# UNITED STATES

# SECURITIES AND EXCHANGE COMMISSION

# WASHINGTON, D.C. 20549

# FORM 10-Q

## (Mark One)

## [x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

## For the quarterly period ended June 30, 2002

# OR

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

# For the transition period fromto

# Commission file number          333-64679

# Harborside Healthcare Corporation

|Delaware(State or other jurisdiction of incorporation or organization)           | 04-3307188(IRS employer identification no.)
|-------------------------------------------------------------------------------- | -------------------------------------------
|                                                                                
|One Beacon Street, Boston, Massachusetts(Address of principal executive offices) | 02108(Zip Code)                            

# (617) 646-5400

# (Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes        No      Not Applicable

## Number of shares of common stock, par value $0.01 per share outstanding as of August 10, 2002:  7,880,666.

`HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

                                                            Table of Contents


                                                                                Page
                                                                                ----

Part I   FINANCIAL INFORMATION

Item 1.  Financial Statements

         Condensed Consolidated Balance Sheets
            as of December 31, 2001 and June 30, 2002                           3

         Condensed Consolidated Statements of Operations
            for the Three Months and Six Months ended
            June 30, 2001 and 2002                                              4

         Condensed Consolidated Statement of Changes
            in Stockholders' Deficit for the Six Months
            ended June 30, 2002                                                 5

         Condensed Consolidated Statements of Cash Flows
            for the Six Months ended June 30, 2001 and 2002                     6

         Notes to Condensed Consolidated Financial Statements                   7

Item 2.  Management's Discussion and Analysis of Financial
         Condition and Results of Operations                                    14

Item 3.  Quantitative and Qualitative Disclosures about Market Risk             23

Part II  OTHER INFORMATION                                                      24

         Signatures                                                             25`

# 2

# PART I.  FINANCIAL INFORMATION

# Item 1.  FINANCIAL STATEMENTS

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# CONDENSED CONSOLIDATED BALANCE SHEETS

# (dollars in thousands, except share amounts)

`December 31,      June 30,
                                                                              2001           2002
                                                                               ----          ----
            ASSETS                                                                        (unaudited)
Current assets:
  Cash and cash equivalents ..............................................   $   9,249    $  12,652
  Accounts receivable, net of allowances for doubtful
   accounts of $3,979 and $5,180, respectively ...........................      45,502       48,431
  Prepaid expenses and other .............................................      11,628       12,244
                                                                             ---------    ---------
    Total current assets .................................................      66,379       73,327

Restricted cash ..........................................................       5,898        6,340
Property and equipment, net ..............................................     108,989      108,213
Deferred financing and other non-current assets, net .....................       3,916        3,948
Other assets, net ........................................................         700          100
Note receivable ..........................................................       7,487        7,487
                                                                             ---------    ---------
    Total assets .........................................................   $ 193,369    $ 199,415
                                                                             =========    =========

          LIABILITIES
Current liabilities:
  Current maturities of long-term debt ...................................   $   2,776    $   5,290
  Accounts payable .......................................................      14,711       15,768
  Employee compensation and benefits .....................................      19,270       22,271
  Other accrued liabilities ..............................................       6,878        6,458
  Accrued interest .......................................................         147          206
  Current portion of deferred income .....................................         521          521
                                                                             ---------    ---------
    Total current liabilities ............................................      44,303       50,514

Claims reserve ...........................................................       1,467        4,025
Long-term portion of deferred income .....................................       1,487        1,226
Long-term debt ...........................................................     113,878      113,683
Long-term accrued interest ...............................................      47,115       44,510
                                                                             ---------    ---------
    Total liabilities ....................................................     208,250      213,958
                                                                             ---------    ---------

13% Convertible exchangeable preferred stock, redeemable, $.01 par value
  with a liquidation value of $1,000 per share; 100,000 shares authorized;
  16,286 and 17,362 shares issued and outstanding, respectively ..........      16,286       17,362

        STOCKHOLDERS' DEFICIT
Common stock, $.01 par value, 40,700,000 shares
  authorized and 15,275,664 shares issued ................................         153          153
Additional paid-in capital ...............................................     187,976      186,900
Common stock in treasury, at cost, 7,379,165 and
 7,394,998 shares, respectively ..........................................    (183,746)    (183,746)
Accumulated deficit ......................................................     (35,550)     (35,212)
                                                                             ---------    ---------
    Total stockholders' deficit ..........................................     (31,167)     (31,905)
                                                                             ---------    ---------
    Total liabilities and stockholders' deficit ..........................   $ 193,369    $ 199,415
                                                                             =========    =========`

# The accompanying notes are an integral part of the condensed
 consolidated financial statements.

# 3

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

# (Unaudited)

# (dollars in thousands, except per share amounts)

`For the three months ended June 30,For  the six months ended June 30,
                                            ---------------------------------------------------------------------

                                                          2001         2002         2001         2002
                                                     ---------    ---------    ---------    ---------


Total net revenues ...............................   $  86,127    $ 101,011    $ 168,213    $ 195,522
                                                     ---------    ---------    ---------    ---------

Expenses:
 Facility operating ..............................      69,086       83,036      136,175      160,304
 General and administrative ......................       5,057        5,066        9,619        9,988
 Service charges paid to former affiliate.........         276          192          551          384
 Amortization of prepaid management fee ..........         300          300          600          600
 Depreciation and amortization ...................       2,128        2,357        4,431        4,655
 Facility rent ...................................       7,221        7,797       14,374       15,234
 Financial restructuring costs ...................       6,874         --          9,045         --
                                                     ---------    ---------    ---------    ---------

 Total expenses ..................................      90,942       98,748      174,795      191,165
                                                     ---------    ---------    ---------    ---------

Income (loss) from operations ....................      (4,815)       2,263       (6,582)       4,357

Other:
 Interest expense, net ...........................       3,054        1,884        7,677        3,815
 Other (income) expense ..........................        (135)         (78)         (89)          84
                                                     ---------    ---------    ---------    ---------

Income (loss) before income taxes ................      (7,734)         457      (14,170)         458
Income tax expense ...............................        --             60         --            120
                                                     ---------    ---------    ---------    ---------
 Net income (loss) ...............................   $  (7,734)   $     397    $ (14,170)   $     338
                                                     =========    =========    =========    =========

Income (loss) applicable to common shares:
 Net income (loss) ...............................   $  (7,734)   $     397    $ (14,170)   $     338
 Preferred stock dividends .......................        (905)        (547)      (2,765)      (1,076)
                                                     ---------    ---------    ---------    ---------
Loss applicable to common shares .................   $  (8,639)   $    (150)   $ (16,935)   $    (738)
                                                     =========    =========    =========    =========

Loss per common share (Note C):
 Basic and diluted ...............................   $   (1.18)   $   (0.02)   $   (2.31)   $   (0.10)
                                                     =========    =========    =========    =========`

# The accompanying notes are an integral part of the condensed
 consolidated financial statements.

# 4

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' DEFICIT

# (Unaudited)

# (dollars in thousands)

`Additional
                                              Common         Paid-In     Treasury   Accumulated
                                               Stock         Capital       Stock      Deficit    Total
                                        ----------      ----------   ---------  ----------   -------


Stockholders' deficit, December 31, 2001   $     153   $ 187,976    $(183,746)   $ (35,550)   $ (31,167)

Preferred stock dividends ..............        --        (1,076)        --           --         (1,076)

Net income for the six months ended
  June 30, 2002 ........................        --          --           --            338          338
                                           ---------   ---------    ---------    ---------    ---------

Stockholders' deficit, June 30, 2002 ...   $     153   $ 186,900    $(183,746)   $ (35,212)   $ (31,905)
                                           =========   =========    =========    =========    =========`

# The accompanying notes are an integral part of the condensed
 consolidated financial statements.

# 5

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

# (Unaudited)

# (dollars in thousands)

`For the six months ended June 30,
                                                                            ---------------------------------
                                                                                        2001        2002
                                                                                    --------    --------
Operating activities:
  Net income (loss) .............................................................   $(14,170)   $    338
  Adjustments to reconcile net loss to net cash provided
    by operating activities:
    Depreciation of property and equipment ......................................      3,697       4,192
    Amortization of deferred financing and other non-current assets .............        734         463
    Amortization of prepaid management fee ......................................        600         600
    Amortization of deferred income .............................................       (258)       (261)
    Accretion of senior subordinated discount notes .............................      6,199       4,454
    Amortization of long-term accrued interest ..................................       (623)     (2,605)
    Amortization of loan costs and fees (included in rental and interest expense)         72          72
    Noncash charges related to financial restructuring ..........................      4,896        --
                                                                                    --------    --------
                                                                                       1,147       7,253
  Changes in operating assets and liabilities:
   (Increase) decrease in accounts receivable ...................................      4,521      (2,929)
   (Increase) decrease in prepaid expenses and other ............................      1,197        (616)
   Increase in accounts payable .................................................      1,804       1,057
   Increase in employee compensation and benefits ...............................      1,545       3,001
   Increase (decrease) in accrued interest ......................................       (116)
                                                                                                      59
   Decrease in other accrued liabilities ........................................       (633)       (420)
   Increase in claims reserve accrual ...........................................       --         2,558
                                                                                    --------    --------
    Net cash provided by operating activities ...................................      9,465       9,963
                                                                                    --------    --------

Investing activities:
  Additions to property and equipment ...........................................     (5,488)     (3,416)
  Additions to deferred financing and other
   non-current assets ...........................................................       (196)       (567)
  Transfers to restricted cash, net .............................................       (544)       (442)
                                                                                    --------    --------
    Net cash (used) by investing activities .....................................     (6,228)     (4,425)
                                                                                    --------    --------

Financing activities:
  Issuance of preferred stock ...................................................     15,000        --
  Payment to holders of subordinated debt .......................................    (15,000)       --
  Payment on revolving line of credit ...........................................     (2,000)     (2,000)
  Receipt in connection with lease ..............................................        102        --
  Payments of long-term debt ....................................................       (117)       (135)
    Dividends paid on preferred stock ...........................................         (6)       --
                                                                                    --------    --------
    Net cash (used) by financing activities .....................................     (2,021)     (2,135)
                                                                                    --------    --------

Net increase in cash and cash equivalents .......................................      1,216       3,403
Cash and cash equivalents, beginning of period ..................................     10,724       9,249
                                                                                    --------    --------
  Cash and cash equivalents, end of period ......................................   $ 11,940    $ 12,652
                                                                                    ========    ========

Supplemental Disclosure:
  Interest paid .................................................................   $  2,879    $  2,367
                                                                                    ========    ========
    Income taxes paid ...........................................................   $    112    $     48
                                                                                    ========    ========
  Accretion of preferred stock dividends ........................................   $  2,759    $  1,076
                                                                                    ========    ========`

# The accompanying notes are an integral part of the condensed
 consolidated financial statements.

# 6

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS

# (Unaudited)

## A. General

Harborside Healthcare
Corporation, through its subsidiaries, (on a consolidated basis, the
Company or Harborside) provides high quality long-term
care, subacute care and other specialty medical services in four principal
geographic regions: the Southeast (Florida), the Midwest (Ohio and Indiana), New
England (Connecticut, Massachusetts, New Hampshire and Rhode Island), and the
Mid-Atlantic (New Jersey and Maryland). Within these regions, as of June 30,
2002, the Company operated 55 long-term care facilities (18 owned, 36 leased and
one managed) with a total of 6,761 licensed beds. The Company accounts for its
investment in one 75% owned facility using the equity method of accounting.

## B.       Basis of Presentation

The accompanying unaudited
condensed consolidated financial statements should be read in conjunction with
the consolidated financial statements and notes thereto included in the
Companys filing on Form 10-K for the year ended December 31, 2001. In the
opinion of management, the accompanying unaudited financial statements reflect
all adjustments (consisting of only normal recurring accruals) necessary to
present fairly the Companys financial position as of June 30, 2002, the
results of its operations for the three-month and six-month periods ended June
30, 2001 and 2002 and its cash flows for the six-month periods ended June 30,
2001 and 2002. The results of operations for the three-month and six-month
periods ended June 30, 2002 are not necessarily indicative of the results that
may be expected for the full year. See Managements Discussion and
Analysis of Financial Condition and Results of Operations included
elsewhere in this report.

## C.  Loss Per Common Share

The following table sets
forth the computation of basic and diluted loss per common share for the periods
ended June 30, 2001 and June 30, 2002:

`Three Months Ended            Six Months Ended
                                                                        June 30,                       June 30,
                                                                  2001           2002             2001         2002
                                                                  ----           ----             ----         ----
Numerator:
Net income (loss) ........................................   $ (7,734,000)   $    397,000    $(14,170,000)   $    338,000
Preferred stock dividends ................................       (905,000)       (547,000)     (2,765,000)     (1,076,000)
                                                             ------------    ------------    ------------    ------------
Loss applicable to common shares .........................   $ (8,639,000)   $   (150,000)   $(16,935,000)   $   (738,000)
                                                             ============    ============    ============    ============

Denominator (for basic and diluted loss per common share):
Weighted average common shares outstanding ...............      7,919,766       7,886,160       7,921,047       7,890,887
Adjustment for non-vested restricted shares ..............       (585,267)       (344,828)       (586,548)       (349,555)
                                                             ------------    ------------    ------------    ------------
Adjusted weighted-average shares .........................      7,334,499       7,541,332       7,334,499       7,541,332
                                                             ============    ============    ============    ============

Basic and diluted loss per common share ..................   $      (1.18)   $      (0.02)   $      (2.31)   $      (0.10)
                                                             ============    ============    ============    ============`

For the three-month and six-month periods ended June 30, 2001 and 2002,
the weighted-average shares outstanding for the following potentially dilutive securities
were excluded from the computation of diluted loss per common share because the effect would have
been antidilutive:

`Three Months Ended          Six Months Ended
                                                           June 30,                    June 30,
                                                             2001        2002        2001        2002
                                                        ---------   ---------   ---------   ---------

Options to purchase common stock .....................    109,994   1,011,532     109,994   1,013,253
Non-vested shares of restricted stock ................    585,267     344,828     586,548     349,555
Conversion rights of convertible preferred stock .....  1,285,714   2,522,571     646,409   2,383,070
Warrants to purchase common stock ....................  2,472,366   4,326,641   1,243,013   4,326,641
                                                        ---------   ---------   ---------   ---------
                                                        4,453,341   8,205,572   2,585,964   8,072,519
                                                        =========   =========   =========   =========`

## D.   Recent Acquisition

Effective March 1, 2002,
the Company entered into an operating lease for four skilled nursing facilities
with 487 licensed beds located in Massachusetts. In connection with this
acquisition, the Company did not assume any operating assets or liabilities from
the prior operator.

# 7

## E. Condensed Consolidating Financial Information

Certain of the
Companys subsidiaries are precluded from guaranteeing the debt of the
parent company (the Non-Guarantors), based on current agreements in
effect. The Companys remaining subsidiaries (the Guarantors)
are not restricted from serving as guarantors of the parent company debt. The
Guarantors are comprised of Harborside Healthcare Limited Partnership, Belmont
Nursing Center Corp., Orchard Ridge Nursing Center Corp., Oakhurst Manor Nursing
Center Corp., Riverside Retirement Limited Partnership, Harborside Connecticut
Limited Partnership, Harborside of Florida Limited Partnership, Harborside of
Ohio Limited Partnership, Harborside Healthcare Baltimore Limited Partnership,
Harborside of Cleveland Limited Partnership, Harborside of Dayton Limited
Partnership, Harborside Massachusetts Limited Partnership, Harborside of Rhode
Island Limited Partnership, Harborside North Toledo Limited Partnership,
Harborside Healthcare Advisors Limited Partnership, Harborside Toledo Corp., KHI
Corporation, Harborside Danbury Limited Partnership, Harborside Acquisition
Limited Partnership V, Harborside Acquisition Limited Partnership VI, Harborside
Acquisition Limited Partnership VII, Harborside Acquisition Limited Partnership
VIII, Harborside Acquisition Limited Partnership IX, Harborside Acquisition
Limited Partnership X, Sailors, Inc., New Jersey Harborside Corp., Bridgewater
Assisted Living Limited Partnership, Maryland Harborside Corp., Harborside
Homecare Limited Partnership, Harborside Rehabilitation Limited Partnership,
Harborside Healthcare Network Limited Partnership, Harborside Health I
Corporation, 1501 SE 24th Road, LLC, 4927 Voorhees Road, LLC, 1775
Huntington Lane, LLC, Florida Holdings I, LLC, Florida Administrative Services,
LLC, Harborside Administrative Services, LLC, Harborside Healthcare Management,
LLC, 4602 Northgate Court, LLC, 1240 Pinebrook Road, LLC, 2900 Twelfth Street
North, LLC, 2600 Highlands Boulevard North, LLC, 1980 Sunset Point Road, LLC,
3865 Tampa Road, LLC, Florida Holdings II, LLC, Florida Holdings III, LLC,
Massachusetts Holdings I, LLC, Mashpee Healthcare, LLC, Wakefield Healthcare,
LLC, Falmouth Healthcare, LLC, Westfield Healthcare, LLC, Ohio Holdings I, LLC
and Marietta Healthcare, LLC.

The information which
follows presents the condensed consolidating financial position as of December
31, 2001 and June 30, 2002; the condensed consolidating results of operations
for the three-month and six-month periods ended June 30, 2001 and 2002; and the
consolidating cash flows for the six-month periods ended June 30, 2001 and 2002
of (a) the parent company only (the Parent), (b) the combined
Guarantors, (c) the combined Non-Guarantors, (d) eliminating entries and (e) the
Company on a consolidated basis.

## 8

## E. Condensed Consolidating Financial Information (continued)

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Balance Sheet

# As of December 31, 2001

# (Unaudited)

# (dollars in thousands)

`Parent    Guarantors  Non-Guarantors Elimination  Consolidated
                                                               --------    ----------  -------------- ------------ ------------
ASSETS
Current assets:
  Cash and cash equivalents ................................   $    --      $   7,886   $    1,363   $     --     $   9,249
  Accounts receivable, net of allowance for
   doubtful accounts .......................................        --         32,531       12,971         --         45,502
  Intercompany receivable ..................................     141,929         --           --       (141,929)        --
  Prepaid expenses and other ...............................       1,400        9,308          920         --         11,628
                                                               ---------    ---------    ---------   ---------    ----------
   Total current assets ....................................     143,329       49,725       15,254     (141,929)      66,379

Restricted cash ............................................        --          5,130          768         --          5,898
Investments in limited partnerships ........................      15,584         --          4,044      (19,628)        --
Property and equipment, net ................................        --         87,815       21,174         --        108,989
Deferred financing and other
 non-current assets, net ...................................         677        2,330          909         --          3,916
Other assets, net ..........................................         700         --           --           --            700
Note receivable ............................................        --          7,487         --           --          7,487
                                                               ---------    ---------    ---------    ---------    ---------
   Total assets ............................................   $ 160,290    $ 152,487    $  42,149    $(161,557)   $ 193,369
                                                               =========    =========    =========    =========    =========

LIABILITIES
Current liabilities:
  Current maturities of long-term debt .....................   $   2,500    $      22    $     254    $    --      $   2,776
  Accounts payable .........................................        --         12,514        2,197         --         14,711
  Intercompany payable .....................................        --        112,416       13,567     (125,983)        --
  Employee compensation and benefits .......................        --         16,153        3,117         --         19,270
  Other accrued liabilities ................................        --          5,800        1,078         --          6,878
  Accrued interest .........................................         147         --           --           --            147
  Current portion of deferred income .......................        --           --           --            521          521
                                                               ---------    ---------    ---------    ---------    ---------
   Total current liabilities ...............................       2,647      146,905       20,213     (125,462)      44,303

Claims Reserve .............................................        --          1,467         --           --          1,467
Long-term portion of deferred income .......................        --            534        1,474         (521)       1,487
Long-term debt .............................................      96,975        1,481       15,422         --        113,878
Long-term accrued interest .................................      47,115         --           --           --         47,115
                                                               ---------    ---------    ---------    ---------    ---------
   Total liabilities .......................................     146,737      150,387       37,109     (125,983)     208,250
                                                               ---------    ---------    ---------    ---------    ---------

13% Convertible exchangeable preferred stock,
 redeemable, $.01 par value with a liquidation
 value of $1,000 per share; 100,000 shares
 authorized; 16,286 issued and outstanding .................      16,286         --           --           --         16,286

STOCKHOLDERS' EQUITY (DEFICIT)
Common stock, $.01 par value, 40,700,000
  shares authorized, 15,275,664 shares issued ..............         153        2,569        3,885       (6,454)         153
Additional paid-in capital .................................     187,748         --           --            228      187,976
Common stock in treasury, at cost, 7,379,165 shares             (183,746)        --           --           --       (183,746)
Retained earnings (accumulated deficit) ....................      (6,888)     (25,224)      (5,919)       2,481      (35,550)
Partners' equity ...........................................        --         24,755        7,074      (31,829)        --
                                                               ---------    ---------    ---------    ---------    ---------
   Total stockholders' equity (deficit) ....................      (2,733)       2,100        5,040      (35,574)     (31,167)
                                                               ---------    ---------    ---------    ---------    ---------
   Total liabilities and stockholders' equity (deficit) ....   $ 160,290    $ 152,487    $  42,149    $(161,557)   $ 193,369
                                                               =========    =========    =========    =========    =========`

## 9

## E. Condensed Consolidating Financial Information (continued)

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Balance Sheet

# As of June 30, 2002

# (Unaudited)

# (dollars in thousands)

`Parent     Guarantors  Non-Guarantors  Elimination  Consolidated
                                                               ------     ----------  --------------  -----------  ------------
ASSETS
Current assets:
  Cash and cash equivalents ................................   $    --      $  11,744    $     908    $    --      $  12,652
  Accounts receivable, net of allowance for
   doubtful accounts .......................................        --         38,299       10,132         --         48,431
  Intercompany receivable ..................................     140,901         --           --       (140,901)        --
  Prepaid expenses and other ...............................       1,344        9,901          999         --         12,244
                                                               ---------    ---------    ---------    ---------    ---------
   Total current assets ....................................     142,245       59,944       12,039     (140,901)      73,327

Restricted cash ............................................        --          5,621          719         --          6,340
Investments in limited partnership .........................      15,584         --          4,044      (19,628)        --
Property and equipment, net ................................        --         87,141       21,072         --        108,213
Deferred financing and other
  non-current assets, net ..................................         576        2,581          791         --          3,948
Other assets, net ..........................................         100         --           --           --            100
Note receivable ............................................        --          7,487         --           --          7,487
                                                               ---------    ---------    ---------    ---------    ---------
   Total assets ............................................   $ 158,505    $ 162,774    $  38,665    $(160,529)   $ 199,415
                                                               =========    =========    =========    =========    =========



LIABILITIES
Current liabilities:
  Current maturities of long-term debt .....................   $   5,000    $      22    $     268    $    --      $   5,290
  Accounts payable .........................................           1       13,969        1,798         --         15,768
  Intercompany payable .....................................        --        111,771       13,100     (124,871)        --
  Employee compensation and benefits .......................        --         20,087        2,184         --         22,271
  Other accrued liabilities ................................        --          5,736          722         --          6,458
  Accrued interest .........................................        --            206         --           --            206
  Current portion of deferred income .......................        --           --           --            521          521
                                                               ---------    ---------    ---------    ---------    ---------
   Total current liabilities ...............................       5,001      151,791       18,072     (124,350)      50,514

Claims Reserve .............................................        --          3,720          305         --          4,025
Long-term portion of deferred income .......................        --            457        1,290         (521)       1,226
Long-term debt .............................................      96,929        1,470       15,284         --        113,683
Long-term accrued interest .................................      44,510         --           --           --         44,510
                                                               ---------    ---------    ---------    ---------    ---------
   Total liabilities .......................................     146,440      157,438       34,951     (124,871)     213,958
                                                               ---------    ---------    ---------    ---------    ---------
13% Convertible exchangeable preferred stock,
   redeemable,  $.01 par value with a liquidation
   value of $1,000 per share; 100,000 shares
   authorized; 17,362 shares issued and outstanding ........      17,362         --           --           --         17,362

STOCKHOLDERS' EQUITY (DEFICIT)
Common stock, $.01 par value; 40,700,000
    shares authorized; 15,275,664 shares issued ............         153        2,569        3,885       (6,454)         153
Additional paid-in capital .................................     186,672         --           --            228      186,900
Common stock in treasury, at cost, 7,394,998 shares(183,746)        --           --           --       (183,746)
Retained earnings (accumulated deficit) ....................      (8,376)     (21,988)      (7,245)       2,397      (35,212)
Partners' equity ...........................................        --         24,755        7,074      (31,829)        --
                                                               ---------    ---------    ---------    ---------    ---------

   Total stockholders' equity (deficit) ....................      (5,297)       5,336        3,714      (35,658)     (31,905)
                                                               ---------    ---------    ---------    ---------    ---------
   Total liabilities and stockholders' equity (deficit) ....   $ 158,505    $ 162,774    $  38,665    $(160,529)   $ 199,415
                                                               =========    =========    =========    =========    =========`

## 10

## E. Condensed Consolidating Financial Information (continued)

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Statement of Operations

# For the three months ended June 30, 2001

# (Unaudited)

# (dollars in thousands)

`Parent   Guarantors Non-Guarantors Elimination Consolidated
                                                       --------    --------    --------   --------    --------

Total net revenues .................................   $   --      $ 60,537    $ 27,028   $ (1,438)   $ 86,127
                                                       --------    --------    --------   --------    --------


Expenses:
  Facility operating ...............................       --        48,365      22,159     (1,438)     69,086
  General and administrative .......................         13       5,044        --         --         5,057
  Service charges paid to former affiliate .........       --           276        --         --           276
  Amortization of prepaid management fee ...........        300        --          --         --           300
  Depreciation and amortization ....................        118       1,493         517       --         2,128
  Facility rent ....................................       --         5,022       2,199       --         7,221
  Financial restructuring costs ....................      6,474         400        --         --         6,874
  Management fees paid to affiliates ...............       --        (1,621)      1,621       --          --
                                                       --------    --------    --------   --------    --------
   Total expenses ..................................      6,905      58,979      26,496     (1,438)     90,942
                                                       --------    --------    --------   --------    --------
Income (loss) from operations ......................     (6,905)      1,558         532       --        (4,815)
                                                                                                           815

Other:
  Interest expense, net ............................        641       2,028         385       --         3,054
  Other (income) ...................................       --          --          --         (135)       (135)
                                                       --------    --------    --------   --------    --------

Income (loss) before income taxes ..................     (7,546)       (470)        147        135      (7,734)
Income tax expense .................................       --          --          --         --          --
                                                       --------    --------    --------   --------    --------
  Net income (loss) ................................   $ (7,546)   $   (470)   $    147   $    135    $ (7,734)
                                                       ========    ========    ========   ========    ========`

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Statement of Operations

# For the three months ended June 30, 2002

# (Unaudited)

# (dollars in thousands)

`Parent     Guarantors Non-Guarantors Elimination  Consolidated
                                                       ---------    ---------    ---------    ---------    ---------

Total net revenues .................................   $    --      $  85,257    $  18,028    $  (2,274)   $ 101,011
                                                       ---------    ---------    ---------    ---------    ---------


Expenses:
 Facility operating ................................        --         70,468       14,842       (2,274)      83,036
 General and administrative ........................          36        5,030         --           --          5,066
 Service charges paid to former affiliate ..........        --            192         --           --            192
 Amortization of prepaid management fee ............         300         --           --           --            300
 Depreciation and amortization .....................          76        1,715          566         --          2,357
 Facility rent .....................................        --          6,260        1,537         --          7,797
 Management fees paid to affiliates ................        --         (1,169)       1,169         --           --
                                                       ---------    ---------    ---------    ---------    ---------
   Total expenses ..................................         412       82,496       18,114       (2,274)      98,748
                                                       ---------    ---------    ---------    ---------    ---------
Income (loss) from operations ......................        (412)       2,761          (86)        --          2,263

Other:
  Interest expense, net ............................         283        1,167          434         --          1,884
  Other (income) ...................................        --           --           --            (78)         (78)
                                                       ---------    ---------    ---------    ---------    ---------

Income (loss) before income taxes ..................        (695)       1,594         (520)          78          457
Income tax expense .................................          60         --           --           --             60
                                                       ---------    ---------    ---------    ---------    ---------
  Net income (loss) ................................   $    (755)   $   1,594    $    (520)   $      78    $     397
                                                       =========    =========    =========    =========    =========`

# 11

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Statement of Operations

# For the six months ended June 30, 2002

# (Unaudited)

# (dollars in thousands)

`Parent     Guarantors Non-Guarantors  Elimination  Consolidated
                                                       ---------    ---------    ---------    ---------    ---------

Total net revenues .................................   $    --      $ 118,402    $  52,483    $  (2,672)   $ 168,213
                                                       ---------    ---------    ---------    ---------    ---------


Expenses:
  Facility operating ...............................        --         95,037       43,810       (2,672)     136,175
  General and administrative .......................          36        9,583         --           --          9,619
  Service charges paid to former affiliate .........        --            551         --           --            551
  Amortization of prepaid management fee ...........         600         --           --           --            600
  Depreciation and amortization ....................         421        2,992        1,018         --          4,431
  Facility rent ....................................        --         10,028        4,346         --         14,374
  Financial restructuring costs ....................       8,645          400         --           --          9,045
  Management fees paid to affiliates ...............        --         (3,132)       3,132         --           --
                                                       ---------    ---------    ---------    ---------    ---------
   Total expenses ..................................       9,702      115,459       52,306       (2,672)     174,795
                                                       ---------    ---------    ---------    ---------    ---------
Income (loss) from operations ......................      (9,702)       2,943          177         --         (6,582)

Other:
  Interest expense, net ............................       1,722        5,147          808         --          7,677
  Other (income) ...................................        --           --           --            (89)         (89)
                                                       ---------    ---------    ---------    ---------    ---------

Income (loss) before income taxes ..................     (11,424)      (2,204)        (631)          89      (14,170)
Income tax expense .................................        --           --           --           --           --
                                                       ---------    ---------    ---------    ---------    ---------
  Net income (loss) ................................   $ (11,424)   $  (2,204)   $    (631)   $      89    $ (14,170)
                                                       =========    =========    =========    =========    =========`

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Statement of Operations

# For the xix months ended June 30, 2002

# (Unaudited)

# (dollars in thousands)

`Parent     Guarantors Non-Guarantors  Elimination  Consolidated
                                                       ---------    ---------    ---------    ---------    ---------

Total net revenues .................................   $    --      $ 164,678    $  35,524    $  (4,680)   $ 195,522
                                                       ---------    ---------    ---------    ---------    ---------


Expenses:
 Facility operating ................................        --        135,479       29,505       (4,680)     160,304
 General and administrative ........................          50        9,938         --           --          9,988
 Service charges paid to former affiliate ..........        --            384         --           --            384
 Amortization of prepaid management fee ............         600         --           --           --            600
 Depreciation and amortization .....................         152        3,382        1,121         --          4,655
 Facility rent .....................................        --         12,177        3,057         --         15,234
 Management fees paid to affiliates ................        --         (2,306)       2,306         --           --
                                                       ---------    ---------    ---------    ---------    ---------
   Total expenses ..................................         802      159,054       35,989       (4,680)     191,165
                                                       ---------    ---------    ---------    ---------    ---------
Income (loss) from operations ......................        (802)       5,624         (465)        --          4,357

Other:
  Interest expense, net ............................         566        2,388          861         --          3,815
  Other expense ....................................        --           --           --             84           84
                                                       ---------    ---------    ---------    ---------    ---------

Income (loss) before income taxes ..................      (1,368)       3,236       (1,326)         (84)         458
Income tax expense .................................         120         --           --           --            120
                                                       ---------    ---------    ---------    ---------    ---------
  Net income (loss) ................................   $  (1,488)   $   3,236    $  (1,326)   $     (84)   $     338
                                                       =========    =========    =========    =========    =========`

## 12

## E. Condensed Consolidating Financial Information (continued)

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Statement of Cash Flows

# For the six months ended June 30, 2001

# (Unaudited)

# (dollars in thousands)

`Parent   Guarantors Non-Guarantors Elimination Consolidated
                                                       --------    --------    --------    ---------  --------
Operating activities:
   Net cash provided by operating activities:......    $  1,904    $  5,550    $  2,011    $   --     $  9,465
                                                       --------    --------    --------    --------   --------

Investing activities:
  Additions to property and equipment ..............       --        (3,491)     (1,997)       --       (5,488)
  Additions to deferred financing and other
    non-current assets .............................       --          (196)       --          --         (196)
  Transfers to restricted cash, net ................       --          (521)        (23)       --         (544)
                                                       --------    --------    --------    --------   --------
   Net cash (used) by investing activities .........       --        (4,208)     (2,020)       --       (6,228)
                                                       --------    --------    --------    --------   --------

Financing activities:
  Issuance of preferred stock ......................     15,000        --          --          --       15,000
  Payment to holders of subordinated debt ..........    (15,000)       --          --          --      (15,000)
  Payment on revolving line of credit ..............     (2,000)       --          --          --       (2,000)
  Receipt in connection with lease .................        102        --          --          --          102
  Payments of long-term debt .......................       --            (8)       (109)       --         (117)
  Dividends paid on exchangeable preferred stock ...         (6)       --          --          --           (6)
                                                       --------    --------    --------    --------   --------
   Net cash (used) by financing activities .........     (1,904)         (8)       (109)       --       (2,021)
                                                       --------    --------    --------    --------   --------

Net increase (decrease) in cash and cash equivalents       --         1,334        (118)       --        1,216
Cash and cash equivalents, beginning of period .....       --         9,317       1,407        --       10,724
                                                       --------    --------    --------    --------   --------
  Cash and cash equivalents, end of period $ .......       --      $ 10,651    $  1,289    $   --     $ 11,940
                                                       ========    ========    ========    ========   ========

Supplemental Disclosure:
  Interest paid ....................................   $    646    $  1,930    $    303    $   --     $  2,879
                                                       ========    ========    ========    ========   ========
  Income taxes paid ................................   $    112    $   --      $   --      $   --     $    112
                                                       ========    ========    ========    ========   ========
  Accretion of preferred stock dividends ...........   $  2,759    $   --      $   --      $   --     $  2,759
                                                       ========    ========    ========    ========   ========`

## 13

## F. Condensed Consolidating Financial Information (continued)

# HARBORSIDE HEALTHCARE CORPORATION AND SUBSIDIARIES

# Condensed Consolidating Statement of Cash Flows

# For the six months ended June 30, 2002

# (Unaudited)

# (dollars in thousands)

`Parent     Guarantors Non-Guarantors Elimination Consolidated
                                                       --------    --------    --------    ----------   --------
Operating activities:
   Net cash provided by operating activities:  .....   $   2,050    $  7,326    $    587    $    --     $  9,963
                                                       --------    --------    --------    ---------   --------

Investing activities:
  Additions to property and equipment ..............       --        (2,448)       (968)        --       (3,416)
  Additions (to) deferred financing and other
   non-current assets ..............................        (50)       (517)       --           --         (567)
  Transfers to restricted cash, net ................       --          (491)         49         --         (442)
                                                       --------    --------    --------    ---------   --------
   Net cash (used) by investing activities .........        (50)     (3,456)       (919)        --       (4,425)
                                                       --------    --------    --------    ---------   --------

Financing activities:
    Payment on revolving line of credit ............     (2,000)       --          --           --       (2,000)
   Payments of long-term debt ......................       --           (12)       (123)        --         (135)
                                                       --------    --------    --------    ---------   --------
   Net cash (used) by financing activities .........     (2,000)        (12)       (123)        --       (2,135)
                                                       --------    --------    --------    ---------   --------

Net increase (decrease) in cash and cash equivalents       --         3,858        (455)        --        3,403
Cash and cash equivalents, beginning of period .....       --         7,886       1,363         --        9,249
                                                       --------    --------    --------    ---------   --------
Cash and cash equivalents, end of period $ .........       --      $ 11,744    $    908    $    --     $ 12,652
                                                       ========    ========    ========    =========   ========

Supplemental Disclosure:
  Interest paid ....................................   $    351    $  1,482    $    534    $    --     $  2,367
                                                       ========    ========    ========    =========   ========
  Income taxes paid ................................   $     48    $   --      $   --      $    --     $     48
                                                       ========    ========    ========    =========   ========
  Accretion of preferred stock dividends $ .........      1,076    $   --      $   --      $    --     $  1,076
                                                       ========    ========    ========    =========   ========`

## 14

# Item 2.

# MANAGEMENT'S DISCUSSION AND

# ANALYSIS OF FINANCIAL CONDITION AND

# RESULTS OF OPERATIONS

This Managements Discussion and Analysis of Financial
Condition and Results of Operations contains forward-looking statements
including those concerning Managements expectations regarding future
financial performance and future events. These forward-looking statements
involve significant risk and uncertainties, including those described herein and
included under Special Note Regarding Forward-Looking Statements
below. Actual results may differ materially from those anticipated by such
forward-looking statements.

## OVERVIEW

Harborside Healthcare Corporation, through its subsidiaries,
is a leading provider of high-quality long-term care, subacute care and other
specialty medical services in the eastern United States. The Company has focused
on establishing strong local market positions with high-quality facilities in
four principal geographic regions: the Southeast (Florida), the Midwest (Ohio
and Indiana), New England (Connecticut, Massachusetts, New Hampshire and Rhode
Island) and the Mid-Atlantic (New Jersey and Maryland). As of June 30, 2002, the
Company operated 55 facilities (18 owned, 36 leased and one managed) with a
total of 6,761 licensed beds. As described in Note A to the unaudited condensed
consolidated financial statements included elsewhere in this report, the Company
accounts for its investment in one of its owned facilities using the equity
method of accounting. The Company provides a broad continuum of medical services
including: (i) traditional skilled nursing care and (ii) specialty medical
services, including a variety of subacute care programs such as orthopedic
rehabilitation, CVA/stroke care, cardiac recovery, pulmonary rehabilitation and
wound care, as well as distinct programs for the provision of care to
Alzheimers and hospice patients. As part of its subacute services, the
Company provides physical, occupational and speech rehabilitation therapy
services at Company-operated facilities.

## CRITICAL ACCOUNTING POLICIES

Our discussion and analysis of the financial condition and
results of operations of the Company are based on the Companys condensed
consolidated financial statements, included elsewhere within this report, which
have been prepared in accordance with accounting principles generally accepted
in the United States of America. The preparation of these financial statements
requires the use of estimates and judgments that affect the reported amounts and
related disclosures of commitments and contingencies. We rely on historical
experience and on various other assumptions that we believe to be reasonable
under the circumstances to make judgments about the carrying values of assets
and liabilities that are not readily apparent from other sources. Actual results
may differ materially from these estimates.

## REVENUE RECOGNITION

Net patient service revenues to be reimbursed by contracts
with third-party payors, primarily the Medicare and Medicaid programs, are
recorded at the amount estimated to be realized under these contractual
arrangements. The Company separately estimates revenues due from each
third-party with which it has a contractual arrangement and records anticipated
settlements with these parties in the contractual period during which services
were rendered. The amounts actually reimbursable under Medicare and Medicaid are
determined by filing cost reports, which are then audited and generally
retroactively adjusted by the payor. Legislative changes to state or Federal
reimbursement systems may also retroactively affect recorded revenues. Changes
in estimated revenues due in connection with Medicare and Medicaid may be
recorded by the Company subsequent to the year of origination and prior to final
settlement based on improved estimates. Such adjustments and final settlements
with third-party payors, which could materially and adversely affect the
Company, are reflected in operations at the time of the adjustment or
settlement.

## PROVISION FOR DOUBTFUL ACCOUNTS

Accounts receivable consist primarily of amounts due from
third party payors (the Medicare and Medicaid programs, other governmental
programs, managed care companies and commercial insurance companies) as well as
amounts due from private individuals. Estimated provisions for doubtful accounts
are recorded to the extent that it is probable that a portion or all of a
particular account receivable will not be collected. We estimate the provision
for doubtful accounts based on a number of factors including payor type,
historical collection patterns and the age of the receivable. Changes in
estimates for particular accounts receivable are recorded in the period in which
the change occurs.

## IMPAIRMENT OF PROPERTY AND EQUIPMENT AND INTANGIBLE ASSETS

The Company reviews the carrying value of its property and
equipment and intangible assets on a quarterly basis. The Companys review
is undertaken to determine if current facts and circumstances suggest that the
assets have been impaired or that the life of the asset needs to be changed. As
part of its review, the Company considers a number of factors including local
market developments, changes in the regulatory environment, historical financial
performance, recent operating results and projected future cash flows. Any
impairment would be recognized in operating results if a diminution in value
considered to be other than temporary were to occur. During the first quarter of
2001, the Company recognized an adjustment to the carrying value of its deferred
financing costs in connection with an amendment to the Companys Credit
Facility. During the first half of 2001, the Company recognized adjustments to
the carrying value of deferred financing costs related to its Credit Facility
and its subordinated debt and preferred stock issuances. This adjustment was due
to the Company's completion of a restructuring agreement as further explained in
the "Liquidity and Capital Resources" section of this report.

## INSURANCE RESERVES

The Company retains a significant amount of self-insurance
risk for its employee health benefits and workers compensation programs, and
beginning on September 1, 2001, its general liability and professional liability
risks. The Company maintains stop-loss insurance such that the Companys
liability for health insurance and workers compensation losses is limited.
At the end of each accounting period, the Company records an accrued expense for
(a) estimated health benefit claims incurred but not reported and (b) estimated
workers compensation claims incurred but not reported. The Company
estimates these accruals based on a number of factors including historical
experience, industry trends, recent claims history, programs implemented to
control claims, and actuarial reports. These accruals are by necessity based on
estimates and are subject to ongoing revision as conditions change and as new
data presents itself. Adjustments to estimated liabilities are recorded in the
accounting period in which the change in estimate occurs.

During the year ended December 31, 1998, the Company
implemented a general and professional liability insurance program which, for
the period from September 1, 1998 to August 31, 2001, limited the Companys
self-retention risk for this program to a maximum of $25,000 per year. The
long-term care industry has seen the cost of maintaining traditional
professional liability insurance increase significantly

# 15

over the past two years, especially in the State of Florida.
Most insurance companies are unwilling to underwrite new professional liability
policies in the State of Florida. In May 2001, tort reform legislation was
enacted in Florida. This legislation provides caps on punitive damages, limits
to add-on legal fees, stricter rules of evidence and a shorter statute of
limitations period. Given the tremendous increase in professional liability
premiums and the tort reform legislation that was enacted in the State of
Florida in May 2001, the Company concluded that it would be more cost effective
to assume a higher level of retained risk for professional liability claims. As
a result, the Company implemented a new general and professional liability
program, effective September 1, 2001, which resulted in the Company maintaining
an unaggregated self-insured retention of $2,000,000 per occurrence for
locations outside of Florida and completely retaining risk at the Florida
facilities. The Company maintains an accrual for incurred but not reported
claims. The amount of the accrual is determined through an estimation process
that uses information from both the Companys records as well as industry
data. The Company uses an independent actuary to help estimate the required
general and professional liability accrual. Factors reviewed include the
frequency of expected claims, the average cost per claim, emerging industry
trends, changes in regulatory environment (such as the recently enacted Florida
tort reform legislation) and the expected effect of various operational and risk
management initiatives. The Company will continue to evaluate its insurance
accrual requirements on a quarterly basis. Required adjustments to the
Companys general and professional liability accrual will be recorded in
the accounting period in which the change in estimate occurs.

## NEW ACCOUNTING PRONOUNCEMENTS

In July 2001, the FASB issued SFAS 143, Accounting for Asset
Retirement Obligations. Companies are required to adopt SFAS 143 in their fiscal
year beginning after June 15, 2002. SFAS 143 requires that obligations
associated with the retirement of a tangible long-lived asset be recorded as a
liability when these obligations are incurred, with the amount of the liability
initially measured at fair value. Upon recognizing a liability, an entity must
capitalize the cost by recognizing an increase in the carrying amount of the
related long-lived asset, accrete the liability over time to its present value
each period, and depreciate the capitalized cost over the useful life of the
related asset. Upon settlement of the liability, the obligation is either
settled for its recorded amount or a gain or loss is recognized. The Company
does not believe that the adoption of SFAS 143 will have a material impact on
its financial position, results of operations, or cash flows.

The following table sets forth the number of facilities and
the number of licensed beds operated by the Company:

`As of June 30,
                                                     ----------------------------
                                                         2001             2002
                                                         ----             ----

Facilities operated (1)                                    50               55
Licensed beds (1)                                       6,124            6,761

  The following table sets forth certain operating data for the periods indicated:

                                  For the three months ended June 30,  For the six months ended June 30,
                                  ----------------------------------------------------------------------

                                           2001          2002              2001         2002
                                           ----          ----              ----         ----
                Patient days (2):
                  Private and other       102,889      100,831            208,030      197,999
                  Medicare                 76,638       92,037            143,510      177,506
                  Medicaid                297,135      325,032            597,022      633,348
                                          -------      -------            -------      -------
                Total                     476,662      517,900            948,562    1,008,853
                                          =======      =======            =======    =========

                Total net revenues:
                  Private and other          22.3%       20.1%             23.0%         20.3%
                  Medicare                   32.4%       34.3%             30.5%         33.9%
                  Medicaid                   45.3%       45.6%             46.5%         45.8%
                                           ------       ------            ------        ------
                Total                       100.0%      100.0%            100.0%        100.0%
                                           ======       ======            ======        ======

                Average occupancy rate (3)   89.1%       87.7%             89.1%         87.9%
                Quality mix (4)              54.7%       54.4%             53.5%         54.2%

(1)  Includes one managed  facility  with 106 licensed beds on June 30, 2001 and
     June 30, 2002.

(2)"Patient days" includes  billed bed days for the  facilities  operated by the
     Company  excluding billed bed days of the managed facility and the facility
     accounted for using the equity method of accounting.

(3)  "Average  occupancy  rate" is computed by dividing the number of billed bed
     days by the total number of available  licensed bed days during each of the
     periods indicated. This calculation includes all facilities operated by the
     Company excluding the managed facility.

(4)  "Quality  mix"  consists  of the  percentage  of the  Company's  total  net
     revenues that are derived from sources other than state Medicaid programs.`

# 16

## RESULTS OF OPERATIONS

The Companys total net revenues include net patient
service revenues and other revenues. The Company derives its net patient service
revenues primarily from private pay sources, the federal Medicare program for
certain elderly and disabled patients, and state Medicaid programs for indigent
patients. Private net patient service revenues are recorded at established per
diem billing rates. Net patient service revenues to be reimbursed under
contracts with third-party payors, primarily the Medicare and Medicaid programs,
are recorded at amounts estimated to be realized under these contractual
arrangements.

The Companys facility operating expenses consist
primarily of payroll and employee benefits related to nursing, rehabilitation
therapy services, housekeeping and dietary services provided to patients, as
well as maintenance and administration of the facilities. Other significant
facility operating expenses include the cost of medical and pharmacy supplies,
food, utilities, insurance and taxes. The Companys general and
administrative expenses include costs associated with its regional and corporate
operations.

## Three Months Ended June 30, 2001 Compared to
 Three Months Ended June 30, 2002

Total Net Revenues. Total net revenues increased by
$14,884,000 or 17.3%, from $86,127,000 in the second quarter of 2001 to
$101,011,000 in the second quarter of 2002. The increase in total revenues, from
2001 to 2002, was primarily due to the operation of five additional facilities.
The Company began operating a leased skilled nursing facility in Marietta, Ohio
on November 1, 2001, and four leased skilled nursing facilities in Massachusetts
on March 1, 2002. Approximately, $8,279,000 of the increase in revenues from
2001 to 2002 resulted from the operation of these five new facilities. The
remainder of the revenue increase was attributable to higher average revenues
per patient day at the Companys same store facilities. The
average occupancy rate at all of the Companys facilities decreased from
89.1% during the second quarter of 2001 to 87.7% during the second quarter of
2002; however, average net patient service revenues (including ancillary
services) per patient day at the Companys same store
facilities increased from $178 in the second quarter of 2001 to $194 in the
second quarter of 2002, or approximately 9%. The Companys same
store average Medicare Part A per diem rate increased from $342 per
Medicare patient day in the second quarter of 2001 to $350 per Medicare patient
day in the second quarter of 2002, while the Companys same
store average per diem Medicaid rate increased from $131 in the second
quarter of 2001 to $143 in the second quarter of 2002. The Balanced Budget
Refinement Act of 1999 (BBRA) temporarily increased the Federal per
diem Medicare Part A rates by 20% for fifteen resource utilization groups
(RUG) categories (three rehabilitative therapy RUG categories,
twelve non-rehabilitative RUG categories) beginning on April 1, 2000. These
increased rates will stay in effect until the date on which the Centers for
Medicare and Medicaid Services (CMS) implements a revised
prospective payment system (PPS) that more accurately reimburses the
costs of caring for medically complex patients. The BBRA also provided for a
four percent temporary increase in the Federal per diem Medicare Part A rates
for all RUG categories for a two-year period beginning October 1, 2000. In
December 2000, the Medicare, Medicaid, and State Child Health Insurance Program
Benefits Improvement and Protection Act of 2000 (BIPA) was enacted.
BIPA temporarily increased the existing nursing rate component of the Federal
per diem Medicare Part A rate, for each RUG category, by 16.66% effective April
1, 2001 through September 30, 2002. In addition, BIPA eliminated the 20% add-ons
(provided by the BBRA) for the three rehabilitative therapy RUG categories and
substituted 6.7% add-ons for all fourteen rehabilitative therapy RUG categories.

The Companys quality mix of private, Medicare and
insurance revenues was 54.7% for the three months ended June 30, 2001 as
compared to 54.4% for the three months ended June 30, 2002.

Facility Operating Expenses. Facility operating
expenses increased by $13,950,000 or 20.2%, from $69,086,000 in the second
quarter of 2001 to $83,036,000 in the second quarter of 2002. Of this increase,
$7,361,000 resulted from the operation of five new facilities. The increase in
operating expenses in 2002 at same store facilities was primarily
the result of higher expenditures for employee wages and benefit costs.
Consistent with other long-term care providers, the Company continues to find it
difficult to recruit and retain employees, most notably nursing personnel. As a
result of these difficulties, the Company has been forced to rely more heavily
on temporary nursing personnel.

General and Administrative; Service Charges Paid to Former
Affiliate. General and administrative expenses increased by $9,000, from
$5,057,000 in the second quarter of 2001 to $5,066,000 in the second quarter of
2002. The Company reimburses a former affiliate for data processing services
provided to the Company. During the second quarter of 2001, such reimbursements
totaled $276,000 compared to $192,000 during the second quarter of 2002.

Amortization of Prepaid Management Fees. Amortization
of prepaid management fees was $300,000 during the second quarter of 2001 and
the second quarter of 2002.

Depreciation and Amortization. Depreciation and
amortization increased from $2,128,000 in the second quarter of 2001 to
$2,357,000 in the second quarter of 2002.

Facility Rent. Facility rent expense increased by
$576,000 from $7,221,000 in the second quarter of 2001 to $7,797,000 in the
second quarter of 2002. Most of the increase in rent expense was associated with
the leasing of the new Ohio facility and the four new Massachusetts facilities.

Financial Restructuring Costs.In connection with the
Financial Restructuring completed in the second quarter of 2001, the Company
recorded a non-recurring charge of approximately $6.9 million. The charge
resulted from the write-off of unamortized deferred financing costs, related to
the issuance of the Discount Notes, and the recognition of various investment
advisory, legal and other fees associated with this event.

Interest Expense, net. Interest expense, net, decreased
from $3,054,000 in the second quarter of 2001 to $1,884,000 in the second
quarter of 2002. This decrease is primarily the result of the restructuring of
the Companys Discount Notes completed in May 2001. The restructuring of
the Discount Notes reduced both the carrying amount of the debt and its
effective interest rate.

Income Tax Expense. Income tax expense (all relating to
state income taxes) was $60,000 for the second quarter of 2002.

Net Loss. The Company incurred a net loss of $7,734,000
during the second quarter of 2001 compared to net income of $397,000 during the
second quarter of 2002.

# 17

## Six Months Ended June 30, 2001 Compared to
 Six Months Ended June 30, 2002

Total Net Revenues. Total net revenues increased by
$27,309,000 or 16.2%, from $168,213,000 in the first half of 2001 to
$195,522,000 in the first half of 2002. The increase in total revenues, from
2001 to 2002, was primarily the result of higher average revenues per patient
day at the Companys same store facilities. The Company began
operating a leased skilled nursing facility in Marietta, Ohio on November 1,
2001, and four leased skilled nursing facilities on March 1, 2002.
Approximately, $12,471,000 of the increase in revenues from 2001 to 2002
resulted from the operation of these five new facilities. The remainder of the
revenue increase was attributable to the Companys same store
facilities. The average occupancy rate at all of the Companys facilities
decreased from 89.1% during the first half of 2001 to 87.9% during the first
half of 2002; however, average net patient service revenues (including ancillary
services) per patient day at the Companys same store
facilities increased from $175 in the first half of 2001 to $193 in the first
half of 2002, or approximately 10%. The Companys same store
average Medicare Part A per diem rate increased from $334 per Medicare patient
day in the first half of 2001 to $347 per Medicare patient day in the first half
of 2002, while the Companys same store average per diem
Medicaid rate increased from $131 in the first half of 2001 to $142 in the first
half of 2002. The Balanced Budget Refinement Act of 1999 (BBRA)
temporarily increased the Federal per diem Medicare Part A rates by 20% for
fifteen resource utilization groups (RUG) categories (three
rehabilitative therapy RUG categories, twelve non-rehabilitative RUG categories)
beginning on April 1, 2000. These increased rates will stay in effect until the
date on which the Centers for Medicare and Medicaid Services (CMS)
implements a revised prospective payment system (PPS) that more
accurately reimburses the costs of caring for medically complex patients. The
BBRA also provided for a four percent temporary increase in the Federal per diem
Medicare Part A rates for all RUG categories for a two-year period beginning
October 1, 2000. In December 2000, the Medicare, Medicaid, and State Child
Health Insurance Program Benefits Improvement and Protection Act of 2000
(BIPA) was enacted. BIPA temporarily increased the existing nursing
rate component of the Federal per diem Medicare Part A rate, for each RUG
category, by 16.66% effective April 1, 2001 through September 30, 2002. In
addition, BIPA eliminated the 20% add-ons (provided by the BBRA) for the three
rehabilitative therapy RUG categories and substituted 6.7% add-ons for all
fourteen rehabilitative therapy RUG categories.

Primarily as the result of the Medicare rate increases
implemented on April 1, 2001, the Companys same store average
Medicare Part A payment rate increased from $334 per Medicare patient day during
the first half of 2001 to $347 per Medicare patient day during the first half of
2002. The Companys quality mix of private, Medicare and insurance revenues
was 53.5% for the six months ended June 30, 2001 as compared to 54.2% for the
six months ended June 30, 2002.

Facility Operating Expenses. Facility operating
expenses increased by $24,129,000 or 17.7%, from $136,175,000 in the first half
of 2001 to $160,304,000 in the first half of 2002. Of this increase, $11,081,000
resulted from the operation of five new facilities. The overall increase in
operating expenses in 2002 was primarily the result of higher expenditures for
employee wages and benefit costs. Consistent with other long-term care
providers, the Company continues to find it difficult to recruit and retain
employees, most notably nursing personnel. As a result of these difficulties,
the Company has been forced to rely more heavily on temporary nursing personnel.

General and Administrative; Service Charges Paid to
Former Affiliate. General and administrative expenses increased by $369,000,
from $9,619,000 in the first half of 2001 to $9,988,000 in the first half of
2002. The Company reimburses a former affiliate for data processing services
provided to the Company. During the first half of 2001, such reimbursements
totaled $551,000 compared to $384,000 during the first half of 2002.

Amortization of Prepaid Management Fees. Amortization
of prepaid management fees was $600,000 during the first half of 2001 and the
first half of 2002.

Depreciation and Amortization. Depreciation and
amortization increased from $4,431,000 in the first half of 2001 to $4,655,000
in the first half of 2002.

Facility Rent. Facility rent expense increased by
$860,000 from $14,374,000 in the first half of 2001 to $15,234,000 in the first
half of 2002. Most of the increase in rent expense was associated with the
leasing of the new Ohio facility and the four new Massachusetts facilities.

Financial Restructuring Costs. In connection with the
amendment to the Companys bank credit facility and the Financial
Restructuring completed in the first half of 2001, the Company recorded
non-recurring charges totaling approximately $9.1 million. The charges resulted
from the write-off of unamortized deferred financing costs, related to obtaining
the Companys bank credit facility and issuing its Discount Notes, and the
recognition of various investment advisory, legal and other fees associated with
completing the amendment to the bank credit facility and the Financial
Restructuring.

Interest Expense, net. Interest expense, net,
decreased from $7,677,000 in the first half of 2001 to $3,815,000 in the first
half of 2002. This decrease is primarily the result of the restructuring of the
Companys Discount Notes completed in May 2001. The restructuring of the
Discount Notes reduced both the carrying amount of the debt and its effective
interest rate.

Income Tax Expense. Income tax expense (all relating to
state income taxes) was $120,000 for the first half of 2002.

Net Income (loss). The Company incurred a net loss of
$14,170,000 during the first half of 2001 compared to net income of $338,000
during the first half of 2002.

## LIQUIDITY AND CAPITAL RESOURCES

The Companys primary cash needs are for acquisitions,
capital expenditures, working capital, debt service and general corporate
purposes. The Company has historically financed these requirements primarily
through a combination of internally generated cash flow, mortgage financing and
operating leases, in addition to funds borrowed under a credit facility. The
Companys existing leased facilities are leased from either the owner of
the facilities, from an investment entity that has purchased the facilities from
the owner, or through synthetic lease borrowings. The Companys existing
facility leases generally require it to make monthly lease payments and pay all
property operating costs. The Company generally negotiates leases that provide
for extensions beyond the initial lease term and an option to purchase the
leased facility. In some cases, the option to purchase the leased facility is at
a price based on the fair market value of the facility at the time the option is
exercised. In other cases, the lease for the facility sets forth a fixed
purchase option price which the Company believes is equal to the fair market
value of the facility at the inception date of such lease, thus allowing the
Company to realize the value appreciation of the facility while maintaining
financial flexibility.

In connection with the leveraged recapitalization completed on
August 11, 1998, the Company obtained gross proceeds of $99.5 million through
the issuance of 11% Senior Subordinated

# 18

Discount Notes (the Discount Notes) due 2008 and
$40 million through the issuance of 13.5% Exchangeable Preferred Stock (the
Preferred Stock) mandatorily redeemable in 2010. Interest on the
Discount Notes was to accrete at 11% per annum until August 1, 2003 and then
become payable in cash, semi-annually in arrears, beginning on February 1, 2004.
Dividends on the Preferred Stock were payable, at the option of the Company, in
additional shares of the Preferred Stock until August 1, 2003. After that date
dividends were required to be paid in cash. In August 1998, the Company also
entered into a new $250 million collateralized credit facility (the Credit
Facility). The terms of the Credit Facility originally provided up to $75
million on a revolving credit basis plus an additional $175 million initially
funded on a revolving basis that would convert to a term loan on an annual basis
on each anniversary of the closing. During the first four years of the facility,
any or all of the full $250 million of availability under the Credit Facility
could be used for synthetic lease financings. Proceeds of loans under the
facility can be used for acquisitions, working capital purposes, capital
expenditures and general corporate purposes. Interest is based on either LIBOR
or prime rates of interest (plus applicable margins determined by the
Companys leverage ratio) at the election of the Company. The Credit
Facility contains various financial and other restrictive covenants and limits
aggregate borrowings under the Credit Facility to a predetermined multiple of
earnings before interest, taxes, depreciation and amortization
(EBITDA).

During the first quarter of 1999, the Company determined that
its anticipated financial results for that quarter would cause the Company to be
out of compliance with certain financial covenants of the Credit Facility. The
Companys reduced level of EBITDA during the first quarter of 1999 was
attributable to transitional difficulties associated with the implementation of
the new Medicare prospective payment system which became effective at all of the
Companys facilities on January 1, 1999. Such transitional difficulties
resulted in lower than expected revenues, primarily due to fewer than expected
Medicare patient days, lower Medicare Part A rates, reduced revenues from
therapy services provided to non-affiliated long-term care centers and a
reduction in revenues from the provision of Medicare Part B services at the
Companys own facilities. In response, during the first quarter of 1999,
the Company initiated additional facility-based training directed towards the
documentation requirements of the revised Medicare reimbursement system. The
Company also continued to refine its admission and assessment protocols in order
to increase patient admissions and introduced a series of targeted initiatives
to lower operating expenses. Such initiatives included wage and staffing
reductions (primarily related to the delivery of rehabilitative therapy services
and indirect nursing support), renegotiation of vendor contracts and ongoing
efforts to reduce the Companys reliance on outside nurse agency personnel.
All of the staffing reductions were implemented, on or prior to, April 1, 1999.
Effective March 30, 1999, the Company obtained an amendment (the First
Amendment) to the Credit Facility which limited borrowings under the
Credit Facility to an aggregate of $58,500,000 (exclusive of undrawn letters of
credit outstanding as of March 30, 1999) and which modified certain financial
covenants. Beginning with the first quarter of 1999, the First Amendment
replaced the original financial covenants with one new financial covenant, a
minimum cumulative amount of EBITDA. The original financial covenants provided
maximum ratios of total indebtedness to EBITDA and senior indebtedness to
EBITDA, and a minimum debt service coverage ratio. The First Amendment required
minimum amounts of EBITDA, measured quarterly, but calculated on a rolling
twelve-month basis, through December 31, 2000. As long as the Company met or
exceeded the required minimum cumulative amounts of EBITDA, the Company could
access the Credit Facility for general corporate purposes, subject to the
reduced amount of availability.

Until September 27, 2000, the Company, through a wholly-owned
limited partnership, leased and operated four facilities in Ohio (the
Cleveland Facilities) which it acquired in 1996 through capital
leases. Each of the four leases contained an option to purchase the facility
beginning July 1, 2001 and each lease was guaranteed by the Company. The
guaranty provided that failure by the Company to have a specified minimum
consolidated net worth at the end of any two consecutive quarters would be an
event of default under the guaranty, which in turn would be an event of default
under each lease. During the third quarter of 1999, the Company recorded a $5.7
million restructuring charge to terminate its contracts to provide
rehabilitation therapy services to non-affiliated long-term care facilities. As
a result of this restructuring charge, the Companys consolidated net worth
as of September 30, 1999 (as calculated for purposes of this requirement) had
fallen below the required level. The Company anticipated that its net worth
would continue to be below the required level at December 31, 1999, which would
have resulted in an event of default under each of these leases with the Company
potentially facing the loss of these operations. Such default could also have
triggered cross-defaults under the Companys other lease and debt
obligations. In December 1999, the Company paid $5 million to its landlord and
obtained an option (the New Option) to acquire the Cleveland
Facilities. The Company borrowed $5 million from an affiliate of Investcorp S.A.
to fund this payment. The New Option allowed the Company to exercise its right
to purchase the Cleveland Facilities beginning as of the date of the New Option,
required the Company to complete the acquisition prior to December 31, 2000 and
provided a waiver of the net worth covenant through that date. The Company
exercised the New Option on June 30, 2000 and on September 27, 2000 the Company
terminated the Cleveland Facilities capital leases and assigned its purchase
rights for these facilities to an investment entity (organized by Investcorp
S.A.) for $5.0 million, which acquired the Cleveland Facilities on September 27,
2000. On that date, the Company entered into new operating leases for each of
the Cleveland Facilities with combined annual rent expense of approximately $5.9
million. The Company also repaid the $5.0 million loan from an affiliate of
Investcorp S.A. As a result of the capital lease termination, the Company
recorded a non-recurring charge of $8.9 million. The principal components of
this charge included the write-off of capital leased assets in excess of the
related capital lease obligation ($5.7 million) and the write-off of deferred
financing costs ($1.8 million) originally incurred in obtaining the
Companys Credit Facility. In order to complete the Cleveland Facility
leasing transaction, the Company was required to obtain the release of certain
collateral held by the bank group that provides the Credit Facility. The Company
obtained the release of the collateral as part of an amendment (the Second
Amendment) to the Credit Facility, which also resulted in a permanent
reduction of the Companys maximum borrowings under the Credit Facility
from $250 million to $150 million and an increase in the Companys
borrowing rate. As a result of the permanent reduction in funds available
through the Credit Facility, the Company was required to write off a
proportionate amount of the deferred financing costs incurred when the Credit
Facility was originally obtained.

On March 28, 2001, the Company obtained an additional
amendment (the Third Amendment) to the Credit Facility. The Third
Amendment resulted in a permanent reduction of the Companys maximum
borrowings under the Credit Facility from $150 million to $60 million, revised
certain financial covenants, changed the maturity date of the Credit Facility to
March 31, 2004 and increased the Companys borrowing rate. The Third
Amendment also requires the Company to repay, on an annual basis, the greater of
$5.0 million or 50% of the Companys excess cash flow (as defined). As a
result of the permanent reduction in funds available through the Credit
Facility, during the three months ended March 31, 2001, the Company was required
to write off approximately $2.2 million of deferred financing costs incurred
when the Credit facility was originally obtained.

In March 2001, the Company entered into an agreement (the
Restructuring Agreement) with Investcorp S.A. and the holders of
more than a majority in interest of the Companys Discount Notes and
Preferred Stock for purposes of implementing a restructuring of the Discount
Notes and Preferred Stock. The Restructuring Agreement contemplated that the
Company would offer to exchange for each $1,000 amount at maturity of
outstanding Discount Notes a combination of the following: (1) 0.5899118 of
a new 12% Senior Subordinated Discount Note due 2007 (the New Notes)
each having a principal amount at maturity equal to $1,000 and an original issue
price of $685.67 (assuming that the New Notes were issued on May 4, 2001),
(2)  $88.2353 in cash and (3) common stock purchase warrants for
approximately 10.9 shares of its Class A Common Stock. The Company would
also offer to exchange common stock purchase warrants for approximately 10.7
shares of its Class A Common Stock for each $1,000 liquidation preference of
Preferred Stock (based on the aggregate liquidation preference to be outstanding
on May 1, 2001) plus any dividends accrued on such

# 19

Preferred Stock after May 1, 2001. In conjunction with the
restructuring proposal, the Company would solicit consents from holders of
outstanding Discount Notes and Preferred Stock to amendments to the Indenture
governing the Discount Notes and to the Certificate of Designation governing the
Preferred Stock that would eliminate or modify certain restrictive covenants and
other provisions contained in the Indenture and the Certificate of Designation
and would substantially eliminate the preferences of the Preferred Stock,
including the reduction of the liquidation preference from $1,000 to $0.01 per
share and the elimination of the right of holders to be paid dividends on shares
of Preferred Stock. Also, the Company would issue to Investcorp S.A. (or one or
more of its affiliates or designees) up to 15,000 shares of a new series of 13%
convertible exchangeable preferred stock (the New Preferred Stock)
and 1,854,422 common stock purchase warrants for a total purchase price of up to
$15,000,000.

On April 6, 2001, the Company initiated the exchange offer and
consent solicitation contemplated by the Restructuring Agreement. On May 10,
2001, the Company completed the exchange offer and consent solicitation, thereby
implementing each of the elements of the Restructuring Agreement. All of the
outstanding Discount Notes and 99.96% of the shares of Preferred Stock were
tendered and exchanged in the exchange offer. As a result of the exchange, (1)
the Company had an aggregate principal amount at maturity of $100,276,000 of New
Notes outstanding and an aggregate liquidation preference of $15,000,000 (as of
May 10, 2001) of New Preferred Stock outstanding, (2) warrants were issued
to holders of Discount Notes, to holders of Preferred Stock, and to Investcorp
S.A. representing the right to purchase an aggregate of approximately 15%, 5%
and 15%, respectively, of the total number of shares of all classes of the
Companys common stock on a fully diluted basis (excluding shares issuable
upon conversion of the New Preferred Stock, each share of which will initially
be convertible into 150 shares of Class A Common Stock, and (3) the
Company paid $15,000,000 in cash as partial consideration for the tendered
Discount Notes.

The reduction in the liquidation preference of the Preferred
Stock was completed on May 10, 2001, as contemplated by the Restructuring
Agreement, the carrying amount of the Preferred Stock was reduced from
$57,595,000 to $576 and the amount of the reduction, net of unamortized deferred
financing costs related to the issuance of the Preferred Stock (approximately
$1,011,000 at May 10, 2001), was directly transferred to the Companys
Accumulated Deficit account. With the exchange of the New Notes for the Discount
Notes (the Note Exchange), the carrying value of the accreted
principal of the Discount Notes was reduced to $68,890,000, and the amount of
the reduction, net of the aggregate cash payment of $15,000,000, was directly
transferred to the Companys Long-term Accrued Interest account. Subsequent
to their issuance, the carrying amount of the New Notes increases as the result
of accretion and results in a corresponding decrease in the carrying amount of
Long-term Accrued Interest. Interest expense on the New Notes is recognized such
that a constant effective interest rate is applied to the aggregate carrying
amount of the New Notes and Long-term Accrued Interest for all periods between
the issuance date and the maturity date of the New Notes.

In connection with the Third Amendment to the Credit Facility
and the implementation of the Restructuring Agreement, the Company incurred a
non-recurring charge of $9,045,000. The charge resulted from the write-off of
approximately $1,500,000 of unamortized deferred financing costs incurred when
the Credit Facility was obtained, the write-off of approximately $3,400,000 of
unamortized deferred financing costs related to the issuance of the Discount
Notes, and the recognition of various investment advisory, legal and other fees
associated with these events approximating $4,100,000.

The New Notes were issued at a discount and interest on the
New Notes accretes until August 1, 2004. Cash interest payments will be paid
semi-annually in arrears beginning on February 1, 2005 based on the fully
accreted value of the New Notes and a 12% cash interest payment rate. The New
Notes mature on August 1, 2007. The New Preferred Stock is mandatorily
redeemable on February 1, 2008. The holders of the New Preferred Stock are
entitled to dividends quarterly in arrears beginning August 1, 2001 and payable
in additional shares of New Preferred Stock. Warrants to purchase a total of
4,326,641 shares of common stock at $0.01 per share were issued on May 10, 2001.

As of June 30, 2002, total borrowings under the Credit
Facility were $52,483,000 and consisted of $23,250,000 of revolver loans,
$13,700,000 of synthetic lease obligations and $15,533,000 of undrawn letters of
credit. As of June 30, 2002, the Company had approximately $17,000 of funding
available under the Credit Facility (as amended by the Third Amendment) and was
not in default of the financial covenants of the Credit Facility as amended by
the Third Amendment.

The Companys operating activities during the first half
of 2001 provided net cash of $9,465,000 as compared to providing net cash of
$9,963,000 during the first half of 2002.

Net cash used by investing activities was $6,228,000 during
the first half of 2001 as compared to $4,425,000 used during the first half of
2002. The primary use of cash for investing purposes during the first half of
2001 and 2002 was to fund additions of property and equipment associated with
the maintenance of the Companys long-term care facilities.

Net cash used by financing activities was $2,021,000 during
the first half of 2001 as compared to $2,135,000 during the first half of 2002.

As of June 30, 2002, in addition to the Discount Notes (which
had an accreted balance of $78,679,000), the Company had two mortgage loans
outstanding totaling $17,044,000 and $23,250,000 in advances on its Credit
Facility. One mortgage loan had an outstanding principal balance of $15,552,000
of which $15,140,000 is due at maturity in 2004. This loan bears interest at an
annual rate of 10.65% plus additional interest equal to 0.3% of the difference
between the operating revenues of the four mortgaged facilities in each
applicable year and operating revenues during the twelve-month base period. The
Companys other mortgage loan, which encumbers a single facility, had an
outstanding principal balance of $1,492,000 at June 30, 2002, of which
$1,338,000 is due in 2010.

Harborside expects that its capital expenditures for 2002,
excluding acquisitions of new long-term care facilities, will aggregate
approximately $7,000,000. Harborsides expected capital expenditures will
relate to maintenance capital expenditures, systems enhancements, special
construction projects and other capital improvements. Harborside expects that
its future facility acquisitions will be financed primarily through operating
leases or assumed debt. Harborside may be required to obtain additional equity
financing to finance any significant acquisitions in the future, to refinance
the New Notes when they mature on August 1, 2007 or to refinance the New
Preferred Stock when it becomes mandatorily redeemable on February 1, 2008. The
Company continues to evaluate additional sources of capital funding to support
its acquisition program.

The Company owns a 75% interest in a partnership that owns one
facility. The Company accounts for its investment in this partnership using the
equity method. The Company has guaranteed a loan of approximately $5,600,000
made to this partnership to refinance a loan that funded the construction of the
facility and provided working capital. The loan is also collateralized by
additional collateral pledged by the non-affiliated partner. The loan matures on
September 15, 2002 and the Company expects to refinance the loan on comparable
terms prior to the

# 20

maturity date. The partnership agreement states that each
partner will contribute an amount in respect of any liability incurred by a
partner in connection with a guarantee of the partnerships debt, so that
partners each bear their proportionate share of any liability based on their
percentage ownership of the partnership.

The Company is highly leveraged, which makes it vulnerable to
changes in general economic conditions. The Companys ability to repay or
refinance its debt will depend on, among other things, financial, business,
market, competitive and other conditions, many of which are beyond the control
of the Company. The Company believes that, taken together, its current cash
balances, internally generated cash flow and availability under its credit
facilities should result in the Company having adequate cash resources to meet
its debt service and other financial obligations for at least the next twelve
months.

## CONTRACTUAL OBLIGATIONS

`The following table provides information about the Company's contractual
obligations as of June 30, 2002, excluding current liabilities except for the
current portion of long-term debt.

                                    Payments due by Years
                                         Total      Remaining 2002   2003 and 2004  2005 and 2006     After 2006

Long-term debt                         $ 118,973,000  $  5,290,000      $33,572,000    $    37,000    $  80,074,000

Operating leases (1)                     220,844,000    15,008,000       60,062,000     49,676,000       96,098,000
                                       -------------   -----------      -----------    -----------    -------------
Total contractual and cash obligations $ 339,817,000  $ 20,298,000      $93,634,000    $ 49,713,00    $ 176,172,000
                                       =============  ============      ===========    ===========    =============`

(1) The operating lease obligation amounts include the annual
facility rent payments for two long-term care facilities whose acquisitions were
financed by the Company through the synthetic leasing capability of its Credit
Facility. The Companys annual rent obligations under these synthetic
leases reflect payment of interest only on the lessors $13,700,000 of
underlying debt obligations. At the maturity of the leases, the Company is
obligated to either purchase the facilities and refinance the $13,700,000 of
underlying debt or assist the lessor in remarketing the facilities and reimburse
the lessor if the fair market value of the facilities at that time is less than
the amount of the underlying debt obligation.

The Company issued $15,000,000 of New Preferred Stock on May
10, 2001. As long as the Companys New Notes remain outstanding, the New
Preferred Stock is entitled to dividends at a rate of 13% per annum compounded
quarterly and payable in additional shares of New Preferred Stock. The New
Preferred Stock is mandatorily redeemable on February 1, 2008.

During the year ended December 31, 1998, the Company
implemented a general and professional liability insurance program that, for the
period from September 1, 1998 to August 31, 2001, limited the Companys
self-retention risk for this program to a maximum of $25,000 per year. The
long-term care industry has seen the cost of maintaining traditional
professional liability insurance increase significantly over the past two years,
especially in the State of Florida. Most insurance companies are unwilling to
underwrite new professional liability policies in the State of Florida. In May
2001, tort reform legislation was enacted in Florida. This legislation provides
caps on punitive damages, limits to add-on legal fees, stricter rules of
evidence and a shorter statute of limitations period. Given the tremendous
increase in professional liability premiums and the tort reform legislation that
was enacted in the State of Florida in May 2001, the Company concluded that it
would be more cost effective to assume a higher level of retained risk for
professional liability claims. As a result, the Company implemented a new
general and professional liability program, effective September 1, 2001, which
resulted in the Company maintaining an unaggregated self-insured retention of
$2,000,000 per occurrence for locations outside of Florida and completely
retaining risk at the Florida facilities. As of June 30, 2002, the Company
maintained a Claims Reserve in the amount of $4,025,000 for incurred but not
reported claims. The amount of the reserve was determined through an estimation
process that used information from both the Companys records as well as
industry data. The Company uses an independent actuary to help estimate the
required general and professional liability reserve. Factors reviewed include
the frequency of expected claims, the average cost per claim, emerging industry
trends, changes in regulatory environment (such as the recently enacted Florida
tort reform legislation) and the expected effect of various operational and risk
management initiatives. At this time, the Company estimates that, effective
September 1, 2001, its annual cost for professional and general liability
insurance for existing facilities will increase from approximately $2,500,000
under the prior program to $6,500,000 under the new program. The Company will
continue to evaluate its insurance reserve requirements on a quarterly basis.
Required adjustments to the Companys general and professional liability
reserve will be recorded in the accounting period in which the change in
estimate occurs. There can be no assurances the recent Florida tort reform
legislation will have a positive impact on claims activity, that the coverage
limits of the Companys insurance program will be adequate or that
insurance will continue to be available to the Company in the future.

Certain of the increases in Medicare reimbursement for skilled
nursing facilities provided for under the BBRA and BIPA are scheduled to expire
on October 1, 2002. Unless Congress enacts new legislation, the loss of revenues
associated with this occurrence could have a material adverse effect on the
Company. If new legislation is not enacted, the Company estimates that its
revenues for the quarter ended December 31, 2002 would be reduced by
approximately $37 per Medicare Part A patient day. The Company cannot provide
assurances that Congress will act to renew the existing legislation; however,
the Company does anticipate that it would take actions to reduce costs to offset
a portion of this revenue reduction. At this time, the Company cannot predict
the course of action likely to be selected by Congress or the impact of this
issue on the Companys net income for the year ended December 31, 2002.

The Health Insurance Portability and Accountability Act of
1996 (HIPAA) broadened the scope of fraud and abuse laws to include
all health plans, whether or not they are reimbursed under Federal programs.
HIPAA also mandated the adoption of federal regulations designed to (a)
standardize transaction formats and billing codes for documenting health care
services, determining eligibility and processing claims for payment; and (b)
protect the privacy and security of individually identifiable health
information. Final HIPAA regulations that standardize transactions and code sets
were issued during the third quarter of 2000. The ultimate compliance date was
subsequently modified by legislation to require health care providers and health
plans to either comply with the HIPAA transaction code set standards beginning
in October of 2002 or submit a written plan to the federal government by October
of 2002 describing specific plans for compliance by October of 2003. The
regulations do not require healthcare providers to submit claims electronically,
but do require standard formatting for those that do so. The Company currently
submits most claims electronically

# 21

and expects to continue to do so. The Company is currently
evaluating its plans for compliance by October of 2002 or submitting the
required plan describing its plans for compliance by October of 2003.

Final HIPAA privacy regulations were published during the
fourth quarter of 2000. However, on March 27, 2002, the U.S. Department of
Health and Human Services published in the Federal Register a proposed rule
which if finally adopted would modify the regulations published during 2000. In
general, the regulations apply to protected health information,
which is defined as individually identifiable health information transmitted or
maintained in any form or medium, excluding certain education records and
student medical records. The privacy regulations seek to limit the use and
disclosure of most paper and oral communications, as well as those in electronic
form, regarding an individuals past, present or future physical or mental
health or condition, or relating to the provision of health care to the
individual or payment of that health care. The regulations further impose
requirements on health care providers to contractually obligate certain of their
contractors who may receive protected health care information during the course
of rendering services on behalf of such health care provider to abide by certain
privacy requirements as well. In addition, the current HIPAA regulations provide
that certain state privacy laws may not be preempted by HIPAA. Accordingly, the
Company, in certain instances, will remain subject to various state privacy laws
in jurisdictions in which it currently operates facilities. HIPAA provides for
the imposition of civil and criminal penalties if protected health information
is improperly disclosed. The Company must comply with the privacy regulations by
April of 2003. Given the issuance of the recent proposed rulemaking, it is
uncertain the extent to which the regulations that were published in 2000 will
change. The Company is continuing to evaluate the impact of the privacy
regulations on its operations.

HIPAAs security regulations have not been finalized. The
proposed security regulations specify administrative procedures, physical
safeguards, and technical services and mechanisms designed to ensure that
protected health information remains secure. The proposed security rules
contemplate a compliance date of 24 months after the effective date of the final
rule published in the Federal Register, although it is possible that such
compliance date will differ and could align with the compliance date for the
privacy regulations depending on when the security regulations are ultimately
finalized.

The Company is currently working in conjunction with its
software vendors to evaluate the impact of HIPAA regulations on the
Companys systems and operating procedures. The Company has not yet
completed its analysis or its estimate of the expected costs of compliance with
the HIPAA regulations. There can be no assurances that compliance with HIPAA
regulations will not have an adverse effect on the Companys results of
operations, cash flows or its financial position.

## SEASONALITY

The Companys earnings generally fluctuate from quarter
to quarter. This seasonality is related to a combination of factors, which
include the timing and amount of Medicaid rate increases, seasonal census
cycles, and the number of days in a given fiscal quarter.

## INFLATION

The healthcare industry is labor intensive. Wages and other
labor related costs are especially sensitive to inflation. Certain of the
Companys other expense items, such as supplies and real estate costs are
also sensitive to inflationary pressures. Shortages in the labor market or
general inflationary pressure could have a significant effect on the Company. In
addition, suppliers pass along rising costs to the Company in the form of higher
prices. When faced with increases in operating costs, the Company has sought to
increase its charges for services and its requests for reimbursement from
government programs. The Companys private pay customers and third party
reimbursement sources may be less able to absorb increased prices for the
Companys services. The Companys operations could be adversely
affected if it is unable to recover future cost increases or experiences
significant delays in increasing rates of reimbursement of its labor or other
costs from Medicare and Medicaid revenue sources.

# 22

## SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

Certain statements in this Form 10-Q, including information
set forth under the caption Managements Discussion and Analysis of
Financial Condition and Results of Operations, constitute
Forward-Looking Statements within the meaning of the Private
Securities Litigation Reform Act of 1995 (the Reform Act). The
Company desires to take advantage of certain safe harbor provisions
of the Reform Act and is including this special note to enable the Company to do
so. Forward-looking statements included in this Form 10-Q, or hereafter included
in other publicly available documents filed with the Securities and Exchange
Commission, reports to the Companys stockholders and other publicly
available statements issued or released by the Company involve known and unknown
risks, uncertainties, and other factors which could cause the Companys
actual results, performance (financial or operating) or achievements to differ
materially from the future results, performance (financial or operating) or
achievements expressed or implied by such forward-looking statements. The
Company believes the following important factors could cause such a material
difference to occur:

`1.   The  occurrence  of changes in the mix of payment  sources  utilized by the
     Company's patients to pay for the Company's services.

2.   The  adoption of cost  containment  measures by private pay sources such as
     commercial insurers and managed care  organizations,  as well as efforts by
     governmental reimbursement sources to impose cost containment measures.

3.   Changes  in the  United  States  healthcare  system,  including  changes in
     reimbursement  levels and the method of  reimbursement,  under Medicaid and
     Medicare, and other changes in applicable government regulations that might
     affect the profitability of the Company.

4.   The  Company's   continued  ability  to  operate  in  a  heavily  regulated
     environment  and to  satisfy  regulatory  authorities,  thereby  avoiding a
     number of  potentially  adverse  consequences,  such as the  imposition  of
     fines,  temporary suspension of admission of patients,  restrictions on the
     ability to acquire  new  facilities,  suspension  or  decertification  from
     Medicaid  or  Medicare  programs,  and in extreme  cases,  revocation  of a
     facility's  license or the closure of a facility,  including as a result of
     unauthorized activities by employees.

5.   The  Company's  ability to secure the capital and the related  cost of such
     capital  necessary  to fund  its  future  growth  through  acquisition  and
     development, as well as internal growth.

6.   Changes in certificate of need laws that might increase  competition in the
     Company's industry,  including,  particularly,  in the states in which
     the Company currently operates or anticipates operating in the future.

7.   The Company's ability to staff its facilities  appropriately with qualified
     healthcare personnel, including in times of shortages of such personnel and
     to maintain a satisfactory relationship with labor unions.

8.   The level of  competition  in the  Company's  industry,  including  without
     limitation,  increased competition from acute care hospitals,  providers of
     assisted  and  independent  living and  providers  of home  healthcare  and
     changes  in the  regulatory  systems  in the  states in which  the  Company
     operates that facilitate such competition.

9.   The continued  availability and pricing of insurance for the inherent risks
     of liability in the healthcare  industry.  Claims activity  associated with
     the Company's self-insured risk programs.

10.  Price increases in  pharmaceuticals,  durable  medical  equipment and other
     items.

11.  The Company's  reputation for delivering  high-quality care and its ability
     to attract and retain  patients,  including  patients with  relatively high
     acuity levels.

12.  Changes in general  economic  conditions,  including  changes that pressure
     governmental  reimbursement  sources  to  reduce  the  amount  and scope of
     healthcare coverage.

The foregoing review ofsignificant factors should not be construed as exhaustive
or as an admission regarding the adequacy of disclosures  previously made by the
Company.`

# 23

# Item 3.QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Most of the Companys debt obligations bear interest at
fixed rates and are not affected by changes in market interest rates; however,
borrowings under the Companys Credit Facility are sensitive to changes in
interest rates. Under the Credit Facility, interest is based on either LIBOR or
prime rates of interest (plus applicable margins determined by the
Companys leverage), at the Companys election. As the prime and LIBOR
rates of interest increase, interest expense associated with the Companys
borrowings under the Credit Facility would also increase. An increase of 1% in
the applicable rate would increase the Companys annual interest cost by
approximately $233,000.

The Company did not experience significant changes in interest
rates during the six months ended June 30, 2002. As part of the Companys
risk management program, the Company continuously reviews its overall exposure
to interest rate risk and evaluates the benefits of interest rate hedging
through the use of derivative instruments, such as interest rate swaps. By
entering into an interest rate swap, the Company can effectively transform
variable rate debt into fixed rate debt. The Company did not have any interest
rate swap arrangements outstanding during the six-month periods ending June 30,
2001 or June 30, 2002.

# 24

# PART II -
OTHER INFORMATION

`Item 6.      Exhibits and Reports on Form 8-K

(a)      Exhibits

              None.


(b)      Reports on 8-K

              None.`

# 25

# SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.

`Harborside Healthcare Corporation



                         By:    /s/ Stephen L. Guillard
                               -------------------------
                               Stephen L. Guillard
                               Chairman and Chief Executive Officer


                         By:   /s/ William H. Stephan
                               ----------------------
                               William H. Stephan
                               Senior Vice President and Chief Financial Officer




DATE:   August 14, 2002`

## 26