof EBITDA is limited because it does not consider certain material costsnecessary to operate our business. These costs include the cost to service ourdebt, the non–cash depreciation and amortization associated with ourlong–lived assets, the cost of our federal and state tax obligations, our shareof the earnings or losses of our less than 100% owned operations and theoperating results of our discontinued businesses. Because EBITDA does notconsider these important elements of our cost structure, a user of our financialinformation who relies on EBITDA as the only measure of our performance coulddraw an incomplete or misleading conclusion regarding our financial performance.Consequently, a user of our financial information should consider net income animportant measure of our financial performance because it provides the mostcomplete measure of our performance.

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             We define EBITDA as earnings fromcontinuing operations before equity in net income of unconsolidated affiliates,minority interests, interest expense, income taxes, depreciation andamortization. Other companies may define EBITDA differently and, as a result,our measure of EBITDA may not be directly comparable to EBITDA of othercompanies. EBITDA does not represent net income, as defined by GAAP.

             EBITDA should be considered in addition to, not a substitute for, orsuperior to, GAAP financial measures.

             The following table reconciles net income to EBITDA (inthousands).

|               |                                                        |               |      **Three months ended December 31,**      |            |
|--------------------|-------------------------------------------------------------|--------------------|-------------------------------------------------------------------|-----------------|
| **(in thousands)** |                                                        |      **2004** |                                                              |   **2003** |   |
|                    |                                                             |                    |                                                                   |                 |  |  |  |
| Net income         |                                                        | $                  | 10,848                                                            |            | $ | 6,006 |   |
| Add back:          |                                                        |               |                                                              |            |   |   |   |
|               | (Income) loss from discontinued operations,    net of taxes |               | (196                                                              | )               |   | 1,598 |   |
|               | Equity in net income of unconsolidated    affiliates        |               | (1,111                                                            | )               |   | (558 | ) |
|               | Minority interests                                          |               |                                                              | 271             |   |   | 75 |   |
|               | Income tax expense                                          |               |                                                              | 6,705           |   |   | 4,860 |   |
|               | Interest expense                                            |               |                                                              | 6,632           |   |   | 5,821 |   |
|               | Depreciation and amortization expense                       |               |                                                              | 11,345          |   |   | 11,588 |   |
|                    |                                                             |                    |                                                                   |                 |  |  |  |
| EBITDA             |                                                        | $                  | 34,494                                                            |            | $ | 29,390 |   |
|                    |

**Three Months Ended December31, 2004 Compared to Three Months Ended December 31, 2003**

                 In the current quarter, revenues were $402.4 million, an increase of $33.0 million, or  8.9%, over the same period in the prior year.  Of this growth, inpatient services revenue increased by $26.6 million, external rehabilitation therapy services revenue increased by $4.3 million and other businesses revenue increased by $2.1 million.  

                 The $26.6 million of revenue growth in our inpatient services segment is primarily attributed to increased payor rates and acquisitions.  Of the increase, $6.4 million is due to step acquisitions of two eldercare centers, which we previously jointly owned and managed.  We purchased our joint venture partners’ ownership interests in the two centers and, beginning in the second quarter of fiscal 2004, we own and consolidate 100% of the operations.  Of the remaining increase of $20.2 million in inpatient services revenue, $18.2 million is due to increased average rates per patient day, $2.2 million is due to favorable settlements of prior year Medicaid cost reports and retroactive adjustments to the New Hampshireprovider assessment, and $2.0 million is due to increased Medicare Part B volumeoffset by reduced revenue of $2.2 million caused by a decline in occupancy.Increased Medicaid rates were responsible for $13.6 million of the overall rateincrease. A 5.7% increase in our average Medicare rate, attributed to theOctober 1, 2004 upward Medicare rate adjustments of 2.8% and higher Medicarepatient acuity, was the primary reason for the remainder of the overall rateincrease. Total patient days increased 18,679 to 1,700,603 in the currentquarter compared to 1,681,924 in the same period of the prior year. Of thisincrease, 27,896 patient days are attributed to the step acquisition of twoeldercare centers, offset by a decline of 9,217 patient days in our samefacility centers which were included in both reporting periods. Overalloccupancy declined to 90.4% in the current quarter from 91.2% in the same periodin the prior year. 

            Increased revenue volume generated by ongoing customer contracts was the primaryreason for the $4.3 million increase in external rehabilitation therapy servicesrevenue.

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             Revenue increases in each of our otherbusinesses, with the exception of our hospitality business where revenuesdeclined due to management’s decision to curtail such operations, and increasedinvestment income were responsible for the $2.1 million increase in otherbusinesses revenue.

             Forthe current quarter, net income increased to $10.8 million from $6.0 million inthe same period in the prior year. Revenue increases of $33.0 million, aspreviously discussed, were partially offset by $19.2 million of increasedsalaries, wages and benefits and $8.6 million of higher other operatingexpenses. Of the $19.2 million of increased salaries, wages and benefits, $3.4million is attributed to the step acquisitions of two eldercare centers,approximately $2.6 million is attributed to the replacement of higher costtemporary agency nurses with internally employed nurses, with the balance of theincrease due to normal inflationary growth in wage and benefits in both ourinpatient services segment and rehabilitation therapy services segment andincreased rehabilitation therapy services business volume. Of the $8.6 millionof increased other operating expenses, $1.9 million is attributed to increasedutilization of temporary agencies with our rehabilitation services business tomeet increased business volume, $1.5 million is attributed to the stepacquisition of the two eldercare centers, $1.2 million is attributed to therecognition of the New Hampshire provider assessment taxes, $1.9 million is dueto increased ancillary costs resulting from our treatment of patients with moremedically complex needs, $1.4 million is due to an increase in expenses relatedto deferred compensation plans and $0.5 million results from an increase inexpenses related to employee safety programs. An additional $2.8 million ofincreased operating expenses is due to an adjustment to reflect an estimate ofpreviously unaccrued costs resulting from a weakness in our purchasing cut–offprocedures. We have remediated the internal control weakness and believe thatthe correction is not material to any previously reported financial statementsand is not material to earnings trends. These increases in other operatingexpenses were offset by approximately $3.1 million of reduced costs attributedto the replacement of higher cost temporary agency nurses with internallyemployed nurses and $1.7 million of reduced bad debt expense due to ourimprovement in the collection of older accounts receivable. The balance of theincrease in other operating expenses of approximately $2.2 million is largelyattributed to normal inflationary increases in cost. General and administrativecosts increased by $0.1 million primarily due to increased salaries, wages andbenefits for corporate support personnel partially offset by a $0.9 millionimprovement in costs associated with our self–insured general and professionalliability and workers’ compensation programs. Net income was further reducedfrom increases in interest expense, early extinguishment of debt costs andincome tax expense as further discussed below. Net income increased due to lowerlease expense, lower depreciation and amortization expense, lower after–taxlosses of discontinued operations and higher earnings of less than 100% ownedsubsidiaries, each of which is further discussed below.

             For the current quarter, EBITDAincreased $5.1 million to $34.5 million compared with $29.4 million in the sameperiod of the prior year. Inpatient services EBITDA increased $8.6 million, $1.3million of which is due to the step acquisition of two eldercare centers withthe remaining $7.3 million increase resulting from the previously discussedincrease in payor rates, reduced utilization of external nursing agencies andreduced bad debt expense offset by inflationary increases in cost. EBITDA of ourrehabilitation therapy services segment declined $0.1 million with $6.4 millionof combined external and intersegment revenue increases being offset by $4.2million of higher labor related costs, $1.9 million of increased utilization oftemporary agencies and $0.4 million of increased recruiting costs. The increasein rehabilitation therapy labor and temporary agency costs is being driven byhigh market demand for a limited pool of qualified therapists. Increased loss onearly extinguishment of debt in the current quarter decreased EBITDA by $0.4million. The remaining decrease in EBITDA of $3.0 million in the current quarteris principally attributed to adverse claims development in our self–insuredgeneral and professional liability and workers’ compensation programs andincreased stock and cash based incentive compensation expenses in the currentquarter compared to the prior year quarter.

             **CapitalCosts and Other**

             Lease expense decreased by $0.3million to $7.1 million in the current quarter, compared to $7.4 million for thesame period in the prior year primarily due to the purchase of five previouslyleased facilities.

            Depreciation and amortization expense decreased by $0.3 million to $11.3 millionin the current quarter compared to $11.6 million for the same period in theprior year. The decrease is principally attributed to certain fixed assets andintangible assets becoming fully depreciated since the prior year quarter.

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             Interest expense increased $0.8million in the current quarter to $6.6 million, compared to $5.8 million for thesame period in the prior year, principally due to increased debt levels abovethose allocated by NCI prior to the spin–off. Our increased debt levels areattributed to the issuance of our senior subordinated notes and our seniorcredit facility.

             Theloss on early extinguishment of debt of $0.5 million recognized in the currentquarter is the result of a voluntary prepayment of approximately $11.0 millionof mortgage debt and the retirement of approximately $14.0 million of the termloan component of our senior credit facility and consists of the write–off ofunamortized deferred financing fees as well as a prepayment penalty relative tothe mortgage debt prepayment.

             Income tax expense in the current and prior year quarters isestimated using an effective tax rate of approximately 39.75%, offset by therecognition of certain tax credits retroactive to fiscal 2004. Income taxexpense includes the provision of taxes on both equity in net income ofunconsolidated affiliates and minority interests.

             Income (loss) from discontinuedoperations, net of taxes, was income of $0.2 million in the current quarter anda loss of $1.6 million in the prior year quarter. The change is due in part to a$0.4 million (after–tax) write–down of assets classified as discontinued inthe prior year quarter combined with the relative results of operations of thosebusinesses identified as discontinued operations. The improvement in theoperating results of our discontinued businesses is primarily due to a gain onthe current quarter sale of two eldercare centers that were held forsale.

             Operating resultsof our less than 100% owned subsidiaries in the current quarter improvedcompared to the same period in the prior year, resulting in a combined increaseof $0.4 million in equity in net income of unconsolidated affiliates andminority interests.

**Liquidity and Capital Resources**

             ***Working Capital and CashFlows***

             Referenceto our unaudited condensed consolidated balance sheets and statements of cashflows will facilitate understanding of the discussion that follows.

             Our operating cash flow has beenused to finance trade accounts receivable, fund capital expenditures, serviceour indebtedness and make selective acquisitions. Financing trade accountsreceivable is necessary because, on average, the customers and payors for ourservices do not pay us as quickly as we pay our vendors and employees for theirservices. Our cash flow from operations for the three months ended December 31,2004 and 2003 were $24.5 million and $32.2 million, respectively. The $7.7million decline in cash flow from operations primarily resulted from $24.7million in reduced cash flow resulting from the timing of payments to vendorsand employees, with the remaining $17.0 million improvement in operating cashflow primarily resulted from growth in operations and collection of costssettlement with certain state Medicaid programs.

             Our investing activities principallyconsist of capital expenditures and asset acquisitions and dispositions. Capitalexpenditures consist primarily of betterments and expansion of eldercare centersand investments in computer hardware and software. For the foreseeable future,we expect to incur capital expenditure costs at levels significantly above thelevels incurred in prior years as we intend to increase our investment in bothphysical plant and information systems. For fiscal 2005, capital expendituresare anticipated to be within the range of $50.0 million to $60.0 million.Capital expenditures were $11.1 million and $7.8 million for the three monthsended December 31, 2004 and 2003, respectively. Investing activities for thethree months ended December 31, 2004 and 2003 also include proceeds receivedfrom the sale of eldercare centers of $5.3 million and $7.1 million,respectively. We do not expect to receive significant cash proceeds from assetsales in fiscal 2005. Investing activities for the three months ended December31, 2003 include a use of cash of $40.6 million representing the purchase offour previously leased eldercare centers and payments to restructure nine leaseagreements in an effort to reduce future lease payments.

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             We are highly leveraged, consequently,a significant portion of our operating cash flow is being used to meet our debtservice requirements including payments that will be required under the excesscash flow recapture requirements of our senior credit facility. At the end ofeach fiscal year, we are required to prepare an excess cash flow calculation asdefined in our senior credit agreement. Of the amount determined as excess cashflow, a percentage is to be paid to our senior lenders in the form of amandatory payment no later than January 15 of each year. Certain of theparticipating lenders chose not to require us to make the most recent mandatorypayment. In November 2004, we repaid approximately $14.0 million under themandatory payment provisions to those participating lenders that did requiresuch payment. Also in November 2004, we prepaid an $11.0 million, 11% fixed ratemortgage. We paid the lender a $0.3 million penalty in connection with theprepayment.

             Cash fromnet financing activities for the three months ended December 31, 2003 was a netsource of cash of $116.5 million, attributed to $400.7 million of net proceedsfrom our new financing arrangements following the spin–off, offset by the useof $218.5 million to repay indebtedness of NCI, $8.2 million to repay mortgagedebt of three eldercare centers, $2.0 million of scheduled principal paymentsand $55.5 million of cash transferred to NCI in connection with thespin–off.

             Wecontinually evaluate the most efficient use of our capital, includinginvestments in our property and equipment, information systems, potential assetacquisitions or dispositions, purchasing, refinancing, exchanging or retiringcertain of our outstanding debt securities to the extent permitted by ourexisting covenant restrictions. As part of such ongoing evaluation, our Board ofDirectors has authorized the repurchase of up to $25.0 million of our commonstock commencing in December 2004. Share repurchases, if any, may take place atmanagement’s discretion and/or under pre–established, nondiscretionary programsfrom time to time, depending on market conditions, in the open market, and inprivately negotiated transactions. There were no share repurchases for the threemonths ended December 31, 2004.

             We believe that the net cash provided by our operating activities,supplemented as necessary with cash reserves and borrowings available under ourrevolving credit facility described below will provide sufficient resources tomeet our working capital requirements, debt service and other short–term andlong–term liquidity needs, including the mandatory debt repayment under theexcess cash flow recapture requirement and discretionary repurchases of ourcommon stock.

             AtDecember 31, 2004, we had restricted investments in marketable securities of$96.9 million, which are held by Liberty Health Corporation, LTD. (LHC), ourwholly owned captive insurance subsidiary incorporated under the laws ofBermuda. The investments held by LHC are restricted by statutory capitalrequirements in Bermuda. As a result of such restrictions and encumbrances, weand LHC are precluded from freely transferring funds through intercompany loans,advances or cash dividends.

             ***Transactions Occurring After December 31,2004***

             *Purchaseof Joint Venture Interests.*Effective January 1, 2005, we acquired our jointventure partner’s interest in a Commonwealth of Massachusetts skilled nursingfacility having 123 beds which we previously managed and owned a 50% interest inthe facility. Upon completion of the transaction, we own 100% of the facilityand will begin consolidating the revenues, expenses, assets and liabilities ofthe facility beginning January 1, 2005. The aggregate consideration consisted of$0.5 million to acquire the remaining partnership interests and the assumptionof approximately $6.0 million of debt, all of which was repaid at the closing ofthe transaction. The facility’s annual revenues and pretax income approximate$9.8 million and $1.1 million, respectively. The facility had total assets of$10.4 million at December 31, 2004.

             *Acquisition of Previously Leased ElderCare Center and LeaseTermination.*In January 2005, we acquired the land and building of a Stateof New Jersey skilled nursing facility having 136 beds that we previouslyleased. The purchase price of approximately $15.8 million includes theassumption of a 6%, $9.5 million fixed rate mortgage that matures in October2007. The revenues, operating expenses and working capital of the purchasedcenter are consolidated in our historical results. The transaction will resultin an annual reduction in lease of expense of approximately $1.6 million and anincrease to depreciation expense of approximately $0.6 million.

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             In January 2005, we terminated thelease of a State of New Jersey skilled nursing facility having 186 beds. Upontermination, the center will be treated as a discontinued operation,consequently, its results of operations in the current and prior year periodswill be classified as discontinued operations in the condensed consolidatedstatements of operations. The annual revenues and pretax income of this centerapproximate $12.3 million and $1.4 million, respectively.

             ***DebtAgreements***

             InOctober 2003, we issued 8% senior subordinated notes in an aggregate principalamount of $225.0 million with a term of ten years. The notes are not redeemableuntil on or after October 15, 2008. We may, however, use the net proceeds fromone or more equity offerings to redeem up to 35% of the aggregate principalamount of the notes issued on or before October 15, 2006 at 108% of theprincipal amount, plus accrued and unpaid interest to the redemption date,subject to the terms of the notes. On December 1, 2003, we entered into a seniorcredit facility that provides for a term loan of approximately $185.0 million,which was fully drawn at the consummation of the spin–off, and a revolvingcredit facility of $75.0 million. As of February 4, 2005, there was $72.1million of available credit under the revolving credit facility after givingeffect to $2.9 million in outstanding letters of credit issued under therevolving credit facility. The term loan has a seven year term and amortizes onepercent per year through year six. The revolving credit facility has a five yearterm. Our senior credit facility includes an excess cash flow recapturerequirement that may increase the required principal payments above contractualminimum amounts each year depending on a defined formula in the senior creditagreement. The term loan portion of our senior credit facility, as amended, hasa rate of interest of the London Interbank Offered Rate (LIBOR) plus 2.25% or abase rate plus an applicable margin. The amended term loan agreement providesfor a reduced rate of interest to LIBOR plus 2.00% if the term loan achieves arating at or above BB by S&P or at or above Ba2 by Moody’s. The revolvingportion of our senior credit facility has a rate of interest of LIBOR plus 2.50%or a base rate plus an applicable margin on any borrowings thereunder, and acommitment fee on the revolving portion of 0.50% on any unusedcommitment.

            ***Contractual Obligations and Commitments***

             We have future obligations for debtrepayments and future minimum rentals under operating leases. The obligations asof December 31, 2004 are summarized as follows (in thousands):

|                        |   |      |   |                 |   |   |   **Payments Due by Period**        |
|-----------------------------|--------|-----------|--------|----------------------|--------|--------|--------------------------------------------------------------|
|                             |
|                        |   |      |   |                 |   |   |                                                         |   |   |   |   |   |   |   |   |
| **Contractual Obligations** |   | **Total** |   | **Less than 1 year** |   |   | **1–3 years**                                           |   |   | **4–5 years** |   | **Thereafter** |   |
|                             |
|                        |   |      |   |                 |   |   |                                                         |   |   |   |   |   |   |   |   |
| Long–term debt         | $      | 378,321   |   | $                    | 5,528  |   | $                                                            | 10,023 |   | $ | 7,583 |   | $ | 355,187 |   |
| Operating leases            |   | 145,418   |   |                 | 23,005 |   |                                                         | 41,167 |   |   | 30,987 |   |   | 50,259 |   |
|                             |
|                        | $      | 523,739   |   | $                    | 28,533 |   | $                                                            | 51,190 |   | $ | 38,570 |   | $ | 405,446 |   |
|                             |

                 We    have committed to exercise our option to purchase one of our currently leased    eldercare centers in the State of New Hampshire for $4.1 million. The purchase    option is contingent upon the lender’s consent for assumption of approximately    $2.0 million of debt. That transaction is expected tooccur at the end of the current lease term in March 2005.

                 ***Off–Balance Sheet Commitments***

                 In addition to the contractual obligations and commitments described above, we also have contingent obligations related to outstanding lines of credit, letters of credit and guarantees.

             Requests for providing commitmentsto extend financial guarantees and extend credit are reviewed and approved bysenior management and the board of directors in accordance with obligationalauthority policies. Management regularly reviews all outstanding commitments,letters of credit and financial guarantees, and the results of these reviews areconsidered in assessing the need for any reserves for possible credit andguarantee loss. 

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             We have extended $4.1 million inworking capital lines of credit to certain jointly owned and managed companies,of which $2.2 million were unused at December 31, 2004. Credit risk representsthe accounting loss that would be recognized at the reporting date if theaffiliate companies were unable to repay any amounts utilized under the workingcapital lines of credit. Commitments to extend credit to third parties areconditional agreements generally having fixed expiration or termination datesand specific interest rates and purposes.

             We have posted $2.9 million of outstanding letters ofcredit. The letters of credit guarantee performance to third parties of varioustrade activities. The letters of credit are not recorded as liabilities on ourconsolidated balance sheet unless they are probable of being utilized by thethird party. The financial risk approximates the amount of outstanding lettersof credit. 

             We haveprovided $0.3 million of financial guarantees related to loan commitments of onejointly owned and managed company. The guarantees are not recorded asliabilities on our consolidated balance sheet unless we are required to performunder the guarantee. Credit risk represents the accounting loss that would berecognized at the reporting date if counter–parties failed to performcompletely as contracted. The credit risk amounts are equal to the contractualamounts, assuming that the amounts are fully advanced and that no amounts couldbe recovered from other parties.

**Income Taxes**

             At    December 31, 2004, based on our financial position and operating results    after the spin–off, we believe the netdeferred tax assets, except for tax benefits related to net operating losscarryforwards, are more likely than not to be realized. In addition to taxableincome limitations, the tax benefits related to net operating loss carryforwardsare subject to statutory limitations as well as contractual limitations betweenus and NCI and, therefore, remain fully reserved. For the three months endedDecember 31, 2004, we utilized $7.0 million in net operating loss carryforwards,and had estimated net operating loss carryforwards remaining of $179.0 million,utilization of which is subject to the aforementioned limitations. The ultimatenet operating loss carryforwards available to us will not be determinable untilthe preparation of NCI’s federal tax return for its fiscal year endedSeptember 30, 2004 is completed. This could materially reduce our estimated netoperations loss carryforwards.

**Critical Accounting Policies**

             We consider an accounting policy to becritical if it is important to our financial condition and results, and requiressignificant judgment and estimates on the part of management in its application.Our critical accounting estimates and the related assumptions are evaluatedperiodically as conditions warrant, and changes to such estimates are recordedas new information or changed conditions require revision. Application of thecritical accounting policies requires management’s significant judgments,often as the result of the need to make estimates of matters that are inherentlyuncertain. If actual results were to differ materially from the estimates made,the reported results could be materially affected. We believe that the followingrepresents our critical accounting policies, which are described in our AnnualReport on Form 10–K for the fiscal year ended September 30, 2004:

|  | • | Allowance forDoubtful Accounts; |
|--|---------|---------------------------------|

|  | • | Loss Reserves for Certain Self–InsuredPrograms; |
|--|---------|------------------------------------------------------|

|  | • | Revenue Recognition / Contractual Allowances; and |
|--|---------|---------------------------------------------------|

|  | • | Long–Lived AssetImpairments. |
|--|---------|-----------------------------------|

             During the current quarter, we did not make any material changesto our estimates or methods by which estimates are derived with regard to ourcritical accounting policies. 

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**New AccountingPronouncements**

             InDecember 2004, the Financial Accounting Standards Board (FASB) issued StatementNo. 123R, *"Share–Based Payment"* (SFAS 123R), which requires companies tomeasure and recognize compensation expense for all stock–based payments at fairvalue. SFAS 123R is effective for all interim periods beginning after June 15,2005 and, thus, will be effective for us beginning with the fourth quarter offiscal 2005. Early adoption is encouraged and retroactive application of theprovisions of SFAS 123R to the beginning of the fiscal year that includes theeffective date is permitted, but not required. We expect the adoption of SFAS123R will reduce our net income $0.6 million ($0.02 per diluted share) in thefourth fiscal quarter of 2005. See note 10 – “Stock Option Plan” for informationrelated to the pro forma effects of stock–based employee compensation on ourreported results assuming application of the fair value recognition provisionsof SFAS 123.

**Other**

             We manage the operations of 43 eldercare centers and 13transitional care units. Under a majority of these arrangements, we employ theoperational staff of the managed business for ease of benefit administration andbill the related wage and benefit costs on a dollar–for–dollar basis to theowner of the managed property. In this capacity, we operate as an agent onbehalf of the managed property owner and are not the primary obligor in thecontext of a traditional employee/employer relationship. Historically, we havetreated these transactions on a “net basis”, thereby not reflecting the billedlabor and benefit costs as a component of our net revenue or expenses. For thethree months ended December 31, 2004, we billed our managed clients $27.3million for such labor related costs compared to $27.2 million for thecomparable period in the prior year.

**Seasonality**

             Our earnings generally fluctuate from quarter to quarter. Thisseasonality is related to a combination of factors, which include the timing ofMedicaid rate increases and payroll tax obligations, inclement weather, seasonalcensus cycles, and the number of calendar days in a given quarter.

**Impact of Inflation**

             The healthcare industry is laborintensive. Wages and other labor costs are especially sensitive to inflation andmarketplace labor shortages. To date, we have sought to offset our increasedoperating costs by increasing charges for our services and expanding ourservices. We have also implemented cost control measures to limit increases inoperating costs and expenses but cannot predict our ability to control suchoperating cost increases in the future. See “Cautionary Statements RegardingForward–Looking Statements,” and “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations.”

**ITEM 3:   Quantitative and Qualitative Disclosures aboutMarket Risk**

             We areexposed to the impact of interest rate changes. 

             At December 31, 2004, we have $127.8million of debt subject to variable rates of interest. A one percent change inLIBOR would result in a change to our interest expense of $1.3 millionannually.

             At December31, 2004, we have $118.3 million of cash and equivalents that are affected bymarket rates of interest. A one percent change in the rate of interest wouldresult in a change in interest income on cash and equivalents of $1.2 millionannually.

             At December31, 2004, we held $89.0 million of restricted investments in marketablesecurities that are affected by market rates of interest. A one percent changein the rate of interest would result in a change in interest income on thoseinvestments of $0.9 million annually.

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**ITEM 4:  Controls and Procedures**

             (a)   Evaluation of disclosure controls and procedures.

             As required by Rule 13a–15(b) ofthe Securities Exchange Act of 1934, as amended, (the Exchange Act), ourmanagement, including our chief executive officer and chief financial officer,conducted an evaluation of the effectiveness of our disclosure controls andprocedures (as defined in Exchange Act Rule 13a–15(e)). Disclosure controls andprocedures include controls and procedures designed to ensure that informationrequired to be disclosed in our reports filed or submitted under the ExchangeAct, such as this Form 10–Q, is properly recorded, processed, summarized andreported within the time periods required by the Securities and ExchangeCommission’s rules and forms. Management necessarily applied its judgment inassessing the costs and benefits of such controls and procedures that, by theirnature, can provide only reasonable assurance regarding management’s controlobjectives. Management does not expect that its disclosure controls andprocedures will prevent all errors and fraud. A control system, irrespective ofhow well it is designed and operated, can only provide reasonable assurance, andcannot guarantee that it will succeed in its stated objectives.

             We    are currently documenting, evaluating the design effectiveness of and    testing the internal controls of our significant processes over financial    reporting, as required by Section 404 of the Sarbanes–Oxley Act, in    order to allow our management to report on, and our Registered Independent    Public    Accounting Firm to attest to, our internal controls over financial    reporting. The evaluation and testing requires significant costs and    management time. In the course of our ongoing evaluation and testing,    management has identified certain deficiencies and implemented remediation    plans or is in the process of planning remediation for the deficiencies.    In addition, we have identified a control weakness that is deemed by management    to be a significant deficiency that compromised the effectiveness of our    internal controls. A significant deficiency is defined under the rules of    the Public Company Accounting Oversight Board as a control deficiency in    a company’s financial reporting processes that creates more than a remote    likelihood that a misstatement of the company’s financial statements    that is more than inconsequential will not be prevented or detected.    Specifically, management identified a deficiency related to cut–off    procedures in the purchasing process. We have implemented a compensating    control to remediate this weakness. We believe this control effectively    eliminates the internal control deficiency identified with respect to our    purchasing cut–off procedures.

            Based    on an evaluation of the effectiveness of disclosure controls and procedures    and following the implementation of the compensating control described above,    our chief executive officer and chief financial officer concluded that our    disclosure controls and procedures were effective in reaching a reasonable    level of assurance that information required to be disclosed by us in the    reports that we file or submit under the Exchange Act is recorded, processed,    summarized and reported within the time period specified in the Securities    and Exchange Commission’s rules and forms.  

            (b)   Changes in internal controls.

             Except as noted in the paragraphsunder (a) above, there was no change in our internal controls over financialreporting that occurred during the period covered by this Quarterly Report onForm 10–Q that has materially affected, or is reasonably likely to affectmaterially, our internal control over financial reporting.

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**PART II:   OTHERINFORMATION**

| **ITEM 1:**   | **Legal Proceedings****–**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
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|          |             Haskell    et al. v. Goldman Sachs & Co. et al                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
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|     |             We understand that NeighborCare, Inc., our former parent, is the defendant in an action brought by former investors in NeighborCare, Inc. on January 27, 2004 in the Supreme Court of New York, County of New York.  The plaintiffs collectively held over $205.0 million in subordinated debentures prior to the filing by NeighborCare, Inc. and substantially all of our subsidiaries of a Chapter 11 bankruptcy petition in 2000.  The claim alleges fraud and grossly negligent misrepresentation by defendants NeighborCare, Inc., Goldman Sachs & Co., Mellon Bank, N.A., Highland Capital Management, LP, and George V. Hager, Jr., our Chief Executive Officer (and former Chief Financial Officer of NeighborCare, Inc. prior to thespin–off), in connection with the Bankruptcy Court’s approval of theplan of reorganization confirmed by the Bankruptcy Court in 2001 which canceledthe subordinated debentures. The plaintiffs seek to recover $200.0 million plusinterest costs and fees. The action has been removed to the Bankruptcy Courtfor the District of Delaware. In July 2004, we received notice from NeighborCare,Inc. indicating that it believes we are responsible for 50% of the legal feesrelated to this matter. We    further understand that MellonBank, N.A. has asserted a claim against Neighborcare,    Inc. for indemnification for expenses and damages related to the former investors’ claim.    While we have advanced Neighborcare, Inc. 50% of the deductible under the    insurance policy related to the former investors’ claim, we have not    made a determination with respect to our ultimate liability, if any, relative    to this case. |
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| **ITEM 2:**   | **Unregistered Sales of Equity    Securities and Use of Proceeds**– None                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |
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| **ITEM 3:**   | **Defaults Upon Senior Securities –** None                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
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| **ITEM 4:**   | **Submission of Matters to a    Vote of Security Holders –** None                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
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**ITEM 5:    Other Information**

**Incentive Compensation Program**

     Annually, the Compensation Committee    approves an incentive compensation program for management–level employees.    The goal of the incentive compensation program is to reward management–level    employees for their contributions to individual and corporate objectives.    The incentive compensation program provides for a bonus equal to a percentage    of a participant’s year–end base salary. The bonus varies depending    upon the attainment of certain individual and corporate objectives. Among    other things, the objectives include clinical and financial performance measures. 

     *2004 Incentive Compensation      Program*. The Compensation Committee approved the      award of annual cash incentive bonuses for fiscal 2004 to certain executive      officers and management level employees. The awards were made pursuant      to the 2004 Incentive Compensation Program adopted by the Compensation      Committee in December 2003, which is not set forth in a written agreement.      The awards were made based on the individual’s achievement of his      or her individual targets and Genesis’ achievement of the financial      performance measures set by the Compensation Committee      for fiscal 2004. Achievement      of targets      set      by the Compensation Committee for our named executive officers,      as such term is defined by Item 402(a)(3) of Regulation S-K in fiscal      2004, were dependent upon Genesis’ earnings per share, earnings before      interest expense, income taxes, depreciation and amortization (EBITDA),      certain clincial      goals      and employee retention rates. The      amount of      each      award was      based      on the target bonus      set by the Compensation Committee for each individual for fiscal 2004.      Named executive officers  (with the exception      of George V. Hager, Jr., Genesis’ Chief Executive Officer) were eligible      for a 15% bonus if they achieved their baseline targets (100%) and a maximum      bonus of 35% of their salary if they achieved their stretch targets. 

     The Compensation Committee awarded    Mr. Hager a performance bonus of $525,000 with respect to fiscal 2004 pursuant    to the employment agreement and 2004 Incentive Compensation Program. In fiscal    2004, David C. Almquist, Richard P. Blinn, James V. McKeon and Robert A.    Reitz, Genesis’ named executive officers, earned a performance bonus    of $103,000, $103,000, $114,000 and $93,000, respectively, under the 2004    Incentive Compensation Program. 

     *2005Incentive Compensation      Program*. In November 2004,	  the Compensation Committee      adopted the 2005 Incentive Compensation Program,	  which is not set forth      in a written agreement, for fiscal 2005.	  The 2005 Incentive Compensation      Program is very similar to the 2004	  Incentive Compensation Program.

     The Compensation Committee has    established the performance goals for fiscal year 2005 with regard to Mr.    Hager’s and each named executive officer’s bonus, which include:    100% achievement of Genesis’ EBITDA target; 100% achievement of Genesis’ EPS    target; 100% achievement of Genesis’ Return on Invested Capital target;    achievement of specific clinical and human resource objectives, and a stretch    target to include a capped, proportional share of excess pre–tax earnings. 

     In the 2005 Incentive Compensation    Program, the target bonus for the named executive officers	(with the exception    of Mr. Hager who remains eligible for a bonus of up to 100%	of his salary)    is 40% of salary and is achieved by    Genesis reaching its target financial goals and the	individual officer reaching    his/her individual goals. The stretch bonus is achieved	by Genesis exceeding    its financial goals and is up to an additional 20% of salary.	To date, incentive    bonuses have been paid in cash. In November 2004, the	Compensation Committee    determined that, in the future, 25% of the incentive bonus	for the named    executive officers will be paid in restricted Common Stock	under the 2003    Stock Incentive    Plan (to the extent that shares    are available under the 2003 Stock Incentive Plan).	The value of the portion    of the incentive bonus paid in restricted Common Stock	will be increased    by 25%. The Common Stock would vest quarterly over a	three–year period,    beginning on January 1st of the year following the	end of the fiscal year    for which    the award is granted (Year 1). In the event that Genesis    achieved 105% of its earnings per share target in Year 1,	the portion that    would have vested in Year 3 would be accelerated to	vest in Year 2.

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**Base Salary**

      Under Mr. Hager’s employment    agreement his initial annual base salary for last calendar year was $600,000.    For this calendar year, the Compensation Committee established Mr. Hager’s    annual base salary at $675,000. 

      Pursuant to their employment agreements,    Messrs. Almquist’s, Blinn’s, McKeon’s and Reitz’s initial    annual base salary for last calendar year was $295,000, $295,000, $325,000    and $345,000, respectively. For this calendar year, the Compensation Committee    has established    Messrs. Almquist’s, Blinn’s, McKeon’s and Reitz’s annual    base salary at $305,000, $305,000, $375,000, and $375,000, respectively. 

**Special Bonus**

      Messrs. Almquist, Blinn, McKeon    and Reitz were awarded a one–time, special bonus for Genesis’ successful    transition of operations in connection with its spin–off of $47,000, $47,000,    $86,000 and $57,000, respectively. 

**Director Compensation**

     Each director who is not an employee    of Genesis receives an annual fee of $25,000 for serving as a director and    $1,500 for each day during which he or she participates in a meeting of Genesis’ Board    of Directors and $1,000 for each meeting of a committee of Genesis’ Board    of Directors of which he or she is a member, with the exception of the meetings    of the Audit Committee, which has a $1,500 daily meeting fee. The following    additional fees are also paid annually: $25,000 to the Lead Director;	$5,000    to the Chairperson of each committee (other than the Audit Committee),	as approved    for 2005 (in 2004 only the Chairperson of the Audit Committee received	additional compensation);    and $7,500 to the Chairperson and financial expert of the Audit Committee    (that fee will be split evenly if the Chairperson and financial expert are    different people). Genesis intends to make annual grants of restricted Common    Stock having a fair market value at the time of grant of $95,000 to each    non–employee director. The restricted common stock granted to non-employee    directors vests on the earlier of three years from the date of the grant    or the date a director ceases to serve the company.

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****

| **ITEM 6:** | **Exhibits** |
|-------------|--------------|
|             |         |   |
|             | (a)          | Exhibits |

|   |   |   |                                                                                                                                                                                      |
|--------|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   | 31.1   | Certification of George V. Hager, Jr., Chief ExecutiveOfficer, of the Company dated February 9, 2005 pursuant to Rule 13a – 14(a) ofthe Securities Exchange Act of 1934, as amended. |

|   |   |   |                                                                                                                                                                                 |
|--------|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   | 31.2   | Certification of James V. McKeon, Chief FinancialOfficer, of the Company dated February 9, 2005 pursuant to Rule 13a – 14(a) ofthe Securities Exchange Act of 1934, as amended. |

|   |   |   |                                                                                                                                    |
|--------|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------|
|   |   | 32.1   | Certification of George V. Hager, Jr., Chief ExecutiveOfficer, of the Company dated February 9, 2005 pursuant to 18 U.S.C. Section1350. |

|   |   |   |                                                                                                                               |
|--------|--------|--------|------------------------------------------------------------------------------------------------------------------------------------|
|   |   | 32.2   | Certification of James V. McKeon, Chief FinancialOfficer, of the Company dated February 9, 2005 pursuant to 18 U.S.C. Section1350. |

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**SIGNATURES**

Pursuant to the requirements of theSecurities Exchange Act of 1934, the registrant has duly caused this report tobe signed on its behalf by the undersigned thereunto duly authorized.

|                    | Genesis HealthCare Corporation                                                                 |
|-------------------------|------------------------------------------------------------------------------------------------|
|                    |                                                                                           |
| Date:  February 9, 2005 | /s/ James V. McKeonJames V. McKeon,Chief FinancialOfficer                                      |
|                    |                                                                                           |
| Date: February 9, 2005  | /s/ George V. Hager, Jr. George V. Hager, Jr.,Chief Executive Officer andChairman of the Board |

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