SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON, DC 20549

                                    FORM 10-K


                        FOR ANNUAL AND TRANSITION REPORTS
                     PURSUANT TO SECTIONS 13 OR 15(d) of THE
                         SECURITIES EXCHANGE ACT OF 1934

(mark one)

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

                  For the fiscal year ended December 31, 2001

                                       OR

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

                        Commission File Number 001-16817

                          FIVE STAR QUALITY CARE, INC.
           (Exact name of the Registrant as specified in its Charter)

                      Maryland                                 04-3516029
  (State or Other Jurisdiction of Incorporation or           (IRS Employer
                    Organization)                           Identification No.)

    400 Centre Street, Newton, Massachusetts                       02458
     (Address of Principal Executive Office)                     (Zip Code)

                                  617-796-8387
              (Registrant's Telephone Number, Including Area Code)

           Securities registered pursuant to Section 12(b) ofthe Act:


 Title of Each Class                   Name of Each Exchange on Which Registered

    Common Stock                               American Stock Exchange

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

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 [ ]

Indicate by check mark if disclosure of delinquent  filers  pursuant to Item 405
of Regulation  S-K is not contained  herein,  and will not be contained,  to the
best of registrant's  knowledge,  in definitive proxy or information  statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]

<PAGE>
The  aggregate  market  value  of the  voting  stock of the  registrant  held by
non-affiliates  was $31.9  million  based on $7.40 per share,  the last reported
sale price of the shares of the registrant's  common stock,  $0.01 par value per
share (the "Common  Shares"),  on the American Stock Exchange on March 25, 2002.
For purposes of  determining  the  aggregate  market  value of the  registrant's
voting stock,  310,732.6 Common Shares held by the Directors and officers of the
registrant have been included in the number of shares held by affiliates. 35,000
Common  Shares  held by Senior  Housing  Properties  Trust are  included  in the
aggregate total of 310,732.6 Common Shares.

Number of the  registrant's  Common  Shares  outstanding  as of March 25,  2002:
4,624,334

                       DOCUMENTS INCORPORATED BY REFERENCE

Part III of this  Annual  Report  on Form 10-K is to be  incorporated  herein by
reference from the definitive  Proxy  Statement of Five Star Quality Care,  Inc.
(referred to as "us",  "we",  "our" or the  "Company") for its annual meeting of
shareholders currently scheduled to be held on May 7, 2002.

                                 ---------------

                            CERTAIN IMPORTANT FACTORS

         We have made statements that are not historical facts in this Form 10-K
that  constitute  "forward-looking  statements"  as that term is  defined in the
Private  Securities   Litigation  Reform  Act  of  1995.  These  forward-looking
statements concern: our ability to successfully close our pending acquisition on
negotiated terms or at all; our ability to manage  effectively the 56 facilities
we lease from Senior Housing  Properties  Trust and the communities we intend to
acquire;  Marriott Senior Living Services,  Inc.'s ability to manage effectively
the 31  retirement  communities  we lease from  Senior  Housing;  our ability to
generate  revenues in excess of our operating  expenses and the  sufficiency  of
these  and other  resources  to  provide  capital  for our  growth or to pay our
liabilities,  including rent, as they come due; our ability to close our pending
$20 million line of credit; our ability to access additional capital to fund our
operations  and  growth;  our  ability  to  acquire  and  operate   successfully
additional  senior living  businesses;  our tax status as a "United  States real
property holding  corporation"  assuming completion of our pending  acquisition;
and our ability to operate  successfully  as a separate  public  company.  Also,
whenever we use words such as "believe", "expect",  "anticipate",  "estimate" or
similar expressions, we are making forward-looking  statements.  Forward-looking
statements are not guaranteed to occur and involve risks and uncertainties.  Our
expected results may not be achieved,  and actual results may differ  materially
from our expectations. Investors should not rely upon forward-looking statements
except as statements of our present  intentions and of our present  expectations
which may or may not occur. The accompanying  information contained in this Form
10-K, including the information under the headings "Business and Properties" and
"Management's  Discussion  and  Analysis of Financial  Condition  and Results of
Operations",   identifies   other  important   factors  that  could  cause  such
differences.



<PAGE>
<TABLE>
<CAPTION>
                                           FIVE STAR QUALITY CARE, INC.
                                           2001 FORM 10-K ANNUAL REPORT

                                                Table of Contents


                                                                                                             Page
<S>                <C>                                                                                       <C>
                                                      PART I

Items 1 & 2         Business and Properties....................................................................1
Item 3              Legal Proceedings.........................................................................19
Item 4              Submission of Matters to a Vote of Security Holders.......................................19

                                                     PART II

Item 5              Market for the Registrant's Common Equity and Related Shareholder Matters.................20
Item 6              Selected Financial Data...................................................................20
Item 7              Management's Discussion and Analysis of Financial Condition and Results of
                      Operations..............................................................................22
Item 7A             Quantitative and Qualitative Disclosures About Market Risk................................27
Item 8              Financial Statements and Supplementary Data...............................................27
Item 9              Changes in and Disagreements with Accountants on Accounting and Financial Disclosure......27

                                                     PART III

To be  incorporated  by reference  from our definitive  Proxy  Statement for the
annual meeting of  shareholders  currently  scheduled to be held on May 7, 2002,
which is  expected  to be filed not later than 120 days after the end of the our
fiscal year.

                                                     PART IV

Item 14             Exhibits, Financial Statement Schedules and Reports on Form 8-K...........................28

</TABLE>
<PAGE>
Items 1 and 2.  Business and Properties

GENERAL

         We are in the business of operating senior living facilities, including
independent  living and congregate care communities,  assisted living facilities
and nursing homes. We lease and operate 56 senior living facilities. We lease 31
communities  managed by Marriott Senior Living Services,  Inc.  ("Marriott"),  a
subsidiary of Marriott International,  Inc. Combined, these 87 facilities, which
we lease from Senior Housing Properties Trust ("Senior Housing"),  include 4,060
independent  living  apartments,  1,766 assisted living suites, 294 special care
beds and  6,578  nursing  beds;  59% of  their  revenues  in 2001 was paid  from
residents' private resources and 41% was paid by Medicare and Medicaid.

         We have recently agreed to purchase five senior living communities from
ILM II Senior Living,  Inc. and its subsidiary,  ILM II Holding,  Inc., which we
will own and operate.  In  combination  with our existing  facilities,  these 92
facilities include 4,591 independent  living  apartments,  1,939 assisted living
suites,  294 special care beds and 6,578 nursing beds.  Sixty percent of our pro
forma revenues from these 92 facilities in 2001 was paid from residents' private
resources and 40% was paid by Medicare and Medicaid:

       FIVE STAR UNITS AFTER                    FIVE STAR REVENUES AFTER
 COMPLETION OF PENDING ACQUISITION          COMPLETION OF PENDING ACQUISITION

[Pie Chart                                   [Pie Chart
     6,578 nursing beds        49%                Revenues from
     4,591 indep. liv. apts.   35%                private resources:
     1,939 asst. liv. suites   14%                $313 million             60%
       294 spec. care beds      2%]               Revenues from
                                                  Medicare/Medicaid
                                                  Programs:
                                                  $206 million             40%]

OUR BUSINESS AND GROWTH STRATEGY

         Our growth strategy is to acquire  facilities that provide high quality
services to residents who pay with private resources. In January 2002, we leased
31 senior  living  communities  from Senior  Housing.  Approximately  88% of the
revenues  from  these  communities  is  paid by  residents  from  their  private
resources.  At the  five  communities  we have  agreed  to  acquire,  all of the
revenues are paid by residents from private resources.  Our nursing homes derive
a majority of their  revenues from  Medicare and Medicaid.  In the future we may
decide to expand our nursing home operations; however, if we do so, we expect to
price such  acquisitions  at levels  which take account of the  increased  risks
associated with Medicare and Medicaid revenues.

         Our senior  management  team has  significant  experience in the senior
living industry.  Although we have substantial lease  obligations,  we currently
have zero debt.  We believe our  relationship  with our former  parent  company,
Senior  Housing,  may provide us with capital to finance some  acquisitions.  We
believe that this  combination  of our  experienced  management,  our  financial
position and our

                                        1
<PAGE>
relationship  with Senior  Housing will enable us to expand our  operations  and
compete successfully in the senior living industry.

OUR HISTORY

         In July 2000,  Senior  Housing  repossessed  or acquired  senior living
facilities from two former tenants. We were created by Senior Housing in 2000 as
a 100% subsidiary to conduct the businesses of operating these facilities. Under
the amended Internal Revenue Code, or IRC, Senior Housing was required to engage
an independent  operating  company to manage the healthcare  businesses which we
owned.  Barry M. Portnoy and Gerard M. Martin,  our Managing  Directors,  formed
FSQ,  Inc.  to manage  these  facilities.  During the past year,  we believe the
combined operations at these 56 facilities have stabilized and improved.

         In August 2001,  Senior  Housing  agreed to acquire 31 Marriott  senior
living  facilities.  The  operations  at these 31  communities  are  managed  by
Marriott under long term management contracts. The operating income generated by
these  facilities is not REIT qualified  income under  applicable IRC rules.  To
complete  this  acquisition  and remain a REIT,  Senior  Housing was required to
identify a taxable entity to lease these facilities.

         On December 31, 2001, Senior Housing  distributed  substantially all of
our outstanding  shares to its  shareholders  and we became a separate  publicly
owned company listed on the American Stock Exchange. Pursuant to the transaction
agreement  governing  this  spin-off:  Senior  Housing  capitalized  us with $50
million of equity,  consisting of cash and working capital,  primarily operating
receivables  net of  operating  payables;  we leased 56  facilities  from Senior
Housing;  we agreed to merge with FSQ,  Inc. in order to acquire the  personnel,
systems and assets  necessary to operate these 56  facilities;  and we agreed to
lease the 31 Marriott communities from Senior Housing when they were acquired by
Senior Housing.

         Effective  January 2, 2002,  we completed  our merger with FSQ, Inc. As
consideration  for this merger Messrs.  Portnoy and Martin each received 125,000
of our Common Shares.

         On January 10, 2002,  we entered a  non-binding  letter of intent for a
new,  three year,  $20 million credit line which will be secured by our accounts
receivable.  Although  the closing of this  transaction  is subject to customary
conditions, we expect it to occur on or before April 30, 2002.

         On January 11, 2002, Senior Housing completed its acquisition of the 31
Marriott communities, and we leased these facilities from Senior Housing.

         On  January  23,  2002,   we  agreed  to  acquire  five  senior  living
communities  for $45.5  million.  The closing of this  acquisition is subject to
completion  of various  state  licensing  matters  and other  customary  closing
conditions,  and although we expect it to be completed during April 2002, we can
give no assurances that it will close.

TYPES OF FACILITIES

         Our present  business plan  contemplates  the leasing and management of
senior apartments, independent living apartments or congregate care communities,
assisted living facilities and nursing homes. Some facilities  combine more than
one type of service in a single building or campus.

         Senior Apartments.  Senior apartments are marketed to residents who are
generally capable of caring for themselves.  Residence is usually  restricted on
the basis of age.  Purpose built  facilities  may have special  function  rooms,
concierge  services,  high levels of security  and  assistance  call systems for
emergency use.  Tenants at these  facilities  who need  healthcare or assistance
with the activities of daily living are expected to contract  independently  for
these services with home healthcare companies.

                                       2
<PAGE>
         Independent  Living  Apartments.   Independent  living  apartments,  or
congregate  care  communities  as they are sometimes  called,  also provide high
levels of privacy to residents and require residents to be capable of relatively
high degrees of independence. Unlike a senior apartment facility, an independent
living  apartment  usually bundles several services as part of a regular monthly
charge-for  example,  one or two meals per day in a central dining room,  weekly
maid service and a social director.  Additional services are generally available
from  staff  employees  on a  fee-for-service  basis.  In some  congregate  care
communities,  separate parts of the facility are dedicated to assisted living or
nursing services.

         Assisted Living  Facilities.  Assisted living  facilities are typically
comprised of one bedroom suites which include  private  bathrooms and efficiency
kitchens. Services bundled within one charge usually include three meals per day
in a central dining room, daily housekeeping,  laundry, medical reminders and 24
hour  availability  of  assistance  with the  activities of daily living such as
dressing and bathing.  Professional  nursing and healthcare services are usually
available at the facility on call or at regularly scheduled times.

         Nursing Homes.  Nursing homes generally  provide  extensive nursing and
healthcare  services  similar to those available in hospitals,  without the high
costs  associated  with operating  theaters,  emergency  rooms or intensive care
units. A typical purpose built nursing home includes mostly two-bed units with a
separate  bathroom in each unit and shared dining and bathing  facilities.  Some
private  rooms are often  available  for those  residents  who can afford to pay
higher rates or for  patients  whose  medical  conditions  require  segregation.
Nursing homes are generally  staffed by licensed nursing  professionals 24 hours
per day.

         During  the past few  years,  nursing  home  operators  have  faced two
significant  business  challenges.  First,  the rapid  expansion of the assisted
living  industry  which  started in the early  1990s has  attracted  a number of
residents away from nursing homes. This was especially  significant  because the
residents who chose assisted  living  facilities  often  previously had been the
most  profitable  residents in the nursing  homes.  These  residents  required a
lesser  amount of care and were able to pay higher  private  rates  rather  than
government rates.

         The second major  challenge  arose as a result of Medicare and Medicaid
cost containment laws,  particularly 1997 federal  legislation that required the
Medicare program to implement a prospective payment program for various subacute
services provided in nursing homes.  Implementation of this Medicare prospective
payment program began on July 1, 1998. Prior to the prospective payment program,
Medicare  generally  paid nursing home  operators  based upon audited  costs for
services provided.  The new prospective payment system sets Medicare rates based
upon  government  estimated  costs of  treating  specified  medical  conditions.
Although it is possible  that a nursing  home may  increase  its profit if it is
able to provide  services at below average costs,  we believe that the effect of
the  Medicare  prospective  payment  system  has been and will be to reduce  the
profitability of Medicare  services in nursing homes.  This belief is based upon
our observation of the impact of similar  Medicare changes that were implemented
for hospitals  during the 1980s and the large number of bankruptcies  which have
occurred in the nursing home industry since the  implementation  of the Medicare
prospective payment system began.

                                       3
<PAGE>
OUR SENIOR LIVING FACILITIES

         Assuming we close our pending acquisition of five communities,  we will
lease or operate 92 senior living facilities: five facilities which we expect to
own and operate directly;  56 facilities  included in one lease which we operate
directly;  and 31  communities  included in a second  lease which are managed by
Marriott:
<TABLE>
<CAPTION>
                                                  No. of Units                                       Year ended December 31, 2001
                                    --------------------------------------------------               ----------------------------
                                    Independent      Assisted      Specialty
                                       Living         Living         Care      Nursing
Ownership                            Apartments       Suites         Beds        Beds        Total        Rent          Revenues
---------                            ----------       ------         ----        ----        -----        ----          --------
                                                                                                           ($ in thousands)
<S>                                     <C>            <C>          <C>         <C>          <C>         <C>            <C>
Pending acquisition (5 facilities
   owned and operated by us) ....        531            173           --           --          704          N/A          $ 14,194(2)
Senior Housing Lease No. 1 (56
   facilities operated by us)....         79            153           --        4,979        5,211     $  7,000           227,044
Senior Housing Lease No. 2 (31
   facilities managed by
   Marriott) ....................      3,981          1,613          294        1,599        7,487       63,000(1)        277,461
                                       -----          -----          ---        -----       ------
Total units: ....................      4,591          1,939          294        6,578       13,402
<FN>
(1)  In addition to the $63 million of rent, we are required to pay a percentage  of our gross revenue as an escrowed  reserve for
     recurring capital expenditures. In 2001 this pro forma amount was $7.4 million.

(2)  For the twelve months ended November 30, 2001.
</FN>
</TABLE>
PENDING ACQUISITION

         In January 2002,  we agreed to purchase five senior living  communities
from ILM II Senior  Living,  Inc. and its  subsidiary  ILM II Holding,  Inc. Our
acquisition of these five  communities is subject to completion of various state
licensing matters and other customary closing conditions. At this time we expect
to own and operate these  communities  directly.  In the future we may decide to
finance these properties with Senior Housing or another third party.  These five
communities  contain  704  living  units and are  located  in five  states.  The
following table provides additional information about these five communities and
their current operations:
<TABLE>
<CAPTION>
                                                                                                                Percent of
                                                                                                             revenues from
                                                No.                                                            private pay
Location                                   of units  Type of units         Occupancy (1)     Revenues (2)          sources
--------------------------------------------------------------------------------------------------------------------------
                                                                                           ($ in thousands)
<S>                                             <C>                           <C>             <C>               <C>
 1. Stockton, CA.........................        84  ind. liv. apts.
                                                 80  asst. liv. suites
                                                ---
                                                164  total units               94%             $3,406             100%

 2. Ft. Myers, FL........................       186  ind. liv. apts.
                                                 20  asst. liv. suites
                                                ---
                                                206  total units               90%              4,107             100%

 3. Overland Park, KS....................       141  ind. liv. apts.           91%              2,887             100%

 4. Florissant, MO.......................       120  ind. liv. apts.           81%              1,974             100%

 5. Omaha, NE............................        73  asst. liv. suites         82%              1,820             100%
                                                ---

 Totals: 5 communities in 5 states.......       531  ind. liv. apts.
                                                173  asst. liv. suites
                                                ---                                         ---------
                                                704  units                     88%            $14,194             100%
-----------
<FN>
(1)      As of November 30, 2001.

(2)      For the twelve months ended November 30, 2001.
</FN>
</TABLE>
                                       4
<PAGE>
SENIOR HOUSING LEASE NO. 1 FACILITIES

         We lease and  operate 56 senior  living  facilities  which are owned by
Senior  Housing.  These 56 facilities  include 54 nursing homes and two assisted
living  facilities;  four of the nursing homes also contain some assisted living
units or independent living  apartments.  These 56 facilities have 5,211 beds or
living units and they are located in 12 states.  The  following  table  provides
additional information about these facilities and their current operations as of
and for the year ended December 31, 2001:
<TABLE>
<CAPTION>
                                                     Percent of                                                       Percent of
                                                  revenues from                                                     revenues from
                                       Revenues       Medicare/                                         Revenues        Medicare/
Location/Units                Occpy.  ($ in 000s)     Medicaid       Location/Units             Occpy.  ($ in 000s)      Medicaid
---------------------------------------------------------------      ------------------------------------------------------------
<C>  <C>                        <C>     <C>               <C>       <C>   <C>                    <C>     <C>             <C>
1.    Phoenix, AZ                80%     $4,367            80%       24.   Des Moines, IA          88%    $3,862          80%
      119 nursing beds                                                     85 nursing beds
                                                                     25.   Glenwood, IA           100%     6,754          99%
2.    Yuma, AZ                   92%      6,080            80%             116 nursing beds
      125 nursing beds                                               26.   Mediapolis, IA          89%     2,299          66%
3.    Yuma, AZ                   84%        576             0%             62 nursing beds
      52 asst. liv. suites                                           27.   Pacific Junction, IA   100%       733          96%
4.    Arleta, CA                 87%      1,473             0%             12 nursing beds
      85 asst. liv. suites                                           28.   Winterset, IA           70%     2,637          50%
5.    Lancaster, CA              94%      4,860            67%             98 nursing beds
      99 nursing beds                                                      19 ind. liv. apts.
6.    Stockton, CA               97%      6,620            72%       29.   Ellinwood, KS           93%     1,821          56%
      116 nursing beds                                                     55 nursing beds
7.    Thousand Oaks, CA          94%      7,142            72%             4 ind. liv. apts.
      124 nursing beds                                               30.   Farmington, MI          76%     9,985          78%
8.    Van Nuys, CA               97%      2,835            83%             149 nursing beds
      58 nursing beds                                                31.   Howell, MI              88%     9,999          86%
9.    Canon City, CO             91%      3,576            62%             149 nursing beds
      85 nursing beds                                                32.   Tarkio, MO              69%     1,936          70%
      48 ind. liv. apts.                                                   75 nursing beds
10.   Cherrelyn, CO              90%      9,272            83%       33.   Ainsworth, NE           87%     1,652          71%
      198 nursing beds                                                     48 nursing beds
11.   Colorado Springs, CO      100%      3,833            75%       34.   Ashland, NE             94%     4,423          69%
      75 nursing beds                                                      101 nursing beds
12.   Delta, CO                  78%      3,572            83%       35.   Blue Hill, NE           85%     2,136          69%
      76 nursing beds                                                      63 nursing beds
      16 asst. liv. suites                                           36.   Campbell, NE            85%     1,538          76%
13.   Grand Junction, CO         87%      4,152            62%             45 nursing beds
      95 nursing beds                                                37.   Central City, NE        95%     2,310          73%
14.   Grand Junction, CO         93%      4,221            71%             65 nursing beds
      82 nursing beds
15.   Lakewood, CO               86%      5,677            82%       38.   Columbus, NE            98%     2,087          63%
      125 nursing beds                                                     48 nursing beds
16.   New Haven, CT              98%     10,101            95%       39.   Edgar, NE               86%     1,680          66%
      150 nursing beds                                                     52 nursing beds
17.   Waterbury, CT              95%     10,109            93%       40.   Exeter, NE              87%     1,489          58%
      150 nursing beds                                                     48 nursing beds
18.   College Park, GA           91%      3,163            98%
      99 nursing beds                                                41.   Grand Island, NE        98%     3,091          66%
19.   Dublin, GA                 85%      3,798            97%             74 nursing beds
      130 nursing beds                                               42.   Gretna, NE              93%     2,459          67%
20.   Glenwood, GA               81%      1,694            95%             63 nursing beds
      61 nursing beds                                                43.   Lyons, NE               81%     1,822          57%
21.   Marietta, GA               87%      3,745            88%             63 nursing beds
      109 nursing beds                                               44.   Milford, NE             90%     1,950          69%
22.   Clarinda, IA               60%      2,366            70%              54 nursing beds
      96 nursing beds                                                45.   Sutherland, NE          92%     2,354          80%
23.   Council Bluffs, IA         95%      2,428            87%             62 nursing beds
      62 nursing beds                                                46.   Utica, NE               96%     1,715          75%
                                                                           40 nursing beds

</TABLE>

                                       5
<PAGE>
<TABLE>
<CAPTION>
                                                     Percent of                                                    Percent of
                                                  revenues from                                                 revenues from
                                       Revenues       Medicare/                                      Revenues       Medicare/
Location/Units                Occpy.  ($ in 000s)     Medicaid       Location/Units         Occpy.  ($ in 000s)      Medicaid
---------------------------------------------------------------      --------------------------------------------------------
<C>  <C>                      <C>      <C>             <C>           <C>                        <C>     <C>             <C>
 47.   Waverly, NE             86%      $2,003          49%           53.   Pewaukee, WI         84%     $7,275          71%
       50 nursing beds                                                      175 nursing beds
 48.   Brookfield, WI          95%      11,612          73%           54.   Waukesha, WI         96%      5,327          56%
       226 nursing beds                                                     105 nursing beds
 49.   Clintonville, WI        87%       3,634          74%           55.   Laramie, WY          92%      4,416          70%
       101 nursing beds                                                     98 nursing beds
 50.   Clintonville, WI        94%       3,264          67%           56.   Worland, WY          84%      3,414          71%
       61 nursing beds                                                      85 nursing beds
 51.   Madison, WI             74%       2,891          59%                 8 ind. liv. apts.
       63 nursing beds                                                -------------------------------------------------------
 52.   Milwaukee, WI           80%       6,816          76%           Totals:  56 facilities     88%   $227,044          76%
       154 nursing beds                                                        in 12 states,
                                                                               5,211 units
</TABLE>
         After it repossessed or acquired the foregoing  facilities  from former
tenants, Senior Housing undertook to correct deferred maintenance which had been
allowed to occur by former operators.  Between July 2000 and December 2001, $8.3
million  was spent by Senior  Housing  under  this  program.  At the time of our
spin-off from Senior Housing, Senior Housing provided us cash of $1.6 million to
fund the estimated costs of these projects which remained unfinished. During the
course of these  projects,  parts of these  facilities are sometimes  closed and
these  closings  can  adversely  impact  occupancy;  however,  we believe  these
projects are necessary for  continuing  operations at these  facilities  and may
make the facilities more  attractive to residents.  We expect this correction of
deferred maintenance projects to be completed in 2002.


                                       6
<PAGE>
OUR LEASE FOR THE 56 FACILITIES

         One of our subsidiaries  leases the 56 facilities  described above; and
we have guaranteed our subsidiary's  obligations  under the lease. The lease has
been filed as an exhibit to this  Annual  Report on Form 10-K.  If you want more
information  about the lease  terms,  you  should  read the  entire  lease.  The
following is a summary of material terms of this lease:

         Operating  Costs.  The lease is a  so-called  "triple-net"  lease which
requires  us to pay all  costs  incurred  in the  operation  of the  facilities,
including  the costs of  personnel,  service to  residents,  insurance  and real
estate and personal property taxes.

         Minimum Rent.  Our minimum rent is $7 million per year.

         Percentage  Rent.  Starting in 2004, we are required to pay  additional
rent with respect to each lease year in an amount equal to three percent (3%) of
net patient  revenues at each leased facility in excess of net patient  revenues
at the facility during 2003.

         Term.  The initial term expires on December 31, 2018.

         Renewal  Option.  We have the option to renew the lease for all but not
less than all the 56  facilities  for one renewal  term  ending on December  31,
2033, by notice on or before December 31, 2015. We may not exercise this renewal
option  unless  we also  exercise  our  renewal  option  under our lease for the
Marriott facilities.

         Rent  During   Renewal  Term.   Rent  during  the  renewal  term  is  a
continuation  of minimum rent and  percentage  rent  payable  during the initial
term.

         Maintenance and  Alterations.  We are required to operate  continuously
and maintain,  at our expense,  the leased  facilities in good order and repair,
including structural and nonstructural components. We may request Senior Housing
to  fund  amounts  needed  for  repairs  and  renovations  in  return  for  rent
adjustments to provide Senior Housing a return on its investment  according to a
formula set forth in the lease. At the end of the lease term, we are required to
surrender the leased  facilities in substantially  the same condition as existed
on the commencement date of the lease, subject to any permitted  alterations and
subject to ordinary wear and tear.

         Assignment  and  Subletting.  Senior  Housing's  consent  is  generally
required  for any  direct  or  indirect  assignment  or  sublease  of any of the
facilities.  In the event of any assignment or subletting, we will remain liable
under the lease.

         Environmental  Matters. We are required,  at our expense, to remove and
dispose of any hazardous  substance at the leased  facilities in compliance with
all applicable  environmental  laws and regulations.  We have indemnified Senior
Housing  for any  liability  which  may  arise as a result  of the  presence  of
hazardous  substances at any leased facilities and from any violation or alleged
violation of any applicable environmental law or regulation.

         Indemnification and Insurance. With limited exceptions, we are required
to  indemnify  Senior  Housing  from all  liabilities  which may arise  from the
ownership or operation of the facilities.  We generally are required to maintain
commercially reasonable insurance, including:

o        "all-risk" property  insurance,  in an amount equal to 100% of the full
         replacement cost of the facilities;

o        business interruption insurance;

o        comprehensive general liability insurance,  including bodily injury and
         property  damage,  in amounts as are generally  maintained by companies
         providing senior living services;

                                       7
<PAGE>
o        flood  insurance  if any  facility  is located in whole or in part in a
         flood plain;

o        worker's compensation insurance if required by law; and

o        such additional  insurance as may be generally  maintained by companies
         providing senior living services.

         The  lease  requires  that  Senior  Housing  be named as an  additional
insured under these policies.

         Damage, Destruction or Condemnation. If any of the leased facilities is
damaged by fire or other  casualty or taken for a public  use, we are  generally
obligated  to rebuild  unless the facility  cannot be restored.  If the facility
cannot be restored,  Senior  Housing  will  generally  receive all  insurance or
taking  proceeds  and we are  liable to  Senior  Housing  for the  amount of any
deductible  or  deficiency  between  the  replacement  cost  and  the  insurance
proceeds.

         Events of  Default.  Events of  default  under  the lease  include  the
following:

o        our failure to pay rent or any other sum when due;

o        our failure to maintain the insurance required under the lease;

o        the occurrence of certain events with respect to our insolvency;

o        the institution of a proceeding for our dissolution;

o        any person or group of affiliated  persons acquiring  ownership of more
         than 9.8% of us without Senior Housing's consent;

o        any change in our  control or sale of a material  portion of our assets
         without Senior Housing's consent;

o        our default under the lease for the Marriott facilities;

o        our default under any indebtedness  which gives the holder the right to
         accelerate;

o        our being declared  ineligible to receive  reimbursement under Medicare
         or Medicaid programs for any of the leased facilities; and

o        our failure to perform any terms,  covenants or agreements of the lease
         and the  continuance  thereof  for a  specified  period  of time  after
         written notice.

         Remedies.  Upon the  occurrence  of any  event of  default,  the  lease
provides  that,  among other things,  Senior  Housing may, to the extent legally
permitted:

o        accelerate the rent;

o        terminate the lease;

o        terminate the other lease which we have with Senior Housing;

o        enter the  property  and take  possession  of any and all our  personal
         property and retain or sell the same at a public or private sale; and

o        make any payment or perform  any act  required  to be  performed  by us
         under the lease.

         We are obligated to reimburse Senior Housing for all costs and expenses
incurred in connection with any exercise of the foregoing remedies.

         Management.  We may not  enter  into,  amend or modify  any  management
agreement  affecting any leased  property  without the prior written  consent of
Senior Housing.

                                       8
<PAGE>
         Lease Subordination.  Our lease may be subordinated to any mortgages of
the leased properties by Senior Housing.

         Financing  Limitations;  Security. We may not incur debt secured by our
investments  in  our  tenant  subsidiary.  Further,  our  tenant  subsidiary  is
prohibited from incurring  liabilities other than operating liabilities incurred
in the  ordinary  course of  business,  those  liabilities  secured by  accounts
receivables or purchase money debt. We are required to pledge 100% of the equity
interests of our tenant subsidiary to Senior Housing or its lenders.

SENIOR HOUSING LEASE NO. 2 FACILITIES

         We lease 31 senior  living  facilities  from Senior  Housing  which are
managed by Marriott. These facilities contain 7,487 living units and are located
in 13 states.  The following table provides  additional  information about these
facilities  and their current  operations as of and for  Marriott's  fiscal year
ended December 28, 2001:
<TABLE>
<CAPTION>
                                                                                 Year ended December 28, 2001
                                                                           ---------------------------------------
                                                                                                           Percent
                                 Ind.   Asst.    Spec.                                                 of revenues
                                 liv.    liv.    care   Nursing                           Revenues    from private
      Location                  apts.  suites    beds      beds    Totals   Occupancy  ($ in 000s)   pay resources
------------------------------------------------------------------------------------------------------------------
<S>                              <C>     <C>     <C>       <C>       <C>         <C>       <C>             <C>
   1. Peoria, AZ..............    155      79      --        57       291         90%       $9,119           93%
   2. Scottsdale, AZ..........    167      33      --        96       296         91%       10,675           90%
   3. Tucson, AZ..............    202      30      27        67       326         96%       11,835           92%
4.,5. San Diego, CA...........    246     100      --        59       405         93%       18,380           98%
   6. Newark, DE..............     62      26      --       110       198         97%        9,865           66%
   7. Wilmington, DE..........    140      37      --        66       243         97%       11,495           82%
   8. Wilmington, DE..........     71      44       _        46       161         94%        6,070           93%
   9. Wilmington, DE..........     62      15       _        82       159         93%        7,664           66%
  10. Wilmington, DE..........     --      51      26        31       108         72%        3,259          100%
  11. Coral Springs, FL.......    184      62      --        35       281         91%        9,317           84%
  12. Deerfield Beach, FL.....    198      33      --        60       291         88%       10,339           69%
  13. Ft. Lauderdale, FL......     --     109      --        --       109         90%        2,096          100%
  14. Ft. Myers, FL...........     --      85      --        --        85         90%        2,234          100%
  15. Palm Harbor, FL.........    230      87      --        --       317         82%        7,184          100%
  16. West Palm Beach, FL.....    276      64      --        --       340         84%        7,220          100%
  17. Indianapolis, IN........    117      --      30        74       221         93%       10,623           82%
  18. Overland Park, KS.......    117      30      --        60       207         94%        8,087           90%
  19. Lexington, KY...........    140       9      --        --       149         94%        4,128          100%
  20. Lexington, KY...........     --      22      --       111       133         95%        6,952           66%
  21. Louisville, KY..........    240      44      --        40       324         97%       10,465           91%
  22. Winchester, MA..........     --     125      --        --       125         99%        5,669          100%
  23. Lakewood, NJ............    217     108      --        60       416         80%       15,039           88%
  24. Albuquerque, NM.........    114      34      --        60       208         99%        9,235           95%
  25. Columbus, OH............    143      87      25        60       315         93%       13,396           93%
  26. Myrtle Beach, SC........     --      60      36        68       164         84%        5,740           66%
  27. Dallas, TX..............    190      38      --        90       318         92%       13,067           83%
  28. El Paso, TX.............    123      --      15       120       258         86%        9,501           71%
  29. Houston, TX.............    197      71      60        87       415         96%       17,500           93%
  30. San Antonio, TX.........    151      30      28        60       269         96%       10,802           95%
  31. Woodlands, TX...........    239     100      16        --       355         93%       10,505          100%
                               ----------------------------------------------------------------------------------
    Totals: 31 facilities in
            13 states.........  3,981   1,613     294     1,599     7,487         91%     $277,461           88%

</TABLE>
                                       9
<PAGE>
OUR LEASE FOR THE MARRIOTT FACILITIES

         The lease for the Marriott  facilities  has been filed as an exhibit to
this Annual Report on Form 10-K. If you want more information about lease terms,
you  should  read the  entire  lease.  The  material  terms of our lease for the
Marriott  facilities are substantially the same as those of our lease for the 56
facilities, except as follows:

         Minimum Rent.  Our minimum rent is $63 million per year.

         Percentage  Rent.  Starting in 2003, we are required to pay  additional
rent with  respect to each lease year in an amount equal to five percent (5%) of
net patient  revenues at each leased facility in excess of net patient  revenues
at the facility during 2002.

         FF&E Reserves.  We are required to maintain  accounts for  replacements
and improvements as described below in "-Marriott  Management-FF&E  Reserves and
Capital Improvements."

         Term.  The initial term expires on December 31, 2017.

         Renewal Options. We have two options to renew the lease for all but not
less than all the  facilities:  the first for 10 years  ending on  December  31,
2027,  and the second for five years  ending on December  31,  2032.  We may not
exercise these renewal options unless we have exercised our renewal option under
the lease for the 56  facilities.  The first renewal option must be exercised by
notice two years prior to the expiration of the initial term. The second renewal
option must be  exercised  by notice at least 11 months  before the then current
term expires.

         Events of Default. In addition to the events of default described under
our lease for the 56 facilities,  the lease for the Marriott facilities includes
the following events of default:

o        our default under any Marriott management agreement; and

o        our  default  under  the lease  for the 56  facilities  owned by Senior
         Housing.

MARRIOTT MANAGEMENT

         The 31 Marriott  facilities are each subject to a management  agreement
with  Marriott.  The  following is a  description  of the material  terms of the
management agreements. If you want more information about these agreements,  you
should read the representative form of management agreement which has been filed
as an exhibit to this Annual Report on Form 10-K.

         Term.  Generally each of the management  agreements has an initial term
expiring in 2027, with one five-year renewal term at Marriott's option.

         Facility  Services.  Marriott has  responsibility and authority for all
day-to-day  operations  of  the  managed  facilities,  including  obtaining  and
maintaining  all licenses  necessary  for  operations,  insurance,  establishing
resident  care  policies  and  procedures,  carrying  out  and  supervising  all
necessary  repairs  and  maintenance,   procuring  food,  supplies,   equipment,
furniture and fixtures,  and establishing prices, rates and charges for services
provided.  Marriott  also  recruits,  employs  and directs  all  facility  based
employees, including managerial employees.

         Central    Services.    Marriott   also   furnishes   certain   central
administrative  services,  which are provided on a central or regional  basis to
all senior living facilities  managed by Marriott.  Such services  include:  (i)
marketing and public relations; (ii) human resources program development;  (iii)
information  systems  development  and support;  and (iv)  centralized  computer
payroll and accounting.

         Working Capital. We are required to maintain working capital at each of
the managed  facilities  at levels  consistent  with the Marriott  senior living
system standard.

                                       10
<PAGE>
         FF&E  Reserves and Capital  Improvements.  Marriott has  established  a
reserve account under each management agreement, referred to as an FF&E Reserve,
to cover  the  expected  recurring  cost of  replacements  and  renewals  to the
furniture,   furnishings,   fixtures,  soft  goods,  case  goods,  vehicles  and
equipment,   and  for  building  repairs  and  maintenance  which  are  normally
capitalized. The FF&E Reserve accounts are funded from the operating revenues of
the managed  facilities.  The amount of this funding  varies  somewhat among the
managed facilities; however, for most facilities it is currently set at 2.65% of
gross revenues and is expected to gradually increase to 3.5%. In the event major
capital  improvements  are  required,  or if the  amounts  set aside in the FF&E
Reserve accounts are inadequate for required repairs, we may be required to fund
such repairs and  improvements.  Any such funding which we provide increases the
amount of our owner's priority,  described below.  Also, under our lease we have
the option to request Senior Housing to provide such required  funding in return
for rent  adjustments  to  provide  Senior  Housing a return  on its  investment
according to a formula set forth in the lease.

         Fees. For its facility services, Marriott receives a base fee generally
equal to 5% of the managed  facilities'  gross  revenues,  plus an incentive fee
generally  equal to 20% of  operating  profits  in  excess of  owner's  priority
amounts,  as defined  in the  agreements.  For its  central  services,  Marriott
receives a fee generally equal to 2% of gross revenues.  Generally,  through the
earlier  of (i)  the  end of  June  2004 or  (ii)  the  date  on  which  certain
performance  criteria  have been met,  payment of up to one half of this central
services  fee (i.e.,  1% of gross  revenues)  is  conditional,  and is waived if
specified  annual profit targets are not achieved.  During 2001  management fees
paid to Marriott totaled $18.1 million.

         Owner's  Priority.  We  receive  the  profits of the  Marriott  managed
facilities on a priority basis before  Marriott  receives any incentive fees for
facility  services or any conditional  central  services fees. The amount of the
owner's priority for each managed facility is established based upon a specified
rate of return on historical capital investments in these facilities,  including
capital  investments  funded in  addition to the FF&E  Reserve.  For fiscal year
2001, the aggregate  amount of owner's  priority for all 31 properties was $69.4
million.

         Pooling.   Twenty-nine   of  the  facilities  are  subject  to  pooling
arrangements whereby the calculation and payment of FF&E Reserves,  fees payable
to Marriott and owner's  priority for several  groups of these 29 facilities are
combined.

         Events of Default.  Events of default under the  management  agreements
include,  among others,  certain events relating to the insolvency or bankruptcy
of either party.

         Termination.  The Marriott  management  agreements may be terminated as
follows:

o        Upon material  default,  by the  non-defaulting  party after applicable
         cure periods lapse.

o        Starting in 2006 by us, if a specific facility, or a pooled combination
         of  facilities,  fails  to  achieve  specified  financial  performance;
         provided,   however,   Marriott  has  the  option  to  avoid  financial
         performance  terminations  by  making  specified  payments  to us or by
         temporarily reducing certain of its fees.

o        By us, upon 120 days notice,  provided we make a termination payment to
         Marriott calculated according to a formula set forth in the agreements.

         Our right to exercise termination options under the Marriott management
agreements is subject to approval by Senior Housing under the terms of the lease
for these 31 Marriott facilities.

                                       11
<PAGE>
GOVERNMENT REGULATION AND RATE SETTING

         Senior  Apartments.  Generally,  government  programs  do not  pay  for
housing  in  senior  apartments.  Rents  are paid  from the  residents'  private
resources.  Accordingly, the government regulations that apply to these types of
properties are generally limited to zoning,  building and fire codes,  Americans
with  Disabilities  Act  requirements  and other life  safety  type  regulations
applicable to residential real estate.  Government rent subsidies and government
assisted  development  financing for low income senior housing are exceptions to
these general  statements.  The development  and operation of subsidized  senior
housing properties are subject to numerous governmental regulations. While it is
possible that we may lease some subsidized  senior apartment  facilities,  we do
not expect these facilities to be a major part of our future business, and we do
not own senior apartments where rent subsidies are applicable.

         Independent  Living Apartments.  Government  benefits generally are not
available for services at independent living apartments and the resident charges
in these  facilities  are paid  from  private  resources.  However,  a number of
Federal  Supplemental  Security  Income  program  benefits pay housing costs for
elderly or disabled residents to live in these types of residential  facilities.
The Social  Security Act requires states to certify that they will establish and
enforce  standards  for any  category  of group  living  arrangement  in which a
significant  number of  supplemental  security  income  residents  reside or are
likely to  reside.  Categories  of living  arrangements  which may be subject to
these state standards include  independent living apartments and assisted living
facilities.  Because  independent  living apartments usually offer common dining
facilities, in many locations they are required to obtain licenses applicable to
food  service  establishments  in addition to  complying  with land use and life
safety requirements.  In many states, independent living apartments are licensed
by state health departments,  social service agencies,  or offices on aging with
jurisdiction over group residential  facilities for seniors.  To the extent that
independent  living apartments include units in which assisted living or nursing
services are  provided,  these units are subject to applicable  state  licensing
regulations,  and if the  facilities  receive  Medicaid  or Medicare  funds,  to
certification  standards.  In some  states,  insurance  or  consumer  protection
agencies regulate  independent living apartments in which residents pay entrance
fees or prepay other costs.

         Assisted Living Facilities. According to the National Academy for State
Health Policy,  39 states provide or are approved to provide  Medicaid  payments
for residents in some assisted  living  facilities  under waivers granted by the
Federal  Centers for  Medicare  and  Medicaid  Services,  known as CMS, or under
Medicaid state plans,  and eight other states are planning some Medicaid funding
by  requesting   waivers   implementing   assisted   living  pilot  programs  or
demonstration projects. Because rates paid to assisted living facility operators
are lower than rates paid to nursing  home  operators,  some states use Medicaid
funding of  assisted  living as a means of  lowering  the cost of  services  for
residents  who may not need the  higher  intensity  of  health-related  services
provided in nursing homes. States that administer Medicaid programs for assisted
living  facilities are  responsible for monitoring the services at, and physical
conditions of, the  participating  facilities.  Different states apply different
standards in these matters,  but generally we believe these monitoring processes
are similar to the concerned states' inspection processes for nursing homes.

         In light of the large  number  of states  using  Medicaid  to  purchase
services at assisted living  facilities and the growth of assisted living in the
1990s,  a majority of states have  adopted  licensing  standards  applicable  to
assisted living  facilities.  According to the National Academy for State Health
Policy, 29 states have licensing  statutes or standards  specifically  using the
term  "assisted  living".  The majority of states have revised  their  licensing
regulations  recently or are  reviewing  their  policies or drafting or revising
their regulations.  State regulatory models vary; there is no national consensus
on a definition  of assisted  living,  and no uniform  approach by the states to
regulating  assisted living facilities.  Most state licensing standards apply to
assisted living facilities  whether or not they accept Medicaid  funding.  Also,
according to the National Academy for State Health Policy,  seven states require

                                       12
<PAGE>
certificates of need from state health planning  authorities before new assisted
living  facilities may be developed and two states have exempted assisted living
facilities  from  certificate  of need laws.  Based on our  analysis  of current
economic and regulatory  trends, we believe that assisted living facilities that
become  dependent  upon Medicaid  payments for a majority of their  revenues may
decline  in value  because  Medicaid  rates may fail to keep up with  increasing
costs.  We also believe that assisted living  facilities  located in states that
adopt certificate of need requirements or otherwise  restrict the development of
new assisted living  facilities may increase in value because these  limitations
upon  development may help ensure higher  occupancy and higher  non-governmental
rates.

         Two federal government studies provide background  information and make
recommendations  regarding the regulation  of, and the  possibility of increased
governmental  funding for, the assisted  living  industry.  The first study,  an
April  1999  report  by the  General  Accounting  Office to the  Senate  Special
Committee on Aging on assisted living facilities in four states, found a variety
of residential  settings serving a wide range of resident health and care needs.
The General  Accounting  Office found that consumers often receive  insufficient
information to determine whether a particular  facility can meet their needs and
that  state  licensing  and  oversight   approaches  vary  widely.  The  General
Accounting Office anticipates that as the states increase the use of Medicaid to
pay for assisted living,  federal financing will likewise grow, and these trends
will  focus  more  public  attention  on the  place of  assisted  living  in the
continuum of long-term care and upon state standards and compliance  approaches.
The second study, a National Study of Assisted Living for the Frail Elderly, was
funded by the U.S.  Department of Health and Human Services Assistant  Secretary
for Planning and Evaluation and is expected to result in a report on the effects
of different service and privacy arrangements on resident satisfaction, aging in
place and  affordability.  In 2001, the Senate  Special  Committee on Aging held
hearings  on  assisted  living  and its  role in the  continuum  of care  and on
community-based  alternatives  to nursing homes. We cannot predict whether these
studies will result in governmental  policy changes or new legislation,  or what
impact any changes may have.  Based upon our  analysis of current  economic  and
regulatory  trends,  we do not believe that the federal  government is likely to
have a material  impact upon the  current  regulatory  environment  in which the
assisted living industry  operates  unless it also undertakes  expanded  funding
obligations,  and we do not believe a materially  increased financial commitment
from the federal government is presently likely.  However, we do anticipate that
assisted living  facilities  will  increasingly be licensed and regulated by the
various states, and that in absence of federal  standards,  the states' policies
will continue to vary widely.

         Nursing Homes-Reimbursement.  About 58% of all nursing home revenues in
the U.S. in 2000 came from government Medicare and Medicaid programs,  including
about 48% from  Medicaid  programs.  Nursing  homes  are  among the most  highly
regulated businesses in the country. The federal and state governments regularly
monitor the quality of care provided at nursing homes.  State health departments
conduct  surveys of resident care and inspect the physical  condition of nursing
home  properties.  These periodic  inspections  and  occasional  changes in life
safety and physical plant requirements  sometimes require nursing home operators
to make significant capital  improvements.  These mandated capital  improvements
have in the past usually  resulted in Medicare and  Medicaid  rate  adjustments,
albeit on the basis of amortization  of expenditures  over expected useful lives
of the improvements.  A new Medicare  prospective payment system, often referred
to as PPS, began being phased in over three years  beginning with cost reporting
years starting on or after July 1, 1998. Under this new Medicare payment system,
capital costs are part of the  prospective  rate and are not facility  specific.
This new Medicare  payment  system and other recent  legislative  and regulatory
actions with  respect to state  Medicaid  rates are  limiting the  reimbursement
levels for some  nursing  home and other  eldercare  services.  At the same time
federal and state  enforcement  and oversight of nursing  homes are  increasing,
making  licensing and  certification  of these  facilities more rigorous.  These
actions have adversely  affected the revenues and increased the expenses of many
nursing  home  operators,  including  us. The new  Medicare  payment  system was
established  by the Balanced  Budget Act of 1997, and was intended to reduce the
rate of growth in Medicare payments for skilled nursing  facilities.  Before the

                                       13
<PAGE>
new  Medicare  payment  system,   Medicare  rates  were   facility-specific  and
cost-based.  Under the new Medicare payment system,  facilities  receive a fixed
payment  for each day of care  provided to Medicare  patients.  Each  patient is
assigned  to  one  of  44  care  groups  depending  on  that  patient's  medical
characteristics  and service  needs.  Per diem payment  rates are based on these
care groups.  Medicare  payments cover  substantially  all services  provided to
Medicare patients in skilled nursing  facilities,  including  ancillary services
such as rehabilitation therapies. The new Medicare payment system is intended to
provide  incentives  to  providers  to furnish  only  necessary  services and to
deliver  those  services  efficiently.  During  the three  year phase in period,
Medicare rates for skilled nursing  facilities were based on a blend of facility
specific  costs  and  rates  established  by the new  Medicare  payment  system.
According to the General Accounting Office,  between fiscal year 1998 and fiscal
year 1999, the first full year of the new Medicare payment system phase-in,  the
average Medicare payment per day declined by about nine percent. As of September
30, 2001, all of the facilities  that we currently lease from Senior Housing and
that  participate in the Medicare  program have derived their Medicare  revenues
under the new payment  system  rates for at least six months.  The new  Medicare
payment system rates have been applied to 34 of our 87 leased  facilities  since
January 1, 2001.

         Since November 1999,  Congress has provided some relief from the impact
of the  Balanced  Budget Act of 1997.  Effective  April 1, 2000,  the  Medicare,
Medicaid and SCHIP Balanced Budget  Refinement Act of 1999  temporarily  boosted
payments for certain skilled nursing cases by 20% and allowed nursing facilities
to  transition  more  rapidly  to the  federal  payment  system.  This  Act also
increased  the new Medicare  payment rates by four percent for fiscal years 2001
and 2002 and  imposed a two-year  moratorium  on some  therapy  limitations  for
skilled nursing patients covered under Medicare Part B.

         In December 2000, the Medicare, Medicaid and SCHIP Benefits Improvement
and Protection Act of 2000 was approved.  Effective  April 1, 2001 to October 1,
2002, this Act increases the nursing component of the payment rate for each care
group by 16.6%. This Act also increased annual inflation  adjustments for fiscal
year 2001, increased rehabilitation care group rates by 6.7%, and maintained the
previously  temporary 20% increase in the other care group rates  established in
1999.

         Effective October 1, 2002, the 4% across-the-board increase in Medicare
payment rates,  the 16.66% increase in the nursing  component of the rates,  and
the 6.7% increase in  rehabilitation  care group rates, are scheduled to expire.
The 20%  increase  for the  skilled  nursing  care  groups  will expire when the
current  resource  utilization  groups are  refined.  The Bush  administration's
fiscal year 2003 budget proposal  assumes that the add-ons to the Medicare rates
will expire as scheduled and does not provide for  additional  Medicaid  funding
for nursing homes. The Medicare Payment Advisory Commission has recommended that
Congress  incorporate  the 20% increases into the base rate for fiscal year 2003
and that the other add-ons expire as scheduled.

         Nursing  Homes-Survey  and  Enforcement.  CMS has begun to implement an
initiative  to increase  the  effectiveness  of Medicare  and  Medicaid  nursing
facility survey and enforcement activities.  CMS' initiative follows a July 1998
General  Accounting  Office  investigation  which  found  inadequate  care  in a
significant  proportion of California nursing homes and CMS' July 1998 report to
Congress on the effectiveness of the survey and enforcement system. In 1999, the
U.S.  Department of Health and Human Services Office of Inspector General issued
several  reports  concerning  quality of care in nursing homes,  and the General
Accounting Office issued reports in 1999 and 2000 which recommended that CMS and
the states  strengthen  their  compliance  and  enforcement  practices to better
ensure that nursing homes provide  adequate care. Since 1998, the Senate Special
Committee  on Aging has been  holding  hearings on these  issues.  CMS is taking
steps to focus  more  survey  and  enforcement  efforts  on  nursing  homes with
findings of  substandard  care or repeat  violations  of Medicare  and  Medicaid
standards  and  to  identify   chain  operated   facilities   with  patterns  of
noncompliance.  CMS is increasing  their  oversight of state survey agencies and
requiring state agencies to use enforcement sanctions and remedies more promptly
when  substandard  care or repeat  violations  are  identified,  to  investigate
complaints  more  promptly,  and to  survey  facilities  more  consistently.  In
addition,  CMS has

                                       14
<PAGE>
adopted regulations  expanding federal and state authority to impose civil money
penalties  in  instances  of  noncompliance.  Medicare  survey  results for each
nursing  home  are  posted  on the  internet  at  http://www.medicare.gov.  When
deficiencies  are  identified  under state  licensing  and Medicare and Medicaid
laws,  sanctions  and  remedies  such as denials of payment for new Medicare and
Medicaid admissions, civil money penalties, state oversight and loss of Medicare
and Medicaid  participation  may be imposed.  We and Marriott receive notices of
potential sanctions and remedies from time to time, and such sanctions have been
imposed on some of our nursing homes and assisted living facilities from time to
time.  Sanctions  imposed  on us or  Marriott  for  deficiencies  that have been
identified  or that are  identified  in the  future may have  adverse  financial
consequences  to us. In 2000, CMS issued a report on their study linking nursing
staffing  levels  with  quality of care,  and CMS is  assessing  the impact that
minimum staffing requirements would have on facility costs and operations.  In a
report to be presented to Congress in 2002,  the  Department of Health and Human
Services  has found  that 90% of  nursing  homes  lack the nurse and nurse  aide
staffing   necessary  to  provide   adequate   care  to   residents.   The  Bush
administration  has indicated that it does not intend to impose minimum staffing
levels or to increase Medicare or Medicaid rates to cover the costs of increased
staff at this time,  but is  considering  publishing  the staffing level at each
nursing home to increase market demand.

         Federal   efforts  to  target  fraud  and  abuse  and   violations   of
anti-kickback  laws  and  physician  referral  laws  by  Medicare  and  Medicaid
providers have also increased.  In March 2000, the U.S. Department of Health and
Human  Services  Office of Inspector  General issued  compliance  guidelines for
nursing facilities,  to assist them in developing  voluntary compliance programs
to prevent  fraud and abuse.  Also,  new rules  governing  the privacy,  use and
disclosure of individually  identified health  information  became final in 2001
and will  require  compliance  by 2003,  with civil and criminal  sanctions  for
noncompliance.  An  adverse  determination  concerning  any of our  licenses  or
eligibility for Medicare or Medicaid reimbursement or compliance with applicable
federal or state regulations could negatively affect our financial condition and
results of operations.

         Certificates  of Need.  Most  states  also  limit the number of nursing
homes  by  requiring  developers  to  obtain  certificates  of need  before  new
facilities  may be built.  Even  states such as  California  and Texas that have
eliminated  certificate of need laws often have retained other means of limiting
new nursing home  development,  such as the use of moratoria,  licensing laws or
limitations upon  participation in the state Medicaid  program.  We believe that
these  governmental  limitations  generally  make nursing homes more valuable by
limiting competition.

         A number of  legislative  proposals  that would affect major reforms of
the  healthcare  system have been  introduced  in Congress,  such as  additional
Medicare and Medicaid reforms and cost containment  measures.  We cannot predict
whether any of these legislative  proposals will be adopted or, if adopted, what
effect, if any, these proposals would have on our business.

LIABILITY INSURANCE

         Litigation  against senior living operators has been increasing  during
the past few years. Several cases by nursing home patients or their families who
have won large monetary awards for mistreatment have been widely publicized. The
amount  of  such   litigation  in  Florida  and  Texas  has  been   particularly
significant.  As a result,  liability  insurance  costs are rising  and, in some
cases, such insurance is not available to senior living operators.

         We have liability insurance for the 56 properties which we now operate.
None of these  facilities  are  located  in  Florida  or Texas.  One of the five
facilities we intend to purchase and operate is located in Florida; this Florida
property has 186  independent  living  apartments and 20 assisted living suites,
but it has no nursing beds. Based upon preliminary  inquires which we have made,
we believe  that our  planned  operations  at the five  facilities  we intend to
acquire may be included  within our existing  insurance.  Our current  liability
insurance  expires in June 2002; we expect our insurance costs to

                                       15
<PAGE>
increase,  and we do not know the amount of any such increase. If such increased
cost is not  acceptable  to us,  we intend to  explore  alternatives,  including
possibly higher deductible or retention amounts and self insurance.

         Marriott  is  responsible  for  obtaining  insurance  for the 31 senior
living  communities  which we lease and Marriott  manages.  These 31 communities
include six in Florida (888 independent living  apartments,  440 assisted living
suites  and 95  nursing  beds),  and  five  in  Texas  (900  independent  living
apartments,  239 assisted  living suites,  119 special care beds and 357 nursing
beds).  Liability  insurance  for  these  facilities'  operations  is  currently
provided in part by an insurance company  subsidiary of Marriott  International,
Inc.  The cost of this  insurance  increased  on  October  1,  2001,  and we are
currently  exploring  with  Marriott  whether it may be  possible to reduce this
cost, but we can provide no assurance that these  insurance costs can be reduced
or that they will not increase further in the future.

COMPETITION

         The senior living services business is highly  competitive.  We compete
with  service  providers  offering  different  types of  services,  such as home
healthcare  services,  as well as other companies providing real estate facility
based  services.  We  believe  we can  compete  successfully  for the  following
reasons:

o        Our  acquisition  of FSQ, Inc. and our shared  services  agreement with
         Reit Management & Research LLC ("Reit  Management")  provide us a depth
         and quality of management which we believe is equal to or stronger than
         most other senior living facility operators.

o        Our  historical  and  continuing  relationship  with Senior Housing may
         provide  us  opportunities  to expand our  business  by  acquiring  new
         leaseholds from Senior Housing.

o        The senior living services  industry has experienced  severe  financial
         distress during the past few years.

o        Many  operators of nursing homes and assisted  living  facilities  have
         been forced into  bankruptcy.  As a new  company  without any  material
         debt,  we are not burdened  with  financial  difficulties  of the types
         which currently burden some of our competitors.

         Our  management  team has been recently  assembled  within the past two
years, and,  although we believe it is experienced and highly talented,  it does
not have  extensive  experience  working  together.  We expect we may expand our
business  with Senior  Housing;  however,  Senior  Housing is not  obligated  to
provide us with opportunities to lease additional  properties.  We have no debt,
but we do have large lease obligations and limited  financeable assets; and many
of our competitors  have greater  financial  resources than us. For all of these
reasons and others,  we cannot provide you any assurance that we will be able to
compete successfully for business in the senior living industry.

TECHNOLOGY SYSTEMS

         When we began operating senior living  facilities for Senior Housing in
July  2000  we  created  new  internet  based  data  processing  and  management
information  systems for our clinical,  operational  and financial  information.
These systems  currently  support over 1,000 widely  distributed  computers in a
secure and stable working environment.  Because they were built in 2000 and 2001
and are internet  based,  we believe our  technology  systems are among the most
up-to-date and efficient systems currently in use in the senior living industry.
Moreover,  these  systems  were  designed to be readily  scalable to support our
growth strategy.

                                       16
<PAGE>
ENVIRONMENTAL MATTERS

         Under  various   federal,   state  and  local  laws,   ordinances   and
regulations,  owners as well as  tenants  and  operators  of real  estate may be
required  to  investigate  and  clean  up  hazardous  substances  released  at a
property,  and may be held liable to a  governmental  entity or to third parties
for  property  damage or personal  injuries and for  investigation  and clean-up
costs incurred in connection with any  contamination.  Under our leases, we have
also agreed to indemnify Senior Housing for any such liabilities  related to the
leased  facilities.  In  addition,  some  environmental  laws create a lien on a
contaminated  site in favor of the government for damages and costs it incurs in
connection with the  contamination,  which lien may be senior in priority to our
leases.  We  have  reviewed  some  preliminary   environmental  surveys  of  the
facilities  we lease and the  properties  we expect to  acquire  in the  pending
acquisition.  Based  upon  that  review  we do not  believe  that  any of  these
properties are subject to any material environmental contamination.  However, no
assurances can be given that:

o    a prior  owner,  operator  or  occupant  of our  leased  facilities  or the
     properties  we intend to acquire  did not  create a material  environmental
     condition  not known to us which might have been revealed by more in-depth
     study of the properties; and

o    future  uses or  conditions  (including,  without  limitation,  changes  in
     applicable  environmental  laws and  regulations)  will not  result  in the
     imposition of environmental liability upon us.

EMPLOYEES

         As of March 20, 2002, we had approximately  6,000 employees,  including
5,500 full time  equivalents.  Approximately  690 employees,  including 570 full
time equivalents,  are represented under seven collective bargaining agreements,
all of  which  have  remaining  terms of two to  three  years.  We have no other
employment  agreements.  We  believe  relations  with our  union  and  non-union
employees  to be good.  The five  facilities  which we expect to  acquire in the
pending acquisition are staffed by approximately 250 employees, some of whom are
represented  by a union;  we expect to offer to employ  these  people  when this
acquisition closes.

             FEDERAL INCOME TAX CONSIDERATIONS FOR NON-U.S. PERSONS

         The following summary of federal income tax considerations for non-U.S.
persons is based on existing law, and is limited to investors who own our Common
Shares as  investment  assets  rather than as inventory or as property used in a
trade or business.  The summary does not discuss the particular tax consequences
that might be  relevant  to you if you are  subject to special  rules  under the
federal income tax law.

         This summary is based on  applicable  Internal  Revenue  Code,  or IRC,
provisions,  related  rules and  regulations  and  administrative  and  judicial
interpretations,  all of which are subject to change,  possibly with retroactive
effect.  Future legislative,  judicial,  or administrative  actions or decisions
could affect the accuracy of statements made in this summary.  We can not assure
you that the IRS or a court will agree with the statements made in this summary.
In  addition,  the  following  summary is not  exhaustive  of all  possible  tax
consequences, and does not discuss any state, local or foreign tax consequences.
For all these  reasons,  we urge you to  consult  with a tax  advisor  about the
federal, state, local and non-U.S. income tax and other tax consequences of your
acquisition, ownership and disposition of our Common Shares.

         For purposes of this summary, a non-U.S.  person for federal income tax
purposes is a person other than:

o        a  citizen  or  resident  of the  United  States,  including  an  alien
         individual who is a lawful  permanent  resident of the United States or
         meets the substantial  presence residency test under the federal income
         tax laws,

                                       17
<PAGE>
o        a corporation,  partnership or other entity treated as a corporation or
         partnership  for  federal  income  tax  purposes,  that is  created  or
         organized in or under the laws of the United States,  any state thereof
         or the  District of  Columbia,  unless  otherwise  provided by Treasury
         regulations,

o        an estate the income of which is  subject  to federal  income  taxation
         regardless of its source, or

o        a trust if a court within the United States is able to exercise primary
         supervision over the administration of the trust and one or more United
         States persons have the authority to control all substantial  decisions
         of the trust, or electing trusts in existence on August 20, 1996 to the
         extent  provided in Treasury  regulations,  whose  status as a non-U.S.
         person is not overridden by an applicable tax treaty.

DISTRIBUTIONS AND DISPOSITIONS

         Distributions  on Our Common  Shares.  At the present  time,  we do not
expect to pay any dividends on our Common Shares. However, if we do later decide
to do so, your tax consequences would generally be as follows.

         Dividends  paid to you will be subject to withholding of federal income
tax at a 30% rate or a lower rate as may be  specified by an  applicable  income
tax treaty.  If you are eligible for a reduced rate of withholding  tax pursuant
to a tax  treaty,  you may  obtain a refund  of any  excess  amounts  previously
withheld  by filing an  appropriate  claim for refund with the IRS. To claim the
benefits of an income tax  treaty,  you are  required to satisfy the  applicable
certification requirements, generally by executing an applicable IRS Form W-8 or
substantially similar form.

         If the dividends paid to you are effectively connected with the conduct
of a trade or  business  within the United  States or, if a treaty so  provides,
attributable to a permanent establishment of a non-U.S. person within the United
States,  you will be exempt from withholding tax, provided you provide us or our
paying agent with an  applicable  IRS Form W-8 or a  substantially  similar form
containing your taxpayer  identification number.  Effectively connected dividend
income will be subject to U.S.  federal  income tax on a net basis at applicable
graduated rates. If you are a corporation with  effectively  connected  dividend
income you may be subject to an additional  branch  profits tax at a rate of 30%
or a lower rate specified by an applicable income tax treaty.

         Dispositions of our Common Shares. You will generally not be subject to
United  States  federal  income  tax in respect  of gain you  recognize  on your
disposition of our Common Shares unless:

o        the gain is effectively  connected with a trade or business  carried on
         within  the  United  States  (in  which  case the  branch  profits  tax
         discussed above may also apply if you are a corporation) or the gain is
         attributable  to a  permanent  establishment  maintained  in the United
         States if that is  required  by an  applicable  income  tax treaty as a
         condition to subjecting you to United States income tax on a net basis;

o        you are an individual and are present in the United States for 183 days
         or more in the taxable year of disposition  and certain other tests are
         met;

o        you are subject to tax pursuant to the provisions of the Code regarding
         the taxation of U.S. expatriates; or

o        we are or have been a "United States real property holding corporation"
         for U.S.  federal income tax purposes at any time within the shorter of
         the five-year  period preceding such disposition or your holding period
         (in which case the branch profits tax discussed above may also apply if
         you are a  corporation).  However,  your gain on a  disposition  of our
         Common Shares will not be subject to tax under this rule, if our Common
         Shares  are  "regularly  traded"  as  defined  by  applicable  Treasury
         regulations on an established securities market like the American Stock
         Exchange,  and if you have at all times during the preceding five years
         owned 5% or less by

                                       18
<PAGE>
         value  of our  Common  Shares.  At this  time,  we  believe  that  upon
         completion of our pending acquisition,  we will likely become a "United
         States  real  property  holding  corporation"  for  federal  income tax
         purposes, but can provide no assurance in this regard.

INFORMATION REPORTING AND BACKUP WITHHOLDING

         Information reporting and backup withholding may apply to distributions
or proceeds  paid to our  shareholders  in the  circumstances  discussed  below.
Amounts  withheld under backup  withholding  are generally not an additional tax
and may be refunded or  credited  against  your  federal  income tax  liability,
provided  that you  furnish the  required  information  to the IRS.  The current
backup  withholding  rate is 30% for the  calendar  years 2002 and 2003,  and is
scheduled to gradually decrease to 28% by calendar year 2006.

         Distributions  on our Common  Shares paid to you during  each  calendar
year,  and the amount of tax withheld if any, will  generally be reported to you
and to the IRS. This information  reporting  requirement  applies  regardless of
whether you were subject to withholding,  or whether the withholding was reduced
or  eliminated  by an  applicable  tax  treaty.  Also,  distributions  and other
payments  to you on our Common  Shares  may be  subject  to backup  withholding,
unless you have properly  certified  your non-U.S.  person status on an IRS Form
W-8 or substantially similar form.  Similarly,  information reporting and backup
withholding  will not apply to  proceeds  you receive  upon the sale,  exchange,
redemption,  retirement  or other  disposition  of our Common Shares if you have
properly  certified  your  non-U.S.   person  status  on  an  IRS  Form  W-8  or
substantially similar form.

Item 3.  Legal Proceedings

         From time to time,  we are  subject  to legal  actions  and  regulatory
investigations arising in the normal course of our business. We are not aware of
any currently  pending  material legal  proceeding  affecting our facilities for
which  we may  become  liable.  We  cannot  assure  you  that  such  actions  or
investigations  would not have a  material  adverse  effect on our  business  or
financial results.

Item 4.  Submission of Matters to a Vote of Security Holders

         Prior to our spin-off from Senior Housing,  the following  matters were
submitted to a vote of security  holders during the fourth quarter of the fiscal
year  covered by this  Annual  Report Form 10-K:  on  December  5, 2001,  Senior
Housing, our then sole shareholder,  unanimously voted by written consent to (i)
amend and restate our  Articles of  Incorporation,  (ii)  approve our 2001 Stock
Option and Stock  Incentive Plan and (iii) approve the Agreement of Merger among
us, our subsidiary FSQ Acquisition, Inc. and FSQ, Inc. effecting our acquisition
of FSQ, Inc.


                                       19
<PAGE>
                                     PART II

Item 5.  Market  for the  Registrant's  Common  Equity and  Related  Shareholder
         Matters

         Our Common Shares are traded on the American  Stock  Exchange under the
symbol  "FVE." The following  table  presents the high and low closing price for
our Common Shares as reported on the American  Stock  Exchange for each calendar
quarter since they began to trade:

Period                                                        Low       High
------                                                       -----     -----
December 17 to 31, 2001..................................    $6.12     $7.50
January 1 to March 25, 2002..............................     6.97      8.75

         The closing price of the Common Shares on the American  Stock  Exchange
on March 25, 2002, was $7.40 per share.

         As of March 25, 2002,  there were 4,843  shareholders  of record of our
Common  Shares,  and we  estimate  that as of such date there was  approximately
100,000  beneficial  owners  of  our  Common  Shares.  We do not  expect  to pay
dividends in the foreseeable future.

         On September 17, 2001,  we sold 1,000 Common  Shares to Senior  Housing
Properties Trust for $1,000 in connection with our  organization  under Maryland
law.  No  underwriter  was  used in this  transaction,  and  the  sale of  these
securities was made in reliance upon the exemption from registration provided by
Section 4(2) of the  Securities  Act of 1933 for  transactions  by an issuer not
involving a public offering.

         On December 6, 2001, our  registration  statement on Form S-1, File No.
333-69846  (the  "Registration  Statement"),   was  declared  effective  by  the
Securities and Exchange  Commission in connection  with our spin-off from Senior
Housing through distribution of 4,342,170 of our Common Shares to Senior Housing
shareholders  on December 31, 2001. The offering or  distribution  of the Common
Shares  registered was not  underwritten by an investment bank or otherwise.  We
incurred  aggregate  fees and expenses  reasonably  estimated to be  $1,750,000,
which were paid by Senior  Housing.  We did not  receive  any  proceeds or other
consideration from this offering or distribution.

         On March 26, 2002 we sold  3,700,000  Common Shares in an  underwritten
public offering,  raising gross proceeds of $25,911,100.  We incurred  aggregate
fees and expenses  reasonably  estimated  to be  $500,000.  We intend to use the
estimated net proceeds of $25,400,000 to partially fund our pending acquisition.
The public offering price of the shares was $7.45 per share.

Item 6.  Selected Financial Data

         The following  table  presents  selected  financial data which has been
derived from our historical  financial  statements for the period from April 27,
2000 (the date we commenced operations) through December 31, 2001. The following
data should be read in  conjunction  with,  and is  qualified in its entirety by
reference to, our financial  statements  and the notes thereto  included in this
Annual  Report on Form 10-K. As discussed  under  "Management's  Discussion  and
Analysis of Financial Condition and Results of Operations",  we are a relatively
new company and our  historical  financial  information is not

                                       20
<PAGE>
         reflective of our current operations. Accordingly, you should not place
         undue reliance on our historical financial information.
<TABLE>
<CAPTION>
                                                                                                       Period from
                                                                                                    April 27, 2000
                                                                              Year ended                   through
                                                                       December 31, 2001         December 31, 2000
                                                                       -----------------         ------------------
                                                                         ($ in thousands, except per share amounts)
<S>                                                                            <C>                       <C>
Five Star Quality Care, Inc.
   Operating data
      Total revenues..........................................                  $229,235                    $2,520
      Net income (loss).......................................                      $527                  $(1,316)
      Earnings (loss) per share...............................                     $0.12                   $(0.30)
   Balance sheet data
      Total assets............................................                   $68,043                   $54,788
</TABLE>

         The  following  table  presents  selected  financial  data  of our  two
predecessors and has been derived from historical  financial statements of those
predecessors  included  elsewhere  in  this  Annual  Report  on Form  10-K.  The
following data should be read in conjunction  with the financial  statements and
notes thereto entitled Combined Financial Statements of the Forty-two Facilities
Acquired by Senior Housing  Properties  Trust from Integrated  Health  Services,
Inc. and Combined  Financial  Statements of Certain Mariner  Post-Acute  Network
Facilities  (Operated by subsidiaries of Mariner Post-Acute Network) included in
this Annual Report on Form 10-K,  and  "Management's  Discussion and Analysis of
Financial   Condition   and   Results   of   Operations-Historical   Results  of
Operations-Mariner Predecessor" and "Historical Results of Operations-Integrated
Predecessor". The following table presents the information from 1997 to 2000.
<TABLE>
<CAPTION>
                                                                               Year ended December 31,
                                                                 ---------------------------------------------------
                                                                     2000         1999          1998         1997
                                                                 ----------    ---------     ---------    ----------
                                                                                ($ in thousands)
<S>                                                              <C>          <C>           <C>           <C>
Integrated Predecessor
   Operating data
      Operating revenues....................................      $135,378     $130,333      $140,116      $104,727
      Net loss..............................................       (25,252)    (126,939)      (17,183)      (10,432)
   Balance sheet data
      Total assets..........................................       $34,942      $61,274      $190,553      $174,954
      Long term liabilities.................................            --       17,500        17,751        18,006
Mariner Predecessor
   Operating data
      Operating revenues....................................       $85,325      $86,945      $105,486      $107,829
      Net loss..............................................        (7,421)     (43,804)       (7,710)       (9,453)
   Balance sheet data
      Total assets..........................................       $23,052      $17,433       $62,502       $84,119
      Long term liabilities.................................        32,091       28,603        33,195        15,498

</TABLE>

                                       21
<PAGE>
Item 7. Management's  Discussion and Analysis of Financial Condition and Results
        of Operations

OVERVIEW

         We were  incorporated  in  April  2000 as a  Delaware  corporation  and
reincorporated  in Maryland in  September  2001.  We were formed as a 100% owned
subsidiary of Senior Housing.  Effective July 1, 2000, we assumed the operations
of healthcare  facilities from two bankrupt former tenants of Senior Housing. At
the  time we  assumed  operations  of  these  facilities,  we had  not  received
substantially all of the required  licenses for these  facilities.  As a result,
for the period from July 1, 2000,  through  December 31, 2000,  we accounted for
the operations of these  facilities using the equity method of accounting and we
only  recorded the net income from these  operations.  Since that time,  we have
obtained all necessary  licenses to operate these facilities,  and on January 1,
2001, we began to consolidate the results of operations of these facilities.  On
December 31, 2001, Senior Housing distributed substantially all of our shares to
its shareholders in a spin-off  transaction and we became an independent  public
company.

         Since  we  succeeded  to  substantially  all of the  business  formerly
conducted  by  subsidiaries  or units of two former  tenants of Senior  Housing,
these  subsidiaries  and units are  considered to be our  predecessors.  We have
included the financial statements of these predecessors in this Annual Report on
Form 10-K and discuss their results of operations.  Our predecessors'  financial
statements are entitled: Certain Mariner Post-Acute Network Facilities (Operated
by subsidiaries of Mariner  Post-Acute  Network)  (referred to herein as Mariner
Predecessor);  and Forty-two  Facilities  Acquired by Senior Housing  Properties
Trust from Integrated  Health Services,  Inc.  (referred to herein as Integrated
Predecessor).

         Our revenues  consist  primarily  of payments for services  provided to
residents at our facilities.  The payments are either paid for by the residents,
their  families or  insurers,  or by the Medicare  and  Medicaid  programs.  The
substantial  majority of our historical  revenues have been paid by the Medicare
and Medicaid programs.  The substantial majority of the revenues associated with
the 31 Marriott  facilities  are paid by the patients,  or private pay.

         On a pro forma  basis,  after  giving  effect to the new lease which we
entered  for  the 31  Marriott  facilities  in  January  2002  and  the  pending
acquisition of five  facilities,  for the year ended December 31, 2001,  private
pay revenues would have  represented  60% of our total  revenues,  or 59% if our
pending  acquisition does not close. Our expenses consist primarily of wages and
benefits of personnel,  food, supplies and other resident care costs, as well as
taxes, insurance and other property related costs.

         We were a subsidiary  of Senior  Housing until  December 31, 2001.  The
2001  results  presented  in this  Annual  Report  on Form 10-K are for a period
during which we were a subsidiary of Senior Housing and they are not necessarily
indicative  of what our results  would have been as a separate  public  company.
Similarly these results are not indicative of future financial performance.  Our
future  results  of  operations  are  expected  to  differ  materially  from the
historical  results  presented  in this  Annual  Report on Form  10-K.  Material
differences are expected because our future operations will include, among other
factors,  rent expense on leases to Senior Housing,  general and  administrative
costs incurred by us as a separate company, revenues and expenses related to our
lease entered in January 2002 for 31 retirement communities operated by Marriott
and from the pending acquisition, if it closes.

         We  accounted  for our merger with FSQ,  Inc. as the  termination  of a
management contract rather than as a business  combination.  As a result, at the
closing of the merger,  because the FSQ, Inc. liabilities assumed plus the value
of our  Common  Shares  issued  in  connection  with the FSQ,  Inc.  acquisition
exceeded the fair value of FSQ's, Inc. assets acquired, we recognized an expense
of $2.8 million. For this purpose, the fair value of our Common Shares was based
on the average of the high and low price of our shares on the day of the merger,
or $7.50 per share.

                                       22
<PAGE>
OUR HISTORICAL RESULTS OF OPERATIONS

         As described above, we operated, until completion of the spin-off, as a
subsidiary of Senior Housing. Our past operations as Senior Housing's subsidiary
differ from our current operations as an independent public company as follows:

o        our historical  operating business included certain facilities,  assets
         and activities  which we do not own or conduct and did not include such
         other factors discussed above; and

o        the principal  source of financing for these  operating  businesses was
         intercompany  advances from Senior  Housing,  an entity with  financial
         resources substantially in excess of ours.

         We believe that because of these differences, the historical results of
operations  described below are not comparable to our current  operations or our
expected future operations. Specifically, in the historical periods discussed we
operated only 56 properties for Senior  Housing,  which owned the real estate as
well as the  operations.  Effective  December  31,  2001,  we  leased  these  56
facilities  from Senior  Housing  which  continued  to own the real  estate.  On
January 11, 2002,  we began to lease an  additional  31  facilities  from Senior
Housing.  Moreover, we now conduct our own affairs and incur costs as a separate
public  company some of which are more and some of which are less than the costs
incurred by Senior Housing and allocated to us in the historical periods.

Years ended December 31, 2001 and 2000

         We did not  begin  to  operate  the  senior  living  facilities  of our
predecessors or generate revenue until July 1, 2000. Therefore,  our results for
the year ended  December 31, 2001, are not comparable to the year ended December
31, 2000.

         Revenues for the year ended December 31, 2001, were $229.2 million.  On
a combined basis,  the two  predecessor  entities had revenues of $220.7 million
for the year  ended  December  31,  2000.  This  increase  was due  mainly to an
increase in the average daily rate received during these periods.

         Expenses for the year ended December 31, 2001, were $228.8 million.  On
a combined basis,  the  predecessor  entities had expenses of $253.4 million for
the year ended  December  31, 2000.  The  decrease is due  primarily to rent and
interest  expenses which were included in the 2000 expenses of our  predecessors
but  were  zero  in 2001  because,  after  Senior  Housing's  repossessions  and
foreclosures,  rent and interest  payments on the leases and  mortgages  ceased.
Period from April 27, 2000 (date operations commenced) through December 31, 2000

         This period was our first period of operations and, therefore, there is
no comparable period.

         During  2000  we  accounted  for  our  investment  in  these  operating
businesses  using the equity  method of  accounting.  As a result,  the reported
revenues  included our equity in earnings of these investees.  Revenues for 2000
were $2.5 million and represent the net amount of net patient revenues in excess
of expenses of these operations for the 2000 period. Net patient revenues at the
operating  businesses  for the six months ended  December 31, 2000,  were $114.5
million and expenses incurred for the period were $112.0 million.

LIQUIDITY AND CAPITAL RESOURCES

         On a historical basis our expenditures,  including capital expenditures
and for working  capital,  were  provided by Senior  Housing.  We  maintained no
financing sources apart from Senior Housing.

         At the time of our spin-off  from Senior  Housing on December 31, 2001,
we had cash of $24.9 million, operating accounts receivable of $36.4 million and
accrued operating expenses and other liabilities totaling $17.8 million.


                                       23
<PAGE>
         We lease all of our current facilities from Senior Housing.  Our leases
with  Senior  Housing  require  us to pay a total of $70  million  of base  rent
annually.  Percentage  rent on our current  leases does not begin until 2003 and
2004. We expect these increases to be modest relative to our overall  liquidity.
Payments required of us under our lease for 31 Marriott  facilities also include
a percentage of revenues for a capital expenditure reserve. If events of default
under the leases occur,  Senior  Housing has the ability to accelerate  our rent
payments.  Our leases with Senior Housing are cross-defaulted  with one another,
and events of default  include:  our  failure to pay rent when due;  our default
under any  indebtedness  which  gives the  holder the right to  accelerate;  our
default  under  the  Marriott  management  agreements;  and our  being  declared
ineligible to receive reimbursement under Medicare and Medicaid programs for any
of the leased facilities.

         On January 10, 2002, we accepted a non-binding  letter of intent from a
lender  for a new,  three year $20  million  line of credit to be secured by our
accounts  receivable.  This  financing  is  subject to lender  diligence,  final
documentation and other customary conditions.  We expect this financing to close
on or before April 30, 2002, but it may not close before that date or at all.

         On January 23, 2002,  we agreed to acquire five  communities  for $45.5
million.  We expect to fund this  acquisition  with our cash and the proceeds of
our common share offering discussed below.

         In March 2002, we issued 3,700,000 million common shares, raising gross
proceeds of $25.9  million.  Net proceeds,  after  underwriting  costs and other
estimated  offering  expenses,  were $25.4  million and are  expected to be used
together with cash on hand, to acquire the communities discussed above.

         Other than our leases with Senior  Housing and our agreement to acquire
five  communities,  we have no individually  material  contractual or commercial
obligations or commitments.

         Our primary source of cash to fund operating  expenses,  including rent
and routine capital  expenditures,  is the resident  revenues we generate at our
facilities.  Changes in laws and  regulations  which impact Medicare or Medicaid
rates, on which many of our properties rely for substantial amounts of revenues,
or changes in insurance costs caused by recent,  material  litigation  awards in
some  states  may  materially  affect our future  results.  We believe  that our
revenues will be sufficient to allow us to meet our ongoing operating  expenses,
working  capital needs and rent payments to Senior Housing in the short term, or
next 12 months,  and long term,  whether or not we arrange  for a line of credit
secured by our  receivables,  as  described  above.  Despite  this  belief,  our
operating cash flow as a percentage of our revenues is small; a small percentage
decline in revenue or increase in our  operating  expenses  could  eliminate  or
reduce our  operating  cash flow.  If our other  resources,  such as our cash on
hand,  or our  pending  $20  million  line  of  credit,  are  not  available  or
insufficient,  the decline in  operating  cash flow may cause lease  defaults or
other material consequences.

         Our shared services  agreement with Reit Management  allows us to defer
payments to Reit Management under the shared services  agreement if necessary to
make rent payments to Senior Housing. On a pro forma basis,  assuming completion
of  our  January  2002  lease  for  31  Marriott   facilities  and  our  pending
acquisition,  payments to Reit Management for shared services would have totaled
$3.1 million during the year ended December 31, 2001.

SEASONALITY

         Our business is subject to modest  effects of  seasonality.  During the
calendar  fourth  quarter  holiday  periods  nursing  home and  assisted  living
residents are sometimes  discharged  to join family  celebrations  and admission
decisions  are often  deferred.  The first quarter of each calendar year usually
coincides  with  increased  illness  among  nursing  home  and  assisted  living
residents which can result in increased  costs or discharges to hospitals.  As a
result of these factors,  nursing home and assisted living operations  sometimes
produce greater earnings in the second and third quarters of a calendar year and
lesser  earnings in the first and fourth  quarters.  We do not believe that this
seasonality  will cause  fluctuations
<PAGE>

                                       24

in our  revenues  or  operating  cash flow to such an  extent  that we will have
difficulty  paying  our  expenses,   including  rent,  which  do  not  fluctuate
seasonally.

INFLATION AND DEFLATION

         Inflation  in the past  several  years in the  United  States  has been
modest.  Future  inflation  might have both positive or negative  impacts on our
business.  Rising  price  levels may allow us to increase  occupancy  charges to
residents,  but may also cause our operating  costs,  including  our  percentage
rent, to increase.

         Deflation  would  likely  have a  negative  impact  upon  us.  A  large
component  of our  expenses  consist of  minimum  rental  obligations  to Senior
Housing.  Accordingly  we believe  that a general  decline in price levels which
could cause our charges to residents to decline would likely not be fully offset
by a decline in our expenses.

CRITICAL ACCOUNTING POLICIES

         Our most critical  accounting  policies regard revenue  recognition and
our assessment of the net  realizable  value of our accounts  receivable.  These
policies  involve  significant  judgments based upon our  experience,  including
judgments  about  changes in payment  methodology,  contract  modifications  and
economic   conditions  that  may  affect  the  collectibility  of  our  accounts
receivable.  In the future we may need to revise our  assessment to  incorporate
information which is not yet known and such revisions could increase or decrease
our net  revenues or cause us to adjust the net  carrying  value of our accounts
receivable.

HISTORICAL RESULTS OF OPERATIONS-MARINER PREDECESSOR

         The Mariner  Predecessor  conducted  operations of 17 facilities leased
from Senior Housing. The operations of the Mariner Predecessor during the period
prior to its  acquisition  by  Senior  Housing  differ  from our  operations  as
follows:

o        The  business  of the Mariner  Predecessor  was  conducted  by its then
         parent,  Mariner  Post-Acute  Network,  Inc.,  an entity with a capital
         structure,    corporate   overhead   costs,   and   operating   systems
         substantially different than ours.

o        During the period of Mariner's operation of this business,  significant
         write-offs  of  goodwill  and other  long lived  assets of the  Mariner
         Predecessor occurred and Mariner filed for bankruptcy.

         We believe that because of these differences, the historical results of
operations  described below are not comparable to our operations.  Specifically,
the  historical  operations  described  below  include:  revenues and  operating
expenses  for only 17  facilities,  one of which has since  been  closed,  while
currently we generate  revenues and incur  operating  expenses at 87 facilities;
revenues prior to 1999 which were based in part upon Medicare rates  established
prior to the completion of the phase-in of the new Medicare  prospective payment
system;  depreciation  expenses  which  relate to real  estate and  amortization
expenses which relate to goodwill,  while we do not have substantial depreciable
assets;  expenses  related to allocation of corporate  overhead by the parent of
these  operations,  while we incur different  corporate  expenses;  rent expense
under a lease which has been  cancelled;  charges for  impairments of long lived
assets of  substantial  amounts,  while we do not have  substantial  long  lived
assets and have not incurred similar  changes;  and interest expense incurred on
debt, while we have no debt at this time.

Years ended December 31, 2000 and 1999-Mariner Predecessor

         Revenues  for the year ended  December 31,  2000,  were $85.3  million.
These  revenues  represent a decrease of $1.6  million  from the revenues in the
1999 period.  This decrease is  attributable  primarily to

                                       25
<PAGE>
a slight  decrease in  occupancy  at the  facilities  in  operation  during both
periods and to the closing of one facility.

         Expenses for the year ended December 31, 2000,  were $92.6  million,  a
decrease  of $1.6  million  over the 1999  period,  excluding  non-recurring  or
unusual  charges and write-offs  incurred in 1999. This decrease is attributable
primarily to decreases in general and administrative costs and provision for bad
debts and rent, offset by an increase in salary, wages and benefits.

         Net loss for the year ended  December 31,  2000,  was $7.4  million,  a
decrease in loss of $36.4 million over the 1999 period. This decrease in loss is
principally  attributable  to the  impact  of  unusual  charges  related  to the
impairment of long lived assets in 1999.

HISTORICAL RESULTS OF OPERATIONS-INTEGRATED PREDECESSOR

         The Integrated Predecessor conducted operations of 42 facilities leased
from  or  mortgaged  to  Senior  Housing.   The  operations  of  the  Integrated
Predecessor  during the period prior to its acquisition by Senior Housing differ
from our operations as follows:

o        The business of the  Integrated  Predecessor  was conducted by its then
         parent,  Integrated  Health  Services,  Inc.,  an entity with a capital
         structure,    corporate    overhead    costs,    and    operating    ms
         systesubstantially different than ours.

o        During the period of  Integrated  Health  Services'  operation  of this
         business,  significant  write-offs  of  goodwill  and other  long lived
         assets of the Integrated  Predecessor  occurred and  Integrated  Health
         Services filed for bankruptcy.

         We believe that because of these differences, the historical results of
operations  described below are not comparable to our operations.  Specifically,
the  historical  operations  described  below  include:  revenues and  operating
expenses for only 42  facilities,  one of which has since been closed,  while we
currently  generate  revenues  and incur  operating  expenses at 87  facilities;
revenues prior to 1999 which were based in part upon Medicare rates  established
prior to the completion of the phase in of the new Medicare  prospective payment
system;  depreciation  expenses  which  relate to real  estate and  amortization
expenses  which relate to intangible  assets,  while we do not have  substantial
depreciable  assets;  expenses related to corporate overhead and management fees
charged by the parent of the Integrated  Predecessor,  while we incur  different
corporate expenses; rent expense under a lease which has been cancelled; charges
for  impairments  of long lived assets of substantial  amounts,  while we do not
have substantial  long lived assets and have not incurred  similar charges;  and
interest expense incurred on debt, while we currently have no debt.

Years ended December 31, 2000 and 1999-Integrated Predecessor

         Revenues for the year ended  December 31,  2000,  were $135.4  million.
These  revenues  represent  an increase of $5.0 million over the revenues in the
1999 period. This increase resulted primarily from an increase in Medicaid rates
and an increase in occupancy at the Integrated Predecessor facilities.

         Expenses for the year ended December 31, 2000, excluding  non-recurring
or unusual  charges and  write-offs  of $16.7  million as  discussed in the next
paragraph, were $144.0 million, a decrease of $2.1 million from the 1999 period.
This decrease is attributable primarily to a decrease in rent,  depreciation and
amortization  at the  Integrated  Predecessor  facilities  offset  by  increased
operating expenses.

         During the 2000 period,  the Integrated  Predecessor  incurred  unusual
charges  related to a loss on  settlement of lease and mortgage  obligations  of
$16.7 million.  These charges were a result of the bankruptcy settlement between
Integrated  and Senior  Housing and represent the carrying value of the tangible
and intangible  assets of the facilities  conveyed to Senior  Housing,  less the
debts due Senior

                                       26
<PAGE>
Housing which were not paid. During the 1999 period, the Integrated  Predecessor
incurred  write-offs and unusual charges related to a loss on impairment of long
lived assets of $120.0 million.

         Net loss for the year ended  December 31, 2000,  was $25.3  million,  a
decrease of $101.7  million  from the net loss of $126.9  million in 1999.  This
decrease in loss is  attributable  to the  decreases in rent,  depreciation  and
amortization and the impact of unusual charges discussed above.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

         We have no  obligations  for funded  debt and as such are not  directly
affected by changes in market interest rates.  However,  as discussed  above, we
expect to enter a $20 million  revolving credit facility secured by our accounts
receivable.  We expect that this loan  facility  will require  interest on drawn
amounts at floating rates based upon a spread above LIBOR. Accordingly, whenever
borrowings  are  outstanding  under such a credit  facility we may be exposed to
market changes in interest rates,  especially market changes in short term LIBOR
rates.  For  example,  if the full amount of a $20  million  line of credit were
drawn and  interest  rates  rose by 1% per annum,  our  interest  expense  would
increase by $200,000 per year, or $0.02 per share.

         We may from time to time  consider our exposure to interest  rate risks
if we have or expect to have material amounts of floating rate obligations. As a
result of these  considerations  we may decide to purchase interest rate caps or
other hedging instruments.

Item 8.  Financial Statements and Supplementary Data

         The  information  required by this Item is included  elsewhere  in this
Annual Report on Form 10-K.  Our financial  statements  and financial  statement
schedules begin on Page F-1 (see index in Item 14(a)).

Item 9.  Changes  in and  Disagreements  with  Accountants  on  Accounting  and
         Financial Disclosure

         Not applicable.

                                    PART III

         The information in Part III (Items,  10, 11, 12 and 13) is incorporated
by reference to our definitive  Proxy  Statement,  which is expected to be filed
not later than 120 days after the end of our fiscal year.



                                       27
<PAGE>
                                     PART IV

Item 14.  Exhibits, Financial Statement Schedules and Reports on Form 8-K.

(a)  Index to Financial Statements and Financial Statement Schedules
<TABLE>
<CAPTION>
                                                                                                                   Page
<S>                                                                                                                <C>

Five Star Quality Care, Inc. Historical Financial Statements

Report of Independent Auditors..................................................................................    F-1

Consolidated Balance Sheets at December 31, 2001 and 2000.......................................................    F-2

Consolidated Statements of Operations for the year ended December 31, 2001 and the period from April 27,
2000 (Inception) through December 31, 2000......................................................................    F-3

Consolidated Statement of Shareholders' Equity for the year ended December 31, 2001 and the period April 27,
2000 (Inception) through December 31, 2000......................................................................    F-4

Consolidated Statements of Cash Flows for the year ended December 31, 2001 and the period from April 27,
2000 (Inception) through December 31, 2000......................................................................    F-5

Notes to Consolidated Financial Statements......................................................................    F-6

Combined Financial Statements of the Forty-two Facilities Acquired by Senior Housing Properties Trust from
Integrated Health Services, Inc. (Integrated Predecessor)

Independent Auditors' Report....................................................................................   F-13

Combined Balance Sheets at December 31, 2000 and 1999...........................................................   F-14

Combined Statements of Operations for the years ended December 31, 2000 and 1999................................   F-15

Combined Statements of Changes in Net Equity (Deficit) of Parent Company for the years ended December 31,
2000 and 1999...................................................................................................   F-16

Combined Statements of Cash Flows for the years ended December 31, 2000 and 1999................................   F-17

Notes to Combined Financial Statements..........................................................................   F-18

Schedule II-Valuation and Qualifying Accounts for the years ended December 31, 2000 and 1999....................   F-29

Combined Financial Statements of Certain Mariner Post-Acute Network Facilities (Operated by subsidiaries of
Mariner Post-Acute Network) (Mariner Predecessor)

Report of Independent Auditors..................................................................................   F-30

Combined Balance Sheets at December 31, 2000 and 1999...........................................................   F-31

Combined Statements of Operations for each of the two years ended December 31, 2000 and 1999....................   F-32

Combined Statements of Divisional Equity (Deficit) for each of the two years ended December 31, 2000 and 1999...   F-33

Combined Statements of Cash Flows for each of the two years ended December 31, 2000 and 1999....................   F-34

Notes to Combined Financial Statements..........................................................................   F-35

Schedule II-Valuation and Qualifying Accounts for each of the two years ended December 31, 2000 and 1999........   F-45
</TABLE>

(b)  Reports on Form 8-K

         During the fourth quarter of 2001, the Company did not file any Current
Reports on Form 8-K.

                                       28
<PAGE>

(c)  Exhibits

Exhibit No.     Description

2.1*            Transaction  Agreement,  dated  December  7, 2001,  by and among
                Senior Housing Properties Trust,  certain subsidiaries of Senior
                Housing Properties Trust party thereto, the Registrant,  certain
                subsidiaries  of  the  Registrant  party  thereto,   FSQ,  Inc.,
                Hospitality  Properties  Trust,  HRPT Properties  Trust and Reit
                Management & Research LLC

2.2*            Agreement  of  Merger,   dated  December  5,  2001,   among  the
                Registrant, FSQ Acquisition, Inc. and FSQ, Inc.

2.3**           Sale-Purchase  Agreement between ILM II Senior Living,  Inc. and
                ILM II Holding, Inc. and the Registrant, dated January 23, 2002

2.4**           First Amendment to  Sale-Purchase  Agreement among ILM II Senior
                Living,  Inc., ILM II Holding,  Inc. and Five Star Quality Care,
                Inc., dated February 22, 2002

2.5**           Second Amendment to Sale-Purchase  Agreement among ILM II Senior
                Living, Inc., ILM II Holding,  Inc., and Five Star Quality Care,
                Inc., dated March 1, 2002

3.1***          Articles of Amendment and Restatement of the Registrant

3.2***          Amended and Restated Bylaws of the Registrant

4.1***          Specimen   Certificate   for  shares  of  common  stock  of  the
                Registrant

4.2             Description  of Capital  Stock of the  Registrant  (contained in
                Exhibits 3.1 and 3.2)

10.1***         Stock  Purchase  Agreement,  dated August 9, 2001,  among Senior
                Housing Properties Trust,  SNH/CSL  Properties Trust,  Crestline
                Capital Corporation and CSL Group, Inc.

10.2****        Amendment to Stock Purchase  Agreement,  dated November 5, 2001,
                among Senior Housing Properties Trust, SNH/CSL Properties Trust,
                Crestline Capital Corporation and CSL Group, Inc.

10.3**          Shared Services  Agreement,  dated January 2, 2002,  between the
                Registrant and Reit Management & Research LLC

10.4**          Amendment  No.  1  to  Shared  Services  Agreement  between  the
                Registrant and Reit Management & Research LLC, dated January 14,
                2002

10.5+***        2001 Stock Option and Stock Incentive Plan of the Registrant

10.6*****       Master Lease  Agreement,  dated  December 31, 2001, by and among
                certain  affiliates  of  Senior  Housing  Properties  Trust,  as
                Landlord, and Five Star Quality Care Trust, as Tenant

10.7*****       Guaranty  Agreement,  dated  December  31,  2001,  made  by  the
                Registrant,  as Guarantor, for the benefit of the Landlord under
                the Master Lease  Agreement,  dated  December  31, 2001,  by and
                among certain  affiliates of Senior Housing Properties Trust, as
                Landlord, and Five Star Quality Care Trust, as Tenant

10.8**          Pledge  of  Shares  of  Beneficial  Interest  Agreement,   dated
                December 31, 2001, made by the Registrant for the benefit of the
                Landlord  under the Master Lease  Agreement,  dated December 31,
                2001,  by  and  among  certain   affiliates  of  Senior  Housing
                Properties Trust, as Landlord, and Five Star Quality Care Trust,
                as Tenant

                                       29
<PAGE>

10.9**          Security  Agreement,  dated December 31, 2001, by and among Five
                Star Quality Care Trust and the Landlord  under the Master Lease
                Agreement  by and among  certain  affiliates  of Senior  Housing
                Properties Trust, as Landlord, and Five Star Quality Care Trust,
                as Tenant, dated December 31, 2001

10.10*****      Amended Master Lease  Agreement,  dated January 11, 2002, by and
                among certain  affiliates of Senior Housing Properties Trust, as
                Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool
                III Trust, as Tenant

10.11*****      Guaranty  Agreement,   dated  January  11,  2002,  made  by  the
                Registrant,  as Guarantor, for the benefit of the Landlord under
                the Amended Master Lease  Agreement,  dated January 11, 2002, by
                and among certain affiliates of Senior Housing Properties Trust,
                as Landlord,  and FS Tenant Holding  Company Trust and FS Tenant
                Pool III Trust, as Tenant

10.12**         Pledge of Shares of Beneficial Interest Agreement, dated January
                11,  2002,  made by FSQ,  Inc.  for the benefit of the  Landlord
                under the Amended  Master  Lease  Agreement,  dated  January 11,
                2002,  by  and  among  certain   affiliates  of  Senior  Housing
                Properties  Trust,  as Landlord,  and FS Tenant Holding  Company
                Trust and FS Tenant Pool III Trust, as Tenant

10.13**         Security  Agreement,  dated  January 11,  2002,  by and among FS
                Tenant Holding  Company Trust and the Landlord under the Amended
                Master Lease  Agreement,  dated  January 11, 2002,  by and among
                certain  affiliates  of  Senior  Housing  Properties  Trust,  as
                Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool
                III Trust, as Tenant

#10.14**        Representative Form of Composite Copy of Operating Agreement, as
                amended through  December 13, 2001 between certain  subsidiaries
                of the Registrant and Marriott Senior Living Services, Inc.

#10.15***       Representative  Form of Pooling Agreement by and between certain
                subsidiaries  of  the  Registrant  and  Marriott  Senior  Living
                Services, Inc.

21.1**          Subsidiaries of the Registrant

-----------
*         Incorporated by reference to Senior Housing Properties Trust's Current
          Report on Form 8-K, dated December 13, 2001.

**        Incorporated by reference to the Registrant's  Registration  Statement
          on Form S-1, File No. 333-83648.

***       Incorporated by reference to the Registrant's  Registration  Statement
          on Form S-1, File No. 333-69846.

****      Incorporated by reference to Senior Housing Properties Trust's Current
          Report on Form 8-K, dated November 5, 2001.

*****     Incorporated by reference to Senior Housing Properties Trust's Current
          Report on Form 8-K, dated December 31, 2001.

+         Indicates a management  contract or a compensatory  plan,  contract or
          arrangement.

#         Agreement filed is illustrative of numerous other  agreements to which
          the Registrant is a party.

                                       30

<PAGE>

(d)  Financial Statement Schedules

1.        Schedule  II-Valuation and Qualifying Accounts of Forty-two Facilities
          Acquired by Senior Housing  Properties  Trust from  Integrated  Health
          Services, Inc.

2.        Schedule  II-Valuation  and  Qualifying  Accounts  of Certain  Mariner
          Post-Acute  Network  Facilities  (Operated by  subsidiaries of Mariner
          Post-Acute Network, Inc.)

All other  schedules  have been  ommitted  because the required  information  is
included in the consolidated  financial  statements or notes thereto or they are
not required submissions.

                                       31

<PAGE>
                         REPORT OF INDEPENDENT AUDITORS

To the Directors and Shareholders of
Five Star Quality Care, Inc.

We have  audited  the  accompanying  consolidated  balance  sheets  of Five Star
Quality  Care,  Inc.  as  of  December  31,  2001  and  2000,  and  the  related
consolidated statements of operations,  shareholders' equity, and cash flows for
the year ended  December  31,  2001 and the period  April 27,  2000  (inception)
through December 31, 2000. These financial  statements are the responsibility of
the Company's  management.  Our responsibility is to express an opinion on these
financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable  assurance about whether the financial  statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting  the amounts and  disclosures in the financial  statements.  An audit
also includes assessing the accounting principles used and significant estimates
made by  management,  as well as  evaluating  the  overall  financial  statement
presentation.  We believe  that our audits  provide a  reasonable  basis for our
opinion.

In our opinion,  the financial  statements  referred to above present fairly, in
all material respects,  the consolidated financial position of Five Star Quality
Care,  Inc. at December 31, 2001 and 2000, and the  consolidated  results of its
operations  and its cash  flows for the year  ended  December  31,  2001 and the
period April 27, 2000  (inception)  through December 31, 2000 in conformity with
accounting principles generally accepted in the United States.

                                                     /s/ Ernst & Young LLP
Boston, Massachusetts
February 22, 2002


                                      F-1
<PAGE>



<TABLE>
<CAPTION>
                          FIVE STAR QUALITY CARE, INC.
                           CONSOLIDATED BALANCE SHEETS
           (amounts in thousands, except share and per share amounts)


                                                                               December 31,
                                                                -------------------------------------------
                                                                        2001                  2000
                                                                --------------------  ---------------------
<S>                                                             <C>                   <C>
Assets
Current assets:
   Cash and cash equivalents..............................                  $24,943                    $--
   Accounts receivable, net of allowance of $3,787 at
     December 31, 2001....................................                   36,436                     --
   Prepaid expenses and other current assets .............                    3,750                     --
                                                                --------------------- ---------------------
   Total current assets...................................                   65,129                     --
Net investment in facilities' operations..................                       --                 29,046

Property and equipment, net...............................                    2,914                 25,742
                                                                --------------------- ---------------------
                                                                            $68,043                $54,788
                                                                ===================== =====================

Liabilities and Shareholders' Equity
Current liabilities:
   Accounts payable and accrued expenses..................                   $7,141                    $--
   Accrued compensation and benefits......................                    5,288                     --
   Due to affiliates, net.................................                    2,232                     --
   Accrued real estate taxes..............................                    1,485                     --
   Note payable...........................................                       --                    100
   Other current liabilities..............................                    1,664                     --
                                                                --------------------- ---------------------
   Total current liabilities..............................                   17,810                    100

Commitments and contingencies

Shareholders' equity:
Preferred stock, par value $0.01:1,000,000 shares
   authorized, none issued                                                       --                     --
Common stock, par value $0.01: 10,000,000 shares
   authorized,  4,374,334  shares issued and outstanding
   as of December 31, 2001 and 3,000  shares  authorized,
   1,000  shares  issued and  outstanding  as of December 31,
   2000                                                                          44                     --
Additional paid-in-capital                                                   50,978                 56,004
Accumulated deficit                                                            (789)                (1,316)
                                                                --------------------- ---------------------
   Total shareholders' equity                                                50,233                 54,688
                                                                --------------------- ---------------------
                                                                            $68,043                $54,788
                                                                ===================== =====================
</TABLE>


See accompanying notes.


                                       F-2
<PAGE>

<TABLE>
<CAPTION>
                          FIVE STAR QUALITY CARE, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                (amounts in thousands, except per share amounts)



                                                                                                    Period
                                                                                                April 27, 2000
                                                                                                  (Inception)
                                                                                                    through
                                                                                Year Ended       December 31,
                                                                            December 31, 2001        2000
                                                                            ------------------- ----------------

<S>                                                                         <C>                 <C>
Revenues:
     Net patient revenues..........................................                   $229,235               $--
     Income from facilities' operations............................                         --             2,520
                                                                            ------------------- ----------------
Total revenues.....................................................                    229,235             2,520

Expenses:
     Wages and benefits............................................                    138,883                --
     Other operating expenses......................................                     72,967                --
     General and administrative....................................                     15,627             3,519
     Depreciation .................................................                      1,274               317
                                                                            ------------------- ----------------
Total expenses.....................................................                    228,751             3,836
                                                                            ------------------- ----------------

Operating income (loss) ...........................................                        484            (1,316)

Interest income, net...............................................                         43                --
                                                                            ------------------- ----------------

Net income (loss) before income taxes..............................                        527            (1,316)

Provision for income taxes.........................................                         --                --
                                                                            ------------------- ----------------

Net income (loss) .................................................                       $527           $(1,316)
                                                                            =================== ================

Weighted average shares outstanding ...............................                      4,374             4,374
                                                                            =================== ================

Earnings (loss) per share  ........................................                      $0.12            $(0.30)
                                                                            =================== ================
</TABLE>


See accompanying notes.

                                      F-3
<PAGE>


<TABLE>
<CAPTION>
                          FIVE STAR QUALITY CARE, INC.
                 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
                  (amounts in thousands, except share amounts)

       For the year ended December 31, 2001 and the period April 27, 2000
                      (Inception) through December 31, 2000


                                                                     Additional
                                           Number of     Common        Paid-in      Accumulated
                                             Shares       Stock        Capital        Deficit          Total
                                             ------       -----        -------        -------          -----

<S>                                       <C>          <C>         <C>             <C>             <C>
Balance at April 27, 2000.............         1,000        $--            $ 1              $-              $1

Contribution from Senior Housing,
net...................................            --         --         56,003              --          56,003

Net loss..............................            --         --             --          (1,316)        (1,316)
                                          ----------   --------    -----------     -----------     -----------

Balance at December 31, 2000..........         1,000         --         56,004          (1,316)          54,688

Issuance of shares, pursuant to
spin-off..............................     4,373,334         44            189              --             233

Distribution to Senior Housing, net...            --         --         (5,215)             --          (5,215)

Net income............................            --         --             --             527             527
                                          ----------   --------    -----------     -----------     -----------

Balance at December 31, 2001..........     4,374,334        $44        $50,978           $(789)        $50,233
                                          ==========   ========    ===========     ===========     ===========
</TABLE>



See accompanying notes.


                                      F-4
<PAGE>



<TABLE>
<CAPTION>
                          FIVE STAR QUALITY CARE, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                             (amounts in thousands)

                                                                                                       Period
                                                                                                   April 27, 2000
                                                                                                     (Inception)
                                                                                 Year Ended       through December
                                                                              December 31, 2001       31, 2000
                                                                             -------------------- ------------------


<S>                                                                             <C>                  <C>
Cash flows from operating activities:
   Net income (loss)...................................................                   $ 527            $(1,316)
   Adjustments to reconcile net income (loss) to cash used in operating
     activities:
        Depreciation...................................................                   1,274                 317
        Amortization...................................................                      47                  --
        Provision for bad debt.........................................                   1,587                  --
        Income from facilities' operations.............................                      --              (2,520)
        Changes in assets and liabilities:
           Accounts receivable.........................................                   9,571                  --
           Prepaid expenses and other current assets...................                  (2,685)                 --
           Accounts payable and accrued expenses.......................                  (4,905)                 --
           Accrued compensation and benefits...........................                    (492)                 --
           Due to affiliates, net......................................                   2,232                  --
           Other current liabilities...................................                  (8,316)                 --
                                                                                -----------------    ---------------
        Cash used in operating activities..............................                  (1,160)             (3,519)
                                                                                -----------------    ---------------

Cash flows from investing activities:
   Real estate acquisitions............................................                      --              (2,300)
   Investment in facilities' operations................................                      --             (38,530)
   Equipment purchases.................................................                  (2,176)                 --
                                                                                -----------------    ---------------
        Cash used in investing activities..............................                  (2,176)            (40,830)
                                                                                -----------------    ---------------

Cash flows from financing activities:
   Payment of deferred financing costs.................................                  (1,016)                 --
   Proceeds from note payable..........................................                      --                 100
   Proceeds from mortgage payable......................................                   9,100                  --
   Proceeds from issuance of common stock..............................                     233                   1
   Owners contribution, net............................................                  12,783              44,248
                                                                                -----------------    ---------------
        Cash provided by financing activities..........................                  21,100              44,349
                                                                                -----------------    ---------------

Increase in cash and cash equivalents..................................                  17,764                  --
Cash and cash equivalents at beginning of period.......................                      --                  --
Cash and cash equivalents at facilities' operations, beginning of
  period...............................................................                   7,179                  --
                                                                                -----------------    ---------------
Cash and cash equivalents at end of period.............................                $ 24,943                 $--
                                                                                -----------------    ---------------

Non-cash investing and financing activities:
   Contribution of real estate and related property from Senior
     Housing...........................................................                 $(2,232)           $(23,759)
   Distribution of real estate and other assets to Senior Housing......                  29,330                  --
   Liabilities assumed by facilities' operations.......................                      --              12,004
   Assumption of mortgage payable by Senior Housing....................                  (9,100)                 --
</TABLE>


See accompanying notes.


                                      F-5
<PAGE>
                          FIVE STAR QUALITY CARE, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                December 31, 2001
                (amounts in thousands, except per share amounts)

1. Organization

         Five Star Quality Care, Inc. (the "Company") was organized on April 27,
2000, as a wholly owned  subsidiary of Senior Housing  Properties Trust ("Senior
Housing").  The Company was formed under Delaware law in 2000 and reincorporated
under  Maryland law on September 20, 2001.  Effective  July 1, 2000, the Company
assumed the  operations  of  healthcare  facilities  from two former  tenants of
Senior Housing.

         On December 31, 2001, Senior Housing distributed 4,342 of the Company's
Common Shares to its shareholders  (the "Spin-Off").  Additionally,  the Company
sold 32 Common  Shares to Senior  Housing and HRPT  Properties  Trust  ("HRPT").
Concurrent  with the Spin-Off,  the Company  entered into a lease agreement with
Senior  Housing for 56  healthcare  facilities.  The Company also entered into a
transaction  agreement  to govern the initial  capitalization  and other  events
related to the Spin-Off.  Pursuant to the transaction  agreement,  the Company's
initial  capitalization of $50,000 was provided by Senior Housing. In connection
with the Spin-Off,  the Company (i)  transferred  title to seven  properties and
other  assets  with a net book value at  December  31, 2001 of $29,330 to Senior
Housing,  (ii)  conveyed a mortgage  of $9,100 at  December  31,  2001 to Senior
Housing  and (iii)  obtained  title to two  properties  with a net book value of
$2,232 at December 31, 2001 from Senior Housing.

2. Summary of Significant Accounting Policies

         Basis  of  presentation.   The  accompanying   consolidated   financial
statements include the accounts of the Company and all of its subsidiaries.  All
intercompany transactions have been eliminated.

         The Company was owned by Senior  Housing  until  December  31, 2001 and
transactions  are  presented  on Senior  Housing's  historical  basis.  Prior to
December  31,  2001,  substantially  all  of the  income  from  the  facilities'
operations  received by the Company was deposited in and commingled  with Senior
Housing's  general funds,  and Senior Housing provided funds for working capital
and other cash required by the Company.  General and administrative expenses are
comprised  of costs  incurred  by Senior  Housing  and  charged  to the  Company
primarily  based on a specific  identification  basis,  which in the  opinion of
management is reasonable.  It is not  practicable to estimate  additional  costs
that would have been incurred by the Company as a separate entity.

         The facilities operations commenced by the Company on July 1, 2000 were
initially subject to completion of state and Federal regulatory processes, which
were  substantially  completed on December 31, 2000. As a result, for the period
July 1, 2000 through  December 31, 2000, the facilities were accounted for using
the equity  method.  Net income from these  operations  for the period  prior to
December  31, 2000,  is reported as income from  facilities'  operations  in the
Consolidated  Statements  of  Operations  and  the  capital  invested  in  these
operations as of December 31, 2000, is included in net investment in facilities'
operations on the Consolidated Balance Sheets.

         Cash and cash  equivalents.  Highly  liquid  investments  with original
maturities of three months or less at the date of purchase are  considered to be
cash equivalents.

         Property and equipment.  Fixed assets are stated at cost.  Depreciation
of  property  and  equipment  is  expensed  on a  straight-line  basis  over the
estimated  useful lives of up to 40 years for buildings and  improvements and up
to 12 years for personal property.

                                      F-6
<PAGE>
                          FIVE STAR QUALITY CARE, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                December 31, 2001
                (amounts in thousands, except per share amounts)

2. Summary of Significant Accounting Policies (Continued)

         Impairment of long lived assets.  Impairment losses are recognized when
indicators of impairment are present and the undiscounted cash flow estimated to
be generated by the Company's  investments  is less than the carrying  amount of
such  investments.  The amount of  impairment  loss,  if any, is  determined  by
comparing the carrying amount of the Company's  investment to its estimated fair
value.

         Income  taxes.  Prior to December  31, 2001,  substantially  all of the
Company's  taxable  income was included in the taxable  income of Senior Housing
for federal  income tax  purposes.  Senior  Housing  qualifies  as a real estate
investment  trust ("REIT")  under the Internal  Revenue Code of 1986, as amended
("IRC"), and, prior to December 31, 2001, the Company was a subsidiary of Senior
Housing.  A portion of the Company's income generated by subsidiaries is subject
to federal income taxes.  These  subsidiaries  generated tax losses in both 2001
and 2000.

         Use  of  estimates.   Preparation  of  these  financial  statements  in
conformity with accounting  principles  generally  accepted in the United States
requires  management  to make  estimates  and  assumptions  that may  affect the
amounts reported in these financial statements. Actual results could differ from
these estimates.

         Per common share  amounts.  Earnings per share has been presented as if
the shares  outstanding  at December 31, 2001 were  outstanding  as of April 27,
2000. The Company has no common share equivalents,  instruments convertible into
Common Shares or other dilutive instruments.

         Revenues.  The Company's  revenues are derived primarily from providing
healthcare services to residents. Approximately 76% of 2001 revenues was derived
from payments under Federal and state medical assistance  programs.  The Company
accrues for revenues when services are provided at standard  charges adjusted to
amounts  estimated  to  be  received  under  governmental   programs  and  other
third-party contractual  arrangements.  Revenues are reported at their estimated
net realizable amounts and are subject to audit and retroactive  adjustment.  As
of December 31, 2001 the Company had an allowance  for doubtful  accounts  which
totaled  $3,787.  During 2001, the Company  increased its allowance for doubtful
accounts by $3,283 and wrote off $1,696 of accounts receivable as uncollectable.

         Amounts due from the Federal  government  Medicare program were $14,020
at December 31, 2001.  Amounts due from various  state  Medicaid  programs  were
$17,979 at December 31, 2001. Of these balances approximately $1,800 is expected
to be paid to Integrated Health Services Inc. ("IHS") for the Company's account.
The  Company  believes  IHS will pay these  funds  pursuant  to its  contractual
obligation approved by the Bankruptcy Court.  However, IHS remains in bankruptcy
proceedings and its record keeping and payment processing has not been timely.

         New  accounting  pronouncements.   In  2001  the  Financial  Accounting
Standards Board issued Statement of Financial  Accounting Standards ("SFAS") No.
141 "Business Combinations", SFAS No. 142 "Goodwill and Other Intangible Assets"
and SFAS No. 144  "Accounting  for the  Impairment  or  Disposal  of  Long-Lived
Assets".  The Company will adopt these pronouncements as of January 1, 2002. The
Company  expects the adoption of these standards will not have a material effect
on the Company's financial position or results of operations.

                                      F-7
<PAGE>

                          FIVE STAR QUALITY CARE, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                December 31, 2001
                (amounts in thousands, except per share amounts)


3. Net Investment in Facilities' Operations

         The  Company  assumed  operating   responsibility  for  the  healthcare
facilities  effective July 1, 2000, pending final regulatory  approvals required
in the healthcare  industry.  Former tenants of Senior Housing  performed  these
licensed  services  until  January 1, 2001.  Because all  approvals had not been
received by December 31, 2000, net income from these  facilities is reflected as
income from facilities' operations in the Consolidated  Statements of Operations
for the period April 27, 2000 (Inception) through December 31, 2000. The capital
invested  in these  operations  as of  December  31,  2000,  is  included in net
investment in facilities' operations in the Consolidated Balance Sheets.

         Summary financial data for these facilities' operations is as follows:
<TABLE>
<CAPTION>
                                                                                                        July 1 through
                                              December 31, 2000                                         December 31, 2000
                                              -----------------                                         -----------------
<S>                                                 <C>           <C>                                        <C>
Current assets..............................        $55,938       Revenues.............................      $114,483
Property and equipment, net.................          2,399       Expenses.............................       111,963
                                                    -------                                                   -------
                                                    $58,337       Income from facilities' operations...        $2,520
                                                    =======                                                    ======
Current liabilities.........................        $29,291
Net investment in facilities' operations....         29,046
                                                     ------
                                                    $58,337
                                                    =======
</TABLE>
4. Property and Equipment

         Property  and  equipment,  at cost,  consists  of the  following  as of
December 31, 2001 and 2000:
<TABLE>
<CAPTION>
                                                                                 2001                 2000
                                                                            ---------------      ---------------
<S>                                                                              <C>                 <C>
Land.........................................................                      $237               $2,949
Building and improvements....................................                     1,999               20,584
Furniture, fixtures and equipment............................                       885                2,526
                                                                                 ------              -------
                                                                                  3,121               26,059
Accumulated depreciation.....................................                      (207)                (317)
                                                                                 ------              -------
                                                                                 $2,914              $25,742
                                                                                 ======              =======
</TABLE>
                                      F-8
<PAGE>

                          FIVE STAR QUALITY CARE, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                December 31, 2001
                (amounts in thousands, except per share amounts)


5. Income Taxes

         Significant  components  of  the  Company's  deferred  tax  assets  and
liabilities as of December 31, 2001, and 2000 are:
<TABLE>
<CAPTION>
                                                                                          2001               2000
                                                                                      ------------       ------------
<S>                                                                                         <C>                   <C>
Deferred tax assets (liabilities)
Allowance for doubtful accounts...................................................          $1,325                $65
Net operating loss carryforward...................................................             168                 66
Property and equipment............................................................           1,977                (37)
                                                                                            ------                ----
Net deferred tax assets before valuation allowance................................           3,470                 94
Valuation allowance...............................................................          (3,470)               (94)
                                                                                            -------               ----
Net deferred tax assets...........................................................             $ -                $ -
                                                                                               ===                ===
</TABLE>
         During 2001 and 2000, some of the Company's  subsidiaries  were taxable
entities   separate  from  Senior  Housing  and  generated  net  operating  loss
carryforwards   for  tax  purposes.   These   subsidiary   net  operating   loss
carryforwards  totaled $479 and $189 at December 31, 2001 and 2000 respectively,
and may be used under certain  conditions to reduce future taxable income of the
Company.  These net operating loss  carryforwards will expire beginning in 2015,
if unused.

         During 2001 and 2000, the Company and certain of its subsidiaries  were
part of Senior Housing for federal tax purposes.  These subsidiaries contributed
expenses in excess of revenues  for tax purposes to Senior  Housing  during 2001
and  2000.  Some  of the  temporary  differences  between  such  excess  and the
Company's book income in 2001 and 2000 are expected to reverse in future periods
when the Company is a separate  consolidated  group (i.e.,  after the Spin-Off).
Such temporary differences totaled approximately $1,400 as of December 31, 2001,
and relate primarily to the allowance for doubtful accounts.

         In connection with the Spin-Off,  Senior Housing  contributed assets to
the  Company  with tax  basis in excess of book  basis;  the tax  effect of this
temporary difference was approximately $1,900 as of December 31, 2001.

         A full  valuation  allowance  has  been  recorded  in the  accompanying
financial  statements  to offset the net deferred  tax asset  because its future
realizability is uncertain.

         The blended  statutory federal and state income tax rates applicable to
the Company of 35% in 2001 and 2000 was fully  offset by the change in valuation
allowances for those periods.

6. Transactions with Affiliates

         On October 1, 2000,  the Company  entered  into third party  management
agreements  with FSQ, Inc. to manage the operations of its  facilities.  Messrs.
Martin and Portnoy, the Company's Managing Directors,  own FSQ, Inc. During 2001
and 2000, management fees paid to FSQ, Inc. by the Company totaled approximately
$11,500 and $5,100, respectively.  As of December 31, 2001, the Company was owed
approximately  $1,000 from FSQ, Inc. for amounts  advanced by the Company on its

                                      F-9
<PAGE>

                          FIVE STAR QUALITY CARE, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                December 31, 2001
                (amounts in thousands, except per share amounts)


6. Transactions with Affiliates (Continued)


behalf.  This amount was  satisfied as part of the merger of FSQ,  Inc. into the
Company which occurred on January 2, 2002.

         During 2000,  HRPT,  an affiliate of Senior  Housing,  foreclosed  on a
mortgage  with a  principal  balance  outstanding  of  $2,400  that  had been in
default.  The  collateral  security  for this  mortgage  was an assisted  living
facility in the vicinity of a nursing home operated by the Company.  In November
2000, a subsidiary of the Company  purchased the former collateral from HRPT for
$2,300, its appraised value.

         Pursuant to the Spin-Off transaction  agreement,  Senior Housing agreed
to  contribute  $50,000 of net working  capital to the  Company on December  31,
2001. Amounts were estimated on December 31, 2001 and the transaction  agreement
provided that a true up of amounts contributed would be completed  subsequent to
the year end. The amount owed to Senior Housing by the Company is  approximately
$3,300 as of December 31, 2001.

         Pursuant to the Spin-Off  transaction  agreement,  the Company  entered
into a shared service agreement with Reit Management and Research,  LLC ("RMR").
Messrs.  Martin and Portnoy,  the Company's  Managing  Directors,  own RMR. This
agreement  provides that RMR will perform  services for the Company that RMR has
historically  performed  for FSQ,  Inc.  and that the Company will pay RMR a fee
equal to 0.6% of the Company's revenues starting in 2002.

         As part of the Spin-Off transaction,  and in order that HRPT could make
a round lot  distribution  to its  shareholders of one for 100 of Company shares
which HRPT received as a shareholder of Senior  Housing,  HRPT acquired 7 shares
of the Company  from the Company for $7.26 per share.  This  purchase  price per
share was determined as the average trading price of the Company's shares on the
date of the Spin-Off as reported by the American Stock Exchange.

         The Company  leases its  headquarters  from an entity  owned by Messrs.
Martin and  Portnoy.  The lease  expires in 2011 and  requires  rent of $531 per
year, subject to annual increases of $16 per year.

7. Leases

         The Company has entered into a noncancelable  lease with Senior Housing
for 56  facilities.  The lease is a  "triple-net"  lease and  requires  that the
Company pay for all costs incurred in the operation of the facilities, including
the cost of  personnel,  service to  residents,  insurance,  and real estate and
personal  property  taxes.  The lease also  requires the Company to maintain the
facilities  during  the  lease  term and to  indemnify  Senior  Housing  for any
liability which may arise during the lease term. The lease requires minimum rent
payments of $7,000 per year and percentage rent starting in 2004. The percentage
rent is an amount equal to three  percent  (3%) of net patient  revenues at each
facility in excess of net patient  revenues at such  facility  during 2003.  The
lease expires on December 31, 2018,  and the Company has one renewal  option for
an additional 15 years.

                                      F-10
<PAGE>

                          FIVE STAR QUALITY CARE, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                December 31, 2001
                (amounts in thousands, except per share amounts)


7. Leases (Continued)

         The future minimum rent required by this lease as of December 31, 2001,
is as follows:

2002...........................................................         $7,000
2003...........................................................          7,000
2004...........................................................          7,000
2005...........................................................          7,000
2006...........................................................          7,000
Thereafter.....................................................         84,000
                                                                     ---------
                                                                      $119,000
                                                                     =========

8. Employee Benefit Plan

         During 2001, the Company established an employee savings plan under the
provisions  of the Internal  Revenue  Code section  401(k).  All  employees  are
eligible to  participate  in the plan and are  entitled,  upon  termination,  or
retirement,  to receive their  portion of the plan assets.  The Company does not
contribute  to this  plan,  but does  pay  certain  expenses  of the  plan.  The
Company's plan expenses were $30 for the year ended December 31, 2001.

9. Fair Value of Financial Instruments

         The  Company's  financial  instruments  are  limited  to cash  and cash
equivalents,  accounts  receivables  and  payables.  The  fair  value  of  these
financial instruments was not materially different from their carrying values at
December 31, 2001 and 2000.

10. Commitments and Contingencies

         In conjunction  with certain Medicaid rate adjustments that the Company
obtained from the State of Connecticut, the Company is obligated to fund certain
tenant improvements at the Company's Connecticut facilities. The Company expects
these improvements will be completed in 2002.

         Applicable  provisions  of Federal  and some  state  laws allow  paying
agents for the Medicare and Medicaid  programs to recoup amounts owed by Mariner
Post Acute Network,  Inc.  ("Mariner")  and IHS to these programs for historical
overpayments  from current  payments to facilities  now operated by the Company,
despite the bankruptcy filings by Mariner and IHS. Also, some state nursing home
licensing  agencies  have in the past  required  that a successor  nursing  home
licensee,  such as the Company,  agree to assume financial  responsibility for a
predecessor  licensee's  obligations due to those state Medicaid  programs.  The
Company  has  negotiated  agreements  with the U.S.  Department  of Justice  and
understandings  with  several  state  Medicaid  agencies to limit the  Company's
liabilities for obligations of Mariner and IHS to the Federal Medicare and state
Medicaid programs.

11. Subsequent Events

         On January 2, 2002, the Company  acquired FSQ, Inc. in order to acquire
the personnel, systems and assets necessary to manage the facilities the Company
leases from Senior Housing.  The acquisition

                                      F-11
<PAGE>

                          FIVE STAR QUALITY CARE, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                December 31, 2001
                (amounts in thousands, except per share amounts)


11. Subsequent Events (Continued)

was a stock for stock transaction, and Messrs. Martin and Portnoy, the owners of
FSQ, Inc., each received 125 of the Company's  Common Shares valued at $7.50 per
share.

         On January  11,  2002,  the  Company  entered  into a lease with Senior
Housing for 31 retirement communities. These communities are managed by Marriott
Senior Living Services,  Inc.  ("Marriott").  The 31 retirement  communities are
leased from Senior Housing  through 2017, with renewal options for an additional
15 years.  The  minimum  rent  payable by the Company  for these  facilities  is
$63,000 per year, plus a varying  percentage of gross revenue each year which is
paid as  additional  rent to Senior  Housing  but will be  escrowed  for  future
capital expenditures at the leased facilities. In addition, percentage rent will
be  payable,  starting in 2003,  in amounts  equal to five  percent  (5%) of net
patient  revenues at each  facility  in excess of net  patient  revenues at such
facility in 2002.

12. Pro Forma Information (Unaudited)

         If the Company had obtained all required  healthcare licenses and began
operating  the  facilities as of January 1, 2000,  its pro forma 2000  revenues,
expense  and  net  loss  would  have  been   $220,703,   $223,015   and  $2,312,
respectively.  This  unaudited pro forma  information  is not  indicative of the
operating results that would have occurred had the Company obtained all required
healthcare  licenses and began  operating the  facilities as of January 1, 2000,
nor is it indicative of future results of operations.

13. Selected Quarterly Financial Data (Unaudited)

         Summary  unaudited  quarterly  results of operations of the Company for
the year ended  December  31,  2001 and the period  April 27,  2000  (Inception)
through December 31, 2000:


<TABLE>
<CAPTION>
                                                                               2001
                                            --------------------------------------------------------------------------
                                              First Quarter      Second Quarter     Third Quarter      Fourth Quarter
                                            -----------------  -----------------  -------------------  ---------------
<S>                                                  <C>                <C>                  <C>              <C>
Revenues...................................          $57,354            $55,906               $57,421          $58,554
Net (loss) income..........................             (839)            (1,063)                1,238            1,191
(Loss) earnings per common share...........           $(0.19)            $(0.24)                $0.28            $0.27

<CAPTION>
                                                                                           2000
                                                                 ------------------------------------------------------
                                                                   Second Quarter      Third Quarter    Fourth Quarter
                                                                 -----------------   ------------------ ---------------
<S>                                                                        <C>                   <C>            <C>
Revenues.....................................................                 $--                $1,228          $1,292
Net income (loss) ...........................................                (870)                1,070          (1,516)
Earnings (loss) per common share.............................              $(0.20)                $0.24          $(0.34)
</TABLE>
                                      F-12
<PAGE>
                          INDEPENDENT AUDITORS' REPORT

The Board of Directors
Senior Housing Properties Trust:

We have  audited  the  accompanying  combined  balance  sheets of the  Forty-two
facilities  acquired by Senior Housing  Properties Trust from Integrated  Health
Services,  Inc. (Acquired  Facilities) as described in note 1 as of December 31,
2000 and 1999 and the related  statements of  operations,  changes in net equity
(deficit) of parent company and cash flows for each of the years in the two-year
period ended  December 31, 2000. In  connection  with our audits of the combined
financial  statements,  we also have audited the financial statement schedule of
valuation and qualifying accounts.  These financial statements and the financial
statement   schedule  are  the   responsibility  of  the  Acquired   facilities'
management.  Our  responsibility  is to express  an  opinion on these  financial
statements and the financial statement schedule based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the  United  States of  America.  Those  standards  require  that we plan and
perform the audit to obtain  reasonable  assurance  about  whether the financial
statements are free of material misstatement.  An audit includes examining, on a
test basis,  evidence  supporting  the amounts and  disclosures in the financial
statements.  An audit also includes assessing the accounting principles used and
significant  estimates  made by  management,  as well as evaluating  the overall
financial  statement  presentation.   We  believe  that  our  audits  provide  a
reasonable basis for our opinion.

In our opinion,  the financial  statements  referred to above present fairly, in
all  material  respects,   the  combined  financial  position  of  the  Acquired
facilities as of December 31, 2000 and 1999 and the results of their  operations
and their cash flows for each of the years in the two-year period ended December
31, 2000 in conformity  with  accounting  principles  generally  accepted in the
United States of America.  Also in our opinion,  the related financial statement
schedule, when considered in relation to the basic combined financial statements
taken as a whole, presents fairly, in all material respects, the information set
forth therein.

                                  /s/ KPMG LLP

Baltimore, Maryland
September 13, 2001



                                      F-13
<PAGE>
<TABLE>
<CAPTION>
                             FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                                          FROM INTEGRATED HEALTH SERVICES, INC.



                                             COMBINED BALANCE SHEETS (Note 1)
                                                December 31, 2000 and 1999
                                                  (Dollars in thousands)

                                                                                                        2000       1999
                                                                                                      -------     ------
<S>                                                                                                   <C>         <C>
Assets
Current assets:
   Cash and cash equivalents..................................................................         $4,514      1,684
   Patient accounts and third-party payor settlements receivable (note 3).....................         29,266     22,624
   Other current assets.......................................................................            576      2,657
                                                                                                      -------     ------

      Total current assets....................................................................         34,356     26,965
Property, plant and equipment (note 4)........................................................            586     16,199
Intangible assets, net (note 5)...............................................................             --     18,110
                                                                                                      -------     ------
                                                                                                      $34,942     61,274
                                                                                                      =======     ======
Liabilities and Net Equity (Deficit) of Parent Company
Current liabilities:
   Accounts payable and accrued expenses (note 6).............................................         $9,499     12,891
   Current maturities of long-term debt (note 7)..............................................             --        273
   Due to Senior Housing Properties Trust (note 8)............................................         27,323         --
                                                                                                       ------      -----

      Total current liabilities...............................................................         36,822     13,164
Long-term debt, less current maturities (note 7)..............................................             --     17,500
Commitments and contingencies (notes 11 and 13)...............................................
Net equity (deficit) of Parent Company........................................................         (1,880)    30,610
                                                                                                      -------     ------
                                                                                                      $34,942     61,274
                                                                                                      =======     ======
</TABLE>

See accompanying notes to financial statements.



                                      F-14
<PAGE>
<TABLE>
<CAPTION>
                             FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                                          FROM INTEGRATED HEALTH SERVICES, INC.


                                        COMBINED STATEMENTS OF OPERATIONS (Note 1)
                                          Years ended December 31, 2000 and 1999
                                                  (Dollars in thousands)

                                                                                            2000           1999
                                                                                       --------------   ------------
<S>                                                                                    <C>              <C>
Total patient service revenues...................................................            $135,378        130,333
                                                                                       --------------   ------------

Costs and expenses:
   Operating expenses............................................................             131,916        124,732
   Depreciation and amortization.................................................                 889          4,265
   Rent (note 9).................................................................               9,102         13,191
   Interest, net.................................................................               2,053          3,899
   Loss on impairment of long-lived assets (note 12).............................                  --        120,007
   Loss on settlement of lease and mortgage obligations (note 1).................              16,670             --
                                                                                       --------------   ------------

      Total costs and expenses...................................................             160,630        266,094
                                                                                       --------------   ------------

      Loss before income taxes...................................................             (25,252)      (135,761)
Federal and state income taxes (benefit) (note 10)...............................                  --         (8,822)
                                                                                       --------------   ------------

      Net loss...................................................................            $(25,252)      (126,939)
                                                                                       ==============   ============
</TABLE>



See accompanying notes to financial statements.



                                      F-15
<PAGE>


        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.


             COMBINED STATEMENTS OF CHANGES IN NET EQUITY (DEFICIT)
                           OF PARENT COMPANY (Note 1)
                     Years ended December 31, 2000 and 1999
                             (Dollars in thousands)



Balance at December 31, 1998...................................      $147,025
   Net contributions from Parent...............................        10,524
   Net loss....................................................      (126,939)
                                                                    ---------

Balance at December 31, 1999...................................        30,610
   Net contributions from (distributions to) Parent............        (7,238)
   Net loss....................................................       (25,252)
                                                                    ---------

Balance at December 31, 2000...................................      $ (1,880)
                                                                    =========



See accompanying notes to financial statements.



                                      F-16
<PAGE>


        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

<TABLE>
<CAPTION>
                   COMBINED STATEMENTS OF CASH FLOWS (Note 1)
                     Years ended December 31, 2000 and 1999
                             (Dollars in thousands)

                                                                                             2000          1999
                                                                                         -------------  ------------
<S>                                                                                      <C>            <C>
Cash flows from operating activities:
   Net loss.........................................................................          $(25,252)     (126,939)
   Adjustments to reconcile net loss to net cash used by operating activities:
      Loss on impairment of long-lived assets.......................................                --       120,007
      Loss on settlement............................................................            16,670            --
      Deferred income taxes.........................................................                --       (8,822)
      Depreciation and amortization.................................................               889         4,265
      Decrease (increase) in patient accounts and third-party payor settlements                 (6,642)        7,540
        receivable..................................................................
      Increase (decrease) in other current assets...................................             2,081           (60)
      Increase (decrease) in accounts payable.......................................            (3,392)       (3,822)
                                                                                         -------------  ------------

        Net cash used by operating activities.......................................           (15,646)       (7,831)
                                                                                         -------------  ------------

Cash flows from investing activities:
   Purchases of property, plant and equipment.......................................            (1,472)       (3,108)
                                                                                         -------------  ------------

        Net cash used by investing activities.......................................            (1,472)       (3,108)
                                                                                         -------------  ------------

Cash flows from financing activities:
   Repayments of long-term debt.....................................................              (137)         (220)
   Net contributions from (distributions to) parent company.........................            (7,238)       10,524
   Advances from Senior Housing Properties Trust....................................            27,323            --

        Net cash provided by financing activities...................................            19,948        10,304
                                                                                         -------------  ------------

        Increase (decrease) in cash and cash equivalents............................             2,830          (635)
Cash and cash equivalents, beginning of period......................................             1,684         2,319
                                                                                         -------------  ------------

Cash and cash equivalents, end of period............................................            $4,514         1,684
                                                                                         =============  ============
</TABLE>




See accompanying notes to financial statements.



                                      F-17
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

                     NOTES TO COMBINED FINANCIAL STATEMENTS
                           December 31, 2000 and 1999
                             (Dollars in thousands)

1.  Background and Basis of Presentation

         Prior to July 7, 2000,  Integrated  Health  Services,  Inc. (IHS or the
Parent Company), through its wholly owned subsidiaries, operated various skilled
nursing  facilities with respect to which Senior Housing  Properties Trust (SNH)
was  owner/lessor or first mortgage  lender.  In January 2000, IHS ceased making
rent and  interest  payments on these  obligations  and  subsequently  filed for
bankruptcy in February 2000.

         On July 7, 2000,  effective as of July 1, 2000,  the  Bankruptcy  Court
approved a settlement agreement whereby IHS' lease and mortgage obligations to a
subsidiary  of SNH were  cancelled  and IHS conveyed  nine nursing homes and one
parcel of non-operating  real property to SNH. As a result, SNH has obtained the
operations   of  42  facilities   previously   operated  by  IHS  (the  Acquired
Facilities).  IHS managed the Acquired  Facilities under a management  agreement
with SNH for the period from July 1, 2000 to September 30, 2000. An affiliate of
SNH has managed the Acquired Facilities subsequent to September 30, 2000.

         The Acquired  Facilities'  financial  statements  are presented for the
purposes of complying with the Securities  and Exchange  Commission's  rules and
regulations regarding acquired businesses.

         The combined  financial  statements of the Acquired  Facilities reflect
the historical accounts of the skilled nursing facilities, including allocations
of general and  administrative  expenses  from the IHS  corporate  office to the
individual  facilities.  Such  corporate  office  allocations,  calculated  as a
percentage of revenue,  are based on determinations  that management believes to
be  reasonable.  However,  IHS has operated  certain  other  businesses  and has
provided  certain  services to the  Acquired  Facilities,  including  financial,
legal,   accounting,   human   resources  and  information   systems   services.
Accordingly,  expense  allocations to the Company may not be  representative  of
costs of such services to be incurred in the future (see note 11).

         The financial  statements  for periods prior to July 1, 2000  represent
the financial  position and results of operations of the Acquired  Facilities as
reflected  in the accounts of IHS'  subsidiaries.  Such  subsidiaries  leased 19
facilities  from  SNH,  owned  11  facilities  with  respect  to  which  SNH was
mortgagee,  and  owned,  leased or managed 12 other  facilities  not  previously
affiliated with SNH.

         The  financial  statements  for the period  subsequent  to July 1, 2000
represent  the  financial  position  and results of  operations  of the Acquired
Facilities as described above and give effect to the terms of the aforementioned
settlement  agreement.  Accordingly,  as of July 1, 2000,  the  accounts  of the
Acquired  Facilities  no longer  include the  property,  plant and equipment and
intangible  assets of the  facilities  conveyed to SNH,  related  mortgage debt,
mortgage  interest,  and depreciation  and amortization of such facilities.  The
loss on settlement  represents the carrying value of the tangible and intangible
assets of the facilities conveyed to SNH, less the related mortgage debt.

                                      F-18
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)

1.  Background and Basis of Presentation (Continued)

         The  operating  results of the Acquired  Facilities  for the  six-month
period ended June 30, 2000 (prior to the settlement agreement) and the six-month
period ended December 31, 2000 are summarized below:
<TABLE>
<CAPTION>
                                                                             Six Months
                                                       Six Months              ended              Year ended
                                                         ended              December 31,         December 31,
                                                     June 30, 2000              2000                 2000
                                                    ---------------        --------------       --------------
<S>                                                 <C>                    <C>                  <C>
Total patient service revenues...................           $65,195                70,183              135,378
                                                    ---------------        --------------       --------------

Costs and expenses:
   Operating expenses............................            63,865                68,051              131,916
   Depreciation and amortization.................               876                    13                  889
   Rent (note 9).................................             6,323                 2,779                9,102
   Interest, net.................................             2,053                     -                2,053
   Loss on settlement............................                 -                16,670               16,670
                                                    ---------------        --------------       --------------

     Total costs and expenses....................            73,117                87,513              160,630
                                                    ---------------        --------------       --------------

     Loss before income taxes....................           $(7,922)              (17,330)             (25,252)
                                                    ===============        ==============       ==============
</TABLE>
2.  Summary of Significant Accounting Policies

(a)  Revenues

         Revenues, primarily patient services revenues related to room and board
charges, ancillary charges and revenues of pharmacy,  rehabilitation and similar
service  operations,   are  recorded  at  established  rates  and  adjusted  for
differences between such rates and estimated amounts reimbursable by third-party
payors.  As of January 1, 1999,  Medicare revenue is recognized  pursuant to the
Prospective  Payment  System  (PPS).  Under  PPS,  per diem  federal  rates were
established  for urban and  rural  areas.  Rates  are  case-mix  adjusted  using
Resource  Utilization  Groups.  PPS is implemented over a three-year  transition
period that blends a  facility-specific  payment rate with the federal  case-mix
adjusted rate.

         Estimated   settlements  under  third-party  payor  retrospective  rate
setting  programs  (primarily  Medicare for periods prior to January 1, 1999 and
Medicaid)  are  accrued  in the  period  that  related  services  are  rendered.
Settlements  receivable  and related  revenues  under such programs are based on
annual cost reports  prepared in accordance with federal and state  regulations,
which reports are subject to audit and retroactive adjustment. In the opinion of
management,  adequate provision has been made therefore, and such adjustments in
determining  final  settlements  will not have a  material  effect on  financial
position or results of operations.

(b)  Cash and Cash Equivalents

         Cash  equivalents  consist  of  highly  liquid  debt  instruments  with
original maturities of three months or less.


                                  F-19
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)


2.  Summary of Significant Accounting Policies (Continued)

(c)  Depreciation and Amortization

         Property,  plant and equipment are recorded at cost.  Depreciation  and
amortization  are provided  using the  straight-line  method over the  estimated
useful lives of the related assets, generally 25 years for land improvements, 10
years for equipment,  40 years for buildings and the term of the lease for costs
of leasehold interests and improvements.

(d)  Intangible Assets

         Prior to the fourth  quarter of 1999,  intangible  assets of businesses
acquired  (primarily  goodwill)  were  amortized  by  the  straight-line  method
primarily  over 40 years,  the period over which such costs were estimated to be
recoverable through operating cash flows. As discussed in note 12, management of
IHS  continued  to evaluate  the impact of the 1997  Balanced  Budget Act (BBA),
particularly  the impact of the  prospective  payment system (PPS),  upon future
operating  results of the  facilities.  Utilizing IHS' experience with PPS since
January 1, 1999,  management  performed a preliminary analysis of such impact in
the third  quarter of 1999 and a more  comprehensive  analysis at  December  31,
1999.  PPS has had a  dramatic  negative  impact on the  operating  results  and
financial condition of the Acquired Facilities. The PPS system has significantly
reduced the revenues, cash flow and liquidity of the Acquired Facilities and the
long-term  care  industry  in 1999.  As a result of the  negative  impact of the
provisions of PPS,  management  changed the estimated life of its goodwill to 20
years.  This change has been treated as a change in  accounting  estimate and is
being recognized prospectively beginning October 1, 1999.

(e)  Impairment of Long-lived Assets

         Management   regularly   evaluates   whether   events  or   changes  in
circumstances  have occurred  that could  indicate an impairment in the value of
long-lived assets. If there is an indication that the carrying value of an asset
is not recoverable,  management estimates the projected  undiscounted cash flows
of the  related  individual  facilities  (the  lowest  level for which there are
identifiable  cash flows  independent of other groups of assets) to determine if
an  impairment  loss  should be  recognized.  The amount of  impairment  loss is
determined  by  comparing  the  historical  carrying  value of the  asset to its
estimated fair value.  Estimated fair value is determined  through an evaluation
of  recent  financial   performance  and  projected  discounted  cash  flows  of
facilities  using  standard  industry  valuation  techniques.   In  addition  to
consideration  of  impairment  upon  the  events  or  changes  in  circumstances
described  above,  management  regularly  evaluates the  remaining  lives of its
long-lived  assets.  If estimates  are changed,  the carrying  value of affected
assets is allocated  over the  remaining  lives.  Management  performed  such an
analysis at December 31, 1999 (see notes 1 (d) and 12).

(f) Income Taxes

         The  Acquired   Facilities   are  included  in  the  Parent   Company's
consolidated  federal  income tax  return.  The  income  taxes  reported  in the
Acquired Facilities financial statements are an allocation of

                                      F-20
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)


2.  Summary of Significant Accounting Policies (Continued)

income taxes calculated as if the Acquired  Facilities were a separate taxpayer,
in accordance with Statement of Financial Accounting Standards No. 109 (SFAS No.
109), Accounting for Income Taxes.

         Deferred  income  taxes  are  recognized  for the tax  consequences  of
temporary  differences  between  financial  statement  carrying  amounts and the
related tax bases of assets and  liabilities  as required by SFAS No. 109.  Such
tax effects are measured by applying  enacted  statutory tax rates applicable to
future years in which the differences are expected to reverse, and any change in
tax rates will be recognized in the period that includes the date of enactment.

(g) Net Equity (Deficit) of Parent Company

         The Parent Company transfers excess cash from and makes working capital
advances and corporate  allocations to the Acquired  Facilities.  These advances
include  amounts to fund cash  shortfalls,  capital  expenditures,  advances for
accounts  payable and amounts  paid for  employee  benefits  and other  programs
administered  by  the  Parent   Company.   The  resulting  net  balance  of  the
aforementioned  transactions,  the Parent  Company's  initial  investment in the
Acquired  Facilities  and the cumulative  deficit of the Acquired  Facilities is
classified as Net Equity (Deficit) of Parent Company in the accompanying balance
sheet.

(h) Business and Credit Concentrations

         The Acquired  Facilities'  patient  services  are  provided  through 42
facilities  located in 10 states  throughout  the United  States.  The  Acquired
Facilities  generally do not require  collateral or other  security in extending
credit  to  patients;   however,   the  Acquired  Facilities   routinely  obtain
assignments of (or are otherwise entitled to receive) benefits  receivable under
the health insurance  programs,  plans or policies of patients (e.g.,  Medicare,
Medicaid, commercial insurance and managed care organizations) (see note 3).

(i) Use of Estimates

         The  preparation of financial  statements in conformity with accounting
principles   generally  accepted  in  the  United  States  of  America  requires
management to make estimates and assumptions that affect the reported amounts of
assets and  liabilities  and disclosure of contingent  assets and liabilities at
the date of the financial  statements  and the reported  amounts of revenues and
expenses  during the reporting  period.  Actual  results could differ from those
estimates.

(j) Reclassification

         Certain  amounts  presented in 1999 have been  reclassified  to conform
with the presentation for 2000.


                                      F-21
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)


3.  Patient Accounts and Third-Party Payor Settlements Receivable

         Patient accounts and third-party payor settlements  receivable  consist
of the following at December 31:
<TABLE>
<CAPTION>
                                                                                   2000             1999
                                                                                   ----             ----
<S>                                                                           <C>             <C>
Patient accounts.......................................................           $28,996          19,396
Third-Party payor settlements..........................................            13,147          12,194
                                                                              -----------     -----------

                                                                                   42,143          31,590
Allowance for doubtful accounts and contractual adjustments............           (12,877)         (8,966)
                                                                              -----------     -----------
                                                                                  $29,266          22,624
                                                                              ===========     ===========
</TABLE>

         Patient   accounts   receivable  and  third  party  payor   settlements
receivable from the Federal government (Medicare) were approximately $14,246 and
$10,757 at December 31, 2000 and 1999,  respectively.  Amounts  receivable  from
various states (Medicaid) were approximately $17,161 and $16,189 at December 31,
2000 and 1999, respectively.

4.  Property, Plant and Equipment

         Property, plant and equipment are summarized as follows at December 31:
<TABLE>
<CAPTION>
                                                                                 2000              1999
                                                                                 ----              ----
<S>                                                                         <C>               <C>
Land and improvements..................................................             $--             6,306
Buildings and improvements.............................................              --             3,104
Leasehold interests and improvements...................................              --             2,637
Equipment..............................................................             598             7,134
                                                                            -----------       -----------

                                                                                    598            19,181
Less accumulated depreciation and amortization.........................              12             2,982
                                                                            -----------       -----------

     Net property, plant and equipment.................................             586            16,199
                                                                            ===========       ===========
</TABLE>


5.  Intangible Assets

Intangible assets are summarized as follows at December 31, 1999:

Intangible assets of business acquired, primarily goodwill.......      $23,287
Less accumulated amortization....................................       (5,177)
                                                                    ----------

     Net intangible assets.......................................      $18,110
                                                                    ==========

         Management  regularly  evaluates  whether events or circumstances  have
occurred that would  indicate an impairment in the carrying value or the life of
goodwill.  In accordance  with SFAS No. 121, if there is an indication  that the
carrying value of an asset,  including goodwill, is not recoverable,  Management
estimates the projected  undiscounted  cash flows,  excluding  interest,  of the
related


                                      F-22
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)

5.  Intangible Assets (Continued)

business  unit to determine if an  impairment  loss should be  recognized.  Such
impairment  loss is determined  by comparing  the carrying  amount of the asset,
including  goodwill,  to its  estimated  fair  value.  Management  performs  the
impairment   analysis  at  the  individual  facility  level.  See  note  12  for
information regarding impairment of assets in the year ended December 31, 1999.

6.  Accounts Payable and Accrued Expenses

Accounts payable and accrued expenses are summarized as follows at December 31:

                                                               2000        1999
                                                               ----        ----
Accounts payable........................................      $5,105       8,294
Accrued salaries and wages..............................       3,015       3,468
Other accrued expenses..................................       1,379       1,129
                                                            --------    --------

                                                               9,499      12,891
                                                            ========    ========

7.  Long-Term Debt

Long-term debt is summarized as follows at December 31, 1999:

<TABLE>
<S>                                                                                             <C>
Mortgages payable in monthly installments of $87, including interest at rates ranging from
    10.3% to 10.86%, due December 2016..................................................             $8,687
Mortgages payable in monthly installments of $95, including interest at 11.5%, due January
    2006................................................................................              9,086
                                                                                                -----------
                                                                                                     17,773
Less current maturities.................................................................                273
                                                                                                -----------
     Total long-term debt, less current portion                                                     $17,500
                                                                                                ===========
</TABLE>


At December 31, 1999 the  aggregate  maturities  of long-term  debt for the five
years ending December 31, 2004 are as follows:

2000...........................................................            $273
2001...........................................................             304
2002...........................................................             339
2003...........................................................             378
2004...........................................................             421
Thereafter.....................................................          16,058
                                                                      ---------
                                                                        $17,773
                                                                      =========
                                      F-23
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)


8.  Due to Senior Housing Properties Trust (SNH)

         Subsequent to July 1, 2000, SNH advanced  funds for operating  expenses
and working  capital of the Acquired  Facilities and allocated  facility  rents.
Such advances bear no interest (see notes 9 and 11).

9.  Leases

         The Acquired  Facilities  leased equipment under  short-term  operating
leases having rental costs of  approximately  $1,146 in 2000 and $1,800 in 1999.
Leases of facilities were terminated in 2000 as discussed in note 1; however, in
accordance  with Staff  Accounting  Bulletin No. 55,  Allocation of Expenses and
Related Disclosure in Financial Statements of Subsidiaries,  Divisions or Lesser
Business  Components of Another  Entity,  $2,159 is included in rent expense for
the period  subsequent to July 1, 2000,  representing an allocation of the total
estimated fair market rental value of facilities.  The annual fair market rental
value has been  estimated  for a combined  group of  facilities,  including  the
Acquired  Facilities,  and has  been  allocated  based on the  respective  total
revenues of the facilities.

10.  Income Taxes

         The  Acquired  Facilities  have been  included in the Parent  Company's
consolidated  federal income tax return. The allocated  provision  (benefit) for
income taxes on loss before  income taxes is  summarized  as follows at December
31:

<TABLE>
<CAPTION>
                                                                                    2000              1999
                                                                                 ----------        -----------
<S>                                                                              <C>               <C>
Current.........................................................................        $--                 --
Deferred........................................................................         --             (8,822)
                                                                                -----------       ------------
                                                                                        $--             (8,822)
                                                                                -----------        ===========
</TABLE>

         The amount  computed by applying the Federal  corporate tax rate of 35%
in 2000  and 1999 to loss  before  income  taxes is  summarized  as  follows  at
December 31:

<TABLE>
<CAPTION>
                                                                                    2000              1999
                                                                                 ----------        -----------
<S>                                                                              <C>               <C>
Income tax computed at statutory rates..........................................    $(7,648)           (47,516)
State income taxes, net of Federal tax benefit and nondeductible items..........     (1,044)            (6,724)
Jobs tax credit.................................................................        (70)               (94)
Valuation allowance adjustment..................................................      8,762             45,512
                                                                                 ----------        -----------
                                                                                        $--             (8,822)
                                                                                 ----------        -----------
</TABLE>

                                      F-24
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.


               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)


10.  Income Taxes (Continued)

Deferred  income tax  liabilities  (assets) at December  31, 2000 and 1999,  are
summarized as follows:

<TABLE>
<CAPTION>
                                                                                    2000              1999
                                                                                 ----------        -----------
<S>                                                                              <C>               <C>
Difference in book and tax bases of intangible assets...........................        $--            (28,002)
Difference in book and tax bases of fixed assets................................         --             (9,327)
Allowance for doubtful accounts.................................................     (5,018)            (3,586)
Net operating loss carryforwards................................................    (57,627)           (13,038)
Job tax credit carryovers.......................................................       (254)              (184)
                                                                                 ----------        -----------

     Total before valuation allowance...........................................    (62,899)           (54,137)
                                                                                 ----------        -----------
Valuation allowance.............................................................     62,899             54,137
                                                                                 ----------        -----------
     Net deferred tax liabilities...............................................         --                 --
                                                                                 ==========        ===========
</TABLE>

11.  Other Related Party Transactions

         Corporate  administrative  and general expenses  (included in operating
expenses) represent  management fees for certain services,  including financial,
legal, accounting,  human resources and information systems services provided by
the Parent Company.  Management fees have been provided at  approximately  6% of
total revenues of each facility.

         Management  fees charged by the Parent Company were $4,311 for the nine
months ended  September  30, 2000 and $6,254 in 1999,  and have been  determined
based  on  an  allocation  of  the  Parent  Company's   corporate   general  and
administrative   expenses.  Such  allocation  has  been  made  because  specific
identification  of expenses is not  practicable.  Management  believes that this
allocation method is reasonable.  However, management believes that the Acquired
Facilities' corporate administrative and general expenses on a stand-alone basis
may have been different had the Acquired  Facilities operated as an unaffiliated
entity.  Management  fees charged by an SNH affiliate  were $1,773 for the three
months ended December 31, 2000.

12.  Loss on Impairment of Long-Lived Assets

         During the year ended December 31, 1999,  the Parent Company  continued
to evaluate the impact of the 1997 Balanced Budget Act (BBA),  particularly  the
impact of the  Prospective  Payment  System  (PPS),  upon the  future  operating
results  on its  facilities.  Utilizing  the  Parent  Company's  (including  the
Acquired  Facilities)  experience  with PPS since  January 1,  1999,  the Parent
Company performed a preliminary analysis of such impact as of September 30, 1999
and a more  comprehensive  analysis at December 31, 1999. PPS has had a dramatic
impact  on the  operating  results  and  financial  condition  of  the  Acquired
Facilities.  PPS has significantly reduced the revenues, cash flow and liquidity
of the Acquired  Facilities  and others in the industry in 1999.  As a result of
the negative impact of the provisions of PPS, the Acquired  Facilities  assessed
the  impairment of its  long-lived  assets in accordance  with the provisions of
Statement  of  Financial  Accounting  Standards  (SFAS)  No.  121  in  1999.

                                     F-25
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.


               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)

12.  Loss on Impairment of Long-Lived Assets (Continued)

In accordance  with SFAS No. 121, the Acquired  Facilities  estimated the future
cash flows expected to result from those assets to be held and used.

         In estimating the future cash flows for determining whether an asset is
impaired,  and if  expected  future  cash  flows  used in  measuring  assets are
impaired,  the  Acquired  Facilities  grouped the assets at the lowest level for
which there are identifiable  cash flows  independent of other groups of assets,
which is at the facility level.

         After  determining  the facilities  eligible for an impairment  charge,
Management  determined the estimated fair value of such  facilities and compared
such fair value to the carrying values of the related assets. The carrying value
of buildings and improvements,  leasehold  improvements,  equipment and goodwill
exceeded  the fair  value by  $120,007;  accordingly,  the  Acquired  Facilities
recognized  such amount as a loss on impairment of long-lived  assets during the
year ended December 31, 1999.

13.  Certain Significant Risks and Uncertainties

         The  following  information  is provided in  accordance  with the AICPA
Statement of Position  No. 94-6,  Disclosure  of Certain  Significant  Risks and
Uncertainties.

         The  Acquired  Facilities  and others in the  healthcare  business  are
subject to certain inherent risks, including the following:

o        Substantial  dependence on revenues  derived from  reimbursement by the
         Federal   Medicare  and  state   Medicaid   programs  which  have  been
         drastically  cut in recent years and which  entail  exposure to various
         healthcare fraud statutes;

o        Government  regulations,  government budgetary constraints and proposed
         legislative and regulatory changes; and

o        Lawsuits alleging malpractice and related claims.

         Such inherent risks require the use of certain management  estimates in
the  preparation  of the  Acquired  Facilities  financial  statements  and it is
reasonably possible that a change in such estimates may occur.

         The Acquired  Facilities  receives payment for a significant portion of
services  rendered to patients from the Federal  government  under  Medicare and
from the  states in which its  facilities  and/or  services  are  located  under
Medicaid.  The  Acquired  Facilities  operations  are  subject  to a variety  of
Federal,   state  and  local  legal  and  regulatory  risks,  including  without
limitation the federal  Anti-Kickback  statute and the federal Ethics in Patient
Referral Act  (so-called  "Stark  Law"),  many of which apply to  virtually  all
companies  engaged in the  health  care  services  industry.  The  Anti-Kickback
statute  prohibits,  among other things,  the offer,  payment,  solicitation  or
receipt of any form of  remuneration  in return for the referral of Medicare and
Medicaid patients. The Stark Law prohibits,  with limited exceptions,  financial
relationships  between  ancillary  service  providers and referring  physicians.
Other  regulatory  risks

                                      F-26
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)


13.  Certain Significant Risks and Uncertainties (Continued)

assumed by the Acquired  Facilities  and other  companies  engaged in the health
care industry are as follows:

o        False  Claims  --  "Operation  Restore  Trust"  is a  major  anti-fraud
         demonstration  project  of the  Office of the  Inspector  General.  The
         primary  purpose for the project is to  scrutinize  the  activities  of
         healthcare  providers  which  are  reimbursed  under the  Medicare  and
         Medicaid programs. False claims are prohibited pursuant to criminal and
         civil  statutes  and  are  punishable  by  imprisonment   and  monetary
         penalties.

o        Regulatory  Requirement  Deficiencies  -- In  the  ordinary  course  of
         business  health care facilities  receive  notices of deficiencies  for
         failure to comply with various regulatory requirements.  In some cases,
         the  reviewing  agency may take  adverse  actions  against a  facility,
         including the imposition of fines, temporary suspension of admission of
         new patients,  suspension or decertification  from participation in the
         Medicare and Medicaid  programs and, in extreme cases,  revocation of a
         facility's license.

o        Changes in laws and  regulations  --  Changes  in laws and  regulations
         could have a material  adverse  effect on  licensure,  eligibility  for
         participation in government programs, permissible activities, operating
         costs  and the  levels of  reimbursement  from  governmental  and other
         sources.

         In response to the aforementioned  regulatory risks, the Parent Company
formed a Corporate Compliance  Department in 1996 to help identify,  prevent and
deter  instances  of Medicare and  Medicaid  noncompliance.  Although the Parent
Company and the Acquired  Facilities  strive to manage these  regulatory  risks,
there can be no assurance  that federal  and/or state  regulatory  agencies that
currently  have  jurisdiction  over  matters  including,   without   limitation,
Medicare,  Medicaid and other government  reimbursement  programs, will take the
position that the Acquired  Facilities business and operations are in compliance
with applicable law or with the standards of such regulatory agencies.

         In some cases, violation of such applicable law or regulatory standards
by the Acquired  Facilities can carry significant  civil and criminal  penalties
and can  give  rise to qui tam  litigation.  In this  connection,  the  Acquired
Facilities are a defendant in certain  actions or the subject of  investigations
concerning   alleged   violations  of  the  False  Claims  Act  or  of  Medicare
regulations.  As a result of the Parent  Company's and the Acquired  Facilities'
financial  position,  various  agencies  of the federal  government  accelerated
efforts to reach a resolution of all  outstanding  claims and issues  related to
the  Parent  Company's  and  the  Acquired  Facilities'  alleged  violations  of
healthcare  statutes  and  related  causes of  action.  The Parent  Company  has
commenced  global  settlement  negotiations  with the government;  however,  the
Parent Company is unable to assess fully the merits of the government's monetary
claims at this time. In addition,  the Parent Company is unable to determine the
amount, if any, that might relate to the Acquired Facilities.

         The BBA,  enacted in August 1997, made numerous changes to the Medicare
and Medicaid programs that are significantly  affecting the Acquired Facilities.
With  respect  to  Medicare,  the  BBA  provides,  among  other  things,  for  a
prospective payment system for skilled nursing facilities.  As a result, in 1999
the Acquired  Facilities  bore the cost risk of providing  care inasmuch as they
receive specified

                                      F-27
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)
                           December 31, 2000 and 1999
                             (Dollars in thousands)


13.  Certain Significant Risks and Uncertainties (Continued)

reimbursement  for each  treatment  regardless  of actual cost.  With respect to
Medicaid,  the BBA repeals the so-called Boren  Amendment,  which required state
Medicaid  programs  to  reimburse  nursing  facilities  for the  costs  that are
incurred by efficiently  and  economically  operated  providers in order to meet
quality  and  safety  standards.  As a  result,  states  now  have  considerable
flexibility  in  establishing  payment  rates and the  Management  believes many
states are moving toward a prospective  payment type system for skilled  nursing
facilities.

         The  BBA  mandates  the  establishment  of a PPS for  Medicare  skilled
nursing  facility  services,  under  which  facilities  are paid a fixed fee for
virtually all covered services.  PPS is being phased in over a four-year period,
effective  January 1, 1999 for the Acquired  Facilities.  During the first three
years,  payments will be based on a blend of the facility's historical costs and
a pre-determined federal rate. Thereafter, the per diem rates will be based 100%
on the federal cost rate. Under PPS, each patient's clinical status is evaluated
and placed into a payment category.  The patient's payment category dictates the
amount that the provider  will receive to care for the patient on a daily basis.
The per diem rate covers (i) all routine  inpatient  costs  currently paid under
Medicare Part A, (ii) certain  ancillary and other items and services  currently
covered  separately under Medicare Part B on a  "pass-through"  basis, and (iii)
certain capital costs.  The Acquired  Facilities  ability to offer the ancillary
services required by higher acuity patients,  such as those in its subacute care
programs to Medicare beneficiaries,  in a cost-effective manner will continue to
be  critical  to  the   Acquired   Facilities   services  and  will  affect  the
profitability.  To date the per diem  reimbursement  rates have  generally  been
significantly less than the amount the Acquired  Facilities  received on a daily
basis under cost based reimbursement,  particularly in the case of higher acuity
patients.  As a result,  PPS has had a material  adverse  impact on the Acquired
Facilities' results of operations and financial condition (see note 12).

         The Acquired  Facilities  are also subject to  malpractice  and related
claims,  which  arise in the normal  course of  business  and which could have a
significant  effect  on the  Acquired  Facilities.  As a  result,  the  Acquired
Facilities   maintain   occurrence  basis  professional  and  general  liability
insurance  with  coverage  and  deductibles  which  management  believes  to  be
appropriate.

                                      F-28
<PAGE>
        FORTY-TWO FACILITIES ACQUIRED BY SENIOR HOUSING PROPERTIES TRUST
                      FROM INTEGRATED HEALTH SERVICES, INC.

<TABLE>
<CAPTION>
                 SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
                 For the Years Ended December 31, 2000 and 1999
                             (Dollars in thousands)

                     Column A                           Column B       Column C               Column D   Column E
                     --------                           --------       --------               --------   --------
                                                                       Additions
                                                        Balance at     charged to                        Balance at
                                                        beginning of   operating                             end of
Description                                             year           accounts         Deductions (1)         year
---------------------------------------------------------------------------------------------------------------------
<S>                                                     <C>            <C>                     <C>           <C>
Allowance for doubtful accounts:
     Year ended December 31, 2000.................      $8,966         5,001                   (1,090)       12,877
                                                        ======         =====                   =======       ======
     Year ended December 31, 1999.................      $7,016         2,598                     (648)        8,966
                                                        ======         =====                     =====        =====


<FN>
(1)      Amounts represent bad debt write-offs
</FN>
</TABLE>


                                      F-29
<PAGE>
                         REPORT OF INDEPENDENT AUDITORS


To the Board of Directors and Shareholders of
Five Star Quality Care, Inc.:

We have audited the  accompanying  combined  balance  sheets of Certain  Mariner
Post-Acute  Network  Facilities  (Operated by subsidiaries of Mariner Post-Acute
Network, Inc.) (the "Facilities"), as defined in Note 1, as of December 31, 2000
and 1999, and the related combined  statements of operations,  divisional equity
(deficit), and cash flows for the years then ended. Our audits also included the
financial  statement  schedule listed in the Index on page F-45. These financial
statements and schedule are the  responsibility  of the Facilities'  management.
Our  responsibility  is to express an opinion on these financial  statements and
schedule based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United  States.  Those  standards  require  that we plan and  perform the
audits to obtain reasonable assurance about whether the financial statements are
free of material  misstatement.  An audit includes  examining,  on a test basis,
evidence supporting the amounts and disclosures in the financial statements.  An
audit also includes  assessing the accounting  principles  used and  significant
estimates  made by  management,  as well as  evaluating  the  overall  financial
statement  presentation.  We believe that our audits provide a reasonable  basis
for our opinion.

In our opinion,  the financial  statements  referred to above present fairly, in
all  material  respects,  the  combined  financial  position of Certain  Mariner
Post-Acute  Network  Facilities  (Operated by subsidiaries of Mariner Post-Acute
Network,  Inc.),  as defined in Note 1, at December  31, 2000 and 1999,  and the
combined  results  of their  operations  and their cash flows for the years then
ended, in conformity with accounting principles generally accepted in the United
States.  Also, in our opinion,  the related financial statement  schedule,  when
considered  in  relation  to the basic  financial  statements  taken as a whole,
presents fairly in all material respects the information set forth therein.



                                               /s/ ERNST & YOUNG LLP


September 19, 2001
Boston, Massachusetts



                                      F-30
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

<TABLE>
<CAPTION>
                             COMBINED BALANCE SHEETS
                             (Dollars in thousands)


                                                                                              December 31,
                                                                                         ---------------------
                                                                                           2000         1999
                                                                                         --------     --------
<S>                                                                                      <C>          <C>
Assets
Current assets:
   Cash and cash equivalents......................................................         $2,508          $--
   Patient receivables, less allowance for doubtful accounts of $1,834 in 2000
      and $1,534 in 1999..........................................................          7,501        6,888
   Other receivables..............................................................          3,489          321
   Other current assets...........................................................            477          226
                                                                                         --------     --------
Total current assets..............................................................         13,975        7,435
Property and equipment:
   Building improvements..........................................................          4,128        3,563
   Furniture, fixtures and equipment..............................................            635          371
                                                                                         --------     --------
                                                                                            4,763        3,934
   Less accumulated depreciation..................................................         (3,725)      (2,425)
                                                                                         --------     --------
                                                                                            1,038        1,509
Goodwill, net.....................................................................          8,012        8,471
Other assets......................................................................             27           18
                                                                                         --------     --------

Total assets......................................................................        $23,052      $17,433
                                                                                         ========     ========

Liabilities and divisional deficit
Current liabilities:
   Accounts payable and accrued expenses..........................................        $12,645       $9,638
   Accrued wages and related liabilities..........................................          3,570        3,584
   Due to Senior Housing Properties Trust.........................................          5,760           --
   Current portion of long-term debt..............................................             --          919
   Current portion of unfavorable lease obligations and other non-current
      liabilities.................................................................          3,673        3,719
                                                                                         --------     --------

Total current liabilities.........................................................         25,648       17,860
Liabilities subject to compromise.................................................          7,111            -

Unfavorable lease obligations and other non-current liabilities...................         24,980       28,603
                                                                                         --------     --------
Total liabilities.................................................................         57,739       46,463
Commitments and contingencies
Divisional deficit................................................................        (34,687)     (29,030)
                                                                                         --------     --------

Total liabilities and divisional deficit..........................................        $23,052      $17,433
                                                                                         ========     ========
</TABLE>

See accompanying notes.

                                      F-31
<PAGE>


           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

<TABLE>
<CAPTION>
                        COMBINED STATEMENTS OF OPERATIONS
                             (Dollars in thousands)


                                                                                    Year ended December 31,
                                                                                  --------------------------
                                                                                      2000           1999
                                                                                  ------------  ------------
<S>                                                                                <C>            <C>
Revenues:
   Net patient revenues.....................................................         $85,128        $86,643
   Other....................................................................             197            302
                                                                                   ---------      ---------
Total revenues..............................................................          85,325         86,945
Expenses:
   Salaries, wages and benefits.............................................          55,033         50,619
   Nursing, dietary and other supplies......................................           5,445          5,592
   Ancillary services.......................................................           4,077          3,848
   Facility general and administrative costs................................           7,205          9,394
   Allocation of corporate overhead.........................................           4,101          4,347
   Insurance................................................................           4,496          4,876
   Rent.....................................................................           8,748          9,315
   Depreciation and amortization............................................           1,766          2,027
   Impairment of long-lived assets..........................................               -         36,322
   Provision for bad debts..................................................           1,758          4,233
                                                                                   ---------      ---------
Total expenses..............................................................          92,629        130,573
                                                                                   ---------      ---------
Loss from operations........................................................          (7,304)       (43,628)
Interest expense............................................................            (121)          (181)
Interest income.............................................................               4              5
Loss before income taxes....................................................          (7,421)       (43,804)
Provision for income taxes..................................................               -              -
                                                                                   ---------      ---------
Net Loss....................................................................         $(7,421)      $(43,804)
                                                                                   =========      =========
</TABLE>
See accompanying notes.

                                      F-32
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

<TABLE>
<CAPTION>
               COMBINED STATEMENTS OF DIVISIONAL EQUITY (DEFICIT)
                             (Dollars in thousands)
                     Years ended December 31, 2000 and 1999


<S>                                                                <C>
Balance at January 1, 1999.....................................         $14,464
   Contributions from Parent, net..............................             310
   Net loss....................................................         (43,804)
                                                                   ------------
Balance at December 31, 1999...................................         (29,030)
   Contributions from Parent, net..............................           1,764
   Net loss....................................................          (7,421)
                                                                   ------------
Balance at December 31, 2000...................................        $(34,687)
                                                                   ============
</TABLE>


See accompanying notes.



                                      F-33
<PAGE>


           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

<TABLE>
<CAPTION>
                        COMBINED STATEMENTS OF CASH FLOWS
                             (Dollars in thousands)


                                                                                           Year ended December 31,
                                                                                        ----------------------------
                                                                                            2000             1999
                                                                                         ----------       ---------
<S>                                                                                      <C>              <C>
Operating activities
   Net loss.........................................................................        $(7,421)       $(43,804)
   Adjustments to reconcile net loss to net cash provided by operating
      activities:
      Depreciation and amortization.................................................          1,766           2,027
      Amortization of unfavorable lease obligations and other non-current
         liabilities................................................................         (3,673)         (3,691)
      Provision for bad debts.......................................................          1,758           4,233
      Impairment of long-lived assets...............................................             --          36,322
Increase  (decrease)  in cash  arising  from  changes  in  operating  assets and
   liabilities:
   Patient receivables..............................................................          3,567           2,915
   Other receivables................................................................         (3,168)            987
   Other assets.....................................................................             (9)            (35)
   Accounts payable and accrued expenses............................................          3,007           1,527
   Accrued wages and related liabilities............................................            (14)            621
   Due to Senior Housing Properties Trust...........................................          5,760              --
                                                                                         ----------       ---------

Net cash provided by operating activities...........................................          1,573           1,102
                                                                                         ----------       ---------

Investing activities
Purchases of property and equipment.................................................           (829)         (1,362)
Disposals of property, equipment and other assets...................................             --              --
                                                                                         ----------       ---------

Net cash used in investing activities...............................................           (829)         (1,362)
                                                                                         ----------       ---------

Financing activities
Capital contributions, net..........................................................          1,764             310
Repayment of debt...................................................................             --              --
Repayment of capital lease..........................................................             --             (50)
                                                                                         ----------       ---------

Net cash provided by financing activities...........................................          1,764             260
                                                                                         ----------       ---------

Net increase in cash................................................................          2,508              --
Cash at beginning of year...........................................................             --              --
                                                                                         ----------       ---------

Cash at end of year.................................................................         $2,508             $--
                                                                                         ==========       =========
</TABLE>

See accompanying notes.

                                      F-34
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

                     NOTES TO COMBINED FINANCIAL STATEMENTS

1.  Organization

         The combined financial statements of Certain Mariner Post-Acute Network
Facilities (the "Facilities") include the accounts of 17 nursing home facilities
and certain  related  assets and  liabilities  owned and  controlled  by Mariner
Post-Acute Network,  Inc. ("Mariner" or the "Parent").  The Facilities are owned
by wholly owned  subsidiaries  of GranCare,  Inc.  ("GranCare"),  a wholly owned
subsidiary of Mariner.  The Facilities  constitute a division of Mariner and are
not separate legal entities.

         Mariner,  formerly known as Paragon Health Network, Inc., was formed in
November  1997  through  the  recapitalization  by merger of Living  Centers  of
America,  Inc. ("LCA") with a newly-formed entity owned by certain affiliates of
Apollo  Management,  L.P. and the  subsequent  merger of GranCare (the "GranCare
Merger").

         Mariner and certain of its  respective  subsidiaries,  including  those
subsidiaries  operating  the  Facilities,  filed  separate  voluntary  petitions
(collectively, the "Chapter 11 Filings") for relief under Chapter 11 of Title 11
of the  United  States  Code (the  "Bankruptcy  Code")  with the  United  States
Bankruptcy  Court for the  District  of  Delaware  (the  "Bankruptcy  Court") on
January 18, 2000 (the  "Petition  Date").  Mariner is  presently  operating  its
business as a  debtor-in-possession  and is subject to the  jurisdiction  of the
Bankruptcy Court while a plan of reorganization is formulated. Mariner's and its
subsidiaries'  need to seek relief  afforded by the  Bankruptcy  Code is due, in
part, to the significant financial pressure created by the implementation of the
Balanced Budget Act of 1997.

         Mariner, through its GranCare subsidiaries,  leased the Facilities from
a wholly owned  subsidiary of Senior Housing  Properties  Trust  ("SNH"),  which
succeeded to the  interests  of Health and  Retirement  Properties  Trust ("HRPT
Properties").  On May 10,  2000,  the  Bankruptcy  Court  approved a  settlement
agreement (the "Settlement Agreement") between Mariner,  certain of its GranCare
subsidiaries,  and subsidiaries of SNH. The Settlement Agreement is effective at
the close of business on June 30,  2000 and is subject to  obtaining  regulatory
approvals in the states where the Facilities  are located.  Based upon the terms
of  the  Settlement  Agreement:  (a)  the  Facilities  leased  by  the  GranCare
subsidiaries and the related personal  property were assigned to subsidiaries of
SNH and (b)  Mariner  agreed to manage  the  Facilities  transferred  to the SNH
during a transition period that was expected to last less than six months. As of
December  31,  2000,  the  transition  period  has ended and  management  of the
Facilities is being performed by SNH.

         As  specified  in  the   Settlement   Agreement,   certain  assets  and
liabilities  reflected on the accompanying combined balance sheet as of December
31, 2000 will remain with Mariner including  liabilities  subject to compromise,
unfavorable  lease  obligations and goodwill.  In connection with the Settlement
Agreement,  outstanding  indebtedness of the Facilities was terminated (see Note
8) and  Mariner  paid SNH at  closing  approximately  $2,335,000  to settle  its
obligations for property taxes payable and certain employee accrued liabilities.
The  aforementioned  transaction  has not  been  reflected  in the  accompanying
combined financial statements.

         The Settlement  Agreement is contingent upon SNH obtaining licenses and
other  governmental  approvals  necessary  to operate  the  Facilities.  SNH has
applied  for all of the  required  licenses  and, as of January  31,  2001,  the
required licenses for substantially all of these facilities have been received.

                                      F-35
<PAGE>

           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)

2.  Summary of Significant Accounting Policies Basis of presentation

Basis of presentation

         The accompanying  combined  financial  statements have been prepared on
the basis of accounting  principles applicable to going concerns and contemplate
the  realization of assets and the settlement of liabilities  and commitments in
the  normal  course  of  business.  The  financial  statements  do  not  include
adjustments,   if  any,  to  reflect  the   possible   future   effects  on  the
recoverability  and  classification  of  recorded  assets  or  the  amounts  and
classifications  of  liabilities  that  may  result  from the  outcome  of these
uncertainties.  The accompanying  combined  financial  statements have also been
presented  in  conformity  with  the  American  Institute  of  Certified  Public
Accountants  Statement  of Position  90-7,  "Financial  Reporting of Entities in
Reorganization  Under the Bankruptcy  Code" ("SOP 90-7").  SOP 90-7 requires the
segregation of liabilities  subject to compromise by the Bankruptcy  Court as of
the Petition Date and  identification  of all  transactions  and events that are
directly  associated with the reorganization of the Facilities.  Pursuant to SOP
90-7, prepetition  liabilities are reported on the basis of the expected amounts
of such allowed claims,  as opposed to the amounts for which those claims may be
settled.  Under a confirmed plan of reorganization,  those claims may be settled
at amounts substantially less than their allowed amounts.

         Substantially  all of the patient revenues and other income received by
the  Facilities  is  deposited  in and  commingled  with  the  Parent's  general
corporate  funds.  Certain cash  requirements of the Facilities were paid by the
Parent and were charged directly to the Facilities.  General and  administrative
costs of the Parent were  allocated to the  Facilities  based upon  management's
estimate of the actual costs based upon the Facilities' level of operations. The
Parent   maintains   insurance   policies  for  the   Facilities   for  workers'
compensation,  general and professional liability and employee health and dental
insurance (see Note 9). In the opinion of management,  the method for allocating
Mariner's  corporate  general  and  administrative  and  insurance  expenses  is
reasonable.  It is not  practicable to estimate  additional  costs, if any, that
would have been incurred if the Facilities were not controlled by Mariner.

Property and equipment

         Property and  equipment is presented at cost.  Maintenance  and repairs
are  charged  to  operations  as  incurred  and   replacements  and  significant
improvements,  which would extend the useful life are capitalized.  Depreciation
and amortization are expensed over the estimated useful lives of the assets on a
straight-line basis as follows:

Building improvements.....................................       10 - 15 years
Furniture, fixtures and equipment.........................        3 - 15 years

         Depreciation  expense  related to property and  equipment for the years
ended  December 31, 2000 and 1999 was  approximately  $1,307,000  and  $880,000,
respectively.

Goodwill

         Goodwill represents the excess of acquisition cost over the fair market
value of net assets acquired in the GranCare  Merger.  Goodwill of approximately
$53,177,000  was  recorded  at  the  Facilities  and  is  being  amortized  on a
straight-line basis over 30 years. Management periodically re-evaluates goodwill

                                      F-36
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)

2.  Summary of Significant Accounting Policies Basis of presentation (Continued)

and  makes  any  adjustments,  if  necessary,  whenever  events  or  changes  in
circumstances  indicate that the carrying  amount may not be  recoverable or the
estimated useful life has changed. Accumulated amortization at December 31, 2000
and 1999 was approximately $1,159,000 and $700,000,  respectively.  Amortization
of goodwill charged to expense was approximately $459,000 and $1,147,000 for the
years ended December 31, 2000 and 1999, respectively.

Impairment of long-lived assets

         Statement of Financial  Accounting  Standards No. 121,  "Accounting for
the  Impairment  of Long-Lived  Assets to be Disposed  Of," requires  impairment
losses to be recognized for long-lived  assets when indicators of impairment are
present  and the  undiscounted  cash  flows  estimated  to be  generated  by the
long-lived  assets are not  sufficient to recover the assets'  carrying  amount.
Goodwill is also  evaluated  for  recoverability  by  estimating  the  projected
undiscounted cash flows, excluding interest, of the related business activities.

         The  impairment  loss of  long-lived  assets,  including  goodwill,  is
measured by comparing  the  carrying  amount of the asset to its fair value with
any excess of the carrying  value over the fair value  written off.  Fair market
value is determined by various valuation  techniques  including  discounted cash
flow (see Note 7).

Non-current liabilities

         Non-current   liabilities   principally   include   unfavorable   lease
obligations   related  to  facilities  acquired  in  the  GranCare  Merger.  The
unfavorable  lease obligations are amortized as a reduction of rent expense over
the remaining lease term.

Revenue recognition

         Net patient revenue  includes  patient revenues payable by patients and
amounts  reimbursable by third party payors under  contracts.  Patient  revenues
payable by patients are recorded at established billing rates.  Patient revenues
to be reimbursed by contracts with third-party payors are recorded at the amount
estimated to be realized  under these  contractual  arrangements.  Revenues from
Medicare and Medicaid are generally  based on  reimbursement  of the  reasonable
direct and indirect costs of providing services to program  participants or, for
the Facilities' cost reporting  periods  beginning  January 1, 1999,  determined
under the Prospective Payment System ("PPS").  Management  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  cost
reimbursement  programs for periods  prior to January 1, 1999 are  determined by
filing cost reports that are then subject to audit and retroactive adjustment 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 management  subsequent
to the year of  origination  and  prior to final  settlement  based on  improved
estimates.  Such  adjustments and final  settlements with third party payors are
reflected in

                                      F-37
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)

2.  Summary of Significant Accounting Policies Basis of presentation (Continued)

operations  at the  time of the  adjustment  or  settlement.  Medicare  revenues
represented  21% and 23%, and Medicaid  revenues  represented 55% and 53% of net
revenues  for the years  ended  December  31,  2000 and 1999,  respectively.  On
January 1, 1999,  Mariner  transitioned  the  Facilities  to PPS for services to
Medicare patients.  Revenue recorded for 1999 consists of the aggregate payments
expected from Medicare for individual  claims at the appropriate  payment rates,
which include reimbursement for ancillary services.

         In April 1995, the Health Care Finance Administration ("HCFA") issued a
memorandum to its Medicare fiscal  intermediaries as a guideline to assess costs
incurred by inpatient  providers  relating to payment of occupational and speech
language  pathology services furnished under arrangements that include contracts
between  therapy  providers  and inpatient  providers.  While not binding on the
fiscal  intermediaries,  the  memorandum  suggested  certain rates to assist the
fiscal intermediaries in making annual "prudent buyer" assessments of speech and
occupational  therapy rates paid by inpatient providers.  In addition,  HCFA has
promulgated new salary  equivalency  guidelines  effective April 1, 1998,  which
updated the then current  physical  therapy and  respiratory  therapy  rates and
established new guidelines for  occupational  therapy and speech therapy.  These
new payment guidelines were in effect until the Facilities  transitioned to PPS,
at which time payment for therapy  services were included in the PPS rate. HCFA,
through its intermediaries,  is also subjecting  physical therapy,  occupational
therapy  and speech  therapy to a  heightened  level of  scrutiny  resulting  in
increasing  audit  activity.   A  majority  of  the  Facilities'   provider  and
rehabilitation  contracts  provided for  indemnification  of the  facilities for
potential  liabilities  in  connection  with  reimbursement  for  rehabilitation
services.  There can be no assurance that actions  ultimately taken by HCFA with
regard to  reimbursement  rates for such therapy  services  will not  materially
adversely affect the Facilities results of operations.

         Laws and regulations  governing the Medicare and Medicaid  programs are
complex and subject to interpretation.  Management  believes that the Facilities
are in compliance with all applicable laws and regulations,  and is not aware of
any pending or  threatened  investigations  involving  allegations  of potential
wrongdoing.  While no such regulatory inquiries have been made,  compliance with
such laws and  regulations  can be  subject  to  future  government  review  and
interpretation  as  well  as  significant  regulatory  action  including  fines,
penalties, and exclusion from the Medicare and Medicaid programs.

Use of estimates

         The  preparation of financial  statements in conformity with accounting
principles  generally accepted in the United States requires  management to make
certain  estimates and assumptions that may affect the amounts reported in these
financial  statements  and related  notes.  The actual results could differ from
these estimates.

Income taxes

         The Parent files a consolidated  federal income tax return.  Throughout
the years and periods presented herein, the Facilities' operations were included
in the Parent's  income tax returns.  The income tax  provision  reported in the
combined financial  statements is an allocation of the Parent's total income tax
provision.  The Facilities'  allocation was determined based on a calculation of
income taxes as if the Facilities were a separate  taxpayer,  in accordance with
Statement of Financial  Accounting

                                      F-38
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)


2.  Summary of Significant Accounting Policies Basis of presentation (Continued)

Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). Income taxes paid
was zero for all periods presented.

         Non-current   deferred   income  taxes  arise   primarily  from  timing
differences resulting from the recognition of rent expense for tax and financial
reporting  purposes  and  from  the  use of  accelerated  depreciation  for  tax
purposes.  Current  deferred income taxes result from timing  differences in the
recognition  of revenues and expenses for tax and financial  reporting  purposes
which are expected to reverse within one year.

3.  Proceedings Under Chapter 11 of the Bankruptcy Code

         On  January  18,   2000,   Mariner   and  certain  of  its   respective
subsidiaries,  including  those  subsidiaries  operating the  Facilities,  filed
voluntary  petitions  for relief under  Chapter 11 of the  Bankruptcy  Code (the
"Chapter 11  Proceedings").  Mariner is  presently  operating  its business as a
debtor-in-possession  and is subject to the jurisdiction of the Bankruptcy Court
while a plan of reorganization is formulated. As a debtor-in-possession, Mariner
is authorized to operate its business but may not engage in transactions outside
its ordinary course of business without the approval of the Bankruptcy Court.

         While the Chapter 11 Proceedings  constituted a default under Mariner's
and  such  subsidiaries'  various  financing  arrangements,  Section  362 of the
Bankruptcy Code imposes an automatic stay that generally precludes any creditors
and other interested  parties under such  arrangements  from taking any remedial
action in  response  to any such  resulting  default  outside of the  Chapter 11
Proceedings  with  obtaining  relief from the automatic stay from the Bankruptcy
Court.

         On January 19, 2000,  Mariner  received  approval  from the  Bankruptcy
Court to pay prepetition and postpetition employee wages, salaries, benefits and
other employee  obligations.  The Bankruptcy Court also approved orders granting
authority to pay prepetition  claims of certain critical vendors,  utilities and
patient obligations.  All other prepetition liabilities at December 31, 2000 are
disclosed in Note 5 as liabilities  subject to compromise.  The Facilities  have
been and  intend to  continue  to pay  postpetition  claims to all  vendors  and
providers in the ordinary course of business.

4.  Going Concern and Issues Affecting Liquidity

         The  accompanying  combined  financial  statements  have been  prepared
assuming that the Facilities  will continue to operate as a going  concern.  The
Facilities  have  violated  certain  covenants  of  its  loan  agreement,   have
experienced  significant  losses  and  have  a  working  capital  deficiency  of
approximately  $11,673,000 and a divisional deficit of approximately $34,687,000
as of December  31,  2000.  Mariner and certain of its  subsidiaries,  including
those  subsidiaries  operating the  Facilities,  filed  voluntary  petitions for
relief under Chapter 11 of the Bankruptcy  Code.  These  matters,  among others,
raise  substantial  doubt  about the  Facilities  ability to continue as a going
concern.

         As described in Note 1, on May 10, 2000 the Bankruptcy Court approved a
settlement  agreement  between Mariner and SNH whereby the Facilities  leased by
Mariner and related  personal  property  were assigned to affiliates of SNH. SNH
agreed to provide working capital to the facilities.  The agreement is effective
at the close of business on June 30, 2000 and is subject to obtaining regulatory
approvals in


                                      F-37
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)


4.  Going Concern and Issues Affecting Liquidity (Continued)

the states where the  Facilities are located.  At December 31, 2000,  $5,760,000
had been advanced to the facilities by SNH.

         On December 31, 2000, SNH has approximately  $173,000,000 available for
borrowing under a $270,000,000 bank credit facility.  Management of SNH believes
that the available  borrowings  under the bank credit facility are sufficient to
provide  the  necessary   working  capital  to  the  Facilities  for  operations
subsequent to the closing of the June 30, 2000 transaction.

5.  Liabilities Subject to Compromise

         "Liabilities  subject to compromise"  represents  liabilities  incurred
prior to the  commencement  of the Chapter 11  Proceedings.  These  liabilities,
consisting  primarily of long-term debt and certain accounts payable,  represent
the Facilities' estimate of known or potential prepetition claims to be resolved
in connection  with the Chapter 11  Proceedings.  Such claims remain  subject to
future  adjustments  based on  negotiations,  actions of the  Bankruptcy  Court,
further  developments  with  respect to disputed  claims,  future  rejection  of
executory  contracts or unexpired  leases,  determination as to the value of any
collateral securing claims, treatment under the plan of reorganization and other
events.  Payment for these amounts will be  established  in connection  with the
plan of reorganization.

         A  summary  of  the  principal   categories  of  claims  classified  as
liabilities  subject to  compromise  at  December  31,  2000 is as  follows  (in
thousands):

Accounts payable and accrued expenses..........................          $6,223
Long-term debt.................................................             888
                                                                       --------
                                                                         $7,111
                                                                       ========

6.  Impairment of Long-Lived Assets

         The revenues  recorded by the  Facilities  under PPS are  substantially
less  than  the   cost-based   reimbursement   it   received   previously.   The
implementation   of  PPS  resulted  in  a  greater  than  expected   decline  in
reimbursement for inpatient services.  Management  determined that these revenue
declines are other than temporary and are expected to have a materially  adverse
effect on future  revenues  and cash  flow.  As a result of such  indicators  of
impairment, in the third quarter of 1999, a detailed analysis of the Facilities'
long-lived  assets and their  estimated  future  cash flows was  completed.  The
analysis resulted in the identification and measurement of an impairment loss of
approximately $36,322,000.

         Each analysis included  management's  estimate of the undiscounted cash
flows to be generated by these assets with a comparison to their carrying value.
If the undiscounted future cash flow estimates were less than the carrying value
of the asset then the carrying  value was written down to estimated  fair value.
Goodwill  associated with an impaired asset was included with the carrying value
of that asset in performing both the impairment test and in measuring the amount
of impairment  loss related to the asset.  Fair value was estimated based on the
present value of future cash flows.

                                      F-40
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)


6.  Impairment of Long-Lived Assets (Continued)

         The following is a summary of the impairment  losses  recognized during
1999 by asset category (in thousands):

                                                                    1999
                                                                 ----------
Goodwill...................................................         $30,378
Property and equipment.....................................           5,944
                                                                 ----------
                                                                    $36,322
                                                                 ==========
7.  Debt

         On December 28, 1990, a mortgage  loan  agreement  was entered into for
$15,000,000  with HRPT  Properties,  secured  by two  nursing  home  facilities'
(Northwest  Health Care Center and River  Hills West Health Care  Center)  land,
building and improvements. The interest rate on the note was 11.5%. The loan was
repaid in September 1998 as part of the sale-leaseback  transaction discussed in
Note 6.

         On March  28,  1992,  a loan  agreement  was  entered  into  with  HRPT
Properties  for the  purpose  of funding  renovations  to the  Christopher  East
facility, maturing on January 31, 2013. Advances to AMS Properties, Inc. totaled
approximately  $883,000 for the years ended December 31, 2000 and 1999. The loan
is interest bearing and principal is payable upon maturity. The interest rate on
the note is  13.75%.  The  Bankruptcy  Proceedings  are  considered  an Event of
Default as defined in the loan  agreement.  Current portion of long-term debt at
December 31, 1999 includes the principal  balance of the note. In  consideration
of the terms of the Settlement  Agreement,  the Christopher East note obligation
was  terminated  in July  2000.  Interest  paid was  approximately  $60,000  and
$181,000 during the years ended December 31, 2000 and 1999, respectively.

8.  Transactions with Affiliates

         Mariner provided various services to the Facilities including,  but not
limited to, financial,  legal, insurance,  information systems, employee benefit
plans and certain  administrative  services, as required. The combined financial
statements  reflect  charges for certain  corporate  general and  administrative
expenses from  Mariner's  corporate  office to the  Facilities.  Such  corporate
charges represent allocations based on determinations  management believes to be
reasonable (5% of total revenues).  Administrative costs charged by Mariner were
approximately  $2,133,000  and  $4,347,000 for the years ended December 31, 2000
and 1999,  respectively.  For the year ended December 31, 2000,  fees charged by
SNH for management  services were  approximately  $1,968,000,  all of which have
been paid.

         The Facilities  participated  in the various  benefit plans of Mariner,
primarily  the profit  sharing and 401(k) plans.  These plans  include  matching
provisions  for  employee  contributions  to  the  401(k)  plan.  The  financial
statements  reflect  charges  for  benefits   attributable  to  the  Facilities'
employees.  Such  amounts  totaled  approximately  $108,000 and $221,000 for the
years ended December 31, 2000 and 1999, respectively.

         Through March 31, 1998,  the Facilities  participated  in a program for
insurance of workers'  compensation risks through a captive insurance subsidiary
of Mariner. Effective March 31, 1998, Mariner purchased a fully-insured workers'
compensation  policy with no deductible or retention with a

                                      F-41
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)

8.  Transactions with Affiliates (Continued)

catastrophic  policy in place to cover any loss above  $500,000 per  occurrence.
Additionally,  in 1998  Mariner  purchased  general and  professional  liability
insurance  through a third party. The maximum loss exposure with respect to this
policy is $100,000 per occurrence.

         Mariner obtains and provides  insurance  coverage for health,  life and
disability,  auto,  general  liability  and  workers'  compensation  through its
self-insurance  and outside  insurance  programs and allocates to the Facilities
based on its estimate of the actual costs incurred on behalf of the  Facilities.
Total insurance costs allocated were approximately $2,537,000 and $4,876,000 for
the years  ended  December  31,  2000 and 1999,  respectively.  These  costs are
included  in  facility  general  and  administrative  costs in the  accompanying
combined statements of operations.

         The Facilities  purchased certain therapy services from  rehabilitation
subsidiaries  of  Mariner.  These  purchases  amounted to  approximately  $0 and
$2,955,000 for the years ended December 31, 2000 and 1999, respectively.

9.  Commitments and Contingencies

         As discussed in Note 1, the Facilities are party to various  agreements
between  GranCare  and SNH.  SNH is the lessor  with  respect to the  Facilities
leased by two  subsidiaries of GranCare (the "Tenant  Entities") under operating
leases.  Pursuant to a  Collateral  Pledge  Agreement  dated  October 31,  1997,
Mariner  provided  an  unlimited  guaranty  to SNH,  which is  secured by a cash
collateral  deposit of $15,000,000,  the earned interest on which is retained by
SNH.  In June 2000,  the  Facilities  ceased  payment  of rents.  As part of the
Settlement Agreement, Mariner was released from its lease obligations.

         Rent expense, net of amortization of unfavorable lease obligation,  for
all operating leases was  approximately  $8,748,000 and $9,314,000 for the years
ended December 31, 2000 and 1999, respectively.

         From time to time,  the  Facilities  have been subject to various legal
proceedings  in the ordinary  course of business.  In the opinion of management,
except as  described  below,  there are  currently  no  proceedings  which could
potentially have a material adverse effect on the Facilities' financial position
or results of  operations  after  taking  into  account the  insurance  coverage
maintained by Mariner.  Although management believes that any of the proceedings
discussed  below will not have a material  adverse  impact on the  Facilities if
determined adversely to the Facilities,  given the Facilities' current financial
condition,  lack of  liquidity  and the current  lack of  aggregate  limit under
Mariner's  current  GL/PL  insurance  policy,  settling a large  number of cases
within  the  Company's  $1 million  self-insured  retention  limit  could have a
material adverse effect on the Facilities.

         On August 26,  1996,  a class action  complaint  was  asserted  against
GranCare in the Denver,  Colorado  District  Court. On March 15, 1998, the Court
entered an Order in which it certified a class action in the matter. On June 10,
1998,  Mariner  filed a Motion to Dismiss  all  claims  and  Motion for  Summary
Judgment  Precluding Recovery of Medicaid Funds and these motions were partially
granted  by the Court on  October  30,  1998.  Plaintiffs  filed a writ with the
Colorado  Supreme  Court and an appeal with the Colorado  Court of Appeals.  The
Supreme Court writ has been denied, the Court of Appeals matter has been briefed
and Oral Argument was set for January 18, 2000.  In accordance  with the Chapter
11 Proceedings and more  particularly,  Section 362 of the Bankruptcy Code, this
matter was

                                      F-42
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)


9.  Commitments and Contingencies (Continued)

stayed on January  18,  2000.  However,  Mariner did agree to limited
relief  from  the stay in order to allow  for  certain  parts of the  appeal  to
continue. On January 4, 2001, the Court of Appeals reversed the District Court's
decision.  Mariner is  currently  considering  whether  to pursue a request  for
rehearing  and/or appeal to the Colorado  Supreme Court.  The Company intends to
vigorously contest the remaining allegations of class status.

10.  Income Taxes

         The  components  of the net  deferred  tax asset are  approximately  as
follows (in thousands):
<TABLE>
<CAPTION>
                                                                                             December 31,
                                                                                        ------------------------
Deferred tax assets:                                                                      2000           1999
                                                                                        --------       ---------
<S>                                                                                     <C>            <C>
   Bad debts........................................................................        $325            $598
   Amounts related to property and equipment........................................       1,681           1,585
   Payroll and benefits.............................................................         271             620
   Unfavorable lease obligations and other liabilities..............................      11,304          12,736
   NOL carryforwards................................................................      11,878           7,205
                                                                                        --------       ---------
Total deferred tax assets...........................................................      25,459          22,744
Less valuation allowance............................................................     (25,459)        (22,744)
                                                                                        --------       ---------
Net deferred tax asset..............................................................         $--             $--
                                                                                        ========       =========
</TABLE>
         The  Facilities  have  established a full  valuation  allowance,  which
completely  offsets all net deferred tax assets  generated from the  Facilities'
net losses because its future realizability is uncertain.  The net change in the
valuation  allowance was an increase of approximately  $2,715,000 and $4,789,000
at December 31, 2000 and 1999, respectively.

         The  provision  for income taxes varies from the amount  determined  by
applying  the  Federal  statutory  rate  to  pre-tax  loss  as a  result  of the
following:
<TABLE>
<CAPTION>
                                                                                        Years Ended December 31,
                                                                                        ------------------------
                                                                                           2000          1999
                                                                                        ----------     ---------
<S>                                                                                     <C>            <C>
Federal statutory income tax rate...................................................        (34.0)%       (34.0)%
Increase (decrease) in taxes resulting from:
      State and local taxes, net of federal tax benefits............................          (4.7)         (1.4)
      Permanent book/tax differences, primarily resulting from goodwill
         amortization...............................................................           2.1           0.9
      Impairment of assets..........................................................            --          23.6
      Change in valuation allowance.................................................          36.6          10.9
                                                                                        ----------     ---------
Effective tax rate..................................................................            --%           --%
                                                                                        ==========     =========
</TABLE>

                                      F-43
<PAGE>
           CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                   SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                  (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)

               NOTES TO COMBINED FINANCIAL STATEMENTS (Continued)


11.  Concentrations of Credit Risk

         Financial  instruments  that  potentially  subject  the  Facilities  to
concentration  of credit risk consist  principally of trade  receivables.  There
have been, and the Facilities expect that there will continue to be, a number of
proposals to limit reimbursement allowable to skilled nursing facilities. Should
the related government agencies suspend or significantly reduce contributions to
the  Medicare  or  Medicaid  programs,  the  Facilities'  ability to collect its
receivables would be adversely impacted.

         Management believes that the remaining receivable balances from various
payors,  including  individuals  involved  in  diverse  activities,  subject  to
differing economic  conditions,  do not represent a concentration of credit risk
to the

         Facilities.  Management  continually monitors and adjusts its allowance
for doubtful accounts associated with its receivables.

12.  Fair Value of Financial Instruments

         The Facilities financial instruments include notes payable. Fair values
for fixed rate debt  instruments  were  estimated  based on the present value of
cash flows that would be paid on the note over the remaining note term using the
Facilities' current  incremental  borrowing rate rather than the stated interest
rate on the notes.  The fair  values of the  financial  instruments  approximate
their carrying values.



                                      F-44
<PAGE>
<TABLE>
<CAPTION>
                             CERTAIN MARINER POST-ACUTE NETWORK FACILITIES (OPERATED BY
                                    SUBSIDIARIES OF MARINER POST-ACUTE NETWORK)
                                   (DEBTOR IN POSSESSION AS OF JANUARY 20, 2000)


                                  SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
                                               (Dollars in thousands)
                                       Years ended December 31, 2000 and 1999


                                             Balance at         Charged
                                           beginning of   (Credited) to    Write-offs /                 Balance at
           Description                             year      operations      Recoveries        Other   end of year
----------------------------------         ------------   -------------    ------------   ----------  ------------
<S>                                        <C>            <C>              <C>            <C>         <C>
Year ended December 31, 2000:
   Allowance for doubtful
      accounts:...................               $1,534          $1,758        $(1,458)         $--        $1,834
                                            -----------   -------------     ----------     --------    ----------
                                                 $1,534          $1,758        $(1,458)         $--        $1,834
                                            ============   =============    ==========     ========    ==========
Year ended December 31, 1999:
   Allowance for doubtful
      accounts:...................               $2,927          $4,233        $(5,468)       $(158)        $1,534
                                            -----------   -------------     ----------     --------    ----------
                                                 $2,927          $4,233        $(5,468)       $(158)        $1,534
                                            ============   =============    ==========     ========    ==========
</TABLE>




                                      F-45


<PAGE>

                                   SIGNATURES

         Pursuant to the  requirements  of Section 13 or 15(d) 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.

                                      FIVE STAR QUALITY CARE, INC.


                                      By: /s/ Evrett W. Benton
                                          Evrett W. Benton
                                          President and Chief Executive Officer

Dated:  March 29, 2002

         Pursuant to the  requirements  of the Securities  Exchange Act of 1934,
this  report  has  been  signed  below  by the  following  persons,  or by their
attorney-in-fact, in the capacities and on the dates indicated.

Signature                                Title                      Date
---------                                -----                      ----

/s/ Evrett W. Benton               President and Chief           March 29, 2002
Evrett W. Benton                   Executive Officer

/s/ Bruce J. Mackey Jr.            Chief Financial Officer       March 29, 2002
Bruce J. Mackey Jr.                and Treasurer

/s/ Barry M. Portnoy               Managing Director             March 29, 2002
Barry M. Portnoy

/s/ Gerard M. Martin               Managing Director             March 29, 2002
Gerard M. Martin

/s/ Bruce M. Gans                  Director                      March 29, 2002
Bruce M. Gans

/s/ John L. Harrington             Director                      March 29, 2002
John L. Harrington

/s/ Arthur G. Koumantzelis         Director                      March 29, 2002
Arthur G. Koumantzelis