<PAGE>   1
                       SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D.C. 20549


                                   FORM 10-Q


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

                  For the quarterly period ended JUNE 30, 1997

                                       OR

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

                         Commission file number 1-10968


                        LIVING CENTERS OF AMERICA, INC.
             (Exact name of registrant as specified in its charter)

               DELAWARE                                 74-2012902
(State or other jurisdiction of incorporation       (I.R.S. Employer
              organization)                        Identification No.)

                               15415 KATY FREEWAY
                                   SUITE 800
                                 HOUSTON, TEXAS
                                     77094
                    (Address of principal executive offices)
                                   (Zip Code)

                                 (281) 578-4700
              (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      X       No
    ----------       ----------



         There were 19,549,426 shares outstanding of the issuer's only class of
common stock as of July 28, 1997.

                    The Exhibit Index is located on page 14.




<PAGE>   2



                        LIVING CENTERS OF AMERICA, INC.
                                AND SUBSIDIARIES

                                   FORM 10-Q
                               TABLE OF CONTENTS
                                 JUNE 30, 1997

<TABLE>
<CAPTION>
                                                                                                                 PAGE
                                                                                                                 ---- 

<S>                                                                                                                <C>
PART I - FINANCIAL INFORMATION

         Item 1.  Consolidated Financial Statements and Notes                                                       3

         Item 2.  Management's Discussion and Analysis of Financial
                           Condition and Results of Operations                                                     10


PART II - OTHER INFORMATION

         Item 1.  Legal Proceedings                                                                                14

         Item 2.  Not applicable

         Item 3.  Not applicable

         Item 4.  Not Applicable

         Item 5.  Not applicable

         Item 6.  Exhibits and Reports on Form 8-K                                                                 14

SIGNATURE PAGE                                                                                                     15
</TABLE>





<PAGE>   3


PART 1   FINANCIAL INFORMATION
Item 1.     CONSOLIDATED FINANCIAL STATEMENTS

                LIVING CENTERS OF AMERICA, INC. AND SUBSIDIARIES
                       CONSOLIDATED STATEMENTS OF INCOME
                    (in thousands, except per share amounts)
                                  (unaudited)

<TABLE>
<CAPTION>
                                                       Three Months                  Nine Months
                                                      Ended June 30,                Ended June 30,
                                              ------------------------      ------------------------
                                                 1997           1996           1997           1996
<S>                                           <C>            <C>            <C>            <C>      
NET REVENUES
   Nursing home revenue:
     Net patient services                     $ 187,442      $ 193,795      $ 555,449      $ 576,127
     Other                                        1,396          2,155          4,096          6,904
   Non-nursing home revenue:
     Pharmacy services                           50,615         33,141        145,874         87,333
     Therapy services                            44,201         50,816        137,770        155,931
     Home health, hospice, and other              4,779          1,310         10,764          3,358
                                              ---------      ---------      ---------      ---------
                                                288,433        281,217        853,953        829,653
COSTS AND EXPENSES:
   Salaries and wages                           108,064        113,839        328,461        342,333
   Employee benefits                             23,786         26,016         74,036         76,672
   Nursing, dietary and other supplies           12,932         14,917         39,725         45,243
   Ancillary services                            58,298         49,888        169,228        136,502
   General and administrative                    40,543         41,423        120,126        122,373
   Depreciation and amortization                 10,414          9,818         30,480         28,784
   Provision for bad debts                        5,940          4,380         15,915         11,377
   Life insurance proceeds                           --         (2,015)            --         (2,015)
                                              ---------      ---------      ---------      ---------
                                                259,977        258,266        777,971        761,269
                                              ---------      ---------      ---------      ---------

          INCOME FROM OPERATIONS                 28,456         22,951         75,982         68,384

INTEREST EXPENSE, NET:
   Interest expense                               5,677          4,049         16,302         12,286
   Interest income                               (1,189)        (1,136)        (3,378)        (3,297)
                                              ---------      ---------      ---------      ---------
                                                  4,488          2,913         12,924          8,989
                                              ---------      ---------      ---------      ---------

          INCOME BEFORE INCOME TAXES
             AND EQUITY EARNINGS/MINORITY
             INTEREST                            23,968         20,038         63,058         59,395

PROVISION FOR INCOME TAXES                       10,076          7,344         26,445         23,199
                                              ---------      ---------      ---------      ---------

          INCOME BEFORE EQUITY EARNINGS/
             MINORITY INTEREST                   13,892         12,694         36,613         36,196

EQUITY EARNINGS/MINORITY INTEREST                  (223)           122           (405)           (69)
                                              ---------      ---------      ---------      ---------

NET INCOME                                    $  13,669      $  12,816      $  36,208      $  36,127
                                              =========      =========      =========      =========


WEIGHTED AVERAGE COMMON AND
   COMMON EQUIVALENT SHARES
   OUTSTANDING                                   19,886         20,501         19,728         20,434
                                              =========      =========      =========      =========

EARNINGS PER SHARE                            $    0.69      $    0.63      $    1.84      $    1.77
                                              =========      =========      =========      =========
</TABLE>


  THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.

                                       3


<PAGE>   4


                LIVING CENTERS OF AMERICA, INC. AND SUBSIDIARIES
                          CONSOLIDATED BALANCE SHEETS
                  (dollars in thousands, except share amounts)
                                  (unaudited)

<TABLE>
<CAPTION>
                                                                        June 30,    September 30,
                                                                          1997           1996

<S>                                                                   <C>            <C>      
                                            ASSETS
CURRENT ASSETS:
   Cash and cash equivalents                                          $  13,288      $  21,394
   Receivables (less allowances of $36,731 and $22,783)                 229,871        192,340
   Notes receivable, net                                                  2,928          3,756
   Supplies                                                              20,395         16,582
   Prepaid expenses                                                       1,357          6,450
   Deferred income taxes                                                 20,264         19,644
   Other (including patient trust funds of $3,642 and $3,768)             8,750          9,273
                                                                      ---------      ---------
          TOTAL CURRENT ASSETS                                          296,853        269,439

PROPERTY AND EQUIPMENT:
   Land, buildings and improvements                                     374,821        359,137
   Furniture, fixtures and equipment                                    117,235        104,363
   Leased property under capital leases                                  12,551         12,551
                                                                      ---------      ---------
                                                                        504,607        476,051
   Less accumulated depreciation                                        205,187        186,333
                                                                      ---------      ---------
                                                                        299,420        289,718

GOODWILL, NET                                                           194,167        188,508
RESTRICTED INVESTMENTS                                                   56,151         31,040
INVESTMENT IN UNCONSOLIDATED AFFILIATE                                       52          3,016
NOTES RECEIVABLE, NET                                                    11,035         10,780
OTHER ASSETS                                                             23,879         17,111
                                                                      ---------      ---------
                                                                      $ 881,557      $ 809,612
                                                                      =========      =========

                             LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
   Notes payable and current maturities of long-term debt             $   3,737      $  13,746
   Accounts payable                                                      39,244         48,088
   Accrued payroll and related expenses                                  62,936         60,089
   Accrued property taxes                                                 3,814          4,995
   Patient trust funds                                                    3,642          3,768
   Accrued income taxes payable                                           8,089         16,921
   Other accrued expenses                                                20,806         20,741
                                                                      ---------      ---------
          TOTAL CURRENT LIABILITIES                                     142,268        168,348

LONG-TERM DEBT, NET OF CURRENT MATURITIES                               309,467        262,702

LONG-TERM INSURANCE RESERVES                                             36,372         26,093

MINORITY INTERESTS                                                          449            289

DEFERRED INCOME TAXES AND OTHER NONCURRENT LIABILITIES                   26,183         22,865

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
   Preferred stock, par value $ .01; 4,650,000 shares authorized;
      none issued                                                            --             --
   Series A - Junior participating preferred stock, par
     value $.01; 350,000 authorized and
     reserved; none issued                                                   --             --
   Common stock, par value $ .01; 75,000,000 shares
      authorized; 20,267,920 shares issued                                  203            203
   Capital surplus                                                      228,105        228,171
   Retained earnings                                                    156,941        120,733
   Unrealized gain (loss) on securities available-for-sale                   77            (18)
   Treasury stock at cost - 718,494 and 767,053 shares                  (18,508)       (19,774)
                                                                      ---------      ---------
          TOTAL STOCKHOLDERS' EQUITY                                    366,818        329,315
                                                                      ---------      ---------
                                                                      $ 881,557      $ 809,612
                                                                      =========      =========
</TABLE>


  THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.

                                       4


<PAGE>   5


                LIVING CENTERS OF AMERICA, INC. AND SUBSIDIARIES
                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                       (dollars and shares in thousands)
                                  (unaudited)

<TABLE>
<CAPTION>
                                                                                                
                                                                                      Unrealized
                                         Common  Stock                                    Gain     Treasury  Stock
                                     ----------------------    Capital       Retained  (Loss) on  ------------------
                                      Shares      Amount       Surplus       Earnings  Securities Shares     Amount         Total
                                     ----------  ----------  ------------  ----------  ---------- ------    --------      --------
<S>                                   <C>         <C>           <C>          <C>          <C>       <C>     <C>           <C>     
BALANCE, SEPTEMBER 30, 1996           20,267      $    203      $228,171     $120,733     ($18)     767     ($19,774)     $329,315

Net income                                                                     36,208                                       36,208

Funding of employee benefit
   plans                                                             (44)                           (42)       1,101         1,057

Funding of options exercised
   under 1992 Employee Stock
   Option Plan, net of tax                                           (22)                            (7)         165           143

Unrealized gain on
   securities available-for-sale                                                            95                                  95
                                     -------      --------      --------     --------     ----      ---     --------      --------

BALANCE, JUNE 30, 1997                20,267      $    203      $228,105     $156,941     $ 77      718     ($18,508)     $366,818
                                     =======      ========      ========     ========     ====      ===     ========      ========
</TABLE>











  THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.

                                       5


<PAGE>   6


                LIVING CENTERS OF AMERICA, INC. AND SUBSIDIARIES
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                             (dollars in thousands)
                                  (unaudited)
<TABLE>
<CAPTION>
                                                                   Nine Months
                                                                  Ended June 30,
                                                             ----------------------
                                                                1997          1996

<S>                                                          <C>           <C>     
CASH FLOWS FROM OPERATING ACTIVITIES:
   Net income                                                $ 36,208      $ 36,127
   Adjustments to reconcile net income to net cash
     provided by operating activities:
          Depreciation and amortization                        30,480        28,784
          Income taxes deferred                                (1,152)       (4,007)
          Equity earnings/minority interest                       405            69
          Provision for bad debts                              15,915        11,377
   Changes in noncash working capital:
          Receivables                                         (52,075)      (46,522)
          Supplies                                             (3,463)        1,294
          Receivable from affiliates                               --         2,698
          Prepayments, including insurance                      5,146        10,493
          Other current assets                                 (2,177)       (1,365)
          Accounts payable                                     (9,504)       (9,272)
          Accrued expenses and other current liabilities       (1,999)       10,685
   Changes in long-term insurance reserves                     10,279         9,290
   Other                                                         (292)         (423)
                                                             --------      --------
NET CASH PROVIDED BY OPERATING ACTIVITIES                      27,771        49,228

CASH FLOWS USED IN INVESTING ACTIVITIES:
   Acquisitions and investments                               (21,988)      (40,715)
   Purchases of property and equipment                        (29,643)      (25,468)
   Disposals of property, equipment and
          other assets                                          6,159         2,653
   Restricted investments                                     (25,016)          927
   Additions to notes receivable                               (1,668)       (1,135)
   Collections on notes receivable                              3,655           703
   Other                                                          (50)          317
                                                             --------      --------
NET CASH USED IN INVESTING ACTIVITIES                         (68,551)      (62,718)

CASH FLOWS FROM FINANCING ACTIVITIES:
   Proceeds from long-term debt                                 1,502           236
   Net draws under credit line                                 39,685        37,300
   Repayment of long-term debt                                 (8,656)      (27,635)
   Funding of options under 1992 employee stock
          option plan                                             143           871
                                                             --------      --------
NET CASH PROVIDED BY FINANCING ACTIVITIES                      32,674        10,772
DECREASE IN CASH AND CASH EQUIVALENTS                          (8,106)       (2,718)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                 21,394        17,886
                                                             --------      --------
CASH AND CASH EQUIVALENTS, END OF PERIOD                     $ 13,288      $ 15,168
                                                             ========      ========
</TABLE>





  THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.

                                       6


<PAGE>   7








                LIVING CENTERS OF AMERICA, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)



NOTE 1.  ORGANIZATION AND BASIS OF PRESENTATION

ORGANIZATION

     Living Centers of America, Inc. (the "Company" or "Living Centers"),
engages in the operation of long-term care facilities, specialty health care
services, pharmacy and rehabilitation services through its operating
subsidiaries. The Company's operations are geographically concentrated and
specifically focused in key markets, including Texas, North Carolina, and
Colorado. The accompanying consolidated financial statements include the
accounts of the Company and its subsidiaries and exclude all significant
intercompany transactions.

BASIS OF PRESENTATION

     The accompanying unaudited consolidated financial statements of the
Company have been prepared in accordance with generally accepted accounting
principles for interim financial information and pursuant to the rules and
regulations of the Securities and Exchange Commission. Accordingly, they do not
include all of the information and notes required by generally accepted
accounting principles for annual financial statements. In the opinion of
management, all adjustments (which include only normal recurring adjustments)
considered necessary for a fair presentation have been included. These
financial statements should be read in conjunction with the audited
consolidated financial statements and notes thereto for the year ended
September 30, 1996 filed with the Securities and Exchange Commission on Form
10-K, Annual Report, file No. 33-44726.

NOTE 2.  LONG-TERM DEBT

     The covenants governing the 1996 Bank Credit Facility and the notes with
SouthTrust Bank and Variable Annuity Life provide for the maintenance of
various financial ratios. The Company is in compliance with the terms of all
such covenants. These covenants also limit the Company's ability to pay
dividends. At June 30, 1997 these restrictions effectively limited dividend
payments to no more than $21.2 million. Even though the covenants of the 1996
Bank Credit Facility permit the payment of dividends as described above, the
Company does not presently intend to pay any such dividends.


     A summary of total debt as of June 30, 1997 is as follows (in thousands):

<TABLE>
<S>                                                                <C>
     Bank Credit Facility........................................  $275,000

     SouthTrust Bank of Alabama, NA..............................    20,000

     Variable Annuity Life Insurance Company.....................    10,000

     Mortgage notes..............................................       647

     Other notes payable.........................................     3,810

     Obligations under capital leases............................     3,747
                                                                   --------
                                                                    313,204
     Less short-term notes payable and current portion ..........    (3,737)
                                                                   --------

     Total long-term debt........................................  $309,467
                                                                   ========
</TABLE>




                                       7

<PAGE>   8



                LIVING CENTERS OF AMERICA, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)

NOTE 3.  EARNINGS PER COMMON SHARE

     The following table presents a reconciliation of the number of weighted
average common shares used in computing primary earnings per share (in
thousands):

<TABLE>
<CAPTION>
                                                          Three Months             Nine Months
                                                         Ended June 30,           Ended June 30,
                                                      --------------------     ---------------------
                                                        1997       1996          1997       1996

<S>                                                   <C>         <C>           <C>         <C>    
     Common shares outstanding, end of
     period.........................................  19,549      20,260        19,549      20,260 
                                                                                                   
     Effect of using weighted average shares                                                       
     outstanding....................................     (1)        (10)           (20)        (29)
                                                                                                   
     Effect of using treasury stock method on                                                      
     stock options and warrants.....................     338         251           199         203 
                                                      ------      ------        ------      ------
     Shares used in computing earning per                                                          
     share..........................................  19,886      20,501        19,728      20,434 
                                                      ======      ======        ======      ====== 
</TABLE>                                                      


NOTE 4.  CASH INTEREST AND TAXES

     Total cash interest paid during the nine months ended June 30, 1997 and
1996 was $14.2 million and $11.5 million, respectively. Cash taxes paid during
the nine months ended June 30, 1997 and 1996 were $31.3 million and $27.8
million, respectively.

NOTE 5.  RESTRUCTURING PLAN

     On June 14, 1996, the Company finalized and approved a plan originating in
June 1995 to restructure the operations and exit certain activities of American
Rehabilitation Services, Inc. ("ARS"), its rehabilitation subsidiary. This plan
included centralization of billing and collection, closing or downsizing
unprofitable clinics and offsite contracts, and staff reductions of
approximately 300 employees in both corporate overhead and field management.
This plan resulted in an increase to the original purchase price of the
acquisition by $10.1 million which was recorded in June 1996 and included an
accrual for estimated exit costs of $4.4 million related to
termination/severance for displaced employees and $4.2 million related to
future lease costs for abandoned real property. Through June 30, 1997 ARS has
charged $3.2 million against the accrual for termination/severance for over 300
displaced employees and $1.3 million against the accrual for future lease
costs. The restructuring was substantially completed at March 31, 1997.

NOTE 6.  RECLASSIFICATIONS

     During the March 1997 quarter, information became available to summarize
trade receivables and payables due between the Company's operating subsidiaries
and exclude these intercompany balances from the Consolidated Financial
Statements. As a result, the September 1996 Receivables and Accounts payable
balances have both been reduced by $12.1 million to reflect this new
information.

     Certain other prior year amounts have also been reclassified to conform
with the 1997 presentation.

NOTE 7. CONTINGENCIES

     The Company was served with a petition seeking $5.0 million in damages in
connection with a home health agency management agreement entered into by a
subsidiary of Rehability Health Services, Inc., the predecessor of ARS. The
former manager alleges that the Company breached the management agreement by
terminating its services. The Company is vigorously defending this allegation
and has filed a lawsuit against the former manager for breach of the agreement.
The Company is unable to measure the outcome of these proceedings or the effect
on its financial position, if any, at this time.

                                       8
<PAGE>   9




     The Company is a party to various other legal proceedings in the normal
course of business. The Company takes every legal claim seriously and
investigates and, where appropriate, defends such allegations vigorously. Such
claims are generally covered by insurance, or the Company has provided reserves
which it believes are adequate for any potential losses which may result from
such claims. The Company believes that the results of any such proceedings, if
determined unfavorably to the Company, will not have a material adverse effect
on its consolidated financial position or its results of operations.

     In October 1996 the Company entered into a master lease arrangement
providing for the acquisition, development, and construction of skilled nursing
and assisted living facilities for a total amount not to exceed $100.0 million.
The lease is an unconditional "triple net" lease for all facilities covered for
a period of seven years. The Company guarantees a substantial portion of the
residual value of the facilities covered and has an option to purchase the
facilities at any time prior to the maturity date. At June 30, 1997
approximately $26.0 million of this arrangement was utilized.

NOTE 8.  RECAPITALIZATION AND MERGER

     On May 8, 1997 the Company announced execution of agreements for a
leveraged recapitalization of the Company to be followed immediately by a
business combination with GranCare, Inc. See Management's Discussion and
Analysis of Financial Condition and Results of Operations for a more complete
description of these transactions.










                                       9


<PAGE>   10




ITEM 2.             MANAGEMENT'S DISCUSSION AND ANALYSIS OF
                 FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

     The Company, through it operating subsidiaries, provides a diverse range
of services in the health care continuum including long-term health care,
rehabilitation therapy, and pharmaceutical services. Services provided at the
Company's long-term care facilities, which comprise approximately 66% of the
Company's total revenue, include long-term nursing services and specialty care
services including assisted living services, subacute care, and care for
individuals with Alzheimer's disease. The Company is currently expanding or
developing additional specialty care services such as hospice care, geriatric
physician practice management services, and home health care.

RESULTS OF OPERATIONS

     The following table sets forth certain data from the statement of income
expressed as a percentage of net revenues:


<TABLE>
<CAPTION>
                                                         Three Months            Nine Months
                                                        Ended June 30,          Ended June 30,
                                                       ----------------        ---------------
                                                       1997        1996        1997       1996
<S>                                                    <C>         <C>         <C>        <C>  
Net Revenues:
     Nursing home                                      65.5%       69.6%       65.5%      70.3%
     Non-nursing home:
        Pharmacy                                       17.5        11.8        17.1       10.5
        Therapy                                        15.3        18.1        16.1       18.8
        Home health, hospice, and other                 1.7         0.5         1.3        0.4
                                                      -----       -----       -----      -----
                                                      100.0       100.0       100.0      100.0
Costs and Expenses:
     Salaries and wages                                37.4        40.4        38.3       41.2
     Employee benefits                                  8.2         9.3         8.7        9.2
     Nursing, dietary, and other supplies               4.5         5.3         4.7        5.5
     Ancillary services                                20.2        17.7        19.8       16.5
     General and administrative                        14.1        14.7        14.1       14.7
     Depreciation and amortization                      3.6         3.5         3.6        3.5
     Provision for bad debts                            2.1         1.6         1.9        1.4
     Life Insurance Proceeds                           --          (0.7)       --         (0.2)
                                                      -----       -----       -----      -----

Income from operations                                  9.9         8.2         8.9        8.2
Interest expense, net                                   1.6         1.0         1.5        1.1
                                                      -----       -----       -----      -----

Income before income taxes and equity
   earnings/minority interest                           8.3         7.2         7.4        7.1
Provision for income taxes                              3.5         2.6         3.1        2.8
                                                      -----       -----       -----      -----

Income before equity earnings/minority interest         4.8         4.6         4.3        4.3
Equity earnings/minority interest                      (0.1)       --          --         --
                                                      -----       -----       -----      -----

Net income                                              4.7%        4.6%        4.3%       4.3%
                                                      =====       =====       =====      =====
</TABLE>


                                       10

<PAGE>   11



     Nursing home revenues are derived from two basic sources: routine services
($148.2 million or 78.5% in the third quarter of fiscal 1997 and $442.9 million
or 79.2% year-to-date fiscal 1997) and ancillary services ($40.6 million or
21.5% in the third quarter of fiscal 1997 and $116.6 million or 20.8%
year-to-date fiscal 1997) and are a function of occupancy rates in the
long-term care facilities and the payor mix. Occupancy rates, as identified in
the following table, decreased in the third quarter of fiscal 1997 primarily
due to the divestiture of DevCon in the fourth quarter of fiscal 1996. The
DevCon divestiture reduced weighted average licensed bed count by 1,747 and
total average residents by 1,556 for both the three months and nine months
ended June 30, 1997. Also, an increase in hospital-operated skilled units,
assisted living facilities, and other alternative care providers in key markets
contributed to a decrease in occupancy rates. The Company has invested in the
marketing and managed care areas and has implemented an aggressive marketing
program to increase census and improve quality mix.


<TABLE>
<CAPTION>
                                         Three Months                Nine Months
                                        Ended June 30,              Ended June 30,
                                     --------------------        -------------------
                                      1997          1996          1997         1996
<S>                                  <C>           <C>           <C>          <C>   
Weighted average licensed bed count  22,880        25,772        23,101       25,757
Total average residents              18,887        21,521        19,142       21,626
Average occupancy                      82.5%         83.5%         82.9%        84.0%
</TABLE>

     Payor mix is the source of payment for the services provided and consists
of private pay, Medicare and Medicaid. Private pay includes revenue from
individuals who pay directly for services without government assistance,
managed care companies, commercial insurers, health maintenance organizations,
and Veteran's administration contractual payments.

     Reimbursement rates from government sponsored programs, such as Medicare
and Medicaid, are strictly regulated and subject to funding appropriations from
federal and state governments. To the extent unfavorable changes in economic
conditions impact payments under governmental or third-party payor programs,
the Company would be adversely affected. Revenues derived from the Company's
pharmacy and therapy groups are also influenced by payor mix. The table below
presents the approximate percentage of the Company's net patient revenues
derived from the various sources of payment for the periods indicated:


<TABLE>
<CAPTION>
                  Three Months                Nine Months
                 Ended June 30,             Ended June 30,
               ------------------          -----------------
               1997          1996          1997         1996
<S>            <C>           <C>           <C>          <C>  
Private        33.3%         31.8%         33.6%        31.9%
Medicare       26.2          25.7          25.6         25.2
Medicaid       40.5          42.5          40.8         42.9
</TABLE>

     The higher percentage of revenues derived from private pay sources is
primarily attributable to the growth in the Company's pharmacy operations. The
revenue from the pharmacy operations, which is primarily generated from private
pay sources, along with the divestiture of DevCon in the fourth quarter of
fiscal 1996, result in a reduction of the percentage of net revenue derived
from the Medicaid program. In addition, average reimbursement rates for
Medicare patients have increased more rapidly than for Medicaid residents
primarily due to the higher reimbursement rates associated with the increase in
acuity levels. Although cost reimbursement for Medicare residents generates a
higher level of revenue per patient day, profitability is not proportionally
increased due to the additional costs associated with the required higher level
of care and other services for such residents.

     THIRD QUARTER OF FISCAL 1997 COMPARED TO THIRD QUARTER OF FISCAL 1996. Net
revenues comprising nursing home and non-nursing home operations totaled $288.4
million for the quarter ended June 30, 1997, an increase of $7.2 million or 
2.6%, as compared to the same period for fiscal 1996. Revenues from nursing home
operations decreased $7.1 million, which included $18.5 million due to
divestitures, primarily the disposition of the DevCon operations in the fourth
quarter of fiscal 1996, and a $1.7 million reduction due to lower average
occupancy rates. Rate increases of $8.6 million and higher ancillary service
billings of $4.1 million resulting from the improvement in mix, primarily
Medicare, partially offset the nursing home revenue decreases. Non-nursing home
revenue increased $14.3 million which consisted of an increase of $17.5 million
for pharmacy services, a decrease of $6.6 million for therapy services, and an
increase of $3.5 million from home health, hospice and other services. The
acquisition of pharmacies in fiscal year 1996 that occurred late in the third
quarter and during the fourth quarter primarily caused the increase in pharmacy
services. The closure of approximately 30

                                      11
<PAGE>   12




clinics during fiscal 1996 that no longer met the Company's financial or
operating objectives resulted in a decrease in therapy services. The increase
in home health, hospice and other services is primarily due to the purchase of
Colorado Home Care in January 1997 and the purchase of the remaining 50%
interest in Heart of America Hospice during fiscal year 1997.

     Costs and expenses totaled $260.0 million for the quarter ended June 30,
1997, an increase of $1.7 million or 0.7%, as compared to the same period for
fiscal 1996. Excluding divested operations, payroll and employee benefits,
ancillary, and general and administrative costs increased $2.2, $9.2, and $2.6
million, respectively. The increase in ancillary services was primarily the
result of higher pharmaceutical costs related to the increase in pharmacy
services revenue. Bad debt expense increased $1.6 million due to focus Medicare
billing reviews in several states for therapy services and the increase in
pharmacy revenues which have a higher provision for bad debts. Divestitures,
primarily DevCon, reduced total expenses by $17.0 million. Total expenses in
the prior-year quarter also reflected life insurance proceeds of $2.0 million
received as a result of the death of the President of the Rehabilitation
Services Group.

     Net interest expense totaled $4.5 million for the quarter ended June 30,
1997, an increase of $1.6 million as compared to the same period for fiscal
1996. The increase reflected interest expense to finance the increase in
working capital, additional debt incurred to purchase $20.0 million of the
Company's common stock late in fiscal 1996, and acquisitions, investments, and
other capital expenditures during the quarter.

     The provision for income taxes totaled $10.1 million for the quarter ended
June 30, 1997 or 42.4% of income before income taxes, an increase of $2.7
million or 6.0 percentage points. The effective rate increase was primarily the
result of the non-taxable life insurance proceeds received in the prior-year
quarter as well as higher state income tax rates and an increase in
non-deductible goodwill.

     FISCAL 1997 YEAR-TO-DATE COMPARED TO FISCAL 1996 YEAR-TO-DATE. Net
revenues comprising nursing home and non-nursing home operations totaled $854.0
million for the nine months ended June 30, 1997, an increase of $24.3 million
or 2.9%, as compared to the same period for fiscal 1996. Revenues from nursing
home operations decreased $23.5 million, which included $51.0 million due to
divestitures, primarily the disposition of the DevCon operations in the fourth
quarter of fiscal 1996, a $5.9 million reduction due to lower average
occupancy, and a $1.1 million reduction due to an increase in Medicare
reserves. Rate increases of $25.2 million and higher ancillary service billings
of $10.3 million resulting from the improvement in mix, primarily Medicare,
partially offset the nursing home revenue decreases. Non-nursing home revenue
increased $47.8 million which consisted of an increase of $58.5 million for
pharmacy services, a decrease of $18.2 million for therapy services, and an
increase of $7.4 million from home health, hospice and other services. The
acquisition of pharmacies in fiscal year 1996 that occurred late in the third
quarter and during the fourth quarter primarily caused the increase in pharmacy
services. The closure of approximately 30 clinics during fiscal 1996 that no
longer met the Company's financial or operating objectives resulted in a
decrease in therapy services. The increase in home health, hospice and other
services was primarily due to the purchase of Colorado Home Care in January
1997 and the purchase of the remaining 50% interest in Heart of America Hospice
during fiscal year 1997.

     Costs and expenses totaled $778.0 million for the nine months ended June
30, 1997, an increase of $16.7 million or 2.2%, as compared to the same period
for fiscal 1996. Excluding divestitures, payroll and employee benefits,
ancillary, and general and administrative costs increased $11.7, $34.5, and
$7.5 million, respectively. The increase in ancillary services was primarily
the result of higher pharmaceutical costs related to the increase in pharmacy
services revenue. Bad debt expense increased $4.7 million, which included a
reduction of $1.4 million due to collection of a note receivable that was
substantially reserved. The remaining increase of $6.1 million was due to focus
Medicare billing reviews in several states for therapy services and the
increase in pharmacy revenues which have a higher provision for bad debts.
Divestitures, primarily DevCon, reduced total expenses by $46.3 million. Total
expenses in the prior-year also reflected life insurance proceeds of $2.0
million received as a result of the death of the President of the
Rehabilitation Services Group.

     Net interest expense totaled $12.9 million for the nine months ended June
30, 1997, an increase of $3.9 million as compared to the same period for fiscal
1996. The increase reflected interest expense to finance the increase in
working capital, additional debt incurred to purchase $20.0 million of the
Company's common stock late in fiscal 1996, and acquisitions, investments, and
other capital expenditures during the nine months ended June 30, 1997.

     The provision for income taxes totaled $26.4 million for the nine months
ended June 30, 1997 or 42.2% of income before income taxes, an increase of $3.2
million or 3.1 percentage points. The effective rate increase was primarily the
result of the non-taxable life insurance proceeds received in the prior-year as
well as higher state income tax rates and an increase in non-deductible
goodwill.


                                       12

<PAGE>   13




CAPITAL RESOURCES AND LIQUIDITY

     Cash and cash equivalents were $13.3 million at June 30, 1997 and working
capital was $154.6 million, an increase of $53.5 million during the first nine
months of fiscal 1997. Receivables increased by $52.1 million primarily
attributable to timing of collections of Medicare cost reports and rate
adjustments ($14.0 million), an increase in average days outstanding ($18.9
million), and revenue increases ($23.1 million). Receivables decreased by $10.5
million due to the collection of outstanding receivables from the Company's
third-party insurance carrier. The increase in receivables due to the timing of
collections on Medicare cost reports and other rate adjustments is related to
filing several requests for exception to Medicare routine cost limits in fiscal
1996. Review by the fiscal intermediary, approval by the Health Care Financing
Administration and processing for payment by the intermediaries of the filed
requests generally takes 12 to 18 months. The filing of requests for exceptions
to Medicare routine cost limits has continued in fiscal year 1997 at a rate
greater than in the prior year. The increase in receivables related to average
days outstanding is primarily related to the centralization of billing and
collection and focused billing review at the therapy operations. Centralization
of billing and collection temporarily delayed billing and increased the billing
cycle while focused billing review, primarily in Texas, substantially increased
the processing time for payment of therapy services by fiscal intermediaries.
The delays surrounding the centralization of billing are expected to be
resolved in the fourth quarter of fiscal 1997 with a return to normal billing
time frames occurring subsequently. The therapy operations were removed from
focused billing review for most services in Texas during the third quarter,
although certain other states remain on billing review.

     Cash used in investing activities was $68.6 million during the first nine
months of fiscal 1997 compared to $62.7 million for the same period in fiscal
1996. Investing activities in fiscal 1997 included the purchase of the
remaining 50% interest in Heart of America Hospice ($3.3 million), four
pharmacy related acquisitions ($5.6 million), construction of three assisted
living facilities and the expansion of existing facilities ($7.2 million), and
routine capital expenditures. Capital commitments on two assisted living
facilities remaining under construction and expansion of existing long-term
care facilities totaled $2.7 million at June 30, 1997. These commitments are
expected to be funded by cash from operations or the Bank Credit Facility. Cash
flow from the disposition of assets was primarily related to the divestiture of
two long-term care facilities in Texas. Restricted investments increased $25.0
million due to the collection of outstanding receivables from the Company's
third-party insurance carrier and current year funding.

     Financing activities provided $32.7 million during the first nine months
of fiscal 1997 and were primarily used to fund working capital, acquisitions,
investments and other capital expenditures. In addition to the Bank Credit
Facility, the Company has a lease arrangement providing for up to $100.0
million to be used as a funding mechanism for future skilled nursing and
assisted living facility acquisitions, development, and construction. The lease
is an unconditional "triple net" lease for all facilities covered for a period
of seven years. The Company guarantees a substantial portion of the residual
value of the facilities covered and has an option to purchase the facilities at
any time prior to the maturity date. At June 30, 1997 approximately $26.0
million of this arrangement was utilized.

     The Company's long-term strategy in managing working capital is to
maintain substantial available commitments under bank credit agreements or
other financial agreements to finance short-term and long-term capital
requirements in excess of internally generated cash.

RECAPITALIZATION AND MERGER

     As previously reported, the Company entered into two merger agreements on
May 7, 1997, one with an affiliate of Apollo Management, L.P. ("Apollo") and
the other with GranCare, Inc. ("GranCare"). These agreements were subsequently
amended on June 12, 1997.

     Under the terms of the merger agreements, as amended, Apollo will invest
approximately $228.0 million in a recapitalization transaction to purchase
approximately 5.6 million shares of newly-issued common stock of the Company at
$40.50 per share. In connection with the recapitalization, existing
shareholders of the Company will receive $40.50 per share in cash for 93% of
the outstanding shares of the Company and will retain 7% of such stock after
the recapitalization. Specifically, unless some of the Company's shareholders
elect to retain a larger percentage of their shares, each share will be
converted into approximately $37.67 in cash plus 0.07 shares.



                                       13

<PAGE>   14




     Upon completion of the recapitalization, GranCare will merge with and into
a subsidiary of the Company. In the merger, approximately 10% of the
outstanding shares of GranCare common stock will be converted into the right to
receive $10.00 per share in cash and each other share of GranCare common stock
will be exchanged for 0.2469 shares of the newly-issued common stock of the
Company, as recapitalized. Immediately after the recapitalization and merger
transactions, Apollo will own approximately 45.5% of the then outstanding
shares of the Company, GranCare shareholders will own approximately 43.1%, and
the Company's current shareholders will own the remaining 11.4%.

     The recapitalization and merger are each subject to the consummation of
the other, the availability of necessary financing, approvals by the
shareholders of the Company and GranCare, receipt of required regulatory
approvals, and other customary conditions.

     On August 8, 1997 the Company announced that it had been advised by
GranCare that a preliminary injunction had been granted by Delaware Chancery
Court to Vitalink Pharmacy Services, Inc. and Manor Care, Inc. which enjoins
the proposed transaction among Apollo, GranCare, and the Company. Living
Centers, which is not a party to the litigation, remains committed to
completing the transaction pursuant to the terms of the existing merger
agreements.

PART II.          OTHER INFORMATION

ITEM 1.           LEGAL PROCEEDINGS

                           The Company has been served with a Petition, Cause 
                  No. 97-1500-G, Community Healthcare Services of America, Inc.
                  v. Rehability Health Services, Inc. and Living Centers of
                  America, Inc., in the 319th Judicial District Court of Nueces
                  County, Texas, seeking $5.0 million in damages, filed by
                  Community Health Services, Inc. ("Community"), in connection
                  with a home health agency management agreement entered into
                  between Community and a subsidiary of Rehability, the
                  predecessor of the Company's rehabilitation subsidiary
                  company, American Rehability Services, Inc. The Rehability
                  subsidiary operated a Texas home health agency which
                  Community managed. The Company is vigorously defending the
                  allegations of Community that the Company breached the
                  agreement by terminating Community's management services and
                  has filed a lawsuit against Community for breach of the
                  agreement, Cause No. 97-03569; Rehability Health Services,
                  Inc. v. Community Healthcare Services, Inc., in the 353rd
                  Judicial District Court of Travis County, Texas.

ITEM 6.           EXHIBITS AND REPORTS ON FORM 8-K

         (a)      Exhibit Index

<TABLE>
<CAPTION>
Exhibit                                                                  Page
Number                                                                  Number
------                                                                  ------
<S>       <C>                                                             <C>
2.1       Amended and Restated Agreement and Plan of Merger among         16
          Apollo Management, L.P., Apollo LCA Acquisition
          Corporation and Living Centers of America, Inc.
2.2       Amended and Restated Agreement and Plan of Merger among         46
          Living Centers of America, Inc., GranCare, Inc. and Apollo
          Management, L.P.
11        Statement re: Computation of Per Share Earnings                 78
27        Financial Data Schedule                                         80
</TABLE>


         (b)      Reports on Form 8-K

                       On May 8, 1997 the Company filed Form 8-K regarding the
                  announced execution of agreements for a leveraged
                  recapitalization of the Company to be followed immediately by
                  a business combination with GranCare, Inc.


                                       14

<PAGE>   15




                                   SIGNATURES



     Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this amendment to be
signed on its behalf by the undersigned, thereunto duly authorized.



                                  LIVING CENTERS OF AMERICA, INC.            
                                       (Registrant)                          
August 8, 1997
                                                                             
                                           By:   /s/ Charles B. Carden       
                                               -------------------------------
                                               Charles B. Carden             
                                               Executive Vice President and 
                                               Chief Financial Officer       
                                                                             
                                           By:   /s/ Ronald W. Fleming       
                                               -------------------------------
                                               Ronald W. Fleming             
                                               Vice President and Controller 
                                               (Principal Accounting Officer)

                                       15

<PAGE>   16
                                 EXHIBIT INDEX

Exhibit                                                              
Number                                                               
------                                                               
2.1       Amended and Restated Agreement and Plan of Merger among    
          Apollo Management, L.P., Apollo LCA Acquisition
          Corporation and Living Centers of America, Inc.

2.2       Amended and Restated Agreement and Plan of Merger among      
          Living Centers of America, Inc., GranCare, Inc. and Apollo
          Management, L.P.

11        Statement re: Computation of Per Share Earnings              

27        Financial Data Schedule