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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


Form 10-K/A

(Amendment No. 1)


|                                                |  |                                                                                                 
|----------------------------------------------- |  | ------------------------------------------------------------------------------------------------
|(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,
    2002
|                                               
|OR                                             
|                                               
|o                                               |  | TRANSITION REPORT PURSUANT TO SECTION 13
    OR 15(d) OF
    THE SECURITIES EXCHANGE ACT OF 1934

Commission file number: 1-9550

BEVERLY ENTERPRISES, INC.

(Exact name of Registrant as specified in its
charter)


|                                                                   |  |                                         
|------------------------------------------------------------------ |  | ----------------------------------------
|Delaware                                                           |  | 62-1691861                              
|(State or other jurisdiction of
    incorporation or organization) |  | (I.R.S. Employer
    Identification No.)

One Thousand Beverly Way

Fort Smith, Arkansas 72919


(Address of principal executive offices)


Registrants telephone number, including
area code:(479) 201-2000

Registrants website:www.beverlycares.com

Securities registered pursuant to
Section 12(b) of the Act:

|                                      |  |                                                   
|------------------------------------- |  | --------------------------------------------------
|Title of each class                   |  | Name of each exchange on which registered         
|                                      |  |                                                   
|Common Stock, $.10 par value          |  | New York Stock Exchange
    Pacific Stock Exchange
|9% Senior Notes due February 15, 2006 |  | New York Stock Exchange                           

Securities registered Pursuant to
Section 12(g) of the Act:NONE

Indicate by check mark whether 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 Registrant was required to file such reports), and
(2) has been subject to such filing requirements for the
past
90 days.     Yes     þNo o

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.     o

Indicate by check mark if Registrant is an
accelerated filer as of June 30, 2002 (as defined in
Exchange Act
Rule 12b-2).     Yes     þNo o

The aggregate market value of the voting stock
held by nonaffiliates of Registrant was $790,263,327 as of
June 28, 2002.

107,122,286

(Number of shares of common stock outstanding,
net of treasury shares, as of September 30, 2003)

Part III is incorporated by reference
from the Proxy Statement for the Annual Stockholders Meeting
held on May 22, 2003.



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|                                                                             |                                                                                                |  |  |  |  |  |  | 
|---------------------------------------------------------------------------- | ---------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|EXPLANATORY NOTE                                                            
|FORWARD-LOOKING STATEMENTS                                                  
|PART I                                                                      
|                                                                             | ITEM 1. BUSINESS.                                                                             
|                                                                             | ITEM 2. PROPERTIES.                                                                           
|                                                                             | ITEM 3. LEGAL PROCEEDINGS.                                                                    
|                                                                             | ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.                                  
|PART II                                                                     
|                                                                             | ITEM 5. MARKET FOR THE COMPANYS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.               
|                                                                             | ITEM 6. SELECTED FINANCIAL DATA.                                                              
|                                                                             | ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
|                                                                             | ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.                          
|                                                                             | ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.                             
|                                                                             | ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. 
|                                                                             | ITEM 9A. CONTROLS AND PROCEDURES                                                              
|PART III                                                                    
|                                                                             | ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY.                                     
|                                                                             | ITEM 11. EXECUTIVE COMPENSATION.                                                              
|                                                                             | ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.                      
|                                                                             | ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.                                      
|PART IV                                                                     
|                                                                             | ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.                     
|INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
|SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS                            
|SIGNATURES                                                                  
|INDEX TO EXHIBITS                                                           
|EX-12.1 Ratio of Earnings to Fixed Charges                                  
|EX-23.1 Consent of Ernst & Young LLP                                        
|EX-31.1 CEO's Certification - Section 302                                   
|EX-31.2 CFO's Certification - Section 302                                   
|EX-32.1 CEO's Certification - Section 906                                   
|EX-32.2 CFO's Certification - Section 906                                   



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EXPLANATORY NOTE

We are filing this Amendment No. 1 to our
Annual Report on Form 10-K/ A for the year ended
December 31, 2002 (the Form 10-K/ A) to
amend our Consolidated Financial Statements for the years ended
December 31, 2002, 2001 and 2000, to reflect
reclassifications to discontinued operations and to modify
related disclosures. Where considered appropriate, we have
updated other items and disclosures in this Form 10K/A. We
disposed of certain nursing facilities and our Care Focus
business unit during the six months ended June 30, 2003,
which have been reclassified to discontinued operations for all
periods presented in accordance with generally accepted
accounting principles and applicable Securities and Exchange
Commission (SEC) reporting requirements. This
document includes a Report of Ernst & Young LLP, Independent
Auditors on the amended Consolidated Financial Statements. The
filing of this Form 10-K/ A shall not be deemed an
admission that the original Form 10-K, when filed,
knowingly included any untrue statement of a material fact or
omitted to state a material fact necessary to make a statement
not misleading.

In this report, when we use words such as
today, recently, current or
currently, or phrases such as as of the date
hereof, or as of the date of this report, we
are referring to October 14, 2003, the date we filed this
report with the SEC.




FORWARD-LOOKING STATEMENTS

References throughout this document to the
Company include Beverly Enterprises, Inc. and its wholly owned
subsidiaries. In accordance with the Securities and Exchange
Commissions Plain English guidelines, this
Annual Report on Form 10-K/A has been written in the first
person. In this document, the words we,
our, ours and us refer only
to Beverly Enterprises, Inc. and its wholly owned subsidiaries
and not any other person. The Companys website 
www.beverlycares.com  provides access to the
Companys SEC reports within 24 hours of filing.

This Annual Report on Form 10-K/A, and other
information we provide from time to time, contains certain
statements that are not historical facts and may be
forward-looking statements within the meaning of United States
federal securities law. All statements regarding our expected
future financial position, results of operations or cash flows,
continued performance improvements, ability to service,
refinance, replace and comply with our debt obligations, ability
to finance growth opportunities, ability to control our patient
care liability costs, ability to respond to changes in
government regulations, ability to execute our three-year
strategic plan, and similar statements including, without
limitation, those containing words such as believes,
anticipates, expects,
intends, estimates, plans,
and other similar expressions are forward-looking statements.
These forward-looking statements reflect managements
beliefs and assumptions and are based on information currently
available to management. Forward-looking statements involve
known and unknown risks, uncertainties and other factors that
may cause our actual results, performance or achievements or
industry results to be materially different from any future
results, performance or achievements expressed or implied by us
in those statements. These risks, uncertainties and other
factors include, among others:



| |   |                                                                                                                                                                                                                                                                                                     
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | national and local economic conditions, including
    their effect on the availability and cost of labor, utilities
    and materials;                                                                                                                                                              
|
| |  | the effect of government regulations and changes
    in regulations governing the health care industry, including our
    compliance with such regulations;                                                                                                                                         
|
| |  | changes in Medicare and Medicaid payment levels
    and methodologies and the application of such methodologies by
    the government and its fiscal intermediaries;                                                                                                                                
|
| |  | the effects of adopting new accounting standards;                                                                                                                                                                                                                                                   
|
| |  | liabilities and other claims asserted against us,
    including patient care liabilities, as well as the resolution of
    lawsuits brought about by the announcement or settlement of
    government investigations and the announcement of increases in
    reserves for patient care liabilities;
|
| |  | our ability to predict future reserve levels for
    patient care and workers compensation liabilities;                                                                                                                                                                                            
|
| |  | our ability to execute strategic divestitures in
    a timely manner at fair value;                                                                                                                                                                                                                 

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| |   |                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------
| |  | our ability to improve our fundamental business
    processes and reduce costs throughout the organization; 
|
| |  | our ability to attract and retain qualified
    personnel;                                                  
|
| |  | the availability and terms of capital to fund
    acquisitions, capital improvements and ongoing operations;
|
| |  | the competitive environment in which we operate;                                                            
|
| |  | our ability to maintain and increase census
    (volume of residents) levels; and                           
|
| |  | demographic changes.                                                                                        

All subsequent written and oral forward-looking
statements attributable to us or persons acting on our behalf
are expressly qualified in their entirety by the cautionary
statements set forth or referred to above. We are not obligated
to publicly update or revise any forward-looking statements,
whether as a result of new information, future events or
otherwise.

2



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PART I




ITEM 1. BUSINESS.

General

Our business consists principally of providing
health care services, including the operation of nursing
facilities, assisted living centers, hospice and home care
centers, outpatient clinics and rehabilitation therapy services.
We are one of the largest operators of nursing facilities in the
United States. As of August 31, 2003, we operated 423
nursing facilities with a total of 45,492 licensed beds. Our
nursing facilities are located in 26 states and the District of
Columbia and range in capacity from 24 to 355 licensed beds.
(See Item 2  Properties.) Our nursing facilities
had average occupancy for continuing operations, based on
operational beds, of 87.7% during each of the six months ended
June 30, 2003 and the year ended December 31, 2002. As
of August 31, 2003, we also operated 22 assisted living
centers containing 621 units, 23 hospice and home care centers,
and 10 outpatient clinics.

Industry Overview

According to the Centers for Medicare &
Medicaid Services (CMS), total United States health
care spending is expected to grow at an average annual rate of
7.3% from 2002 through 2012. By these estimates, health care
expenditures will account for $3.1 trillion, or 17.7%, of the
gross domestic product by 2012. The nursing facility segment of
the United States health care industry encompasses a broad range
of health care services provided in skilled nursing facilities,
including traditional skilled nursing care and specialty medical
services. Nursing facility expenditures represent one of the
largest components of national health care spending, totaling
$103.7 billion in 2002.

According to Aventis Pharmaceuticals
Managed Care Digest SeriesTM, the long-term care
industry consisted of 15,275 skilled nursing facilities and
1,721,241 nursing facility beds at December 31, 2002. The
United States Census Bureau estimates, as of July 2002, there
were 35.3 million people over the age of 65 in the United
States, a number that is expected to grow by 52% to
53.7 million by 2020. The fastest growing segment of the
population is comprised of people over the age of 85. As of July
2002, according to United States Census Bureau estimates, there
were estimated to be 4.6 million people 85 years of
age or older, and growth rates for this segment are expected to
average 2.2% per year from 2002 through 2020.

We believe that demand for long-term care will
continue to grow due to longer average life expectancy, the
growing segment of the United States population over
85 years of age and cost-containment efforts by third-party
payors to encourage shorter stays in acute-care facilities. CMS
predicts that nursing facility expenditures will grow from
$103.7 billion in 2002 to $178.8 billion in 2012,
representing a 5.6% compounded annual growth rate.

Throughout the 1990s, there were numerous
initiatives on the federal and state levels to achieve
comprehensive reforms affecting the payment for, and
availability of, health care services. Aspects of these
initiatives included changes in reimbursement regulation by the
Health Care Financing Administration (now CMS) and enhanced
pressure to contain health care costs by Medicare, Medicaid and
other third-party payors. The passage of the Balanced Budget Act
of 1997 (the Budget Act) was designed to reduce and
control the rate of increase in Medicare expenditures for
services rendered by various providers. Specifically, the Budget
Act eliminated the previously existing cost-based
Medicare reimbursement system for skilled nursing facilities and
implemented a prospective payment system, which reimburses
skilled nursing facilities at a pre-determined rate based on
health care services required by various categories of patients.

Medicare is a federal health insurance program
for people who are 65 or older, have been disabled for at least
two consecutive years or have end-stage renal disease. Medicare
provides health insurance benefits in two parts:



| |   |                                                                                                                                                                                                                     
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Hospital Insurance (Part A) covers inpatient
    hospital care and inpatient skilled nursing facility care for a
    limited period of up to 100 days, if medically necessary,
    after a qualifying hospital stay.

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| |   |                                                                                                                                                                                                                                                                                                                                                                    
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Medical Insurance (Part B) is supplemental
    insurance requiring monthly premium payments by the beneficiary,
    which covers physicians services and other outpatient services,
    such as physical, occupational, and speech therapy services,
    enteral nutrition and supplies and X-ray services received
    outside of a Part A covered inpatient stay.

In November 1999, Congress passed the SCHIP
Balanced Budget Refinement Act of 1999 (BBRA) and in
December 2000, Congress passed the Medicare, Medicaid and SCHIP
Benefits Improvement and Protection Act of 2000
(BIPA). Both BBRA and BIPA were designed to mitigate
certain reductions in Medicare reimbursement resulting from the
Budget Act. Some of the increases in Medicare reimbursement for
skilled nursing facilities provided for under BBRA and BIPA
expired on September 30, 2002, the so-called Medicare
cliff. Despite intensive lobbying efforts by the long-term
care industry, Congress did not extend these Medicare funding
provisions.

However, CMS has announced two increases to
skilled nursing facility Medicare rates, which were each
effective October 1, 2003. The first increase of 3.26%, is
a cumulative correction for understated market basket increases
that CMS has relied upon since 1998. The second increase of
3.0%, which is applied to the Medicare rates subsequent to the
3.26% increase described above, is the annual market basket
increase for the federal fiscal year beginning October 1,
2003. CMS estimates that these increases combined will result in
an $850.0 million increase in Medicare payments to skilled
nursing facilities for the federal fiscal year 2004.

Certain of the Medicare increases provided under
BBRA and BIPA remain in place today, including, among other
things:



| |   |                                                                                                   
| | - | --------------------------------------------------------------------------------------------------
| |  | a 20% add-on for 12 high acuity non-therapy
    Resource Utilization Group (RUG) categories; and
|
| |  | a 6.7% add-on for all rehabilitation RUG
    categories.                                          

These add-ons will expire when CMS releases its
refinements to the current RUG payment system. CMS has announced
that these refinements will not be implemented until at least
October 1, 2004.

In addition, BBRA and BIPA provided for a
three-year moratorium on the two $1,500 Part B therapy caps,
which expired on December 31, 2002. The implementation of
the Part B therapy caps was further delayed until September 1,
2003. The annual caps for 2003 of $1,590 for physical and speech
therapy services combined and $1,590 for occupational therapy
services, which have been adjusted for inflation, are being
applied to services provided during the four-month period from
September through December of 2003.

On February 10, 2003, CMS published a
proposed rule to reduce by 30% the amount that Medicare
reimburses skilled nursing facilities and other non-hospital
providers for bad debts arising from uncollectible Medicare
coinsurance and deductibles. The proposal is to phase in the
reduction over a three-year period at 10% per year for cost
report periods beginning on or after October 1, 2003.

Operations and Services

Our operations are currently organized into three
primary operating segments: Nursing Facilities, AEGIS and Home
Care.

Nursing Facilities.Our Nursing Facilities operations provide long-term health
care and rehabilitation services through the operation of
skilled nursing facilities and assisted living centers and
accounted for approximately 95% of our net operating revenues
for the six months ended June 30, 2003 and approximately
96% of our net operating revenues for the year ended
December 31, 2002. Our facilities provide residents with
routine long-term care services, including daily nursing,
dietary, social and recreational services and a full range of
pharmacy services and medical supplies. Our skilled nursing
staff also provides complex and intensive medical services to
residents with higher acuity needs outside the traditional
acute-care hospital setting. We have designed our assisted
living centers to provide residents with a greater degree of
independence while still offering routine services and, if
required, limited medical care.

AEGIS.Our AEGIS
segment provides rehabilitation therapy services under contract
to our nursing facilities, as well as 455 third-party nursing
facilities, and accounted for approximately 3% of our net
operating

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revenues for the six months ended June 30,
2003 and approximately 2% of our net operating revenues for the
year ended December 31, 2002. AEGIS offers skilled
occupational, physical and speech therapy services designed to
maximize function and independence, assist in recovery from
medical conditions and compensate for remaining disabilities.


Home Care.Our Home
Care operations, which accounted for approximately 2% of our net
operating revenues for each of the six months ended
June 30, 2003 and the year ended December 31, 2002,
primarily provide hospice services within our nursing
facilities, in facilities operated by other health care
providers and in patients homes. Our hospice services
include palliative care for terminally ill patients, as well as
pastoral, counseling and bereavement services for the families
of hospice patients.

Revenue Sources

Overview

We receive payments for services provided to
patients from:



| |   |                                                                                                  
| | - | -------------------------------------------------------------------------------------------------
| |  | each of the states in which our facilities are
    located under the applicable Medicaid program;
|
| |  | the federal government under the Medicare program
    and the Department of Veterans Affairs; and
|
| |  | private payors, including commercial insurers and
    managed care payors.                       

The following table sets forth for the periods
indicated:



| |   |                                                                                                                                                
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------
| |  | nursing facility patient days derived from the
    indicated sources of payment as a percentage of total nursing
    facility patient days; and
|
| |  | revenues derived from the indicated sources of
    payment as a percentage of total net operating revenues.                                    

|                  |  |              |    |          |  |                   |    |          |  |              |    |          |  |  |    |   |  |  |    |   |  |  |    |  
|----------------- |  | ------------ | -- | -------- |  | ----------------- | -- | -------- |  | ------------ | -- | -------- |  |  | -- | - |  |  | -- | - |  |  | -- | -
|                  |  |              |    |          |  |                  
|                  |  | Medicaid     |    | Medicare |  | Private and Other
|                  |  |              |    |          |  |                  
|                  |  | Patient Days |    | Revenues |  | Patient Days      |    | Revenues |  | Patient Days |    | Revenues
|                  |  |              |    |          |  |                   |    |          |  |              |    |         
|Six Months Ended: |  |              |    |          |  |                   |    |          |  |              |    |          |  |  |    |   |  |  |    |   |  |  |    |  
|June 30, 2003.    |  |              | 70 | %        |  |                   | 52 | %        |  |              | 12 | %        |  |  | 27 | % |  |  | 18 | % |  |  | 21 | %
|June 30, 2002.    |  |              | 70 | %        |  |                   | 52 | %        |  |              | 11 | %        |  |  | 27 | % |  |  | 19 | % |  |  | 21 | %
|Years Ended:      |  |              |    |          |  |                   |    |          |  |              |    |          |  |  |    |   |  |  |    |   |  |  |    |  
|December 31, 2002 |  |              | 71 | %        |  |                   | 53 | %        |  |              | 11 | %        |  |  | 26 | % |  |  | 18 | % |  |  | 21 | %
|December 31, 2001 |  |              | 71 | %        |  |                   | 54 | %        |  |              | 10 | %        |  |  | 25 | % |  |  | 19 | % |  |  | 21 | %
|December 31, 2000 |  |              | 71 | %        |  |                   | 56 | %        |  |              | 10 | %        |  |  | 22 | % |  |  | 19 | % |  |  | 22 | %

Changes in the mix of our patient population
among the Medicaid, Medicare and private categories can
significantly affect our revenues and profitability. In most
states, private patient care is the most profitable, and
Medicaid patient care is the least profitable. We receive
ancillary revenues by providing occupational, physical, speech,
respiratory and intravenous therapy, as well as through sales of
pharmaceuticals and other services.

Reimbursement by Medicaid
Programs

Medicaid programs currently exist in all of the
26 states, and the District of Columbia, in which we operate
nursing facilities. These programs differ in certain respects
from state to state, but they are all subject to federal-imposed
requirements. At least 50% of the funds available under these
programs is provided by the federal government under a matching
program.

Currently, many state Medicaid programs use a
cost-based reimbursement system. This means that a facility is
reimbursed for the reasonable direct and indirect allowable
costs it incurs in providing routine patient care services (as
defined by the programs). In addition, certain states provide
for efficiency incentives, subject to certain cost ceilings.
These reasonable costs normally include certain allowances for
administrative and

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general costs, as well as the costs of property
and equipment (e.g., depreciation and interest, fair rental
allowance or rental expense).


State Medicaid reimbursement programs vary as to
the level of allowable costs that are reimbursed to operators.
In some states, cost-based reimbursement is subject to
retrospective adjustment through cost report settlement. In
other states, reimbursements made to a facility that are
subsequently determined to be less than or in excess of
allowable costs may be adjusted through future reimbursements to
the facility and to other facilities owned by the same operator.
Still other states reimburse facilities based upon costs from a
prior base year, adjusted for inflation. Several states in which
we currently operate have enacted reimbursement programs that
are based on patient acuity versus traditional cost-based
methodologies. Many other states are actively developing
reimbursement systems based on patient acuity or that follow a
methodology similar to Medicares prospective payment
system (see below). We are unable to estimate the ultimate
impact of any changes in state reimbursement programs on our
future consolidated financial position, results of operations,
or cash flows.

While federal regulations do not provide states
with grounds to curtail funding of their Medicaid cost
reimbursement programs due to state budget deficiencies, states
have done so in the past. No assurance can be given that states
will not do so in the future or that the future funding of
Medicaid programs will remain at levels comparable to the
present levels. In August 1997, the Budget Act was signed into
law. The Budget Act broadened the states authority to
develop their own standards for setting payment rates. The law
requires each state to use a public process for establishing
proposed rates whereby the methodologies and justifications used
for setting such rates are available for public review and
comment. This requires facilities to become more involved in the
rate setting process since failure to do so may interfere with a
facilitys ability to challenge rates later. Currently,
several states in which we have substantial operations are
experiencing deficits in their fiscal operating budgets. There
can be no assurance that these states, as well as other states
in which we operate, will not reduce payment rates.

Under the Nursing Home Resident Protection
Amendments of 1999, a nursing facility that decides to withdraw
from a state Medicaid program and continue operations is
required to continue providing care to Medicaid and non-Medicaid
residents who were residing at the facility on the day before
the effective date of the withdrawal.

Reimbursement by Medicare

Health care system reform and concerns over
rising Medicare costs have been priorities for both the federal
and state governments. The Budget Act included numerous program
changes directed at balancing the federal budget. In addition to
the Medicaid changes described above, the legislation changed
Medicare policy in a number of ways, including the phase-in of
the Medicare prospective payment system (PPS) for
skilled nursing facilities. PPS reimburses a skilled nursing
facility based upon the acuity level of Medicare patients.
Acuity level is determined by classifying a patient into one of
44 RUG categories, based on the nature of the patients
condition and services needed.

In 1999 and 2000, refinements were made to the
Budget Act. These refinements restored substantial Medicare
funding to skilled nursing facilities and other health care
providers originally eliminated by the Budget Act. Certain of
these refinements were eliminated effective September 30,
2002, including, among other things:



| |   |                                                                           
| | - | --------------------------------------------------------------------------
| |  | a 16.66% add-on to the nursing component of all
    44 RUG categories; and
|
| |  | a 4% overall increase in the adjusted rates for
    all 44 RUG categories.

Our net operating revenues were reduced in 2002
by $13.5 million as a result of the elimination of these
add-ons in the fourth quarter. We anticipate our net operating
revenues will decline an additional $40.6 million from
2002, for an annual impact of $54.2 million. While it is
possible that the federal government may restore some or all of
these payments in the future, we can give no assurances that
will occur, or if it should occur, when it might happen and
whether it will be retroactive.

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A number of the refinements made in 1999 and 2000
remain in place today, including, among other things:



| |   |                                                                    
| | - | -------------------------------------------------------------------
| |  | a 20% add-on for 12 high acuity non-therapy RUG
    categories; and
|
| |  | a 6.7% add-on for all rehabilitation RUG
    categories.           

These add-ons are scheduled to expire when CMS
releases their refinements to the current RUG payment system.
CMS has announced that these refinements will not be implemented
until at least October 1, 2004. We generate
$39.6 million in annual net operating revenues related to
these add-ons. We cannot currently predict when CMS will release
its refinements nor can we predict what their ultimate impact
will be on our operating results or cash flows.

In addition, the 1999 and 2000 refinements to the
Budget Act included a three-year moratorium on the two $1,500
Part B therapy caps, which expired on December 31, 2002. On
February 7, 2003, CMS announced that the Part B therapy
caps would be implemented on July 1, 2003 on a prospective
basis only. On June 30, 2003, however, plaintiffs seeking a
temporary restraining order to delay the implementation of the
Medicare Part B therapy caps scheduled to take effect on
July 1, 2003 entered into a settlement agreement with CMS.
This agreement further delayed the implementation of such caps
until September 1, 2003. The annual caps for 2003 of $1,590
for physical and speech therapy services combined and $1,590 for
occupational therapy services, which have been adjusted for
inflation, will be applied to services provided during the
four-month period from September through December of 2003. Based
on the historical volume of Part B therapy services we have
provided in our nursing facilities, we anticipate a decrease in
our annual net operating revenues resulting from reinstatement
of the Part B therapy caps of $13.8 million. Furthermore,
our AEGIS annual outside therapy contract revenue will likely be
reduced by an additional $5.0 million and AEGIS may be
required to adjust therapy staffing levels to offset a portion
of this revenue impact.

CMS has announced two increases to nursing
facility Medicare rates, which were effective October 1,
2003. The first increase of 3.26% is a cumulative correction for
understated market basket increases that CMS has relied on since
1998. The second increase of 3.0%, which is applied to the
Medicare rates subsequent to being adjusted for the 3.26%
increase above, is an annual market basket increase for the
federal fiscal year beginning October 1, 2003. Based on our
current volume and mix of Medicare patients, we anticipate the
combined impact of these increases to result in an increase in
our net operating revenues of $7.8 million for the fourth
quarter of 2003 and $23.4 million for the first nine months
of 2004, for an annual impact of $31.2 million.

On February 10, 2003, CMS published a
proposed rule to reduce by 30 percent the amount that
Medicare reimburses skilled nursing facilities and other
non-hospital providers for bad debts arising from uncollectible
Medicare coinsurance and deductibles. The proposal is to phase
in the reduction over a three-year period at 10 percent per
year for cost report periods beginning on or after
October 1, 2003, which will be effective for us as of
January 1, 2004. Based on our current volume of Medicare
bad debts, this proposed rule would reduce our net operating
revenues by $1.6 million, $3.3 million and
$4.9 million for 2004, 2005 and 2006, respectively.

Government Regulation

Our nursing facilities, assisted living centers,
home health agencies and hospices are subject to state licensure
and certification requirements under the Medicare, Medicaid and
Veterans Administration programs. While regulations and
licensing requirements vary based upon provider and from state
to state, they typically address, among other things,
administration and supervision, personnel qualifications,
physical plant specifications, nursing, rehabilitative therapy
and medical services and resident rights and responsibilities.
If we fail to comply with applicable licensing or certification
requirements, we may be subject to civil money penalties, loss
of licensure or termination of our participation in the
Medicare, Medicaid or Veterans Administration programs. Changes
in the laws or new interpretations of existing laws as applied
to our nursing facilities, assisted living centers or other
components of our health care businesses may have a significant
impact on our operations and costs of doing business.

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In 1989, CMS published new survey and
certification regulations to implement the Medicare and Medicaid
provisions of the Omnibus Budget Reconciliation Act of 1987
(OBRA 1987). OBRA 1987 mandated enhanced quality of
care requirements for participation by skilled nursing
facilities under Medicare and nursing facilities under Medicaid.
The Omnibus Budget Reconciliation Act of 1990 amended OBRA
1987s survey, certification and enforcement provisions.
The survey and certification regulations became effective in
October 1990, but the final version was published in September
1991. Final nursing facility enforcement regulations were
published in November 1994, and were revised significantly in
March 1999. Among the provisions that CMS has adopted are
requirements that:



| |   |                                                                                                                                                        
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | surveys focus on residents outcomes;                                                                                                                  
|
| |  | all deviations from the participation
    requirements will be considered deficiencies, but all
    deficiencies will not constitute noncompliance; and
|
| |  | penalties will result for certain types of
    deficiencies.                                                                                           

The regulations also identify remedies, as
alternatives to termination from participation, and specify the
categories of deficiencies for which these remedies will be
applied. These remedies include:



| |   |                                                                                                                                                                                                                                                                    
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | installation of temporary management;                                                                                                                                                                                                                              
|
| |  | denial of payment for new admissions;                                                                                                                                                                                                                              
|
| |  | denial of payment for all patients;                                                                                                                                                                                                                                
|
| |  | civil money penalties of $50 to $3,000 per day or
    per instance for deficiencies that do not put a resident in
    immediate jeopardy and of $3,050 to $10,000 per day for
    deficiencies that have caused or are likely to cause serious
    injury or death;
|
| |  | closure of facility and/or transfer of patients
    in emergencies;                                                                                                                                                                                                
|
| |  | directed plans of correction; and                                                                                                                                                                                                                                  
|
| |  | directed in-service training.                                                                                                                                                                                                                                      

In the ordinary course of our business, and like
other providers in the health care industry, we receive requests
for information from government agencies in connection with
their regulatory or investigational authority and notices of
deficiencies for failure to comply with various regulatory
requirements. We review such requests and notices and take
appropriate corrective action. In most cases, with respect to
the notices, the facility or other provider and the reviewing
agency will agree upon the steps to be taken to bring the
facility into compliance with regulatory requirements. In some
cases or upon repeat violations, the reviewing agency may take a
number of adverse actions against a provider. These adverse
actions include:



| |   |                                                                                
| | - | -------------------------------------------------------------------------------
| |  | the imposition of fines;                                                       
|
| |  | temporary suspension of admission of new patients
    to the facility;         
|
| |  | decertification from participation in the
    Medicaid or Medicare programs; or
|
| |  | in extreme circumstances, revocation of a
    facilitys license.              

We have been subject to certain of these adverse
actions in the past and could be subject to adverse actions in
the future, which could result in significant penalties, as well
as adverse publicity. The results of current or future
enforcements or actions could have a material adverse effect on
our operations or financial position.

In February 2000, as part of the settlement of an
investigation by the federal government into our allocation of
certain costs to the Medicare program (see
Item 3.  Legal Proceedings.), we entered into a
Corporate Integrity Agreement with the United States Department
of Justice and the Office of Inspector General (the
OIG). This agreement requires that we monitor our
compliance with the requirements of the federal health care
programs and addresses our obligations to ensure that we comply.
It includes our functional and training obligations, audit and
review requirements, recordkeeping and reporting requirements,
as well as

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penalties for breach/noncompliance of the
agreement. We believe that we are generally in compliance with
the requirements of the Corporate Integrity Agreement and file
annual reports with the OIG documenting our compliance. Failure
to comply with the Corporate Integrity Agreement may result in
penalties or exclusion from the Medicare and Medicaid programs.


Nursing Facility Quality
Initiative

Beginning in April 2002, CMS conducted a pilot
project in six states, Colorado, Florida, Maryland, Ohio, Rhode
Island and Washington, where it publicly reported on the
performance of each Medicare and Medicaid certified nursing
facility in those states in terms of quality of care. This
reporting used a set of quality indicators calculated from the
minimum data set assessments prepared by the nursing facilities
on each resident. This project was extended nationwide in
November 2002, and is expected to assist consumers in evaluating
nursing facilities, and to assist CMS in working with the
nursing facility industry to develop quality improvement
programs where needed.

We use a program called the Beverly Quality
System to help ensure quality care is provided in all of
our facilities. The program is comprised of four elements:
facility-based Quality Assurance and Assessment Committees;
Quality Councils; facility performance assessments and a
performance improvement model. All elements of the Beverly
Quality System are addressed by a multi-disciplinary team that
includes regional and district level business leaders and
clinical consultants. Additional consultative support is
provided by designated Quality Management Directors within the
organization.

We have analyzed the revised CMS regulations with
respect to our programs and facilities, as well as compliance
data for the past year. Results of CMS surveys for the past year
determined that a significant majority of our nursing facilities
surveyed were in substantial compliance with CMS requirements
for participation. Although we could be adversely affected if a
substantial portion of our programs or facilities were
eventually determined not to be in compliance with CMS
regulations, we believe our programs and facilities are
generally in compliance.

Regulation Governing Health Care Fraud
and Abuse

The Social Security Act and regulations of the
Department of Health and Human Services (HHS) state
that any entities or individuals who have been convicted of a
criminal offense related to the delivery of an item or service
under the Medicare or Medicaid programs or who have been
convicted, under state or federal law, of a criminal offense
relating to neglect or abuse of residents in connection with the
delivery of a health care item or service cannot participate in
the Medicare or Medicaid programs. Furthermore, any entities or
individuals who have been convicted of fraud, who have had their
licenses revoked or suspended, or who have failed to provide
services of adequate quality may be excluded from the Medicare
and Medicaid programs.

There are fraud and abuse
anti-kickback provisions of the Social Security Act (the
Antifraud Amendments) that make it a criminal felony
offense to knowingly and willfully offer, pay, solicit or
receive payment or any other remuneration in order to induce, or
in return for the receipt of, business for which reimbursement
is provided under government health programs, including Medicare
and Medicaid. In addition, violators can be subject to civil
penalties, as well as exclusion from government health programs.
The Antifraud Amendments have been broadly interpreted to make
payment of any kind, including many types of business and
financial arrangements among providers, and between providers
and beneficiaries, potentially illegal if any purpose of the
payment or financial arrangement is to induce a referral.
Accordingly, joint ventures, space and equipment rentals,
management and personal services contracts, and certain
investment arrangements among providers may be subject to
increased regulatory scrutiny.

From time to time, HHS puts into effect
regulations describing or clarifying certain arrangements that
are not subject to enforcement action under the Social Security
Act (the Safe Harbors). The Safe Harbors described
in the regulations are narrow, leaving a wide range of economic
relationships, which many hospitals, physicians and other health
care providers consider to be legitimate business arrangements,
possibly subject to enforcement action under the Antifraud
Amendments. The Safe Harbor regulations do not intend to
comprehensively describe all lawful relationships between health
care providers and referral sources. The Safe

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Harbor regulations state that just because an
arrangement does not qualify for Safe Harbor protection does not
mean it violates the Antifraud Amendments. However, a failure to
meet all the elements of a potentially applicable Safe Harbor
may subject a particular arrangement or relationship to
increased regulatory scrutiny.


In addition to the Antifraud Amendments,
Section 1877 of the Social Security Act, known as the
Stark Law, imposes restrictions on referrals between
physicians and certain entities with which the physicians have
financial relationships. The Stark Law provides that if a
physician (or an immediate family member of a physician) has a
financial relationship with an entity that provides certain
designated health services, the physician may not refer a
Medicare or Medicaid patient to the entity for those designated
services, unless an exception applies. In addition, the entity
may not bill for services provided by that physician unless an
exception to the financial relationship exists. Designated
health services include certain services, such as physical
therapy, occupational therapy, outpatient prescription drugs and
home health. The types of financial relationships that can
trigger the referral and billing prohibitions include ownership
or investment interests, as well as compensation arrangements.
Penalties for violating the law are severe, and include:



| |   |                                                                                                                                     
| | - | ------------------------------------------------------------------------------------------------------------------------------------
| |  | denial of payment for services provided;                                                                                            
|
| |  | civil money penalties of $15,000 for each item or
    service claimed;                                                              
|
| |  | refunds of any amounts collected;                                                                                                   
|
| |  | assessments of up to twice the amount claimed for
    each service;                                                                 
|
| |  | civil money penalties up to $100,000 for each
    arrangement or scheme designed to circumvent the Stark
    Laws prohibitions; and
|
| |  | exclusion from the Medicare and Medicaid programs.                                                                                  

Many states where we operate have laws similar to
the Antifraud Amendments and the Stark Law, but with broader
effect since they apply regardless of the source of payment for
care. These laws typically provide criminal and civil penalties,
as well as loss of licensure. The scope of these state laws is
broad and little precedent exists for their interpretation or
enforcement.

The Health Insurance Portability and
Accountability Act of 1996 (HIPAA) includes
comprehensive revisions or supplements to the Antifraud
Amendments. Under HIPAA, it is a federal criminal offense to
commit health care fraud. Health care fraud is defined as
knowingly and willfully executing or attempting to execute a
scheme or device to defraud any health care benefit
program. In addition, for the first time, HIPAA granted federal
enforcement officials the ability to exclude from the Medicare
and Medicaid programs any investors, officers and managing
employees associated with business entities that have committed
health care fraud, even if the investor, officer or employee had
no actual knowledge of the fraud. HIPAA established that it is a
violation to pay or otherwise give anything of value to a
Medicare or Medicaid beneficiary if one knows or has reason to
know that the payment would be likely to influence such
beneficiary to order or receive services from a particular
provider or practitioner. Most of the provisions of HIPAA became
effective January 1, 1997.

The Budget Act also contained a significant
number of new fraud and abuse provisions. For example, civil
money penalties may also be imposed for violations of the
Antifraud Amendments (previously, exclusion or criminal
prosecution were the only actions under the Antifraud
Amendments), as well as for contracting with an individual or
entity that a provider knows or should know is excluded from a
federal health care program. A person is subject to mandatory
exclusion from participation in federal health care programs
upon conviction for certain defined health care offenses. The
Budget Act provides a minimum ten-year period for exclusion from
participation in federal health care programs for providers
convicted of a prior health care offense. The Budget Act also
provides for civil money penalties of $50,000 and damages of not
more than three times the amount of payment received from the
prohibited activity.

In 1976, Congress established the OIG at HHS to
identify and eliminate fraud, abuse and waste in HHS programs
and to promote efficiency and economy in HHS departmental
operations. The OIG carries out this mission through a
nationwide program of audits, investigations and inspections. In
order to provide guidance to

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health care providers on ways to engage in
legitimate business practices and avoid scrutiny under the fraud
and abuse statutes, the OIG has from time to time issued
fraud alerts identifying segments of the health care
industry and particular practices that are vulnerable to abuse.
The fraud alerts encourage persons having information about
potentially abusive practices or transactions to report such
information to the OIG. The OIG has issued three fraud alerts
targeting the skilled nursing industry:




| |   |                                                                                                                                                                                                       
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | an August 1995 alert which relates to the
    provision of medical supplies to nursing facilities, fraudulent
    billing for medical supplies and equipment and fraudulent
    supplier transactions;
|
| |  | a May 1996 alert which focuses on the provision
    of fraudulent professional services to nursing facility
    residents; and                                                                        
|
| |  | a March 1998 alert which addresses the
    interrelationship between hospice services and the nursing
    facility industry, and potentially illegal practices and
    arrangements.                  

In addition to laws addressing referral
relationships, several federal laws impose criminal and civil
sanctions for fraudulent and abusive billing practices. The
Federal False Claims Act imposes sanctions, consisting of
monetary penalties of up to $11,000 for each claim and three
times the amount of damages, on entities and persons who
knowingly present or cause to be presented to the federal
government a false or fraudulent claim for payment. Also, the
statute allows private parties to bring qui tamwhistleblower lawsuits alleging false claims. Some states
have adopted similar whistleblower and/or false claims
provisions. The Social Security Act prohibits the knowing and
willful making of a false statement or misrepresentation of a
material fact with respect to the submission of a claim for
payment under government health programs (including the Medicare
and Medicaid programs). Violations of this provision are a
felony offense punishable by fines and imprisonment. The HIPAA
provisions establish criminal penalties for fraud, theft,
embezzlement, and the making of false statements with respect to
health care benefits programs (which includes private, as well
as government programs). Government prosecutors are increasing
their use of the Federal False Claims Act to prosecute quality
of care deficiencies in health care facilities. Their theory
behind this is that the submission of a claim for services
provided in a manner that falls short of quality of care
standards can constitute the submission of a false claim.

In addition to increasing the resources devoted
to investigating allegations of fraud and abuse in the Medicare
and Medicaid programs, federal and state regulatory and law
enforcement authorities are taking an increasingly strict view
of the requirements imposed on health care providers by the
Social Security Act and Medicare and Medicaid regulations. From
time to time, we, like other health care providers, are required
to provide records to state or federal agencies to aid in such
investigations. It is possible that these entities could
initiate investigations in the future at facilities we operate
and that such investigations could result in significant
penalties, as well as adverse publicity.

A joint federal/state initiative, Operation
Restore Trust, was created in 1995 to focus audit and law
enforcement efforts on geographic areas and provider types
receiving large concentrations of Medicare and Medicaid funds.
Under Operation Restore Trust, the OIG and CMS have undertaken a
variety of activities to address fraud and abuse by nursing
facilities, home health providers and medical equipment
suppliers. These activities include financial audits, creation
of a Fraud and Waste Report Hotline, and increased
investigations and enforcement activity.

Regulation Governing the Privacy and
Transmission of Health Care Information

In addition to its antifraud provisions, HIPAA
also requires improved efficiency in health care delivery by
standardizing electronic data interchange and by protecting the
confidentiality and security of health data. More specifically,
HIPAA calls for:



| |   |                                                                                                  
| | - | -------------------------------------------------------------------------------------------------
| |  | standardization of electronic patient health,
    administrative and financial data;             
|
| |  | unique health identifiers for individuals,
    employers, health plans and health care providers;
|
| |  | privacy standards protecting the privacy of
    individually identifiable health information; and

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| |   |                                                                                                                     
| | - | --------------------------------------------------------------------------------------------------------------------
| |  | security standards protecting the confidentiality
    and integrity of individually identifiable health information.

In August 2000, final regulations
establishing standards for electronic data transactions and code
sets, as required under HIPAA, were released. These standards
are designed to allow entities within the health care industry
to exchange medical, billing and other information and to
process transactions in a more timely and cost effective manner.
These new transactions and code sets standards were required to
be implemented by October 2002, unless a covered entity
applied for, and was granted, an extension of up to one year. We
have updated our systems, and we believe we are compliant with
the new standards for electronic transactions and code sets.
However, we applied for and were granted an extension until
October 16, 2003, primarily because several of our trading
partners, including some state Medicaid agencies, were not
prepared to implement the new transactions and code sets.

In December 2000, HIPAA privacy standards were
released, and were then further revised in August 2002.
Most covered entities under HIPAA were required to implement the
privacy standards by April 2003. The privacy standards are
designed to protect the privacy of certain individually
identifiable health information. The privacy standards have
required us to make certain updates to our policies and
procedures and conduct training for our employees surrounding
these standards. We believe we are compliant with the privacy
standards.

On February 20, 2003, CMS issued final
regulations with respect to HIPAAs security standards and
modifications to the electronic data transactions and code sets.
Most covered entities must comply with the security standards by
April 14, 2005. The regulations governing electronic data
transaction standards, which went into effect on March 24,
2003, will not delay our October 2003 compliance deadline.
All standards are required to be fully implemented within two
years of final issuance, with civil and criminal penalties
established for noncompliance.

HHS has estimated that implementation of the
electronic transactions and code sets, the privacy standards and
the security standards will cost the health care industry
between $1.8 billion and $6.3 billion over a five-year
period. We continue to evaluate and update our processes and
procedures to meet the requirements of the new standards;
however, we cannot assure you that all of the parties with whom
we do business will be in compliance with HIPAA. We do not
believe our ongoing implementation to comply with HIPAA will
have a material impact on our consolidated financial position,
results of operations or cash flows.

Insurance

We insure the majority of our auto liability and
workers compensation risks through loss-sensitive
insurance policies with affiliated and unaffiliated insurance
companies. For our general and professional liabilities, we are
responsible for the first dollar of each claim, up to a
self-insurance limit determined by the individual policies,
subject to aggregate limits in certain prior policy years. We
insure other business risks such as property losses, crime
losses, and claims against directors and officers with
affiliated and unaffiliated insurance companies subject to
various limits, terms, and deductibles. We have several
insurance programs placed with a wholly owned captive insurance
company, Beverly Indemnity, Ltd., as well as certain reinsurance
agreements (including our loss portfolio transfers) between
third-party insurers and Beverly Indemnity, Ltd. Third-party
insurance and reinsurance are subject to retentions, aggregates
and the risk of nonrenewal.

Competitive Conditions

Our nursing facilities compete primarily on a
local and regional basis with many long-term care providers,
some of whom may own as few as a single nursing facility. Our
primary national competitors include Manor Care, Inc., Kindred
Healthcare, Inc., Genesis Health Ventures, Inc. and Extendicare
Health Services, Inc.

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Our ability to compete successfully varies from
location to location and depends on a number of factors, which
include:




| |   |                                                         
| | - | --------------------------------------------------------
| |  | the number of competing centers in the local
    market;
|
| |  | the types of services available;                        
|
| |  | quality of care;                                        
|
| |  | reputation, age and appearance of each center; and      
|
| |  | the cost of care in each locality.                      

In general, we seek to compete in each market by
establishing a reputation within the local community for quality
health care services, attractive and comfortable facilities, and
providing specialized health care.

We also compete with a variety of other companies
in providing assisted living services, rehabilitation therapy
services and home health care services. Given the relatively low
barriers to entry and continuing health care cost-containment
pressures in the assisted living industry, the assisted living
industry has become increasingly competitive. Increased
competition in the future could limit our ability to attract and
retain residents or to expand our business.

Employees and Labor Relations

At August 31, 2003, we had approximately
40,500 full and part time employees.

Approximately 8% of our employees, employed in
approximately 90 of our nursing facilities, are represented by
various labor unions. Certain labor unions have publicly stated
that they are concentrating their organizing efforts within the
long-term health care industry.

Being one of the largest employers within the
long-term health care industry, we have been the target of two
AFL-CIO affiliated unions attempting to organize certain of our
facilities. Although our facilities have never experienced any
material work stoppages and we believe that our relations with
employees and labor organizations are generally good, we cannot
predict the effect continued union representation or
organizational activities will have on our future operations.

A national shortage of nurses and other trained
personnel and general inflationary pressures have required us to
adjust our wage and benefits packages in order to compete for
qualified personnel. In 2002 and the first six months of 2003,
labor costs accounted for approximately 54% of the operating
expenses of our Nursing Facilities segment. We compete with
other health care providers to attract and retain qualified or
skilled personnel. We also compete with various industries for
lower-wage employees. Although we currently do not face a
staffing shortage in all markets where we operate, we have used
high-priced temporary help to supplement staffing levels in
certain markets with shortages of health care workers, primarily
in 2001 and 2000. Although we are addressing this challenge
through recruiting and retention programs and training
initiatives, these programs and initiatives may not stabilize or
improve our ability to attract and retain these personnel. Our
inability to control labor availability and costs could have a
material adverse effect on our future operating results.

Risks Relating to Our Company

Our substantial indebtedness could
adversely affect our financial health.

We have a significant amount of indebtedness. On
June 30, 2003, we had total indebtedness of
$592.9 million. On June 30, 2003, our consolidated
balance sheet included a liability of $68.0 million
representing the present value of the remaining obligation we
owe to the federal government under a civil settlement
agreement. In addition, we have $70.0 million of
off-balance sheet financing.

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Our substantial indebtedness could have important
consequences to you. For example, it could:



| |   |                                                                                                                                                                                                                                                                        
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | increase our vulnerability to general adverse
    economic and industry conditions;                                                                                                                                                                                    
|
| |  | require us to dedicate a substantial portion of
    our cash flow from operations to payments on our indebtedness,
    thereby reducing the availability of our cash flow to fund
    working capital, capital expenditures and other general
    corporate activities;
|
| |  | limit our flexibility in planning for, or
    reacting to, changes in our business and industry;                                                                                                                                                                       
|
| |  | place us at a competitive disadvantage compared
    to other less leveraged competitors;                                                                                                                                                                               
|
| |  | limit our ability to pursue business
    opportunities that may be in our interest; and                                                                                                                                                                                
|
| |  | limit our ability to borrow additional funds.                                                                                                                                                                                                                          

In addition, the indentures relating to our notes
contains restrictive covenants, and our senior credit facility
contains financial and other restrictive covenants that will
limit our ability to engage in activities that may be in our
long-term best interest. Our failure to comply with those
covenants could result in an event of default, which, if not
cured or waived, could result in the acceleration of a
substantial amount of our debt.

Despite current indebtedness levels, we and
our subsidiaries may still be able to incur substantially more
debt. This could further increase the risks associated with our
substantial leverage.

We may be able to incur substantial additional
indebtedness in the future. The terms of our existing debt
instruments and the indentures relating to our notes do not
fully prohibit us from doing so. We currently are able to borrow
up to $90.7 million of revolving credit under our senior
credit facility ($39.8 million of which availability we are
currently using for letters of credit). If new indebtedness is
added to our current debt levels, the related risks that we now
face could increase.

To service our indebtedness, we will
require a significant amount of cash. Our ability to generate
cash depends on many factors, some of which are beyond our
control.

Our ability to make payments on and to refinance
our indebtedness and to fund planned capital expenditures and
research and development efforts will depend on our ability to
generate cash in the future. This, to a certain extent, is
subject to general economic, financial, competitive,
legislative, regulatory and other factors that are beyond our
control.

We currently anticipate that cash on hand, cash
flows from operations and availability under our banking
arrangements will be adequate to repay our debts due within one
year of $35.7 million, to make normal recurring annual
capital additions and improvements of $65.0 million, to make
operating lease and other contractual obligation payments, to
make selective acquisitions, including the purchase of
previously leased facilities, and to meet working capital
requirements for the twelve months ending June 30, 2004.

We cannot assure you, however, that our business
will generate sufficient cash flow from operations, that
currently anticipated cost savings and operating improvements
will be realized on schedule or that future borrowings will be
available in an amount sufficient to enable us to pay our
indebtedness or to fund our other liquidity needs. We may need
to refinance all or a portion of our indebtedness on or before
maturity. We cannot assure you that we will be able to refinance
any of our indebtedness on commercially reasonable terms or at
all.

Provisions of the Delaware General
Corporation Law and our organizational documents may discourage
an acquisition of us.

Our organizational documents and the Delaware
General Corporation Law both contain provisions that will impede
the removal of directors and may discourage a third-party from
making a proposal to acquire us. For example, our board of
directors may, without the consent of the stockholders, issue
preferred stock with greater voting rights than the common
stock. The existence of these provisions may also have a negative

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impact on the price of our common stock.
Furthermore, we are subject to Section 203 of the Delaware
General Corporation Law, which could have the effect of delaying
or preventing a change in control.


The price of our common stock may fluctuate
significantly.

The price of our common stock has been, and is
likely to continue to be, highly volatile, which means that it
could decline substantially. The price of our common stock could
fluctuate significantly for the following reasons, among others:



| |   |                                                              
| | - | -------------------------------------------------------------
| |  | future announcements concerning us or our
    competitors;   
|
| |  | quarterly variations in operating results;                   
|
| |  | business acquisitions or divestitures;                       
|
| |  | changes in earnings estimates by analysts;                   
|
| |  | changes in third-party reimbursement practices;              
|
| |  | regulatory developments; or                                  
|
| |  | fluctuations in the economy or general market
    conditions.

In addition, stock markets in general, and the
market for shares of health care stocks in particular, have
experienced extreme price and volume fluctuations in recent
years which have frequently been unrelated to the operating
performance of the affected companies. These broad market
fluctuations may adversely affect the market price of our common
stock. The market price of our common stock could decline below
its current price and the market price of our common stock may
fluctuate significantly in the future. These fluctuations may be
unrelated to our performance.

In the past, stockholders have often instituted
securities class action litigation after periods of volatility
in the market price of a companys securities. If a
stockholder files a securities class action suit against us, we
would incur substantial legal fees and our managements
attention and resources would be diverted from operating our
business in order to respond to the litigation. (See
Item 3.  Legal Proceedings.)

We rely on reimbursement from governmental
programs for a majority of our revenues, and we cannot assure
you that reimbursement levels will not decrease in the
future.

Changes in the reimbursement policies of the
Medicaid or Medicare programs as a result of budget cuts by
federal and state governments or other legislative and
regulatory actions could have a material adverse effect on our
consolidated financial position, results of operations and cash
flows.

In the past, states have curtailed their Medicaid
payments as a result of budget considerations. Currently,
several states in which we operate are experiencing deficits in
their fiscal operating budgets. There can be no assurance that
those states in which we operate that are experiencing budget
deficits, as well as other states in which we operate, will not
reduce payment rates.

The Budget Act broadened the states
authority to develop their own standards for setting payment
rates. It requires each state to use a public process for
establishing proposed rates whereby the methodologies and
justifications used for setting such rates are available for
public review and comment. This requires nursing facilities to
become more involved in the rate setting process since failure
to do so may interfere with a facilitys ability to
challenge rates later.

In recent years, there have also been reductions
in payments to skilled nursing facilities under the Medicare
program. Although BBRA and BIPA reversed certain rate reductions
enacted under the Budget Act, some of these increases expired on
September 30, 2002, the so-called Medicare
cliff. While CMS announced two increases to skilled
nursing facility rates effective October 2003, and will continue
certain add-ons for high-acuity patients until CMS refines the
RUG system, there can be no assurances that payments from the
Medicare program will remain at levels comparable to present
levels or will, in the future, be sufficient to cover the costs
allocable to Medicare patients.

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In addition, as required by the Budget Act, CMS
has imposed annual limits per beneficiary of $1,590 for physical
and speech therapy services combined and $1,590 for occupational
therapy. These caps, which became effective September 1,
2003, are being applied to services provided during the
four-month period from September though December of 2003. In the
absence of further congressional action, new limits will be
established for calendar year 2004 and later and will be
adjusted by a Medicare economic index. Based on the historical
volume of therapy services we have provided in our nursing
facilities that are subject to these caps, we anticipate a
decrease in our annual net operating revenues resulting from
these caps of approximately $13.8 million. Furthermore, our
AEGIS annual outside therapy contract revenue is estimated to be
reduced by an additional $5.0 million, and AEGIS may be
required to adjust therapy staffing levels to offset a portion
of this revenue impact.

On February 10, 2003, CMS published a
proposed rule to reduce by 30% the amount that Medicare
reimburses skilled nursing facilities and other non-hospital
providers for bad debts arising from uncollectible Medicare
coinsurance and deductibles. The proposal is to phase in the
reduction over a three-year period at 10% per year for cost
report periods beginning on or after October 1, 2003.

Governmental payment programs are subject to
statutory and regulatory changes, retroactive rate adjustments,
administrative or executive orders and government funding
restrictions, all of which may materially decrease the rate of
government program payments to us for our services. Our
financial condition and results of operations may be affected by
reductions in reimbursement levels and the reimbursement process
in general, which in the health care industry is complex and can
involve lengthy delays between the time that revenue is
recognized and the time that reimbursement amounts are settled.

Our industry is heavily regulated by the
government, which requires our compliance with a variety of
laws.

The operation of our facilities and the services
we provide are subject to periodic inspection by governmental
authorities to ensure that we are complying with standards
established for continued licensure under state law and
certification for participation under the Medicare and Medicaid
programs. Additionally, in certain states, certificates of need
or other similar approvals are required for expansion of our
operations. We could be adversely affected if we are unable to
obtain these approvals, if the standards applicable to approvals
or the interpretation of those standards change and by possible
delays and expenses associated with obtaining approvals. Our
failure to obtain, retain or renew any required regulatory
approvals, licenses or certificates could prevent us from being
reimbursed for certain of our services.

In the ordinary course of our business, and like
other providers in the health care industry, we receive requests
for information from government agencies in connection with
their regulatory or investigational authority and notices of
deficiencies for failure to comply with various regulatory
requirements. We review all such notices and we believe that we
take timely and appropriate corrective action. In most cases,
with respect to these notices, the facility and the reviewing
agency will agree upon the steps to be taken to bring the
facility into compliance with regulatory requirements. In some
cases or upon repeat violations, the reviewing agency may take a
number of adverse actions against a facility. These adverse
actions include:



| |   |                                                                                
| | - | -------------------------------------------------------------------------------
| |  | the imposition of fines;                                                       
|
| |  | temporary suspension of payment for new patients
    to the facility;          
|
| |  | decertification from participation in the
    Medicaid or Medicare programs; or
|
| |  | in extreme circumstances, revocation of a
    facilitys license.              

We have been subject to certain of these adverse
actions in the past and could be subject to adverse actions in
the future which could result in significant penalties, as well
as adverse publicity. Any such penalties or adverse publicity
could have a material adverse effect on our financial condition
and results of operations.

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We face periodic reviews, audits and
investigations under our contracts with federal and state
government agencies, and these audits could have adverse
findings that may negatively impact our business.

As a result of our participation in the Medicare
and Medicaid programs, we are subject to various governmental
reviews, audits and investigations to verify our compliance with
these programs and applicable laws and regulations. Private pay
sources also reserve the right to conduct audits. An adverse
review, audit or investigation could result in:



| |   |                                                                                                                            
| | - | ---------------------------------------------------------------------------------------------------------------------------
| |  | refunding amounts we have been paid pursuant to
    the Medicare or Medicaid programs or from private payors;              
|
| |  | state or federal agencies imposing fines,
    penalties and other sanctions on us;                                         
|
| |  | loss of our right to participate in the Medicare
    or Medicaid programs or one or more private payor networks;
    and/or
|
| |  | damage to our reputation in various markets.                                                                               

Both federal and state government agencies have
heightened and coordinated civil and criminal enforcement
efforts as part of numerous ongoing investigations of health
care companies and, in particular, skilled nursing facilities.
The investigations include:



| |   |                                                   
| | - | --------------------------------------------------
| |  | cost reporting and billing practices;             
|
| |  | quality of care;                                  
|
| |  | financial relationships with referral sources; and
|
| |  | medical necessity of services provided.           

We also are subject to potential lawsuits under a
federal whistleblower statute designed to combat fraud and abuse
in the health care industry. These lawsuits can involve
significant monetary awards to private plaintiffs who
successfully bring these suits.

We are required to comply with laws
governing the transmission and privacy of health
information.

HIPAA requires us to comply with certain
standards for the exchange of individually identifiable health
information within our company and with third parties, such as
payors, business associates and patients. These include
standards for common health care transactions, such as claims
information, plan eligibility, payment information and the use
of electronic signatures; unique identifiers for providers,
employers, health plans and individuals; security; and privacy.
CMS finalized the transaction standards on August 17, 2000
and published modifications to them on February 20, 2003.
While we initially were required to comply with them by
October 16, 2002, Congress passed legislation in December
2001 that delayed for one year (until October 16, 2003) the
compliance date, but only for entities that submitted a
compliance plan to HHS by the original implementation deadline,
which we did.

HHS issued the privacy standards on
December 28, 2000, and, after certain delays and
modifications, they became effective on April 14, 2001,
with a compliance date of April 14, 2003. Sanctions for
failing to comply with the HIPAA health information practices
provisions include criminal penalties and civil sanctions. The
security standards went into effect on April 14, 2003, with
a compliance date of April 14, 2005 for most covered
entities. We cannot assure you that all of the parties with whom
we do business will be in compliance with HIPAA. If we fail to
comply with these standards, we could be subject to criminal
penalties and civil sanctions, which could have a material
adverse effect on our financial condition and results of
operations.

Health care reform legislation may
adversely affect our business.

In recent years, there have been numerous
initiatives on the federal and state levels for comprehensive
reforms affecting the payment for and availability of health
care services. Aspects of certain of these health care
initiatives, such as reductions in funding of the Medicare and
Medicaid programs, potential changes in reimbursement
regulations by CMS, enhanced pressure to contain health care
costs by Medicare, Medicaid

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and other payors, greater state flexibility and
additional operational requirements, could adversely affect us.
There can be no assurance as to the ultimate content, timing or
effect of any health care reform legislation, nor is it possible
at this time to estimate the impact of potential legislation on
us. That impact may have a material adverse effect on our
financial condition and results of operations.


We are subject to increasingly expensive
and unpredictable patient care liability costs.

General and professional liability costs for the
long-term care industry have become increasingly expensive and
difficult to estimate. We have experienced substantial increases
in both the number of claims and lawsuits, as well as the size
of the typical claim and lawsuit. We previously experienced
significant, unexpected increases in estimated ultimate costs
for claims in certain states or areas. In Texas and Florida, the
growth in patient care liability claims and lawsuits reached a
level where it was not possible for us to continue to operate
profitably in certain facilities and precipitated our
disposition of all facilities in Texas and Florida and a number
of facilities in the Southeast United States and certain other
locations. If patient care claims continue to increase in number
and size, our future financial condition and operating results
may be adversely affected.

Insurance coverage is becoming increasingly
expensive and difficult to obtain for long-term care companies,
and our insurance carriers could become insolvent and unable to
reimburse us.

Primarily as a result of patient care liability
costs for long-term care providers, insurance companies are
ceasing to insure long-term care companies, or severely limiting
their capacity to write long-term care general and professional
liability insurance. In addition, in the wake of the September
11, 2001 events, reduced overall insurance capacity and
increasing insurance company losses, the insurance environment
in general has become unstable, making it increasingly difficult
to obtain coverage for patient care liabilities and certain
other risks. When insurance coverage is available, insurance
carriers are typically requiring companies to significantly
increase their liability retention levels and/or pay
substantially higher premiums for reduced coverage for most
insurance coverages, including workers compensation,
employee healthcare and patient care liability. We are
experiencing higher premiums and retention levels. Our insurance
covering patient care liability comes up for renewal in the
second quarter of 2004. We cannot assure you that we will be
able to renew our patient care liability insurance on terms as
favorable as those we currently have.

We have purchased insurance for workers
compensation, property, casualty and other risks from numerous
insurance companies. In many cases, the policies provide
coverage for events occurring in specific time frames that may
only be determined in later years. We exercise care in selecting
companies from which we purchase insurance, including review of
published ratings by recognized rating agencies, advice from
national brokers and consultants and review of trade information
sources. There exists a risk that any of these insurance
companies may become insolvent and unable to fulfill their
obligation to defend, pay or reimburse us when that obligation
becomes due. Although we believe the companies we have purchased
insurance from are solvent, in light of the dramatic changes
occurring in the insurance industry in recent years, we cannot
assure you that they will remain solvent and able to fulfill
their obligations.

Our operations are subject to occupational
health and safety regulations.

We are subject to a wide variety of federal,
state and local occupational health and safety laws and
regulations. Among the types of regulatory requirements faced by
health care providers such as us are: air and water quality
control requirements, occupational health and safety
requirements (such as standards regarding blood-borne pathogens
and ergonomics), waste management requirements, specific
regulatory requirements applicable to asbestos, polychlorinated
biphenyls and radioactive substance requirements for providing
notice to employees and members of the public about hazardous
materials and wastes and certain other requirements. If we fail
to comply with these standards, we may be subject to sanctions
and penalties, which could have a material adverse effect on our
financial condition and results of operations.

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State efforts to regulate the construction
or expansion of health care providers could impair our ability
to expand our operations.

Some states require health care providers
(including skilled nursing facilities, home health agencies,
hospices and assisted living centers) to obtain prior approval,
known as a certificate of need (a CON) for:



| |   |                                                                       
| | - | ----------------------------------------------------------------------
| |  | the purchase, construction or expansion of health
    care facilities;
|
| |  | capital expenditures exceeding a prescribed
    amount; or            
|
| |  | changes in services or bed capacity.                                  

To the extent that we are required to obtain a
CON or other similar approvals to expand our operations, either
by acquiring facilities or expanding or providing new services
or other changes, our expansion could be adversely affected by
our failure or inability to obtain the necessary approvals,
changes in the standards applicable to those approvals, and
possible delays and expenses associated with obtaining those
approvals. We cannot assure you that we will be able to obtain
CON approval for all future projects requiring this approval.

We face national, regional and local
competition.

Our nursing facilities compete primarily on a
local and regional basis with many long-term care providers,
some of whom may own as few as a single nursing facility. Our
ability to compete successfully varies from location to location
depending on a number of factors, including the number of
competing facilities in the local market, the types of services
available, quality of care, reputation, age and appearance of
each facility and the cost of care in each locality.

We also compete with a variety of other companies
in providing assisted living services, rehabilitation therapy
services and home care services. Given the relatively low
barriers to entry and continuing health care cost containment
pressures in the assisted living industry, the assisted living
industry has become increasingly competitive. Increased
competition in the future could limit our ability to attract and
retain residents or to expand our business.

Our civil settlement agreement with the
United States Government with respect to alleged violations of
cost allocations under Medicare and our settlement agreement
with the State of California negatively impact our cash flows,
and our civil settlement agreement with the United States
Government subjects us to a Corporate Integrity
Agreement.

On February 3, 2000, we entered into a
series of separate agreements with the OIG of HHS, which are
described in detail under Item 3.  Legal
Proceedings. Under the civil settlement agreement, we paid the
federal government $25.0 million during the first quarter
of 2000 and agreed to reimburse the federal government an
additional $145.0 million through withholdings from our
biweekly Medicare periodic interim payments in equal
installments ending in the first quarter of 2008. As of
June 30, 2003, the present value of the remaining
obligation was $68.0 million. As a result of such
withholdings, our cash flows from operations were negatively
impacted by $18.1 million during the year ended
December 31, 2002, and are expected to be negatively
impacted at an annual rate of $18.1 million.

As part of this series of agreements, we entered
into a Corporate Integrity Agreement with the OIG. This
agreement requires that we monitor, on an ongoing basis, our
compliance with the requirements of the federal health care
programs. This agreement addresses our obligations to ensure
that we comply with the requirements of participation in the
federal health care programs. It also includes our functional
and training obligations, audit and review requirements and
record keeping and reporting requirements. We believe that we
are generally in compliance with the requirements of our
Corporate Integrity Agreement and file annual reports with the
OIG documenting our compliance.

On August 1, 2002, we reached an agreement
with the State of California on the settlement of an
investigation by the Attorney Generals office and the
District Attorney of Santa Barbara County of patient care issues
in several California nursing facilities as described under
Item 3.  Legal Proceedings. In accordance with
the terms of the settlement agreement, Beverly
Enterprises-California, Inc. paid a fine of

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$54,000, reimbursed the Attorney General and the
Santa Barbara County District Attorney $533,000 for the costs of
their investigations and paid a $2.0 million civil penalty
in four equal, quarterly installments of $500,000.


In addition, certain revisions were made to our
Corporate Integrity Agreement to reflect a permanent injunction
requiring our nursing facilities in California to conduct
additional training programs and to hire an independent quality
monitor to assess our quality care systems.

If we fail to comply with our Corporate Integrity
Agreement, we may be subject to penalties or exclusion from the
Medicare and Medicaid programs, which could have a material
adverse effect on our financial condition and results of
operations.

We are subject to material
litigation.

We are, and may in the future be, subject to
litigation which, if determined adversely against us, could have
a material adverse effect on our business or financial
condition. Pending, threatened or future litigation could have a
material adverse effect on our financial condition and results
of operations. (See Item 3.  Legal Proceedings.)

Our failure to attract and retain qualified
personnel could harm our business.

A national shortage of nurses and other trained
personnel and general inflationary pressures have required us to
adjust our wage and benefits packages in order to compete for
qualified personnel. Labor costs account for approximately 54%
of the operating expenses of our Nursing Facilities segment. We
compete with other health care providers to attract and retain
qualified or skilled personnel. We also compete with various
industries for lower-wage employees. Although we currently do
not face a staffing shortage in all markets where we operate, we
have used high-priced temporary help to supplement staffing
levels in markets with shortages of health care workers,
primarily in 2001 and 2000. Although we are addressing this
challenge through recruiting and retention programs and training
initiatives, these programs and initiatives may not stabilize or
improve our ability to attract and retain these personnel. Our
inability to control labor availability and cost could have a
material adverse effect on our financial condition and results
of operations.

If we fail to cultivate new or maintain
existing relationships with the physicians in the communities in
which we operate, our patient base may decrease.

Our patient base depends in part upon the
admissions and referral practices of the physicians in the
communities in which we operate and our ability to cultivate and
maintain relationships with these physicians. Physicians
referring patients to our facilities are not our employees and
are free to refer their patients to other providers. If we are
unable to successfully cultivate and maintain strong
relationships with these physicians, our patient population may
decline, which, if significant, could have a material adverse
effect on our financial condition and results of operations.

Changes in the mix of our patient
population among the Medicaid, Medicare and private categories
may significantly affect our revenues and
profitability.

The sources and amounts of our patient revenues
are determined by a number of factors, including licensed bed
capacity and census of our facilities, average length of stay of
our residents, the mix of our patients by payor type (for
example, Medicare versus Medicaid or private), and the acuity
level of our patients. Changes in the case mix of patients, the
mix of patients by payor type and payment methodologies may
significantly affect our profitability. In particular, changes
which increase the percentage of Medicaid residents within our
facilities could have a material adverse effect on our financial
operations, especially in states whose reimbursement levels are
below our operating costs.

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Certain trends in the health care industry
are putting pressure on our ability to maintain nursing facility
census.

Over the past decade, a number of trends have
developed that impact our census. These trends include:



| |   |                                                                                                                             
| | - | ----------------------------------------------------------------------------------------------------------------------------
| |  | overbuilding of nursing facilities in states that
    have eliminated the CON process for new construction;                 
|
| |  | creation of nursing facilities by acute-care
    hospitals to keep discharged patients within their complex;                
|
| |  | rapid growth of assisted living centers, which
    sometimes are more attractive to less medically complex
    patients; and
|
| |  | the availability of eldercare services delivered
    to the home.                                                           

The negative impact of these trends on nursing
facility census varies from facility to facility, from community
to community and from state to state, and if we are not
successful in responding to them, these trends could have a
material adverse effect on our financial condition and results
of operations.




ITEM 2. PROPERTIES.

On August 31, 2003, we operated
423 nursing facilities, 22 assisted living centers,
10 outpatient clinics and 23 hospice and home care
centers in 28 states and the District of Columbia. Most of
our 122 leased nursing facilities are subject to
net leases which require us to pay all taxes,
insurance and maintenance costs. Most of these leases have
original terms from ten to fifteen years and contain at least
one renewal option. Renewal options typically extend the
original terms of the leases by five to fifteen years. Many of
these leases also contain purchase options. We consider our
physical properties to be in good operating condition and
suitable for the purposes for which they are being used. Certain
of our nursing facilities and assisted living centers are
included in the collateral securing our obligations under
various debt agreements. (See Item 8. 
Note 8.)

The following is a summary of our nursing
facilities, assisted living centers, outpatient clinics and
hospice and home care centers at August 31, 2003:

|                     |  |                    |    |                 |  |        |       |             |  |            |   |           |  |  |     |  |  |  |   |  |  |  |   | 
|-------------------- |  | ------------------ | -- | --------------- |  | ------ | ----- | ----------- |  | ---------- | - | --------- |  |  | --- |  |  |  | - |  |  |  | - | 
|                     |  |                    |    |                 |  |        |       |             |  |           
|                     |  |                    |    | Assisted Living |  |        |       |            
|                     |  | Nursing Facilities |    | Centers         |  |        |       |            
|                     |  |                    |    |                 |  |        |       | Hospice and
|                     |  |                    |    | Total           |  |        |       | Total       |  | Outpatient |   | Home Care
|Location             |  | Number             |    | licensed beds   |  | Number |       | units       |  | Clinics    |   | Centers  
|                     |  |                    |    |                 |  |        |       |             |  |            |   |          
|Alabama              |  |                    | 14 |                 |  |        | 1,670 |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Arizona              |  |                    | 3  |                 |  |        | 480   |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Arkansas             |  |                    | 33 |                 |  |        | 4,006 |             |  |            | 2 |           |  |  | 48  |  |  |  |  |  |  |  |  | 
|California           |  |                    | 57 |                 |  |        | 5,947 |             |  |            | 1 |           |  |  | 72  |  |  |  |  |  |  |  | 3 | 
|District of Columbia |  |                    | 1  |                 |  |        | 355   |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Georgia              |  |                    | 13 |                 |  |        | 1,595 |             |  |            | 2 |           |  |  | 72  |  |  |  |  |  |  |  | 1 | 
|Hawaii               |  |                    | 2  |                 |  |        | 396   |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Illinois             |  |                    | 3  |                 |  |        | 275   |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Indiana              |  |                    | 28 |                 |  |        | 3,470 |             |  |            | 1 |           |  |  | 16  |  |  |  |  |  |  |  | 1 | 
|Iowa                 |  |                    |   |                 |  |        |      |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  | 1 | 
|Kansas               |  |                    | 20 |                 |  |        | 1,217 |             |  |            | 1 |           |  |  | 9   |  |  |  |  |  |  |  |  | 
|Kentucky             |  |                    | 8  |                 |  |        | 1,039 |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Maryland             |  |                    | 4  |                 |  |        | 585   |             |  |            | 1 |           |  |  | 19  |  |  |  |  |  |  |  |  | 
|Massachusetts        |  |                    | 18 |                 |  |        | 2,048 |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Minnesota            |  |                    | 29 |                 |  |        | 2,300 |             |  |            | 1 |           |  |  | 16  |  |  |  |  |  |  |  |  | 
|Mississippi          |  |                    | 10 |                 |  |        | 1,149 |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 
|Missouri             |  |                    | 22 |                 |  |        | 2,162 |             |  |            | 3 |           |  |  | 103 |  |  |  |  |  |  |  | 1 | 
|Nebraska             |  |                    | 24 |                 |  |        | 2,043 |             |  |            | 1 |           |  |  | 19  |  |  |  |  |  |  |  | 3 | 
|New Jersey           |  |                    | 1  |                 |  |        | 140   |             |  |            |  |           |  |  |    |  |  |  |  |  |  |  |  | 

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|               |  |                    |     |                 |  |        |        |             |  |            |    |           |  |  |     |  |  |  |    |  |  |  |    | 
|-------------- |  | ------------------ | --- | --------------- |  | ------ | ------ | ----------- |  | ---------- | -- | --------- |  |  | --- |  |  |  | -- |  |  |  | -- | 
|               |  |                    |     |                 |  |        |        |             |  |           
|               |  |                    |     | Assisted Living |  |        |        |            
|               |  | Nursing Facilities |     | Centers         |  |        |        |            
|               |  |                    |     |                 |  |        |        | Hospice and
|               |  |                    |     | Total           |  |        |        | Total       |  | Outpatient |    | Home Care
|Location       |  | Number             |     | licensed beds   |  | Number |        | units       |  | Clinics    |    | Centers  
|               |  |                    |     |                 |  |        |        |             |  |            |    |          
|North Carolina |  |                    | 10  |                 |  |        | 1,278  |             |  |            |   |           |  |  |    |  |  |  | 10 |  |  |  | 2  | 
|Ohio           |  |                    | 9   |                 |  |        | 1,222  |             |  |            |   |           |  |  |    |  |  |  |   |  |  |  |   | 
|Pennsylvania   |  |                    | 42  |                 |  |        | 4,769  |             |  |            | 3  |           |  |  | 72  |  |  |  |   |  |  |  | 7  | 
|South Dakota   |  |                    | 17  |                 |  |        | 1,176  |             |  |            | 1  |           |  |  | 36  |  |  |  |   |  |  |  |   | 
|Tennessee      |  |                    | 5   |                 |  |        | 555    |             |  |            | 2  |           |  |  | 55  |  |  |  |   |  |  |  |   | 
|Texas          |  |                    |    |                 |  |        |       |             |  |            |   |           |  |  |    |  |  |  |   |  |  |  | 2  | 
|Virginia       |  |                    | 14  |                 |  |        | 1,864  |             |  |            | 3  |           |  |  | 84  |  |  |  |   |  |  |  |   | 
|Washington     |  |                    | 8   |                 |  |        | 749    |             |  |            |   |           |  |  |    |  |  |  |   |  |  |  |   | 
|West Virginia  |  |                    | 3   |                 |  |        | 310    |             |  |            |   |           |  |  |    |  |  |  |   |  |  |  |   | 
|Wisconsin      |  |                    | 25  |                 |  |        | 2,692  |             |  |            |   |           |  |  |    |  |  |  |   |  |  |  | 2  | 
|               |  |                    |     |                 |  |        |        |             |  |            |    |           |  |  |     |  |  |  |    |  |  |  |    | 
|               |  |                    | 423 |                 |  |        | 45,492 |             |  |            | 22 |           |  |  | 621 |  |  |  | 10 |  |  |  | 23 | 
|               |  |                    |     |                 |  |        |        |             |  |            |    |           |  |  |     |  |  |  |    |  |  |  |    | 

|               |  |  |     |  |  |  |        |  |  |  |    |  |  |  |     |  |  |  |    |  |  |  |    | 
|-------------- |  |  | --- |  |  |  | ------ |  |  |  | -- |  |  |  | --- |  |  |  | -- |  |  |  | -- | 
|Classification |  |  |     |  |  |  |        |  |  |  |    | 
|               |  |  |     |  |  |  |        |  |  |  |    | 
|Owned          |  |  | 301 |  |  |  | 32,143 |  |  |  | 20 |  |  |  | 520 |  |  |  |   |  |  |  |   | 
|Leased         |  |  | 122 |  |  |  | 13,349 |  |  |  | 2  |  |  |  | 101 |  |  |  | 10 |  |  |  | 23 | 
|Managed        |  |  |    |  |  |  |       |  |  |  |   |  |  |  |    |  |  |  |   |  |  |  |   | 
|               |  |  |     |  |  |  |        |  |  |  |    |  |  |  |     |  |  |  |    |  |  |  |    | 
|               |  |  | 423 |  |  |  | 45,492 |  |  |  | 22 |  |  |  | 621 |  |  |  | 10 |  |  |  | 23 | 
|               |  |  |     |  |  |  |        |  |  |  |    |  |  |  |     |  |  |  |    |  |  |  |    | 




ITEM 3. LEGAL PROCEEDINGS.

On October 2, 1998, a purported class action
lawsuit was filed in the United States District Court for the
Eastern District of Arkansas by Jack Kushner against us and
certain of our officers (the Class Action).
Plaintiffs filed a second amended complaint on September 9,
1999, which asserted claims under Section 10(b) (including
Rule 10b-5 promulgated thereunder) and under
Section 20 of the Securities Exchange Act of 1934 arising
from practices that were the subject of the federal
governments investigation of our allocation to the
Medicare program of certain nursing labor costs in our skilled
nursing facilities. The defendants filed a motion to dismiss
that complaint on October 8, 1999. Oral argument on this
motion was held on April 6, 2000. By order and judgment
dated October 17, 2001, defendants motion to dismiss
was granted, and the complaint was dismissed with prejudice.
Plaintiffs appealed this decision to the Eighth Circuit Court of
Appeals (Case No. 01-3677). On January 23, 2003, the
Eighth Circuit entered an order affirming the district
courts order dismissing the case with prejudice. The
plaintiffs appealed the order of the Eighth Circuit
en banc, but, on February 27, 2003, the Eighth
Circuit denied the petition. The Eighth Circuit issued a mandate
denying the petition and ordering the district court to enforce
its ruling and dismiss the case. The plaintiffs did not petition
for a writ of certiorarito the United States Supreme
Court.

The following derivative lawsuits have been filed
in the state court of Arkansas, as well as the federal district
court in Arkansas, assertedly on our behalf:



| |   |                                                                                                                                                                                                                                                                             
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Norman M. Lyons v. David R. Banks,
    et al., Case No. OT99-4041,
    was filed in the Chancery Court of Pulaski County, Arkansas (4th
    Division) on or about July 29, 1999, and the parties filed
    an Agreed Motion to Stay the proceedings on January 17,
    2000;
|
| |  | Badger v. David R. Banks,
    et al., Case
    No. LR-C-99-881, was filed in the United States District
    Court for the Eastern District of Arkansas (Western Division) on
    November 30, 1999; and                                                                     
|
| |  | Richardson v. David R. Banks,
    et al., Case
    No. LR-C-99-826, was filed in the United States District
    Court for the Eastern District of Arkansas (Western Division) on
    November 4, 1999.                                                                      

The Badger and Richardson actions were ordered to
be consolidated as In re Beverly Enterprises, Inc. Derivative
Litigationand by agreed motion, plaintiffs filed an
amended, consolidated complaint on April 21, 2000.
Defendants filed a motion to dismiss the consolidated derivative
complaint and a motion to strike

22



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##### Table of Contents



portions thereof on July 21, 2000. The
parties agreed to stay the consolidated action pending the
outcome of the motion to dismiss in the Class Action filed
by Jack Kushner. In light of the dismissal of the Class Action,
the Court entered a Scheduling Order dated July 17, 2003,
which sets a trial date of March 29, 2004, for this case.


These derivative actions each name our directors
as defendants, as well as us as a nominal defendant. The Lyons
action also names as defendants certain of our current and
former officers. The derivative actions each allege breach of
fiduciary duties to our Company and our stockholders as a result
of alleged conduct giving rise to the Class Action. The
Lyons and Richardson actions also assert claims for abuse of
control and constructive fraud arising from the same allegations
and the Richardson action also claims unjust enrichment.

Due to the preliminary state of these derivative
actions, we are unable at this time to assess the probable
outcome of these derivative actions or the materiality of the
risk of loss. We can give no assurances of their ultimate impact
on our consolidated financial position, results of operations or
cash flows.

On August 16, 2002, August 26, 2002,
and September 26, 2002, respectively, Ernest Baer v.
Beverly Enterprises, Inc., et. al.(CIV.
No. 02-2190), Stanley V. Kensic v. Beverly Enterprises,
Inc., et. al.(CIV. No. 02-2193) and Charles
Krebs v. Beverly Enterprises, Inc., et. al.(CIV.
No. 02-2222) were filed in the United States District
Court, Western District of Arkansas, Fort Smith Division. These
cases were filed as purported securities fraud class actions
under Sections 10(b) and 20(a) of the Securities Exchange
Act of 1934 and Rule 10b-5 promulgated thereunder.

These cases separately name us as a defendant
along with various of our current officers and our independent
auditors. In all three cases, the purported class period runs
from October 16, 2000 to and including July 19, 2002.
Plaintiffs claim that the defendants, during the purported class
period, made multiple false and misleading statements. In early
March 2003, these cases were consolidated as In re Beverly
Enterprises, Inc. Securities Litigation. On April 30,
2003, plaintiffs filed an amended complaint. On May 30,
2003, the defendants filed a motion to dismiss the amended
complaint. Briefing on the motion to dismiss was completed
July 11, 2003. The court heard oral argument on our motion
on August 28, 2003 and has not yet ruled on the motion. Due
to the preliminary state of this action, we are unable to assess
the probable outcome of the case. We can give no assurances of
the ultimate impact on our consolidated financial position,
results of operations or cash flows as a result of these
proceedings.

On October 31, 2002, a shareholder
derivative action entitled Paul Dunne and Helene Dunne,
derivatively on behalf of nominal defendant Beverly Enterprises,
Inc. v. Beryl F. Anthony, Jr., et al. was filed in the
Circuit Court of Sebastian County, Arkansas, Fort Smith Division
(No. CIV-2002-1241). This case is purportedly brought
derivatively on our behalf against various of our current and
former officers and directors. We learned of this case when it
was served on one defendant on January 22, 2003. The
complaint alleges causes of action for breach of fiduciary duty
against the defendants based on: (1) allegations that defendants
failed to establish and maintain adequate accounting controls
such that we failed to record adequate reserves for patient care
liability costs; and (2) allegations that certain
defendants sold our common stock while purportedly in possession
of material non-public information. On May 16, 2003, two
additional derivative complaints (Holcombe v. Floyd,
et al.and Flowers v. Floyd, et al.) were
filed and subsequently transferred to the Circuit Court of
Sebastian County, Arkansas, Fort Smith Division and consolidated
with the Dunneaction as Holcombe v. Beverly
Enterprises, Inc.Plaintiffs subsequently dismissed the
Dunnes as plaintiffs. On June 9, 2003, pursuant to a
stipulation of the parties, the Court entered a scheduling order
providing, among other things, that plaintiffs will have thirty
days from a ruling on the motion to dismiss filed by defendants
in the related securities class action in federal court, In
re Beverly Enterprises, Inc. Securities Litigation (Case
No. 2:02 cv 2190) to file an amended complaint
and that defendants shall have thirty days thereafter to respond
to the complaint. Due to the preliminary state of this action,
we are unable to assess the probable outcome of the case and can
give no assurance of the ultimate impact on our financial
position, results of operations and cash flows.

We notified federal and California health care
regulatory authorities (CMS, OIG, the California Attorney
Generals office and the California Department of Health
Services) of our intent to conduct an internal investigation of
past billing practices relating to MK Medical, our medical
equipment business unit

23



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##### Table of Contents



based in Fresno, California. An independent
accounting firm has reviewed MK Medicals government payor
billings since October 1, 1998, the date we acquired the
unit. Deficiencies identified by the accounting firm primarily
relate to inadequate documentation supporting Medicare and
Medi-Cal claims for reimbursement for drugs, wheelchairs, and
other durable medical equipment distributed by MK Medical.
Specifically, the review identified instances of missing or
incomplete certificates of medical necessity, treatment
authorization requests, prescriptions, and other documentation
MK Medical is required to maintain in order to be entitled to
reimbursement from government payors. Based on the results of
the accounting firms review, we have established a
reserve, included in Other accrued liabilities on
our consolidated balance sheet in the amount of
$18.0 million to cover potential overpayments from
government payors for the period from October 1, 1998 to
2002. We have advised regulatory authorities of the results of
the accounting firms review. On September 15, 2003,
we received a subpoena from the United States Attorneys
Office in Oakland, California, requesting the production of
additional documents relating to MK Medical operations and our
review of MK Medicals claims. We are cooperating with the
governments information request. Our liability with
respect to this matter could exceed the reserved amount. We can
give no assurance of the final outcome of this matter or its
impact on our financial position, results of operations and cash
flows.


On August 1, 2002, we reached an agreement
with the State of California on the settlement of an
investigation by the Attorney Generals office and the
District Attorney of Santa Barbara County of patient care issues
in several California nursing facilities. In accordance with the
terms of the settlement agreement, Beverly
Enterprises-California, Inc. entered a plea of nolo
contendereto two felony charges under Californias
Elder Abuse statute and paid a fine of $54,000 related to the
plea. In addition, Beverly Enterprises-California, Inc.
reimbursed the Attorney General and the Santa Barbara County
District Attorney $533,000 for the costs of their investigations
and paid a $2.0 million civil penalty in four equal,
quarterly installments of $500,000.

A Permanent Injunction was entered requiring
nursing facilities in California, operated by our subsidiaries,
to comply with all applicable laws and regulations and to
conduct certain training and education programs. We recorded a
pre-tax charge of $6.3 million against earnings during the
second quarter of 2002 to reflect the terms of the settlement
and related costs, and we expect to incur additional annual
costs for implementation of the Permanent Injunction.

Certain revisions were made to our Corporate
Integrity Agreement in conjunction with the Permanent Injunction
requiring:



| |   |                                                                                                                                                                                                                                                            
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | additional training for clinical employees,
    contractors and agents who perform services in our California
    nursing facilities; and                                                                                                                  
|
| |  | hiring an independent quality monitor to assess
    the effectiveness, reliability and thoroughness of our quality
    care systems and our response to quality of care issues in our
    nursing facilities in California, Arizona, Hawaii and Washington.

On February 3, 2000, we entered into a
series of agreements with the U.S. Department of Justice and the
OIG of HHS. These agreements settled the federal
governments investigations of our company relating to our
allocation to the Medicare program of certain nursing labor
costs in our skilled nursing facilities from 1990 to 1998.

The agreements consist of:



| |   |                                                                      
| | - | ---------------------------------------------------------------------
| |  | a Plea Agreement;                                                    
|
| |  | a Civil Settlement Agreement;                                        
|
| |  | a Corporate Integrity Agreement; and                                 
|
| |  | an agreement concerning the disposition of 10
    nursing facilities.

Under the Plea Agreement, one of our subsidiaries
pled guilty to one count of mail fraud and 10 counts of making
false statements to Medicare and paid a criminal fine of
$5.0 million during the first quarter of 2000.

24



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##### Table of Contents



Under the Civil Settlement Agreement, we paid the
federal government $25.0 million during the first quarter of
2000 and are reimbursing the federal government an additional
$145.0 million through withholdings from our biweekly
Medicare periodic interim payments in equal installments through
the first quarter of 2008. In addition, we agreed to resubmit
certain Medicare filings to reflect reduced labor costs
allocated to the Medicare program.

Under the Corporate Integrity Agreement, we are
required to monitor our compliance with the requirements of the
federal health care programs, and this agreement addresses our
obligations to ensure that we comply with the requirements for
participation in the federal health care programs. It also
includes our functional and training obligations, audit and
review requirements and recordkeeping and reporting
requirements, as well as penalties for breach/noncompliance of
the agreement. We believe that we are generally in compliance
with the requirements of the Corporate Integrity Agreement and
file annual reports with the OIG documenting our compliance.

In accordance with our agreement to dispose of 10
nursing facilities, we disposed of seven of the facilities
during 2000 and the remaining three facilities during 2001.

Effective October 15, 2002, we entered into
a settlement agreement (the Settlement Agreement)
with CMS to resolve certain reimbursement issues relating to all
Medicare cost reporting periods ending on or before
December 31, 2000. This agreement settles all outstanding
issues from the February 2000 settlement of the federal
governments investigation of our allocation to the
Medicare program of certain nursing labor costs in our skilled
nursing facilities. Under the terms of the Settlement Agreement,
we paid CMS $35.0 million in November 2002.

We are party to various legal matters relating to
patient care, including claims that our services have resulted
in injury or death to residents of our facilities. Over the past
few years, we have experienced an increasing trend in the number
and severity of the claims asserted against us. We believe that
there has been, and will continue to be, an increase in
governmental investigations of long-term care providers. Adverse
determinations in legal proceedings or governmental
investigations, whether currently asserted or arising in the
future, could have a material adverse effect on us.

There are various other lawsuits and regulatory
actions pending against us arising in the normal course of
business, some of which seek punitive damages that are generally
not covered by insurance. We do not believe that the ultimate
resolution of such other matters will have a material adverse
effect on our consolidated financial position, results of
operations or cash flows.




ITEM 4. SUBMISSION OF MATTERS TO A
VOTE OF SECURITY HOLDERS.

There were no matters submitted to a vote of our
security holders during the last quarter of our fiscal year
ended December 31, 2002.

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##### Table of Contents






PART II






|        |                                                                            
|------- | ---------------------------------------------------------------------------
|ITEM 5. | MARKET FOR THE COMPANYS COMMON EQUITY
    AND RELATED STOCKHOLDER MATTERS.

Our Common Stock is listed on the New York and
Pacific Stock Exchanges under the symbol BEV. The
table below sets forth, for the periods indicated, the range of
high and low sales prices of our Common Stock as reported on the
New York Stock Exchange composite tape.

|     |                                     |        |   |       |  |  |   |      | 
|---- | ----------------------------------- | ------ | - | ----- |  |  | - | ---- | 
|     |                                     |       
|     |                                     | Prices
|     |                                     |       
|     |                                     | High   |   | Low  
|     |                                     |        |   |      
|2001 |                                     |        |   |       |  |  |   |     
|     | First Quarter                       |        | $ | 8.50  |  |  | $ | 5.94 | 
|     | Second Quarter                      |        |   | 10.73 |  |  |   | 5.20 | 
|     | Third Quarter                       |        |   | 12.10 |  |  |   | 8.50 | 
|     | Fourth Quarter                      |        |   | 10.69 |  |  |   | 6.50 | 
|2002 |                                     |        |   |       |  |  |   |     
|     | First Quarter                       |        | $ | 9.50  |  |  | $ | 5.66 | 
|     | Second Quarter                      |        |   | 9.18  |  |  |   | 6.95 | 
|     | Third Quarter                       |        |   | 7.95  |  |  |   | 1.90 | 
|     | Fourth Quarter                      |        |   | 3.89  |  |  |   | 1.60 | 
|2003 |                                     |        |   |       |  |  |   |     
|     | First Quarter                       |        | $ | 3.00  |  |  | $ | 1.63 | 
|     | Second Quarter                      |        |   | 4.30  |  |  |   | 1.80 | 
|     | Third Quarter                       |        |   | 6.99  |  |  |   | 3.71 | 
|     | Fourth Quarter (through October 10) |        |   | 6.39  |  |  |   | 5.35 | 

On October 10, 2003, the closing sale price
of our common stock on the New York Stock Exchange was
$5.38 per share. On September 30, 2003, there were
4,992 record holders of our common stock.

We are subject to certain restrictions under our
long-term debt agreements related to the payment of cash
dividends on our common stock. We have not paid any cash
dividends on our common stock since 1987, and no future
dividends are currently planned. In deciding whether to propose
a dividend and determining the dividend amount, our board of
directors would take into account such matters as the
availability of funds for dividends, general business
conditions, our financial results, other capital requirements
and contractual, legal and regulatory restrictions on the
payment of dividends to our stockholders and such other factors
as our board of directors may deem relevant.

26



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##### Table of Contents






ITEM 6. SELECTED FINANCIAL
DATA.

The following table of selected financial data
should be read along with our consolidated financial statements
and related notes thereto for 2002, 2001 and 2000 included in
Item 8.

|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |         |           | 
|------------------------------------------------------------------------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------- | --------------------------------------------- | --------- | ------- | --------- | ------- | --------- | ------- | --------- | ---------- | --------- | ------- | --------- | - | --------- | ------- | --------- | - | --------- | ------- | --------- | 
|                                                                                                                                                  |                                                                                               |                                              
|                                                                                                                                                  |                                                                                               | At or for the years ended December 31,       
|                                                                                                                                                  |                                                                                               |                                              
|                                                                                                                                                  |                                                                                               | 2002(1)                                       |           | 2001(1) |           | 2000(1) |           | 1999(1) |           | 1998(1)(2)
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |           
|                                                                                                                                                  |                                                                                               |                                              
|                                                                                                                                                  |                                                                                               | (Dollars in thousands, except per share data)
|Consolidated Statement of Operations
    Data:                                                                                                    |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Net operating revenues                                                                                                                            |                                                                                               | $                                             | 2,243,176 |         |           | $       | 2,428,144 |         |           | $          | 2,365,247 |         |           | $ | 2,232,684 |         |           | $ | 2,565,839 |        
|Interest income                                                                                                                                   |                                                                                               |                                               | 4,739     |         |           |         | 2,939     |         |           |            | 2,501     |         |           |   | 4,231     |         |           |   | 10,644    |        
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|                                                                                                                                                  |                                                                                               | Total revenues                                |           |         | 2,247,915 |         |           |         | 2,431,083 |            |           |         | 2,367,748 |   |           |         | 2,236,915 |   |           |         | 2,576,483 | 
|Costs and expenses:                                                                                                                               |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|                                                                                                                                                  | Operating and administrative:                                                                 |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |         |          
|                                                                                                                                                  |                                                                                               | Wages and related                             |           |         | 1,332,628 |         |           |         | 1,464,036 |            |           |         | 1,427,484 |   |           |         | 1,373,791 |   |           |         | 1,517,186 | 
|                                                                                                                                                  |                                                                                               | Provision for insurance and related items     |           |         | 108,986   |         |           |         | 93,449    |            |           |         | 115,689   |   |           |         | 84,611    |   |           |         | 152,074   | 
|                                                                                                                                                  |                                                                                               | Other                                         |           |         | 608,674   |         |           |         | 651,121   |            |           |         | 689,410   |   |           |         | 618,080   |   |           |         | 757,133   | 
|                                                                                                                                                  | Interest                                                                                      |                                               |           | 64,713  |           |         |           | 76,639  |           |            |           | 77,387  |           |   |           | 70,731  |           |   |           | 64,509  |          
|                                                                                                                                                  | Depreciation and amortization                                                                 |                                               |           | 74,741  |           |         |           | 75,741  |           |            |           | 82,627  |           |   |           | 83,342  |           |   |           | 82,951  |          
|                                                                                                                                                  | Florida insurance reserve adjustment                                                          |                                               |           | 22,179  |           |         |           |        |           |            |           |        |           |   |           |        |           |   |           |        |          
|                                                                                                                                                  | California investigation settlement and related
    costs                                     |                                               |           | 6,300   |           |         |           |        |           |            |           |        |           |   |           |        |           |   |           |        |          
|                                                                                                                                                  | Special charges and adjustments related to
    settlements with the federal government        |                                               |           | (9,441  | )         |         |           | 77,495  |           |            |           |        |           |   |           | 202,447 |           |   |           | 1,865   |          
|                                                                                                                                                  | Asset impairments, workforce reductions and other
    unusual items                           |                                               |           | 77,487  |           |         |           | 197,091 |           |            |           | 17,249  |           |   |           | 23,796  |           |   |           | 70,675  |          
|                                                                                                                                                  | Year 2000 remediation                                                                         |                                               |           |        |           |         |           |        |           |            |           |        |           |   |           | 12,402  |           |   |           | 9,719   |          
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|                                                                                                                                                  |                                                                                               | Total costs and expenses                      |           |         | 2,286,267 |         |           |         | 2,635,572 |            |           |         | 2,409,846 |   |           |         | 2,469,200 |   |           |         | 2,656,112 | 
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Loss before provision for (benefit from) income
    taxes, discontinued operations and cumulative effects of changes
    in accounting principles |                                                                                               |                                               | (38,352   | )       |           |         | (204,489  | )       |           |            | (42,098   | )       |           |   | (232,285  | )       |           |   | (79,629   | )      
|Provision for (benefit from) income taxes                                                                                                         |                                                                                               |                                               | 6,085     |         |           |         | 60,461    |         |           |            | (14,536   | )       |           |   | (87,150   | )       |           |   | (37,705   | )      
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Loss before discontinued operations and
    cumulative effects of changes in accounting principles                                                |                                                                                               |                                               | (44,437   | )       |           |         | (264,950  | )       |           |            | (27,562   | )       |           |   | (145,135  | )       |           |   | (41,924   | )      
|Discontinued operations, net of taxes of
    $0  2002; $927  2001; $(7,726) 
    2000; $8,071  1999; and $10,712  1998                       |                                                                                               |                                               | (24,482   | )       |           |         | (36,322   | )       |           |            | (26,940   | )       |           |   | 10,488    |         |           |   | 15,318    |        
|Cumulative effects of changes in accounting
    principles, net of taxes of $0  2002;
    $2,811  1998(3)                                       |                                                                                               |                                               | (77,171   | )       |           |         |          |         |           |            |          |         |           |   |          |         |           |   | (4,415    | )      
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Net loss                                                                                                                                          |                                                                                               | $                                             | (146,090  | )       |           | $       | (301,272  | )       |           | $          | (54,502   | )       |           | $ | (134,647  | )       |           | $ | (31,021   | )      
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Basic and diluted income (loss) per share of
    common stock:                                                                                    |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|                                                                                                                                                  | Before discontinued operations and cumulative
    effects of changes in accounting principles |                                               | $         | (0.42   | )         |         | $         | (2.55   | )         |            | $         | (0.27   | )         |   | $         | (1.42   | )         |   | $         | (0.40   | )        
|                                                                                                                                                  | Discontinued operations, net of taxes                                                         |                                               |           | (0.23   | )         |         |           | (0.35   | )         |            |           | (0.26   | )         |   |           | 0.11    |           |   |           | 0.14    |          
|                                                                                                                                                  | Cumulative effects of changes in accounting
    principles, net of taxes                      |                                               |           | (0.74   | )         |         |           |        |           |            |           |        |           |   |           |        |           |   |           | (0.04   | )        
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|                                                                                                                                                  | Net loss                                                                                      |                                               | $         | (1.39   | )         |         | $         | (2.90   | )         |            | $         | (0.53   | )         |   | $         | (1.31   | )         |   | $         | (0.30   | )        
|                                                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|                                                                                                                                                  | Shares used to compute per share amounts                                                      |                                               |           | 104,726 |           |         |           | 104,037 |           |            |           | 102,452 |           |   |           | 102,491 |           |   |           | 103,762 |          
|Other Financial Data:                                                                                                                             |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Cash flow from operations                                                                                                                         |                                                                                               | $                                             | 116,633   |         |           | $       | 220,897   |         |           | $          | 37,010    |         |           | $ | 189,141   |         |           | $ | 6,789     |        
|Capital Expenditures                                                                                                                              |                                                                                               |                                               | 100,103   |         |           |         | 89,401    |         |           |            | 76,027    |         |           |   | 95,414    |         |           |   | 150,451   |        
|Consolidated Balance Sheet Data:                                                                                                                  |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Total assets                                                                                                                                      |                                                                                               | $                                             | 1,349,895 |         |           | $       | 1,681,070 |         |           | $          | 1,875,993 |         |           | $ | 1,982,880 |         |           | $ | 2,160,511 |        
|Current portion of long-term debt                                                                                                                 |                                                                                               |                                               | 41,463    |         |           |         | 64,231    |         |           |            | 227,111   |         |           |   | 34,052    |         |           |   | 27,773    |        
|Long-term debt, excluding current portion                                                                                                         |                                                                                               |                                               | 588,714   |         |           |         | 677,442   |         |           |            | 564,247   |         |           |   | 746,164   |         |           |   | 878,270   |        
|Stockholders equity                                                                                                                              |                                                                                               |                                               | 153,472   |         |           |         | 296,497   |         |           |            | 583,993   |         |           |   | 641,124   |         |           |   | 776,206   |        
|Other Data:                                                                                                                                       |                                                                                               |                                               |           |         |           |         |           |         |           |            |           |         |           |   |           |         |           |   |           |        
|Average occupancy(4)                                                                                                                              |                                                                                               |                                               | 87.7      | %       |           |         | 86.7      | %       |           |            | 86.7      | %       |           |   | 86.8      | %       |           |   | 88.4      | %      



---



|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | The operations of Matrix, MK Medical, Care Focus,
    27 nursing facilities and two assisted living centers have
    been reclassified as discontinued operations for all periods
    presented since they met applicable criteria under Statement of
    Financial Accounting Standards No. 144, Accounting for
    the Impairment or Disposal of Long-Lived Assets. In
    accordance with Statement of Financial Accounting Standards
    No. 145, Rescission of FASB Statements No. 4, 44
    and 64, Amendment of FASB Statement No. 13 and Technical
    Corrections, the extraordinary loss on the early
    extinguishment of debt of $2,717 in 1998 has been reclassified
    as asset impairments, workforce reductions and other unusual
    items, and its related tax benefit, in the amount of $1,057, has
    been reclassified as provision for (benefit from) income taxes.
|   
|(2) | Includes the operations of American Transitional
    Hospitals, Inc. through June 30, 1998.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   
|(3) | Includes a $77,171 goodwill impairment charge
    relating to the 2002 adoption of SFAS No. 142, Goodwill
    and Other Intangible Assets, and a $4,415 charge in 1998
    relating to the adoption of SOP 98-5, Reporting on the
    Costs of Start-up Activities, which changed the accounting
    for start-up costs.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   
|(4) | Calculated by dividing actual patient days by
    available patient days from continuing operations. Available
    patient days are calculated by multiplying total calendar days
    by the number of beds that are operationally ready for use.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           

27



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|        |                                                                                           
|------- | ------------------------------------------------------------------------------------------
|ITEM 7. | MANAGEMENTS DISCUSSION AND ANALYSIS OF
    FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

General

Our business consists principally of providing
health care services, including the operation of nursing
facilities, assisted living centers, hospice and home care
centers, outpatient clinics and rehabilitation therapy services.
We are one of the largest operators of nursing facilities in the
United States. As of August 31, 2003, we operated 423
nursing facilities with a total of 45,492 licensed beds. Our
nursing facilities are located in 26 states and the District of
Columbia and range in capacity from 24 to 355 licensed beds. Our
nursing facilities had average occupancy for continuing
operations, based on operational beds, of 87.7% during each of
the six months ended June 30, 2003 and the year ended
December 31, 2002. As of August 31, 2003, we also
operated 22 assisted living centers containing 621 units, 23
hospice and home care centers, and 10 outpatient clinics. Net
operating revenues from continuing operations were
$1,105.2 million for the six months ended June 30,
2003, and $2,243.2 million for the year ended
December 31, 2002.

Operations and Services

Our operations are currently organized into three
primary operating segments: Nursing Facilities, AEGIS and Home
Care.

Nursing Facilities.Our Nursing Facilities operations provide long-term health
care and rehabilitation services through the operation of
skilled nursing facilities and assisted living centers and
accounted for approximately 95% of our net operating revenues
for the six months ended June 30, 2003 and approximately
96% of our net operating revenues for the year ended
December 31, 2002. Our facilities provide residents with
routine long-term care services, including daily nursing,
dietary, social and recreational services and a full range of
pharmacy services and medical supplies. Our skilled nursing
staff also provides complex and intensive medical services to
residents with higher acuity needs outside the traditional
acute-care hospital setting. We have designed our assisted
living centers to provide residents with a greater degree of
independence while still offering routine services and, if
required, limited medical care.

AEGIS.Our AEGIS
segment provides rehabilitation therapy services under contract
to our nursing facilities, as well as 455 third-party nursing
facilities, and accounted for approximately 3% of our net
operating revenues for the six months ended June 30, 2003
and approximately 2% of our net operating revenues for the year
ended December 31, 2002. AEGIS offers skilled occupational,
physical and speech therapy services designed to maximize
function and independence, assist in recovery from medical
conditions and compensate for remaining disabilities.

Home Care.Our Home
Care operations, which accounted for approximately 2% of our net
operating revenues for each of the six months ended
June 30, 2003 and the year ended December 31, 2002,
primarily provide hospice services within our nursing
facilities, in facilities operated by other health care
providers and in patients homes. Our hospice services
include palliative care for terminally ill patients, as well as
pastoral, counseling and bereavement services for the families
of hospice patients.

Governmental Regulation and
Reimbursement

We are subject to extensive regulation by
federal, state and local agencies. Each of our facilities must
comply with regulations regarding staffing levels, patient care
standards, occupational health and safety, patient
confidentiality, billing and reimbursement, as well as
environmental and biological hazards, among others.
Additionally, government agencies have steadily increased their
enforcement activity in this industry over the past several
years, particularly with respect to large for-profit,
multi-facility providers like us. This regulatory environment
may force us to expend considerable resources to ensure
compliance and respond to inspections, investigations or other
enforcement actions. We believe the government will continue
aggressive enforcement in the future.

In the ordinary course of business, we
periodically receive notices of deficiencies for allegations of
failure to comply with various regulatory requirements. We
review all such notices and take timely and appropriate

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corrective action. In most cases, the facility
and the government will agree upon steps to be taken to bring
the facility into compliance with regulatory requirements. In
some cases or upon repeat violations, the government may take a
number of adverse actions against the facility or us, including
imposition of fines, temporary suspension of admission of new
patients, decertification from participation in Medicaid or
Medicare programs and licensure revocation.


CMS has announced two increases to skilled
nursing facility Medicare rates, which were each effective
October 1, 2003. The first increase of 3.26% is a
cumulative correction for understated market basket increases
that CMS has relied on since 1998. The second increase of 3.0%,
which is applied to the Medicare rates subsequent to them being
adjusted for the 3.26% increase above, is the annual market
basket increase for the federal fiscal year beginning
October 1, 2003. Based on our current volume and mix of
Medicare patients, we anticipate the combined impact of these
proposed increases to result in an increase in our net operating
revenues of approximately $7.8 million for the fourth
quarter of 2003 and approximately $23.4 million for the
first nine months of 2004, for an annual impact of approximately
$31.2 million.

On June 30, 2003, plaintiffs seeking a
temporary restraining order to delay the implementation of two
Medicare Part B therapy caps scheduled to take effect
July 1, 2003 entered into a settlement agreement with CMS.
This agreement further delayed the implementation of such caps
until September 1, 2003. The annual caps for 2003 of $1,590
for physical and speech therapy services combined and $1,590 for
occupational therapy services, which have been adjusted for
inflation, are being applied to services provided during the
four-month period from September through December of 2003. Based
on the historical volume of Part B therapy services provided in
our nursing facilities, the anticipated decrease in our annual
net operating revenues resulting from reinstatement of the Part
B therapy caps is expected to be approximately
$13.8 million. Furthermore, our AEGIS annual outside
therapy contract revenue will likely be reduced by an additional
$5.0 million and AEGIS may be required to adjust therapy
staffing levels to offset a portion of this revenue impact.

On February 10, 2003, CMS published a
proposed rule to reduce by 30 percent the amount that Medicare
reimburses skilled nursing facilities and other non-hospital
providers for bad debts arising from uncollectible Medicare
coinsurance and deductibles. The proposal is to phase in the
reduction over a three-year period at 10 percent per year
for cost report periods beginning on or after October 1,
2003, which would be effective for us January 1, 2004.
Based on our current volume of Medicare bad debts, this proposed
change would reduce our net operating revenues by approximately
$1.6 million, $3.3 million and $4.9 million for
2004, 2005 and 2006, respectively.

Critical Accounting Policies

The accompanying consolidated financial
statements have been prepared in conformity with accounting
principles generally accepted in the United States. The
accounting policies discussed below are considered by management
to be critical to an understanding of our financial statements
because their application requires significant judgment and
reliance on estimations of matters that are inherently
uncertain. Certain risks related to these critical accounting
policies are described in the following paragraphs.



| |                                                                                  
| | ---------------------------------------------------------------------------------
| | Revenue Recognition, Accounts Receivable
    and Allowances for Doubtful Accounts

Our revenues are derived primarily from providing
long-term health care services. Approximately 80% of our current
net operating revenues is derived from federal and state health
care programs (primarily Medicare and Medicaid). As discussed
more fully in Item 8  Note 1, we record
revenues when services are provided at standard charges adjusted
to amounts estimated to be received under governmental programs
or other third-party contractual arrangements based on
contractual terms and historical experience.

All providers participating in the Medicare and
Medicaid programs are required to meet certain financial cost
reporting requirements. Federal and state regulations generally
require the submission of annual cost reports covering revenues,
costs and expenses associated with the services provided to
Medicare beneficiaries and Medicaid recipients. Annual cost
reports are subject to routine audits and retroactive
adjustments. These audits often require several years to reach
the final determination of amounts due to, or by, us under these
programs.

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As adjustments to recorded revenues become known
or as cost reporting years are no longer subject to audits,
reviews or investigations, the amounts of our revenues and
receivables are revised. Our revenues are reported at their
estimated net realizable amounts, and we believe adequate
provision has been made to reflect any adjustments that could
result from audits of cost reports. However, due to the
complexity of the laws and regulations governing the Medicare
and Medicaid programs, there is at least a possibility that
recorded estimates will change by a material amount in the near
term.

Compliance with laws and regulations governing
the Medicare and Medicaid programs is subject to government
review and interpretation, as well as significant regulatory
action including fines, penalties, and possible exclusion from
the Medicare and Medicaid programs. In addition, under the
Medicare program, if the federal government makes a formal
demand for reimbursement, even related to contested items,
payment must be made for those items before the provider is
given an opportunity to appeal and resolve the issue.

We record bad debt expense monthly using a
percentage of revenue approach that reflects our historical
experience. Each quarter we adjust the allowance for doubtful
accounts according to the aging of the receivables. These
adjustments are based on our weighted average experience by
payor type, and recognize the relative risk depending on the
source of the payment. Private pay accounts usually represent
our highest collectibility risk. In addition, specific accounts
that are determined to be uncollectible (due to bankruptcy,
insufficient documentation, lack of third-party coverage or
financial resources and the like) are fully reserved when such
determinations are made. If circumstances change (including, but
not limited to: economic downturn; higher than expected defaults
or denials; reduced collections; and changes in our payor mix),
our estimates of the recoverability of our receivables could be
reduced by a material amount. Our provisions for bad debts
represented 2.5% and 1.8% of net operating revenues from
continuing operations for the years ended December 31, 2002
and 2001, respectively. Our allowance for doubtful accounts
represented approximately 20% and 17% of patient accounts
receivable at December 31, 2002 and 2001, respectively. We
believe adequate provision has been made for receivables that
may prove to be uncollectible.

Patient Care Liability and Insurance
Risks

General and professional liability costs for the
long-term health care industry have become increasingly
expensive and difficult to estimate. In addition, insurance
coverage for patient care liability and certain other risks, for
nursing facilities specifically and companies in general, has
become increasingly difficult to obtain. When obtained,
insurance carriers are often requiring companies to
significantly increase their liability retention levels and pay
substantially higher premiums for reduced terms of coverage. The
majority of our workers compensation and auto liability
risks are insured through loss-sensitive insurance policies with
affiliated and unaffiliated insurance companies. For our general
and professional liabilities, we are responsible for the first
dollar of each claim, up to a self-insurance limit determined by
the individual policies, subject to aggregate limits in certain
prior policy years.

Our liabilities for general, professional and
workers compensation risks are estimated by our
independent actuaries twice a year using the most recent trends
of claims, settlements and other relevant data. On an
undiscounted basis, these liabilities totaled
$208.0 million at December 31, 2002. On our financial
statements, these liabilities are discounted at 10% to their
present value using expected loss payment timing patterns. The
discount rate is based upon our best estimate of the incremental
borrowing rate that would be required to fund these liabilities
with uncollateralized debt. A reduction in the discount rate by
one-half of a percentage point would have resulted in an
additional pre-tax charge of $1.4 million for the year
ended December 31, 2002. Based on information provided by
our independent actuaries, we estimate our range of discounted
exposure for these liabilities to be $168.6 million to
$185.2 million. At December 31, 2002, our recorded
reserves for these liabilities totaled $174.0 million. We
believe adequate provision has been made in the financial
statements for liabilities that may arise out of patient care
and other services.



| |                              
| | -----------------------------
| | Off-Balance Sheet Obligations

At June 30, 2003, we had an off-balance
sheet financing arrangement of $70.0 million medium-term
notes. These notes are obligations of Beverly Funding
Corporation (BFC), a non-consolidated bankruptcy

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remote, qualifying special purpose entity.
BFCs sole purpose is to acquire, own, hold, and otherwise
administer certain patient accounts receivable originated and
sold to it by certain of our operating subsidiaries and to issue
beneficial interests in those receivables. Under the terms of
the arrangement, certain of our wholly owned operating
subsidiaries (groups of nursing facilities within each state
that we operate, referred to as the Selling Subsidiaries), which
are separate legal entities, sell Medicaid and Veterans
Administration patient accounts receivable to Beverly Health and
Rehabilitation Services, Inc. (BHRS), our wholly
owned operating subsidiary. BFC then purchases these receivables
under a revolving sales structure from BHRS at a discount of 1%.
BFC receives its funding from: (1) the issuance of debt to
third-party investors and (2) investments made in BFC by
us. At December 31, 2002 and 2001, BFC had
$101.4 million and $101.9 million, respectively, of
net patient accounts receivable.


The medium-term notes were issued in June and
July 1999 to third-party investors. The proceeds were used to
redeem $40.0 million of then outstanding medium-term notes
issued by BFC in 1994 that were nearing maturity and to purchase
additional eligible receivables from BHRS. In addition, we
increased our investment in BFC, allowing BFC to purchase
additional eligible receivables to serve as excess collateral
for the new medium-term notes. Under the terms of the
arrangement, BFC is required to maintain receivables in excess
of the outstanding balance of the medium-term notes based on a
calculated formula included in the Master Sale and Servicing
Agreement among BHRS, BFC and Beverly Enterprises. The
medium-term notes mature in 2005; however, according to the
provisions of the notes, principal payments on these obligations
are calculated based on quarterly collections of the underlying
receivables, and are required to begin during the second quarter
of 2004.

BHRS recognizes a loss at the time the
receivables are sold to BFC equal to the 1% discount and
this loss is included in Other operating and
administrative costs and expenses and in Net cash
provided by operating activities in our consolidated
financial statements. BHRS provides invoicing and collection
services related to the purchased receivables for a market-based
servicing fee. Neither the loss on sale of receivables nor the
servicing fee revenue is material to the Companys results
of operations or cash flows.

Prior to June 1999, BFCs assets,
liabilities and operating results were consolidated with us.
However, in June 1999 in connection with the redemption of
previously issued medium-term notes, and issuance of the
medium-term notes in June and July 1999, the Master Sale
and Servicing Agreement was amended so that BFC met the
definition of a qualifying special purpose entity as defined in
Statement of Financial Accounting Standards No. 125,
Accounting for Transfers and Servicing of Financial Assets
and Extinguishments of Liabilities.Specifically, BFC was no
longer permitted to hold or purchase receivables that originated
prior to January 1, 1997 (a condition that prevented it
from becoming a qualifying special purpose entity prior to June
1999). We continually evaluate the organizational structure and
operations of BFC to ensure that it remains legally isolated
from us and each of our operating subsidiaries and that it
maintains its status as a qualifying special purpose entity and,
thereby, remains deconsolidated.

Our investment in BFC, which is subject to
periodic collectibility review, has been recorded as a
non-current asset in our consolidated balance sheets. The
primary factor in the collectibility review is the determination
of the net realizable value of the excess receivables serving as
collateral for the medium-term notes. The net realizable value
is determined through a collectibility analysis of the
receivables purchased and held by BFC. This collectibility
analysis considers historical collection experience and is
adjusted according to the aging of the receivables. Once the net
realizable value of the excess receivables is determined, we
compare it to the carrying value of the asset and adjust the
asset when the analysis indicates that it may not be fully
recovered.

At December 31, 2002 and 2001, our
investment of $31.0 million and $33.0 million, which
approximated the excess level of receivables held by BFC, was
included in Other assets on our consolidated balance
sheets. Our total investments in BFC have been adjusted from
their initial value of $35.0 million due to cumulative
credit losses incurred by BFC associated with the purchased
receivables since June 1999. We believe our asset will be
realized upon the maturity and repayment of the medium-term
notes and collection of the excess receivables and is expected
to approximate the carrying value of our asset. We monitor this
off-

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balance sheet obligation throughout the year and
believe the obligation and any related assets should not be
included in our consolidated financial statements under current
generally accepted accounting principles.


At December 31, 2002, we leased five nursing
facilities, one assisted living center and our corporate
headquarters under an off-balance sheet lease arrangement. The
special purpose entity lessor financed the construction of these
properties and we leased the properties under a master operating
lease agreement, which would have matured in April 2004. (See
Item 8  Note 8 for a discussion of our
senior credit facility amendments and their impact on this
financing arrangement.) There was a third-party entity at risk
under this arrangement for 3% of the original commitment. Of the
remaining 97% original commitment, 17% was secured by first
mortgages on the related properties and 83% (or approximately
$56.0 million at December 31, 2002) was guaranteed by
us and secured by second mortgages on the related properties.
This lease arrangement was satisfied in June 2003. (See
Note 14.)

In addition, as of December 31, 2002, we had
off-balance sheet debt guarantees of $31.5 million that
primarily arose from our sales of nursing facilities. We also
guarantee certain third-party operating leases. Those guarantees
arose from our dispositions of leased facilities, and the
underlying leases had $13.3 million of minimum rental
commitments remaining through the initial lease terms. In
addition, we guaranteed an executive officers bank loan of
approximately $200,000, which is collateralized by shares of our
common stock pledged by the officer.



| |                  
| | -----------------
| | Asset Impairments

We recorded pre-tax asset impairment charges of
$69.6 million, $170.8 million (includes
$55.1 million of exit and other costs) and
$9.7 million for the years ended December 31, 2002,
2001 and 2000, respectively. We also recorded additional
impairments of goodwill of $77.2 million in 2002 as the
cumulative effect of an accounting change in accordance with
Statement of Financial Accounting Standards No. 142,
Goodwill and Other Intangible Assets(SFAS
No. 142). We evaluate our long-lived assets for
impairment whenever indicators of impairment exist, in
accordance with Statement of Financial Accounting Standards
No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets(SFAS No. 144). These
indicators of impairment can include, but are not limited to,
the following:



| |   |                                                                   
| | - | ------------------------------------------------------------------
| |  | a history of operating losses, with expected
    future losses;   
|
| |  | changes in the regulatory environment affecting
    reimbursement;
|
| |  | decrease in cash flows or cash flow deficiencies;                 
|
| |  | changes in the way an asset is used in the
    business; and      
|
| |  | commitment to a plan to sell or otherwise dispose
    of an asset.

During 2002, changes in the regulatory
environment affecting Medicare reimbursement led to a long-lived
asset impairment analysis on our Nursing Facilities segment.
During 2001, continuing operating losses in several of our lines
of business, including certain outpatient clinics, our managed
care contracting entity, certain Home Care businesses and a few
of our nursing facilities, led to impairment analyses on these
assets. During 2000, operating losses at certain outpatient
clinics and managements determination to dispose of, or
terminate the leases on, six nursing facilities led to
impairment analyses to be calculated on these assets.

These impairment analyses included:



| |   |                                                                                                                                                                                                                  
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | estimating the undiscounted cash flows to be
    generated by each clinic, unit, facility or property, primarily
    over the remaining life of the primary asset; and                                           
|
| |  | reducing the carrying value of the asset to the
    estimated fair value when the total estimated undiscounted cash
    flows was less than the current book value of the clinic, unit,
    facility or property.

In estimating the undiscounted cash flows for our
nursing facilities, we primarily used our internally prepared
budgets and forecast information, with certain probability
adjustments, including, but not limited to, the following items:
Medicare and Medicaid funding; overhead costs; capital
expenditures; and patient care

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liability costs. In order to estimate the fair
values of the nursing facilities, we used a discounted cash flow
approach, supplemented by public resource information on
valuations of nursing facility sales transactions, by region of
the country. Where the estimated undiscounted cash flows were
negative, we estimated the fair values based on discounted
public resource information, sales values or estimated salvage
value. For other lines of business that lack significant
property investments, we discounted the next five years of
expected cash flows. A substantial change in the estimated
future cash flows for these facilities or businesses could
materially change the estimated fair values of these assets,
possibly resulting in an additional impairment.


In July 2001, SFAS No. 142 was issued,
which established new rules on the accounting for goodwill and
other intangible assets. In accordance with this standard, we
performed the initial screening for potential impairments of our
indefinite lived intangible assets by reporting unit as of
January 1, 2002. We determined the estimated fair values of
each reporting unit using discounted cash flow analyses, along
with independent source data related to recent transactions.
Based on this determination, we identified potential goodwill
impairments at our Matrix segment and at Care Focus, a former
reporting unit within our Home Care segment. We engaged a
qualified, independent valuation group to determine the
estimated fair values of each of these reporting units. Their
analysis was completed in the fourth quarter of 2002, and led to
the recording of goodwill impairment charges as the cumulative
effect of an accounting change of $77.2 million as of
January 1, 2002, including $70.6 million for Matrix
and $6.6 million for Care Focus. The outpatient therapy
clinic operations and the managed care network of Matrix were
sold during January 2003. The Care Focus unit was sold in June
2003. Based on our annual October 1, 2002 assessment of all
reporting units, no additional impairment of goodwill was
required.

During 2001, management initiated a formal plan
to dispose of all of our nursing facility operations in Florida.
Accordingly, these assets were written down to their estimated
sales value less selling costs. We ultimately leased these
assets to a third-party in the fourth quarter of 2001, with the
real estate transaction closing in January 2002. Under
accounting standards in effect in 2001, our Florida assets were
not considered discontinued operations.

Operating Results



| |                      
| | ---------------------
| | 2002 Compared to 2001

Restatement

Results of operations for the years ended
December 31, 2002 and 2001 have been restated to reflect
asset dispositions during the six months ended June 30,
2003 as discontinued operations. The following discussion of
2002 Compared to 2001 reflects this restatement.



| |                                                  
| | -------------------------------------------------
| | Results of Operations  Continuing
    Operations

We reported a net loss from continuing operations
for the year ended December 31, 2002 of $44.4 million,
compared to a net loss from continuing operations of
$264.9 million for the year ended December 31, 2001.
The net loss from continuing operations for 2002 included
pre-tax charges totaling $96.6 million, including:



| |   |                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $77.5 million for asset impairments,
    workforce reductions and other unusual items;                                                                       
|
| |  | $22.2 million for the Florida insurance
    reserve adjustment (see   Operating and
    Administrative Expenses);                                           
|
| |  | $6.3 million for the California
    investigation settlement and related costs; and                                                                          
|
| |  | partially offset by a decrease of
    $9.4 million in reserves established in conjunction with
    previous settlements of federal government investigations.

The $77.5 million for asset impairments,
workforce reductions and other unusual items includes the
following:



| |   |                                                                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $72.6 million write-down of property and
    equipment on certain nursing facilities whose book value
    exceeded fair value when tested for impairment as a result of
    the reduction in Medicare funding

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| |   |                                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   | effective October 1, 2002. These assets were
    included in the total assets of the Nursing Facilities operating
    segment in 2002;                                
|
| |  | $8.5 million of workforce reductions (see
    below); and                                                                                                             
|
| |  | $3.0 million adjustment to asset impairments
    and approximately $600,000 reversal of workforce reduction
    charges recorded in 2001, which were no longer needed.

We recorded a pre-tax charge of $8.5 million
during 2002 for workforce reductions which were primarily the
result of a continuing operational reorganization required to
support the implementation of our three-year strategic plan.
During 2002, we notified 133 employees that their positions
would be eliminated. The charge included the following:



| |   |                                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $8.0 million of cash expenses,
    $4.1 million of which was paid during the year ended
    December 31, 2002; and                                                    
|
| |  | non-cash expenses of approximately $500,000
    related to the issuance of 124,212 shares under the Beverly
    Enterprises Stock Grant Plan (the Stock Grant Plan).

We estimate the annual cost savings of this
operational reorganization to be approximately
$11.2 million. The following table summarizes activity in
our estimated workforce reduction and exit costs for the years
ended December 31 (in thousands):

|                          |                       |            |       |            |   |            |        |            |   |            |       |            |   |   |        |        |   |   |       |        |   |   |       |        |  
|------------------------- | --------------------- | ---------- | ----- | ---------- | - | ---------- | ------ | ---------- | - | ---------- | ----- | ---------- | - | - | ------ | ------ | - | - | ----- | ------ | - | - | ----- | ------ | -
|                          |                       |            |       |            |   |           
|                          |                       | 2002       |       | 2001       |   | 2000      
|                          |                       |            |       |            |   |           
|                          |                       | Workforce  |       |            |   | Workforce  |        |            |   | Workforce  |       |           
|                          |                       | Reductions |       | Exit Costs |   | Reductions |        | Exit Costs |   | Reductions |       | Exit Costs
|                          |                       |            |       |            |   |            |        |            |   |            |       |           
|Balance beginning of year |                       | $          | 7,631 |            |   | $          | 15,030 |            |   | $          | 4,151 |            |   | $ | 5,208  |        |   | $ | 5,165 |        |   | $ | 7,915 |       
|                          | Charged to operations |            |       | 8,454      |   |            |        | 2,633      |   |            |       | 23,118     |   |   |        | 18,165 |   |   |       | 5,904  |   |   |       | 3,000  |  
|                          | Cash payments         |            |       | (9,074     | ) |            |        | (10,313    | ) |            |       | (15,448    | ) |   |        | (8,343 | ) |   |       | (6,918 | ) |   |       | (3,207 | )
|                          | Stock transactions    |            |       | (1,008     | ) |            |        |           |   |            |       | (4,158     | ) |   |        |       |   |   |       |       |   |   |       |       |  
|                          | Reversals             |            |       | (585       | ) |            |        | (2,359     | ) |            |       | (32        | ) |   |        |       |   |   |       |       |   |   |       | (2,500 | )
|                          |                       |            |       |            |   |            |        |            |   |            |       |            |   |   |        |        |   |   |       |        |   |   |       |       
|Balance end of year       |                       | $          | 5,418 |            |   | $          | 4,991  |            |   | $          | 7,631 |            |   | $ | 15,030 |        |   | $ | 4,151 |        |   | $ | 5,208 |       
|                          |                       |            |       |            |   |            |        |            |   |            |       |            |   |   |        |        |   |   |       |        |   |   |       |       

Net loss from continuing operations for 2001
included pre-tax charges totaling $274.6 million, including
$197.1 million for asset impairments, exit costs and
workforce reductions and $77.5 million related to a
settlement with the federal government to resolve open
reimbursement issues under the former cost-reimbursement system
for Medicare. (See 2001 Compared to 2000 herein).



| |             
| | ------------
| | Income Taxes

We recorded a provision for income taxes of
$6.1 million for the year ended December 31, 2002,
primarily related to state income taxes. We increased our
valuation allowance on our deferred tax assets by
$45.5 million during 2002 to $199.2 million as of
December 31, 2002. This valuation allowance was required
under the guidance of Statement of Financial Accounting
Standards No. 109, Accounting for Income Taxes(SFAS No. 109) due to our historical
operating performance and our reported cumulative net losses.
Our realization of the deferred tax benefits primarily
associated with our net operating losses is dependent upon our
achieving sufficient future pre-tax income. Under federal income
tax regulations, we have up to 20 years to generate
sufficient taxable income to realize the deferred benefits.
However, given the size of our pre-tax losses in 2002 and 2001
and uncertainties created by Medicare reimbursement enhancements
which expired on September 30, 2002, a valuation allowance
was considered to be appropriate under the more stringent
accounting standards for the realization of these deferred tax
benefits, which is contingent upon future income.

At December 31, 2002, for income tax
purposes, we had federal net operating loss carryforwards of
$164.7 million which expire in years 2017 through 2022;
general business tax credit carryforwards of $28.7 million
which expire in years 2008 through 2022; and alternative minimum
tax credit carryforwards of $19.1 million which do not
expire. Future tax benefits associated with these carryforwards
are not recorded in our 2002 and 2001 consolidated financial
statements as a result of the valuation allowance recorded.

34



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##### Table of Contents





| |                       
| | ----------------------
| | Net Operating Revenues

We reported net operating revenues of
$2,243.2 million during the year ended December 31,
2002 compared to $2,428.1 million for the same period in
2001. Approximately 96% and 97% of our total net operating
revenues for each of the years ended December 31, 2002 and
2001, respectively, were derived from services provided by our
Nursing Facilities segment. The decrease in net operating
revenues of $184.9 million for the year ended
December 31, 2002, as compared to the same period in 2001,
is due to the following:



| |   |                                                                                                                                                         
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | a decrease of $319.2 million due to
    dispositions during 2002 and 2001, primarily related to our
    Florida facilities;                             
|
| |  | an increase of $93.7 million from facilities
    we operated during each of the years ended December 31,
    2002 and 2001 (same facility operations);
|
| |  | an increase of $35.6 million from growth in
    AEGIS external therapy business; and                                                                   
|
| |  | an increase of $5.0 million due to a
    facility acquisition, and the opening of a newly constructed
    facility and four hospice centers.            

The increase in net operating revenues of
$93.7 million from same facility operations for the year
ended December 31, 2002, as compared to the same period in
2001, was primarily due to the following:



| |   |                                                                                              
| | - | ---------------------------------------------------------------------------------------------
| |  | $77.3 million due to an increase in
    Medicaid, Medicare and private payment rates;        
|
| |  | $16.3 million due to a positive shift in our
    patient mix;                                
|
| |  | $14.9 million due to an increase in Medicare
    Part B revenues; and                        
|
| |  | partially offset by a decrease of
    $21.1 million due to a decline in same facility census.

Effective October 1, 2002, certain Medicare
add-on payments were eliminated when the federal government did
not pass legislation to restore the funding. These add-on
payments included a 16.66% add-on to the nursing component of
all 44 RUG categories and a 4% overall increase in the adjusted
rates for all 44 RUG categories. Our net operating revenues
were reduced by $13.5 million as a result of the
elimination of these add-ons in the fourth quarter of 2002.
(This reduction is netted above with the increases in payment
rates from all sources of revenue for 2002 over 2001.) Assuming
a similar volume and mix of Medicare patients in 2003, we
anticipate our net operating revenues will decline an additional
$40.7 million from 2002, for an annual impact of
approximately $54.2 million.



| |                                          
| | -----------------------------------------
| | Operating and Administrative
    Expenses

We reported operating and administrative expenses
of $2,050.3 million during the year ended December 31,
2002 compared to $2,208.6 million for the same period in
2001. The decrease of $158.3 million consists of the
following:



| |   |                                                                                                                                                  
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------
| |  | a decrease of $268.8 million due to
    dispositions during 2002 and 2001, primarily related to our
    Florida facilities;                      
|
| |  | an increase of $10.2 million due to a
    facility acquisition, and the opening of a newly constructed
    facility and four hospice centers; and
|
| |  | an increase of $100.3 million in same
    facility operations.                                                                                   

The increase in operating and administrative
expenses of $100.3 million from same facility operations
for the year ended December 31, 2002, as compared to the
same period in 2001, was due primarily to the following:



| |   |                                                                                                                                                                                    
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $35.9 million of additional wages and
    related expenses primarily due to an increase in our weighted
    average wage rate and an increase in nursing hours per patient
    day;
|
| |  | $26.9 million additional provision for
    reserves on accounts and notes receivable;                                                                                              

35



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##### Table of Contents





| |   |                                                                                                                                                                                            
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $21.0 million due to an increase in
    contracted services, primarily due to outsourcing certain
    housekeeping, laundry and dietary services in our Nursing
    Facilities segment; and
|
| |  | $15.5 million increase in our provision for
    insurance and related claims, as discussed below.                                                                                          

Our provision for insurance and related items
increased $15.5 million for the year ended
December 31, 2002, as compared to the same period in 2001,
primarily due to rising patient care liability costs. Based on
the results of our 2002 mid-year actuarial study completed in
mid-July, we recorded a pre-tax charge of $43.3 million to
increase our reserves for prior policy-year patient care
liability costs, including $22.2 million related to our
previously operated Florida facilities, which had previously
been sold, and $21.1 million related to same facility
operations.



| |                      
| | ---------------------
| | Interest Expense, Net

Interest income increased to $4.7 million
for the year ended December 31, 2002, as compared to
$2.9 million for the same period in 2001 primarily due to
certain notes receivable accepted as partial consideration for
the sale of the Florida facilities. Interest expense decreased
to $64.7 million for the year ended December 31, 2002,
as compared to $76.6 million for the same period in 2001.
This was primarily due to the reduction of debt using the net
proceeds from the sale of the Florida facilities.



| |                              
| | -----------------------------
| | Depreciation and Amortization

Depreciation and amortization expense was
$74.7 million for the year ended December 31, 2002, as
compared to $75.7 million for the same period in 2001.
Depreciation and amortization decreased $5.8 million due to
the elimination of amortization on goodwill and other indefinite
lived intangible assets with the implementation of SFAS
No. 142, and the dispositions of, or lease terminations on,
certain facilities. However, these decreases were substantially
offset by increases of $4.8 million related to capital
additions and improvements, as well as acquisitions and openings.



| |                                                    
| | ---------------------------------------------------
| | Results of Operations  Discontinued
    Operations

The results of operations of disposed facilities,
clinics and other assets in the six-month period ended
June 30, 2003, as well as the results of operations of
held-for-sale assets, have been reported as discontinued
operations for all periods presented in the consolidated
statements of operations. A summary of the discontinued
operations for the years ended December 31 is as follows
(in thousands):

|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|-------------------------------------------- |  | ------ | ------ | ------- |  | ---------- | ------- | ----- |  | ----- | ------- | ------ |  | ------- | ------ | ---------- |  | ----- | ------- | ----- |  | - | ------- | - |  | - | ------- | - |  | - | ------- | - |  | - | ------ |  |  | - | ------- | -
|                                             |  |        |        |        
|                                             |  | 2002   |        | 2001   
|                                             |  |        |        |        
|                                             |  |        |        | MK      |  | Nursing    |         | Care  |  |       |         |        |  | MK      |        | Nursing    |  | Care  |         |      
|                                             |  | Matrix |        | Medical |  | Facilities |         | Focus |  | Total |         | Matrix |  | Medical |        | Facilities |  | Focus |         | Total
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |      
|Net operating revenues(1)                    |  | $      | 86,852 |         |  | $          | (4,452  | )     |  | $     | 155,011 |        |  | $       | 21,450 |            |  | $     | 258,861 |       |  | $ | 90,694  |   |  | $ | 23,289  |   |  | $ | 150,393 |   |  | $ | 21,428 |  |  | $ | 285,804 |  
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Operating income (loss)(1)                   |  | $      | 812    |         |  | $          | (31,610 | )     |  | $     | 12,222  |        |  | $       | 2,494  |            |  | $     | (16,082 | )     |  | $ | (8,652  | ) |  | $ | (10,674 | ) |  | $ | 22,775  |   |  | $ | 2,168  |  |  | $ | 5,617   |  
|Loss on sale and exit costs                  |  |        | (1,001 | )       |  |            | (1,257  | )     |  |       | (114    | )      |  |         |       |            |  |       | (2,372  | )     |  |   |        |   |  |   |        |   |  |   |        |   |  |   |       |  |  |   |        |  
|Impairments and other unusual items(2)       |  |        | 230    |         |  |            | (4,239  | )     |  |       | (2,019  | )      |  |         |       |            |  |       | (6,028  | )     |  |   | (32,482 | ) |  |   | (8,231  | ) |  |   | (299    | ) |  |   |       |  |  |   | (41,012 | )
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Pre-tax income (loss)                        |  | $      | 41     |         |  | $          | (37,106 | )     |  | $     | 10,089  |        |  | $       | 2,494  |            |  |       | (24,482 | )     |  | $ | (41,134 | ) |  | $ | (18,905 | ) |  | $ | 22,476  |   |  | $ | 2,168  |  |  |   | (35,395 | )
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Provision for income taxes                   |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |        |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   | 927     |  
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Discontinued operations, net of income taxes |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  | $     | (24,482 | )     |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  | $ | (36,322 | )
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  



---



|    |                                                                                                                                     
|--- | ------------------------------------------------------------------------------------------------------------------------------------
|(1) | Includes an adjustment of $18.0 million in
    2002 for estimated overpayments to MK Medical by government
    payors.              
|   
|(2) | Includes $1.0 million in 2002 accrued for
    legal and related fees associated with the MK Medical estimated
    overpayment issue.

36



---



##### Table of Contents





| |                                           
| | ------------------------------------------
| | Cumulative Effect of Accounting
    Change

In July 2001, the Financial Accounting Standards
Board issued SFAS No. 142, which established new rules on the
accounting for goodwill and other intangible assets. Under SFAS
No. 142, goodwill and intangible assets with indefinite
lives are no longer amortized; however, they are subject to
annual impairment tests as prescribed by the Statement.
Intangible assets with definite lives will continue to be
amortized over their estimated useful lives. With respect to our
goodwill and intangible assets, SFAS No. 142 was effective
for us beginning January 1, 2002.

The following is a summary of adjusted operating
results reflecting the effects of adopting SFAS No. 142,
net of income taxes, for the periods ended December 31 (in
thousands, except per share amounts):

|                  |                               |                          |          |      |  |      |          |       |  |   |         |       | 
|----------------- | ----------------------------- | ------------------------ | -------- | ---- |  | ---- | -------- | ----- |  | - | ------- | ----- | 
|                  |                               |                         
|                  |                               | Years Ended December 31,
|                  |                               |                         
|                  |                               | 2002                     |          | 2001 |  | 2000
|                  |                               |                          |          |      |  |     
|Reported net loss |                               | $                        | (146,090 | )    |  | $    | (301,272 | )     |  | $ | (54,502 | )    
|Add back:         |                               |                          |          |      |  |      |          |       |  |   |         |      
|                  | Goodwill amortization         |                          |          |     |  |      |          | 3,917 |  |   |         | 4,465 | 
|                  | Operating rights amortization |                          |          |     |  |      |          | 252   |  |   |         | 268   | 
|                  |                               |                          |          |      |  |      |          |       |  |   |         |      
|Adjusted net loss |                               | $                        | (146,090 | )    |  | $    | (297,103 | )     |  | $ | (49,769 | )    
|                  |                               |                          |          |      |  |      |          |       |  |   |         |      

|                                    |                               |                          |       |      |  |      |       |      |  |   |       |      | 
|----------------------------------- | ----------------------------- | ------------------------ | ----- | ---- |  | ---- | ----- | ---- |  | - | ----- | ---- | 
|                                    |                               |                         
|                                    |                               | Years Ended December 31,
|                                    |                               |                         
|                                    |                               | 2002                     |       | 2001 |  | 2000
|                                    |                               |                          |       |      |  |     
|Reported diluted net loss per share |                               | $                        | (1.39 | )    |  | $    | (2.90 | )    |  | $ | (0.53 | )   
|Add back:                           |                               |                          |       |      |  |      |       |      |  |   |       |     
|                                    | Goodwill amortization         |                          |       |     |  |      |       | 0.04 |  |   |       | 0.04 | 
|                                    | Operating rights amortization |                          |       |     |  |      |       |     |  |   |       |     | 
|                                    |                               |                          |       |      |  |      |       |      |  |   |       |     
|Adjusted diluted net loss per share |                               | $                        | (1.39 | )    |  | $    | (2.86 | )    |  | $ | (0.49 | )   
|                                    |                               |                          |       |      |  |      |       |      |  |   |       |     

We completed the impairment assessment of our
indefinite lived intangible assets, other than goodwill, during
the first quarter of 2002, with no impairment identified. SFAS
No. 142 described a two-step process for testing goodwill
for impairment. The first step is a screen for potential
impairment, while the second step measures the amount of the
impairment, if any. Upon completion of the first step of the
goodwill impairment test for all of our reporting units, results
indicated that goodwill appeared to be impaired for our Matrix
and Home Care Services  Care Focus reporting units.
We subjected the goodwill at these reporting units to step two
under SFAS No. 142.

We engaged a qualified, independent third-party
to determine the estimated fair value of these two reporting
units. Their valuation was completed during the fourth quarter
of 2002, and the resulting impairment losses amounted to
$70.6 million for Matrix and $6.6 million for Home
Care Services  Care Focus. As required by SFAS
No. 142, these impairment losses have been recorded in the
2002 statement of operations as the cumulative effect of a
change in accounting for goodwill as of January 1, 2002.

In accordance with SFAS No. 142, we
completed our annual impairment assessment of all of our
indefinite lived intangible assets, including goodwill, as of
October 1, 2002 with no additional impairment required.



| |                         
| | ------------------------
| | New Accounting Standards

In January 2003, the FASB issued Interpretation
No. 46, Consolidation of Variable Interest Entities,
(FIN 46). FIN 46 requires a variable
interest entity (VIE), sometimes known as a special
purpose entity, to be consolidated by a company when that
company is subject to a majority of the risk of loss from the
VIEs activities or entitled to receive a majority of the
VIEs residual returns, or both. FIN 46 is effective
on July 1, 2003 as it relates to VIEs created prior to
February 1, 2003. FIN 46 is not expected to impact our
accounting treatment of BFC. (See Off-Balance Sheet Obligations
herein.)

37



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##### Table of Contents



In November 2002, the FASB issued Interpretation
No. 45, Guarantors Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others (FIN 45).
FIN 45 requires certain guarantees to be recorded at fair
value when a transaction is consummated. This differs from
current practice, which is generally to record a liability only
when a loss is probable and reasonably estimable. FIN 45
applies to guarantee contracts having financial guarantees,
performance guarantees, indemnification or indirect guarantees
of the indebtedness of others. FIN 45 also requires a
guarantor to make significant new disclosures, even when the
likelihood of making any payments under the guarantee is remote.
We have complied with the new disclosure requirements, which
were effective for us as of December 31, 2002. The
recognition and measurement provisions of FIN 45 are
applicable on a prospective basis to guarantees issued or
modified after December 31, 2002. We are continuing our
review of the implications of FIN 45, which may impact our
accounting for future dispositions.

In July 2002, the FASB issued Statement of
Financial Accounting Standards No. 146, Accounting for
Costs Associated with Exit or Disposal Activities
(SFAS No. 146). SFAS No. 146
requires that a liability for a cost associated with an exit or
disposal activity be recognized and measured at its fair value
when the liability is incurred rather than when an entity
commits to an exit plan. Depending on the terms of the exit or
disposal, under SFAS No. 146, severance pay could be
recognized over time or up front. Also, SFAS No. 146
requires that a liability be recognized, measured at its fair
value, when an entity ceases operation at a location covered
under a pre-existing contract, such as a lease. Fair value in
this case would represent the present value of the future
payment obligations net of assumed receipts, such as sublease
income, at current market value. SFAS No. 146 is
effective for all exit or disposal activities initiated after
December 31, 2002. Many of the provisions of
SFAS No. 146 affect only the timing of when a
liability is recorded and not the amount of the liability.
Therefore, we do not expect there will be a material effect on
our consolidated financial position or results of operations as
a result of adopting SFAS No. 146.

In April 2002, the FASB issued Statement of
Financial Accounting Standards No. 145, Rescission of
FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections
(SFAS No. 145). This Statement eliminates
extraordinary accounting treatment for reporting gains or losses
on debt extinguishments, and amends certain other existing
accounting pronouncements. The provisions of this Statement were
effective for the Company beginning with the first quarter of
2003 with restatement of prior year debt extinguishment-related
extraordinary items required.



| |                      
| | ---------------------
| | 2001 Compared to 2000

Restatement

Results of operations for the years ended
December 31, 2001 and 2000 have been restated to reflect
asset dispositions during the six months ended June 30,
2003 as discontinued operations. The following discussion of
2001 Compared to 2000 reflects this
restatement.

Results
of Operations  Continuing Operations

We reported a net loss from continuing operations
for the year ended December 31, 2001 of
$264.9 million, compared to a net loss from continuing
operations of $27.6 million for the year ended
December 31, 2000. The net loss from continuing operations
for 2001 included pre-tax charges totaling $274.6 million,
including $197.1 million for asset impairments, exit costs
and workforce reductions and $77.5 million related to a
settlement with the federal government to resolve open
reimbursement issues under the former cost-reimbursement system
for Medicare. The asset impairment and exit costs, which are
included in the consolidated statement of operations caption
Asset impairments, workforce reductions and other unusual
items, relate to:



| |   |                                                                                                                                                                                                                                            
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $75.1 million write-down of Florida
    facilities and $55.1 million of Florida exit and other costs, as
    discussed below. These assets were included in the total assets
    of the Nursing Facilities segment as of December 31, 2001;

38



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##### Table of Contents





| |   |                                                                                                                                                                                                                                                                                                                                 
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | write-down of goodwill of $15.4 million,
    property, equipment and other intangible assets of
    $1.0 million and recording of closing and other costs of
    $2.8 million on under-performing Home Care businesses.
    These assets were included in the total assets of the Home Care
    segment as of December 31, 2001;
|
| |  | write-down of property and equipment of
    $9.7 million, and goodwill and other intangibles of
    $600,000 on certain under-performing nursing facilities. These
    assets were included in the total assets of the Nursing
    Facilities operating segment as of December 31, 2001;                                        
|
| |  | write-off of abandoned projects and investments
    totaling $7.8 million; and                                                                                                                                                                                                                                                  
|
| |  | $3.3 million related to the termination of a
    lease in Indiana and the write-off of the net book value of the
    related assets.                                                                                                                                                                                            

During 2001, a formal plan was initiated by
management to pursue the sale of our nursing facility operations
in Florida, which included 49 nursing facilities (6,129 beds)
and four assisted living centers (315 units) (the Florida
facilities). The plan included the sale of one additional
nursing facility (56 beds) in Florida and certain other assets
which would be sold in separate transactions. The decision to
sell these properties was made primarily due to the excessive
patient care liability costs that we had been incurring in the
state of Florida. Accordingly, the property and equipment,
identifiable intangibles and operating supplies of our Florida
nursing facility operations at March 31, 2001 were
considered assets held for sale. Management estimated the fair
value less selling costs of such assets and took pre-tax charges
in 2001 totaling $75.1 million to write-down the Florida assets.
Effective December 1, 2001, we entered into a lease
agreement on the Florida facilities with Florida Health Care
Properties and we closed the real estate transaction on
January 8, 2002.

In conjunction with the sale of the Florida
facilities, we also recorded pre-tax charges totaling
$55.1 million for certain exit and other costs. These costs
related to severance agreements, termination payments on certain
contracts and various other items. At December 31, 2001,
the Florida assets held for sale totaled $120.8 million and
were classified as current assets in the consolidated balance
sheet.

Annualized revenues for the Florida facilities
were $288.0 million. During the year ended
December 31, 2001, our Florida nursing facility operations
recorded pre-tax income of approximately $600,000. This amount
does not include certain costs which were recorded at the parent
company level and were not fully allocated to the individual
subsidiaries or facilities. We did not record depreciation and
amortization expense on the Florida assets during the period
these assets were held for sale, since these assets were
adjusted to their estimated net realizable value. The amount of
depreciation and amortization expense that we did not have to
record during the year ended December 31, 2001 on the
Florida assets was $6.8 million.

During 2001, we recorded pre-tax charges totaling
$24.2 million for workforce reductions and related costs,
of which $23.1 million related to severance and other
employment agreements for approximately 240 employees who were
notified in 2001 that their positions would be eliminated,
including:



| |   |                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $18.0 million of cash expenses,
    $4.9 million and $11.3 million of which was paid
    during the years ended December 31, 2002 and 2001,
    respectively;
|
| |  | non-cash expenses of $4.5 million related to
    the issuance of shares under the Stock Grant Plan (discussed
    below); and                                
|
| |  | non-cash expenses of $600,000 related to other
    long-term incentive agreements.                                                                           

We estimated the annual costs savings of this
operational reorganization to be approximately
$14.0 million. Much of this savings was realized in 2001,
since the majority of the workforce reductions took place in the
first quarter. These estimated savings are net of the additional
costs we incurred to increase the operations and clinical staff
at the facility and district level. Approximately $600,000 of
these workforce reduction charges in 2001 were reversed during
2002.

In January 2001, we filed a registration
statement under Form S-8 with the SEC registering 1,174,500
shares of our common stock. These shares were previously
repurchased by us and held in treasury. They will be issued
under the Stock Grant Plan to holders of restricted stock who,
by virtue of the terms of their

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employment contracts, severance agreements or
other similar arrangements, are entitled to the immediate
vesting of their restricted stock. We issued 669,754 shares of
common stock in 2002 and 2001 under the Stock Grant Plan to
various officers in exchange for shares of restricted stock held
by them, which were cancelled.


On February 4, 2002, we made a settlement
offer to the federal government to resolve open reimbursement
issues under the former cost-reimbursement system for Medicare.
For accounting purposes, this settlement offer was required to
be recorded in our operating results for the year ended
December 31, 2001 and resulted in a pre-tax charge of
$77.5 million which is included in the caption
Special charges and adjustments related to settlements
with the federal government. This charge included a
$35.0 million cash settlement and the write-off of
$81.5 million of related cost report receivables, offset by
a $39.0 million reserve established in 1999 for related
issues. This matter was settled with CMS in the fourth quarter
of 2002, and required no increase in accruals previously
recorded.

During 2000, we recorded pre-tax charges totaling
$17.2 million, including $9.7 million for asset
impairments and $6.1 million for workforce reductions.
These asset impairment charges primarily related to:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | a write-down of property and equipment of
    $5.1 million and recording of closing and other costs of
    approximately $3.0 million related to six nursing
    facilities with an aggregate carrying value of approximately
    $6.0 million. Management closed or terminated the leases on
    five of these facilities during 2001. These assets generated
    pre-tax losses of $2.4 million during the year ended
    December 31, 2000 and were included in the total assets of
    our Nursing Facilities operating segment;
|
| |  | a write-off of abandoned projects totaling
    $2.1 million;                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|
| |  | a write-off of an investment in a physician
    practice management company of approximately $2.0 million;
    and                                                                                                                                                                                                                                                                                                                                                                                                                  
|
| |  | a reversal of $2.5 million of prior year
    exit costs.                                                                                                                                                                                                                                                                                                                                                                                                                                                                            

The workforce reduction charges of
$6.1 million primarily related to severance agreements
associated with seven executives. During 2000, $2.2 million was
paid, and the remainder was paid during the first quarter of
2001. Four of the executives were notified in late 2000 that
their positions would be eliminated as part of a reorganization
of our operating and support group functions. This
reorganization was formally announced in the first quarter of
2001.



| |             
| | ------------
| | Income Taxes

We recorded a provision for income taxes at 26%
for the year ended December 31, 2001, even though we had a
pre-tax loss, primarily due to the recording of a
$153.7 million valuation allowance on our deferred tax
assets. This valuation allowance was required under the guidance
of SFAS No. 109 due to our historical operating
performance and our reported cumulative net losses. Our annual
effective tax rate for 2000 was 29%, which was different than
the federal statutory rate primarily due to amortization of
nondeductible goodwill and state income taxes, partially offset
by the benefit of certain tax credits.



| |                       
| | ----------------------
| | Net Operating Revenues

We reported net operating revenues of
$2,428.1 million during the year ended December 31,
2001 compared to $2,365.2 million for the same period in
2000. Approximately 97% of our total net operating revenues for
each of the years ended December 31, 2001 and 2000 were
derived from services provided by our Nursing Facilities
segment. The increase in net operating revenues of
$62.9 million for the year ended December 31, 2001, as
compared to the same period in 2000, consists of the following:



| |   |                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | an increase of $140.1 million from
    facilities we operated during each of the years ended
    December 31, 2001 and 2000 (same facility
    operations);
|
| |  | an increase of $13.1 million due to
    acquisitions and openings of newly-constructed facilities;                                                           

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| |   |                                                                                      
| | - | -------------------------------------------------------------------------------------
| |  | an increase of $13.7 million from growth in
    AEGIS external therapy business; and
|
| |  | a decrease of $104.0 million due to
    dispositions.                                

The increase in net operating revenues of
$140.1 million from same facility operations for the year
ended December 31, 2001, as compared to the same period in
2000, was primarily due to the following:



| |   |                                                                                                                                   
| | - | ----------------------------------------------------------------------------------------------------------------------------------
| |  | $152.6 million due to an increase in
    Medicaid, Medicare and private payment rates;                                            
|
| |  | $8.5 million due to a positive shift in our
    patient mix;                                                                      
|
| |  | partially offset by a decrease of
    $12.7 million due to a decline in same facility census; and                                 
|
| |  | $5.0 million due to one less calendar day
    during the year ended December 31, 2001, as compared to the
    same period in 2000.



| |                                          
| | -----------------------------------------
| | Operating and Administrative
    Expenses

We reported operating and administrative expenses
of $2,208.6 million during the year ended December 31,
2001 compared to $2,232.6 million for the same period in
2000. The decrease of $24.0 million consists of the
following:



| |   |                                                                                                   
| | - | --------------------------------------------------------------------------------------------------
| |  | a decrease of $73.7 million due to
    dispositions;                                              
|
| |  | an increase of $37.3 million in same
    facility operations; and                                 
|
| |  | an increase of $12.4 million due to
    acquisitions and openings of newly constructed facilities.

The increase in operating and administrative
expenses of $37.3 million from same facility operations for
the year ended December 31, 2001, as compared to the same
period in 2000, was due primarily to the following:



| |   |                                                                                                                                                                                                                            
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $94.2 million of additional wages and
    related expenses, primarily due to an increase in our weighted
    average wage rate;                                                                                            
|
| |  | $5.5 million due to an increase in other
    contracted services;                                                                                                                                                          
|
| |  | partially offset by a $40.9 million decrease
    in bad debt expense, primarily due to improved collections on
    our patient accounts receivable; and                                                                    
|
| |  | $22.2 million decrease in our provision for
    insurance and related items primarily due to an incremental
    pre-tax charge of $44.4 million recorded in 2000 to increase
    reserves for patient care liability costs.

Excluding this $44.4 million pre-tax charge
for 2000, our provision for insurance and related items
increased $22.2 million for the year ended December 31,
2001, as compared to the same period in 2000, primarily due to
rising patient care liability costs.

Depreciation
and Amortization

Depreciation and amortization expense decreased
$6.9 million to $75.7 million for the year ended
December 31, 2001, as compared to $82.6 million for
the same period in 2000, primarily due to the discontinuation of
depreciation and amortization of our Florida nursing facility
assets, as they were classified as held for sale at
March 31, 2001.

Results
of Operations  Discontinued Operations

The results of operations of disposed facilities,
clinics and other assets in the six-month period ended
June 30, 2003, as well as the results of operations of
held-for-sale assets, have been reported as discontinued

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operations for all periods presented in the
consolidated statements of operations. A summary of the
discontinued operations for the years ended December 31 is
as follows (in thousands):


|                                             |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  |   |         |  
|-------------------------------------------- |  | ------ | ------- | ------- |  | ---------- | ------- | ----- |  | ----- | ------- | ------ |  | ------- | ------ | ---------- |  | ----- | ------- | ----- |  | - | ------- | - |  | - | ------ | - |  | - | ------- |  |  | - | ------ |  |  | - | ------- | -
|                                             |  |        |         |        
|                                             |  | 2001   |         | 2000   
|                                             |  |        |         |        
|                                             |  |        |         | MK      |  | Nursing    |         | Care  |  |       |         |        |  | MK      |        | Nursing    |  | Care  |         |      
|                                             |  | Matrix |         | Medical |  | Facilities |         | Focus |  | Total |         | Matrix |  | Medical |        | Facilities |  | Focus |         | Total
|                                             |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |      
|Net operating revenues                       |  | $      | 90,694  |         |  | $          | 23,289  |       |  | $     | 150,393 |        |  | $       | 21,428 |            |  | $     | 285,804 |       |  | $ | 78,367  |   |  | $ | 29,429 |   |  | $ | 136,527 |  |  | $ | 21,493 |  |  | $ | 265,816 |  
|                                             |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  |   |         |  
|Operating income (loss)                      |  | $      | (8,652  | )       |  | $          | (10,674 | )     |  | $     | 22,775  |        |  | $       | 2,168  |            |  | $     | 5,617   |       |  | $ | (30,017 | ) |  | $ | (1,170 | ) |  | $ | 20,466  |  |  | $ | 1,839  |  |  | $ | (8,882  | )
|Impairments and other unusual items          |  |        | (32,482 | )       |  |            | (8,231  | )     |  |       | (299    | )      |  |         |       |            |  |       | (41,012 | )     |  |   | (25,784 | ) |  |   |       |   |  |   |        |  |  |   |       |  |  |   | (25,784 | )
|                                             |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  |   |         |  
|Pre-tax income (loss)                        |  | $      | (41,134 | )       |  | $          | (18,905 | )     |  | $     | 22,476  |        |  | $       | 2,168  |            |  |       | (35,395 | )     |  | $ | (55,801 | ) |  | $ | (1,170 | ) |  | $ | 20,466  |  |  | $ | 1,839  |  |  |   | (34,666 | )
|                                             |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  |   |         |  
|Provision for (benefit from) income taxes    |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       | 927     |       |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  |   | (7,726  | )
|                                             |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  |   |         |  
|Discontinued operations, net of income taxes |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  | $     | (36,322 | )     |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  | $ | (26,940 | )
|                                             |  |        |         |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |        |   |  |   |         |  |  |   |        |  |  |   |         |  

Liquidity and Capital Resources

At December 31, 2002, we had approximately
$115.4 million in cash and cash equivalents. We anticipate
$20.5 million of this cash balance at December 31,
2002, while not legally restricted, will be utilized primarily
to fund certain general liability and workers compensation
claims and expenses. At December 31, 2002, we had
approximately $124.1 million of unused commitments under
our $150.0 million credit facility (the Credit
Facility), with utilization being for standby letters of
credit primarily in support of certain insurance programs,
security deposits, and debt or guaranteed debt obligations. At
December 31, 2002, we had negative working capital of
approximately $41.7 million reflected on our consolidated
balance sheet.

Net cash provided by operating activities for the
year ended December 31, 2002 was approximately
$116.6 million compared to approximately
$220.9 million for the same period in 2001. This decline
was primarily related to reducing accounts payable and accrued
liabilities by approximately $85.3 million, including
$35.0 million paid to CMS in November 2002. Net cash
provided by investing activities and net cash used in financing
activities were approximately $62.3 million and
$152.9 million, respectively, for the year ended
December 31, 2002. We received net cash proceeds of
approximately $169.5 million from the dispositions of
facilities and other assets in 2002. These net proceeds, along
with cash generated from operations, were used to repay
approximately $116.5 million of long-term debt and
$42.9 million of off-balance sheet financing and to fund
capital expenditures totaling approximately $100.1 million
in 2002.

At June 30, 2003, we had $134.5 million
in cash and cash equivalents. We anticipate $36.0 million
of this cash balance at June 30, 2003, while not legally
restricted, will be utilized primarily to fund certain general
liability and workers compensation claims and expenses. At
June 30, 2003, we had $50.9 million of availability
under our Credit Facility, with utilization of
$39.8 million being for standby letters of credit primarily
in support of certain insurance programs, security deposits and
debt or guaranteed debt obligations. At June 30, 2003, we
had negative working capital of $33.8 million reflected on
our condensed consolidated balance sheet.

Net cash provided by operating activities for the
six months ended June 30, 2003 was $20.4 million, compared
to $71.3 million for the same period in 2002. The decrease
in net cash provided by operating activities of $50.9 million
was primarily related to a reduction in Medicare funding and an
increase in our insurance and related costs, as well as an
increase in our patient accounts receivable. Accounts receivable
for our Nursing Facilities segment have continued to decline in
2003, and our cash collections continue to be in line with our
generated revenues. However, as expected, the higher level of
cash collections and reductions in accounts receivable that we
experienced throughout 2002 have not continued. In addition,
with the growth in our AEGIS non-Beverly contract business, we
have experienced an increase in accounts receivable.

Net cash provided by investing activities and net
cash used in financing activities were $106.3 million and
$107.6 million, respectively, for the six months ended
June 30, 2003. We received net cash proceeds of

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$135.0 million from the sales of certain of
our nursing facilities, Matrix outpatient therapy clinics and
managed care network, our Care Focus business unit and other
assets. These net proceeds, along with cash generated from
operations, were primarily used to:




| |   |                                                                                                                                                           
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | repay $35.9 million of long-term debt;                                                                                                                    
|
| |  | reduce $69.5 million of off-balance sheet
    lease financing;                                                                                            
|
| |  | set aside designated funds of $5.5 million
    as collateral for certain workers compensation policies
    and for a legal case that is under appeal; and
|
| |  | fund capital expenditures totaling
    $17.4 million.                                                                                                     

Effective December 31, 2002, we executed an
amendment to our Credit Facility, as well as amendments with
certain of our other lenders covering debt of approximately
$88.8 million (collectively, the 2002
Amendments), which modified certain financial covenant
levels. The 2002 Amendments were required because recording the
special charges, as discussed in Item 8 
Note 4, would have resulted in our noncompliance with a
financial covenant ratio contained in those debt agreements.

In February 2003, we executed an additional
amendment to our Credit Facility and our off-balance sheet lease
arrangement (collectively, the 2003 Amendments). The
2003 Amendments provide for, among other things:



| |   |                                                                                                                    
| | - | -------------------------------------------------------------------------------------------------------------------
| |  | further modification of certain financial
    covenant levels;                                                     
|
| |  | changes in the interest rates on our borrowings;                                                                   
|
| |  | the pledging of additional assets as collateral
    for certain of the lenders;                                    
|
| |  | use of a portion of the proceeds from the sales
    of assets to repay obligations or reduce available borrowings; 
|
| |  | reduced availability under the Credit Facility;                                                                    
|
| |  | accelerated maturity for the lease arrangement to
    the same date as our Credit Facility and various other items.

In accordance with the 2003 Amendments,
availability was reduced to $100.0 million when we sold our
Matrix outpatient clinics and managed care network, and was
further reduced to $90.7 million in the second quarter of
2003 when we sold a portfolio of 18 nursing facilities and two
assisted living centers. Under these amendments, availability
under our Credit Facility cannot be reduced below
$85.0 million as a result of future dispositions. We used a
portion of the proceeds from the sale of these facilities to
repurchase all outstanding properties under our off-balance
sheet lease arrangement and that obligation was satisfied in
June 2003.

We believe we will be able to comply with the
amended covenants throughout 2003 and the availability under our
Credit Facility, if required, is expected to be adequate to
supplement any liquidity needs in 2003.

We conduct business with third parties and have
accounts and notes receivable due from third parties who could
be financially impacted by the expiration of the Medicare add-on
payments. We currently believe that an adequate provision has
been made for the possibility of these receivables becoming
uncollectible and we continually monitor and adjust these
allowances as necessary.

In 2002, we completed a full evaluation of our
nursing facility portfolio, which included the identification of
non-strategic facilities and facilities that account for a
disproportionately high share of projected patient care
liability costs. As a result of this analysis, we expect to
divest a significant portion of our current nursing facility
capacity this year and next. We expect the successful completion
of our divestiture strategy, while resulting in a significant
reduction in our net operating revenues, will reduce our current
patient care liability costs, reduce outstanding debt and
strengthen the nursing facility portfolio going forward. Our
three-year strategic plan includes implementing initiatives to
improve our fundamental business processes, and we plan to
reduce costs by approximately $40.0 million throughout the
organization over the three year period beginning in 2003. We
can give no assurance that we will be able to execute our
divestiture strategy in a timely manner

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at fair values or that we will be able to reduce
costs to achieve our stated objective within the time period
projected.


We currently anticipate that cash on hand, cash
flows from operations and availability under our banking
arrangements will be adequate to repay our debts due within one
year of $35.7 million, to make normal recurring annual net
capital additions and improvements of $65.0 million, to
make operating lease and other contractual obligation payments,
to make selective acquisitions, including the purchase of
previously leased facilities, and to meet working capital
requirements through June 30, 2004. If cash flows from
operations or availability under our existing or contemplated
banking arrangements fall below expectations, we may be required
to utilize cash on hand, delay capital expenditures, dispose of
certain assets, issue additional debt securities, or consider
other alternatives to improve liquidity.

Our ability to make payments on and to refinance
our indebtedness and to fund planned capital expenditures and
research and development efforts will depend on our ability to
generate cash in the future. This, to a certain extent, is
subject to general economic, financial, competitive,
legislative, regulatory and other factors that are beyond our
control. However, based on our current level of operations and
anticipated cost savings and operating improvements, we believe
our cash flows from operations, available cash and cash
equivalents and available borrowings will be adequate to meet
our future liquidity needs for at least the next few years.

We cannot assure you, however, that our business
will generate sufficient cash flow from operations, that
currently anticipated cost savings and operating improvements
will be realized on schedule or that future borrowings will be
available to us in an amount sufficient to enable us to pay our
indebtedness or to fund our other liquidity needs. We may need
to refinance all or a portion of our indebtedness on or before
maturity. We cannot assure you that we will be able to refinance
any of our indebtedness on commercially reasonable terms or at
all. (See Item 1.  Business  Risk
Factors  To service our indebtedness, we will require
a significant amount of cash. Our ability to generate cash
depends on many factors, some of which are beyond our control.)

Obligations and Commitments

At June 30, 2003, we had off-balance sheet
debt guarantees of $24.4 million that primarily arose from
previous sales of nursing facilities. We also guarantee certain
third-party operating leases. Those guarantees arose from our
dispositions of leased facilities and the underlying leases have
$22.5 million of minimum rental commitments remaining
through the initial lease terms. In addition, we guarantee an
officers bank loan of approximately $200,000 which is
collateralized by shares of our common stock pledged by the
officer.

During 2003, we acquired six leased properties
(649 beds) and our corporate office building, which had been
subject to our off-balance sheet lease arrangement, for cash of
$69.5 million. These acquisitions were in accordance with
the 2003 amendments to our existing senior credit facility and
our off-balance sheet lease arrangement. These acquisitions were
primarily funded with the proceeds from the sale of nursing
facilities, outpatient therapy clinics and Care Focus.

Through our wholly owned subsidiary BHRS, we sell
on a revolving basis certain Medicaid and Veterans
Administration patient accounts receivable to a non-consolidated
bankruptcy remote, qualifying special purpose entity, BFC. BFC
has $70.0 million of medium-term notes outstanding, which
are collateralized by the purchased receivables. The medium-term
notes currently mature in March 2005; however, according to the
provisions of the notes, principal payments on these
obligations, calculated based on quarterly collections of the
underlying receivables, begin in the second quarter of 2004. At
December 31, 2002 and 2001, we had an investment in BFC of
$31.0 million and $33.0 million, respectively,
included in Other assets on our consolidated balance
sheets, which approximated the excess level of net receivables
held by BFC to over collateralize the medium-term notes.

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A summary of our long-term contractual
obligations and commitments in future years as of
December 31, 2002 is shown below (in thousands):

|                                       |                                    |       |         |                        |  |           |        |           |  |            |        |         |  |   |         |         |  |   |         |         | 
|-------------------------------------- | ---------------------------------- | ----- | ------- | ---------------------- |  | --------- | ------ | --------- |  | ---------- | ------ | ------- |  | - | ------- | ------- |  | - | ------- | ------- | 
|                                       |                                    |       |         |                       
|                                       |                                    |       |         | Payments Due by Period
|                                       |                                    |       |         |                       
|                                       |                                    | Total |         | 2003                   |  | 2004-2005 |        | 2006-2007 |  | After 2007
|                                       |                                    |       |         |                        |  |           |        |           |  |           
|Contractual obligations:               |                                    |       |         |                        |  |           |        |           |  |            |        |         |  |   |         |         |  |   |         |        
|Long-term debt                         |                                    | $     | 621,025 |                        |  | $         | 40,611 |           |  | $          | 55,466 |         |  | $ | 216,904 |         |  | $ | 308,044 |        
|Capital lease obligations              |                                    |       | 9,152   |                        |  |           | 852    |           |  |            | 1,449  |         |  |   | 700     |         |  |   | 6,151   |        
|Operating leases                       |                                    |       | 205,984 |                        |  |           | 51,631 |           |  |            | 79,741 |         |  |   | 33,084  |         |  |   | 41,528  |        
|Off-balance sheet lease arrangement(1) |                                    |       | 69,456  |                        |  |           | 35,000 |           |  |            | 34,456 |         |  |   |        |         |  |   |        |        
|Other long-term obligations            |                                    |       | 73,891  |                        |  |           | 18,125 |           |  |            | 36,250 |         |  |   | 19,516  |         |  |   |        |        
|Data processing agreement              |                                    |       | 9,470   |                        |  |           | 2,196  |           |  |            | 4,392  |         |  |   | 2,882   |         |  |   |        |        
|                                       |                                    |       |         |                        |  |           |        |           |  |            |        |         |  |   |         |         |  |   |         |        
|                                       | Total contractual cash obligations |       | $       | 988,978                |  |           | $      | 148,415   |  |            | $      | 211,754 |  |   | $       | 273,086 |  |   | $       | 355,723 | 
|                                       |                                    |       |         |                        |  |           |        |           |  |            |        |         |  |   |         |         |  |   |         |        

|                              |                              |           |        |                                            |  |           |        |           |  |            |       |        |  |   |       |       |  |   |       |       | 
|----------------------------- | ---------------------------- | --------- | ------ | ------------------------------------------ |  | --------- | ------ | --------- |  | ---------- | ----- | ------ |  | - | ----- | ----- |  | - | ----- | ----- | 
|                              |                              |           |        |                                           
|                              |                              | Total     |        | Amount of Commitment Expiration Per Period
|                              |                              | Amounts   |        |                                           
|                              |                              | Committed |        | 2003                                       |  | 2004-2005 |        | 2006-2007 |  | After 2007
|                              |                              |           |        |                                            |  |           |        |           |  |           
|Other commercial commitments: |                              |           |        |                                            |  |           |        |           |  |            |       |        |  |   |       |       |  |   |       |      
|Letters of credit             |                              | $         | 25,944 |                                            |  | $         | 16,744 |           |  | $          | 9,200 |        |  | $ |      |       |  | $ |      |      
|Guarantees                    |                              |           | 31,528 |                                            |  |           | 9,018  |           |  |            | 8,450 |        |  |   | 7,365 |       |  |   | 6,695 |      
|Other commercial commitments  |                              |           | 1,500  |                                            |  |           | 1,500  |           |  |            |      |        |  |   |      |       |  |   |      |      
|                              |                              |           |        |                                            |  |           |        |           |  |            |       |        |  |   |       |       |  |   |       |      
|                              | Total commercial commitments |           | $      | 58,972                                     |  |           | $      | 27,262    |  |            | $     | 17,650 |  |   | $     | 7,365 |  |   | $     | 6,695 | 
|                              |                              |           |        |                                            |  |           |        |           |  |            |       |        |  |   |       |       |  |   |       |      



---



|    |                                                                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Our synthetic lease obligation of
    $69.5 million was satisfied in June 2003 when we acquired
    the remaining leased properties and our corporate office
    building, which had been subject to this arrangement.

These obligations and commitments do not include
$70.0 million of medium-term notes due March 2005, which
are off-balance sheet obligations of BFC. (See
Item 8  Note 1.)

45



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|         |                                                                
|-------- | ---------------------------------------------------------------
|ITEM 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
    MARKET RISK.

We are exposed to market risk because we utilize
financial instruments. The market risks inherent in these
instruments are attributable to the potential loss from adverse
changes in the general level of United States interest rates. We
manage our interest rate risk exposure by maintaining a mix of
fixed and variable rates for debt and notes receivable. The
following table provides information regarding our market
sensitive financial instruments and constitutes a
forward-looking statement.

|                                  |                       |                         |   |        |   |              |   |              |   |      |   |            |   |       |   |         |   |      |   |        |   |  |   |         |   |  |   |         |  |  |   |         |  |  |   |         | 
|--------------------------------- | --------------------- | ----------------------- | - | ------ | - | ------------ | - | ------------ | - | ---- | - | ---------- | - | ----- | - | ------- | - | ---- | - | ------ | - |  | - | ------- | - |  | - | ------- |  |  | - | ------- |  |  | - | ------- | 
|                                  |                       |                         |   |        |   |              |   |             
|                                  |                       | Expected Maturity Dates |   |        |   | Fair Value   |   | Fair Value  
|                                  |                       |                         |   |        |   | December 31, |   | December 31,
|                                  |                       | 2003                    |   | 2004   |   | 2005         |   | 2006         |   | 2007 |   | Thereafter |   | Total |   | 2002    |   | 2001
|                                  |                       |                         |   |        |   |              |   |              |   |      |   |            |   |       |   |         |   |     
|                                  |                       |                        
|                                  |                       | (Dollars In Thousands) 
|Total long-term debt:             |                       |                         |   |        |   |              |   |              |   |      |   |            |   |       |   |         |   |      |   |        |   |  |   |         |   |  |   |         |  |  |   |         |  |  |   |        
|                                  | Fixed rate            |                         | $ | 37,893 |   |              | $ | 33,381       |   |      | $ | 21,325     |   |       | $ | 195,404 |   |      | $ | 21,541 |   |  | $ | 313,258 |   |  | $ | 622,802 |  |  | $ | 578,282 |  |  | $ | 734,602 | 
|                                  | Average interest rate |                         |   | 7.98   | % |              |   | 7.11         | % |      |   | 8.01       | % |       |   | 8.88    | % |      |   | 7.73   | % |  |   | 9.06    | % |  |   |         |  |  |   |         |  |  |   |         | 
|                                  | Variable rate         |                         | $ | 3,570  |   |              | $ | 1,926        |   |      | $ | 283        |   |       | $ | 312     |   |      | $ | 347    |   |  | $ | 937     |   |  | $ | 7,375   |  |  | $ | 7,375   |  |  | $ | 25,491  | 
|                                  | Average interest rate |                         |   | 3.85   | % |              |   | 3.92         | % |      |   | 4.92       | % |       |   | 4.88    | % |      |   | 4.85   | % |  |   | 5.29    | % |  |   |         |  |  |   |         |  |  |   |         | 
|Total notes receivable:           |                       |                         |   |        |   |              |   |              |   |      |   |            |   |       |   |         |   |      |   |        |   |  |   |         |   |  |   |         |  |  |   |         |  |  |   |        
|                                  | Fixed rate            |                         | $ | 16,018 |   |              | $ | 198          |   |      | $ | 60         |   |       | $ | 45      |   |      | $ | 15,987 |   |  | $ | 1       |   |  | $ | 32,309  |  |  | $ | 24,548  |  |  | $ | 21,660  | 
|                                  | Average interest rate |                         |   | 9.32   | % |              |   | 8.01         | % |      |   | 5.83       | % |       |   | 8.30    | % |      |   | 12.81  | % |  |   | 8.30    | % |  |   |         |  |  |   |         |  |  |   |         | 
|                                  | Variable rate         |                         | $ | 35     |   |              | $ | 37           |   |      | $ | 39         |   |       | $ | 41      |   |      | $ | 43     |   |  | $ | 254     |   |  | $ | 449     |  |  | $ | 449     |  |  | $ | 1,050   | 
|                                  | Average interest rate |                         |   | 5.25   | % |              |   | 5.25         | % |      |   | 5.25       | % |       |   | 5.25    | % |      |   | 5.25   | % |  |   | 5.25    | % |  |   |         |  |  |   |         |  |  |   |         | 
|Off-balance sheet obligations(1): |                       |                         |   |        |   |              |   |              |   |      |   |            |   |       |   |         |   |      |   |        |   |  |   |         |   |  |   |         |  |  |   |         |  |  |   |        
|                                  | Variable rate         |                         | $ | 35,000 |   |              | $ | 104,456      |   |      | $ |           |   |       | $ |        |   |      | $ |       |   |  | $ |        |   |  | $ | 139,456 |  |  | $ | 139,456 |  |  | $ | 182,357 | 
|                                  | Average interest rate |                         |   | 5.43   | % |              |   | 3.20         | % |      |   |           |   |       |   |        |   |      |   |       |   |  |   |        |   |  |   |         |  |  |   |         |  |  |   |         | 



---



|    |                                                                                                                                                                                                                       
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Our synthetic lease obligation of
    $69.5 million was satisfied in June 2003 when we acquired
    the remaining leased properties and our corporate office
    building, which had been subject to this arrangement.

During the six months ended June 30, 2003,
we reduced our fixed rate debt by $35.9 million and our
variable rate off-balance sheet obligation by $69.5 million
and increased our fixed rate notes receivable by a net of
$3.7 million. There have been no material changes in our
overall market risk in 2003.

46



---



##### Table of Contents






ITEM 8. CONSOLIDATED FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA.

|                                                              |  |      |    | 
|------------------------------------------------------------- |  | ---- | -- | 
|                                                              |  | Page
|                                                              |  |     
|Report of Ernst & Young LLP, Independent
    Auditors         |  |      | 48 | 
|Consolidated Balance Sheets                                   |  |      | 49 | 
|Consolidated Statements of Operations                         |  |      | 50 | 
|Consolidated Statements of Stockholders
    Equity           |  |      | 51 | 
|Consolidated Statements of Cash Flows                         |  |      | 52 | 
|Notes to Consolidated Financial Statements                    |  |      | 53 | 
|Supplementary Data (Unaudited) 
    Quarterly Financial Data |  |      | 86 | 

47



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##### Table of Contents



REPORT OF ERNST & YOUNG LLP,
INDEPENDENT AUDITORS

The Board of Directors and Stockholders

Beverly Enterprises, Inc.


We have audited the accompanying consolidated
balance sheets of Beverly Enterprises, Inc. as of
December 31, 2002 and 2001, and the related consolidated
statements of operations, stockholders equity, and cash
flows for each of the three years in the period ended
December 31, 2002. Our audits also included the financial
statement schedule listed in the Index at Item 15(a). These
financial statements and schedule are the responsibility of the
Companys 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 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 consolidated financial
statements referred to above present fairly, in all material
respects, the consolidated financial position of Beverly
Enterprises, Inc. at December 31, 2002 and 2001, and the
consolidated results of its operations and its cash flows for
each of the three years in the period ended December 31,
2002, 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 consolidated financial statements taken as a whole,
presents fairly, in all material respects, the information set
forth therein.

As discussed in Note 1 to the consolidated
financial statements, in 2002 the Company changed its method of
accounting for goodwill.



| |                          
| | -------------------------
| | -s- ERNST & YOUNG LLP    
| | /s/
    ERNST & YOUNG LLP
| | Little
    Rock, Arkansas
| | October 2,
    2003      

48



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##### Table of Contents



BEVERLY ENTERPRISES, INC.

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands)


|                                         |                                                                             |                                                      |                            |          |          |         |           |          |          |         | 
|---------------------------------------- | --------------------------------------------------------------------------- | ---------------------------------------------------- | -------------------------- | -------- | -------- | ------- | --------- | -------- | -------- | ------- | 
|                                         |                                                                             |                                                     
|                                         |                                                                             | December 31,                                        
|                                         |                                                                             |                                                     
|                                         |                                                                             | 2002                                                 |                            | 2001    
|                                         |                                                                             |                                                      |                            |         
|ASSETS                                  
|                                        
|Current assets:                          |                                                                             |                                                      |                            |          |          |         |           |         
|                                         | Cash and cash equivalents                                                   |                                                      | $                          | 115,445  |          |         | $         | 89,343   |         
|                                         | Accounts receivable  patient, less
    allowance for doubtful accounts:    |                                                      |                            |          |          |         |           |          |         
|                                         |                                                                             | 2002  $43,189; 2001  $51,400                       |                            |          | 169,100  |         |           |          | 242,865  |        
|                                         | Accounts receivable  nonpatient, less
    allowance for doubtful accounts: |                                                      |                            |          |          |         |           |          |         
|                                         |                                                                             | 2002  $1,347; 2001  $908                           |                            |          | 6,799    |         |           |          | 12,914   |        
|                                         | Notes receivable, less allowance for doubtful
    notes:                    |                                                      |                            |          |          |         |           |          |         
|                                         |                                                                             | 2002  $6,038; 2001  $714                           |                            |          | 10,388   |         |           |          | 18,662   |        
|                                         | Operating supplies                                                          |                                                      |                            | 13,980   |          |         |           | 25,701   |         
|                                         | Assets held for sale                                                        |                                                      |                            | 36,418   |          |         |           | 120,843  |         
|                                         | Prepaid expenses and other                                                  |                                                      |                            | 23,577   |          |         |           | 13,720   |         
|                                         |                                                                             |                                                      |                            |          |          |         |           |         
|                                         |                                                                             |                                                      | Total current assets       |          |          | 375,707 |           |          |          | 524,048 | 
|Property and equipment, net              |                                                                             |                                                      | 789,283                    |          |          |         | 873,585   |         
|Other assets:                            |                                                                             |                                                      |                            |          |          |         |           |         
|                                         | Goodwill, net                                                               |                                                      |                            | 63,377   |          |         |           | 144,884  |         
|                                         | Other, less allowance for doubtful accounts and
    notes:                  |                                                      |                            |          |          |         |           |          |         
|                                         |                                                                             | 2002  $1,853; 2001  $4,393                         |                            |          | 121,528  |         |           |          | 138,553  |        
|                                         |                                                                             |                                                      |                            |          |          |         |           |         
|                                         |                                                                             |                                                      | Total other assets         |          |          | 184,905 |           |          |          | 283,437 | 
|                                         |                                                                             |                                                      |                            |          |          |         |           |         
|                                         |                                                                             | $                                                    | 1,349,895                  |          |          | $       | 1,681,070 |         
|                                         |                                                                             |                                                      |                            |          |          |         |           |         
|                                        
|LIABILITIES AND STOCKHOLDERS
    EQUITY
|                                        
|Current liabilities:                     |                                                                             |                                                      |                            |          |          |         |           |         
|                                         | Accounts payable                                                            |                                                      | $                          | 65,546   |          |         | $         | 93,728   |         
|                                         | Accrued wages and related liabilities                                       |                                                      |                            | 98,206   |          |         |           | 109,295  |         
|                                         | Accrued interest                                                            |                                                      |                            | 12,783   |          |         |           | 14,708   |         
|                                         | General and professional liabilities                                        |                                                      |                            | 77,025   |          |         |           | 51,784   |         
|                                         | Federal government settlement obligations                                   |                                                      |                            | 11,915   |          |         |           | 45,891   |         
|                                         | Liabilities held for sale                                                   |                                                      |                            | 3,239    |          |         |           |         |         
|                                         | Other accrued liabilities                                                   |                                                      |                            | 107,241  |          |         |           | 112,609  |         
|                                         | Current portion of long-term debt                                           |                                                      |                            | 41,463   |          |         |           | 64,231   |         
|                                         |                                                                             |                                                      |                            |          |          |         |           |         
|                                         |                                                                             |                                                      | Total current liabilities  |          |          | 417,418 |           |          |          | 492,246 | 
|Long-term debt                           |                                                                             |                                                      | 588,714                    |          |          |         | 677,442   |         
|Other liabilities and deferred items     |                                                                             |                                                      | 190,291                    |          |          |         | 214,885   |         
|Commitments and contingencies            |                                                                             |                                                      |                            |          |          |         |           |         
|Stockholders equity:                    |                                                                             |                                                      |                            |          |          |         |           |         
|                                         | Preferred stock, shares authorized: 25,000,000                              |                                                      |                            |         |          |         |           |         |         
|                                         | Common stock, shares issued:                                                |                                                      |                            |          |          |         |           |          |         
|                                         |                                                                             | 2002  113,249,341; 2001 
    112,813,303           |                            |          | 11,325   |         |           |          | 11,281   |        
|                                         | Additional paid-in capital                                                  |                                                      |                            | 891,782  |          |         |           | 887,668  |         
|                                         | Accumulated deficit                                                         |                                                      |                            | (641,293 | )        |         |           | (495,203 | )       
|                                         | Accumulated other comprehensive income                                      |                                                      |                            | 517      |          |         |           | 2,029    |         
|                                         | Treasury stock, at cost:                                                    |                                                      |                            |          |          |         |           |          |         
|                                         |                                                                             | 2002  8,391,546 shares;
    2001  8,515,758 shares |                            |          | (108,859 | )       |           |          | (109,278 | )      
|                                         |                                                                             |                                                      |                            |          |          |         |           |         
|                                         |                                                                             |                                                      | Total stockholders equity |          |          | 153,472 |           |          |          | 296,497 | 
|                                         |                                                                             |                                                      |                            |          |          |         |           |         
|                                         |                                                                             | $                                                    | 1,349,895                  |          |          | $       | 1,681,070 |         
|                                         |                                                                             |                                                      |                            |          |          |         |           |         

See accompanying notes.

49



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BEVERLY ENTERPRISES, INC.

CONSOLIDATED STATEMENTS OF
OPERATIONS

(In thousands, except per share
amounts)


|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |         |           |           | 
|------------------------------------------------------------------------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------- | ----------------------------------------- | ------------------------ | ---------- | --------- | ---------- | --------- | ------- | --------- | --------- | --------- | ------- | --------- | --------- | 
|                                                                                                                                                  |                                                                                               |                                          
|                                                                                                                                                  |                                                                                               | Years Ended December 31,                 
|                                                                                                                                                  |                                                                                               |                                          
|                                                                                                                                                  |                                                                                               | 2002                                      |                          | 2001       |           | 2000      
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |           
|                                                                                                                                                  |                                                                                               | (Restated)                                |                          | (Restated) |           | (Restated)
|Net operating revenues                                                                                                                            |                                                                                               | $                                         | 2,243,176                |            |           | $          | 2,428,144 |         |           | $         | 2,365,247 |        
|Interest income                                                                                                                                   |                                                                                               |                                           | 4,739                    |            |           |            | 2,939     |         |           |           | 2,501     |        
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|                                                                                                                                                  |                                                                                               |                                           | Total revenues           |            |           | 2,247,915  |           |         |           | 2,431,083 |           |         |           | 2,367,748 | 
|Costs and expenses:                                                                                                                               |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|                                                                                                                                                  | Operating and administrative:                                                                 |                                           |                          |            |           |            |           |         |           |           |           |         |          
|                                                                                                                                                  |                                                                                               | Wages and related                         |                          |            | 1,332,628 |            |           |         | 1,464,036 |           |           |         | 1,427,484 |          
|                                                                                                                                                  |                                                                                               | Provision for insurance and related items |                          |            | 108,986   |            |           |         | 93,449    |           |           |         | 115,689   |          
|                                                                                                                                                  |                                                                                               | Other                                     |                          |            | 608,674   |            |           |         | 651,121   |           |           |         | 689,410   |          
|                                                                                                                                                  | Interest                                                                                      |                                           |                          | 64,713     |           |            |           | 76,639  |           |           |           | 77,387  |          
|                                                                                                                                                  | Depreciation and amortization                                                                 |                                           |                          | 74,741     |           |            |           | 75,741  |           |           |           | 82,627  |          
|                                                                                                                                                  | Florida insurance reserve adjustment                                                          |                                           |                          | 22,179     |           |            |           |        |           |           |           |        |          
|                                                                                                                                                  | California investigation settlement and related
    costs                                     |                                           |                          | 6,300      |           |            |           |        |           |           |           |        |          
|                                                                                                                                                  | Special charges and adjustments related to
    settlements with the federal government        |                                           |                          | (9,441     | )         |            |           | 77,495  |           |           |           |        |          
|                                                                                                                                                  | Asset impairments, workforce reductions and other
    unusual items                           |                                           |                          | 77,487     |           |            |           | 197,091 |           |           |           | 17,249  |          
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|                                                                                                                                                  |                                                                                               |                                           | Total costs and expenses |            |           | 2,286,267  |           |         |           | 2,635,572 |           |         |           | 2,409,846 | 
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|Loss before provision for (benefit from) income
    taxes, discontinued operations and cumulative effect of change
    in accounting for goodwill |                                                                                               |                                           | (38,352                  | )          |           |            | (204,489  | )       |           |           | (42,098   | )      
|Provision for (benefit from) income taxes                                                                                                         |                                                                                               |                                           | 6,085                    |            |           |            | 60,461    |         |           |           | (14,536   | )      
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|Loss before discontinued operations and
    cumulative effect of change in accounting for goodwill                                                |                                                                                               |                                           | (44,437                  | )          |           |            | (264,950  | )       |           |           | (27,562   | )      
|Discontinued operations, net of income taxes
    (benefit):                                                                                       |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|                                                                                                                                                  | 2002  $0; 2001  $927;
    2000  $(7,726)                                                   |                                           |                          | (24,482    | )         |            |           | (36,322 | )         |           |           | (26,940 | )        
|Cumulative effect of change in accounting for
    goodwill, net of income taxes of $0.                                                            |                                                                                               |                                           | (77,171                  | )          |           |            |          |         |           |           |          |        
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|Net loss                                                                                                                                          |                                                                                               | $                                         | (146,090                 | )          |           | $          | (301,272  | )       |           | $         | (54,502   | )      
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|Basic and diluted loss per share of common stock:                                                                                                 |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|                                                                                                                                                  | Before discontinued operations and cumulative
    effect of change in accounting for goodwill |                                           | $                        | (0.42      | )         |            | $         | (2.55   | )         |           | $         | (0.27   | )        
|                                                                                                                                                  | Discontinued operations, net of income taxes
    (benefit)                                    |                                           |                          | (0.23      | )         |            |           | (0.35   | )         |           |           | (0.26   | )        
|                                                                                                                                                  | Cumulative effect of change in accounting for
    goodwill, net of income taxes               |                                           |                          | (0.74      | )         |            |           |        |           |           |           |        |          
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|                                                                                                                                                  | Net loss per share of common stock                                                            |                                           | $                        | (1.39      | )         |            | $         | (2.90   | )         |           | $         | (0.53   | )        
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        
|                                                                                                                                                  | Shares used to compute net loss per share                                                     |                                           |                          | 104,726    |           |            |           | 104,037 |           |           |           | 102,452 |          
|                                                                                                                                                  |                                                                                               |                                           |                          |            |           |            |           |         |           |           |           |        

See accompanying notes.

50



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##### Table of Contents



BEVERLY ENTERPRISES, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS
EQUITY

(Dollars in thousands)


|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |          |          |  
|----------------------------- | -------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------- | ------ | ---------- | - | ----------- | ------- | ------------- | - | -------- | -------- | ----- | -------- | - | ----- | - | ------ | - | -------- | ------ | - | - | ------- | -------- | -------- | -
|                              |                                                                                  |                                                                                                         |        |            |   |             |         | Accumulated   |   |          |          |      
|                              |                                                                                  |                                                                                                         |        | Additional |   |             |         | other         |   |          |          |      
|                              |                                                                                  | Common                                                                                                  |        | paid-in    |   | Accumulated |         | comprehensive |   | Treasury |          |      
|                              |                                                                                  | stock                                                                                                   |        | capital    |   | deficit     |         | income (loss) |   | stock    |          | Total
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |      
|Balances at January 1, 2000   |                                                                                  | $                                                                                                       | 11,038 |            |   | $           | 875,637 |               |   | $        | (139,429 | )     |          | $ | 1,061 |   |        | $ | (107,183 | )      |   | $ | 641,124 |         
|                              | Employee stock transactions related to
    2,436,442 shares of common stock, net |                                                                                                         |        | 244        |   |             |         | 1,344         |   |          |          |      |          |   |       |  |        |   |          |       |   |   |         | 1,588    |         
|                              | Purchase of 1,174,500 shares of common stock
    for treasury                    |                                                                                                         |        |           |   |             |         |              |   |          |          |      |          |   |       |  |        |   |          | (3,874 | ) |   |         | (3,874   | )       
|                              | Comprehensive income (loss):                                                     |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |          |         
|                              |                                                                                  | Foreign currency translation adjustments, net of
    income taxes of $257                               |        |            |  |             |         |               |  |          |          |       |         |   |       |   | 383    |   |          |        |  |   |         |          | 383      |  
|                              |                                                                                  | Unrealized losses on securities, net of income
    tax benefit of $177                                  |        |            |  |             |         |               |  |          |          |       |         |   |       |   | (263   | ) |          |        |  |   |         |          | (263     | )
|                              |                                                                                  | Gains reclassified into earnings from other
    comprehensive income, net of income tax benefit of $311 |        |            |  |             |         |               |  |          |          |       |         |   |       |   | (463   | ) |          |        |  |   |         |          | (463     | )
|                              |                                                                                  | Net loss                                                                                                |        |            |  |             |         |               |  |          |          |       | (54,502  | ) |       |   |       |   |          |        |  |   |         |          | (54,502  | )
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |         
|                              | Total comprehensive loss                                                         |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         | (54,845  | )       
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |         
|Balances at December 31, 2000 |                                                                                  |                                                                                                         | 11,282 |            |   |             | 876,981 |               |   |          | (193,931 | )     |          |   | 718   |   |        |   | (111,057 | )      |   |   | 583,993 |         
|                              | Employee stock transactions related to
    5,495 shares of common stock, net     |                                                                                                         |        | (1         | ) |             |         | 8,456         |   |          |          |      |          |   |       |  |        |   |          |       |   |   |         | 8,455    |         
|                              | Reissuance of 545,542 shares of common stock
    from treasury                   |                                                                                                         |        |           |   |             |         | 2,231         |   |          |          |      |          |   |       |  |        |   |          | 1,779  |   |   |         | 4,010    |         
|                              | Comprehensive income (loss):                                                     |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |          |         
|                              |                                                                                  | Foreign currency translation adjustments, net of
    income tax benefit of $222                         |        |            |  |             |         |               |  |          |          |       |         |   |       |   | (330   | ) |          |        |  |   |         |          | (330     | )
|                              |                                                                                  | Unrealized gains on securities, net of income
    taxes of $1,104                                       |        |            |  |             |         |               |  |          |          |       |         |   |       |   | 1,641  |   |          |        |  |   |         |          | 1,641    |  
|                              |                                                                                  | Net loss                                                                                                |        |            |  |             |         |               |  |          |          |       | (301,272 | ) |       |   |       |   |          |        |  |   |         |          | (301,272 | )
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |         
|                              | Total comprehensive loss                                                         |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         | (299,961 | )       
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |         
|Balances at December 31, 2001 |                                                                                  |                                                                                                         | 11,281 |            |   |             | 887,668 |               |   |          | (495,203 | )     |          |   | 2,029 |   |        |   | (109,278 | )      |   |   | 296,497 |         
|                              | Employee stock transactions related to
    436,038 shares of common stock, net   |                                                                                                         |        | 44         |   |             |         | 3,680         |   |          |          |      |          |   |       |  |        |   |          |       |   |   |         | 3,724    |         
|                              | Reissuance of 124,212 shares of common stock
    from treasury                   |                                                                                                         |        |           |   |             |         | 434           |   |          |          |      |          |   |       |  |        |   |          | 419    |   |   |         | 853      |         
|                              | Comprehensive loss:                                                              |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |          |         
|                              |                                                                                  | Unrealized losses on securities, net of income
    taxes of $0                                          |        |            |  |             |         |               |  |          |          |       |         |   |       |   | (1,464 | ) |          |        |  |   |         |          | (1,464   | )
|                              |                                                                                  | Foreign currency translation adjustments, net of
    income taxes of $0                                 |        |            |  |             |         |               |  |          |          |       |         |   |       |   | (48    | ) |          |        |  |   |         |          | (48      | )
|                              |                                                                                  | Net loss                                                                                                |        |            |  |             |         |               |  |          |          |       | (146,090 | ) |       |   |       |   |          |        |  |   |         |          | (146,090 | )
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |         
|                              | Total comprehensive loss                                                         |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         | (147,602 | )       
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |         
|Balances at December 31, 2002 |                                                                                  | $                                                                                                       | 11,325 |            |   | $           | 891,782 |               |   | $        | (641,293 | )     |          | $ | 517   |   |        | $ | (108,859 | )      |   | $ | 153,472 |         
|                              |                                                                                  |                                                                                                         |        |            |   |             |         |               |   |          |          |       |          |   |       |   |        |   |          |        |   |   |         |         

See accompanying notes.

51



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##### Table of Contents



BEVERLY ENTERPRISES, INC.

CONSOLIDATED STATEMENTS OF CASH
FLOWS

(In thousands)


|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |            |         |         |         |  
|----------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------- | ---------------------------------------------- | -------------------------------------------------------- | ------ | ------- | -------- | -------- | ------- | ------ | ------- | ---------- | ------- | ------- | ------- | -
|                                                |                                                                                                                            |                                                                                       
|                                                |                                                                                                                            | Years Ended December 31,                                                              
|                                                |                                                                                                                            |                                                                                       
|                                                |                                                                                                                            | 2002                                                                                   |                                                | 2001                                                     |        | 2000   
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |        
|Cash flows from operating activities:           |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                | Net loss                                                                                                                   |                                                                                        | $                                              | (146,090                                                 | )      |         | $        | (301,272 | )       |        | $       | (54,502    | )      
|                                                | Adjustments to reconcile net loss to net cash
    provided by operating activities, including discontinued
    operations: |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |            |        
|                                                |                                                                                                                            | Depreciation and amortization                                                          |                                                |                                                          | 88,943 |         |          |          | 93,001  |        |         |            | 100,061 |        
|                                                |                                                                                                                            | Provision for reserves on patient, notes and
    other receivables, net                |                                                |                                                          | 55,570 |         |          |          | 44,251  |        |         |            | 72,481  |        
|                                                |                                                                                                                            | Amortization of deferred financing costs                                               |                                                |                                                          | 3,096  |         |          |          | 4,051   |        |         |            | 2,571   |        
|                                                |                                                                                                                            | Florida insurance reserve adjustment                                                   |                                                |                                                          | 22,179 |         |          |          |        |        |         |            |        |        
|                                                |                                                                                                                            | California investigation settlement and related
    costs                              |                                                |                                                          | 6,300  |         |          |          |        |        |         |            |        |        
|                                                |                                                                                                                            | Special charges and adjustments related to
    settlements with the federal government |                                                |                                                          | (9,441 | )       |          |          | 77,495  |        |         |            |        |        
|                                                |                                                                                                                            | Asset impairments, workforce reductions and other
    unusual items                    |                                                |                                                          | 85,773 |         |          |          | 238,102 |        |         |            | 43,033  |        
|                                                |                                                                                                                            | Cumulative effect of change in accounting for
    goodwill                             |                                                |                                                          | 77,171 |         |          |          |        |        |         |            |        |        
|                                                |                                                                                                                            | Gains on dispositions of facilities and other
    assets, net                          |                                                |                                                          | (1,855 | )       |          |          | (568    | )      |         |            | (2,013  | )      
|                                                |                                                                                                                            | Deferred income taxes                                                                  |                                                |                                                          |       |         |          |          | 54,901  |        |         |            | (26,262 | )      
|                                                |                                                                                                                            | Insurance related accounts                                                             |                                                |                                                          | 8,411  |         |          |          | 11,830  |        |         |            | 38,376  |        
|                                                |                                                                                                                            | Changes in operating assets and liabilities, net
    of acquisitions and dispositions: |                                                |                                                          |        |         |          |          |         |        |         |            |         |        
|                                                |                                                                                                                            |                                                                                        | Accounts receivable  patient                  |                                                          |        | 7,896   |          |          |         | (3,523 | )       |            |         | (78,608 | )      
|                                                |                                                                                                                            |                                                                                        | Operating supplies                             |                                                          |        | 3,081   |          |          |         | 567    |         |            |         | 2,367   |        
|                                                |                                                                                                                            |                                                                                        | Prepaid expenses and other receivables         |                                                          |        | 988     |          |          |         | 728    |         |            |         | (3,188  | )      
|                                                |                                                                                                                            |                                                                                        | Accounts payable and other accrued liabilities |                                                          |        | (85,335 | )        |          |         | 8,846  |         |            |         | (47,144 | )      
|                                                |                                                                                                                            |                                                                                        | Income taxes payable                           |                                                          |        | 9,790   |          |          |         | 188    |         |            |         | 1,348   |        
|                                                |                                                                                                                            |                                                                                        | Other, net                                     |                                                          |        | (9,844  | )        |          |         | (7,700 | )       |            |         | (11,510 | )      
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                |                                                                                                                            |                                                                                        |                                                | Total adjustments                                        |        |         | 262,723  |          |         |        | 522,169 |            |         |         | 91,512  |  
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                |                                                                                                                            |                                                                                        |                                                | Net cash provided by operating activities                |        |         | 116,633  |          |         |        | 220,897 |            |         |         | 37,010  |  
|Cash flows from investing activities:           |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                | Capital expenditures                                                                                                       |                                                                                        |                                                | (100,103                                                 | )      |         |          | (89,401  | )       |        |         | (76,027    | )      
|                                                | Proceeds from dispositions of facilities and
    other assets                                                              |                                                                                        |                                                | 169,471                                                  |        |         |          | 20,795   |         |        |         | 24,335     |        
|                                                | Payments for acquisitions, net of cash acquired                                                                            |                                                                                        |                                                |                                                         |        |         |          | (4,024   | )       |        |         | (3,797     | )      
|                                                | Collections on notes receivable                                                                                            |                                                                                        |                                                | 1,616                                                    |        |         |          | 238      |         |        |         | 17,804     |        
|                                                | Proceeds from (payments for) designated funds, net                                                                         |                                                                                        |                                                | (260                                                     | )      |         |          | (8,950   | )       |        |         | 503        |        
|                                                | Other, net                                                                                                                 |                                                                                        |                                                | (8,389                                                   | )      |         |          | (5,312   | )       |        |         | (4,555     | )      
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                |                                                                                                                            |                                                                                        |                                                | Net cash provided by (used for) investing
    activities |        |         | 62,335   |          |         |        | (86,654 | )          |         |         | (41,737 | )
|Cash flows from financing activities:           |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                | Revolver borrowings                                                                                                        |                                                                                        |                                                |                                                         |        |         |          | 442,000  |         |        |         | 1,508,000  |        
|                                                | Repayments of Revolver borrowings                                                                                          |                                                                                        |                                                |                                                         |        |         |          | (606,000 | )       |        |         | (1,458,000 | )      
|                                                | Proceeds from issuance of long-term debt                                                                                   |                                                                                        |                                                | 5,000                                                    |        |         |          | 205,248  |         |        |         |           |        
|                                                | Repayments of long-term debt                                                                                               |                                                                                        |                                                | (116,496                                                 | )      |         |          | (106,150 | )       |        |         | (39,217    | )      
|                                                | Repayments of off-balance sheet financing                                                                                  |                                                                                        |                                                | (42,901                                                  | )      |         |          |         |         |        |         |           |        
|                                                | Purchase of common stock for treasury                                                                                      |                                                                                        |                                                |                                                         |        |         |          |         |         |        |         | (3,874     | )      
|                                                | Proceeds from exercise of stock options                                                                                    |                                                                                        |                                                | 1,699                                                    |        |         |          | 3,648    |         |        |         | 81         |        
|                                                | Deferred financing costs                                                                                                   |                                                                                        |                                                | (168                                                     | )      |         |          | (9,554   | )       |        |         | (1,007     | )      
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                |                                                                                                                            |                                                                                        |                                                | Net cash provided by (used for) financing
    activities |        |         | (152,866 | )        |         |        | (70,808 | )          |         |         | 5,983   |  
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|Net increase in cash and cash equivalents       |                                                                                                                            |                                                                                        | 26,102                                         |                                                          |        |         | 63,435   |          |         |        | 1,256   |           
|Cash and cash equivalents at beginning of year  |                                                                                                                            |                                                                                        | 89,343                                         |                                                          |        |         | 25,908   |          |         |        | 24,652  |           
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|Cash and cash equivalents at end of year        |                                                                                                                            | $                                                                                      | 115,445                                        |                                                          |        | $       | 89,343   |          |         | $      | 25,908  |           
|                                                |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|Supplemental schedule of cash flow information: |                                                                                                                            |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |           
|                                                | Cash paid (received) during the year for:                                                                                  |                                                                                        |                                                |                                                          |        |         |          |          |         |        |         |            |        
|                                                |                                                                                                                            | Interest, net of amounts capitalized                                                   |                                                | $                                                        | 65,658 |         |          | $        | 76,358  |        |         | $          | 75,839  |        
|                                                |                                                                                                                            | Income tax payments (refunds), net                                                     |                                                |                                                          | (3,705 | )       |          |          | 6,299   |        |         |            | 2,652   |        

See accompanying notes.

52



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##### Table of Contents



BEVERLY ENTERPRISES, INC.

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS

Years ended December 31, 2002, 2001 and
2000


1. Summary of Significant Accounting
Policies



| |                      
| | ---------------------
| | Basis of Presentation

References herein to the Company include Beverly
Enterprises, Inc. and its wholly owned subsidiaries.

On December 31, 2002, we operated
452 nursing facilities, 29 assisted living centers, 151
outpatient clinics and 49 hospice and home care centers in
32 states and the District of Columbia. Our operations also
include rehabilitation therapy services. Our consolidated
financial statements include the accounts of the Company and all
of its wholly owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated.



| |  |            
| |  | -----------
| |  | Restatement

The accompanying consolidated financial
statements have been restated to report facilities, clinics and
other assets which have been sold, closed or classified as
held-for-sale during the six months ended June 30, 2003 as
discontinued operations.



| |                 
| | ----------------
| | Use of Estimates

Generally accepted accounting principles require
management to make estimates and assumptions when preparing
financial statements that affect:



| |   |                                                                                                
| | - | -----------------------------------------------------------------------------------------------
| |  | the reported amounts of assets and liabilities at
    the date of the financial statements; and
|
| |  | the reported amounts of revenues and expenses
    during the reporting period.                 

They also require management to make estimates
and assumptions regarding contingent assets and liabilities at
the date of the financial statements. Actual results could
differ from those estimates.



| |                          
| | -------------------------
| | Cash and Cash Equivalents

Cash and cash equivalents include time deposits
and certificates of deposit with original maturities of three
months or less.



| |                       
| | ----------------------
| | Property and Equipment

Property and equipment is stated at the lower of
carrying value or fair value, or where appropriate, the present
value of the related capital lease obligations less accumulated
amortization. Depreciation and amortization are computed using
the straight-line method over the estimated useful lives of the
assets.



| |                  
| | -----------------
| | Intangible Assets

Goodwill ($87.9 million and
$197.1 million at December 31, 2002 and 2001,
respectively, net of accumulated amortization of
$24.5 million and $52.2 million, respectively) and
other indefinite lived intangible assets ($11.4 million and
$11.1 million at December 31, 2002 and 2001
respectively, net of accumulated amortization of
$5.4 million and $5.6 million, respectively) are
stated at the lower of carrying value or fair value. In July
2001, Statement of Financial Accounting Standards No. 142,
Goodwill and Other Intangible
Assets(SFAS No. 142) was issued, which
established new rules on the accounting for goodwill and other
intangible assets. Under SFAS No. 142, goodwill and
intangible assets with indefinite lives are no longer amortized;
however, they are subject to annual impairment tests as
prescribed by the Statement. Intangible assets with definite
lives will continue to be amortized over their estimated useful
lives. With respect to our goodwill and intangible assets,
SFAS No. 142 was effective for us beginning
January 1, 2002.

53



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                             
|-- | ------------------------------------------------------------
|1. | Summary of Significant Accounting
    Policies  (Continued)

Following is a summary of adjusted operating
results reflecting the effects of adopting
SFAS No. 142, net of income taxes, for the periods
ended December 31 (in thousands, except per share amounts):

|                  |                               |                          |          |      |  |      |          |       |  |   |         |       | 
|----------------- | ----------------------------- | ------------------------ | -------- | ---- |  | ---- | -------- | ----- |  | - | ------- | ----- | 
|                  |                               |                         
|                  |                               | Years Ended December 31,
|                  |                               |                         
|                  |                               | 2002                     |          | 2001 |  | 2000
|                  |                               |                          |          |      |  |     
|Reported net loss |                               | $                        | (146,090 | )    |  | $    | (301,272 | )     |  | $ | (54,502 | )    
|Add back:         |                               |                          |          |      |  |      |          |       |  |   |         |      
|                  | Goodwill amortization         |                          |          |     |  |      |          | 3,917 |  |   |         | 4,465 | 
|                  | Operating rights amortization |                          |          |     |  |      |          | 252   |  |   |         | 268   | 
|                  |                               |                          |          |      |  |      |          |       |  |   |         |      
|Adjusted net loss |                               | $                        | (146,090 | )    |  | $    | (297,103 | )     |  | $ | (49,769 | )    
|                  |                               |                          |          |      |  |      |          |       |  |   |         |      

|                                    |                               |                          |       |      |  |      |       |      |  |   |       |      | 
|----------------------------------- | ----------------------------- | ------------------------ | ----- | ---- |  | ---- | ----- | ---- |  | - | ----- | ---- | 
|                                    |                               |                         
|                                    |                               | Years Ended December 31,
|                                    |                               |                         
|                                    |                               | 2002                     |       | 2001 |  | 2000
|                                    |                               |                          |       |      |  |     
|Reported diluted net loss per share |                               | $                        | (1.39 | )    |  | $    | (2.90 | )    |  | $ | (0.53 | )   
|Add back:                           |                               |                          |       |      |  |      |       |      |  |   |       |     
|                                    | Goodwill amortization         |                          |       |     |  |      |       | 0.04 |  |   |       | 0.04 | 
|                                    | Operating rights amortization |                          |       |     |  |      |       |     |  |   |       |     | 
|                                    |                               |                          |       |      |  |      |       |      |  |   |       |     
|Adjusted diluted net loss per share |                               | $                        | (1.39 | )    |  | $    | (2.86 | )    |  | $ | (0.49 | )   
|                                    |                               |                          |       |      |  |      |       |      |  |   |       |     

In accordance with this standard, we performed
the initial screening for potential impairments of our
indefinite lived intangible assets by reporting unit as of
January 1, 2002. We determined the estimated fair values of
each reporting unit using discounted cash flow analyses, along
with independent source data related to recent transactions.
Based on this determination, we identified potential goodwill
impairments at our Matrix and Home Care Services 
Care Focus reporting units.

We engaged a qualified independent valuation
group to determine the estimated fair values of each of these
reporting units. Their valuation analysis was completed in the
fourth quarter of 2002, and led to the recording of a cumulative
effect of a change in accounting for goodwill of
$77.2 million as of January 1, 2002, including
$70.6 million for Matrix and $6.6 million for Care
Focus. In accordance with SFAS No. 142, we test
goodwill for impairment on an annual basis as of October 1
for each of our reporting units. We also test goodwill for
impairment, between annual tests, if an event occurs that would
more likely than not reduce the fair value of a reporting unit
below its carrying amount. Based on the October 1, 2002
analysis, no additional impairment of goodwill or other
indefinite lived intangibles was identified.

Following is a summary of our finite lived
intangible assets and related accumulated amortization, by major
classification, which are included in Other assets
at December 31 (in thousands):

|                              |       |            |       |              |  |                |       |       |  |      |       |       |  |   |       |       |  |   |       |       |  |   |       |       | 
|----------------------------- | ----- | ---------- | ----- | ------------ |  | -------------- | ----- | ----- |  | ---- | ----- | ----- |  | - | ----- | ----- |  | - | ----- | ----- |  | - | ----- | ----- | 
|                              |       |            |       |              |  |                |       |       |  |     
|                              |       |            |       | Accumulated  |  |               
|                              |       | Cost Basis |       | Amortization |  | Carrying Value
|                              |       |            |       |              |  |               
|                              |       | 2002       |       | 2001         |  | 2002           |       | 2001  |  | 2002 |       | 2001 
|                              |       |            |       |              |  |                |       |       |  |      |       |      
|Operating rights and licenses |       | $          | 2,161 |              |  | $              | 4,440 |       |  | $    | 114   |       |  | $ | 2,003 |       |  | $ | 2,047 |       |  | $ | 2,437 |      
|Leasehold interests           |       |            | 2,134 |              |  |                | 3,900 |       |  |      | 2,053 |       |  |   | 3,747 |       |  |   | 81    |       |  |   | 153   |      
|                              |       |            |       |              |  |                |       |       |  |      |       |       |  |   |       |       |  |   |       |       |  |   |       |      
|                              | Total |            | $     | 4,295        |  |                | $     | 8,340 |  |      | $     | 2,167 |  |   | $     | 5,750 |  |   | $     | 2,128 |  |   | $     | 2,590 | 
|                              |       |            |       |              |  |                |       |       |  |      |       |       |  |   |       |       |  |   |       |       |  |   |       |      

The weighted-average amortization period for
these intangibles is approximately 18 years, including
20 years for operating rights and licenses and
16 years for leasehold interests. Amortization expense
related to

54



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000


1. Summary of Significant Accounting
Policies  (Continued)

these intangibles for the years ended
December 31, 2002, 2001 and 2000 was $300,000, $400,000 and
$800,000, respectively. Our estimated aggregate annual
amortization expense for these intangibles for each of the next
five years is approximately $100,000.

On an ongoing basis, we review the carrying value
of our finite lived intangibles in light of any events or
circumstances that indicate they may be impaired or that the
amortization period may need to be adjusted and make any
necessary adjustments. As of December 31, 2002, we do not
believe there are any indications that the carrying values, or
the useful lives, of these assets need to be adjusted. We have
no residual values assigned to our finite lived intangible
assets.



| |                                
| | -------------------------------
| | Impairment of Long-Lived Assets

In August 2001, the FASB issued Statement of
Financial Accounting Standards No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets
(SFAS No. 144), which addresses financial
accounting and reporting for the impairment of long-lived assets
(other than goodwill and indefinite lived intangibles) and for
long-lived assets to be disposed of. SFAS No. 144
supersedes Statement of Financial Accounting Standards
No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of
(SFAS No. 121) and Accounting Principles Board
Opinion No. 30, Reporting the Results of
Operations  Reporting the effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions. We adopted
the provisions of SFAS No. 144 in 2002. Similar to
SFAS No. 121, SFAS No. 144 requires
impairment losses to be recognized for long-lived assets used in
operations when indicators of impairment are present and the
estimated undiscounted cash flows are not sufficient to recover
the assets carrying amounts. The impairment loss is
measured by comparing the estimated fair value of the asset,
usually based on discounted cash flows, to its carrying amount.
In accordance with SFAS No. 144, we assess the need
for an impairment write-down when such indicators of impairment
are present. (See Note 4.)



| |                        
| | -----------------------
| | Discontinued Operations

SFAS No. 144 also addresses the
accounting for and disclosure of long-lived assets to be
disposed of by sale. Under SFAS No. 144, when a
long-lived asset or group of assets (disposal group) meets
certain criteria set forth in the Statement, including a
commitment by the Company to a plan to sell the long-lived asset
(disposal group) within one-year:



| |   |                                                                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | the long-lived asset (disposal group) will be
    measured at the lower of its carrying value or fair value less
    costs to sell and classified as held for sale on the
    consolidated balance sheet; and
|
| |  | the related operations of the long-lived asset
    (disposal group) will be reported as discontinued operations in
    the consolidated statement of operations, with all comparable
    periods restated.   

At December 31, 2002, Matrix and MK Medical
met the criteria set forth in SFAS No. 144 to be
classified as held for sale. The statements of operations have
been restated for all periods presented to report as
discontinued operations 27 nursing facilities, two assisted
living centers and our Care Focus business unit which were
disposed of during the six months ended June 30, 2003. (See
Note 5.)



| |                              
| | -----------------------------
| | Transfers of Financial Assets

The Company has an agreement to sell, on an
ongoing basis, certain of its patient accounts receivable
through a revolving sales structure and retains servicing
responsibilities for the transferred receivables. The Company
accounts for the transfers of receivables as sales in accordance
with Statement of Financial

55



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                             
|-- | ------------------------------------------------------------
|1. | Summary of Significant Accounting
    Policies  (Continued)

Accounting Standards No. 140, Accounting
for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities(SFAS
No. 140). Accordingly, the related patient accounts
receivable are not included in the consolidated balance sheets.

During 2002, 2001 and 2000 the Company, through
its wholly owned subsidiary Beverly Health and Rehabilitation
Services, Inc. (BHRS), sold on a revolving basis
certain Medicaid and Veterans Administration (VA)
patient accounts receivable to a non-consolidated bankruptcy
remote, qualifying special purpose entity (QSPE),
Beverly Funding Corporation (BFC) at a discount of
1%. These daily transactions constitute true sales of
receivables for which BFC bears the risk of collection.

Activities related to the revolving sales
structure with BFC were as follows for the years ended
December 31 (in thousands):

|                                |  |      |         |      |  |      |         |  |  |   |         | 
|------------------------------- |  | ---- | ------- | ---- |  | ---- | ------- |  |  | - | ------- | 
|                                |  | 2002 |         | 2001 |  | 2000
|                                |  |      |         |      |  |     
|New receivables sold            |  | $    | 867,772 |      |  | $    | 801,707 |  |  | $ | 810,163 | 
|Cash collections remitted       |  |      | 857,731 |      |  |      | 818,168 |  |  |   | 794,953 | 
|Fees received for servicing     |  |      | 2,119   |      |  |      | 2,085   |  |  |   | 2,233   | 
|Loss on the sale of receivables |  |      | 8,678   |      |  |      | 8,017   |  |  |   | 8,102   | 

BHRS provides invoicing and collection services
related to the receivables for a market-based servicing fee.
BHRS recognizes a loss for the 1% discount at the time of sale
which is included in Other operating and administrative
costs and expenses and in Net cash provided by
operating activities in our consolidated financial
statements. The loss on sale and the servicing fee revenue are
not considered material to the Companys operating results
or cash flows.

At December 31, 2002 and 2001, the Company
had an investment in BFC of approximately $31.0 million and
$33.0 million, respectively, which approximated the excess
level of receivables held by BFC to over collateralize
$70.0 million of Medium-Term Notes (the Medium-Term
Notes). The investment is included in Other
assets in the consolidated balance sheet and is subject to
periodic collectibility review. The primary factor in the
collectibility review is the determination of the net realizable
value of the excess collateral. The net realizable value is
determined through a collectibility analysis of the receivables
purchased and held by BFC. This collectibility analysis
considers historical collection experience and is adjusted
according to the aging of the receivables. The carrying value of
the asset is adjusted downward when the analysis indicates that
it will not be recovered.

BFC has $70.0 million of Medium-Term Notes,
which are collateralized by outstanding Medicaid and VA patient
accounts receivable purchased from BHRS. BFC is required to
maintain receivables in excess of the outstanding balance of the
Medium-Term Notes, based on a calculated formula in the Master
Sale and Servicing Agreement. Based on ongoing reviews of
BFCs operations, the Company believes that BFC meets the
criteria set forth in SFAS No. 140, and related
interpretive guidance, to be a QSPE. Therefore, the assets and
liabilities of BFC are not consolidated with Beverly
Enterprises, Inc. At December 31, 2002, BFC had total
assets of approximately $102.7 million, pledged as
collateral for the Medium-Term Notes. The assets of BFC cannot
be used to satisfy claims of the Company or any of its
subsidiaries. The Medium-Term Notes currently mature in March
2005; however, according to the provisions of the notes,
principal payments on these obligations, calculated based on
quarterly collections of the underlying receivables, begin in
the second quarter of 2004. Based on current collection trends,
it is expected that these obligations will be paid off by the
third quarter of 2004.

56



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                             
|-- | ------------------------------------------------------------
|1. | Summary of Significant Accounting
    Policies  (Continued)



| |          
| | ---------
| | Insurance

General and professional liability costs for the
long-term care industry have become increasingly expensive and
difficult to estimate. In addition, insurance coverage for
patient care liability and certain other risks, for nursing
facilities specifically and companies in general, has become
increasingly difficult to obtain. When obtained, insurance
carriers are often requiring companies to significantly increase
their liability retention levels and/or pay substantially higher
premiums for reduced coverage. There exists a risk that any of
these insurance companies may become insolvent and unable to
fulfill their obligation to defend, pay or reimburse us when
that obligation becomes due. Although we believe the companies
we have purchased insurance from are solvent, in light of the
dramatic changes occurring in the insurance industry in recent
years, we cannot be assured that they will remain solvent and
able to fulfill their obligations.

We believe that adequate provision has been made
in the financial statements for liabilities that may arise out
of patient care and related services provided to date. These
provisions are based primarily upon the results of independent
actuarial valuations, prepared by actuaries with long-term care
industry experience. These independent valuations are formally
prepared twice a year using the most recent trends of claims,
settlements and other relevant data. In addition to the
actuarial estimate of claim payments, our provision for
insurance includes accruals for insurance premiums for the
coverage period and our estimate of any experience adjustments
to premiums.

Based on the results of the mid-year actuarial
study completed in mid-July of 2002, performed by our
independent actuaries, we recorded a pre-tax charge of
$43.3 million related to an increase in our reserves for
prior policy year patient care liability costs, including
$22.2 million attributable to our previously operated
Florida facilities. We completed the sale of our Florida
facilities in January 2002; however, we are liable for patient
care liability claims and other costs for those facilities
through the date of sale, subject to insurance.

We insure certain of our auto liability, general
liability, professional liability and workers compensation
risks through various types of loss sensitive insurance policies
with affiliated and unaffiliated insurance companies, some of
which are subject to reinsurance agreements between the insurer
and Beverly Indemnity, Ltd., a wholly owned subsidiary of the
Company. For our general and professional liabilities, we are
typically responsible for the first dollar of each claim, up to
a self-insurance limit determined by the individual policies,
subject to aggregate limits for certain policy years. The
liabilities for incurred losses retained by Beverly and not
covered by insurance are estimated by the independent actuaries
and are discounted on our financial statements at 10% to their
present value using expected loss payment timing patterns. The
discount rate is based upon our best estimate of the incremental
borrowing rate that would be required to fund these liabilities
with uncollateralized debt. A reduction in the discount rate by
one-half of a percentage point would have resulted in an
additional pre-tax charge of approximately $1.4 million for
the year ended December 31, 2002. The discounted insurance
liabilities are included in the consolidated balance sheet
captions as follows at December 31 (in thousands):

|                                      |  |      |         |      |  |   |         | 
|------------------------------------- |  | ---- | ------- | ---- |  | - | ------- | 
|                                      |  | 2002 |         | 2001
|                                      |  |      |         |     
|Accrued wages and related liabilities |  | $    | 2,574   |      |  | $ | 1,996   | 
|General and professional liabilities  |  |      | 77,025  |      |  |   | 51,784  | 
|Other liabilities and deferred items  |  |      | 94,414  |      |  |   | 119,910 | 
|                                      |  |      |         |      |  |   |         | 
|                                      |  | $    | 174,013 |      |  | $ | 173,690 | 
|                                      |  |      |         |      |  |   |         | 

On an undiscounted basis, the total retained
liabilities as of December 31, 2002 and 2001 were
approximately $208.0 million and $203.8 million,
respectively. As of December 31, 2002, approximately

57



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                             
|-- | ------------------------------------------------------------
|1. | Summary of Significant Accounting
    Policies  (Continued)

$2.8 million in funds (the Beverly
Indemnity funds) are restricted for the payment of insured
claims. In addition, we anticipate that approximately
$20.5 million of our existing cash at December 31,
2002, while not legally restricted, will be utilized primarily
to fund certain workers compensation, general and
professional liability claims and expenses. We do not expect to
use this cash for other purposes.



| |                   
| | ------------------
| | Stock-Based Awards

On December 31, 2002, the FASB issued
Statement of Financial Accounting Standards No. 148,
Accounting for Stock-Based Compensation 
Transition and Disclosure
(SFAS No. 148). SFAS No. 148
amends Statement of Financial Accounting Standards No. 123,
Accounting for Stock-Based Compensation
(SFAS No. 123) to provide alternative
methods of transition for an entity that changes to the fair
value method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 amends the
disclosure provisions of SFAS No. 123 and Accounting
Principles Board Opinion No. 28, Interim Financial
Reporting (APB 28) to require expanded and
more prominent disclosure of the effects of an entitys
accounting policy with respect to stock-based employee
compensation on reported net income and earnings per share in
annual and interim financial statements and allows companies to
continue to use the intrinsic value method of APB 25.
SFAS No. 148 is effective for us as of
December 31, 2002.

We continue to use the intrinsic value method to
account for our stock options. Accordingly, we do not recognize
compensation expense for our stock option grants, which are
issued at fair market value on the date of grant. However, we
recognize compensation expense for our restricted stock grants
at the fair market value of our Common Stock on the date of
grant over the respective vesting periods on a straight-line
basis. See Note 10 for the pro forma effects on our
reported net loss and diluted net loss per share if we
recognized compensation expense on all stock-based awards and
other disclosures as required by SFAS No. 148.



| |         
| | --------
| | Revenues

Our revenues are derived primarily from providing
long-term healthcare services. Approximately 80% of our net
operating revenues is derived from federal and state medical
assistance programs. Approximately 50% and 44% of our net
patient accounts receivable at December 31, 2002 and 2001,
respectively, are due from such programs. We record revenues
when services are provided at standard charges adjusted to
amounts estimated to be received under governmental programs and
other third-party contractual arrangements based on contractual
terms and historical experience. These revenues and receivables
are reported at their estimated net realizable amounts and are
subject to audit and retroactive adjustment.

Retroactive adjustments are estimated in the
recording of revenues in the period the related services are
rendered. These amounts are adjusted in future periods as
adjustments become known or as cost reporting years are no
longer subject to audits, reviews or investigations. Due to the
complexity of the laws and regulations governing the Medicare
and Medicaid programs, there is at least a possibility that
recorded estimates will change by a material amount in the near
term. See Note 3 for a discussion of a settlement with the
federal government related to Medicare cost reimbursement issues
and Note 9 for the estimated potential overpayment from
government programs resulting from an internal investigation of
our home medical equipment unit. Excluding these items, changes
in estimates related to third party receivables resulted in an
increase in net operating revenues of approximately
$1.8 million and $8.2 million for the years ended
December 31, 2002 and 2000, respectively, and a decrease in
net operating revenues of approximately $2.2 million for
the year ended December 31, 2001.

Compliance with laws and regulations governing
the Medicare and Medicaid programs is subject to government
review and interpretation, as well as significant regulatory
action including fines, penalties, and

58



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                             
|-- | ------------------------------------------------------------
|1. | Summary of Significant Accounting
    Policies  (Continued)

possible exclusion from the Medicare and Medicaid
programs. In addition, under the Medicare program, if the
federal government makes a formal demand for reimbursement, even
related to contested items, payment must be made for those items
before the provider is given an opportunity to appeal and
resolve the issue.



| |                                                 
| | ------------------------------------------------
| | Receivables and Concentration of Credit
    Risk

We have significant accounts and notes receivable
whose collectibility or realizability is dependent upon the
performance of certain governmental programs, primarily Medicare
and Medicaid. These receivables represent our only concentration
of credit risk. We do not believe there are significant credit
risks associated with these governmental programs. We believe
that an adequate provision, based on historical experience, has
been made for the possibility of a portion of these and other
receivables becoming uncollectible and continually monitor and
adjust these allowances as necessary. In establishing our
estimate of uncollectible accounts and notes, we consider our
historical collection experience, the aging of the account and
the payor classification. Private pay accounts usually represent
our highest collectibility risk. Certain interest-bearing notes
receivable are placed on a nonaccrual basis when uncertainty
arises as to the collectibility of principal or interest. Notes
receivable of $9.5 million and $5.6 million at
December 31, 2002 and 2001, respectively, were on a
nonaccrual basis and specific collectibility allowances of
$6.9 million and $4.3 million, respectively, have been
recorded on these nonaccrual notes.



| |             
| | ------------
| | Income Taxes

We follow the liability method in accounting for
income taxes. The liability method requires deferred tax assets
and liabilities to be recorded at currently enacted tax rates
based on the difference between the tax basis of assets and
liabilities and their carrying amounts for financial reporting
purposes, referred to as temporary differences. Due to the
uncertainty of generating future income necessary to realize
certain deferred tax benefits, primarily relating to net
operating loss carryforwards, we have established a full
valuation allowance on our net deferred tax assets. (See
Note 11.)



| |                            
| | ---------------------------
| | Comprehensive Income (Loss)

Comprehensive income (loss) includes charges and
credits to stockholders equity not included in net loss.
Accumulated other comprehensive income, net of income taxes,
primarily consists of net unrealized gains on available-for-sale
securities of $512,000 and $2.0 million at
December 31, 2002 and 2001, respectively.

During the year ended December 31, 2000, we
transferred one of our securities from the available-for-sale
category to the trading category. As a result of such transfer,
we reversed $500,000 of unrealized gains, net of income taxes,
and recognized a pre-tax gain of $1.5 million in 2000.
During 2001, this security was sold and we recognized an
additional pre-tax gain of $300,000. These gains were included
in net operating revenues.



| |                         
| | ------------------------
| | New Accounting Standards

In January 2003, the FASB issued Interpretation
No. 46, Consolidation of Variable Interest Entities,
(FIN 46). FIN 46 requires a variable
interest entity (VIE), sometimes known as a special
purpose entity, to be consolidated by a company when that
company is subject to a majority of the risk of loss from the
VIEs activities or entitled to receive a majority of the
VIEs residual returns, or both. FIN 46 is effective
on July 1, 2003 as it relates to VIEs created prior to
February 1, 2003. Based on our initial evaluation of
FIN 46, it is possible that the special purpose entity
lessor in the lease arrangement may need to be consolidated with
the Company beginning in the third quarter of 2003. We are
continuing to evaluate the consolidation and transition rules
under FIN 46, however if the special purpose entity lessor
needs to be consolidated, the leased

59



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000


1. Summary of Significant Accounting
Policies  (Continued)

assets will be consolidated at their depreciated
cost and recorded as capital leased assets, with the difference
between the historical and the depreciated cost on the date of
consolidation being recorded as the cumulative effect of an
accounting change. The remaining obligation as of July 1,
2003 ($69.5 million as of December 31, 2002 and
expected to be $52.7 million as of July 1, 2003) would
be recorded as a capital lease obligation on the Companys
consolidated balance sheet. The assets would be depreciated and
payments on the obligations would be recorded as interest
expense until the obligations are satisfied. FIN 46 is not
expected to impact our accounting treatment of BFC. (See
Transfers of Financial Assets herein.)

In November 2002, the FASB issued Interpretation
No. 45, Guarantors Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others (FIN 45).
FIN 45 requires certain guarantees to be recorded at fair
value when a transaction is consummated. This differs from
current practice, which is generally to record a liability only
when a loss is probable and reasonably estimable. FIN 45
applies to guarantee contracts having financial guarantees,
performance guarantees, indemnification or indirect guarantees
of the indebtedness of others. FIN 45 also requires a
guarantor to make significant new disclosures, even when the
likelihood of making any payments under the guarantee is remote.
We have complied with the new disclosure requirements, which are
effective for us as of December 31, 2002. The recognition
and measurement provisions of FIN 45 are applicable on a
prospective basis to guarantees issued or modified after
December 31, 2002. We are continuing our review of the
implications of FIN 45, which may impact our accounting for
future dispositions.

In July 2002, the FASB issued Statement of
Financial Accounting Standards No. 146, Accounting for
Costs Associated with Exit or Disposal Activities
(SFAS No. 146). SFAS No. 146
requires that a liability for a cost associated with an exit or
disposal activity be recognized and measured at its fair value
when the liability is incurred rather than when an entity
commits to an exit plan. Depending on the terms of the exit or
disposal, under SFAS No. 146, severance pay could be
recognized over time or up front. Also, SFAS No. 146
requires that a liability be recognized, measured at its fair
value, when an entity ceases operation at a location covered
under a pre-existing contract, such as a lease. Fair value in
this case would represent the present value of the future
payment obligations net of assumed receipts, such as sublease
income, at current market value. SFAS No. 146 is
effective for all exit or disposal activities initiated after
December 31, 2002. Many of the provisions of
SFAS No. 146 affect only the timing of when a
liability is recorded and not the amount of the liability.
Therefore, we do not expect there will be a material effect on
our consolidated financial position or results of operations as
a result of adopting SFAS No. 146.

In April 2002, the FASB issued Statement of
Financial Accounting Standards No. 145, Rescission of
FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections
(SFAS No. 145). This Statement eliminates
extraordinary accounting treatment for reporting gains or losses
on debt extinguishments, and amends certain other existing
accounting pronouncements. The provisions of this Statement are
effective for the Company beginning with the first quarter of
2003 and require restatement of prior year debt
extinguishment-related extraordinary items.



| |      
| | -----
| | Other

Certain prior year amounts have been reclassified
to conform with the 2002 financial statement presentation.
Assets held for sale are reported based on their status as of
the balance sheet date.

2. California Investigation Settlement
and Related Costs

On August 1, 2002, the Company and the State
of California reached an agreement on the settlement of an
investigation by the Attorney Generals office and the
District Attorney of Santa Barbara County of patient

60



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                                        
|-- | -----------------------------------------------------------------------
|2. | California Investigation Settlement and
    Related Costs  (Continued)

care issues in several California nursing
facilities. In accordance with the terms of the settlement
agreement, Beverly Enterprises  California, Inc.
entered a plea of nolo contendere to two felony charges
under Californias Elder Abuse statute and paid a fine of
$54,000 related to the plea. In addition, Beverly
Enterprises  California, Inc. reimbursed the Attorney
General and the Santa Barbara County District Attorney
$533,000 for the costs of their investigations and will pay a
$2.0 million civil penalty in four equal, quarterly
installments of $500,000, which began in the third quarter of
2002.

A Permanent Injunction (Permanent
Injunction) was entered requiring nursing facilities in
California, operated by subsidiaries of the Company, to comply
with all applicable laws and regulations and conduct certain
training and education programs. The Company recorded a pre-tax
charge against earnings of $6.3 million during the second
quarter of 2002 to reflect the terms of the settlement and
related costs, and we expect to incur additional annual costs
for implementation of the Permanent Injunction.

Certain revisions were made to our Corporate
Integrity Agreement (CIA) in conjunction with the
Permanent Injunction requiring:



| |   |                                                                                                                                                                                                                                                            
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | additional training for clinical associates,
    contractors and agents who perform services in our California
    nursing facilities; and                                                                                                                 
|
| |  | hiring an independent quality monitor to assess
    the effectiveness, reliability and thoroughness of our quality
    care systems and our response to quality of care issues in our
    nursing facilities in California, Arizona, Hawaii and Washington.



|   |                                                                                       
|-- | --------------------------------------------------------------------------------------
|3. | Special Charges and Adjustments Related to
    Settlements with the Federal Government

Effective October 15, 2002, we entered into
a settlement agreement with CMS (the Settlement
Agreement), which resolved certain reimbursement issues
relating to: (1) costs of services provided to
Medicare patients during 1996 through 1998 under the federal
governments former cost-reimbursement system;
(2) co-payments due from Medicare beneficiaries, who were
also eligible for Medicaid, for the years 1996 through 2000; and
(3) all outstanding issues from the Allocation
Investigations (see Note 9). Under the terms of the
Settlement Agreement, we paid CMS $35.0 million in November
2002.

Because the issues related to this matter arose
prior to December 31, 2001 and an offer to settle was made
prior to releasing our 2001 consolidated financial statements,
we reflected a pre-tax charge related to this matter of
$77.5 million in our 2001 results of operations, including:



| |   |                                                                                                                                                      
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $35.0 million related to an estimated cash
    payment to CMS, which was made in November 2002;                                                      
|
| |  | $81.5 million related to the write-off of
    Medicare cost report receivables for 1996 through 1998 and
    co-payment issues for 1999 and 2000; and
|
| |  | partially offset by $39.0 million in
    reserves established in conjunction with the 2000 investigation
    settlements as discussed below.         

On February 3, 2000, we entered into a
series of separate agreements with the U.S. Department of
Justice and the Office of Inspector General of the Department of
Health and Human Services. These agreements settled the
Allocation Investigations. In anticipation of settlement, we
recorded special pre-tax charges of approximately
$202.4 million during the year ended
December 31, 1999.

In connection with the final settlement with CMS
in 2002, we were able to revise the amount of legal fees and
other costs we originally expected to incur in conjunction with
these settlements. Accordingly, legal and related fees accrued
for these matters in prior years were reduced by
$9.4 million during 2002.

61



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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                                                                        
|-- | -------------------------------------------------------------------------------------------------------
|3. | Special Charges and Adjustment Related to
    Settlements with the Federal
    Government  (Continued)

The remaining obligations and reserves related to
these matters are included in the consolidated balance sheet
captions as follows at December 31 (in thousands):

|                                          |  |      |        |      |  |   |        | 
|----------------------------------------- |  | ---- | ------ | ---- |  | - | ------ | 
|                                          |  | 2002 |        | 2001
|                                          |  |      |        |     
|Federal government settlement obligations |  | $    | 11,915 |      |  | $ | 10,891 | 
|Other accrued liabilities                 |  |      |       |      |  |   | 8,267  | 
|Other liabilities and deferred items      |  |      | 61,976 |      |  |   | 73,968 | 
|                                          |  |      |        |      |  |   |        | 
|                                          |  | $    | 73,891 |      |  | $ | 93,126 | 
|                                          |  |      |        |      |  |   |        | 

4. Asset Impairments, Workforce
Reductions and Other Unusual Items

During 2002, we recorded pre-tax charges totaling
approximately $77.5 million, including $69.6 million
for asset impairments and $7.9 million for workforce
reductions. The asset impairment charges of $69.6 million
consist of the following:



| |   |                                                                                                                                                                                                                                                                                                                                                                  
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $72.6 million write-down of property and
    equipment on certain nursing facilities whose book value
    exceeded estimated fair value when tested for impairment. This
    impairment was determined in accordance with
    SFAS No. 144. These assets were included in the total
    assets of the Nursing Facilities segment as of December 31,
    2002; and
|
| |  | $3.0 million adjustment to asset impairment
    charges recorded in 2001, primarily resulting from the sale of
    previously impaired assets at prices above the carrying value.                                                                                                                                                                                

The October 1, 2002 elimination of certain
funding under the Medicare program affected the cash flows, and
therefore the fair values, of each of our nursing facilities.
This event led to an impairment assessment on each of our
nursing facilities, including:



| |   |                                                                                                                                                                                                                                                                              
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | estimating the undiscounted cash flows to be
    generated by each of the facilities over the remaining life of
    the primary asset; and                                                                                                                                   
|
| |  | reducing the carrying value of the asset to the
    estimated fair value when the total estimated undiscounted
    future cash flows was less than the current book value of the
    long-lived assets (excluding goodwill and other indefinite lived
    intangible assets).

In estimating the undiscounted cash flows for the
2002 impairment assessment, we primarily used our internally
prepared budgets and forecast information, with certain
probability adjustments, including, but not limited to, the
following items: Medicare and Medicaid funding; overhead costs;
capital expenditures; and patient care liability costs. In order
to estimate the fair values of the nursing facilities, we used a
discounted cash flow approach, supplemented by public resource
information on valuations of nursing facility sales
transactions, by region of the country. Where the estimated
undiscounted cash flows were negative, we estimated the fair
values based on discounted public resource information, sales
values or estimated salvage value. A substantial change in the
estimated future cash flows for these facilities could
materially change the estimated fair values of these assets,
possibly resulting in an additional impairment.

During 2002, we recorded pre-tax charges of
$7.9 million for workforce reductions, including a charge
of approximately $8.5 million for 133 associates who were
notified in 2002 that their positions would be

62



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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                                                  
|-- | ---------------------------------------------------------------------------------
|4. | Asset Impairments, Workforce Reductions and
    Other Unusual Items  (Continued)

eliminated, net of a $600,000 reversal of
workforce reduction charges recorded in 2001 which were no
longer needed. The $8.5 million pre-tax charges included the
following:



| |   |                                                                                                                                 
| | - | --------------------------------------------------------------------------------------------------------------------------------
| |  | $8.0 million of cash expenses, approximately
    $4.1 million of which was paid during the year ended
    December 31, 2002; and
|
| |  | non-cash expenses of $500,000 related to the
    issuance of 124,212 shares under our Stock Grant Plan.                         

The following table summarizes activity in our
estimated workforce reduction and exit costs for the years ended
December 31 (in thousands):

|                          |                       |            |       |            |   |            |        |         |   |            |       |         |   |   |        |        |   |   |       |        |   |   |       |        |  
|------------------------- | --------------------- | ---------- | ----- | ---------- | - | ---------- | ------ | ------- | - | ---------- | ----- | ------- | - | - | ------ | ------ | - | - | ----- | ------ | - | - | ----- | ------ | -
|                          |                       |            |       |            |   |           
|                          |                       | 2002       |       | 2001       |   | 2000      
|                          |                       |            |       |            |   |           
|                          |                       | Workforce  |       |            |   | Workforce  |        | Exit    |   | Workforce  |       | Exit   
|                          |                       | Reductions |       | Exit Costs |   | Reductions |        | Costs   |   | Reductions |       | Costs  
|                          |                       |            |       |            |   |            |        |         |   |            |       |        
|Balance beginning of year |                       | $          | 7,631 |            |   | $          | 15,030 |         |   | $          | 4,151 |         |   | $ | 5,208  |        |   | $ | 5,165 |        |   | $ | 7,915 |       
|                          | Charged to operations |            |       | 8,454      |   |            |        | 2,633   |   |            |       | 23,118  |   |   |        | 18,165 |   |   |       | 5,904  |   |   |       | 3,000  |  
|                          | Cash payments         |            |       | (9,074     | ) |            |        | (10,313 | ) |            |       | (15,448 | ) |   |        | (8,343 | ) |   |       | (6,918 | ) |   |       | (3,207 | )
|                          | Stock transactions    |            |       | (1,008     | ) |            |        |        |   |            |       | (4,158  | ) |   |        |       |   |   |       |       |   |   |       |       |  
|                          | Reversals             |            |       | (585       | ) |            |        | (2,359  | ) |            |       | (32     | ) |   |        |       |   |   |       |       |   |   |       | (2,500 | )
|                          |                       |            |       |            |   |            |        |         |   |            |       |         |   |   |        |        |   |   |       |        |   |   |       |       
|Balance end of year       |                       | $          | 5,418 |            |   | $          | 4,991  |         |   | $          | 7,631 |         |   | $ | 15,030 |        |   | $ | 4,151 |        |   | $ | 5,208 |       
|                          |                       |            |       |            |   |            |        |         |   |            |       |         |   |   |        |        |   |   |       |        |   |   |       |       

During 2001, we recorded pre-tax charges totaling
approximately $197.1 million, primarily including
$170.8 million for asset impairments and exit costs and
$24.2 million for workforce reductions and related costs.
The asset impairment and exit costs primarily related to:



| |   |                                                                                                                                                                                                                                                                                                                                           
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $75.1 million write-down of Florida
    facilities and $55.1 million of Florida exit and other
    costs, as discussed below. These assets were included in the
    total assets of the Nursing Facilities segment as of December
    31, 2001;                                                                                           
|
| |  | write-down of goodwill of $15.4 million,
    property, equipment and other intangible assets of
    $1.0 million and recording of closing and other costs of
    $2.8 million on under-performing Home Care businesses.
    These assets were included in the total assets of the Home Care
    operating segment as of December 31, 2001;
|
| |  | write-down of property and equipment of
    $9.7 million, and goodwill and other intangibles of
    $600,000 on certain under-performing nursing facilities. These
    assets were included in the total assets of the Nursing
    Facilities operating segment as of December 31, 2001;                                                  
|
| |  | write-off of abandoned projects and investments
    totaling $7.8 million; and                                                                                                                                                                                                                                                            
|
| |  | $3.3 million related to the termination of a
    lease in Indiana, including the write-off of net book value of
    the related assets.                                                                                                                                                                                                   

The asset impairment analyses on our
under-performing units and facilities in 2001 included:



| |   |                                                                                                                                                                                   
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | estimating the undiscounted cash flows to be
    generated by each unit or facility, primarily over the weighted
    average remaining life of the assets; and                    
|
| |  | reducing the carrying value of the assets to the
    estimated fair value when the total undiscounted cash flows was
    less than the current book value of the unit or facility.

63



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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                                                  
|-- | ---------------------------------------------------------------------------------
|4. | Asset Impairments, Workforce Reductions and
    Other Unusual Items  (Continued)

In order to estimate the fair values of the unit,
facility or property for the 2001 impairment assessment, we used
a discounted cash flow approach. For the nursing facilities, we
discounted the estimated future cash flows over the remaining
life of the primary asset. For the Home Care businesses that
lacked significant property investments, we discounted the next
10 years of expected cash flows. Cash flows for all lines
of business were estimated using historical results, without an
inflation factor, and adjusted for known trends. Those cash
flows were discounted at our weighted average cost of capital. A
one percent change in the discount rate would not have a
material impact on the impairment calculations. Where the cash
flows were negative, we estimated the fair values based on our
knowledge of recent or pending sales of comparable businesses.

During 2001, a formal plan was initiated by
management to pursue the sale of our nursing home operations in
Florida, which included 49 nursing facilities and four
assisted living centers (the Florida facilities).
The plan included the pursuit of the sale of one additional
nursing facility in Florida and certain other assets which would
be sold in separate transactions. The decision to sell these
properties was made primarily due to the excessive patient care
liability costs that we had been incurring in the state of
Florida. Accordingly, the property and equipment, identifiable
intangibles and operating supplies of our Florida nursing home
operations were considered assets held for sale. Management
estimated the fair value less selling costs of such assets and
took pre-tax charges in 2001 totaling $75.1 million to
write-down the Florida assets. Effective December 1, 2001,
we entered into a lease agreement on the Florida facilities with
Florida Health Care Properties and we closed the real estate
sale in January 2002 with no further gain or loss.

In conjunction with the sale of our Florida
facilities, we also recorded pre-tax charges totaling
$55.1 million for certain exit and other costs. These costs
related to severance agreements, termination payments on certain
contracts and various other items. At December 31, 2001,
the Florida assets held for sale totaled approximately
$120.8 million and were classified as current assets in the
2001 consolidated balance sheet.

Annualized revenues for the Florida facilities
were approximately $288.0 million. During the year ended
December 31, 2001, our Florida nursing home operations
recorded pre-tax income of approximately $600,000. This amount
did not include certain costs which were recorded at the parent
company level and were not fully allocated to the individual
subsidiaries or facilities. We did not record depreciation and
amortization expense on the Florida assets during the period
these assets were held for sale, since these assets were
adjusted to their estimated net realizable value. The amount of
depreciation and amortization expense that we did not have to
record during the year ended December 31, 2001 on the
Florida assets was approximately $6.8 million.

In January 2001, we implemented a new three-year
strategic plan and operationally reorganized our business. As a
result of this operational reorganization, we recorded pre-tax
charges totaling approximately $24.2 million during 2001.
Approximately $23.1 million of these pre-tax charges
related to severance and other employment agreements for
approximately 240 associates who were notified in 2001 that
their positions would be eliminated, including:



| |   |                                                                                                                                                                            
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | $18.0 million of cash expenses,
    approximately $4.9 million and $11.3 million of which
    was paid during the years ended December 31, 2002 and 2001,
    respectively;
|
| |  | non-cash expenses of $4.5 million related to
    the issuance of shares under our Stock Grant Plan; and                                                                    
|
| |  | non-cash expenses of $600,000 related to other
    long-term incentive agreements.                                                                                         

64



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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                                                  
|-- | ---------------------------------------------------------------------------------
|4. | Asset Impairments, Workforce Reductions and
    Other Unusual Items  (Continued)

During 2000, we recorded pre-tax charges totaling
approximately $17.2 million, primarily including
$9.7 million for asset impairments and exit costs and
$6.1 million for workforce reductions and related costs.
The asset impairment charges and exit costs of $9.7 million
primarily related to:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | write-down of property and equipment of
    $5.1 million and recording of closing and other costs of
    $3.0 million related to six nursing facilities with an
    aggregate carrying value of approximately $6.0 million. We
    closed or terminated the leases on five of these facilities
    during 2001 and one facility in 2002. These assets generated
    pre-tax losses of approximately $2.4 million during the
    year ended December 31, 2000 and were included in the total
    assets of the Nursing Facilities operating segment;
|
| |  | write-off of abandoned projects totaling
    $2.1 million;                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|
| |  | write-off of an investment in a physician
    practice management company of $2.0 million; and                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|
| |  | reversal of $2.5 million of prior year exit
    costs.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             

The workforce reduction charges of
$6.1 million primarily related to severance agreements
associated with seven executives. Approximately
$2.2 million was paid during 2000, and the remainder was
paid during the first quarter of 2001. Four of the executives
were notified in late 2000 that their positions would be
eliminated as part of a reorganization of our operating and
support group functions. This reorganization was formally
announced in the first quarter of 2001.

5.     Discontinued
Operations

During the fourth quarter of 2002, a formal plan
was approved by our board of directors to pursue the sale of our
Matrix segment and MK Medical business unit. The decision
to sell these non-strategic assets was made primarily to allow
us to further reduce our debt level and to reinvest in
facilities, technology and other business opportunities
consistent with our strategic objectives.

In accordance with SFAS No. 144, the
assets and liabilities of Matrix and the assets of MK Medical
have been reclassified to the corresponding held for
sale asset and liability line items in the accompanying
consolidated balance sheet. The related asset carrying values
were adjusted, if appropriate, to reflect the estimated fair
values less costs to sell. The results of operations of Matrix
and MK Medical for all periods presented, as well as the
write-downs to estimated fair values less costs to sell and
related exit costs in 2002, have been reported as discontinued
operations in the accompanying consolidated statements of
operations. In addition, we have included certain
non-operational nursing facilities in assets held for sale in
the accompanying consolidated balance sheets, which we expect to
dispose of in 2003.

A summary of the asset and liability line items
from which the reclassifications have been made at
December 31, 2002 (in thousands) is as follows:

|                                  |                            |        |        |         |  |         |       |       |  |   |       |       |  |   |        |        | 
|--------------------------------- | -------------------------- | ------ | ------ | ------- |  | ------- | ----- | ----- |  | - | ----- | ----- |  | - | ------ | ------ | 
|                                  |                            |        |        | MK      |  |         |       |      
|                                  |                            | Matrix |        | Medical |  | Nursing |       | Total
|                                  |                            |        |        |         |  |         |       |      
|Current assets                    |                            | $      | 13,711 |         |  | $       | 923   |       |  | $ |      |       |  | $ | 14,634 |       
|Property and equipment, net       |                            |        | 6,588  |         |  |         | 1,183 |       |  |   | 6,696 |       |  |   | 14,467 |       
|Goodwill                          |                            |        | 3,713  |         |  |         |      |       |  |   |      |       |  |   | 3,713  |       
|Other assets                      |                            |        | 3,531  |         |  |         | 73    |       |  |   |      |       |  |   | 3,604  |       
|                                  |                            |        |        |         |  |         |       |       |  |   |       |       |  |   |        |       
|                                  | Total assets held for sale |        | $      | 27,543  |  |         | $     | 2,179 |  |   | $     | 6,696 |  |   | $      | 36,418 | 
|                                  |                            |        |        |         |  |         |       |       |  |   |       |       |  |   |        |       
|Current liabilities held for sale |                            | $      | 3,239  |         |  | $       |      |       |  | $ |      |       |  | $ | 3,239  |       
|                                  |                            |        |        |         |  |         |       |       |  |   |       |       |  |   |        |       

65



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                          
|-- | -----------------------------------------
|5. | Discontinued
    Operations  (Continued)

During the six months ended June 30, 2003,
we disposed of the following facilities, clinics and other
assets:



| |   |                                                                                                                                                                                                                                                                                                
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | 27 nursing facilities (3,426 beds), two
    assisted living centers (61 units) and certain other assets
    for cash proceeds totaling approximately $91.0 million;                                                                                                                            
|
| |  | the outpatient rehabilitation clinic operations
    and the managed care network of our former Matrix segment for
    cash proceeds of $36.0 million;                                                                                                                                          
|
| |  | the Care Focus business unit of our Home Care
    segment for cash proceeds of approximately $6.4 million
    received in the second quarter of 2003, with additional
    contingent cash proceeds of approximately $1.2 million
    expected to be received in the fourth quarter of 2003; and
|
| |  | one non-operational nursing facility for
    $5.5 million, including cash and a $4.1 million not
    receivable.                                                                                                                                                                               

We recognized net pre-tax gains of approximately
$40.8 million as a result of these 2003 disposal
activities. The operations of Matrix, the nursing facilities and
Care Focus were immaterial to our consolidated financial
position and results of operations. We expect to sell the
remaining Matrix and MK Medical operations during 2003.

The results of operations of disposed facilities,
clinics and other assets during the six months ended
June 30, 2003, as well as the results of operations of the
held-for-sale assets, have been reported as discontinued
operations for all periods presented in the accompanying
consolidated statements of operations. Also included in
discontinued operations are losses on sales, additional
impairments and exit costs relative to these facilities, clinics
and other assets. A summary of the discontinued operations for
the years ended December 31 (in thousands) follows:

|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|-------------------------------------------- |  | ------ | ------ | ------- |  | ---------- | ------- | ----- |  | ----- | ------- | ------ |  | ------- | ------ | ---------- |  | ----- | ------- | ----- |  | - | ------- | - |  | - | ------- | - |  | - | ------- | - |  | - | ------ |  |  | - | ------- | -
|                                             |  |        |        |        
|                                             |  | 2002   |        | 2001   
|                                             |  |        |        |        
|                                             |  |        |        | MK      |  | Nursing    |         | Care  |  |       |         |        |  | MK      |        | Nursing    |  | Care  |         |      
|                                             |  | Matrix |        | Medical |  | Facilities |         | Focus |  | Total |         | Matrix |  | Medical |        | Facilities |  | Focus |         | Total
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |      
|Net operating revenues(1)                    |  | $      | 86,852 |         |  | $          | (4,452  | )     |  | $     | 155,011 |        |  | $       | 21,450 |            |  | $     | 258,861 |       |  | $ | 90,694  |   |  | $ | 23,289  |   |  | $ | 150,393 |   |  | $ | 21,428 |  |  | $ | 285,804 |  
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Operating income (loss)(1)                   |  | $      | 812    |         |  | $          | (31,610 | )     |  | $     | 12,222  |        |  | $       | 2,494  |            |  | $     | (16,082 | )     |  | $ | (8,652  | ) |  | $ | (10,674 | ) |  | $ | 22,775  |   |  | $ | 2,168  |  |  | $ | 5,617   |  
|Loss on sale and exit costs                  |  |        | (1,001 | )       |  |            | (1,257  | )     |  |       | (114    | )      |  |         |       |            |  |       | (2,372  | )     |  |   |        |   |  |   |        |   |  |   |        |   |  |   |       |  |  |   |        |  
|Impairments and other unusual items(2)       |  |        | 230    |         |  |            | (4,239  | )     |  |       | (2,019  | )      |  |         |       |            |  |       | (6,028  | )     |  |   | (32,482 | ) |  |   | (8,231  | ) |  |   | (299    | ) |  |   |       |  |  |   | (41,012 | )
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Pre-tax income (loss)                        |  | $      | 41     |         |  | $          | (37,106 | )     |  | $     | 10,089  |        |  | $       | 2,494  |            |  |       | (24,482 | )     |  | $ | (41,134 | ) |  | $ | (18,905 | ) |  | $ | 22,476  |   |  | $ | 2,168  |  |  |   | (35,395 | )
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Provision for income taxes                   |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |        |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   | 927     |  
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  
|Discontinued operations, net of income taxes |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  | $     | (24,482 | )     |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  | $ | (36,322 | )
|                                             |  |        |        |         |  |            |         |       |  |       |         |        |  |         |        |            |  |       |         |       |  |   |         |   |  |   |         |   |  |   |         |   |  |   |        |  |  |   |         |  

66



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                          
|-- | -----------------------------------------
|5. | Discontinued
    Operations  (Continued)

|                                             |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  |   |         |  
|-------------------------------------------- |  | ------ | ------- | ------- |  | ---------- | ------ | ----- |  | ----- | ------- |  |  | - | ------ |  |  | - | ------- | -
|                                             |  |       
|                                             |  | 2000  
|                                             |  |       
|                                             |  |        |         | MK      |  | Nursing    |        | Care  |  |      
|                                             |  | Matrix |         | Medical |  | Facilities |        | Focus |  | Total
|                                             |  |        |         |         |  |            |        |       |  |      
|Net operating revenues                       |  | $      | 78,367  |         |  | $          | 29,429 |       |  | $     | 136,527 |  |  | $ | 21,493 |  |  | $ | 265,816 |  
|                                             |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  |   |         |  
|Operating income (loss)                      |  | $      | (30,017 | )       |  | $          | (1,170 | )     |  | $     | 20,466  |  |  | $ | 1,839  |  |  | $ | (8,882  | )
|Impairments and other unusual items          |  |        | (25,784 | )       |  |            |       |       |  |       |        |  |  |   |       |  |  |   | (25,784 | )
|                                             |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  |   |         |  
|Pre-tax income (loss)                        |  | $      | (55,801 | )       |  | $          | (1,170 | )     |  | $     | 20,466  |  |  | $ | 1,839  |  |  |   | (34,666 | )
|                                             |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  |   |         |  
|Provision for (benefit from) income taxes    |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  |   | (7,726  | )
|                                             |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  |   |         |  
|Discontinued operations, net of income taxes |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  | $ | (26,940 | )
|                                             |  |        |         |         |  |            |        |       |  |       |         |  |  |   |        |  |  |   |         |  



---



|    |                                                                                                                                     
|--- | ------------------------------------------------------------------------------------------------------------------------------------
|(1) | Includes an adjustment of $18.0 million in
    2002 for estimated overpayments to MK Medical by government
    payors. (See Note 9.)
|   
|(2) | Includes $1.0 million accrued in 2002 for
    legal and related fees associated with the MK Medical estimated
    overpayment issue.

6. Acquisitions and
Dispositions

During the year ended December 31, 2002, we
sold, closed or terminated the leases on 69 nursing
facilities (8,132 beds), four assisted living centers
(315 units), four home care centers, 10 outpatient
clinics and certain other assets for cash proceeds of
approximately $170.9 million and notes receivable of
approximately $21.7 million. In December 2001, we leased to
another operator 49 of the nursing facilities (6,129 beds)
and the four assisted living centers, all of which were located
in Florida. Excluding the Florida properties, which had been
written down to net realizable value in 2001, we recognized
pre-tax gains of $6.0 million, which were included in net
operating revenues, pre-tax losses of $4.1 million, which
were included in other operating expenses and $100,000 of losses
included in discontinued operations during the year ended
December 31, 2002, as a result of these disposal
activities. The majority of these disposed assets were
classified as held for sale at December 31, 2001 and,
therefore, did not meet the criteria for classification as
discontinued operations.

During the year ended December 31, 2001, we
acquired one nursing facility (185 beds), eight previously
leased nursing facilities (903 beds) and certain other
assets for cash of approximately $3.7 million, assumed debt
of approximately $18.4 million, security deposits of
$200,000 and incurred closing and other costs of approximately
$300,000. These acquisitions were accounted for as purchases.
Also during such period, we sold, closed or terminated the
leases on 18 nursing facilities (1,768 beds), one
assisted living center (12 units), three outpatient therapy
clinics, one home care center and certain other assets for cash
proceeds of approximately $20.4 million and a note
receivable of approximately $3.9 million. We did not
operate three of the nursing facilities (355 beds) which
had been leased to other nursing home operators. We recognized
pre-tax gains of $4.8 million, which were included in net
operating revenues, pre-tax losses of $4.0 million which
were included in other operating expenses and $200,000 of losses
included in discontinued operations during the year ended
December 31, 2001, as a result of these dispositions. In
addition, we terminated the lease on one nursing facility (223
beds) in Indiana and recorded a pre-tax charge of approximately
$3.3 million which was included in the consolidated
statement of operations caption Asset impairments,
workforce reductions and other unusual items.

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|   |                                                
|-- | -----------------------------------------------
|6. | Acquisitions and
    Dispositions  (Continued)

During the year ended December 31, 2000, we
acquired seven nursing facilities (1,210 beds), one previously
leased nursing facility (105 beds) and certain other assets for
cash of approximately $3.0 million, closing and other costs
of approximately $2.4 million. The acquisitions of these
facilities and other assets were accounted for as purchases.
Also during 2000, we sold, closed or terminated the leases on 39
nursing facilities (4,263 beds) and certain other assets for
cash proceeds of approximately $24.2 million and notes
receivable of approximately $100,000. We did not operate five of
these nursing facilities (409 beds), which were leased to other
nursing home operators in prior year transactions. We recognized
pre-tax gains of $8.9 million, which were included in net
operating revenues, pre-tax losses of $5.5 million, which
were included in other operating expenses and $1.4 million of
losses included in discontinued operations during the year ended
December 31, 2000 as a result of these dispositions.

The operations of all of the facilities and other
assets we acquired or disposed of in 2002, 2001 and 2000 were
immaterial to our consolidated financial position and results of
operations.

7.     Property and
Equipment

A summary of property and equipment and related
accumulated depreciation and amortization, by major
classification, at December 31 (in thousands) is as follows:

|                                               |  |       |           |       |  |        |           |      |  |      |           |      |  |   |           |  |  |   |        |  |  |   |        | 
|---------------------------------------------- |  | ----- | --------- | ----- |  | ------ | --------- | ---- |  | ---- | --------- | ---- |  | - | --------- |  |  | - | ------ |  |  | - | ------ | 
|                                               |  |       |           |       |  |       
|                                               |  | Total |           | Owned |  | Leased
|                                               |  |       |           |       |  |       
|                                               |  | 2002  |           | 2001  |  | 2002   |           | 2001 |  | 2002 |           | 2001
|                                               |  |       |           |       |  |        |           |      |  |      |           |     
|Land, buildings and improvements               |  | $     | 1,153,084 |       |  | $      | 1,246,338 |      |  | $    | 1,138,054 |      |  | $ | 1,224,910 |  |  | $ | 15,030 |  |  | $ | 21,428 | 
|Furniture and equipment                        |  |       | 301,604   |       |  |        | 340,113   |      |  |      | 298,244   |      |  |   | 335,452   |  |  |   | 3,360  |  |  |   | 4,661  | 
|Construction in progress                       |  |       | 6,974     |       |  |        | 31,297    |      |  |      | 6,974     |      |  |   | 31,297    |  |  |   |       |  |  |   |       | 
|                                               |  |       |           |       |  |        |           |      |  |      |           |      |  |   |           |  |  |   |        |  |  |   |        | 
|                                               |  |       | 1,461,662 |       |  |        | 1,617,748 |      |  |      | 1,443,272 |      |  |   | 1,591,659 |  |  |   | 18,390 |  |  |   | 26,089 | 
|Less accumulated depreciation and amortization |  |       | 672,379   |       |  |        | 744,163   |      |  |      | 659,746   |      |  |   | 726,221   |  |  |   | 12,633 |  |  |   | 17,942 | 
|                                               |  |       |           |       |  |        |           |      |  |      |           |      |  |   |           |  |  |   |        |  |  |   |        | 
|                                               |  | $     | 789,283   |       |  | $      | 873,585   |      |  | $    | 783,526   |      |  | $ | 865,438   |  |  | $ | 5,757  |  |  | $ | 8,147  | 
|                                               |  |       |           |       |  |        |           |      |  |      |           |      |  |   |           |  |  |   |        |  |  |   |        | 

We record depreciation and amortization using the
straight-line method over the following estimated useful lives:
land improvements  5 to 15 years;
buildings  35 to 40 years; building
improvements  5 to 20 years; leasehold
improvements  5 to 20 years; furniture and
equipment  5 to 15 years. Capital leased assets
are amortized over the remaining initial terms of the leases.

Depreciation and amortization expense related to
property and equipment, including the amortization of assets
under capital lease obligations, for the years ended
December 31, 2002, 2001 and 2000 was $77.7 million,
$76.3 million and $83.3 million, respectively,
including depreciation and amortization expense on discontinued
operations of $11.4 million, $10.5 million and
$10.8 million, respectively.

Capitalized software costs of $53.6 million
and $64.3 million at December 31, 2002 and 2001,
respectively, net of accumulated amortization of
$30.8 million and $29.8 million, respectively, are
included in the accompanying consolidated balance sheet caption
Other assets. Amortization expense related to
capitalized software costs for the years ended December 31,
2002, 2001 and 2000 was $10.3 million, $8.6 million
and $7.1 million, respectively, including amortization
expense on discontinued operations of $1.9 million,
$1.4 million and $1.3 million, respectively.

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000


8.     Long-term
Debt

Long-term debt consists of the following at
December 31 (dollars in thousands):

|                                                                                                                                                                                                                                                                                                                |  |      |         |      |  |   |         | 
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---- | ------- | ---- |  | - | ------- | 
|                                                                                                                                                                                                                                                                                                                |  | 2002 |         | 2001
|                                                                                                                                                                                                                                                                                                                |  |      |         |     
|Revolver borrowings under Credit Facility,
    matures April 2004                                                                                                                                                                                                                                               |  | $    |        |      |  | $ |        | 
|9 5/8% Senior Notes due April 15,
    2009, unsecured                                                                                                                                                                                                                                                           |  |      | 200,000 |      |  |   | 200,000 | 
|9% Senior Notes due February 15, 2006,
    unsecured                                                                                                                                                                                                                                                            |  |      | 180,000 |      |  |   | 180,000 | 
|Notes and mortgages, less imputed interest:
    2002  $15, 2001  $29; due in installments
    through the year 2031, at effective interest rates of 3.77% to
    12.50%, a portion of which is secured by property, equipment and
    other assets with a net book value of $175,803 at
    December 31, 2002 |  |      | 133,554 |      |  |   | 192,736 | 
|Industrial development revenue bonds, due in
    installments through the year 2013, at effective interest rates
    of 4.10% to 10%, a portion of which is secured by property and
    other assets with a net book value of $104,462 at
    December 31, 2002                                                 |  |      | 78,530  |      |  |   | 115,730 | 
|7% A.I. Credit Corp. Note due in installments
    through January 2002, secured by a surety bond                                                                                                                                                                                                                |  |      |        |      |  |   | 12,500  | 
|8.750% First Mortgage Bonds due July 1,
    2008, secured by first mortgages on 4 nursing facilities
    with an aggregate net book value of $9,599 at December 31,
    2002                                                                                                                                    |  |      | 11,041  |      |  |   | 11,623  | 
|8.625% First Mortgage Bonds due October 1,
    2008, secured by first mortgages on 7 nursing facilities
    with an aggregate net book value of $22,533 at December 31,
    2002                                                                                                                                |  |      | 17,900  |      |  |   | 18,793  | 
|                                                                                                                                                                                                                                                                                                                |  |      |         |      |  |   |         | 
|                                                                                                                                                                                                                                                                                                                |  |      | 621,025 |      |  |   | 731,382 | 
|Present value of capital lease obligations, less
    imputed interest: 2002  $6,977, 2001 
    $7,889, at effective interest rates of 6.75% to 16.49%                                                                                                                                                         |  |      | 9,152   |      |  |   | 10,291  | 
|                                                                                                                                                                                                                                                                                                                |  |      |         |      |  |   |         | 
|                                                                                                                                                                                                                                                                                                                |  |      | 630,177 |      |  |   | 741,673 | 
|Less amounts due within one year                                                                                                                                                                                                                                                                                |  |      | 41,463  |      |  |   | 64,231  | 
|                                                                                                                                                                                                                                                                                                                |  |      |         |      |  |   |         | 
|                                                                                                                                                                                                                                                                                                                |  | $    | 588,714 |      |  | $ | 677,442 | 
|                                                                                                                                                                                                                                                                                                                |  |      |         |      |  |   |         | 

During 2001, we entered into a new
$150.0 million revolving credit facility (the Credit
Facility) which matures in April 2004 and issued
$200.0 million of 9 5/8% Senior Notes due 2009
(the 9 5/8% Senior Notes) through a
private placement. The net proceeds from issuance of the
9 5/8% Senior Notes were used to repay borrowings
under our former $375.0 million credit facility and for
general corporate purposes. We filed a registration statement in
2001 under Form S-4 with the Securities and Exchange
Commission registering the 9 5/8% Senior Notes and
exchanged (the Exchange Offer) all of the
9 5/8% Senior Notes issued through the private
placement for publicly registered 9 5/8% Senior Notes.
We did not receive any proceeds as a result of the Exchange
Offer.

We have $180.0 million of 9% Senior
Notes due February 15, 2006 (the 9% Senior
Notes) which were sold through a public offering. The
9 5/8% Senior Notes and the 9% Senior Notes are
unsecured obligations guaranteed by substantially all of our
present and future subsidiaries (the Subsidiary
Guarantors) and impose on us certain restrictive
covenants. Separate financial statements of the Subsidiary
Guarantors are not considered to be material to holders of our
Senior Notes since the guaranty of each of the Subsidiary
Guarantors is joint and several and full and unconditional
(except that liability thereunder is limited to an

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




8.     Long-term
Debt  (Continued)


aggregate amount equal to the largest amount that
would not render its obligations thereunder subject to avoidance
under Section 548 of the Bankruptcy Code of 1978, as
amended, or any comparable provisions of applicable state law),
and Beverly Enterprises, Inc., the parent, has no operations or
material assets separate from its investment in its subsidiaries.

The Credit Facility provides for a Revolver/
Letter of Credit Facility. Prior to the 2003 Amendments
discussed below, revolver borrowings under the Credit Facility
bore interest at adjusted LIBOR plus 2.375%; the Base Rate, as
defined, plus 1.375%; or the adjusted CD rate, as defined, plus
2.50%, at our option. The interest rates could be adjusted
quarterly based on a leverage ratio calculation. The Credit
Facility was secured by property, equipment and other assets
associated with eight nursing facilities with an aggregate net
book value of approximately $12.4 million at
December 31, 2002 and the stock of certain subsidiaries. In
addition, it was guaranteed by the Subsidiary Guarantors and
imposed on us certain financial tests and restrictive covenants.
We had no revolver borrowings under the Credit Facility at
December 31, 2002 or 2001.

Effective December 31, 2002 and 2001, we
executed amendments to our Credit Facility, as well as
amendments with certain of our other lenders covering debt of
approximately $19.4 million and $20.1 million,
respectively, and off-balance sheet lease financing of
$69.5 million and $112.4 million, respectively
(collectively, the Amendments), which modified
certain financial covenant levels. These Amendments were
required since recording the special charges, as discussed in
Notes 3 and 4, would have resulted in our noncompliance
with a financial covenant ratio contained in those debt
agreements on each of these dates. As of December 31, 2002,
we were in compliance with the Amendments.

In February 2003, we executed an amendment to our
Credit Facility and our off-balance sheet lease arrangement (the
2003 Amendments). The 2003 Amendments were required
since our projected earnings for 2003, primarily due to the
reduction in Medicare funding, were not anticipated to reach the
level needed to meet the financial covenant requirements in
these debt arrangements. The primary impacts of the 2003
Amendments include the following:



| |   |                                                                                                                                                                                                                                                                                                                                                                          
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | revolver borrowings bear interest at adjusted
    LIBOR plus 3.50%; the Base Rate, as defined, plus 2.50%; or the
    adjusted CD rate, as defined, plus 3.625%, at our option. These
    rates may be adjusted quarterly based on a leverage ratio
    calculation;                                                                                                     
|
| |  | the Credit Facility will be secured by property,
    equipment and other assets having a market value, determined
    pursuant to the 2003 Amendments, of not less than
    $165.0 million;                                                                                                                                                                              
|
| |  | the Credit Facility will be frozen at a borrowing
    capacity of $100.0 million initially, and eventually
    adjusted to $85.0 million over its remaining term
    concurrent with receipt of proceeds from sales of
    facilities; and                                                                                                                               
|
| |  | we will purchase three leased properties in the
    first quarter of 2003 for $16.8 million with a portion of
    the proceeds from the sale of our Matrix outpatient therapy
    clinics and managed care network, and apply a portion of the
    proceeds from anticipated divestitures in 2003 and 2004 to
    reduce the off-balance sheet lease arrangement further.

During 2002, we entered into a mortgage loan for
$5.0 million for the construction of a nursing facility.
This mortgage has terms and conditions similar to the Credit
Facility. During 2001, we entered into notes and mortgages
payable of approximately $21.3 million for the acquisitions
of seven nursing facilities. These debt instruments have
interest rates ranging from 7.00% to 10.25%, require monthly
installments of principal and interest, and are secured by
mortgage interests in the real property and security interests
in the personal property of the nursing facilities.

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000


8.     Long-term
Debt  (Continued)

Maturities and sinking fund requirements of
long-term debt, including capital leases, for the years ended
December 31 are estimated as follows (in thousands):

|                                                   |  |      |        |      |  |      |        |      |  |      |        |            |  |       |         |   |  |   |        |   |  |   |         |   |  |   |         |  
|-------------------------------------------------- |  | ---- | ------ | ---- |  | ---- | ------ | ---- |  | ---- | ------ | ---------- |  | ----- | ------- | - |  | - | ------ | - |  | - | ------- | - |  | - | ------- | -
|                                                   |  | 2003 |        | 2004 |  | 2005 |        | 2006 |  | 2007 |        | Thereafter |  | Total
|                                                   |  |      |        |      |  |      |        |      |  |      |        |            |  |      
|Future minimum lease payments                      |  | $    | 1,648  |      |  | $    | 1,535  |      |  | $    | 1,292  |            |  | $     | 978     |   |  | $ | 894    |   |  | $ | 9,782   |   |  | $ | 16,129  |  
|Less interest                                      |  |      | (796   | )    |  |      | (722   | )    |  |      | (656   | )          |  |       | (602    | ) |  |   | (570   | ) |  |   | (3,631  | ) |  |   | (6,977  | )
|                                                   |  |      |        |      |  |      |        |      |  |      |        |            |  |       |         |   |  |   |        |   |  |   |         |   |  |   |         |  
|Net present value of future minimum lease payments |  |      | 852    |      |  |      | 813    |      |  |      | 636    |            |  |       | 376     |   |  |   | 324    |   |  |   | 6,151   |   |  |   | 9,152   |  
|Notes, mortgages and bonds                         |  |      | 40,611 |      |  |      | 34,494 |      |  |      | 20,972 |            |  |       | 195,340 |   |  |   | 21,564 |   |  |   | 308,044 |   |  |   | 621,025 |  
|                                                   |  |      |        |      |  |      |        |      |  |      |        |            |  |       |         |   |  |   |        |   |  |   |         |   |  |   |         |  
|                                                   |  | $    | 41,463 |      |  | $    | 35,307 |      |  | $    | 21,608 |            |  | $     | 195,716 |   |  | $ | 21,888 |   |  | $ | 314,195 |   |  | $ | 630,177 |  
|                                                   |  |      |        |      |  |      |        |      |  |      |        |            |  |       |         |   |  |   |        |   |  |   |         |   |  |   |         |  

Most of our capital leases, as well as our
operating leases, have original terms from ten to fifteen years
and contain at least one renewal option (which could extend the
terms of the leases by five to fifteen years), purchase options,
escalation clauses and provisions for payments by us of real
estate taxes, insurance and maintenance costs.

9.     Commitments
and Contingencies

Our future minimum rental commitments required by
all noncancelable operating leases with initial or remaining
terms in excess of one year as of December 31, 2002, are
estimated as follows (in thousands):

|             |  |   |         | 
|------------ |  | - | ------- | 
|            
|Year ending 
|December 31,
|            
|2003         |  | $ | 51,631  | 
|2004         |  |   | 43,188  | 
|2005         |  |   | 36,553  | 
|2006         |  |   | 21,188  | 
|2007         |  |   | 11,896  | 
|Thereafter   |  |   | 41,528  | 
|             |  |   |         | 
|             |  | $ | 205,984 | 
|             |  |   |         | 

Our total future minimum rental commitments are
net of approximately $2.1 million of minimum sublease
rental income due in the future under noncancelable subleases.
The following table summarizes certain information relative to
our operating leases, including operating leases for
discontinued operations, for the years ended December 31
(in thousands):

|                                                                   |  |      |        |      |  |      |         |  |  |   |         | 
|------------------------------------------------------------------ |  | ---- | ------ | ---- |  | ---- | ------- |  |  | - | ------- | 
|                                                                   |  | 2002 |        | 2001 |  | 2000
|                                                                   |  |      |        |      |  |     
|Rent expense, net of sublease rent income                          |  | $    | 87,852 |      |  | $    | 106,814 |  |  | $ | 114,889 | 
|Sublease rent income                                               |  |      | 2,036  |      |  |      | 2,248   |  |  |   | 3,312   | 
|Estimated contingent rent expense, based
    primarily on revenues |  |      | 2,000  |      |  |      | 7,000   |  |  |   | 14,000  | 

At December 31, 2002, we leased five nursing
facilities, one assisted living center and our corporate
headquarters under an off-balance sheet lease arrangement. As of
December 31, 2002, we had $69.5 million of outstanding
commitments under this financing arrangement. The lessor
financed the construction of these

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




9.     Commitments
and Contingencies  (Continued)


properties and we lease the properties under a
master operating lease agreement, which matures in 2004. Under
the original commitment, we could purchase the properties at
original cost, or coordinate the sale of the properties to a
third-party, when the master lease agreement matures. There is a
third-party entity at risk under this arrangement for 3% of the
original commitment; of the remaining 97% original commitment,
17% is secured by first mortgages on the related properties and
83% (or approximately $56.0 million at December 31,
2002) is guaranteed by the Company and secured by second
mortgages on the related properties. This lease arrangement was
satisfied in June 2003. (See Note 14.)

We monitor these off-balance sheet obligations
throughout the year and believe the obligations and any related
assets should not be included in our consolidated financial
statements under current generally accepted accounting
principles. In January 2003, the Financial Accounting Standards
Board issued FASB Interpretation No. 46, Consolidation
of Variable Interest Entities (FIN 46),
which is effective for us in the third quarter of 2003. Based on
our initial evaluation of FIN 46, it is possible that the
special purpose entity lessor in the lease arrangement may need
to be consolidated with the Company beginning in the third
quarter of 2003. We are continuing to evaluate the consolidation
and transition rules under FIN 46, however if the special
purpose entity lessor needs to be consolidated, the leased
assets will be consolidated at their depreciated cost and
recorded as capital leased assets, with the difference between
the historical and the depreciated cost on the date of
consolidation being recorded as the cumulative effect of an
accounting change. The remaining obligation as of July 1,
2003 ($69.5 million as of December 31, 2002 and
expected to be $52.7 million as of July 1, 2003) would
be recorded as a capital lease obligation on the Companys
consolidated balance sheet. We will continue to make quarterly
payments under the obligation, to be recorded as interest
expense, and the capital leased assets will be depreciated,
increasing our annual depreciation and amortization expense by
approximately $2.3 million.

Our management information systems data
processing functions have been outsourced under an agreement
which was renegotiated during 2002 and expires in 2007. Our
future minimum commitments as of December 31, 2002 under
this agreement are estimated as follows: 2003 
$2.2 million; 2004  $2.2 million;
2005  $2.2 million; 2006 
$2.2 million and 2007  $700,000. We incurred
approximately $2.9 million, $3.4 million and
$5.2 million under this agreement during the years ended
December 31, 2002, 2001 and 2000, respectively.

We are contingently liable for approximately
$31.5 million of long-term debt maturing on various dates
through 2019, as well as annual interest and letter of credit
fees totaling approximately $3.1 million. These contingent
liabilities principally arose from our sale of nursing
facilities and retirement living centers. We operate the
facilities related to approximately $3.0 million of the
principal amount for which we are contingently liable, pursuant
to long-term agreements accounted for as operating leases. We
guarantee certain third-party operating leases. These guarantees
arose from our dispositions of leased facilities and the
underlying leases have approximately $13.3 million of
minimum rental commitments remaining through the initial lease
terms. In addition, we guarantee an officers bank loan of
approximately $200,000, which is collateralized by shares of our
Common Stock pledged by the officer.

As previously disclosed, we notified federal and
California healthcare regulatory authorities (CMS, OIG, the
California Attorney Generals office and the California
Department of Health) of our intent to conduct an internal
investigation of past billing practices relating to
MK Medical, our medical equipment business unit based in
Fresno, California. An independent accounting firm has reviewed
MK Medicals government payor billings since
October 1, 1998, the date we acquired the company.
Deficiencies identified by the accounting firm primarily relate
to inadequate documentation supporting Medicare and Medi-Cal
claims for reimbursement for drugs, wheelchairs, and other
durable medical equipment distributed by MK Medical.
Specifically,

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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




9.     Commitments
and Contingencies  (Continued)


the review identified instances of missing or
incomplete certificates of medical necessity, treatment
authorization requests, prescriptions, and other documentation
MK Medical is required to maintain in order to be entitled
to reimbursement from government payors. Based on the results of
the accounting firms review, we have estimated our
potential overpayment from government payors to be approximately
$18.0 million for the period from October 1, 1998 to
2002. We have reduced MK Medicals operating revenues,
through discontinued operations on the 2002 consolidated
statement of operations, and have established a reserve,
included in Other accrued liabilities on the 2002
consolidated balance sheet, for this amount. We have advised
regulatory authorities of the accounting firms results.
Our liability with respect to this matter could exceed the
reserved amount. We can give no assurance of the final outcome
of this matter or its impact on our financial position, results
of operations and cash flows.

On February 3, 2000, we entered into a
series of separate agreements with the U.S. Department of
Justice and the Office of Inspector General (the
OIG) of the Department of Health and Human Services.
These agreements settled the federal governments
investigations of the Company relating to our allocation to the
Medicare program of certain nursing labor costs in our skilled
nursing facilities from 1990 to 1998 (the Allocation
Investigations).

The agreements consist of:



| |   |                                                                      
| | - | ---------------------------------------------------------------------
| |  | a Plea Agreement;                                                    
|
| |  | a Civil Settlement Agreement;                                        
|
| |  | a Corporate Integrity Agreement; and                                 
|
| |  | an agreement concerning the disposition of 10
    nursing facilities.

Under the Plea Agreement, one of our subsidiaries
pled guilty to one count of mail fraud and 10 counts of making
false statements to Medicare and paid a criminal fine of
$5.0 million during the first quarter of 2000.

Under the Civil Settlement Agreement, we paid the
federal government $25.0 million during 2000 and are
reimbursing the federal government an additional
$145.0 million through withholdings from our biweekly
Medicare periodic interim payments in equal installments through
the first quarter of 2008. The present value of the remaining
obligation included as liabilities on our consolidated balance
sheet was $73.9 million at December 31, 2002 and
$84.9 million at December 31, 2001. In addition, we
agreed to resubmit certain Medicare filings to reflect reduced
labor costs allocated to the Medicare program. The adjustments
for these resubmitted filings were part of the Settlement
Agreement with CMS. (See Note 3.)

Under the Corporate Integrity Agreement, we are
required to monitor, on an ongoing basis, our compliance with
the requirements of the federal healthcare programs. This
agreement addresses our obligations to ensure that we comply
with the requirements for participation in the federal
healthcare programs. It also includes our functional and
training obligations, audit and review requirements,
recordkeeping and reporting requirements, as well as penalties
for breach or noncompliance of the agreement. We believe that we
are generally in compliance with the requirements of the
Corporate Integrity Agreement.

In accordance with our agreement to dispose of
10 nursing facilities, we disposed of seven of the
facilities during 2000 and the remaining three facilities during
2001.

On October 31, 2002, a shareholder
derivative action entitled Paul Dunne and Helene Dunne,
derivatively on behalf of nominal defendant Beverly Enterprises,
Inc. v. Beryl F. Anthony, Jr., et al. was filed in
the Circuit Court of Sebastian County, Arkansas, Fort Smith
Division (No. CIV-2002-1241). This case is purportedly
brought derivatively on behalf of the Company against various
current and former officers and directors. We

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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




9.     Commitments
and Contingencies  (Continued)


learned of this case when it was served on one
defendant on January 22, 2003. The complaint alleges causes
of action for breach of fiduciary duty against the defendants
based on: (1) allegations that defendants failed to
establish and maintain adequate accounting controls such that
the Company failed to record adequate reserves for patient care
liability costs; and (2) allegations that certain
defendants sold Company stock while purportedly in possession of
material non-public information. While this case is in its
preliminary stages, we do not believe there is any merit to this
lawsuit.

On August 16, 2002, August 26, 2002,
and September 26, 2002, respectively, Ernest
Baer v. Beverly Enterprises, Inc., et. al. (CIV.
No. 02-2190) (the Baer Case), Stanley V.
Kensic v. Beverly Enterprises, Inc., et.al. (CIV.
No. 02-2193) (the Kensic Case) and Charles
Krebs v. Beverly Enterprises, Inc., et. al. (CIV.
No. 02-2222) (the Krebs Case) were filed in the
United States District Court, Western District of Arkansas,
Fort Smith Division. The Baer Case, the Kensic Case and the
Krebs Case were filed as purported securities fraud class
actions under Sections 10(b) and 20(a) of the Securities
Exchange Act of 1934 and Rule 10b-5 promulgated thereunder.

Each of the Baer Case, the Kensic Case and the
Krebs Case separately named Beverly Enterprises, Inc. as a
defendant along with various current officers and our
independent auditors. In all three cases, the purported class
period runs from October 16, 2000 to and including
July 19, 2002. Plaintiffs claim that the defendants, during
the purported class period, made multiple false and misleading
statements. Due to the preliminary state of the Baer Case, the
Kensic Case and the Krebs Case and the fact that none of these
cases alleges damages with any specificity, we are unable at
this time to assess the probable outcome of the cases. We
believe that plaintiffs allegations that the defendants
acted unlawfully are without merit and the defendants will
vigorously defend the Baer Case, the Kensic Case and the Krebs
Case. However, we can give no assurances of the ultimate impact
on our consolidated financial position, results of operations or
cash flows as a result of these proceedings.

As previously reported, on October 2, 1998,
a purported class action lawsuit was filed in the United States
District Court for the Eastern District of Arkansas by Jack
Kushner against the Company and certain of its officers (the
Class Action). Plaintiffs filed a second
amended complaint on September 9, 1999, which asserted
claims under Section 10(b) (including Rule 10b-5
promulgated thereunder) and under Section 20 of the
Securities Exchange Act of 1934 arising from practices that were
the subject of the Allocation Investigations. The defendants
filed a motion to dismiss that complaint on October 8,
1999. Oral argument on this motion was held on April 6,
2000. By order and judgment dated October 17, 2001,
defendants motion to dismiss was granted, and the
complaint was dismissed with prejudice. Plaintiffs appealed this
decision to the Eighth Circuit Court of Appeals (Case
No. 01-3677). On January 23, 2003, the Eighth Circuit
entered an order affirming the district courts order
dismissing the case with prejudice. The plaintiffs appealed the
order of the Eighth Circuit en banc, but, on
February 27, 2003, the Eighth Circuit denied the petition.
The Eighth Circuit is obligated to issue a mandate within seven
days of the date of the order denying the petition, thereby
ordering the district court to enforce its ruling and dismiss
the case. If the plaintiffs decide to petition for a writ of
certiorari to the United States Supreme Court within
90 days, plaintiffs may move to stay the mandate pending
the filing of this petition.

In addition, since July 29, 1999, several
derivative lawsuits have been filed in the state courts of
Arkansas, California and Delaware, as well as the federal
district court in Arkansas, assertedly on behalf of the Company
(collectively, the Derivative Actions). Due to the
preliminary state of the Derivative Actions and the fact the
complaints do not allege damages with any specificity, we are
unable at this time to assess the probable outcome of the
Derivative Actions or the materiality of the risk of loss. We
believe that plaintiffs allegations that the defendants
acted unlawfully are without merit and the defendants will
vigorously defend the

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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




9.     Commitments
and Contingencies  (Continued)


Derivative Actions. However, we can give no
assurances of the ultimate impact on our consolidated financial
position, results of operations or cash flows as a result of
these proceedings.

We are party to various legal matters relating to
patient care, including claims that our services have resulted
in injury or death to residents of our facilities. We have
experienced an increasing trend in the number and severity of
the claims asserted against us. We believe that there has been,
and will continue to be, an increase in governmental
investigations of long-term care providers. Adverse
determinations in legal proceedings or governmental
investigations, whether currently asserted or arising in the
future, could have a material adverse effect on us.

There are various other lawsuits and regulatory
actions pending against the Company arising in the normal course
of business, some of which seek punitive damages that are
generally not covered by insurance. We do not believe that the
ultimate resolution of such other matters will have a material
adverse effect on our consolidated financial position, results
of operations or cash flows.

10. Stockholders Equity

We have 300,000,000 shares of authorized
$.10 par value common stock (Common Stock). We
are subject to certain restrictions under our long-term debt
agreements related to the payment of cash dividends on, and the
repurchase of, our Common Stock. During 2002 and 2001, we did
not pay any cash dividends on, or repurchase any of, our Common
Stock. We have 25,000,000 shares of authorized $1 par
value preferred stock, all of which remains unissued. The Board
of Directors has authority, without further stockholder action,
to set rights, privileges and preferences for any unissued
shares of preferred stock.

In January 2001, we filed a registration
statement under Form S-8 with the Securities and Exchange
Commission registering 1,174,500 shares of our Common
Stock. These shares were previously repurchased by the Company
and held in treasury. They may be issued under the Beverly
Enterprises, Inc. Stock Grant Plan (the Stock Grant
Plan) to holders of restricted stock who, by virtue of the
terms of their employment contracts, severance agreements or
other similar arrangements, are entitled to the immediate
vesting of their restricted stock. In conjunction with ongoing
operational reorganizations (as discussed in Note 4),
669,754 shares of Common Stock under the Stock Grant Plan
have been issued to various officers in exchange for shares of
restricted stock held by them, which have been cancelled.
Pre-tax workforce reduction charges of $500,000 and
$4.5 million were recorded in 2002 and 2001, respectively,
in connection with the issuance of these shares.

During 1997, the New Beverly 1997 Long-Term
Incentive Plan was approved (the 1997 Long-Term Incentive
Plan). The plan became effective December 3, 1997 and
remains in effect until December 31, 2006, subject to early
termination by the Board of Directors. The Compensation
Committee of the Board of Directors (the Committee)
is responsible for administering the 1997 Long-Term Incentive
Plan and has complete discretion in determining the number of
shares or units to be granted, in setting performance goals and
in applying other restrictions to awards, as needed, under the
plan. The 1997 Long-Term Incentive Plan was originally
authorized to issue 10,000,000 shares of Common Stock,
subject to certain adjustments, in the form of nonqualified
stock options, incentive stock options, stock appreciation
rights, restricted stock, restricted stock units, performance
awards, bonus stock and other stock unit awards. In May 2001,
the stockholders approved an amendment to this plan which
authorized the issuance of an additional 5,000,000 shares.

In general, nonqualified and incentive stock
options must be granted at a purchase price equal to the fair
market value of our Common Stock on the date of grant. Options
issued at fair market value do not require the

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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




10. Stockholders Equity 
(Continued)


recording of compensation expense upon issuance.
Options shall be exercisable at such times and be subject to
such restrictions and conditions as the Committee shall
determine and expire no later than 10 years from the grant
date. Stock appreciation rights may be granted alone, in tandem
with an option or in addition to an option. Stock appreciation
rights shall be exercisable at such times and be subject to such
restrictions and conditions as the Committee shall determine and
expire no later than 10 years from the grant date.
Restricted stock awards are outright stock grants which have a
minimum vesting period of one year for performance-based awards
and three years for other awards. Performance awards, bonus
stock and other stock unit awards may be granted based on the
achievement of certain performance or other goals and will carry
certain restrictions, as defined. The issuance of restricted
stock and other stock awards usually require the recognition of
compensation expense measured by the fair value of the stock on
the date of grant.

During 1997, the New Beverly Non-Employee
Directors Stock Option Plan was approved (the Non-Employee
Directors Stock Option Plan). The plan became effective
December 3, 1997 and remains in effect until
December 31, 2007, subject to early termination by the
Board of Directors. We have 450,000 shares of Common Stock
authorized for issuance, subject to certain adjustments, under
the Non-Employee Directors Stock Option Plan. The Non-Employee
Directors Stock Option Plan was amended by the Board of
Directors on March 28, 2001 to provide that each
non-employee director be granted an option to purchase
11,000 shares of our Common Stock on June 1 of each
year until the plan is terminated, subject to the availability
of shares. These options are granted at a purchase price equal
to the fair market value of our Common Stock on the date of
grant, become exercisable one year after the date of grant and
expire 10 years after the date of grant.

During 2000, we offered all employees holding
stock options granted prior to February 2000 the opportunity to
exchange all or part of their stock options for shares of
restricted stock. This resulted in the issuance of approximately
2.4 million shares of restricted stock, which vest four
years after the grant date, in exchange for options to purchase
approximately 4.8 million shares of our Common Stock.

We recognize compensation expense for our
restricted stock grants at the fair market value of our Common
Stock on the date of grant, amortized over their respective
vesting periods on a straight-line basis. The total charges to
our consolidated statements of operations for the years ended
December 31, 2002, 2001 and 2000 related to these
restricted stock grants were approximately $1.3 million,
$1.7 million and $1.1 million, respectively.

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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




10. Stockholders Equity 
(Continued)


The following table summarizes stock option and
restricted stock data relative to our long-term incentive plans
for the years ended December 31:

|                                                  |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |      | 
|------------------------------------------------- | --------- | --------- | --------- | ---------- | - | --------- | ---- | --------- |  | --------- | --------- | ---------- | - | - | ---- | ---- |  |  | --------- | ---------- | - | - | ---- | ---- | 
|                                                  |           |           |           |            |   |          
|                                                  |           | 2002      |           | 2001       |   | 2000     
|                                                  |           |           |           |            |   |          
|                                                  |           |           |           | Weighted-  |   |           |      | Weighted- |  |           |           | Weighted- 
|                                                  |           |           |           | Average    |   |           |      | Average   |  |           |           | Average   
|                                                  |           | Number of |           | Exercise   |   | Number of |      | Exercise  |  | Number of |           | Exercise  
|                                                  |           | shares    |           | Price      |   | shares    |      | Price     |  | shares    |           | Price     
|                                                  |           |           |           |            |   |           |      |           |  |           |           |           
|Options outstanding at beginning of year          |           |           | 5,808,260 |            |   | $         | 6.46 |           |  |           | 3,790,326 |            |   | $ | 5.02 |      |  |  | 7,307,459 |            |   | $ | 9.08 |     
|Changes during the year:                          |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     
|                                                  | Granted   |           |           | 4,749,460  |   |           |      | 6.43      |  |           |           | 3,914,323  |   |   |      | 7.77 |  |  |           | 2,569,325  |   |   |      | 3.32 | 
|                                                  | Exercised |           |           | (512,612   | ) |           |      | 3.72      |  |           |           | (943,608   | ) |   |      | 3.93 |  |  |           | (134,035   | ) |   |      | 3.52 | 
|                                                  | Cancelled |           |           | (1,162,473 | ) |           |      | 6.30      |  |           |           | (952,781   | ) |   |      | 8.59 |  |  |           | (5,952,423 | ) |   |      | 9.31 | 
|                                                  |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     
|Options outstanding at end of year                |           |           | 8,882,635 |            |   |           | 6.62 |           |  |           | 5,808,260 |            |   |   | 6.46 |      |  |  | 3,790,326 |            |   |   | 5.02 |     
|                                                  |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     
|Options exercisable at end of year                |           |           | 2,274,231 |            |   |           | 7.09 |           |  |           | 1,289,677 |            |   |   | 7.19 |      |  |  | 1,104,815 |            |   |   | 7.30 |     
|                                                  |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     
|Options available for grant at end of year        |           |           | 2,933,703 |            |   |           |      |           |  |           | 6,465,204 |            |   |   |      |      |  |  | 3,438,154 |            |   |   |      |     
|                                                  |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     
|Restricted stock outstanding at beginning of year |           |           | 1,290,572 |            |   |           |      |           |  |           | 2,354,873 |            |   |   |      |      |  |  | 67,519    |            |   |   |      |     
|Changes during the year:                          |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     
|                                                  | Granted   |           |           | 175,000    |   |           |      |           |  |           |           | 205,360    |   |   |      |      |  |  |           | 2,453,832  |   |   |      |      | 
|                                                  | Vested    |           |           | (112,684   | ) |           |      |           |  |           |           | (75,709    | ) |   |      |      |  |  |           | (90,181    | ) |   |      |      | 
|                                                  | Forfeited |           |           | (230,486   | ) |           |      |           |  |           |           | (1,193,952 | ) |   |      |      |  |  |           | (76,297    | ) |   |      |      | 
|                                                  |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     
|Restricted stock outstanding at end of year       |           |           | 1,122,402 |            |   |           |      |           |  |           | 1,290,572 |            |   |   |      |      |  |  | 2,354,873 |            |   |   |      |     
|                                                  |           |           |           |            |   |           |      |           |  |           |           |            |   |   |      |      |  |  |           |            |   |   |      |     

Exercise prices for options outstanding as of
December 31, 2002 ranged from $2.33 to $14.38. The
weighted-average remaining contractual life of these options is
approximately eight years. The following table provides certain
information with respect to stock options outstanding and
exercisable at December 31, 2002:

|                         |  |                     |           |                     |  |                  |       |             |  |                |      |  |  |  |           |  |  |   |       | 
|------------------------ |  | ------------------- | --------- | ------------------- |  | ---------------- | ----- | ----------- |  | -------------- | ---- |  |  |  | --------- |  |  | - | ----- | 
|                         |  |                     |           |                    
|                         |  | Options Outstanding |           | Options Exercisable
|                         |  |                     |           |                    
|                         |  |                     |           | Weighted-           |  |                 
|                         |  |                     |           | Weighted-           |  | Average          |       |             |  | Weighted-     
|                         |  | Options             |           | Average             |  | Remaining        |       | Options     |  | Average       
|Range of Exercise Prices |  | Outstanding         |           | Exercise Price      |  | Contractual Life |       | Exercisable |  | Exercise Price
|                         |  |                     |           |                     |  |                  |       |             |  |               
|$ 2.33  $ 6.85          |  |                     | 4,542,242 |                     |  | $                | 5.24  |             |  |                | 8.50 |  |  |  | 854,705   |  |  | $ | 4.26  | 
|$ 7.00  $ 9.80          |  |                     | 3,925,058 |                     |  |                  | 7.70  |             |  |                | 8.23 |  |  |  | 1,022,380 |  |  |   | 7.70  | 
|$10.46  $11.76          |  |                     | 364,710   |                     |  |                  | 11.29 |             |  |                | 8.28 |  |  |  | 346,521   |  |  |   | 11.29 | 
|$12.88  $14.38          |  |                     | 50,625    |                     |  |                  | 13.58 |             |  |                | 5.17 |  |  |  | 50,625    |  |  |   | 13.58 | 
|                         |  |                     |           |                     |  |                  |       |             |  |                |      |  |  |  |           |  |  |   |       | 
|$ 2.33  $14.38          |  |                     | 8,882,635 |                     |  |                  | 6.62  |             |  |                | 8.36 |  |  |  | 2,274,231 |  |  |   | 7.09  | 
|                         |  |                     |           |                     |  |                  |       |             |  |                |      |  |  |  |           |  |  |   |       | 

SFAS No. 148, issued on
December 31, 2002, provides companies alternative methods
of transitioning to SFAS No. 123s fair value
method of accounting for stock-based employee compensation, and
amends certain disclosure requirements. SFAS No. 148
does not mandate fair value accounting for stock-based employee

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




10. Stockholders Equity 
(Continued)


compensation, but does require all companies to
meet the disclosure provisions. We currently do not recognize
compensation expense for our stock option grants, which are
issued at fair market value on the date of grant, and accounted
for under the intrinsic value method. In order to adopt the
recognition provisions of SFAS No. 148 on a
prospective basis, we must make this election during the year
ending December 31, 2003 and change to fair value
accounting for stock options. We are continuing to evaluate the
transition provisions of SFAS No. 148.

Pro forma information regarding net loss and
diluted net loss per share has been determined as if we
accounted for our stock option grants under the fair market
value method described in SFAS No. 123. The fair
market value of our stock options was estimated at the date of
grant using a Black-Scholes option pricing model with the
following weighted-average assumptions for the years ended
December 31, 2002, 2001 and 2000, respectively:



| |   |                                                                                                 
| | - | ------------------------------------------------------------------------------------------------
| |  | risk-free interest rates of 4.8%, 4.3% and 5.1%;                                                
|
| |  | volatility factors of the expected market price
    of our Common Stock of .74, .59 and .57; and
|
| |  | expected option lives of five years.                                                            

We do not currently pay cash dividends on our
Common Stock and no future dividends are currently planned. The
weighted-average assumptions resulted in a weighted average
estimated fair market value of options granted during 2002, 2001
and 2000 of $3.55 per share, $4.25 per share and
$1.80 per share, respectively.

The Black-Scholes option valuation model was
developed for use in estimating the fair market value of traded
options that have no vesting restrictions and are fully
transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected
stock price volatility. Because our stock options have
characteristics significantly different from those of traded
options, and because changes in the subjective input assumptions
can materially affect the fair market value estimates, in
managements opinion, the existing models do not
necessarily provide a reliable single measure of the fair market
value of our stock options.

For purposes of pro forma disclosures, the
estimated fair market value of stock options is amortized to
expense over their respective vesting periods. The following
table summarized our pro forma net loss and diluted net loss per
share, assuming we accounted for our stock option grants in
accordance with SFAS No. 123, for the years ended
December 31 (in thousands, except per share amounts):

|                                          |  |      |         |      |  |      |         |  |  |   |        |  
|----------------------------------------- |  | ---- | ------- | ---- |  | ---- | ------- |  |  | - | ------ | -
|                                          |  | 2002 |         | 2001 |  | 2000
|                                          |  |      |         |      |  |     
|Reported net loss                         |  | $    | 146,090 |      |  | $    | 301,272 |  |  | $ | 54,502 |  
|Stock grant compensation expense (income) |  |      | 6,218   |      |  |      | 2,708   |  |  |   | (4,418 | )
|                                          |  |      |         |      |  |      |         |  |  |   |        |  
|Pro forma net loss                        |  | $    | 152,308 |      |  | $    | 303,980 |  |  | $ | 50,084 |  
|                                          |  |      |         |      |  |      |         |  |  |   |        |  
|Reported diluted net loss per share       |  | $    | 1.39    |      |  | $    | 2.90    |  |  | $ | 0.53   |  
|                                          |  |      |         |      |  |      |         |  |  |   |        |  
|Pro forma diluted net loss per share      |  | $    | 1.45    |      |  | $    | 2.92    |  |  | $ | 0.49   |  
|                                          |  |      |         |      |  |      |         |  |  |   |        |  

The pro forma amounts for 2000 reflect the impact
of the cancellation of approximately 4.8 million stock
options in exchange for approximately 2.4 million shares of
restricted stock (as discussed above). The pro forma effects are
not necessarily indicative of the effects on future years.

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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




10. Stockholders Equity 
(Continued)


The Beverly Enterprises 1988 Employee Stock
Purchase Plan (as amended and restated) enables all full-time
employees having completed one year of continuous service to
purchase shares of our Common Stock at the current market price
through payroll deductions. During 2002, 2001, and 2000 we
matched 15%, 15% and 30%, respectively, of each
participants contribution. Effective January 1, 2003,
we eliminated our matching contributions to this plan. Each
participant specifies the amount to be withheld from earnings
per pay period, subject to certain limitations. The total
charges to our consolidated statements of operations for the
years ended December 31, 2002, 2001 and 2000 related to
this plan were approximately $300,000, $500,000 and
$1.2 million, respectively.

11. Income Taxes

The provision for (benefit from) income taxes,
including taxes (benefits) allocated to discontinued operations,
consists of the following for the years ended December 31
(in thousands):

|         |          |      |       |       |  |      |        |        |   |   |         |         |  
|-------- | -------- | ---- | ----- | ----- |  | ---- | ------ | ------ | - | - | ------- | ------- | -
|         |          | 2002 |       | 2001  |  | 2000
|         |          |      |       |       |  |     
|Federal: |          |      |       |       |  |      |        |        |   |   |         |        
|         | Current  |      | $     | 2,102 |  |      | $      | 1,487  |   |   | $       |        |  
|         | Deferred |      |       |      |  |      |        | 56,831 |   |   |         | (26,962 | )
|State:   |          |      |       |       |  |      |        |        |   |   |         |        
|         | Current  |      |       | 3,983 |  |      |        | 5,000  |   |   |         | 4,000   |  
|         | Deferred |      |       |      |  |      |        | (1,930 | ) |   |         | 700     |  
|         |          |      |       |       |  |      |        |        |   |   |         |        
|         |          | $    | 6,085 |       |  | $    | 61,388 |        |   | $ | (22,262 | )      
|         |          |      |       |       |  |      |        |        |   |   |         |        

A reconciliation of our income tax provision
(benefit), including taxes (benefits) allocated to
discontinued operations, computed at the statutory federal
income tax rate to our actual provision for (benefit from)
income taxes is summarized as follows for the years ended
December 31 (dollars in thousands):

|                                   |  |      |         |      |  |      |         |   |  |   |         |  
|---------------------------------- |  | ---- | ------- | ---- |  | ---- | ------- | - |  | - | ------- | -
|                                   |  | 2002 |         | 2001 |  | 2000
|                                   |  |      |         |      |  |     
|Tax (benefit) at statutory rate    |  | $    | (49,002 | )    |  | $    | (83,959 | ) |  | $ | (26,868 | )
|General business tax credits       |  |      | (2,090  | )    |  |      | (5,987  | ) |  |   | (2,138  | )
|State tax provision (benefit), net |  |      | 2,593   |      |  |      | (10,666 | ) |  |   | 3,055   |  
|Impairment charges                 |  |      | 12,685  |      |  |      | 7,090   |   |  |   | 4,358   |  
|Increase in valuation allowance    |  |      | 45,520  |      |  |      | 153,697 |   |  |   |        |  
|Other                              |  |      | (3,621  | )    |  |      | 1,213   |   |  |   | (669    | )
|                                   |  |      |         |      |  |      |         |   |  |   |         |  
|                                   |  | $    | 6,085   |      |  | $    | 61,388  |   |  | $ | (22,262 | )
|                                   |  |      |         |      |  |      |         |   |  |   |         |  

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|    |                               
|--- | ------------------------------
|11. | Income
    Taxes  (Continued)

Deferred income taxes reflect the impact of
temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts
used for income tax purposes. The tax effects of temporary
differences giving rise to our deferred tax assets and
liabilities at December 31, 2002 and 2001 are as follows
(in thousands):

|                                             |         |                           |         |           |         |       |         |           |         |   |         |          |         |   |         |   |         | 
|-------------------------------------------- | ------- | ------------------------- | ------- | --------- | ------- | ----- | ------- | --------- | ------- | - | ------- | -------- | ------- | - | ------- | - | ------- | 
|                                             |         |                           |         |          
|                                             |         | 2002                      |         | 2001     
|                                             |         |                           |         |          
|                                             |         | Asset                     |         | Liability |         | Asset |         | Liability
|                                             |         |                           |         |           |         |       |         |          
|Insurance reserves                           |         | $                         | 79,071  |           |         | $     |        |           |         | $ | 74,878  |          |         | $ |        |  
|General business tax credit carryforwards    |         |                           | 28,742  |           |         |       |        |           |         |   | 21,137  |          |         |   |        |  
|Alternative minimum tax credit carryforwards |         |                           | 19,124  |           |         |       |        |           |         |   | 18,608  |          |         |   |        |  
|Provision for dispositions                   |         |                           | 66,768  |           |         |       | 8,387   |           |         |   | 57,605  |          |         |   | 2,791   |  
|Provision for Medicare repayment             |         |                           | 31,735  |           |         |       |        |           |         |   | 69,812  |          |         |   |        |  
|Depreciation and amortization                |         |                           | 28,399  |           |         |       | 113,228 |           |         |   | 15,513  |          |         |   | 127,005 |  
|Operating supplies                           |         |                           |        |           |         |       | 11,489  |           |         |   |        |          |         |   | 12,099  |  
|Federal net operating loss carryforwards     |         |                           | 55,659  |           |         |       |        |           |         |   | 30,772  |          |         |   |        |  
|Other                                        |         |                           | 29,279  |           |         |       | 6,456   |           |         |   | 27,254  |          |         |   | 19,987  |  
|                                             |         |                           |         |           |         |       |         |           |         |   |         |          |         |   |         |  
|                                             |         |                           | 338,777 |           |         |       | 139,560 |           |         |   | 315,579 |          |         |   | 161,882 |  
|Valuation allowances:                        |         |                           |         |           |         |       |         |           |         |   |         |          |         |   |         |  
|                                             | Federal |                           |         | (179,625  | )       |       |         |          |         |   |         | (134,219 | )       |   |         |  |        
|                                             | State   |                           |         | (19,592   | )       |       |         |          |         |   |         | (19,478  | )       |   |         |  |        
|                                             |         |                           |         |           |         |       |         |           |         |   |         |          |         |   |         |  
|                                             |         | Net deferred tax balances |         | $         | 139,560 |       |         | $         | 139,560 |   |         | $        | 161,882 |   |         | $ | 161,882 | 
|                                             |         |                           |         |           |         |       |         |           |         |   |         |          |         |   |         |  

At December 31, 2002, for federal income tax
purposes, we had federal net operating loss carryforwards of
$164.7 million that expire in years 2017 through 2022;
general business tax credit carryforwards of $28.7 million
that expire in years 2008 through 2022; and alternative minimum
tax credit carryforwards of $19.1 million that do not
expire. Under the guidance of SFAS No. 109 and based
upon our operating results in recent years, our reported
cumulative losses, and the inherent uncertainty associated with
the realization of future income, we have provided a valuation
allowance on our net deferred tax assets as of December 31,
2002 and 2001.

12. Fair Values of Financial
Instruments

Financial Accounting Standards Statement
No. 107, Disclosures about Fair Value of Financial
Instruments, (SFAS No. 107) requires
disclosure of fair value information about financial
instruments, whether or not recognized in the balance sheet, for
which it is practicable to estimate that value. In cases where
quoted market prices are not available, fair values are based on
estimates using present value or other valuation techniques.
Those techniques are significantly affected by the assumptions
used, including the discount rate and estimates of future cash
flows. In that regard, the derived fair value estimates cannot
be substantiated by comparison to independent markets and, in
many cases, could not be realized in immediate settlement of the
instrument. SFAS No. 107 excludes certain financial
instruments and all nonfinancial instruments from its disclosure
requirements. Accordingly, the aggregate fair value amounts
presented do not

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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|    |                                                       
|--- | ------------------------------------------------------
|12. | Fair Values of Financial
    Instruments  (Continued)

represent our underlying value. We used the
following methods and assumptions in estimating our fair value
disclosures for financial instruments:



| |                          
| | -------------------------
| | Cash and Cash Equivalents

The carrying amount reported in the consolidated
balance sheets for cash and cash equivalents approximates its
fair value.



| |                                                      
| | -----------------------------------------------------
| | Notes Receivable, Net (Including Current
    Portion)

For variable-rate notes that reprice frequently
and with no significant change in credit risk, fair values are
based on carrying values. The fair values for fixed-rate notes
are estimated using discounted cash flow analyses, using
interest rates currently being offered for loans with similar
terms to borrowers of similar credit quality.



| |                        
| | -----------------------
| | Beverly Indemnity Funds

The carrying amount reported in the consolidated
balance sheets for the Beverly Indemnity funds approximates its
fair value and is included in the consolidated balance sheet
caption Prepaid expenses and other.



| |                                               
| | ----------------------------------------------
| | Long-term Debt (Including Current
    Portion)

The carrying amounts of our variable-rate
borrowings approximate their fair values. The fair values of the
remaining long-term debt are estimated using discounted cash
flow analyses, based on our incremental borrowing rates for
similar types of borrowing arrangements.



| |                                                               
| | --------------------------------------------------------------
| | Federal Government Settlements (Including
    Current Portion)

The carrying amount of our obligations to the
federal government resulting from the settlements of the
Allocation Investigations is included in the consolidated
balance sheet captions Federal government settlement
obligations and Other liabilities and deferred
items. These obligations are non-interest bearing, and as
such, were imputed at their approximate fair market rate of 9%
for accounting purposes. The settlement offer made to the
federal government in February 2002 included an anticipated cash
payment of $35.0 million, which was included in the
consolidated balance sheet caption Federal government
settlement obligations at December 31, 2001. This
payment was made during 2002. The carrying amounts of these
obligations approximate their fair values.

81



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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




|    |                                                       
|--- | ------------------------------------------------------
|12. | Fair Values of Financial
    Instruments  (Continued)

The carrying amounts and estimated fair values of
our financial instruments at December 31, 2002 and 2001 are
as follows (in thousands):

|                                                               |  |          |         |            |  |          |         |            |  |   |         |  |  |   |         | 
|-------------------------------------------------------------- |  | -------- | ------- | ---------- |  | -------- | ------- | ---------- |  | - | ------- |  |  | - | ------- | 
|                                                               |  |          |         |           
|                                                               |  | 2002     |         | 2001      
|                                                               |  |          |         |           
|                                                               |  | Carrying |         |            |  | Carrying |         |           
|                                                               |  | Amount   |         | Fair Value |  | Amount   |         | Fair Value
|                                                               |  |          |         |            |  |          |         |           
|Cash and cash equivalents                                      |  | $        | 115,445 |            |  | $        | 115,445 |            |  | $ | 89,343  |  |  | $ | 89,343  | 
|Notes receivable, net (including current portion)              |  |          | 24,997  |            |  |          | 24,997  |            |  |   | 22,710  |  |  |   | 22,710  | 
|Beverly Indemnity funds                                        |  |          | 2,809   |            |  |          | 2,809   |            |  |   | 2,163   |  |  |   | 2,163   | 
|Long-term debt (including current portion)                     |  |          | 630,177 |            |  |          | 585,657 |            |  |   | 741,673 |  |  |   | 760,093 | 
|Federal government settlements (including current
    portion) |  |          | 73,891  |            |  |          | 73,891  |            |  |   | 119,859 |  |  |   | 119,859 | 

At December 31, 2002 and 2001, we had
outstanding defeased long-term debt with aggregate carrying
values of $4.6 million and $4.9 million, respectively.
The fair value of such defeased debt was approximately
$4.6 million and $5.1 million at December 31,
2002 and 2001, respectively. The fair value was estimated using
discounted cash flow analyses, based on our incremental
borrowing rates for similar types of borrowing arrangements.

In order to consummate certain dispositions and
other transactions, we have agreed to guarantee the debt assumed
or acquired by the purchaser or the performance under a lease,
by the lessee. It is not practicable to estimate the fair value
of these off-balance sheet guarantees (see Note 9). We do
not charge a fee for entering into such agreements and
contracting with a financial institution to estimate such
amounts could not be done without incurring excessive costs. In
addition, unlike us, a financial institution would not be in a
position to assume the underlying obligations and operate the
nursing facilities collateralizing the obligations, which would
significantly impact the calculation of the fair value of such
off-balance sheet guarantees.

At December 31, 2002 and 2001, we guaranteed
approximately $200,000 and $600,000, respectively, of loans to
certain of our officers, which are collateralized by shares of
our Common Stock pledged by the officers. The fair value of such
loans was approximately $200,000 and $600,000 at
December 31, 2002 and 2001, respectively. The fair value
was estimated using discounted cash flow analyses, based on our
incremental borrowing rates for similar types of borrowing
arrangements.

13. Segment Information

Statement of Financial Accounting Standards
No. 131, Disclosures about Segments of an Enterprise and
Related Information, provides disclosure guidelines for
segments of a company based on a management approach to defining
operating segments.



| |                                                                                                
| | -----------------------------------------------------------------------------------------------
| | Description of the Types of Services from
    which each Operating Segment Derives its Revenues

In January 2001, we implemented a new three-year
strategic plan aimed at accomplishing four fundamental
strategies:



| |   |                                                                                                            
| | - | -----------------------------------------------------------------------------------------------------------
| |  | streamline our nursing home portfolio to
    strengthen our long-term financial position;                  
|
| |  | accelerate the growth of our service and
    knowledge business;                                           
|
| |  | establish a leadership position in
    eldercare; and                                                      
|
| |  | reengineer our organization in order to focus our
    resources on profitable growth and new opportunities.

82



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##### Table of Contents



BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000




13. Segment
Information  (Continued)


In a continuing effort to effectively implement
these strategies and operate our business units more
effectively, in the first quarter of 2002, we reorganized our
operations into four primary segments:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                    
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Nursing facilities, which provide long-term
    healthcare through the operation of nursing homes and assisted
    living centers;                                                                                                                                                                                                                                                                                 
|
| |  | AEGIS, which provides rehabilitation therapy
    services under contract to Beverly and non-Beverly facilities;                                                                                                                                                                                                                                                                                                    
|
| |  | Home Care, which provides home health, hospice
    and home medical equipment services. A portion of this segment,
    MK Medical, was held for sale as of December 31, 2002, and
    as such its operations are included in discontinued operations
    in the accompanying consolidated statements of
    operations; and                                                                                        
|
| |  | Matrix, which operates outpatient therapy and
    other clinics and a managed care network. This segment was held
    for sale as of December 31, 2002, and as such its
    operations are included in discontinued operations in the
    accompanying consolidated statements of operations. We sold the
    outpatient rehabilitation therapy clinic operations and the
    managed care network in January 2003.



| |                                                             
| | ------------------------------------------------------------
| | Measurement of Segment Income or Loss and
    Segment Assets

The accounting policies of the operating segments
are the same as those described in the summary of significant
accounting policies (see Note 1). We evaluate financial
performance and allocate resources primarily based on income or
loss from operations before income taxes, excluding any unusual
items.



| |                                                               
| | --------------------------------------------------------------
| | Factors Management Used to Identify Our
    Operating Segments

Our operating segments are strategic business
units that offer different services within the healthcare
continuum. Business in each operating segment is conducted by
one or more corporations. The corporations comprising each
operating segment also have separate boards of directors.

83



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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000


13. Segment
Information  (Continued)

The following table summarizes certain
information for each of our operating segments, based on our
first quarter 2002 reorganization (in thousands):

|                             |                                  |            |   |           |  |      |   |              |  |       |   |               |   |  |   |          |   |  |   |           |   |  |   |         |  
|---------------------------- | -------------------------------- | ---------- | - | --------- |  | ---- | - | ------------ |  | ----- | - | ------------- | - |  | - | -------- | - |  | - | --------- | - |  | - | ------- | -
|                             |                                  | Nursing    |   |           |  | Home |   |              |  |       |   | Discontinued 
|                             |                                  | Facilities |   | AEGIS     |  | Care |   | All Other(1) |  | Total |   | Operations(2)
|                             |                                  |            |   |           |  |      |   |              |  |       |   |              
|Year ended December 31, 2002 |                                  |            |   |           |  |      |   |              |  |       |   |               |   |  |   |          |   |  |   |           |   |  |   |        
|                             | Revenues from external customers |            | $ | 2,147,775 |  |      | $ | 52,967       |  |       | $ | 40,579        |   |  | $ | 1,855    |   |  | $ | 2,243,176 |   |  | $ | 258,861 |  
|                             | Intercompany revenues            |            |   |          |  |      |   | 154,306      |  |       |   |              |   |  |   | 626      |   |  |   | 154,932   |   |  |   |        |  
|                             | Interest income                  |            |   | 1,615     |  |      |   | 42           |  |       |   | 14            |   |  |   | 3,068    |   |  |   | 4,739     |   |  |   | 12      |  
|                             | Interest expense                 |            |   | 14,873    |  |      |   |             |  |       |   | 24            |   |  |   | 49,816   |   |  |   | 64,713    |   |  |   | 2,116   |  
|                             | Depreciation and amortization    |            |   | 65,936    |  |      |   | 710          |  |       |   | 886           |   |  |   | 7,209    |   |  |   | 74,741    |   |  |   | 14,202  |  
|                             | Pre-tax income (loss)            |            |   | 125,367   |  |      |   | 35,569       |  |       |   | (3,573        | ) |  |   | (195,715 | ) |  |   | (38,352   | ) |  |   | (24,482 | )
|                             | Goodwill                         |            |   | 48,942    |  |      |   |             |  |       |   | 14,594        |   |  |   | (159     | ) |  |   | 63,377    |   |  |   | 3,713   |  
|                             | Total assets                     |            |   | 1,132,880 |  |      |   | 15,966       |  |       |   | 32,314        |   |  |   | 139,013  |   |  |   | 1,320,173 |   |  |   | 29,722  |  
|                             | Capital expenditures             |            |   | 84,696    |  |      |   | 1,676        |  |       |   | 500           |   |  |   | 7,778    |   |  |   | 94,650    |   |  |   | 5,453   |  
|Year ended December 31, 2001 |                                  |            |   |           |  |      |   |              |  |       |   |               |   |  |   |          |   |  |   |           |   |  |   |        
|                             | Revenues from external customers |            | $ | 2,353,441 |  |      | $ | 17,366       |  |       | $ | 53,400        |   |  | $ | 3,937    |   |  | $ | 2,428,144 |   |  | $ | 285,804 |  
|                             | Intercompany revenues            |            |   |          |  |      |   | 170,705      |  |       |   |              |   |  |   | 11,360   |   |  |   | 182,065   |   |  |   |        |  
|                             | Interest income                  |            |   | 150       |  |      |   | 4            |  |       |   |              |   |  |   | 2,785    |   |  |   | 2,939     |   |  |   | 138     |  
|                             | Interest expense                 |            |   | 23,211    |  |      |   |             |  |       |   | 74            |   |  |   | 53,354   |   |  |   | 76,639    |   |  |   | 2,734   |  
|                             | Depreciation and amortization    |            |   | 66,420    |  |      |   | 278          |  |       |   | 2,127         |   |  |   | 6,916    |   |  |   | 75,741    |   |  |   | 17,260  |  
|                             | Pre-tax income (loss)            |            |   | 93,663    |  |      |   | 48,322       |  |       |   | (13,953       | ) |  |   | (332,521 | ) |  |   | (204,489  | ) |  |   | (35,395 | )
|                             | Goodwill                         |            |   | 47,517    |  |      |   |             |  |       |   | 22,832        |   |  |   | (224     | ) |  |   | 70,125    |   |  |   | 74,759  |  
|                             | Total assets                     |            |   | 1,346,901 |  |      |   | 8,575        |  |       |   | 56,950        |   |  |   | 144,121  |   |  |   | 1,556,547 |   |  |   | 124,523 |  
|                             | Capital expenditures             |            |   | 75,903    |  |      |   | 1,200        |  |       |   | 445           |   |  |   | 3,127    |   |  |   | 80,675    |   |  |   | 8,726   |  
|Year ended December 31, 2000 |                                  |            |   |           |  |      |   |              |  |       |   |               |   |  |   |          |   |  |   |           |   |  |   |        
|                             | Revenues from external customers |            | $ | 2,296,479 |  |      | $ | 5,632        |  |       | $ | 55,305        |   |  | $ | 7,831    |   |  | $ | 2,365,247 |   |  | $ | 265,816 |  
|                             | Intercompany revenues            |            |   |          |  |      |   | 131,420      |  |       |   |              |   |  |   | 11,695   |   |  |   | 143,115   |   |  |   |        |  
|                             | Interest income                  |            |   | 204       |  |      |   |             |  |       |   | 1             |   |  |   | 2,296    |   |  |   | 2,501     |   |  |   | 149     |  
|                             | Interest expense                 |            |   | 24,550    |  |      |   |             |  |       |   | 168           |   |  |   | 52,669   |   |  |   | 77,387    |   |  |   | 2,629   |  
|                             | Depreciation and amortization    |            |   | 74,192    |  |      |   | 270          |  |       |   | 1,879         |   |  |   | 6,286    |   |  |   | 82,627    |   |  |   | 17,434  |  
|                             | Pre-tax income (loss)            |            |   | 86,244    |  |      |   | 24,387       |  |       |   | (7,438        | ) |  |   | (145,291 | ) |  |   | (42,098   | ) |  |   | (34,666 | )
|                             | Goodwill                         |            |   | 36,013    |  |      |   |             |  |       |   | 39,713        |   |  |   | (110     | ) |  |   | 75,616    |   |  |   | 128,126 |  
|                             | Total assets                     |            |   | 1,504,123 |  |      |   | 3,004        |  |       |   | 91,013        |   |  |   | 104,551  |   |  |   | 1,702,691 |   |  |   | 173,302 |  
|                             | Capital expenditures             |            |   | 57,523    |  |      |   | 513          |  |       |   | 1,617         |   |  |   | 8,950    |   |  |   | 68,603    |   |  |   | 7,424   |  



---



|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Consists of the operations of our corporate
    headquarters and related overhead, as well as certain
    non-operating revenues and expenses. These amounts also include
    pre-tax charges totaling approximately $96.5 million,
    $274.6 million and $61.7 million for 2002, 2001 and
    2000, respectively. These pre-tax charges primarily related to
    increasing reserves for patient care liability costs (in 2002
    and 2000), asset impairments, workforce reductions and other
    unusual items and special charges and adjustments related to
    federal government settlements.
|   
|(2) | The results of operations of disposed facilities,
    clinics and other assets have been reported as discontinued
    operations, for all periods presented, including facility,
    clinic and other asset dispositions during the six months ended
    June 30, 2003. (See Note 5.) The assets and
    liabilities of Matrix were reclassified as held for sale and the
    assets of MK Medical were reclassified as held for sale at
    December 31, 2002.                                                                                                                                       

84



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BEVERLY ENTERPRISES, INC.


NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS  (Continued)

Years ended December 31, 2002, 2001 and
2000


Note 14. Subsequent Events

During the six months ended June 30, 2003,
we disposed of the following facilities and other assets:



| |   |                                                                                                                                                                                                                                                                          
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | 27 nursing facilities (3,426 beds), two assisted
    living centers (61 units) and certain other assets for cash
    proceeds totaling approximately $91.0 million;                                                                                                      
|
| |  | the Care Focus business unit of our Home Care
    segment for cash proceeds of $6.4 million received in the
    second quarter, with additional contingent cash proceeds of
    approximately $1.2 million expected to be received in the
    fourth quarter of 2003; and
|
| |  | the outpatient rehabilitation clinic operations
    and the managed care network of our former Matrix segment for
    cash proceeds of $36.0 million.                                                                                                                    

All of the above have been reported as
discontinued operations for all periods presented in the
consolidated statements of operations. We recognized net pre-tax
gains of $40.8 million during the six months ended
June 30, 2003 as a result of these disposal activities.

Primarily with cash proceeds from the above
dispositions received during the six months ended June 30,
2003, we reduced fixed rate debt by $35.9 million, of which
$9.0 million was reflected in our current portion of
long-term debt as of December 31, 2002, and variable rate
off-balance sheet obligations by $69.5 million and we
increased our fixed rate notes receivable by a net of
$3.7 million.

During 2003, we acquired for cash of
$69.5 million the remaining leased facilities and our
corporate office building, which had been subject to our
off-balance sheet lease arrangement. The acquisitions were
primarily funded with the proceeds from the sale of nursing
facilities, outpatient rehabilitation clinics and Care Focus.

85



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##### Table of Contents



BEVERLY ENTERPRISES, INC.

SUPPLEMENTARY DATA (Unaudited)

QUARTERLY FINANCIAL DATA


(In thousands, except per share
data)


The following is a summary of our quarterly
results of operations for the years ended December 31, 2002
and 2001:

|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |   |         |  
|--------------------------------------------------------------------------------------------------------------------------------------------- | -------- | -------------------------------------------------------------------------------- | ------- | ---- | ------- | --- | ------- | ---- | ------- | ----- | ------- | ---- | ------- | --- | ------- | ---- | ------- | --- | --------- | ----- | ------- | - | ------- | ---- | ------- | - | ------- | ----- | ------- | - | ------- | ----- | ------- | - | -------- | ----- | ------- | - | --------- | - | ------- | -
|                                                                                                                                              |          |                                                                                  |         |     
|                                                                                                                                              |          | 2002                                                                             |         | 2001
|                                                                                                                                              |          |                                                                                  |         |     
|                                                                                                                                              |          | 1st                                                                              |         | 2nd  |         | 3rd |         | 4th  |         | Total |         | 1st  |         | 2nd |         | 3rd  |         | 4th |           | Total
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |      
|Total revenues                                                                                                                                |          | $                                                                                | 554,661 |      |         | $   | 565,373 |      |         | $     | 560,905 |      |         | $   | 566,976 |      |         | $   | 2,247,915 |       |         | $ | 588,887 |      |         | $ | 607,539 |       |         | $ | 619,867 |       |         | $ | 614,790  |       |         | $ | 2,431,083 |  
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|Income (loss) before provision for (benefit from)
    income taxes, discontinued operations and cumulative effect of
    change in accounting |          | $                                                                                | 22,611  |      |         | $   | (13,637 | )    |         | $     | 10,935  |      |         | $   | (58,261 | )    |         | $   | (38,352   | )     |         | $ | (98,850 | )    |         | $ | 11,519  |       |         | $ | 19,547  |       |         | $ | (136,705 | )     |         | $ | (204,489  | )
|Provision for (benefit from) income taxes                                                                                                     |          |                                                                                  | 1,079   |      |         |     | 1,331   |      |         |       | 1,021   |      |         |     | 2,654   |      |         |     | 6,085     |       |         |   | (39,200 | )    |         |   | 8,129   |       |         |   | 13,448  |       |         |   | 78,084   |       |         |   | 60,461    |  
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|Income (loss) before discontinued operations
    and cumulative effect of change in accounting                                                |          |                                                                                  | 21,532  |      |         |     | (14,968 | )    |         |       | 9,914   |      |         |     | (60,915 | )    |         |     | (44,437   | )     |         |   | (59,650 | )    |         |   | 3,390   |       |         |   | 6,099   |       |         |   | (214,789 | )     |         |   | (264,950  | )
|Discontinued operations, net of taxes                                                                                                         |          |                                                                                  | (1,028  | )    |         |     | 954     |      |         |       | 5,664   |      |         |     | (30,072 | )    |         |     | (24,482   | )     |         |   | 7,376   |      |         |   | 2,178   |       |         |   | 5,974   |       |         |   | (51,850  | )     |         |   | (36,322   | )
|Cumulative effect of change in accounting, net of
    taxes                                                                                   |          |                                                                                  | (77,171 | )    |         |     |        |      |         |       |        |      |         |     |        |      |         |     | (77,171   | )     |         |   |        |      |         |   |        |       |         |   |        |       |         |   |         |       |         |   |          |  
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|Net income (loss)                                                                                                                             |          | $                                                                                | (56,667 | )    |         | $   | (14,014 | )    |         | $     | 15,578  |      |         | $   | (90,987 | )    |         | $   | (146,090  | )     |         | $ | (52,274 | )    |         | $ | 5,568   |       |         | $ | 12,073  |       |         | $ | (266,639 | )     |         | $ | (301,272  | )
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|Income (loss) per share of common stock:                                                                                                      |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|                                                                                                                                              | Basic:   |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |   |        
|                                                                                                                                              |          | Before discontinued operations and cumulative
    effect of change in accounting |         | $    | 0.21    |     |         | $    | (0.14   | )     |         | $    | 0.09    |     |         | $    | (0.58   | )   |           | $     | (0.42   | ) |         | $    | (0.58   | ) |         | $     | 0.03    |   |         | $     | 0.06    |   |          | $     | (2.06   | ) |           | $ | (2.55   | )
|                                                                                                                                              |          | Discontinued operations                                                          |         |      | (0.01   | )   |         |      | 0.01    |       |         |      | 0.05    |     |         |      | (0.29   | )   |           |       | (0.23   | ) |         |      | 0.07    |   |         |       | 0.02    |   |         |       | 0.06    |   |          |       | (0.50   | ) |           |   | (0.35   | )
|                                                                                                                                              |          | Cumulative effect of change in accounting                                        |         |      | (0.74   | )   |         |      |        |       |         |      |        |     |         |      |        |     |           |       | (0.74   | ) |         |      |        |   |         |       |        |   |         |       |        |   |          |       |        |   |           |   |        |  
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|                                                                                                                                              |          | Net income (loss)                                                                |         | $    | (0.54   | )   |         | $    | (0.13   | )     |         | $    | 0.15    |     |         | $    | (0.87   | )   |           | $     | (1.39   | ) |         | $    | (0.50   | ) |         | $     | 0.05    |   |         | $     | 0.12    |   |          | $     | (2.56   | ) |           | $ | (2.90   | )
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|                                                                                                                                              |          | Shares used to compute per share amounts                                         |         |      | 104,441 |     |         |      | 104,731 |       |         |      | 104,865 |     |         |      | 104,861 |     |           |       | 104,726 |   |         |      | 103,705 |   |         |       | 103,884 |   |         |       | 104,264 |   |          |       | 104,286 |   |           |   | 104,037 |  
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|                                                                                                                                              | Diluted: |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |   |        
|                                                                                                                                              |          | Before discontinued operations and cumulative
    effect of change in accounting |         | $    | 0.20    |     |         | $    | (0.14   | )     |         | $    | 0.09    |     |         | $    | (0.58   | )   |           | $     | (0.42   | ) |         | $    | (0.58   | ) |         | $     | 0.03    |   |         | $     | 0.06    |   |          | $     | (2.06   | ) |           | $ | (2.55   | )
|                                                                                                                                              |          | Discontinued operations                                                          |         |      | (0.01   | )   |         |      | 0.01    |       |         |      | 0.05    |     |         |      | (0.29   | )   |           |       | (0.23   | ) |         |      | 0.07    |   |         |       | 0.02    |   |         |       | 0.06    |   |          |       | (0.50   | ) |           |   | (0.35   | )
|                                                                                                                                              |          | Cumulative effect of change in accounting                                        |         |      | (0.74   | )   |         |      |        |       |         |      |        |     |         |      |        |     |           |       | (0.74   | ) |         |      |        |   |         |       |        |   |         |       |        |   |          |       |        |   |           |   |        |  
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|                                                                                                                                              |          | Net income (loss)                                                                |         | $    | (0.54   | )   |         | $    | (0.13   | )     |         | $    | 0.15    |     |         | $    | (0.87   | )   |           | $     | (1.39   | ) |         | $    | (0.50   | ) |         | $     | 0.05    |   |         | $     | 0.11    |   |          | $     | (2.56   | ) |           | $ | (2.90   | )
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|Shares used to compute diluted net income
    (loss) per share amounts                                                                        |          |                                                                                  | 105,466 |      |         |     | 104,731 |      |         |       | 104,937 |      |         |     | 104,861 |      |         |     | 104,726   |       |         |   | 103,705 |      |         |   | 105,691 |       |         |   | 106,572 |       |         |   | 104,286  |       |         |   | 104,037   |  
|                                                                                                                                              |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|Common stock price range:                                                                                                                     |          |                                                                                  |         |      |         |     |         |      |         |       |         |      |         |     |         |      |         |     |           |       |         |   |         |      |         |   |         |       |         |   |         |       |         |   |          |       |         |   |           |  
|                                                                                                                                              | High     |                                                                                  | $       | 9.50 |         |     | $       | 9.18 |         |       | $       | 7.95 |         |     | $       | 3.89 |         |     |           |       |         |   | $       | 8.50 |         |   | $       | 10.73 |         |   | $       | 12.10 |         |   | $        | 10.69 |         |   |           |   |        
|                                                                                                                                              | Low      |                                                                                  | $       | 5.66 |         |     | $       | 6.95 |         |       | $       | 1.90 |         |     | $       | 1.60 |         |     |           |       |         |   | $       | 5.94 |         |   | $       | 5.20  |         |   | $       | 8.50  |         |   | $        | 6.50  |         |   |           |   |        



---

We recorded provisions for income taxes,
including taxes (benefits) allocated to discontinued operations,
at 4% and 26% for the years ended December 31, 2002 and
2001, respectively, even though we had pre-tax losses, primarily
due to state income taxes in 2002 and the recording of a
valuation allowance on our deferred tax assets in 2001. This
valuation allowance was required under the guidance of
SFAS No. 109 due to our recent historical operating
results, our reported cumulative losses and uncertainties
relating to future income.

The operations of disposed facilities, clinics
and other assets have been reported as discontinued operations
for all periods presented. In addition, the operations of
MK Medical have been reported as discontinued operations
for all periods presented since they met the criteria under
SFAS No. 144 as assets held for sale at
December 31, 2002. We have also reported 27 nursing
facilities, two assisted living centers and our Care Focus
business unit disposed of during the six months ended
June 30, 2003 as discontinued operations. In addition, we
recorded a cumulative effect for the change in accounting for
goodwill as of January 1, 2002.

86



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|        |                                                                                          
|------- | -----------------------------------------------------------------------------------------
|ITEM 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
    ON ACCOUNTING AND FINANCIAL DISCLOSURE.

None.






|         |                        
|-------- | -----------------------
|ITEM 9A. | CONTROLS AND PROCEDURES

The Company maintains disclosure controls and
procedures which are designed to ensure that information
required to be disclosed in the Companys Exchange Act
reports is recorded, processed, summarized and reported within
the time periods specified in the SECs rules and forms.
Such information is accumulated and communicated to the
Companys management, including its Chief Executive Officer
and Chief Financial Officer, as appropriate, to allow timely
decisions regarding required disclosure. In designing and
evaluating the disclosure controls and procedures, the
Companys management recognizes that any controls and
procedures, no matter how well designed and operated, can
provide only reasonable assurance of achieving the desired
control objectives, and the Companys management is
required to apply its judgment in evaluating the cost-benefit
relationship of possible controls and procedures.

As required by SEC Rule 13a-15(b), the
Company has carried out an evaluation as of December 31,
2002, the end of the period covered by this report, under the
supervision and with the participation of the Companys
management, including the Companys Chief Executive Officer
and Chief Financial Officer, of the effectiveness of the design
and operation of the Companys disclosure controls and
procedures. Based upon their evaluation and subject to the
foregoing, the Chief Executive Officer and Chief Financial
Officer concluded that the Companys disclosure controls
and procedures were effective at the reasonable assurance level.

There has been no change in the Companys
internal controls over financial reporting during the
Companys most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the
Companys internal controls over financial reporting.

87



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##### Table of Contents






PART III






|         |                                                     
|-------- | ----------------------------------------------------
|ITEM 10. | DIRECTORS AND EXECUTIVE OFFICERS OF THE
    COMPANY.

The following table sets forth the name, age and
position of each of our directors and executive officers. Each
director holds office until a successor is elected, or until the
earliest of death, resignation or removal. Each executive
officer is elected or appointed by the Board of Directors. The
executive officers and directors, as of August 31, 2003,
are as follows:

|                              |  |                                                                                       |  |     |    | 
|----------------------------- |  | ------------------------------------------------------------------------------------- |  | --- | -- | 
|Name                          |  | Position                                                                              |  | Age
|                              |  |                                                                                       |  |    
|William R. Floyd              |  | Chairman of the Board, President, Chief Executive
    Officer and Director            |  |     | 58 | 
|Douglas J. Babb               |  | Executive Vice President and Chief Administrative
    and Legal Officer and Secretary |  |     | 51 | 
|David R. Devereaux            |  | Chief Operating Officer  Nursing
    Facilities                                      |  |     | 41 | 
|Jeffrey P. Freimark           |  | Executive Vice President, Chief Financial and
    Information Officer                 |  |     | 48 | 
|Pamela H. Daniels             |  | Senior Vice President, Controller and Chief
    Accounting Officer                    |  |     | 39 | 
|James M. Griffith             |  | Senior Vice President  Investor
    Relations and Corporate Communications           |  |     | 61 | 
|Patricia C. Kolling           |  | Senior Vice President  Compliance                                                    |  |     | 56 | 
|Blaise J. Mercadante          |  | Senior Vice President  Marketing and
    New Business Innovation                     |  |     | 50 | 
|Diane L. Munson               |  | Senior Vice President  Professional
    Services                                     |  |     | 53 | 
|Harold A. Price               |  | Senior Vice President  Sales and
    Business Development                            |  |     | 53 | 
|Richard D. Skelly, Jr.        |  | Senior Vice President and Treasurer                                                   |  |     | 44 | 
|Patrice K. Acosta             |  | President  AEDON Staffing                                                            |  |     | 46 | 
|Chris W. Roussos              |  | President  CERES Strategies                                                          |  |     | 38 | 
|Cindy H. Susienka             |  | President  AEGIS Therapies and Home
    Care                                         |  |     | 44 | 
|John D. Fowler, Jr.(1)(2)     |  | Director                                                                              |  |     | 46 | 
|James R. Greene(1)(3)         |  | Director                                                                              |  |     | 81 | 
|Edith E. Holiday(2)(3)        |  | Director                                                                              |  |     | 51 | 
|John P. Howe, III, M.D.(2)(3) |  | Director                                                                              |  |     | 60 | 
|James W. McLane(1)            |  | Director                                                                              |  |     | 64 | 
|Donald L. Seeley(1)           |  | Director                                                                              |  |     | 59 | 
|Marilyn R. Seymann(2)(3)      |  | Director                                                                              |  |     | 61 | 



---



|    |                                                                   
|--- | ------------------------------------------------------------------
|(1) | Member of the Audit and Compliance Committee.                     
|   
|(2) | Member of the Nominating Committee and
    Compensation Committee.
|   
|(3) | Member of the Quality Management Committee.                       

Mr. Floydjoined us in April 2000 as President
and Chief Operating Officer. He was elected Chief Executive
Officer in February 2001 and Chairman of the Board in December
2001. From 1996 to 1998, he was Chief Executive Officer of
Choice Hotels International, and from 1995 to 1996, he was Chief
Operating Officer of Taco Bell Corporation. He has been a
director since July 2000.

Mr. Babbjoined
us in April 2000 as Executive Vice President, General Counsel
and Secretary. He was named head of Government Relations in
January 2001 and Chief Administrative and Legal Officer in
October 2002. Mr. Babb was Senior Vice President and Chief
of Staff for Burlington Northern Santa Fe Corporation

88



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##### Table of Contents



(BNSF) from 1995 to 1997 and Senior
Vice President  Merchandise Business Unit for BNSF
from 1997 to 1999.


Mr. Devereauxjoined us in August 1998 as Senior
Vice President  Operations for the Specialty Services
Division of the Nursing Facilities segment. He was elected
President of the corporations within the Nursing Facilities
segment in January 2001 and Chief Operating Officer in
July 2001. From 1996 to 1998, Mr. Devereaux was District
Vice President of Manor Care Health Services.

Mr. Freimarkjoined us in January 2002 as Executive
Vice President and Chief Financial Officer. He became head of
Information Technology in October 2002. From May 2001
to January 4, 2002, he was Senior Executive Vice President
and Chief Financial Officer of OfficeMax, Inc. From
March 1997 to May 2001, he was with The Grand Union
Company where he held positions as Executive Vice President,
Chief Financial Officer and President and Chief Executive
Officer.

Ms. Danielsjoined us in May 1988 as Audit
Coordinator. She was elected Vice President, Controller and
Chief Accounting Officer in October 1996 and Senior Vice
President in December 1999.

Mr. Griffithjoined us in November 1995 as
Senior Vice President  Investor Relations and
Corporate Communications.

Ms. Kollingjoined us in February 1989 as a
rehabilitation consultant. She was elected Vice
President  Rehabilitation in 1994, Vice
President  PPS in 1998 and Vice President 
Medicare Programs in 2000. She was elected Senior Vice
President  Compliance in October 2002.

Mr. Mercadantejoined us in 2002 as Senior Vice
President  Marketing and New Business Innovation.
From 1999 to 2002, he was President of Blazing Insights Group,
and from 1996 to 1999, he was Executive Vice
President  Marketing at Universal Studios.

Ms. Munsonjoined us in June 2002 as Vice
President  General Manager of New Business
Innovations. In April 2003, she was elected Senior Vice
President  Professional Services. From 2001 to 2002,
she was President and Chief Executive Officer of Fluidsense,
Inc., a medical device start-up company. From 1999 to 2000, she
was Senior Vice President, Healthcare Services of Inlight, Inc.,
a health care information technology corporation. From 1997 to
1999, she served as a consultant for Heidrick &
Struggles.

Mr. Pricejoined us in August 2002 as
Senior Vice President  Sales and Business
Development. Prior to that, he worked with us on a consulting
basis for 18 months. Before becoming a consultant, he was
Vice President  Strategic Relations and Business
Development for SelfCare, Inc. from 1999 to 2000. For the
17 years prior, he held various positions with Nova Care,
Inc. ultimately as Senior Vice President  Sales and
Marketing.

Mr. Skellyjoined us in April 2002 as Senior
Vice President and Treasurer. From September 2001 to
March 2002, he served as Senior Vice President and
Treasurer of OfficeMax, Inc. From June 1997 to
August 2001, he held various positions with The Grand Union
Company, including Acting Chief Financial Officer and Treasurer.

Ms. Acostajoined us in October 1996 as Vice
President  Risk Management. She was elected Senior
Vice President  Professional Services in
January 2001 and President  AEDON Staffing in
April, 2003. From January 1995 to September 1996,
Ms. Acosta was Vice President  Risk Management
at Regency Health Services.

Mr. Roussosjoined us in August 2001 as a
management designee of Matrix Rehabilitation. He was elected
President of Matrix Rehabilitation in February 2002 and
President of CERES Strategies in October 2002. From 2000 to
2001, he was Division General Manager of American Homestar, and
from 1996 to 2000 he was General Manager of Fleetwood
Enterprises.

Ms. Susienkajoined us in June 1998 as
President  AEGIS Therapies and was elected
President  Home Care Services in March 2002. From
1987 to 1998, she held various positions at NovaCare, Inc.,
including Regional Vice President.

89



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##### Table of Contents



Mr. Fowleris
Managing Director of Baycrest Capital, LLC, a private equity
investment and advisory firm. From 2001 to 2003, he was
President and a director of Large Scale Biology Corporation.
From 1998 to 2001, he was Managing Director of
JPMorgan & Co.s Healthcare Group and from 1992 to
1998, he was Managing Director and Head of Salomon Brothers,
Inc.s Healthcare Group. He has been a director since
February 2002.

Mr. Greenesprincipal occupation has been that of
a director and consultant to various United States and
international businesses since 1986. He is a director of Buck
Engineering Company and Bank Leumi. He has been a director since
January 1991.

Ms. Holidayis
an attorney. She served as a Former Assistant to the President
of the United States and Secretary of the Cabinet during the
George H.W. Bush administration. Prior to that,
Ms. Holiday served as General Counsel of the United States
Treasury Department. She is a director of Amerada Hess
Corporation, Canadian National Railway Company, H.J. Heinz
Company and RTI International Metals, Inc. She is also a
director or trustee of various investment companies in the
Franklin Templeton group of funds and Operating Trustee of TWE
Holdings I & II Trusts. She has been a director since
March 1995.

Dr. Howe, IIIis President and Chief Executive
Officer of Project Hope. From 1985 to 2001, he was President of
The University of Texas Health Center at San Antonio. He is also
a director of Southwest Foundation for Biomedical Research and
San Antonio Medical Foundation. He has been a director since
July 2001.

Mr. McLaneis
Chairman, President, Chief Executive Officer and Director of
Healthaxis Inc. From 1997 until early 2000, he was President,
Chief Operating Officer and Director of NovaCare, Inc. He
previously served as Executive Vice President of Aetna, Inc. and
as Chief Executive Officer of Aetna Health Plans. He has been a
director since October 2000.

Mr. Seeleyis
Director of the Applied Investment Management Program at the
University of Arizona Department of Finance. From 1997 to 2000,
he was Vice Chairman and Chief Financial Officer of True North
Communications. He is a director of Modem Media Inc. He also
serves on the Board of Trustees of William Blair Funds. He has
been a director since April 2002.

Ms. Seymannis
President and Chief Executive Officer of M One, Inc., a
management, risk and information systems consulting firm for
financial institutions. She is a director of Community First
Bankshares, Inc., Eos International, Inc., NorthWestern
Corporation and Maximus, Inc. She has been a director since
March 1995.






|         |                        
|-------- | -----------------------
|ITEM 11. | EXECUTIVE COMPENSATION.

Incorporated herein by reference from our
definitive proxy statement for the Annual Stockholders Meeting
held on May 22, 2003, pursuant to Regulation 14A.

90



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|         |                                                                    
|-------- | -------------------------------------------------------------------
|ITEM 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
    OWNERS AND MANAGEMENT.

The following table sets forth, as of
August 31, 2003, the beneficial ownership of our common
stock by: (i) each of our directors; (ii) each of our
named executive officers; (iii) all of our directors and
executive officers as a group; and (iv) all persons known
by us to be beneficial owners of more than 5% of our outstanding
common stock. Except as indicated by footnote, we believe that
each stockholder named in the table has sole voting and
investment power with respect to such shares. Unless otherwise
indicated, the address of each beneficial owner listed is
c/o Beverly Enterprises, One Thousand Beverly Way,
Fort Smith, Arkansas, 72919.

|                                                                 |  |            |           |             |  |              |           |              |  |       |        |               |  |  |         |     |  |  |           |  |  |  |      |  
|---------------------------------------------------------------- |  | ---------- | --------- | ----------- |  | ------------ | --------- | ------------ |  | ----- | ------ | ------------- |  |  | ------- | --- |  |  | --------- |  |  |  | ---- | -
|                                                                 |  | Sole       |           | Options     |  |              |           |              |  |       |        |              
|                                                                 |  | Voting and |           | Exercisable |  | Other        |           |              |  |       |        | Percentage of
|                                                                 |  | Investment |           | Within      |  | Beneficial   |           | Deferred     |  |       |        | Common       
|Directors and Officers                                           |  | Power      |           | 60 Days     |  | Ownership(1) |           | Compensation |  | Total |        | Stock        
|                                                                 |  |            |           |             |  |              |           |              |  |       |        |              
|Douglas J. Babb                                                  |  |            | 145,000   |             |  |              | 166,200   |              |  |       |       |               |  |  |        |     |  |  | 311,200   |  |  |  | *    |  
|David R. Devereaux                                               |  |            | 213,494   | (2)         |  |              | 112,850   |              |  |       |       |               |  |  |        |     |  |  | 326,344   |  |  |  | *    |  
|William R. Floyd                                                 |  |            | 511,216   |             |  |              | 675,000   |              |  |       |       |               |  |  |        |     |  |  | 1,186,216 |  |  |  | 1.11 | %
|John D. Fowler, Jr.                                              |  |            | 5,000     |             |  |              | 14,667    |              |  |       |       |               |  |  | 35,063  | (3) |  |  | 54,730    |  |  |  | *    |  
|Jeffrey P. Freimark                                              |  |            | 125,000   |             |  |              | 37,500    |              |  |       | 6,450  |               |  |  |        |     |  |  | 168,950   |  |  |  | *    |  
|James R. Greene                                                  |  |            | 8,875     |             |  |              | 42,250    |              |  |       |       |               |  |  | 60,530  | (3) |  |  | 111,655   |  |  |  | *    |  
|Edith E. Holiday                                                 |  |            | 800       |             |  |              | 45,625    |              |  |       | 200    |               |  |  | 22,752  | (3) |  |  | 69,377    |  |  |  | *    |  
|John P. Howe, III, M.D.                                          |  |            |          |             |  |              | 21,083    |              |  |       |       |               |  |  | 20,146  | (3) |  |  | 41,229    |  |  |  | *    |  
|James W. McLane                                                  |  |            |          |             |  |              | 23,968    |              |  |       |       |               |  |  | 14,857  | (3) |  |  | 38,825    |  |  |  | *    |  
|Donald L. Seeley                                                 |  |            | 23,000    |             |  |              | 12,833    |              |  |       |       |               |  |  |        |     |  |  | 35,833    |  |  |  | *    |  
|Marilyn R. Seymann                                               |  |            | 1,000     |             |  |              | 45,625    |              |  |       |       |               |  |  | 21,258  | (3) |  |  | 67,883    |  |  |  | *    |  
|Cindy H. Susienka                                                |  |            | 73,601    |             |  |              | 77,000    |              |  |       |       |               |  |  |        |     |  |  | 150,601   |  |  |  | *    |  
|All Directors and Executive officers as a group
    (22 persons) |  |            | 1,952,169 | (2)         |  |              | 1,618,751 |              |  |       | 16,900 |               |  |  | 174,607 |     |  |  | 3,762,427 |  |  |  | 3.51 | %

|                                      |                                  |       |            |               |  |  |       |   | 
|------------------------------------- | -------------------------------- | ----- | ---------- | ------------- |  |  | ----- | - | 
|                                      |                                  |       |            | Percentage of
|                                      |                                  |       |            | Common       
|5% Beneficial Owners                  |                                  | Total |            | Stock        
|                                      |                                  |       |            |              
|ICM Asset Management, Inc.(4)(5)      |                                  |       | 10,916,040 |               |  |  | 10.19 | %
|                                      | 601 W. Main Avenue, Suite 600    |       |            |               |  |  |       |   | 
|                                      | Spokane, Washington 99201        |       |            |               |  |  |       |   | 
|ML Global Allocation Fund, Inc.(4)(6) |                                  |       | 7,909,000  |               |  |  | 7.38  | %
|                                      | 800 Scudders Mill Road           |       |            |               |  |  |       |   | 
|                                      | Plainsboro, New Jersey 08536     |       |            |               |  |  |       |   | 
|Dimensional Fund Advisors Inc.(4)(7)  |                                  |       | 7,784,445  |               |  |  | 7.26  | %
|                                      | 1299 Ocean Avenue, 11th Floor    |       |            |               |  |  |       |   | 
|                                      | Santa Monica, California 90401   |       |            |               |  |  |       |   | 
|Strong Capital Management, Inc.(4)(8) |                                  |       | 6,028,377  |               |  |  | 5.63  | %
|                                      | 100 Heritage Reserve             |       |            |               |  |  |       |   | 
|                                      | Menomonee Falls, Wisconsin 53051 |       |            |               |  |  |       |   | 
|Mellon Financial Corporation(4)(9)    |                                  |       | 5,791,404  |               |  |  | 5.40  | %
|                                      | One Mellon Center                |       |            |               |  |  |       |   | 
|                                      | 500 Grant Street                 |       |            |               |  |  |       |   | 
|                                      | Pittsburgh, Pennsylvania 15258   |       |            |               |  |  |       |   | 



---



|    |                                              
|--- | ---------------------------------------------
|*   | Percentage of stock owned does not exceed 1%.
|   
|(1) | Shares owned by family members.              

91



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|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(2) | Includes shares allocated through participation
    in the Employee Stock Purchase Plan.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   
|(3) | Shares credited under the Non-Employee Director
    Deferred Compensation Plan.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   
|(4) | We have been notified by these persons that they
    were the beneficial owners of more than 5% of our voting
    securities as of December 31, 2002. According to the most
    recent Schedule 13G filed by the owner with the SEC, these
    shares were acquired in the ordinary course of business and were
    not acquired for the purpose of, and do not have the effect of,
    changing or influencing control over us.                                                                                                                                                                                                                                                                                                                             
|   
|(5) | Information based on Schedule 13G dated
    January 30, 2003. Includes all shares reported by ICM Asset
    Management, Inc., an investment advisor registered under the
    Investment Advisors Act of 1940, and James M. Simmons, the
    President of ICM Asset Management, Inc. under an agreement to
    file jointly on Schedule 13G. ICM Asset Management, Inc.
    and James M. Simmons have shared voting power with respect to
    6,373,562 shares and shared dispositive power with respect
    10,916,040 shares. Based on the Schedule 13G dated
    September 30, 2003, IMC Asset Management, Inc. and James M.
    Simmons currently have shared voting power with respect to
    5,066,265 shares, or 4.7%, of our outstanding common stock.
|   
|(6) | Information based on Schedule 13G dated
    January 7, 2003. Includes all shares reported by ML Global
    Allocation Fund, Inc., which has shared voting power and shared
    dispositive power with respect to these shares.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|   
|(7) | Information based on Schedule 13G dated
    February 12, 2003. Includes all shares reported by
    Dimensional Fund Advisors Inc., an investment advisor registered
    under the Investment Advisors Act of 1940. Dimensional Fund
    Advisors Inc. has sole voting power and sole dispositive power
    with respect to these shares.                                                                                                                                                                                                                                                                                                                                                                                                                     
|   
|(8) | Information based on Schedule 13G dated
    February 6, 2003. Includes all shares reported by Strong
    Capital Management, Inc., an investment advisor registered under
    the Investment Advisors Act of 1940, and Richard S. Strong, the
    Chairman of the Board of Strong Capital Management, Inc. under
    an agreement to file jointly on Schedule 13G. Strong
    Capital Management, Inc. and Richard S. Strong have shared
    voting power with respect to 6,009,447 shares and shared
    dispositive power with respect 6,028,377 shares.                                                                                                                                                                                                   
|   
|(9) | Information based on Schedule 13G dated
    January 14, 2003. Includes all shares reported by Mellon
    Financial Corporation, a parent holding company that includes
    Boston Safe Deposit and Trust Company, Mellon Bank, N.A.,
    Dreyfus Investment Advisors, Inc., Mellon Capital Management
    Corporation, The Dreyfus Corporation, The Boston Company Asset
    Management, LLC and MBC Investments Corporation. Mellon
    Financial Corporation has sole voting power over 4,883,019 of
    these shares and sole dispositive power over 5,664,704 of these
    shares.                                                                                                                                                                       






|         |                                                    
|-------- | ---------------------------------------------------
|ITEM 13. | CERTAIN RELATIONSHIPS AND RELATED
    TRANSACTIONS.

Beryl F. Anthony, who served as one of our
directors until May 24, 2002, provided government relations
consulting and legal advice to us in 2002. We paid
Mr. Anthony $160,000 for these services in 2002.

Harris Diamond, who served as one of our
directors until March 6, 2002, is Chief Executive Officer
of FRB/Weber Shandwick Worldwide. During 2002, we engaged
FRB/Weber Shandwick Worldwide to provide public relations
consulting services. The fees paid to FRB/Weber Shandwick
Worldwide for 2002 were $176,903.

Since 2001, we have engaged Rhino Internet
Solutions to develop corporate, business unit and
facility-specific web sites for us. The Rhino Internet Solutions
account manager for this relationship is Rebecca Seymann,
daughter-in-law of Dr. Marilyn Seymann, a director. We paid
Rhino Internet Solutions $182,018 in 2002.

During 2002, we engaged Silver Summit Group to
provide consulting services relating to research and development
of new business opportunities and sales and marketing
strategies. The fees paid to Silver Summit Group for 2002 were
$176,742. Mr. Hal Price, one of our executive officers, is
a principal of Silver Summit Group; however, he is no longer
active in that business.

92



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Mr. Freimark, our Chief Financial and
Information Officer, was indebted to his former employer. As
part of his employment agreement with us, we loaned
Mr. Freimark $194,092, which was used to pay off the loan
from his former employer. Such amount is the maximum principal
amount of the loan. The interest rate varies based upon the
federal short-term rate as published by the Internal Revenue
Service. One-quarter of the principal and interest is being
forgiven annually for so long as Mr. Freimark remains
employed by us, such that the loan will be forgiven entirely at
the end of Mr. Freimarks fourth year of employment.
The amounts forgiven are being grossed-up for taxes. The
principal amount outstanding under this loan as of June 30,
2003 was approximately $97,000.




PART IV






|         |                                                                     
|-------- | --------------------------------------------------------------------
|ITEM 15. | EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
    REPORTS ON FORM 8-K.



| |                                                                                                         
| | --------------------------------------------------------------------------------------------------------
| | (a) 1 and 2. The Consolidated
    Financial Statements and Consolidated Financial Statement
    Schedule

The consolidated financial statements and
consolidated financial statement schedule listed in the
accompanying index to consolidated financial statements and
financial statement schedules are filed as part of this annual
report.



| |            
| | -----------
| | 3. Exhibits

The exhibits listed in the accompanying index to
exhibits are incorporated by reference herein or are filed as
part of this annual report.



| |                        
| | -----------------------
| | (b) Reports on Form 8-K

On November 14, 2002, the Company filed a
report on Form 8-K, which included the transmittal letter
and certifications pursuant to 18 U.S.C. Section 1350
as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.

On October 31, 2002, the Company filed a
report on Form 8-K, which included a press release
announcing its earnings for the 2002 third quarter and certain
supplemental information.



| |             
| | ------------
| | (c) Exhibits

See the accompanying index to exhibits referenced
in Item 14(a)(3) above for a list of exhibits incorporated
herein by reference or filed as part of this annual report.



| |                                     
| | ------------------------------------
| | (d) Financial Statement
    Schedule

See the accompanying index to consolidated
financial statements and financial statement schedules
referenced in Item 15(a)1 and 2, above.

93



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BEVERLY ENTERPRISES, INC.






INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND


FINANCIAL STATEMENT SCHEDULES


(Item 15(a))


|   |  |                                                                                                                                              |  |      |    | 
|-- |  | -------------------------------------------------------------------------------------------------------------------------------------------- |  | ---- | -- | 
|   |  |                                                                                                                                              |  | Page
|   |  |                                                                                                                                              |  |     
|1. |  | Consolidated financial statements:                                                                                                           |  |      |    | 
|   |  | Report of Ernst & Young LLP, Independent
    Auditors                                                                                        |  |      | 48 | 
|   |  | Consolidated Balance Sheets at December 31,
    2002 and 2001                                                                                |  |      | 49 | 
|   |  | Consolidated Statements of Operations for each of
    the three years in the period ended December 31, 2002                                  |  |      | 50 | 
|   |  | Consolidated Statements of Stockholders
    Equity for each of the three years in the period ended
    December 31, 2002                    |  |      | 51 | 
|   |  | Consolidated Statements of Cash Flows for each of
    the three years in the period ended December 31, 2002                                  |  |      | 52 | 
|   |  | Notes to Consolidated Financial Statements                                                                                                   |  |      | 53 | 
|   |  | Supplementary Data (Unaudited) 
    Quarterly Financial Data                                                                                |  |      | 86 | 
|2. |  | Consolidated financial statement schedule for
    each of the three years in the period ended December 31,
    2002:                         |  |      |    | 
|   |  | II  Valuation and Qualifying Accounts                                                                                                       |  |      | 95 | 
|   |  | All other schedules are omitted because they are
    either not applicable or the items do not meet the various
    disclosure requirements. |  |      |    | 

94



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BEVERLY ENTERPRISES, INC.






SCHEDULE II  VALUATION AND
QUALIFYING ACCOUNTS

Years ended December 31, 2002, 2001 and
2000


(In thousands)


|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |         |        |  
|----------------------------- | ------------------------------------------ | -------------------------------- | ------ | ---------- | ------ | ------------ | ------ | ---------------- | ------ | ----- | ------- | ----------- | ------- | ---- | ------ | - | ------ | - | ------ | ------- | ------ | - | ------ | ------- | ------ | -
|                              |                                            |                                  |        |            |        |              |        | Due to           |        |       |         |            
|                              |                                            |                                  |        | Charged    |        |              |        | acquisitions,    |        |       |         |            
|                              |                                            | Balance at                       |        | (credited) |        |              |        | dispositions and |        |       |         |            
|                              |                                            | beginning of                     |        | to         |        | (Write-offs) |        | discontinued     |        |       |         | Balance at 
|Description                   |                                            | year                             |        | operations |        | recoveries   |        | operations       |        | Other |         | end of year
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |            
|Year ended December 31, 2002: |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              | Allowance for doubtful accounts:           |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |         |       
|                              |                                            | Accounts receivable  patient    |        | $          | 51,400 |              |        | $                | 53,692 |       |         | $           | (59,385 | )    |        | $ | (4,207 | ) |        | $       | 1,689  |   |        | $       | 43,189 |  
|                              |                                            | Accounts receivable  nonpatient |        |            | 1,074  |              |        |                  | 866    |       |         |             | (615    | )    |        |   | (14    | ) |        |         | 166    |   |        |         | 1,477  | *
|                              |                                            | Notes receivable                 |        |            | 4,941  |              |        |                  | 1,012  |       |         |             | (39     | )    |        |   | 181    |   |        |         | 1,666  |   |        |         | 7,761  |  
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              |                                            | $                                | 57,415 |            |        | $            | 55,570 |                  |        | $     | (60,039 | )           |         | $    | (4,040 | ) |        | $ | 3,521  |         |        | $ | 52,427 |        
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              | Valuation allowance on deferred tax assets |                                  | $      | 153,697    |        |              | $      | 45,520           |        |       | $       |            |         |      | $      |  |        |   | $      |        |        |   | $      | 199,217 |       
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|Year ended December 31, 2001: |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              | Allowance for doubtful accounts:           |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |         |       
|                              |                                            | Accounts receivable  patient    |        | $          | 91,636 |              |        | $                | 43,658 |       |         | $           | (95,214 | )(A) |        | $ | 4,022  |   |        | $       | 7,298  |   |        | $       | 51,400 |  
|                              |                                            | Accounts receivable  nonpatient |        |            | 1,372  |              |        |                  | 89     |       |         |             | (477    | )    |        |   |       |   |        |         | 90     |   |        |         | 1,074  | *
|                              |                                            | Notes receivable                 |        |            | 3,573  |              |        |                  | 504    |       |         |             | 93      |      |        |   | 107    |   |        |         | 664    |   |        |         | 4,941  |  
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              |                                            | $                                | 96,581 |            |        | $            | 44,251 |                  |        | $     | (95,598 | )           |         | $    | 4,129  |   |        | $ | 8,052  |         |        | $ | 57,415 |        
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              | Valuation allowance on deferred tax assets |                                  | $      |           |        |              | $      | 52,100           |        |       | $       |            |         |      | $      |  |        |   | $      | 101,597 | (B)    |   | $      | 153,697 |       
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|Year ended December 31, 2000: |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              | Allowance for doubtful accounts:           |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |         |       
|                              |                                            | Accounts receivable  patient    |        | $          | 64,398 |              |        | $                | 72,420 |       |         | $           | (42,090 | )    |        | $ | 949    |   |        | $       | (4,041 | ) |        | $       | 91,636 |  
|                              |                                            | Accounts receivable  nonpatient |        |            | 1,423  |              |        |                  | 932    |       |         |             | (983    | )    |        |   |       |   |        |         |       |   |        |         | 1,372  | *
|                              |                                            | Notes receivable                 |        |            | 5,604  |              |        |                  | (871   | )     |         |             | (709    | )    |        |   | (451   | ) |        |         |       |   |        |         | 3,573  |  
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        
|                              |                                            | $                                | 71,425 |            |        | $            | 72,481 |                  |        | $     | (43,782 | )           |         | $    | 498    |   |        | $ | (4,041 | )       |        | $ | 96,581 |        
|                              |                                            |                                  |        |            |        |              |        |                  |        |       |         |             |         |      |        |   |        |   |        |         |        |   |        |        



---



|    |  |                                                                                                                                                                                                    
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(A) |  | Includes the write-off of $39.0 million of
    Medicare cost report related receivables against a related
    reserve established in conjunction with the OIG settlement (see
    Item 8  Note 3).
|   
|(B) |  | Represents a full valuation allowance on our net
    deferred tax assets.                                                                                                                          
|   
|*   |  | Includes amounts classified in long-term other
    assets as well as current assets.                                                                                                               

95



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##### Table of Contents



BEVERLY ENTERPRISES, INC.

INDEX TO EXHIBITS

(ITEM 15(a)(3))


|        |   |    |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                
|------- | - | -- |  | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |   |    |  |            
|Number  |   |    |  | Description
|        |   |    |  |            
|        | 3 | .1 |  |            |  | Form of Restated Certificate of Incorporation of
    New Beverly Holdings, Inc. (incorporated by reference to
    Exhibit 3.1 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1997)                                                                                                                                                                                          
|        | 3 | .2 |  |            |  | Form of Certificate of Amendment of Certificate
    of Incorporation of New Beverly Holdings Inc., changing its name
    to Beverly Enterprises, Inc. (incorporated by reference to
    Exhibit 3.2 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1997)                                                                                                                    
|        | 3 | .3 |  |            |  | By-Laws of Beverly Enterprises, Inc.
    (incorporated by reference to Exhibit 3.4 to Beverly
    Enterprises, Inc.s Registration Statement on Form S-1
    filed on June 4, 1997 (File No. 333-28521))                                                                                                                                                                                                                       
|        | 4 | .1 |  |            |  | Indenture dated as of February 1, 1996
    between Beverly Enterprises, Inc. and Chemical Bank, as Trustee,
    with respect to Beverly Enterprises, Inc.s 9% Senior
    Notes due February 15, 2006 (the 9% Indenture)
    (incorporated by reference to Exhibit 4.1 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1995)                                               
|        | 4 | .2 |  |            |  | Form of Supplemental Indenture No. 2 to the
    9% Indenture dated as of November 19, 1997 (incorporated by
    reference to Exhibit 4.2 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-4 filed on
    September 8, 1997 (File No. 333-35137))                                                                                                                                                            
|        | 4 | .3 |  |            |  | Indenture dated as of April 25, 2001 between
    Beverly Enterprises, Inc., and The Bank of New York, as Trustee,
    with respect to Beverly Enterprises, Inc.s
    9 5/8% Senior Notes due 2009 (incorporated by
    reference to Exhibit 4.3 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 2001)                                                                       
|        | 4 | .4 |  |            |  | Indenture dated as of April 1, 1993 (the
    First Mortgage Bond Indenture), among Beverly
    Enterprises, Inc., Delaware Trust Company, as Corporate Trustee,
    and Richard N. Smith, as Individual Trustee, with respect to
    First Mortgage Bonds (incorporated by reference to
    Exhibit 4.1 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended March 31,
    1993)           
|        | 4 | .5 |  |            |  | First Supplemental Indenture dated as of
    April 1, 1993 to the First Mortgage Bond Indenture, with
    respect to 8.750% First Mortgage Bonds due 2008 (incorporated by
    reference to Exhibit 4.2 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended March 31, 1993)                                                                                                             
|        | 4 | .6 |  |            |  | Second Supplemental Indenture dated as of
    July 1, 1993 to the First Mortgage Bond Indenture, with
    respect to 8.625% First Mortgage Bonds due 2008 (replaces
    Exhibit 4.1 to Beverly Enterprises, Inc.s Current
    Report on Form 8-K dated July 15, 1993) (incorporated
    by reference to Exhibit 4.15 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended June 30, 1993)
|        | 4 | .7 |  |            |  | Trust Indenture dated as of December 1, 1994
    from Beverly Funding Corporation, as Issuer, to Chemical Bank,
    as Trustee (the Chemical Indenture) (incorporated by
    reference to Exhibit 10.45 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-4 filed on
    February 13, 1995 (File No. 33-57663))                                                                                            

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|        |    |     |  |             |  |                                                                                                                                                                                                                                                                                                                                                                            
|------- | -- | --- |  | ----------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |     |  |            
|Number  |    |     |  | Description
|        |    |     |  |            
|        | 4  | .8  |  |            |  | First Amendment and Restatement, dated as of
    June 1, 1999, of Trust Indenture, dated as of
    December 1, 1994, from Beverly Funding Corporation, as
    Issuer, to The Chase Manhattan Bank, as Trustee (incorporated by
    reference to Exhibit 10.2 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended September 30, 1999)
|        | 4  | .9  |  |            |  | Series Supplement dated as of
    December 1, 1994 to the Chemical Indenture (incorporated by
    reference to Exhibit 10.46 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-4 filed on
    February 13, 1995 (File No. 33-57663))                                                                                                                     
|        | 4  | .10 |  |            |  | Series Supplement, dated as of June 1,
    1999, by and between Beverly Funding Corporation and The Chase
    Manhattan Bank (1999-1 Series Supplement)
    (incorporated by reference to Exhibit 10.3 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended September 30, 1999)                                                    
|        | 4  | .11 |  |            |  | First Amendment, dated as of July 14, 1999,
    to the 1999-1 Series Supplement (incorporated by reference to
    Exhibit 10.4 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended
    September 30, 1999)                                                                                                                              
|        |    |     |  |             |  | In accordance with item 601 (b) (4) (iii) of
    Regulation S-K, certain instruments pertaining to Beverly
    Enterprises, Inc.s long-term obligations have not been
    filed; copies thereof will be furnished to the Securities and
    Exchange Commission upon request.                                                                                             
|        | 10 | .1* |  |            |  | Beverly Enterprises, Inc. Annual Incentive Plan
    (incorporated by reference to Exhibit 10.1 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                                                                                                                     
|        | 10 | .2* |  |            |  | 1997 Long-Term Incentive Plan, as amended and
    restated as of June 1, 2001 (the 1997 LTIP)
    (incorporated by reference to Exhibit 10.2 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                                                                     
|        | 10 | .3* |  |            |  | Beverly Enterprises, Inc. Non-Employee
    Directors Stock Option Plan, as amended and restated as of
    June 1, 2001 (the Directors Option Plan)
    (incorporated by reference to Exhibit 10.3 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                              
|        | 10 | .4* |  |            |  | Beverly Enterprises, Inc. Stock Grant Plan
    (incorporated by reference to Exhibit 10.6 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                                                                                                                                                          
|        | 10 | .5* |  |            |  | Executive Medical Reimbursement Plan
    (incorporated by reference to Exhibit 10.5 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1987)                                                                                                                                                                                
|        | 10 | .6* |  |            |  | Form of the Beverly Enterprises, Inc. Executive
    Life Insurance Plan Split Dollar Agreement (incorporated by
    reference to Exhibit 10.8 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 2000)                                                                                                                      
|        | 10 | .7* |  |            |  | Executive Physicals Policy (incorporated by
    reference to Exhibit 10.8 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended June 30, 1993)                                                                                                                                                                                        
|        | 10 | .8* |  |            |  | Amended and Restated Deferred Compensation Plan
    effective July 18, 1991 (incorporated by reference to
    Exhibit 10.6 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1991)                                                                                                                                         
|        | 10 | .9* |  |            |  | Amendment No. 1, effective
    September 29, 1994, to the Deferred Compensation Plan
    (incorporated by reference to Exhibit 10.13 to Beverly
    Enterprises, Inc.s Registration Statement on Form S-4
    filed on February 13, 1995 (File No. 33-57663))                                                                                                             

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|        |    |        |  |             |  |                                                                                                                                                                                                                                                                                                        
|------- | -- | ------ |  | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |        |  |            
|Number  |    |        |  | Description
|        |    |        |  |            
|        | 10 | .10*   |  |            |  | Executive Retirement Plan (incorporated by
    reference to Exhibit 10.9 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1987)                                                                                                                       
|        | 10 | .11*   |  |            |  | Amendment No. 1, effective as of
    July 1, 1991, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.8 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1991)                                                             
|        | 10 | .12*   |  |            |  | Amendment No. 2, effective as of
    December 12, 1991, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.9 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1991)                                                        
|        | 10 | .13*   |  |            |  | Amendment No. 3, effective as of
    July 31, 1992, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.10 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1992)                                                           
|        | 10 | .14*   |  |            |  | Amendment No. 4, effective as of
    January 1, 1993, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.18 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1994)                                                         
|        | 10 | .15*   |  |            |  | Amendment No. 5, effective as of
    September 29, 1994, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.19 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1994)                                                      
|        | 10 | .16*   |  |            |  | Amendment No. 6, effective as of
    January 1, 1996, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.18 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1997)                                                         
|        | 10 | .17*   |  |            |  | Amendment No. 7, effective as of
    September 1, 1997, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.19 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1997)                                                       
|        | 10 | .18*   |  |            |  | Amendment No. 8, dated as of
    December 11, 1997, to the Executive Retirement Plan,
    changing its name to the Executive SavingsPlus Plan
    (incorporated by reference to Exhibit 10.20 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1997)
|        | 10 | .19*   |  |            |  | Beverly Enterprises, Inc. Amended and Restated
    Supplemental Executive Retirement Plan effective as of
    April 1, 2000 (incorporated by reference to
    Exhibit 10.21 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2000)                    
|        | 10 | .20*   |  |            |  | Amendment Number One to the Beverly Enterprises,
    Inc. Supplemental Executive Retirement Plan (incorporated by
    reference to Exhibit 10.5 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended June 30, 2002)                                              
|        | 10 | .21*   |  |            |  | Beverly Enterprises, Inc. Amended and Restated
    Executive Deferred Compensation Plan effective July 1, 2000
    (incorporated by reference to Exhibit 10.22 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                 
|        | 10 | .22* |  |            |  | Beverly Enterprises, Inc. Executive Deferred
    Compensation Plan effective December 31, 2002                                                                                                                                                                                                         
|        | 10 | .23*   |  |            |  | Beverly Enterprises, Inc. Non-Employee Director
    Deferred Compensation Plan (the Directors
    Plan) (incorporated by reference to Exhibit 10.1 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 1997)                                        
|        | 10 | .24*   |  |            |  | Amendment No. 1, effective as of
    December 3, 1997, to the Directors Plan (incorporated
    by reference to Exhibit 10.26 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1997)                                                                  

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|        |    |        |  |             |  |                                                                                                                                                                                                                                                                                                                               
|------- | -- | ------ |  | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |        |  |            
|Number  |    |        |  | Description
|        |    |        |  |            
|        | 10 | .25*   |  |            |  | Beverly Enterprises, Inc.s Supplemental
    Long-Term Disability Plan (incorporated by reference to
    Exhibit 10.24 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1996)                                                                                                
|        | 10 | .26*   |  |            |  | Form of Indemnification Agreement between Beverly
    Enterprises, Inc. and its officers, directors and certain of its
    employees (incorporated by reference to Exhibit 19.14 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 1987)                                    
|        | 10 | .27*   |  |            |  | Form of request by Beverly Enterprises, Inc. to
    certain of its officers or directors relating to indemnification
    rights (incorporated by reference to Exhibit 19.5 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended September 30, 1987)                                     
|        | 10 | .28*   |  |            |  | Form of request by Beverly Enterprises, Inc. to
    certain of its officers or employees relating to indemnification
    rights (incorporated by reference to Exhibit 19.6 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended September 30, 1987)                                     
|        | 10 | .29*   |  |            |  | Agreement dated December 29, 1986 between
    Beverly Enterprises, Inc. and Stephens Inc. (incorporated by
    reference to Exhibit 10.20 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-1 filed on
    January 18, 1990 (File No. 33-33052))                                                            
|        | 10 | .30*   |  |            |  | Severance Agreement and Release of Claims between
    Beverly Enterprises, Inc. and David R. Banks (incorporated by
    reference to Exhibit 10.28 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 2001)                                                                    
|        | 10 | .31*   |  |            |  | Employment Contract, made as of April 10,
    2000, between Beverly Enterprises, Inc. and William R. Floyd
    (incorporated by reference to Exhibit 10.31 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                                            
|        | 10 | .32* |  |            |  | Employment Contract, made as of December 6,
    2001, between Beverly Enterprises, Inc. and William R. Floyd                                                                                                                                                                                                                  
|        | 10 | .33* |  |            |  | Employment and Severance Agreement, made as of
    June 1, 2001, between Beverly Enterprises, Inc. and David
    R. Devereaux                                                                                                                                                                                                 
|        | 10 | .34* |  |            |  | Severance Agreement and Release of Claims made as
    of October 5, 2002, between Beverly Enterprises, Inc. and
    Bobby W. Stephens                                                                                                                                                                                         
|        | 10 | .35* |  |            |  | Employment Contract, made as of April 1,
    2000, between Beverly Enterprises, Inc. and Douglas J. Babb                                                                                                                                                                                                                      
|        | 10 | .36* |  |            |  | Severance Agreement and Release of Claims made as
    of October 11, 2002, between Beverly Enterprises, Inc. and
    Michael J. Matheny                                                                                                                                                                                       
|        | 10 | .37* |  |            |  | Severance Agreement and Release of Claims made as
    of December 31, 2001, between Beverly Enterprises, Inc. and
    T. Jerald Moore                                                                                                                                                                                         
|        | 10 | .38*   |  |            |  | Employment Agreement, dated February 15,
    2001 between Beverly Enterprises, Inc. and William A. Mathies
    (incorporated by reference to Exhibit 10.1 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2001)                                                           
|        | 10 | .39*   |  |            |  | Form of Employment Contract, made as of
    August 22, 1997, between New Beverly Holdings, Inc. and
    certain of its officers (incorporated by reference to
    Exhibit 10.20 to Amendment No. 2 to Beverly
    Enterprises, Inc.s Registration Statement on Form S-1
    filed on September 22, 1997 (File No. 333-28521))

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|        |    |      |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|------- | -- | ---- |  | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |      |  |            
|Number  |    |      |  | Description
|        |    |      |  |            
|        | 10 | .40* |  |            |  | Form of Irrevocable Trust Agreement for the
    Beverly Enterprises, Inc. Executive Benefits Plan (incorporated
    by reference to Exhibit 10.55 to Beverly Enterprises,
    Inc.s Registration Statement of Form S-4 filed on
    February 13, 1995 (File No. 33-57663))                                                                                                                                                                                                                                                                                                                                                                                                   
|        | 10 | .41* |  |            |  | Retention Stock Option Agreement, effective as of
    June 1, 2001, between Beverly Enterprises, Inc. and David
    R. Devereaux (incorporated by reference to Exhibit 10.1 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended September 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                    
|        | 10 | .42* |  |            |  | Description of Non-Employee Directors Group Term
    Life Insurance Plan (incorporated by reference to
    Exhibit 10.4 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended June 30,
    2002)                                                                                                                                                                                                                                                                                                                                                                                                                                             
|        | 10 | .43* |  |            |  | Performance based Stock Option Award to Jeffrey
    P. Freimark pursuant to Process Improvement Team Awards Program
    (incorporated by reference to Exhibit 10.6 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                  
|        | 10 | .44* |  |            |  | Performance based Stock Option Award to L.
    Darlene Burch pursuant to Process Improvement Team Awards
    Program (incorporated by reference to Exhibit 10.7 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                     
|        | 10 | .45* |  |            |  | Description of Long Term Disability Policy for
    William R. Floyd (incorporated by reference to Exhibit 10.8
    to Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|        | 10 | .46* |  |            |  | Employment Agreement made as of December 31,
    2001 between Beverly Enterprises, Inc. and Jeffrey P. Freimark
    (incorporated by reference to Exhibit 10.9 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                      
|        | 10 | .47* |  |            |  | Demand Promissory Note made as of April 1,
    2002 by Richard D. Skelly, Jr. for the benefit of Beverly
    Enterprises, Inc. (incorporated by reference to
    Exhibit 10.10 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended June 30,
    2002)                                                                                                                                                                                                                                                                                                                                                                                      
|        | 10 | .48  |  |            |  | Master Lease Document  General Terms
    and Conditions dated December 30, 1985 for Leases between
    Beverly California Corporation and various subsidiaries thereof
    as lessees and Beverly Investment Properties, Inc. as lessor
    (incorporated by reference to Exhibit 10.12 to Beverly
    California Corporations Annual Report on Form 10-K
    for the year ended December 31, 1985)                                                                                                                                                                                                                                                                         
|        | 10 | .49  |  |            |  | Agreement dated as of December 29, 1986
    among Beverly California Corporation, Beverly
    Enterprises  Texas, Inc., Stephens Inc. and Real
    Properties, Inc. (incorporated by reference to Exhibit 28
    to Beverly California Corporations Current Report on
    Form 8-K dated December 30, 1986) and letter agreement
    dated as of July 31, 1987 among Beverly Enterprises, Inc.,
    Beverly California Corporation, Beverly Enterprises 
    Texas, Inc. and Stephens Inc. with reference thereto
    (incorporated by reference to Exhibit 19.13 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 1987)
|        | 10 | .50  |  |            |  | Agreement to Sale of Nursing Home Properties
    dated as of July 13, 2001 among Beverly Enterprises
    Florida, Inc., Beverly Health and Rehabilitation Services, Inc.,
    Beverly Savana Cay Manor, Inc., Vantage Healthcare Corporation,
    Peterson Health Care, Inc. and NMC of Florida, LLC (the
    Florida Sale Agreement) (incorporated by reference
    to Exhibit 10.36 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                               

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|        |    |       |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|------- | -- | ----- |  | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |       |  |            
|Number  |    |       |  | Description
|        |    |       |  |            
|        | 10 | .51   |  |            |  | First Amendment to Florida Sale Agreement, dated
    as of August 30, 2001 (incorporated by reference to
    Exhibit 10.37 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|        | 10 | .52   |  |            |  | Second Amendment to Florida Sale Agreement, dated
    as of October 29, 2001 (incorporated by reference to
    Exhibit 10.38 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|        | 10 | .53   |  |            |  | Participation Agreement, dated as of
    August 28, 1998, among Vantage Healthcare Corporation,
    Petersen Health Care, Inc., Beverly Savana Cay Manor, Inc.,
    Beverly Enterprises  Georgia, Inc., Beverly
    Enterprises  California, Inc., Beverly Health
    and Rehabilitation Services, Inc., Beverly
    Enterprises  Arkansas, Inc., Beverly
    Enterprises  Florida, Inc. and Beverly
    Enterprises  Washington, Inc. as Lessees and
    Structural Guarantors; Beverly Enterprises, Inc. as
    Representative, Construction Agent and Parent Guarantor; Bank of
    Montreal Global Capital Solutions, Inc. as Agent Lessor and
    Lessor; The Long-Term Credit Bank of Japan, LTD., Los Angeles
    Agency, Bank of America National Trust and Savings Association
    and Bank of Montreal, as Lenders; The Long-Term Credit Bank of
    Japan, LTD., Los Angeles Agency as Arranger; and Bank of
    Montreal as Co-Arranger and Syndication Agent and Administrative
    Agent for the Lenders with respect to the Lease Financing of New
    Headquarters for Beverly Enterprises, Inc., Assisted Living and
    Nursing Facilities for Beverly Enterprises, Inc. (incorporated
    by reference to Exhibit 10.37 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1998)
|        | 10 | .54   |  |            |  | Master Amendment No. 1 to Amended and
    Restated Participation Agreement and Amended and Restated Master
    Lease and Open-End Mortgage, entered into as of
    September 30, 1999, among Beverly Enterprises, Inc. as
    Representative, Construction Agent, Parent Guarantor and Lessee;
    Bank of Montreal Global Capital Solutions, Inc., as Lessor and
    Agent Lessor; and Bank of Montreal, as Administrative Agent,
    Arranger and Syndication Agent (incorporated by reference to
    Exhibit 10.5 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended
    September 30, 1999)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|        | 10 | .55   |  |            |  | Amendment No. 2 to Amended and Restated
    Participation Agreement entered into as of April 14, 2000
    (incorporated by reference to Exhibit 10.37 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|        | 10 | .56   |  |            |  | Amendment to Participation Agreement dated as of
    December 29, 2000 (incorporated by reference to
    Exhibit 10.38 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2000)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|        | 10 | .57   |  |            |  | Master Amendment No. 3 to Amended and
    Restated Participation Agreement, dated as of April 25,
    2001 (incorporated by reference to Exhibit 10.43 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|        | 10 | .58   |  |            |  | Amendment No. 4 to Amended and Restated
    Participation Agreement, dated as of December 31, 2001
    (incorporated by reference to Exhibit 10.44 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|        | 10 | .59 |  |            |  | Amendment No. 5 to Amended and Restated
    Participation Agreement, dated as of December 20, 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|        | 10 | .60 |  |            |  | Amendment No. 6 to Amended and Restated
    Participation Agreement, dated as of February 28, 2003
    [Note: Confidential treatment has been requested for portions of
    this document.]                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            

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|        |    |       |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|------- | -- | ----- |  | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |       |  |            
|Number  |    |       |  | Description
|        |    |       |  |            
|        | 10 | .61   |  |            |  | Master Services Agreement, dated as of
    September 18, 1997, by and between Alltel Information
    Services, Inc. and Beverly Enterprises, Inc. (incorporated by
    reference to Exhibit 10.41 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                           
|        | 10 | .62 |  |            |  | Fifth Amendment to Master Services Agreement,
    dated as of January 1, 2003, by and between Alltel
    Information Services, Inc. and Beverly Enterprises, Inc.                                                                                                                                                                                                                                                                                                                                                                   
|        | 10 | .63   |  |            |  | Amended and Restated Credit Agreement, dated as
    of April 25, 2001, among Beverly Enterprises, Inc., the
    Banks listed therein and Morgan Guaranty Trust Company of New
    York, as Issuing Bank and Agent (the Credit
    Agreement) (incorporated by reference to
    Exhibit 10.46 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                              
|        | 10 | .64   |  |            |  | Amendment No. 1 to the Credit Agreement,
    dated as of December 31, 2001 (incorporated by reference to
    Exhibit 10.47 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                                                                                                                                                  
|        | 10 | .65 |  |            |  | Amendment No. 3 to the Credit Agreement,
    dated as of December 20, 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|        | 10 | .66 |  |            |  | Amendment No. 4 to the Credit Agreement,
    dated as of February 28, 2003 [Note: Confidential treatment
    has been requested for portions of this document.]                                                                                                                                                                                                                                                                                                                                                                     
|        | 10 | .67   |  |            |  | Corporate Integrity Agreement between the Office
    of Inspector General of the Department of Health and Human
    Services and Beverly Enterprises, Inc. (incorporated by
    reference to Exhibit 10.43 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                  
|        | 10 | .68   |  |            |  | Plea Agreement (incorporated by reference to
    Exhibit 10.44 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1999)                                                                                                                                                                                                                                                                                                                                                              
|        | 10 | .69   |  |            |  | Addendum to Plea Agreement (incorporated by
    reference to Exhibit 10.45 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                                                                                                                                                  
|        | 10 | .70   |  |            |  | Settlement Agreement between the United States of
    America, Beverly Enterprises, Inc. and Domenic Todarello
    (incorporated by reference to Exhibit 10.46 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1999)                                                                                                                                                                                                                                                              
|        | 10 | .71   |  |            |  | Agreement Regarding the Operations of Beverly
    Enterprises  California, Inc. (incorporated by
    reference to Exhibit 10.47 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                                                                                            
|        | 10 | .72   |  |            |  | Settlement Agreement, effective October 15,
    2002, between the Centers for Medicare and Medicaid Services,
    United States Department of Health and Human Services and
    Beverly Enterprises, Inc. (incorporated by reference to
    Exhibit 10.2 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended
    September 30, 2002)                                                                                                                                                             
|        | 10 | .73   |  |            |  | Permanent Injunction and Final Judgment entered
    on August 1, 2002 in People of the State of
    California v. Beverly Enterprises, Inc.; Beverly Health and
    Rehabilitation Services, Inc.; Beverly Enterprises 
    California, Inc.; and Beverly Healthcare  California,
    Inc., Superior Court of the State of California For the County
    of Santa Barbara (incorporated by reference to
    Exhibit 10.1 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended June 30,
    2002)

102



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|        |    |       |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                            
|------- | -- | ----- |  | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |       |  |            
|Number  |    |       |  | Description
|        |    |       |  |            
|        | 10 | .74   |  |            |  | Waiver of Constitutional Rights and Plea Form and
    Court Finding and Order dated August 1, 2002 in The People
    of California v. Beverly Enterprises 
    California, Inc., Superior Court of the State of California For
    the County of Santa Barbara (S.C. No. 1094923)
    (incorporated by reference to Exhibit 10.2 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2002)
|        | 10 | .75   |  |            |  | Investigation Conclusion letter dated
    August 1, 2002, from the State of California Department of
    Justice (incorporated by reference to Exhibit 10.3 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 2002)                                                                                                                                                                      
|        | 10 | .76 |  |            |  | Loan Agreement dated as of December 24, 2002
    between Beverly Enterprises  Washington, Inc. and
    Bank of America, N.A.                                                                                                                                                                                                                                                                                                              
|        | 10 | .77 |  |            |  | Guaranty dated December 24, 2002 between
    Beverly Enterprises, Inc. and Bank of America, N.A.                                                                                                                                                                                                                                                                                                                                           
|        | 12 | .1   |  |            |  | Computation of Ratio of Earnings to Fixed Charges                                                                                                                                                                                                                                                                                                                                                                                          
|        | 21 | .1  |  |            |  | Subsidiaries of Registrant                                                                                                                                                                                                                                                                                                                                                                                                                 
|        | 23 | .1   |  |            |  | Consent of Ernst & Young LLP,
    Independent Auditors                                                                                                                                                                                                                                                                                                                                                                                     
|        | 31 | .1   |  |            |  | Chief Executive Officers certification
    pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                      
|        | 31 | .2   |  |            |  | Chief Financial Officers certification
    pursuant to Section 302 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                      
|        | 32 | .1   |  |            |  | Chief Executive Officers certification
    pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                      
|        | 32 | .2   |  |            |  | Chief Financial Officers certification
    pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                                                                                                                                                      



---



|  |                                                                                                                                                                            
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|* | Exhibits 10.1 through 10.47 are management
    contracts, compensatory plans, contracts and arrangements in
    which any director or named executive officer participates.



|  |                
|- | ---------------
| | Filed herewith.



|   |                  
|-- | -----------------
| | Previously filed.

103



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##### Table of Contents






SIGNATURES

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



| |                          
| | -------------------------
| | BEVERLY ENTERPRISES, INC.
| | Registrant               

Dated: October 14, 2003

| |     |                     
| | --- | --------------------
| | By: | /s/ WILLIAM R. FLOYD

| |                                     
| | ------------------------------------
| |                                     
| | William R. Floyd                    
| | Chairman of the Board, President,   
| | Chief Executive Officer and Director

Each person whose signature appears below
constitutes and appoints Douglas J. Babb and John G. Arena, and
each of them, his or her true and lawful attorney-in-fact and
agent, with full power of substitution and resubstitution, for
him or her and in his or her name, place and stead, in any and
all capacities, to sign any and all amendments to this report
and to file the same, with all exhibits thereto and other
documents in connection therewith, with the Securities and
Exchange Commission granting unto said attorneys-in-fact and
agents and each of them, full power and authority to do and
perform each and every act and thing requisite and necessary to
be done in and about the premises, as fully to all intents and
purposes as he or she might do in person, hereby ratifying and
confirming all that said attorney-in-fact and agent or either of
them, or their or his substitutes or substitute, may lawfully do
or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities
Exchange Act of 1934, this report has been signed below by the
following persons on behalf of Registrant and in the capacities
and on the dates indicated:

|                                           |  |                                                                            |  |                  |  | 
|------------------------------------------ |  | -------------------------------------------------------------------------- |  | ---------------- |  | 
|                                          
|/s/ WILLIAM R. FLOYDWilliam R. Floyd       |  | Chairman of the Board, President, Chief Executive
    Officer and Director |  | October 14, 2003
|                                          
|/s/ JEFFREY P. FREIMARKJeffrey P. Freimark |  | Executive Vice President and Chief Financial and
    Information Officer   |  | October 14, 2003
|                                          
|/s/ PAMELA H. DANIELSPamela H. Daniels     |  | Senior Vice President, Controller and Chief
    Accounting Officer         |  | October 14, 2003
|                                          
|*John D. Fowler, Jr.                       |  | Director                                                                   |  | October 14, 2003
|                                          
|*James R. Greene                           |  | Director                                                                   |  | October 14, 2003
|                                          
|*Edith E. Holiday                          |  | Director                                                                   |  | October 14, 2003
|                                          
|*John P. Howe, III                         |  | Director                                                                   |  | October 14, 2003

104



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##### Table of Contents



|                    |  |                                                |  |                  |  | 
|------------------- |  | ---------------------------------------------- |  | ---------------- |  | 
|                   
|*James W. McLane    |  | Director                                       |  | October 14, 2003
|                   
|*Donald L. Seeley   |  | Director                                       |  | October 14, 2003
|                   
|*Marilyn R. Seymann |  | Director                                       |  | October 14, 2003
|                   
|*By:                |  | /s/ JOHN G. ARENAJohn G. ArenaAttorney-in-Fact |  |                  |  | 

105



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##### Table of Contents






INDEX TO EXHIBITS

|        |   |    |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                
|------- | - | -- |  | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |   |    |  |            
|Number  |   |    |  | Description
|        |   |    |  |            
|        | 3 | .1 |  |            |  | Form of Restated Certificate of Incorporation of
    New Beverly Holdings, Inc. (incorporated by reference to
    Exhibit 3.1 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1997)                                                                                                                                                                                          
|        | 3 | .2 |  |            |  | Form of Certificate of Amendment of Certificate
    of Incorporation of New Beverly Holdings Inc., changing its name
    to Beverly Enterprises, Inc. (incorporated by reference to
    Exhibit 3.2 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1997)                                                                                                                    
|        | 3 | .3 |  |            |  | By-Laws of Beverly Enterprises, Inc.
    (incorporated by reference to Exhibit 3.4 to Beverly
    Enterprises, Inc.s Registration Statement on Form S-1
    filed on June 4, 1997 (File No. 333-28521))                                                                                                                                                                                                                       
|        | 4 | .1 |  |            |  | Indenture dated as of February 1, 1996
    between Beverly Enterprises, Inc. and Chemical Bank, as Trustee,
    with respect to Beverly Enterprises, Inc.s 9% Senior
    Notes due February 15, 2006 (the 9% Indenture)
    (incorporated by reference to Exhibit 4.1 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1995)                                               
|        | 4 | .2 |  |            |  | Form of Supplemental Indenture No. 2 to the
    9% Indenture dated as of November 19, 1997 (incorporated by
    reference to Exhibit 4.2 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-4 filed on
    September 8, 1997 (File No. 333-35137))                                                                                                                                                            
|        | 4 | .3 |  |            |  | Indenture dated as of April 25, 2001 between
    Beverly Enterprises, Inc., and The Bank of New York, as Trustee,
    with respect to Beverly Enterprises, Inc.s
    9 5/8% Senior Notes due 2009 (incorporated by
    reference to Exhibit 4.3 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 2001)                                                                       
|        | 4 | .4 |  |            |  | Indenture dated as of April 1, 1993 (the
    First Mortgage Bond Indenture), among Beverly
    Enterprises, Inc., Delaware Trust Company, as Corporate Trustee,
    and Richard N. Smith, as Individual Trustee, with respect to
    First Mortgage Bonds (incorporated by reference to
    Exhibit 4.1 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended March 31,
    1993)           
|        | 4 | .5 |  |            |  | First Supplemental Indenture dated as of
    April 1, 1993 to the First Mortgage Bond Indenture, with
    respect to 8.750% First Mortgage Bonds due 2008 (incorporated by
    reference to Exhibit 4.2 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended March 31, 1993)                                                                                                             
|        | 4 | .6 |  |            |  | Second Supplemental Indenture dated as of
    July 1, 1993 to the First Mortgage Bond Indenture, with
    respect to 8.625% First Mortgage Bonds due 2008 (replaces
    Exhibit 4.1 to Beverly Enterprises, Inc.s Current
    Report on Form 8-K dated July 15, 1993) (incorporated
    by reference to Exhibit 4.15 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended June 30, 1993)
|        | 4 | .7 |  |            |  | Trust Indenture dated as of December 1, 1994
    from Beverly Funding Corporation, as Issuer, to Chemical Bank,
    as Trustee (the Chemical Indenture) (incorporated by
    reference to Exhibit 10.45 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-4 filed on
    February 13, 1995 (File No. 33-57663))                                                                                            
|        | 4 | .8 |  |            |  | First Amendment and Restatement, dated as of
    June 1, 1999, of Trust Indenture, dated as of
    December 1, 1994, from Beverly Funding Corporation, as
    Issuer, to The Chase Manhattan Bank, as Trustee (incorporated by
    reference to Exhibit 10.2 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended September 30, 1999)                                                    



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##### Table of Contents



|        |    |      |  |             |  |                                                                                                                                                                                                                                                                                                                        
|------- | -- | ---- |  | ----------- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |      |  |            
|Number  |    |      |  | Description
|        |    |      |  |            
|        | 4  | .9   |  |            |  | Series Supplement dated as of
    December 1, 1994 to the Chemical Indenture (incorporated by
    reference to Exhibit 10.46 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-4 filed on
    February 13, 1995 (File No. 33-57663))                                                                 
|        | 4  | .10  |  |            |  | Series Supplement, dated as of June 1,
    1999, by and between Beverly Funding Corporation and The Chase
    Manhattan Bank (1999-1 Series Supplement)
    (incorporated by reference to Exhibit 10.3 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended September 30, 1999)
|        | 4  | .11  |  |            |  | First Amendment, dated as of July 14, 1999,
    to the 1999-1 Series Supplement (incorporated by reference to
    Exhibit 10.4 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended
    September 30, 1999)                                                                          
|        |    |      |  |             |  | In accordance with item 601 (b) (4) (iii) of
    Regulation S-K, certain instruments pertaining to Beverly
    Enterprises, Inc.s long-term obligations have not been
    filed; copies thereof will be furnished to the Securities and
    Exchange Commission upon request.                                         
|        | 10 | .1*  |  |            |  | Beverly Enterprises, Inc. Annual Incentive Plan
    (incorporated by reference to Exhibit 10.1 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                                                                 
|        | 10 | .2*  |  |            |  | 1997 Long-Term Incentive Plan, as amended and
    restated as of June 1, 2001 (the 1997 LTIP)
    (incorporated by reference to Exhibit 10.2 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                 
|        | 10 | .3*  |  |            |  | Beverly Enterprises, Inc. Non-Employee
    Directors Stock Option Plan, as amended and restated as of
    June 1, 2001 (the Directors Option Plan)
    (incorporated by reference to Exhibit 10.3 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)          
|        | 10 | .4*  |  |            |  | Beverly Enterprises, Inc. Stock Grant Plan
    (incorporated by reference to Exhibit 10.6 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                                                                                                      
|        | 10 | .5*  |  |            |  | Executive Medical Reimbursement Plan
    (incorporated by reference to Exhibit 10.5 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1987)                                                                                                                            
|        | 10 | .6*  |  |            |  | Form of the Beverly Enterprises, Inc. Executive
    Life Insurance Plan Split Dollar Agreement (incorporated by
    reference to Exhibit 10.8 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 2000)                                                                  
|        | 10 | .7*  |  |            |  | Executive Physicals Policy (incorporated by
    reference to Exhibit 10.8 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended June 30, 1993)                                                                                                                                    
|        | 10 | .8*  |  |            |  | Amended and Restated Deferred Compensation Plan
    effective July 18, 1991 (incorporated by reference to
    Exhibit 10.6 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1991)                                                                                     
|        | 10 | .9*  |  |            |  | Amendment No. 1, effective
    September 29, 1994, to the Deferred Compensation Plan
    (incorporated by reference to Exhibit 10.13 to Beverly
    Enterprises, Inc.s Registration Statement on Form S-4
    filed on February 13, 1995 (File No. 33-57663))                                                         
|        | 10 | .10* |  |            |  | Executive Retirement Plan (incorporated by
    reference to Exhibit 10.9 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1987)                                                                                                                                       
|        | 10 | .11* |  |            |  | Amendment No. 1, effective as of
    July 1, 1991, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.8 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1991)                                                                             



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##### Table of Contents



|        |    |        |  |             |  |                                                                                                                                                                                                                                                                                                        
|------- | -- | ------ |  | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |        |  |            
|Number  |    |        |  | Description
|        |    |        |  |            
|        | 10 | .12*   |  |            |  | Amendment No. 2, effective as of
    December 12, 1991, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.9 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1991)                                                        
|        | 10 | .13*   |  |            |  | Amendment No. 3, effective as of
    July 31, 1992, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.10 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1992)                                                           
|        | 10 | .14*   |  |            |  | Amendment No. 4, effective as of
    January 1, 1993, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.18 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1994)                                                         
|        | 10 | .15*   |  |            |  | Amendment No. 5, effective as of
    September 29, 1994, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.19 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1994)                                                      
|        | 10 | .16*   |  |            |  | Amendment No. 6, effective as of
    January 1, 1996, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.18 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1997)                                                         
|        | 10 | .17*   |  |            |  | Amendment No. 7, effective as of
    September 1, 1997, to the Executive Retirement Plan
    (incorporated by reference to Exhibit 10.19 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1997)                                                       
|        | 10 | .18*   |  |            |  | Amendment No. 8, dated as of
    December 11, 1997, to the Executive Retirement Plan,
    changing its name to the Executive SavingsPlus Plan
    (incorporated by reference to Exhibit 10.20 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1997)
|        | 10 | .19*   |  |            |  | Beverly Enterprises, Inc. Amended and Restated
    Supplemental Executive Retirement Plan effective as of
    April 1, 2000 (incorporated by reference to
    Exhibit 10.21 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2000)                    
|        | 10 | .20*   |  |            |  | Amendment Number One to the Beverly Enterprises,
    Inc. Supplemental Executive Retirement Plan (incorporated by
    reference to Exhibit 10.5 to Beverly Enterprises,
    Inc.s Quarterly Report on Form 10-Q for the quarter
    ended June 30, 2002)                                              
|        | 10 | .21*   |  |            |  | Beverly Enterprises, Inc. Amended and Restated
    Executive Deferred Compensation Plan effective July 1, 2000
    (incorporated by reference to Exhibit 10.22 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                 
|        | 10 | .22* |  |            |  | Beverly Enterprises, Inc. Executive Deferred
    Compensation Plan effective December 31, 2002                                                                                                                                                                                                         
|        | 10 | .23*   |  |            |  | Beverly Enterprises, Inc. Non-Employee Director
    Deferred Compensation Plan (the Directors
    Plan) (incorporated by reference to Exhibit 10.1 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 1997)                                        
|        | 10 | .24*   |  |            |  | Amendment No. 1, effective as of
    December 3, 1997, to the Directors Plan (incorporated
    by reference to Exhibit 10.26 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1997)                                                                  
|        | 10 | .25*   |  |            |  | Beverly Enterprises, Inc.s Supplemental
    Long-Term Disability Plan (incorporated by reference to
    Exhibit 10.24 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1996)                                                                         
|        | 10 | .26*   |  |            |  | Form of Indemnification Agreement between Beverly
    Enterprises, Inc. and its officers, directors and certain of its
    employees (incorporated by reference to Exhibit 19.14 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 1987)             



---



##### Table of Contents



|        |    |        |  |             |  |                                                                                                                                                                                                                                                                                                                               
|------- | -- | ------ |  | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |        |  |            
|Number  |    |        |  | Description
|        |    |        |  |            
|        | 10 | .27*   |  |            |  | Form of request by Beverly Enterprises, Inc. to
    certain of its officers or directors relating to indemnification
    rights (incorporated by reference to Exhibit 19.5 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended September 30, 1987)                                     
|        | 10 | .28*   |  |            |  | Form of request by Beverly Enterprises, Inc. to
    certain of its officers or employees relating to indemnification
    rights (incorporated by reference to Exhibit 19.6 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended September 30, 1987)                                     
|        | 10 | .29*   |  |            |  | Agreement dated December 29, 1986 between
    Beverly Enterprises, Inc. and Stephens Inc. (incorporated by
    reference to Exhibit 10.20 to Beverly Enterprises,
    Inc.s Registration Statement on Form S-1 filed on
    January 18, 1990 (File No. 33-33052))                                                            
|        | 10 | .30*   |  |            |  | Severance Agreement and Release of Claims between
    Beverly Enterprises, Inc. and David R. Banks (incorporated by
    reference to Exhibit 10.28 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 2001)                                                                    
|        | 10 | .31*   |  |            |  | Employment Contract, made as of April 10,
    2000, between Beverly Enterprises, Inc. and William R. Floyd
    (incorporated by reference to Exhibit 10.31 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                                            
|        | 10 | .32* |  |            |  | Employment Contract, made as of December 6,
    2001, between Beverly Enterprises, Inc. and William R. Floyd                                                                                                                                                                                                                  
|        | 10 | .33* |  |            |  | Employment and Severance Agreement, made as of
    June 1, 2001, between Beverly Enterprises, Inc. and David
    R. Devereaux                                                                                                                                                                                                 
|        | 10 | .34* |  |            |  | Severance Agreement and Release of Claims made as
    of October 5, 2002, between Beverly Enterprises, Inc. and
    Bobby W. Stephens                                                                                                                                                                                         
|        | 10 | .35* |  |            |  | Employment Contract, made as of April 1,
    2000, between Beverly Enterprises, Inc. and Douglas J. Babb                                                                                                                                                                                                                      
|        | 10 | .36* |  |            |  | Severance Agreement and Release of Claims made as
    of October 11, 2002, between Beverly Enterprises, Inc. and
    Michael J. Matheny                                                                                                                                                                                       
|        | 10 | .37* |  |            |  | Severance Agreement and Release of Claims made as
    of December 31, 2001, between Beverly Enterprises, Inc. and
    T. Jerald Moore                                                                                                                                                                                         
|        | 10 | .38*   |  |            |  | Employment Agreement, dated February 15,
    2001 between Beverly Enterprises, Inc. and William A. Mathies
    (incorporated by reference to Exhibit 10.1 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2001)                                                           
|        | 10 | .39*   |  |            |  | Form of Employment Contract, made as of
    August 22, 1997, between New Beverly Holdings, Inc. and
    certain of its officers (incorporated by reference to
    Exhibit 10.20 to Amendment No. 2 to Beverly
    Enterprises, Inc.s Registration Statement on Form S-1
    filed on September 22, 1997 (File No. 333-28521))
|        | 10 | .40*   |  |            |  | Form of Irrevocable Trust Agreement for the
    Beverly Enterprises, Inc. Executive Benefits Plan (incorporated
    by reference to Exhibit 10.55 to Beverly Enterprises,
    Inc.s Registration Statement of Form S-4 filed on
    February 13, 1995 (File No. 33-57663))                                                   
|        | 10 | .41*   |  |            |  | Retention Stock Option Agreement, effective as of
    June 1, 2001, between Beverly Enterprises, Inc. and David
    R. Devereaux (incorporated by reference to Exhibit 10.1 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended September 30, 2002)                                    
|        | 10 | .42*   |  |            |  | Description of Non-Employee Directors Group Term
    Life Insurance Plan (incorporated by reference to
    Exhibit 10.4 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended June 30,
    2002)                                                                                             



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##### Table of Contents



|        |    |      |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|------- | -- | ---- |  | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |      |  |            
|Number  |    |      |  | Description
|        |    |      |  |            
|        | 10 | .43* |  |            |  | Performance based Stock Option Award to Jeffrey
    P. Freimark pursuant to Process Improvement Team Awards Program
    (incorporated by reference to Exhibit 10.6 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                  
|        | 10 | .44* |  |            |  | Performance based Stock Option Award to L.
    Darlene Burch pursuant to Process Improvement Team Awards
    Program (incorporated by reference to Exhibit 10.7 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                     
|        | 10 | .45* |  |            |  | Description of Long Term Disability Policy for
    William R. Floyd (incorporated by reference to Exhibit 10.8
    to Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|        | 10 | .46* |  |            |  | Employment Agreement made as of December 31,
    2001 between Beverly Enterprises, Inc. and Jeffrey P. Freimark
    (incorporated by reference to Exhibit 10.9 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2002)                                                                                                                                                                                                                                                                                                                                                                                                      
|        | 10 | .47* |  |            |  | Demand Promissory Note made as of April 1,
    2002 by Richard D. Skelly, Jr. for the benefit of Beverly
    Enterprises, Inc. (incorporated by reference to
    Exhibit 10.10 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended June 30,
    2002)                                                                                                                                                                                                                                                                                                                                                                                      
|        | 10 | .48  |  |            |  | Master Lease Document  General Terms
    and Conditions dated December 30, 1985 for Leases between
    Beverly California Corporation and various subsidiaries thereof
    as lessees and Beverly Investment Properties, Inc. as lessor
    (incorporated by reference to Exhibit 10.12 to Beverly
    California Corporations Annual Report on Form 10-K
    for the year ended December 31, 1985)                                                                                                                                                                                                                                                                         
|        | 10 | .49  |  |            |  | Agreement dated as of December 29, 1986
    among Beverly California Corporation, Beverly
    Enterprises  Texas, Inc., Stephens Inc. and Real
    Properties, Inc. (incorporated by reference to Exhibit 28
    to Beverly California Corporations Current Report on
    Form 8-K dated December 30, 1986) and letter agreement
    dated as of July 31, 1987 among Beverly Enterprises, Inc.,
    Beverly California Corporation, Beverly Enterprises 
    Texas, Inc. and Stephens Inc. with reference thereto
    (incorporated by reference to Exhibit 19.13 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 1987)
|        | 10 | .50  |  |            |  | Agreement to Sale of Nursing Home Properties
    dated as of July 13, 2001 among Beverly Enterprises
    Florida, Inc., Beverly Health and Rehabilitation Services, Inc.,
    Beverly Savana Cay Manor, Inc., Vantage Healthcare Corporation,
    Peterson Health Care, Inc. and NMC of Florida, LLC (the
    Florida Sale Agreement) (incorporated by reference
    to Exhibit 10.36 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                               
|        | 10 | .51  |  |            |  | First Amendment to Florida Sale Agreement, dated
    as of August 30, 2001 (incorporated by reference to
    Exhibit 10.37 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                                                                                                                                                                                                                                                                                            
|        | 10 | .52  |  |            |  | Second Amendment to Florida Sale Agreement, dated
    as of October 29, 2001 (incorporated by reference to
    Exhibit 10.38 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                                                                                                                                                                                                                                                                                          



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##### Table of Contents



|        |    |       |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|------- | -- | ----- |  | ----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |       |  |            
|Number  |    |       |  | Description
|        |    |       |  |            
|        | 10 | .53   |  |            |  | Participation Agreement, dated as of
    August 28, 1998, among Vantage Healthcare Corporation,
    Petersen Health Care, Inc., Beverly Savana Cay Manor, Inc.,
    Beverly Enterprises  Georgia, Inc., Beverly
    Enterprises  California, Inc., Beverly Health
    and Rehabilitation Services, Inc., Beverly
    Enterprises  Arkansas, Inc., Beverly
    Enterprises  Florida, Inc. and Beverly
    Enterprises  Washington, Inc. as Lessees and
    Structural Guarantors; Beverly Enterprises, Inc. as
    Representative, Construction Agent and Parent Guarantor; Bank of
    Montreal Global Capital Solutions, Inc. as Agent Lessor and
    Lessor; The Long-Term Credit Bank of Japan, LTD., Los Angeles
    Agency, Bank of America National Trust and Savings Association
    and Bank of Montreal, as Lenders; The Long-Term Credit Bank of
    Japan, LTD., Los Angeles Agency as Arranger; and Bank of
    Montreal as Co-Arranger and Syndication Agent and Administrative
    Agent for the Lenders with respect to the Lease Financing of New
    Headquarters for Beverly Enterprises, Inc., Assisted Living and
    Nursing Facilities for Beverly Enterprises, Inc. (incorporated
    by reference to Exhibit 10.37 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1998)
|        | 10 | .54   |  |            |  | Master Amendment No. 1 to Amended and
    Restated Participation Agreement and Amended and Restated Master
    Lease and Open-End Mortgage, entered into as of
    September 30, 1999, among Beverly Enterprises, Inc. as
    Representative, Construction Agent, Parent Guarantor and Lessee;
    Bank of Montreal Global Capital Solutions, Inc., as Lessor and
    Agent Lessor; and Bank of Montreal, as Administrative Agent,
    Arranger and Syndication Agent (incorporated by reference to
    Exhibit 10.5 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended
    September 30, 1999)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|        | 10 | .55   |  |            |  | Amendment No. 2 to Amended and Restated
    Participation Agreement entered into as of April 14, 2000
    (incorporated by reference to Exhibit 10.37 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2000)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|        | 10 | .56   |  |            |  | Amendment to Participation Agreement dated as of
    December 29, 2000 (incorporated by reference to
    Exhibit 10.38 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2000)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|        | 10 | .57   |  |            |  | Master Amendment No. 3 to Amended and
    Restated Participation Agreement, dated as of April 25,
    2001 (incorporated by reference to Exhibit 10.43 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|        | 10 | .58   |  |            |  | Amendment No. 4 to Amended and Restated
    Participation Agreement, dated as of December 31, 2001
    (incorporated by reference to Exhibit 10.44 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 2001)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|        | 10 | .59 |  |            |  | Amendment No. 5 to Amended and Restated
    Participation Agreement, dated as of December 20, 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|        | 10 | .60 |  |            |  | Amendment No. 6 to Amended and Restated
    Participation Agreement, dated as of February 28, 2003
    [Note: Confidential treatment has been requested for portions of
    this document.]                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|        | 10 | .61   |  |            |  | Master Services Agreement, dated as of
    September 18, 1997, by and between Alltel Information
    Services, Inc. and Beverly Enterprises, Inc. (incorporated by
    reference to Exhibit 10.41 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|        | 10 | .62 |  |            |  | Fifth Amendment to Master Services Agreement,
    dated as of January 1, 2003, by and between Alltel
    Information Services, Inc. and Beverly Enterprises, Inc.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      



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##### Table of Contents



|        |    |       |  |             |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|------- | -- | ----- |  | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |    |       |  |            
|Number  |    |       |  | Description
|        |    |       |  |            
|        | 10 | .63   |  |            |  | Amended and Restated Credit Agreement, dated as
    of April 25, 2001, among Beverly Enterprises, Inc., the
    Banks listed therein and Morgan Guaranty Trust Company of New
    York, as Issuing Bank and Agent (the Credit
    Agreement) (incorporated by reference to
    Exhibit 10.46 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                              
|        | 10 | .64   |  |            |  | Amendment No. 1 to the Credit Agreement,
    dated as of December 31, 2001 (incorporated by reference to
    Exhibit 10.47 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    2001)                                                                                                                                                                                                                                                                                                  
|        | 10 | .65 |  |            |  | Amendment No. 3 to the Credit Agreement,
    dated as of December 20, 2002                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|        | 10 | .66 |  |            |  | Amendment No. 4 to the Credit Agreement,
    dated as of February 28, 2003 [Note: Confidential treatment
    has been requested for portions of this document.]                                                                                                                                                                                                                                                                                                                                                                     
|        | 10 | .67   |  |            |  | Corporate Integrity Agreement between the Office
    of Inspector General of the Department of Health and Human
    Services and Beverly Enterprises, Inc. (incorporated by
    reference to Exhibit 10.43 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                  
|        | 10 | .68   |  |            |  | Plea Agreement (incorporated by reference to
    Exhibit 10.44 to Beverly Enterprises, Inc.s Annual
    Report on Form 10-K for the year ended December 31,
    1999)                                                                                                                                                                                                                                                                                                                                                              
|        | 10 | .69   |  |            |  | Addendum to Plea Agreement (incorporated by
    reference to Exhibit 10.45 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                                                                                                                                                  
|        | 10 | .70   |  |            |  | Settlement Agreement between the United States of
    America, Beverly Enterprises, Inc. and Domenic Todarello
    (incorporated by reference to Exhibit 10.46 to Beverly
    Enterprises, Inc.s Annual Report on Form 10-K for the
    year ended December 31, 1999)                                                                                                                                                                                                                                                              
|        | 10 | .71   |  |            |  | Agreement Regarding the Operations of Beverly
    Enterprises  California, Inc. (incorporated by
    reference to Exhibit 10.47 to Beverly Enterprises,
    Inc.s Annual Report on Form 10-K for the year ended
    December 31, 1999)                                                                                                                                                                                                                                                                                            
|        | 10 | .72   |  |            |  | Settlement Agreement, effective October 15,
    2002, between the Centers for Medicare and Medicaid Services,
    United States Department of Health and Human Services and
    Beverly Enterprises, Inc. (incorporated by reference to
    Exhibit 10.2 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended
    September 30, 2002)                                                                                                                                                             
|        | 10 | .73   |  |            |  | Permanent Injunction and Final Judgment entered
    on August 1, 2002 in People of the State of
    California v. Beverly Enterprises, Inc.; Beverly Health and
    Rehabilitation Services, Inc.; Beverly Enterprises 
    California, Inc.; and Beverly Healthcare  California,
    Inc., Superior Court of the State of California For the County
    of Santa Barbara (incorporated by reference to
    Exhibit 10.1 to Beverly Enterprises, Inc.s Quarterly
    Report on Form 10-Q for the quarter ended June 30,
    2002)
|        | 10 | .74   |  |            |  | Waiver of Constitutional Rights and Plea Form and
    Court Finding and Order dated August 1, 2002 in The People
    of California v. Beverly Enterprises 
    California, Inc., Superior Court of the State of California For
    the County of Santa Barbara (S.C. No. 1094923)
    (incorporated by reference to Exhibit 10.2 to Beverly
    Enterprises, Inc.s Quarterly Report on Form 10-Q for
    the quarter ended June 30, 2002)                                                                                         
|        | 10 | .75   |  |            |  | Investigation Conclusion letter dated
    August 1, 2002, from the State of California Department of
    Justice (incorporated by reference to Exhibit 10.3 to
    Beverly Enterprises, Inc.s Quarterly Report on
    Form 10-Q for the quarter ended June 30, 2002)                                                                                                                                                                                                                                                               
|        | 10 | .76 |  |            |  | Loan Agreement dated as of December 24, 2002
    between Beverly Enterprises  Washington, Inc. and
    Bank of America, N.A.                                                                                                                                                                                                                                                                                                                                                                                                       



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##### Table of Contents



|        |    |       |  |             |  |                                                                                                      
|------- | -- | ----- |  | ----------- |  | -----------------------------------------------------------------------------------------------------
|Exhibit |    |       |  |            
|Number  |    |       |  | Description
|        |    |       |  |            
|        | 10 | .77 |  |            |  | Guaranty dated December 24, 2002 between
    Beverly Enterprises, Inc. and Bank of America, N.A.     
|        | 12 | .1   |  |            |  | Computation of Ratio of Earnings to Fixed Charges                                                    
|        | 21 | .1  |  |            |  | Subsidiaries of Registrant                                                                           
|        | 23 | .1   |  |            |  | Consent of Ernst & Young LLP,
    Independent Auditors                                               
|        | 31 | .1   |  |            |  | Chief Executive Officers certification
    pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
|        | 31 | .2   |  |            |  | Chief Financial Officers certification
    pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
|        | 32 | .1   |  |            |  | Chief Executive Officers certification
    pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
|        | 32 | .2   |  |            |  | Chief Financial Officers certification
    pursuant to Section 906 of the Sarbanes-Oxley Act of 2002



---



|  |                                                                                                                                                                            
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|* | Exhibits 10.1 through 10.47 are management
    contracts, compensatory plans, contracts and arrangements in
    which any director or named executive officer participates.



|  |                
|- | ---------------
| | Filed herewith.



|   |                  
|-- | -----------------
| | Previously filed.