<PAGE>   1

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                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                   FORM 10-K
(MARK ONE)
     [X]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
          SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED)

                  FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999

                                       OR

     [ ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
          THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)

                         COMMISSION FILE NUMBER: 1-9550

                           BEVERLY ENTERPRISES, INC.
             (Exact name of Registrant as specified in its charter)

<TABLE>
<S>                                            <C>
                   DELAWARE                                      62-1691861
       (State or other jurisdiction of                        (I.R.S. Employer
        incorporation or organization)                      Identification No.)

               1000 BEVERLY WAY
             FORT SMITH, ARKANSAS                                  72919
   (Address of principal executive offices)                      (Zip Code)
</TABLE>

      Registrant's Telephone Number, Including Area Code:  (501) 201-2000

          Securities Registered Pursuant to Section 12(b) of the Act:

<TABLE>
<CAPTION>
                                                           NAME OF EACH EXCHANGE
             TITLE OF EACH CLASS                            ON WHICH REGISTERED
             -------------------                           ---------------------
<S>                                            <C>
         Common Stock, $.10 par value                     New York Stock Exchange
                                                           Pacific Stock Exchange
    9% Senior Notes due February 15, 2006                 New York Stock Exchange
</TABLE>

       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.  [X] YES  [ ] NO

     INDICATE BY CHECK MARK IF DISCLOSURE OF DELINQUENT FILERS PURSUANT TO ITEM
405 OF REGULATION S-K IS NOT CONTAINED HEREIN, AND WILL NOT BE CONTAINED, TO THE
BEST OF REGISTRANT'S KNOWLEDGE, IN DEFINITIVE PROXY OR INFORMATION STATEMENTS
INCORPORATED BY REFERENCE IN PART III OF THIS FORM 10-K OR ANY AMENDMENT TO THIS
FORM 10-K.  [ ]

     THE AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NONAFFILIATES OF
REGISTRANT WAS $266,486,131 AS OF FEBRUARY 29, 2000.

                                  102,495,556
  (NUMBER OF SHARES OF COMMON STOCK OUTSTANDING, NET OF TREASURY SHARES, AS OF
                               FEBRUARY 29, 2000)

     PART III IS INCORPORATED BY REFERENCE FROM THE PROXY STATEMENT FOR THE
ANNUAL MEETING OF STOCKHOLDERS TO BE HELD ON MAY 25, 2000.
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<PAGE>   2

                           FORWARD-LOOKING STATEMENTS

     This Annual Report on Form 10-K, and other information provided by the
Company from time to time, contains certain "forward-looking" statements as that
term is defined by the Private Securities Litigation Reform Act of 1995. All
statements regarding the Company's expected future financial position, results
of operations, cash flows, continued performance improvements, ability to
service and refinance its debt obligations, ability to finance growth
opportunities, ability to respond to changes in government regulations, 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. Forward-looking statements
involve known and unknown risks and uncertainties that may cause the Company's
actual results in future periods to differ materially from those projected or
contemplated in the forward-looking statements as a result of, but not limited
to, the following factors: national and local economic conditions, including
their effect on the availability and cost of labor and materials; the effect of
government regulations and changes in regulations governing the healthcare
industry, including the Company's compliance with such regulations; changes in
Medicare and Medicaid payment levels; liabilities and other claims asserted
against the Company, including patient care liabilities, as well as the
resolution of the Class Action and Derivative Lawsuits (see "Item 3. Legal
Proceedings"); the ability to attract and retain qualified personnel; the
availability and terms of capital to fund acquisitions and capital improvements;
the competitive environment in which the Company operates; the ability to
maintain and increase census levels; and demographic changes. Given these risks
and uncertainties, the Company can give no assurances that these forward-looking
statements will, in fact, transpire and, therefore, cautions investors not to
place undue reliance on them. See "Item 1. Business -- Governmental Regulation
and Reimbursement," "-- Competition" and "-- Employees" for a discussion of
various governmental regulations and other operating factors relating to the
healthcare industry and various risk factors inherent in them.

                                        1
<PAGE>   3

                                     PART I

ITEM 1. BUSINESS.

GENERAL

     References herein to the Company include Beverly Enterprises, Inc. and its
wholly-owned subsidiaries. The business of the Company consists principally of
providing healthcare services, including the operation of nursing facilities,
assisted living centers, home care centers, outpatient therapy clinics and
rehabilitation therapy services.

     The Company is one of the largest operators of nursing facilities in the
United States. At February 29, 2000, the Company operated 559 nursing facilities
with 61,896 licensed beds. The nursing facilities are located in 29 states and
the District of Columbia, and range in capacity from 20 to 355 beds. At February
29, 2000, the Company also operated 37 assisted living centers containing 1,138
units, 180 outpatient therapy clinics, and 63 home care centers. The Company's
nursing facilities had average occupancy of 87.2%, 88.7% and 88.9% during the
years ended December 31, 1999, 1998 and 1997, respectively. See "Item 2.
Properties."

     Healthcare service providers, such as the Company, operate in an industry
that is subject to significant changes from business combinations, new strategic
alliances, legislative reform, aggressive marketing practices by competitors and
market pressures. In this environment, the Company is frequently contacted by,
and otherwise engages in discussions with, other healthcare companies and
financial advisors regarding possible strategic alliances, joint ventures,
business combinations and other financial alternatives. Most recently, the
significant reductions in stock prices for publicly-held long-term care
companies, as well as the increasing number of providers filing for bankruptcy
protections, could change the nature of the activity in this area.

OPERATIONS

     The Company is currently organized into two operating segments, which
include: (i) Beverly Healthcare, which provides long-term healthcare through the
operation of nursing facilities and assisted living centers; and (ii) Beverly
Care Alliance, which operates outpatient therapy clinics, home care centers and
an inpatient rehabilitation therapy services business. Business in each
operating segment is conducted by one or more corporations headed by a president
who is also a senior officer of the Company. The corporations comprising each of
the two operating segments also have separate boards of directors. See "Part II,
Item 8 -- Note 11 of Notes to Consolidated Financial Statements" for segment
information.

     Beverly Healthcare's nursing facilities provide residents with routine
long-term care services, including daily dietary, social and recreational
services and a full range of pharmacy services and medical supplies. Beverly
Healthcare's skilled staff also offers complex and intensive medical services to
patients with higher acuity disorders outside the traditional acute care
hospital setting. In addition, Beverly Healthcare provides assisted living
services. Approximately 91%, 90% and 80% of the Company's total net operating
revenues for the years ended December 31, 1999, 1998 and 1997, respectively,
were derived from services provided by Beverly Healthcare.

     Beverly Care Alliance provides outpatient and rehabilitative therapy
services, home care services, and managed care contract services within the
Company's nursing facilities and to other healthcare providers. Approximately
9%, 7% and 2% of the Company's total net operating revenues for the years ended
December 31, 1999, 1998 and 1997, respectively, were derived from services
provided by Beverly Care Alliance.

GOVERNMENTAL REGULATION AND REIMBURSEMENT

     The Company's nursing facilities are subject to compliance with various
federal, state and local healthcare statutes and regulations. Compliance with
state licensing requirements imposed upon all healthcare facilities is a
prerequisite for the operation of the facilities and for participation in
government-sponsored healthcare funding programs, such as Medicaid and Medicare.
Medicaid is a medical assistance program for the indigent, operated by
individual states with the financial participation of the federal government.
Medicare

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<PAGE>   4

is a health insurance program for the aged and certain other chronically
disabled individuals, operated by the federal government. Changes in the
reimbursement policies of such funding 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 the Company's consolidated financial position,
results of operations and cash flows.

     The Company receives payments for services rendered to patients from (a)
each of the states in which its nursing facilities are located under the
Medicaid program; (b) the federal government under the Medicare program; and (c)
private payors, including commercial insurers, managed care payors and Veterans
Administration ("VA"). The following table sets forth: (i) patient days derived
from the indicated sources of payment as a percentage of total patient days,
(ii) room and board revenues derived from the indicated sources of payment as a
percentage of net operating revenues, and (iii) ancillary and other revenues
derived from all sources of payment as a percentage of net operating revenues,
for the periods indicated:

<TABLE>
<CAPTION>
                                      MEDICAID             MEDICARE          PRIVATE AND VA
                                 ------------------   ------------------   ------------------
                                           ROOM AND             ROOM AND             ROOM AND
                                 PATIENT    BOARD     PATIENT    BOARD     PATIENT    BOARD     ANCILLARY AND
                                  DAYS     REVENUES    DAYS     REVENUES    DAYS     REVENUES   OTHER REVENUES
                                 -------   --------   -------   --------   -------   --------   --------------
<S>                              <C>       <C>        <C>       <C>        <C>       <C>        <C>
Year ended:
  December 31, 1999............    71%        52%        9%        14%       20%        19%           15%
  December 31, 1998............    69%        46%       11%        13%       20%        18%           23%
  December 31, 1997............    68%        40%       12%        12%       20%        16%           32%
</TABLE>

     Consistent with the long-term care industry in general, changes in the mix
of the Company's patient population among the Medicaid, Medicare and private
categories can significantly affect revenues and profitability. In most states,
private patients are the most profitable, and Medicaid patients are the least
profitable.

     Ancillary revenues are derived from providing services to residents beyond
room, board and custodial care and include occupational, physical, speech,
respiratory and intravenous ("IV") therapy, as well as sales of pharmaceuticals
and other services. Such services are currently provided primarily to Medicare
and private pay patients.

     Medicaid programs are currently in existence in all of the states in which
the Company operates nursing facilities. While these programs differ in certain
respects from state to state, they are all subject to federally-imposed
requirements, and at least 50% of the funds available under these programs is
provided by the federal government under a matching program.

     The Medicaid and Medicare programs each contain specific requirements which
must be adhered to by healthcare facilities in order to qualify under the
programs. Currently, most state Medicaid programs utilize a cost-based
reimbursement system for nursing facilities which reimburses facilities for the
reasonable direct and indirect allowable costs incurred in providing routine
patient care services (as defined by the programs) plus, in certain states,
efficiency incentives or a return on equity, subject to certain cost ceilings.
These costs normally include allowances for administrative and 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 methodology used to
determine the level of allowable costs which are reimbursed to operators. In
some states, cost-based reimbursement is subject to retrospective adjustment
through cost report settlement. In other states, payments made to a facility on
an interim basis that are subsequently determined to be less than or in excess
of allowable costs may be adjusted through future payments to the affected
facility and to other facilities owned by the same owner. Arizona, Arkansas and
California provide for reimbursement at a flat daily rate, as determined by the
responsible state agency. Several states in which the Company currently operates
have enacted payment mechanisms which are based on patient acuity versus
traditional cost-based methodologies. Many other states are actively developing
similar payment systems based on patient acuity or which may follow a
methodology similar to Medicare's prospective payment system. The Company is
unable to estimate the ultimate impact of these changes in

                                        3
<PAGE>   5

payment mechanisms on the Company's future consolidated financial position,
results of operations, or cash flows.

     Healthcare system reform and concerns over rising Medicare and Medicaid
costs continue to be high priorities for both the federal and state governments.
In August 1997, the President signed into law the Balanced Budget Act of 1997
(the "1997 Act") in which Congress included numerous program changes directed at
balancing the federal budget. The legislation changed Medicare and Medicaid
policy in a number of ways, including: (i) the phase in of a Medicare
prospective payment system ("PPS") for skilled nursing facilities effective July
1, 1998 (see below); (ii) establishment of limitations on Part B therapy charges
per beneficiary per year; (iii) a 10% reduction in Part B therapy costs for the
period from January 1, 1998 through July 1, 1998, at which time reimbursement
for these services became based on fee schedules established by the Health Care
Financing Administration ("HCFA") of the Department of Health and Human Services
("HHS"); (iv) development of new Medicare and Medicaid health plan options; (v)
creation of additional safeguards against healthcare fraud and abuse; and (vi)
repeal of the Medicaid "Boren Amendment" payment standard. The legislation also
included new opportunities for providers to focus further on patient outcomes by
creating alternative patient delivery structures.

     PPS, which became effective for the Company on January 1, 1999,
significantly changed the manner in which its skilled nursing facilities are
paid for inpatient services provided to Medicare beneficiaries. In year one
(1999 for the Company), Medicare PPS rates were based 75% on 1995
facility-specific Medicare costs (as adjusted for inflation) and 25% was
federally-determined based upon the acuity level (as measured by which one of 44
Resource Utilization Grouping ("RUG") categories a particular patient is
classified) of Medicare patients served in the Company's skilled nursing
facilities. The direct impact of PPS and other provisions of the 1997 Act was a
decrease in the Company's 1999 net operating revenues of approximately
$114,000,000 as compared to 1998. Unless a nursing facility provider chooses to
be reimbursed at 100% of the federally-determined acuity-adjusted rate as
allowed under BBRA 1999 (as discussed below): (i) in year two, Medicare PPS
rates will be based 50% on 1995 facility-specific costs (as adjusted for
inflation) and 50% on the federally-determined acuity-adjusted rate; (ii) in
year three, Medicare PPS rates will be based 25% on 1995 facility-specific costs
(as adjusted for inflation) and 75% on the federally-determined acuity-adjusted
rate; and (iii) in year four and thereafter, Medicare PPS rates will be based
entirely on the federally-determined acuity-adjusted rate.

     In November 1999, the President signed into law the Balanced Budget
Refinement Act of 1999 ("BBRA 1999") which refines the 1997 Act and will restore
approximately $2.7 billion in Medicare funding for skilled nursing providers
over the next three years. The provisions of BBRA 1999 include: (i) the option
for a skilled nursing provider to choose between the higher of current law, as
described above, or 100% of the federally-determined acuity-adjusted rate
effective for cost reporting periods starting on or after January 1, 2000; (ii)
a temporary increase of 20% in the federal adjusted per diem rates for 15 RUG
categories covering extensive services, special care, clinically complex, and
high and medium rehabilitation, for the period from April 1, 2000 through
September 30, 2000; at which time, if HCFA has not recalculated the necessary
refinements to the overall RUG-III system, the 20% increase will be extended
until such time as the calculations are completed; (iii) a 4% increase in the
federal adjusted per diem rates for all 44 RUG categories for each of the
periods October 1, 2000 through September 30, 2001 and October 1, 2001 through
September 30, 2002; (iv) a two-year moratorium on implementing the two Part B
$1,500 therapy limitations contained in the 1997 Act, effective January 1, 2000
through January 1, 2002; (v) a retroactive provision that corrects a technical
error in the 1997 Act denying payment of Part B services to skilled nursing
facilities participating in PPS demonstration projects; and (vi) exclusion from
the Medicare PPS rates of ambulance services to and from dialysis, prosthetic
devices, radioisotopes and chemotherapy furnished on or after April 1, 2000. The
Company has elected to move to a 100% federally-determined acuity-adjusted rate
on approximately 300 of its nursing facilities effective January 1, 2000. The
Company currently estimates an increase in its 2000 net operating revenues of
approximately $20,000,000 related to the impact of BBRA 1999. However, no
assurances can be given as to what the actual impact of BBRA 1999 will be on the
Company's consolidated financial position or results of operations. In addition,
future federal budget legislation and federal and state regulatory changes,

                                        4
<PAGE>   6

including refinements to the RUG-III system expected from HCFA by October 1,
2000, may negatively impact the Company.

     In addition to the requirements to be met by the Company's facilities for
annual licensure renewal, the Company's healthcare facilities are subject to
annual surveys and inspections in order to be certified for participation in the
Medicare and Medicaid programs. In order to maintain their operator's licenses
and their certification for participation in Medicare and Medicaid programs, the
nursing facilities must meet certain statutory and administrative requirements.
These requirements relate to the condition of the facilities and the adequacy
and condition of the equipment used therein, the quality and adequacy of
personnel, and the quality of medical care. Such requirements are subject to
change. There can be no assurance that, in the future, the Company will be able
to maintain such licenses for its facilities or that the Company will not be
required to expend significant capital in order to do so.

     HCFA published new survey, certification and enforcement guidelines in July
1999 and December 1999 to implement the Medicare and Medicaid provisions of the
Omnibus Budget Reconciliation Act of 1987 ("OBRA 1987"). The OBRA 1987 statute
authorized HCFA to develop regulations governing survey, certification and
enforcement of the requirements for contract participation by skilled nursing
facilities under Medicare and nursing facilities under Medicaid. Among the
provisions that HCFA has adopted are requirements that (i) surveys focus on
residents' outcomes; (ii) all deviations from the participation requirements
will be considered deficiencies, but all deficiencies will not constitute
noncompliance; and (iii) certain types of deficiencies must result in the
imposition of a sanction. The regulations also identify alternative remedies and
specify the categories of deficiencies for which they will be applied. These
remedies include: temporary management; denial of payment for new admissions;
denial of payment for all residents; civil monetary penalties of $50 to $10,000;
closure of facility and/or transfer of residents in emergencies; directed plans
of correction; and directed in service training. HCFA's most recent enforcement
guidelines established criteria that mandates the immediate application of
remedies before the provider has an opportunity to correct the deficiency; that
impose a "per instance" civil monetary penalty up to $10,000 per day; and that
allow imposition of termination in as few as two days. The Company has
undertaken an analysis of the procedures with respect to its programs and
facilities covered by the revised HCFA regulations. While it is unable to
predict at this time the degree to which its programs and facilities will be
determined to be in compliance with regulations, compliance data for the past
year is available. Results of HCFA surveys for the past year determined that
over 96% of the Company's nursing facilities surveyed have been determined to be
in compliance with the HCFA criteria. HCFA has reported that of all non-Company
facilities in the states in which the Company operates, 95% of such facilities
were determined to be similarly in compliance. Furthermore, the average number
of deficiencies cited in the Company's facilities was less than the rest of the
industry, and the Company had more deficiency-free facilities than the rest of
the industry. Although the Company could be adversely affected if a substantial
portion of its programs or facilities were eventually determined not to be in
compliance with the HCFA regulations, the Company believes its programs and
facilities are generally in compliance.

     The Company has a Quality Management ("QM") program to help ensure that
high quality care is provided in each of its nursing and outpatient facilities.
The Company's nationwide QM network of healthcare professionals includes
physician medical directors, registered nurses, dieticians, social workers and
other specialists who work in conjunction with regional and facility based QM
professionals. Facility based QM is structured through the Company's Quality
Assessment and Assurance Committee. With a philosophy of quality improvement,
Company-wide clinical indicators are utilized as a database to set goals and
monitor thresholds in critical areas directly related to the delivery of
healthcare related services. These internal evaluations are used by local
quality improvement teams, which include QM advisors, to identify and correct
possible problems.

     The Social Security Act and regulations of HHS provide for exclusion of
providers and related persons from participation in the Medicare and Medicaid
programs if they have been convicted of a criminal offense related to the
delivery of an item or service under either of these programs or if they 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 healthcare
item or service. Furthermore, individuals or entities and their affiliates may
be
                                        5
<PAGE>   7

excluded from the Medicare and Medicaid programs under certain circumstances
including conviction relating to fraud, license revocation or suspension, or
failure to furnish services of adequate quality.

     On February 3, 2000, the Company entered into a series of agreements with
the U.S. Department of Justice and the Office of Inspector General (the "OIG")
of the Department of Health and Human Services, which settled the federal
government investigations of the Company relating to the allocation to the
Medicare Program of certain nursing labor costs in its skilled nursing
facilities from 1990 to 1998 (the "Allocation Investigations"). These agreements
finalized the terms of the settlements, which were tentatively announced in July
1999.

     The agreements consist of: (i) a Plea Agreement; (ii) a Civil Settlement
Agreement; (iii) a Corporate Integrity Agreement; and (iv) an agreement
concerning the disposition of 10 nursing facilities. Under the Plea Agreement, a
subsidiary of the Company pled guilty to one count of mail fraud and 10 counts
of making false statements to Medicare relating to the submission of certain
Medicare cost reports for 10 separate nursing facilities. The subsidiary paid a
criminal fine of $5,000,000 and, under a separate agreement, is obligated to
dispose of the 10 nursing facilities. The subsidiary will continue to operate
and staff the nursing facilities until new operators are found.

     Under the separate Civil Settlement Agreement, the Company will reimburse
the federal government $170,000,000 as follows: (i) $25,000,000, which was paid
during the first quarter of 2000, and (ii) $145,000,000 to be withheld from the
Company's biweekly Medicare periodic interim payments in equal installments over
eight years. Such installments began during the first quarter of 2000. In
addition, the Company agreed to resubmit certain Medicare filings to reflect
reduced labor costs.

     The Company also entered into a Corporate Integrity Agreement with the OIG
relating to the monitoring of compliance with requirements of federal healthcare
programs on an ongoing basis. Such agreement addresses the Company's obligations
to ensure that it is in compliance with the requirements for participation in
the federal healthcare programs, and includes the Company's functional and
training obligations, audit and review requirements, recordkeeping and reporting
requirements, as well as penalties for breach/noncompliance of the agreement.

     Except as noted above, the Company believes that its facilities are in
substantial compliance with currently applicable Medicaid and Medicare
conditions of participation. In the ordinary course of its business, however,
the Company receives notices of deficiencies for failure to comply with various
regulatory requirements. The Company reviews such notices and takes appropriate
corrective action. In most cases, the Company 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 can include the imposition of fines, temporary suspension of admission
of new patients to the facility, decertification from participation in the
Medicaid or Medicare programs and, in extreme circumstances, revocation of a
facility's license.

     The "fraud and abuse" anti-kickback provisions of the Social Security Act
(presently codified in Section 1128B(b) of the Social Security Act, hereinafter
the "Antifraud Amendments") make it a criminal felony offense to knowingly and
willfully offer, pay, solicit or receive remuneration in order to induce
business for which reimbursement is provided under government health programs,
including Medicare and Medicaid. The Antifraud Amendments have been broadly
interpreted to make remuneration of any kind, including many types of business
and financial arrangements among providers, potentially illegal if any purpose
of the remuneration 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 suspect.

     In 1991 and again in 1999, HHS promulgated regulations which describe, or
clarify, certain arrangements that would not be subject to enforcement action
under the Social Security Act (the "Safe Harbors"). The Safe Harbors described
in the regulations are narrow, leaving unprotected a wide range of economic
relationships that many hospitals, physicians and other healthcare providers
consider to be legitimate business arrangements not prohibited by the Antifraud
Amendments. The regulations do not purport to describe

                                        6
<PAGE>   8

comprehensively all lawful relationships between healthcare providers and
referral sources, and clearly provide that arrangements that do not qualify for
Safe Harbor protection are not automatically deemed to violate the Antifraud
Amendments. Thus, skilled nursing facilities and other healthcare providers
having arrangements or relationships that do not fall within a Safe Harbor may
not be required to alter them in order to ensure compliance with the Social
Security Act provisions. Although failure to qualify for a Safe Harbor may
subject a particular arrangement or relationship to increased regulatory
scrutiny, the fact that a particular relationship or arrangement does not fall
within one of the Safe Harbors does not, in and of itself, mean the relationship
or arrangement is unlawful.

     In addition to the Antifraud Amendments, Section 1877 of the Social
Security Act (known as the "Stark Law") imposes restrictions on financial
relationships between physicians and certain entities. The Stark Law provides
that if a physician (or an immediate family member of a physician) has a
financial relationship with an entity that furnishes certain designated health
services, the physician may not refer a Medicare or Medicaid patient to the
entity, and the entity may not bill for services provided unless an exception to
the financial relationship exists. Designated health services include certain
services furnished by the Company, such as physical therapy, occupational
therapy, prescription drugs and home health. The types of financial
relationships that can trigger the referral and billing prohibitions are broad
and include ownership or investment interests, as well as compensation
arrangements. Penalties for violating the law are severe, including denial of
payment for services furnished pursuant to prohibited referrals, civil monetary
penalties of $15,000 for each item claimed, assessments equal to 200% of the
dollar value of each such service provided, and exclusion from the Medicare and
Medicaid programs.

     On August 14, 1995, final regulations were published interpreting the
original provisions of the Stark Law that became effective January 1, 1992.
These provisions relate to entities that furnish clinical laboratory services,
commonly referred to as "Stark I." Expanded restrictions as applied to the
additional designated health services (referred to as "Stark II") became
effective as of January 1, 1995. Proposed regulations implementing Stark II were
published on January 9, 1998. The Company cannot predict the final form that
such regulations will take or the effect that Stark II or the regulations
promulgated thereunder will have on the Company.

     Many states in which the Company operates also have laws that prohibit
payments to physicians for patient referrals with statutory language similar to
the Antifraud Amendments, but with broader effect since they apply regardless of
the source of payment for care. These statutes typically provide criminal and
civil penalties, as well as loss of licensure. Many states also have passed
legislation similar to the Stark Law, but with broader effect, since the
legislation applies regardless of the source of payment for care. The scope of
these state laws is broad and little precedent exists for their interpretation
or enforcement.

     On August 21, 1996, President Clinton signed significant new federal health
reform legislation known as the Health Insurance Portability and Accountability
Act of 1996 ("HIPAA"). The new law includes comprehensive and far-reaching
revisions or supplements to the Antifraud Amendments. Under HIPAA, healthcare
fraud, now defined as knowingly and willfully executing or attempting to execute
a "scheme or device" to defraud any healthcare benefit program, is made a
federal criminal offense. In addition, for the first time, federal enforcement
officials will have the ability to exclude from the Medicare and Medicaid
programs any investors, officers and managing employees associated with business
entities that have committed healthcare fraud, even if the investor, officer or
employee had no actual knowledge of the fraud. HIPAA also establishes a new
violation for the payment of inducements to Medicare or Medicaid beneficiaries
in order to influence those beneficiaries to order or receive services from a
particular provider or practitioner. Most of the provisions of HIPAA became
effective January 1, 1997. HIPAA was followed by the 1997 Act. The 1997 Act also
contained a significant number of new fraud and abuse provisions. For example,
civil monetary penalties may now be imposed for violations of the anti-kickback
provisions of the Medicare and Medicaid statute (previously, exclusion or
criminal prosecution were the only actions under the anti-kickback statute), as
well as contracting with an individual or entity that the provider knows or
should know is excluded from a federal healthcare program. The 1997 Act provides
for civil monetary penalties of $50,000 and damages of not more than three times
the amount of remuneration in the prohibited activity.

                                        7
<PAGE>   9

     In October 1999, under the mandates of HIPAA, HHS released proposed
regulations aimed at protecting the privacy of electronically transmitted health
data. Such regulations are expected to be finalized during the second quarter of
2000. The proposed regulations are designed to set boundaries on the use and
release of health records and establish accountability for inappropriate use and
release of protected health information. Protected health information is
individually identifiable health information that is or has been electronically
transmitted or electronically maintained by a covered entity and includes such
information in any other form. Under the proposed regulations, all health plans
and many healthcare providers, including the Company, as well as healthcare
clearinghouses, fall within the scope of the regulations. The proposed
regulations would: (i) allow health information to be used and shared for
treatment and payment for health care; (ii) allow information to be disclosed
without an individual's authorization for certain national priority purposes,
such as research, public health and oversight, but only under defined
circumstances; (iii) require written authorization for use and disclosure of
health information for other purposes; and (iv) create standards for informing
individuals how their information is used and disclosed, ensure individuals that
they have access to information about themselves, and require health plans and
providers to maintain administrative and physical safeguards to protect the
confidentiality of health information and protect against unauthorized access.
HHS estimates that implementation of the proposed regulations will cost the
healthcare industry approximately $1.8 billion to $6.3 billion over the next
five years. The Company will be required to be in compliance with the proposed
regulations within two years of final issuance of the regulations. The Company
is currently evaluating the impact of compliance with the proposed regulations
but has not completed its analysis or finalized its estimated costs to comply.
There can be no assurances that the final regulations will not have an adverse
affect on the Company's consolidated financial position, results of operations
or cash flows.

     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 healthcare 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
healthcare industry and particular practices that are vulnerable to abuse. The
OIG has issued three fraud alerts targeting the skilled nursing industry: an
August 1995 alert relating to the provision of medical supplies to nursing
facilities, the fraudulent billing for medical supplies and equipment and
fraudulent supplier transactions; a May 1996 alert focusing on the provision of
fraudulent professional services to nursing facility residents; and a March 1998
alert addressing the interrelationship between hospice services and the nursing
home industry, and potentially illegal practices and arrangements. The fraud
alerts encourage persons having information about potentially abusive practices
or transactions to report such information to the OIG.

     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 $10,000 for each claim and treble damages, on
entities and persons who knowingly present or cause to be presented a false or
fraudulent claim for payment to the federal government. Section 1128B(a) of the
Social Security Act prohibits the knowing and willful making of a false
statement or misrepresentation of a material fact in relation to the submission
of a claim for payment under government health programs (including the Medicare
and Medicaid programs). Violations of this provision constitute felony offenses
punishable by fines and imprisonment. The new HIPAA provisions establish
criminal penalties for fraud, theft, embezzlement, and the making of false
statements in relation to healthcare 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
nursing facilities and other healthcare facilities under the theory that the
submission of reimbursement claims for services provided in a manner which falls
short of quality of care standards can constitute the submission of a false
claim in violation of the federal False Claims Act.

     A joint federal/state initiative, Operation Restore Trust, was created in
1995 to apply to nursing homes, home health agencies, and suppliers of medical
equipment in five states: New York, Florida, California, Illinois and Texas. The
program was subsequently expanded to hospices in these states as well. The
program is designed to focus audit and law enforcement efforts on geographic
areas and provider types receiving large

                                        8
<PAGE>   10

concentrations of Medicare and Medicaid funds. According to HHS statistics, the
targeted states account for nearly 40% of all Medicare and Medicaid
beneficiaries. Under Operation Restore Trust, the OIG and HCFA have undertaken a
variety of activities to address fraud and abuse by nursing homes, 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.

     On May 20, 1997, HHS announced that Operation Restore Trust would be
expanded during the next two years to include twelve additional states (Arizona,
Colorado, Georgia, Louisiana, Massachusetts, Missouri, New Jersey, Ohio,
Pennsylvania, Tennessee, Virginia and Washington), as well as several other
types of healthcare services. Over the longer term, it is anticipated that
Operation Restore Trust investigative techniques will be used in all 50 states,
and will be applied throughout the Medicare and Medicaid programs.

     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 healthcare providers by the Social
Security Act and Medicare and Medicaid regulations.

     The Nursing Home Resident Protection Amendments of 1999, which were signed
into law on March 25, 1999 and amend Section 1919(c)(2) of the Social Security
Act, are designed to protect Medicaid patients living in nursing facilities that
decide to withdraw from the Medicaid program. Under the amended version of
Section 1919(c)(2), a nursing facility is required to continue providing care to
residents currently qualifying for assistance under the Medicaid program, as
well as residents who may qualify under Medicaid in the future, even if the
facility decides to withdraw from the Medicaid program.

     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 nevertheless curtailed funding in such circumstances
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. The United States Supreme Court ruled in 1990 that
healthcare providers could use the Boren Amendment to require states to comply
with their legal obligation to adequately fund Medicaid programs. The 1997 Act
repeals the Boren Amendment and authorizes states 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 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.

PATIENT CARE LIABILITIES

     General liability and professional liability costs for the long-term care
industry, especially in the state of Florida, have become increasingly expensive
and unpredictable. The Company and most of its competitors have experienced
increases in both the number of claims and the size of the typical claim. This
phenomenon is most evident in the state of Florida, where well-intended patient
rights' statutes tend to be exploited by plaintiffs' attorneys, since the
statutes allow for actual damages, punitive damages and plaintiff attorney fees
to be included in any proven violation. Statistics show that Florida long-term
care providers: (i) incur three times the number of general liability claims as
compared to the rest of the country; (ii) have general liability claims that are
approximately 250% higher in cost than the rest of the country; and (iii) incur
40% of the cost for general liability claims for the country, but only represent
approximately 10% of the total nursing facility beds.

     Insurance companies are exiting the state of Florida, or severely
restricting their capacity to write long-term care general liability insurance,
since they cannot provide coverage when faced with the magnitude of losses and
the explosive growth of claims. Although the Company's overall general liability
costs per bed in Florida are lower than the industry average in Florida, these
costs are still severely out of line with the rest of the country and continue
to escalate. The Company's provision for insurance and related items decreased
approximately $65,900,000 for the year ended December 31, 1999, as compared to
the same period in 1998, primarily due to a loss portfolio transfer transaction
that significantly increased insurance costs during the fourth quarter of 1998.
Despite such decrease year over year, the Company, as well as other nursing home
                                        9
<PAGE>   11

providers with significant operations in Florida, are experiencing substantial
increases in patient care and other claims, evidencing the negative trend
surrounding patient care liabilities.

     The Company is taking an active role in lobbying efforts to reform tort
laws in the state of Florida. In addition, community outreach programs are being
used to communicate care levels and caregiver dedication in each of its
facilities. There is significant media and legislative attention currently being
placed on these issues, and the Company is hopeful that there will be certain
reforms made in the current statutes. However, there can be no assurances made
that legislative changes will be made, or that any such changes will have a
positive impact on the current trend.

COMPETITION

     The long-term care industry is highly competitive. The Company's
competitive position varies from facility to facility, from community to
community and from state to state. Some of the significant competitive factors
for the placing of patients in a nursing facility include quality of care,
reputation, physical appearance of facilities, services offered, family
preferences, location, physician services and price. The Company's operations
compete with services provided by nursing facilities, acute care hospitals,
subacute facilities, transitional hospitals, rehabilitation facilities, hospices
and home healthcare centers. The Company also competes with a number of
tax-exempt nonprofit organizations which can finance acquisitions and capital
expenditures on a tax-exempt basis or receive charitable contributions
unavailable to the Company. Recently, the long-term care industry has
experienced significant changes in its competitive environment. Several large
long-term care providers have filed for protection under the federal bankruptcy
laws. There is no way to predict how this may impact competition for the Company
in the long-term, and there can be no assurance that the Company will not
encounter increased competition which could adversely affect its business,
results of operations or financial condition.

EMPLOYEES

     At December 31, 1999, the Company had approximately 67,000 employees. The
Company is subject to both federal minimum wage and applicable federal and state
wage and hour laws. The Company maintains various employee benefit plans.

     In recent years, the Company has experienced increases in its labor costs
primarily due to higher wages and greater benefits required to attract and
retain qualified personnel, increased staffing levels in its nursing facilities
due to greater patient acuity and the hiring of therapists on staff. The
Company's ability to control costs, including its wages and related expenses
which continue to rise and represent the largest component of the Company's
operating and administrative expenses, will significantly impact its future
operating results. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Operating Results."

     Due to nationwide low unemployment rates, the Company is currently
experiencing difficulty attracting and retaining certain nursing home personnel,
such as certified nursing assistants, nurses' aides and other important
personnel, for whom the Company competes with other service industries. Although
the Company's wages and related expenses decreased for the year ended December
31, 1999, as compared to the same period in 1998, the Company's weighted average
wage rate and use of registry personnel increased, both of which underscore the
increased difficulties many of the Company's nursing facilities are having
attracting personnel. The Company is addressing this through several ongoing
programs and training initiatives. No assurance can be given that these programs
and training initiatives will in fact improve the Company's ability to attract
these nursing personnel.

     Approximately 100 of the Company's nursing facilities, or 7% of the
Company's employees, are represented by various labor unions. Certain labor
unions have publicly stated that they are concentrating their organizing efforts
within the long-term healthcare industry. The Company, being one of the largest
employers within the long-term healthcare industry, has been the target of a
"corporate campaign" by two AFL-CIO affiliated unions attempting to organize
certain of the Company's facilities. Although the Company has never experienced
any material work stoppages and believes that its relations with its employees
are generally good,
                                       10
<PAGE>   12

the Company cannot predict the effect continued union representation or
organizational activities will have on the Company's future activities. There
can be no assurance that continued union representation and organizational
activities will not result in material work stoppages, which could have a
material adverse effect on the Company's operations.

     Excessive litigation is a tactic common to "corporate campaigns" and one
that is being employed against the Company. There are several proceedings
against facilities operated by the Company before the National Labor Relations
Board ("NLRB"). These proceedings consolidate individual cases from separate
facilities, and certain of these proceedings are currently pending before the
NLRB. The Company is vigorously defending these proceedings. The Company
believes, based on advice from its Deputy General Counsel, that many of these
cases are without merit, and further, it is the Company's belief that the
NLRB-related proceedings, individually and in the aggregate, are not material to
the Company's consolidated financial position, results of operations, or cash
flows.

ITEM 2. PROPERTIES.

     At February 29, 2000, the Company operated 559 nursing facilities, 37
assisted living centers, 180 outpatient therapy clinics and 63 home care centers
in 34 states and the District of Columbia. Most of the Company's 192 leased
nursing facilities are subject to "net" leases which require the Company 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, which
could extend the original term of the leases by five to fifteen years. Many of
these leases also contain purchase options. The Company considers its physical
properties to be in good operating condition and suitable for the purposes for
which they are being used. Certain of the nursing facilities and assisted living
centers owned by the Company are included in the collateral securing the
obligations under its various debt agreements. See "Part II, Item 8 -- Note 6 of
Notes to Consolidated Financial Statements."

                                       11
<PAGE>   13

     The following is a summary of the Company's nursing facilities, assisted
living centers, outpatient therapy clinics and home care centers at February 29,
2000:

<TABLE>
<CAPTION>
                                   NURSING FACILITIES    ASSISTED LIVING
                                   -------------------       CENTERS        OUTPATIENT    HOME
                                                         ----------------    THERAPY      CARE
                                               TOTAL                         CLINICS     CENTERS
                                             LICENSED              TOTAL    ----------   -------
LOCATION                           NUMBER      BEDS      NUMBER    UNITS      NUMBER     NUMBER
--------                           -------   ---------   -------   ------   ----------   -------
<S>                                <C>       <C>         <C>       <C>      <C>          <C>
Alabama..........................     21       2,743       --         --        --         --
Arizona..........................      3         480       --         --        --         --
Arkansas.........................     37       4,376        4         80         4          2
California.......................     72       7,744        3        185        37         19
Colorado.........................     --          --       --         --        15         --
Delaware.........................     --          --       --         --         4         --
District of Columbia.............      1         355       --         --        --         --
Florida..........................     51       6,325        5        311        --         --
Georgia..........................     17       2,137        4        109        23          3
Hawaii...........................      2         396       --         --        --         --
Illinois.........................      3         275       --         --        --         --
Indiana..........................     26       3,817        1         16        --          1
Kansas...........................     31       1,783        2         29        --         --
Kentucky.........................      8       1,039       --         --        --         --
Louisiana........................     --          --       --         --         1         --
Maryland.........................      4         585        1         16         8         --
Massachusetts....................     24       2,402       --         --        --         --
Michigan.........................      2         206       --         --        --         --
Minnesota........................     35       3,032        3         33        --         --
Mississippi......................     21       2,496       --         --        --         --
Missouri.........................     28       2,908        3        101        --          1
Nebraska.........................     24       2,146        1         16        --          4
Nevada...........................     --          --       --         --        --          1
New Jersey.......................      1         120       --         --        --         --
North Carolina...................     11       1,398        1         16        10         24
Ohio.............................     12       1,433       --         --         4         --
Pennsylvania.....................     42       4,780        3         53        12          5
South Carolina...................      3         302       --         --        15         --
South Dakota.....................     17       1,228        1         36        --         --
Tennessee........................      7         948        2         57        --         --
Texas............................     --          --       --         --        36          2
Virginia.........................     15       1,937        3         80        --         --
Washington.......................      9         904       --         --        11         --
West Virginia....................      3         310       --         --        --         --
Wisconsin........................     29       3,291       --         --        --          1
                                     ---      ------       --      -----       ---         --
                                     559      61,896       37      1,138       180         63
                                     ===      ======       ==      =====       ===         ==
CLASSIFICATION
Owned............................    365      39,842       32        852        --         --
Leased...........................    192      21,919        5        286       180         63
Managed..........................      2         135       --         --        --         --
                                     ---      ------       --      -----       ---         --
                                     559      61,896       37      1,138       180         63
                                     ===      ======       ==      =====       ===         ==
</TABLE>

                                       12
<PAGE>   14

ITEM 3. LEGAL PROCEEDINGS.

     On February 3, 2000, the Company entered into a series of agreements with
the U.S. Department of Justice and the Office of Inspector General (the "OIG")
of the Department of Health and Human Services which settled the federal
government investigations of the Company relating to the allocation to the
Medicare Program of certain nursing labor costs in its skilled nursing
facilities from 1990 to 1998 (the "Allocation Investigations"). These agreements
finalized the terms of the settlements, which were tentatively announced in July
1999.

     The agreements consist of: (i) a Plea Agreement; (ii) a Civil Settlement
Agreement; (iii) a Corporate Integrity Agreement; and (iv) an agreement
concerning the disposition of 10 nursing facilities. Under the Plea Agreement, a
subsidiary of the Company pled guilty to one count of mail fraud and 10 counts
of making false statements to Medicare relating to the submission of certain
Medicare cost reports for 10 separate nursing facilities. The subsidiary paid a
criminal fine of $5,000,000 and, under a separate agreement, is obligated to
dispose of the 10 nursing facilities. The subsidiary will continue to operate
and staff the nursing facilities until new operators are found.

     Under the separate Civil Settlement Agreement, the Company will reimburse
the federal government $170,000,000 as follows: (i) $25,000,000, which was paid
during the first quarter of 2000, and (ii) $145,000,000 to be withheld from the
Company's biweekly Medicare periodic interim payments in equal installments over
eight years. Such installments began during the first quarter of 2000. In
addition, the Company agreed to resubmit certain Medicare filings to reflect
reduced labor costs.

     The Company also entered into a Corporate Integrity Agreement with the OIG
relating to the monitoring of compliance with requirements of federal healthcare
programs on an ongoing basis. Such agreement addresses the Company's obligations
to ensure that it is in compliance with the requirements for participation in
the federal healthcare programs, and includes the Company's functional and
training obligations, audit and review requirements, recordkeeping and reporting
requirements, as well as penalties for breach/noncompliance of the agreement.

     On July 6, 1999, an amended complaint was filed by the plaintiffs in a
previously disclosed purported class action lawsuit pending against the Company
and certain of its officers in the United States District Court for the Eastern
District of Arkansas (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. Due to the preliminary state of the Class Action
and the fact the second amended complaint does not allege damages with any
specificity, the Company is unable at this time to assess the probable outcome
of the Class Action or the materiality of the risk of loss. However, the Company
believes that it acted lawfully with respect to plaintiff investors and will
vigorously defend the Class Action. However, there can be no assurances that the
Company will not experience an adverse effect on its consolidated financial
position, results of operations or cash flows as a result of these proceedings.

     In addition, since July 29, 1999, eight derivative lawsuits have been filed
in the state courts of Arkansas, California and Delaware (collectively, the
"Derivative Actions"). 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; Alfred Badger, Jr. v. David R. Banks,
et al., Case No. OT99-4353, was filed in the Chancery Court of Pulaski County,
Arkansas (1st Division) on or about August 17, 1999 and voluntarily dismissed on
November 30, 1999. On November 1, 1999, the defendants filed a motion to dismiss
the Lyons and Badger actions. James L. Laurita v. David R. Banks, et al., Case
No. 17348NC, was filed in the Delaware Chancery Court on or about August 2,
1999; Kenneth Abbey v. David R. Banks, et al., Case No. 17352NC, was filed in
the Delaware Chancery Court on or about August 4, 1999; Alan Friedman v. David
R. Banks, et al., Case No. 17355NC, was filed in the Delaware Chancery Court on
or about August 9, 1999. The Laurita, Abbey and Friedman actions were
subsequently consolidated by order of the Delaware Chancery Court. On or about
October 1, 1999, the defendants moved to dismiss the Laurita, Abbey and Friedman
actions. Elles Trading Company v.
                                       13
<PAGE>   15

David R. Banks, et al., was filed in the Superior Court for San Francisco
County, California on or about August 4, 1999, and the plaintiffs filed a notice
of voluntary dismissal on February 3, 2000. Kushner v. David R. Banks, et al.,
Case No. LR-C-98-646, was filed in the United States District Court for the
Eastern District of Arkansas (Western Division) on September 30, 1999.
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 Kushner and Richardson actions were ordered
to be consolidated and by agreed motion, plaintiffs have until April 15, 2000 to
file an amended, consolidated complaint. The Derivative Actions each name the
Company's directors as defendants, as well as the Company as a nominal
defendant. The Badger and Lyons actions also name as defendants certain of the
Company's officers. The Derivative Actions each allege breach of fiduciary
duties to the Company and its stockholders arising primarily out of the
Company's alleged exposure to loss due to the Class Action and the Allocation
Investigations. The Lyons, Badger 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 the Derivative Actions and the fact the complaints do not allege
damages with any specificity, the Company is unable at this time to assess the
probable outcome of the Derivative Actions or the materiality of the risk of
loss. However, the Company believes that it acted lawfully with respect to the
allegations of the Derivative Actions and will vigorously defend the Derivative
Actions. However, there can be no assurances that the Company will not
experience an adverse effect on its consolidated financial position, results of
operations or cash flows as a result of these proceedings.

     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. The Company does not
believe that the ultimate resolution of such other matters will have a material
adverse effect on the Company's consolidated financial position or results of
operations.

                                       14
<PAGE>   16

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

     No matters were submitted to a vote of the Company's security holders
during the last quarter of its fiscal year ended December 31, 1999.

EXECUTIVE OFFICERS AND DIRECTORS

     The table below sets forth, as to each executive officer and director of
the Company, such person's name, positions with the Company and age. Each
executive officer and director of the Company 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 information below
is given as of February 29, 2000.

<TABLE>
<CAPTION>
                      NAME                                           POSITION                      AGE
                      ----                                           --------                      ---
<S>                                               <C>                                              <C>
David R. Banks(1)...............................  Chairman of the Board, Chief Executive Officer
                                                  and Director                                     63
William A. Mathies..............................  Executive Vice President and
                                                  President -- Beverly Healthcare                  40
T. Jerald Moore.................................  Executive Vice President                         59
Bobby W. Stephens...............................  Executive Vice President -- Asset Management     55
Scott M. Tabakin................................  Executive Vice President and Chief Financial
                                                  Officer                                          41
Mark D. Wortley.................................  Executive Vice President and
                                                  President -- Beverly Care Alliance               44
Philip W. Small.................................  Executive Vice President -- Strategic Planning
                                                  and Operations Support                           43
Pamela H. Daniels...............................  Senior Vice President, Controller and Chief
                                                    Accounting Officer                             36
Schuyler Hollingsworth, Jr. ....................  Senior Vice President and Treasurer              53
Beryl F. Anthony, Jr.(1)(3)(5)..................  Director                                         62
Carolyne K. Davis, R.N., Ph.D.(1)(4)............  Director                                         68
James R. Greene(2)(3)(4)........................  Director                                         78
Edith E. Holiday(2)(4)(5).......................  Director                                         48
Jon E.M. Jacoby(1)(2)...........................  Director                                         61
Risa J. Lavizzo-Mourey, M.D.(3)(4)..............  Director                                         45
Marilyn R. Seymann(2)(4)(5).....................  Director                                         57
</TABLE>

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

(1) Member of the Executive Committee.

(2) Member of the Audit and Compliance Committee.

(3) Member of the Compensation Committee.

(4) Member of the Quality Management Committee.

(5) Member of the Nominating Committee.

     Mr. Banks has been a director of the Company since 1979 and has served as
Chief Executive Officer since May 1989 and Chairman of the Board since March
1990. Mr. Banks was President of the Company from 1979 to September 1995. Mr.
Banks is a director of Nationwide Health Properties, Inc., Ralston Purina
Company and Agribrands International, Inc.

     Mr. Mathies joined the Company in 1981 as an Administrator in training. He
was an Administrator until 1986 at which time he became a Regional Manager. In
1988, Mr. Mathies was elected Vice President of Operations for the California
region and was elected Executive Vice President of the Company and President of
the corporations within Beverly Healthcare in September 1995.

     Mr. Moore joined the Company as Executive Vice President in December 1992
and served as President of the corporations within Beverly Specialty Hospitals
from June 1996 to June 1998. Mr. Moore was employed at Aetna Life and Casualty
from 1963 to 1992 and was elected Senior Vice President in 1990.

                                       15
<PAGE>   17

     Mr. Stephens joined the Company as a staff accountant in 1969. He was
elected Assistant Vice President in 1978, Vice President of the Company and
President of the Company's Central Division in 1980, and Executive Vice
President in February 1990. Mr. Stephens is a director of Sparks Regional
Medical Center, City National Bank in Fort Smith, Arkansas, Beverly Japan
Corporation, and Harbortown Properties, Inc.

     Mr. Tabakin joined the Company in October 1992 as Vice President,
Controller and Chief Accounting Officer. He was elected Senior Vice President in
May 1995, Acting Chief Financial Officer in September 1995 and Executive Vice
President and Chief Financial Officer in October 1996. From 1980 to 1992, Mr.
Tabakin was with Ernst & Young LLP. Mr. Tabakin is a director of St. Edward
Mercy Medical Center.

     Mr. Wortley joined the Company as Senior Vice President and President of
the corporations within Beverly Care Alliance in September 1994 and was elected
Executive Vice President in February 1996. From 1988 to 1994, Mr. Wortley was an
officer of Therapy Management Innovations.

     Mr. Small joined the Company in January 1986 as Reimbursement Manager, was
promoted to Division Controller in September 1986 and Director of Finance for
the California Region in 1989. He was elected Vice President -- Reimbursement in
September 1990, Senior Vice President -- Finance in 1995 and Executive Vice
President -- Strategic Planning and Operations Support in August 1998.

     Ms. Daniels joined the Company in May 1988 as Audit Coordinator. She was
promoted to Financial Reporting Senior Manager in 1991 and Director of Financial
Reporting in 1992. She was elected Vice President, Controller and Chief
Accounting Officer in October 1996 and Senior Vice President in December 1999.
From 1985 to 1988, Ms. Daniels was with Price Waterhouse LLP.

     Mr. Hollingsworth joined the Company in June 1985 as Assistant Treasurer.
He was elected Treasurer in 1988, Vice President in 1990 and Senior Vice
President in March 1992.

     Mr. Anthony served as a member of the United States Congress and was
Chairman of the Democratic Congressional Campaign Committee from 1987 through
1990. In 1993, he became a partner in the Winston & Strawn law firm. He has been
a director of the Company since January 1993.

     Dr. Davis has been an international health care consultant since 1985. She
is a director of Beckman Coulter, Inc., The Prudential Insurance Company of
America, Inc., MiniMed, Inc. and Merck & Co., Inc. She has been a director of
the Company since December 1997.

     Mr. Greene's principal occupation has been that of a director and
consultant to various U.S. and international businesses since 1986. He is a
director of Buck Engineering Company and Bank Leumi. He has been a director of
the Company since January 1991.

     Ms. Holiday is an attorney. She served as White House Liaison for the
Cabinet and all federal agencies during the Bush administration. Prior to that,
Ms. Holiday served as General Counsel of the U.S. Treasury Department, as well
as its Assistant Secretary of Treasury for Public Affairs and Public Liaison.
She is a director of Amerada Hess Corporation, Hercules Incorporated, H.J. Heinz
Company and RTI International Metals, Inc. and a director or trustee of various
investment companies in the Franklin Templeton Group of Funds. She has been a
director of the Company since March 1995.

     Mr. Jacoby is Executive Vice President, Chief Financial Officer and a
director of Stephens Group, Inc. Mr. Jacoby has held the indicated positions
with Stephens Group, Inc. since 1986, and prior to that time, served as Manager
of the Corporate Finance Department and Assistant to the President of Stephens
Inc. Mr. Jacoby is a director of Power-One, Inc. and Delta and Pine Land
Company, Inc. He has been a director of the Company since February 1987.

     Dr. Lavizzo-Mourey is Director of the Institute of Aging, Chief of the
Division of Geriatric Medicine, Associate Executive Vice President for health
policy and Professor of Medicine at the University of Pennsylvania, Ralston-Penn
Center. She is a director of Lifemark, Inc. and Hanger Orthopedic Group, Inc.
She has been a director of the Company since March 1995.

     Ms. Seymann is President and Chief Executive Officer of M One, Inc., a
management and information systems consulting firm specializing in the financial
services industry. She is a director of Community First
                                       16
<PAGE>   18

Bankshares, Inc., True North Communications, Inc. and NorthWestern Corporation.
She has been a director of the Company since March 1995.

     During 1999, there were 17 meetings of the Board of Directors. Each
director attended 75% or more of the meetings of the Board and committees on
which he or she served.

     In 1999, directors, other than Mr. Banks, received a retainer fee of
$25,000 for serving on the Board and an additional fee of $1,000 for each Board
or committee meeting attended. The chairperson of each committee received an
additional $1,000 for each committee meeting attended. Such fees can be
deferred, at the option of the director, as provided for under the Non-Employee
Director Deferred Compensation Plan (discussed below). Mr. Banks, the Company's
current Chairman of the Board and Chief Executive Officer received no additional
cash compensation for serving on the Board or its committees.

     During 1997, the Beverly Enterprises, Inc. Non-Employee Director Deferred
Compensation Plan was approved. Such plan provides each nonemployee director the
opportunity to receive awards equivalent to shares of Common Stock ("deferred
share units") and to defer receipt of compensation for services rendered to the
Company. There are three types of contributions available under the plan. First,
nonemployee directors can defer all or part of retainer and meeting fees to a
pre-tax deferred compensation account with two investment options. The first
investment option is a cash account which is credited with interest, and the
second investment option is a deferred share unit account, with each unit having
a value equivalent to one share of Common Stock. The second type of contribution
is a Company matching contribution whereby the Company matches 25% of the amount
of fees deferred, to the extent the deferral is in the deferred share unit
account. Third, as a replacement for the prior benefits under the retirement
plan for outside directors, each nonemployee director receives a grant of 675
deferred share units each year which is automatically credited to the deferred
share unit account. Distributions under the plan will commence upon retirement,
termination, death or disability and will be made in shares of Common Stock
unless the Board of Directors approves payment in cash.

     During 1997, the New Beverly Non-Employee Directors Stock Option Plan (the
"Non-Employee Directors Stock Option Plan") was approved. Such plan became
effective December 3, 1997 and will remain in effect until December 31, 2007,
subject to early termination by the Board of Directors. Such plan replaced the
Nonemployee Directors' Plan entered into in 1994. There are 300,000 shares of
the Company's $.10 par value common stock ("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 December 11, 1997 to provide that 3,375 stock options be
granted to each nonemployee director on June 1 of each year until the plan is
terminated, subject to the availability of shares. Stock option grants have been
made since 1994 to each of the nonemployee directors. Such stock options are
granted at a purchase price equal to fair market value on the date of grant,
become exercisable one year after date of grant and expire ten years after date
of grant.

                                       17
<PAGE>   19

                                    PART II

ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

     The Company's Common Stock is listed on the New York and Pacific Stock
Exchanges. The table below sets forth, for the periods indicated, the range of
high and low sales prices of the Common Stock as reported on the New York Stock
Exchange composite tape.

<TABLE>
<CAPTION>
                                                                        PRICES
                                                              --------------------------
                                                                 HIGH            LOW
                                                              -----------    -----------
<S>                                                           <C>            <C>
1998
  First Quarter.............................................    $15 9/16       $12 1/4
  Second Quarter............................................     16 1/4         13 1/2
  Third Quarter.............................................     14 13/16        7 3/8
  Fourth Quarter............................................      8 1/8          5 1/4
1999
  First Quarter.............................................    $ 6 15/16      $ 4 1/2
  Second Quarter............................................      8 3/16         4 5/16
  Third Quarter.............................................      8              3 7/8
  Fourth Quarter............................................      5 3/16         3 1/2
2000
  First Quarter (through February 29).......................    $ 4 9/16       $ 2 1/2
</TABLE>

     The Company is subject to certain restrictions under its long-term debt
agreements related to the payment of cash dividends on its Common Stock. During
1999 and 1998, no cash dividends were paid on the Company's Common Stock and no
future dividends are currently planned.

     At February 29, 2000, there were 5,341 record holders of the Common Stock.

EMPLOYEE STOCK PURCHASE PLAN

     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 Common Stock at the current market
price through payroll deductions. The Company makes contributions in the amount
of 30% of the participant's contribution. Each participant specifies the amount
to be withheld from earnings per two-week pay period, subject to certain
limitations. The total charge to the Company's statement of operations for the
year ended December 31, 1999 related to this plan was approximately $1,723,000.
At December 31, 1999, there were approximately 3,400 participants in the plan.

     Merrill Lynch & Co., Merrill Lynch World Headquarters, North Tower, World
Financial Center, New York, New York 10281, was appointed broker to open and
maintain an account in each participant's name and to purchase shares of Common
Stock on the New York Stock Exchange for each participant.

                                       18
<PAGE>   20

ITEM 6. SELECTED FINANCIAL DATA.

     The following table of selected financial data should be read in
conjunction with the Company's consolidated financial statements and related
notes thereto for 1999, 1998 and 1997 included elsewhere in this Annual Report
on Form 10-K.

<TABLE>
<CAPTION>
                                                                AT OR FOR THE YEARS ENDED DECEMBER 31,
                                                -----------------------------------------------------------------------
                                                    1999         1998(1)        1997(2)          1996          1995
                                                ------------   ------------   ------------   ------------   -----------
                                                             (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<S>                                             <C>            <C>            <C>            <C>            <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Net operating revenues........................  $  2,546,672   $  2,812,232   $  3,217,099   $  3,267,189   $ 3,228,553
Interest income...............................         4,335         10,708         13,201         13,839        14,228
                                                ------------   ------------   ------------   ------------   -----------
        Total revenues........................     2,551,007      2,822,940      3,230,300      3,281,028     3,242,781
Costs and expenses:
  Operating and administrative................     2,354,328      2,633,135      2,888,021      2,958,942     2,960,832
  Interest....................................        72,578         65,938         82,713         91,111        84,245
  Depreciation and amortization...............        99,160         93,722        107,060        105,468       103,581
  Special charges related to settlements of
    federal government investigations.........       202,447          1,865             --             --            --
  Asset impairments, workforce reductions and
    other unusual items.......................        23,818         69,443         44,000             --       100,277
  Year 2000 remediation.......................        12,402          9,719             --             --            --
                                                ------------   ------------   ------------   ------------   -----------
        Total costs and expenses..............     2,764,733      2,873,822      3,121,794      3,155,521     3,248,935
                                                ------------   ------------   ------------   ------------   -----------
Income (loss) before provision for (benefit
  from) income taxes, extraordinary charge and
  cumulative effect of change in accounting
  for start-up costs..........................      (213,726)       (50,882)       108,506        125,507        (6,154)
Provision for (benefit from) income taxes.....       (79,079)       (25,936)        49,913         73,481         1,969
Extraordinary charge, net of income tax
  benefit of $1,057 in 1998 and $1,099 in
  1996........................................            --         (1,660)            --         (1,726)           --
Cumulative effect of change in accounting for
  start-up costs, net of income tax benefit of
  $2,811......................................            --         (4,415)            --             --            --
                                                ------------   ------------   ------------   ------------   -----------
Net income (loss).............................  $   (134,647)  $    (31,021)  $     58,593   $     50,300   $    (8,123)
                                                ============   ============   ============   ============   ===========
Net income (loss) applicable to common
  shares......................................  $   (134,647)  $    (31,021)  $     58,593   $     50,300   $   (14,998)
                                                ============   ============   ============   ============   ===========
Diluted income (loss) per share of common
  stock:
  Before extraordinary charge and cumulative
    effect of change in accounting for
    start-up costs............................  $      (1.31)  $       (.24)  $        .57   $        .50   $      (.16)
  Extraordinary charge........................            --           (.02)            --           (.01)           --
  Cumulative effect of change in accounting
    for start-up costs........................            --           (.04)            --             --            --
                                                ------------   ------------   ------------   ------------   -----------
  Net income (loss)...........................  $      (1.31)  $       (.30)  $        .57   $        .49   $      (.16)
                                                ============   ============   ============   ============   ===========
  Shares used to compute per share amounts....   102,491,000    103,762,000    103,422,000    110,726,000    92,233,000
CONSOLIDATED BALANCE SHEET DATA:
Total assets..................................  $  1,982,880   $  2,160,511   $  2,073,469   $  2,525,082   $ 2,506,461
Current portion of long-term debt.............  $     34,052   $     27,773   $     31,551   $     38,826   $    84,639
Long-term debt, excluding current portion.....  $    746,164   $    878,270   $    686,941   $  1,106,256   $ 1,066,909
Stockholders' equity..........................  $    641,124   $    776,206   $    862,505   $    861,095   $   820,333
OTHER DATA:
Average occupancy percentage(3)...............          87.2%          88.7%          88.9%          87.4%         88.1%
Number of nursing home beds...................        62,217         62,293         63,552         71,204        75,669
</TABLE>

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

(1) Amounts for 1998 include the operations of American Transitional Hospitals,
    Inc. through June 30, 1998.

(2) Amounts for 1997 include the operations of Pharmacy Corporation of America
    up until the effective date of the Merger (as discussed herein).

(3) Average occupancy percentage for 1999, 1998 and 1997 was based on
    operational beds, and for all periods prior to 1997, such percentage was
    based on licensed beds. Average occupancy percentage for 1999, 1998 and 1997
    based on licensed beds was 85.3%, 86.9% and 87.1%, respectively.

                                       19
<PAGE>   21

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS.

GENERAL

  GOVERNMENTAL REGULATION AND REIMBURSEMENT

     Healthcare system reform and concerns over rising Medicare and Medicaid
costs continue to be high priorities for both the federal and state governments.
In August 1997, the President signed into law the Balanced Budget Act of 1997
(the "1997 Act") in which Congress included numerous program changes directed at
balancing the federal budget. The legislation changed Medicare and Medicaid
policy in a number of ways, including: (i) the phase in of a Medicare
prospective payment system ("PPS") for skilled nursing facilities effective July
1, 1998 (see below); (ii) establishment of limitations on Part B therapy charges
per beneficiary per year; (iii) a 10% reduction in Part B therapy costs for the
period from January 1, 1998 through July 1, 1998, at which time reimbursement
for these services became based on fee schedules established by the Health Care
Financing Administration ("HCFA") of the Department of Health and Human Services
("HHS"); (iv) development of new Medicare and Medicaid health plan options; (v)
creation of additional safeguards against healthcare fraud and abuse; and (vi)
repeal of the Medicaid "Boren Amendment" payment standard. The legislation also
included new opportunities for providers to focus further on patient outcomes by
creating alternative patient delivery structures.

     PPS, which became effective for the Company on January 1, 1999,
significantly changed the manner in which its skilled nursing facilities are
paid for inpatient services provided to Medicare beneficiaries. In year one
(1999 for the Company), Medicare PPS rates were based 75% on 1995
facility-specific Medicare costs (as adjusted for inflation) and 25% was
federally-determined based upon the acuity level (as measured by which one of 44
Resource Utilization Grouping ("RUG") categories a particular patient is
classified) of Medicare patients served in the Company's skilled nursing
facilities. The direct impact of PPS and other provisions of the 1997 Act was a
decrease in the Company's 1999 net operating revenues of approximately
$114,000,000 as compared to 1998. Unless a nursing facility provider chooses to
be reimbursed at 100% of the federally-determined acuity-adjusted rate as
allowed under BBRA 1999 (as discussed below): (i) in year two, Medicare PPS
rates will be based 50% on 1995 facility-specific costs (as adjusted for
inflation) and 50% on the federally-determined acuity-adjusted rate; (ii) in
year three, Medicare PPS rates will be based 25% on 1995 facility-specific costs
(as adjusted for inflation) and 75% on the federally-determined acuity-adjusted
rate; and (iii) in year four and thereafter, Medicare PPS rates will be based
entirely on the federally-determined acuity-adjusted rate.

     In November 1999, the President signed into law the Balanced Budget
Refinement Act of 1999 ("BBRA 1999") which refines the 1997 Act and will restore
approximately $2.7 billion in Medicare funding for skilled nursing providers
over the next three years. The provisions of BBRA 1999 include: (i) the option
for a skilled nursing provider to choose between the higher of current law, as
described above, or 100% of the federally-determined acuity-adjusted rate
effective for cost reporting periods starting on or after January 1, 2000; (ii)
a temporary increase of 20% in the federal adjusted per diem rates for 15 RUG
categories covering extensive services, special care, clinically complex, and
high and medium rehabilitation, for the period from April 1, 2000 through
September 30, 2000; at which time, if HCFA has not recalculated the necessary
refinements to the overall RUG-III system, the 20% increase will be extended
until such time as the calculations are completed; (iii) a 4% increase in the
federal adjusted per diem rates for all 44 RUG categories for each of the
periods October 1, 2000 through September 30, 2001 and October 1, 2001 through
September 30, 2002; (iv) a two-year moratorium on implementing the two Part B
$1,500 therapy limitations contained in the 1997 Act, effective January 1, 2000
through January 1, 2002; (v) a retroactive provision that corrects a technical
error in the 1997 Act denying payment of Part B services to skilled nursing
facilities participating in PPS demonstration projects; and (vi) exclusion from
the Medicare PPS rates of ambulance services to and from dialysis, prosthetic
devices, radioisotopes and chemotherapy furnished on or after April 1, 2000. The
Company has elected to move to a 100% federally-determined acuity-adjusted rate
on approximately 300 of its nursing facilities effective January 1, 2000. The
Company currently estimates an increase in its 2000 net operating revenues of
approximately $20,000,000 related to the impact of BBRA 1999. However, no
assurances can be given as to what the actual impact of BBRA 1999 will be on the
Company's consolidated financial position or
                                       20
<PAGE>   22

results of operations. In addition, future federal budget legislation and
federal and state regulatory changes, including refinements to the RUG-III
system expected from HCFA by October 1, 2000, may negatively impact the Company.

     The Company's future operating performance will continue to be affected by
the issues facing the long-term healthcare industry as a whole, including the
maintenance of occupancy, its ability to continue to expand higher margin
businesses, the availability of nursing, therapy and other personnel, the
adequacy of funding of governmental reimbursement programs, the rising cost of
patient care liabilities, the demand for nursing home care and the nature of any
additional healthcare reform measures that may be taken by the federal
government, as well as by any state governments. The Company's ability to
control costs, including its wages and related expenses which continue to rise
and represent the largest component of the Company's operating and
administrative expenses, will also significantly impact its future operating
results.

  PATIENT CARE LIABILITIES

     General liability and professional liability costs for the long-term care
industry, especially in the state of Florida, have become increasingly expensive
and unpredictable. The Company and most of its competitors have experienced
increases in both the number of claims and the size of the typical claim. This
phenomenon is most evident in the state of Florida, where well-intended patient
rights' statutes tend to be exploited by plaintiffs' attorneys, since the
statutes allow for actual damages, punitive damages and plaintiff attorney fees
to be included in any proven violation. Statistics show that Florida long-term
care providers: (i) incur three times the number of general liability claims as
compared to the rest of the country; (ii) have general liability claims that are
approximately 250% higher in cost than the rest of the country; and (iii) incur
40% of the cost for general liability claims for the country, but only represent
approximately 10% of the total nursing facility beds.

     Insurance companies are exiting the state of Florida, or severely
restricting their capacity to write long-term care general liability insurance,
since they cannot provide coverage when faced with the magnitude of losses and
the explosive growth of claims. Although the Company's overall general liability
costs per bed in Florida are lower than the industry average in Florida, these
costs are still severely out of line with the rest of the country and continue
to escalate. The Company's provision for insurance and related items decreased
approximately $65,900,000 for the year ended December 31, 1999, as compared to
the same period in 1998, primarily due to a loss portfolio transfer transaction
that significantly increased insurance costs during the fourth quarter of 1998.
Despite such decrease year over year, the Company, as well as other nursing home
providers with significant operations in Florida, are experiencing substantial
increases in patient care and other claims, evidencing the negative trend
surrounding patient care liabilities.

     The Company is taking an active role in lobbying efforts to reform tort
laws in the state of Florida. In addition, community outreach programs are being
used to communicate care levels and caregiver dedication in each of its
facilities. There is significant media and legislative attention currently being
placed on these issues, and the Company is hopeful that there will be certain
reforms made in the current statutes. However, there can be no assurances made
that legislative changes will be made, or that any such changes will have a
positive impact on the current trend.

YEAR 2000 REMEDIATION

     In 1996, the Company began a major systems initiative to upgrade or replace
all of its integrated financial application software to facilitate the adoption
of a new standard chart of accounts. As part of that major initiative, the
Company took the necessary steps to upgrade or replace the applications with
year 2000 compliant releases of the software whenever possible. For those
purchased software applications where the year 2000 release was not available,
the upgrades to the compliant releases were addressed as part of the year 2000
project (the "Y2K Project"). The Company utilized both internal and external
resources to reprogram or replace, test, and implement the software and
operating equipment for year 2000 modifications. The total amount expended on
the Y2K Project was approximately $24,700,000 ($22,100,000 expensed and
$2,600,000 capitalized for new systems and equipment). The Company does not
expect to incur material expenditures in the future related to the year 2000
issue.

                                       21
<PAGE>   23

     The Company did not experience any disruptions in, or failures of, normal
business activities attributable to the year 2000 issue and does not anticipate
any such disruptions in the future.

OPERATING RESULTS

  1999 COMPARED TO 1998

  RESULTS OF OPERATIONS

     Net loss was $134,647,000 for the year ended December 31, 1999, as compared
to a net loss of $31,021,000 for the year ended December 31, 1998. Net loss for
1999 included a special pre-tax charge of approximately $202,400,000 related to
the separate criminal and civil settlements of the Allocation Investigations (as
discussed below). In addition, net loss for 1999 included a pre-tax charge of
approximately $23,800,000 for impaired long-lived assets, workforce reductions
and other unusual items (as discussed below). Net loss for 1998 included a
pre-tax charge of approximately $69,400,000 for workforce reductions, impaired
long-lived assets and other unusual items (as discussed below). In addition, net
loss for 1998 included a $1,660,000 extraordinary charge, net of income taxes,
related to the write-off of unamortized deferred financing costs associated with
the repayment of certain debt instruments, as well as certain bond refundings,
and a cumulative effect adjustment of $4,415,000, net of income taxes, related
to the adoption of SOP 98-5 (as defined below).

     In late July 1999, the Company reached a tentative understanding with the
U.S. Department of Justice to settle the separate civil and criminal aspects of
all investigations by the federal government and its fiscal intermediary into
the allocation of nursing labor hours to the Medicare program from 1990 to 1998
(the "Allocation Investigations"). On February 3, 2000, the Company announced
that it had signed agreements with the Office of Inspector General of the
Department of Health and Human Services and the U.S. Department of Justice
finalizing the tentative settlements. (See "Part I, Item 3. Legal Proceedings").
As a result, during the year ended December 31, 1999, the Company recorded a
special pre-tax charge of approximately $202,400,000 ($127,500,000, net of
income taxes, or $1.24 per share diluted) which includes: (i) provisions
totaling approximately $128,800,000 representing the net present value of the
separate civil and criminal settlements; (ii) impairment losses of approximately
$17,000,000 on 10 nursing facilities that pled guilty of submitting erroneous
cost reports to the Medicare program in conjunction with the criminal
settlement; (iii) approximately $39,000,000 for certain prior year cost report
related items affected by the settlements; (iv) approximately $3,100,000 of debt
issuance and refinancing costs related to various bank debt modifications as a
result of the settlements; and (v) approximately $14,500,000 for other
investigation and settlement related costs.

     The final written agreements resolved both civil and criminal matters, and
included a corporate integrity agreement, providing for a reporting and
compliance program to be overseen by the Company and the Office of Inspector
General. The provisions of the settlements were consistent with the Company's
expectations as previously reported and included the planned disposition of 10
nursing facilities operated by a single subsidiary of the Company, which will
continue to operate and staff the nursing facilities until new operators are
found.

     Under the Civil Settlement Agreement, the Company will reimburse the
federal government $170,000,000 as follows: (i) $25,000,000, which was paid
during the first quarter of 2000; and (ii) $145,000,000 to be withheld from the
Company's biweekly Medicare periodic interim payments in equal installments over
eight years. Because this obligation does not bear interest, the Company is
required to impute interest over the eight-year period. This imputed interest
expense, along with an increase in interest and rent expense resulting from the
Amendments (as defined below), will adversely impact the Company's future
operating results.

     Under the Plea Agreement, the subsidiary operating the 10 nursing
facilities that pled guilty of submitting erroneous cost reports to the Medicare
program paid a fine of $5,000,000 during the first quarter of 2000.

                                       22
<PAGE>   24

     If, prior to January 1, 1999, the settlement obligations and related items
had been finalized and recorded, the Company's bank debt had been refinanced and
the Company had closed or sold the facilities that are impacted by the criminal
settlement, the Company's results of operations, on an unaudited pro forma
basis, would have been reduced by approximately $13,200,000, or $.13 per share
diluted, for the year ended December 31, 1999.

     During the fourth quarter of 1999, the Company recorded a pre-tax charge of
approximately $23,800,000 related to restructuring of agreements on certain
leased facilities; severance and other workforce reduction expenses; asset
impairments; and other unusual items. The Company negotiated the terminations of
lease agreements on 19 nursing facilities (2,047 beds), which resulted in a
charge of approximately $17,300,000. In addition, the Company accrued
approximately $5,900,000 primarily related to severance agreements associated
with three executives of the Company. Substantially all of the $5,900,000 was
paid during the first quarter of 2000.

  INCOME TAXES

     The Company had an annual effective tax rate of 37% for the year ended
December 31, 1999, compared to an annual effective tax rate of 51% for the year
ended December 31, 1998. The annual effective tax rate in 1999 was different
than the federal statutory rate primarily due to the impact of state income
taxes. The annual effective tax rate in 1998 was different than the federal
statutory rate primarily due to the impact of the sale of American Transitional
Hospitals, Inc. ("ATH"), which operated as Beverly Specialty Hospitals, the
benefit of certain tax credits and the pre-tax charge of $69,400,000 (as
discussed below) which reduced the Company's pre-tax income to a level where the
impact of permanent tax differences and state income taxes had a more
significant impact on the effective tax rate. At December 31, 1999, the Company
had federal net operating loss carryforwards of $84,259,000 for income tax
purposes which expire in years 2018 through 2019. At December 31, 1999, the
Company had general business tax credit carryforwards of $8,850,000 for income
tax purposes which expire in years 2008 through 2015. For financial reporting
purposes, the federal net operating loss carryforwards and the general business
tax credit carryforwards have been utilized to offset existing net taxable
temporary differences reversing during the carryforward periods. The Company's
net deferred tax assets at December 31, 1999 will be realized primarily through
the reversal of temporary taxable differences and future taxable income.
Accordingly, the Company does not believe that a deferred tax valuation
allowance is necessary at December 31, 1999.

  NET OPERATING REVENUES

     The Company reported net operating revenues of $2,546,672,000 during the
year ended December 31, 1999 compared to $2,812,232,000 for the same period in
1998. Approximately 91% and 90% of the Company's total net operating revenues
for the years ended December 31, 1999 and 1998, respectively, were derived from
services provided by the Company's Beverly Healthcare segment. The decrease in
net operating revenues of approximately $265,600,000 for the year ended December
31, 1999, as compared to the same period in 1998, consists of the following: a
decrease of approximately $204,000,000 due to the disposition of, or lease
terminations on, 12 nursing facilities, one assisted living center and 17 home
care centers in 1999 and 26 nursing facilities and ATH in 1998; a decrease of
approximately $180,100,000 due to facilities which the Company operated during
each of the years ended December 31, 1999 and 1998 ("same facility operations");
partially offset by an increase of approximately $118,500,000 due to
acquisitions of nursing facilities and outpatient and home care businesses
during 1999 and 1998.

     The decrease in net operating revenues of approximately $204,000,000 for
1999, as compared to the same period in 1998, resulting from dispositions and
lease terminations that occurred during the years ended December 31, 1999 and
1998 are as follows. During 1999, the Company sold or terminated the leases on
12 nursing facilities (1,291 beds), one assisted living center (10 units), 17
home care centers and certain other assets. The Company did not operate two of
these nursing facilities (166 beds) which were leased to other nursing home
operators in prior year transactions. The Company recognized net pre-tax losses,
which were included in net operating revenues during the year ended December 31,
1999, of approximately $4,000,000 as a result of these dispositions. During
1998, the Company sold or terminated the leases on 26 nursing facilities
                                       23
<PAGE>   25

(3,203 beds) and certain other assets. The Company did not operate seven of
these nursing facilities (893 beds) which were leased to other nursing home
operators in prior year transactions. The Company recognized net pre-tax gains,
which were included in net operating revenues during the year ended December 31,
1998, of approximately $17,900,000 as a result of these dispositions. The
operations of the disposed facilities and other assets were immaterial to the
Company's consolidated financial position and results of operations.

     In June 1998, the Company completed the sale of its ATH subsidiary to
Select Medical Corporation. Prior to the sale, ATH operated 15 transitional
hospitals (743 beds) in eight states which addressed the needs of patients
requiring intense therapy regimens, but not necessarily the breadth of services
provided within traditional acute care hospitals. The Company recognized a
pre-tax gain, which was included in net operating revenues during the year ended
December 31, 1998, of approximately $16,000,000 as a result of this disposition.
During the year ended December 31, 1999, the Company recorded a pre-tax charge
to adjust the sales price of this disposition by approximately $4,500,000, which
was included in net operating revenues. The operations of ATH were immaterial to
the Company's consolidated financial position and results of operations.

     The decrease in net operating revenues of approximately $180,100,000 from
same facility operations for the year ended December 31, 1999, as compared to
the same period in 1998, was due to the following: approximately $97,800,000
decrease in ancillary revenues and approximately $48,800,000 decrease in
Medicare rates, both primarily due to the impact of PPS and other provisions of
the 1997 Act; approximately $49,300,000 decrease due to a shift in the Company's
patient mix; approximately $47,200,000 decrease due to a decline in same
facility occupancy; and approximately $15,700,000 due to various other items;
partially offset by an increase of approximately $78,700,000 due primarily to
increases in Medicaid and private rates. The Company's same facility occupancy
was 87.9% for the year ended December 31, 1999, as compared to 89.3% for the
same period in 1998. The Company has implemented a series of initiatives to
improve its occupancy levels and has experienced some initial success; however,
it is too early to determine the long-term effectiveness of these initiatives.
No assurance can be given that these initiatives will in fact improve the
Company's occupancy levels. The Company's Medicare, private and Medicaid census
for same facility operations was 9%, 19% and 71%, respectively, for the year
ended December 31, 1999, as compared to 10%, 20% and 69%, respectively, for the
same period in 1998.

     The increase in net operating revenues of approximately $118,500,000 for
1999, as compared to the same period in 1998, resulting from acquisitions which
occurred during the years ended December 31, 1999 and 1998 are described as
follows. During 1999, the Company purchased three outpatient therapy clinics,
two home care centers, two nursing facilities (284 beds), one previously leased
nursing facility (190 beds) and certain other assets. During 1998, the Company
purchased 111 outpatient therapy clinics, 50 home care centers, eight nursing
facilities (823 beds), one assisted living center (48 units), two previously
leased nursing facilities (228 beds) and certain other assets. The acquisitions
of these facilities and other assets were accounted for as purchases. The
operations of these acquired facilities and other assets were immaterial to the
Company's consolidated financial position and results of operations.

  OPERATING AND ADMINISTRATIVE EXPENSES

     The Company reported operating and administrative expenses of
$2,354,328,000 during the year ended December 31, 1999 compared to
$2,633,135,000 for the same period in 1998. The decrease of approximately
$278,800,000 consists of the following: a decrease of approximately $216,700,000
from same facility operations; a decrease of approximately $172,300,000 due to
dispositions; partially offset by an increase of approximately $110,200,000 due
to acquisitions. (See above for a discussion of dispositions and acquisitions).

     Operating and administrative expenses decreased approximately $216,700,000
from same facility operations for the year ended December 31, 1999, as compared
to the same period in 1998. This decrease was due primarily to a shift in the
Company's patient mix, as well as a decline in same facility occupancy, and
consists of the following: approximately $69,500,000 due to a decrease in wages
and related expenses; approximately $50,200,000 due to a decrease in contracted
therapy expenses; and approximately $31,100,000 due primarily to decreases in
purchased ancillary products, nursing supplies and other variable costs. In
addition, the Company's provision for insurance and related items decreased
approximately $65,900,000 for the year ended

                                       24
<PAGE>   26

December 31, 1999, as compared to the same period in 1998, primarily due to a
loss portfolio transfer transaction that significantly increased insurance costs
during the fourth quarter of 1998. Although the Company's wages and related
expenses decreased for the year ended December 31, 1999, as compared to the same
period in 1998, the Company's weighted average wage rate and use of registry
personnel increased, both of which underscore the increased difficulties many of
the Company's nursing facilities are having attracting nursing aides, assistants
and other important personnel. The Company is addressing this challenge through
several ongoing programs and training initiatives. No assurance can be given
that these programs and training initiatives will in fact improve the Company's
ability to attract these nursing and related personnel.

  INTEREST EXPENSE, NET

     Interest income decreased to $4,335,000 for the year ended December 31,
1999, as compared to $10,708,000 for the same period in 1998 primarily due to
the sale of investment securities in conjunction with a loss portfolio transfer
transaction during the fourth quarter of 1998. Interest expense increased to
$72,578,000 for the year ended December 31, 1999, as compared to $65,938,000 for
the same period in 1998 primarily due to an increase in net borrowings under the
Revolver/Letter of Credit Facility during the year ended December 31, 1999 as
compared to the same period in 1998, imputed interest on the civil settlement of
approximately $4,600,000, and the write-off of deferred financing costs in
conjunction with certain bond refundings.

  DEPRECIATION AND AMORTIZATION

     Depreciation and amortization expense increased to $99,160,000 for the year
ended December 31, 1999, as compared to $93,722,000 for the same period in 1998.
Such increase was affected by the following: approximately $8,200,000 increase
due to capital additions and improvements, as well as acquisitions; partially
offset by a decrease of approximately $2,800,000 due to dispositions of, or
lease terminations on, certain facilities and ATH.

  NEW ACCOUNTING STANDARDS

     Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS No. 133"), establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities.
It requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. SFAS No. 133 is effective for the Company during the first
quarter of 2001. The Company has not completed its review of SFAS No. 133 but
does not expect there to be a material effect on its consolidated financial
position or results of operations.

     Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1"), provides guidance on the
capitalization and amortization of costs incurred to develop or obtain computer
software for internal use. The Company's adoption of SOP 98-1 during the first
quarter of 1999 did not have a material effect on its consolidated financial
position or results of operations.

  1998 COMPARED TO 1997

  RESULTS OF OPERATIONS

     Operating results for 1997 included the operations of Pharmacy Corporation
of America ("PCA") up until the effective date of the Merger (as discussed
herein). Net loss was $31,021,000 for the year ended December 31, 1998, as
compared to net income of $58,593,000 for the same period in 1997. Net loss for
1998 included a pre-tax charge of approximately $69,400,000 for workforce
reductions, impaired long-lived assets and other unusual items (as discussed
herein). In addition, net loss for 1998 included a $1,660,000 extraordinary
charge, net of income taxes, related to the write-off of unamortized deferred
financing costs associated with the repayment of certain debt instruments, as
well as certain bond refundings, and a cumulative effect adjustment of
$4,415,000, net of income taxes, related to the adoption of SOP 98-5 (as

                                       25
<PAGE>   27

defined below). Net income for 1997 included a pre-tax charge of $44,000,000
relating to the December 3, 1997 Reorganization (as discussed herein).

     In preparing for the January 1, 1999 implementation of the new Medicare
prospective payment system ("PPS"), as well as responding to other legislative
and regulatory changes, the Company reorganized its inpatient rehabilitative
operations, analyzed its businesses for impairment issues and implemented new
care-delivery and tracking software. These initiatives, among others, resulted
in a fourth quarter 1998 pre-tax charge of approximately $69,400,000, including
$3,800,000 for workforce reductions, $58,700,000 for asset impairments and
$6,900,000 for various other items.

     During the fourth quarter of 1998, the Company reorganized all employed
therapy associates into a newly formed subsidiary, Beverly Rehabilitation, Inc.
("Bev Rehab"), which is part of the Company's Beverly Care Alliance segment, in
order to create a more consolidated, strategic approach to managing the
Company's inpatient rehabilitation business under PPS. The Company accrued
approximately $2,500,000 related to the termination of 835 therapy associates in
conjunction with this reorganization. During 1999, 770 therapy associates were
paid approximately $2,300,000 and left the Company. The Company reversed the
remaining $200,000 during 1999 for changes in its initial accounting estimates.

     In addition, the Company's home care and outpatient therapy units underwent
the consolidation and relocation of certain services, including billing and
collections, which resulted in a workforce reduction charge of approximately
$1,300,000 associated with the termination of 236 associates. Of these 236
associates, 74 associates were paid $233,000 and left the Company by December
31, 1998. During 1999, 85 home care and outpatient therapy associates were paid
approximately $600,000 and left the Company. The Company reversed the remaining
$500,000 during 1999 for changes in its initial accounting estimates.

     The significant regulatory changes under PPS and other provisions of the
1997 Act were an indicator to management that the carrying values of certain of
its nursing facilities may not be fully recoverable. In addition, there were
certain assets that had 1998 operating losses, and anticipated future operating
losses, which led management to believe that these assets were impaired.
Accordingly, management estimated the undiscounted future cash flows to be
generated by each facility and reduced the carrying value to its estimate of
fair value, resulting in an impairment charge of approximately $9,000,000 in
1998. Management calculated the fair values of the impaired facilities by using
the present value of estimated undiscounted future cash flows, or its best
estimate of what that facility, or similar facilities in that state, would sell
for in the open market. Management believes it has the knowledge to make such
estimates of open market sales prices based on the volume of facilities the
Company has purchased and sold in previous years.

     Also during the fourth quarter of 1998, management identified nine nursing
facilities with an aggregate carrying value of approximately $14,000,000 which
needed to be replaced in order to increase operating efficiencies, attract
additional census or upgrade the nursing home environment. Management committed
to a plan to construct new facilities to replace these buildings and reduced the
carrying values of these facilities to their estimated salvage values. These
assets are included in the total assets of the Company's Beverly Healthcare
segment. In addition, management committed to a plan to dispose of 24 home care
centers and nine outpatient therapy clinics which had 1998 and expected future
period operating losses. These businesses had an aggregate carrying value of
approximately $16,500,000 and were written down to their fair value less costs
to sell. These assets generated pre-tax losses for the Company of approximately
$5,100,000 during the year ended December 31, 1998. Substantially all of these
assets were purchased during 1998. The Company disposed of a majority of these
assets during 1999. These assets were included in the total assets of the
Company's Beverly Care Alliance segment. The Company incurred a charge of
approximately $30,300,000 related to these replacements, closings and planned
disposals. These assets were included in the consolidated balance sheet captions
"Property and equipment, net" and "Goodwill, net" at December 31, 1998.

     In addition to the workforce reduction and impairment charges, the Company
recorded a fourth quarter 1998 impairment charge for other long-lived assets of
approximately $19,400,000 primarily related to the write-off of software and
software development costs. In conjunction with the implementation of business
process changes, and the need for enhanced data-gathering and reporting required
to operate effectively under

                                       26
<PAGE>   28

PPS, the Company installed new clinical software in each of its nursing
facilities during late-1998, which made obsolete the previously employed
software. In addition, certain of the Company's other ongoing software
development projects were abandoned or written down due to obsolescence,
feasibility or cost recovery issues.

     Statement of Position 98-5, "Reporting on the Costs of Start-Up Activities"
("SOP 98-5"), provides guidance on the financial reporting of start-up and
organization costs. SOP 98-5 requires costs of start-up activities and
organization costs to be expensed as incurred. Prior to 1998, the Company
capitalized start-up costs in connection with the opening of new facilities and
businesses. The Company adopted the provisions of SOP 98-5 in its financial
statements for the year ended December 31, 1998. The effect of adopting SOP 98-5
was to decrease the Company's pre-tax loss from continuing operations in 1998 by
approximately $1,000,000 and to record a charge for the cumulative effect of an
accounting change, as of January 1, 1998, of $4,415,000, net of income taxes, or
$0.04 per share, to expense costs that had previously been capitalized.

  INCOME TAXES

     The Company had an annual effective tax rate of 51% for the year ended
December 31, 1998, compared to an annual effective tax rate of 46% for year
ended December 31, 1997. The annual effective tax rate in 1998 was different
than the federal statutory rate primarily due to the impact of the sale of ATH,
the benefit of certain tax credits and the pre-tax charge of $69,400,000 (as
discussed above) which reduced the Company's pre-tax income to a level where the
impact of permanent tax differences and state income taxes had a more
significant impact on the effective tax rate. The annual effective tax rate in
1997 was different than the federal statutory rate primarily due to the impact
of nondeductible transaction costs associated with the Reorganization. At
December 31, 1998, the Company had federal net operating loss carryforwards of
$50,989,000 for income tax purposes which expire in 2018. At December 31, 1998,
the Company had general business tax credit carryforwards of $5,270,000 for
income tax purposes which expire in years 2008 through 2014. For financial
reporting purposes, the federal net operating loss carryforwards and the general
business tax credit carryforwards have been utilized to offset existing net
taxable temporary differences reversing during the carryforward periods.

  NET OPERATING REVENUES

     The Company reported net operating revenues of $2,812,232,000 during the
year ended December 31, 1998 compared to $3,217,099,000 for the same period in
1997. Approximately 90% and 80% of the Company's total net operating revenues
for the years ended December 31, 1998 and 1997, respectively, were derived from
services provided by the Company's Beverly Healthcare segment. The decrease in
net operating revenues of approximately $404,900,000 for the year ended December
31, 1998, as compared to the same period in 1997, consists of the following: a
decrease of approximately $599,900,000 due to the disposition of, or lease
terminations on, 26 nursing facilities and ATH in 1998 and 68 nursing facilities
and PCA in 1997; partially offset by an increase of approximately $155,100,000
due to the acquisitions of nursing facilities and outpatient, home care and
hospice businesses during 1998 and 1997; and an increase of approximately
$39,900,000 due to facilities which the Company operated during each of the
years ended December 31, 1998 and 1997 ("same facility operations").

     The decrease in net operating revenues of approximately $599,900,000 for
1998, as compared to the same period in 1997, resulting from dispositions and
lease terminations that occurred during the year ended December 31, 1997 are as
follows. (See above for discussion of 1998 dispositions). During 1997, the
Company sold or terminated the leases on 68 nursing facilities (8,314 beds) and
certain other assets. The Company recognized net pre-tax gains, which were
included in net operating revenues during the year ended December 31, 1997, of
approximately $19,900,000 as a result of these dispositions. The operations of
these disposed facilities and other assets were immaterial to the Company's
consolidated financial position and results of operations.

     On December 3, 1997, the Company completed a tax-free reorganization (the
"Reorganization") in order to facilitate the merger of PCA with Capstone
Pharmacy Services, Inc. (the "Merger"). As a result of the Merger, the Company
received approximately $281,000,000 of cash as partial repayment for PCA's

                                       27
<PAGE>   29

intercompany debt, with a charge to the Company's retained earnings of
approximately $45,100,000 for the remaining intercompany balance which was not
repaid. Pursuant to the Merger, each of the Company's stockholders of record at
the close of business on December 3, 1997 received .4551 shares of PharMerica,
Inc.'s common stock for each share of the Company's Common Stock held. The
conversion ratio was based on a total of 109,873,230 outstanding shares of the
Company's Common Stock at the close of business on December 3, 1997 divided into
the 50,000,000 shares issued by PharMerica, Inc.

     In connection with the Reorganization, the Company incurred $44,000,000 of
transaction costs related to the restructuring, repayment or renegotiating of
substantially all of the Company's outstanding debt instruments, as well as the
renegotiating or making of certain payments, primarily in the form of
accelerated vesting of stock-based awards, under various employment agreements
with officers of the Company. Such amounts were funded with a portion of the
$281,000,000 proceeds received as partial repayment of PCA's intercompany debt,
as discussed above. Included in the $44,000,000 of transaction costs were
approximately $18,000,000 of non-cash expenses related to various long-term
incentive agreements.

     Total net operating revenues for PCA for the year ended December 31, 1997
were approximately $564,200,000 and represent the operations of PCA prior to the
Merger.

     The increase in net operating revenues of approximately $155,100,000 for
1998, as compared to the same period in 1997, resulting from acquisitions which
occurred during the year ended December 31, 1997 are as follows. (See above for
discussion of 1998 acquisitions). During 1997, the Company purchased six
previously leased nursing facilities (758 beds) and certain other assets
including, among other things, 14 institutional pharmacies and 40 outpatient
therapy clinics. The acquisitions of these facilities and other assets were
accounted for as purchases. The operations of these acquired facilities and
other assets were immaterial to the Company's consolidated financial position
and results of operations.

     The increase in net operating revenues of approximately $39,900,000 from
same facility operations for the year ended December 31, 1998, as compared to
the same period in 1997, was due to the following: approximately $92,300,000 due
to increases in room and board rates and approximately $6,100,000 due to various
other items; partially offset by approximately $30,400,000 decrease in ancillary
revenues due to a decline in the Company's Medicare census and, to a lesser
extent, as a result of hiring therapists on staff as opposed to contracting for
their services; approximately $19,900,000 due to a decrease in same facility
occupancy to 89.3% for the year ended December 31, 1998, as compared to 90.1%
for the same period in 1997; and approximately $8,200,000 due to a shift in the
Company's patient mix. The Company's Medicare, private and Medicaid census for
same facility operations was 10%, 20% and 69%, respectively, for the year ended
December 31, 1998, as compared to 12%, 19% and 68%, respectively, for the same
period in 1997.

  OPERATING AND ADMINISTRATIVE EXPENSES

     The Company reported operating and administrative expenses of
$2,633,135,000 during the year ended December 31, 1998 compared to
$2,888,021,000 for the same period in 1997. The decrease of approximately
$254,900,000 consists of the following: a decrease of approximately $534,700,000
due to dispositions; partially offset by an increase of approximately
$141,400,000 due to acquisitions; and an increase of approximately $138,400,000
from same facility operations. (See above for a discussion of dispositions and
acquisitions).

     The increase in operating and administrative expenses of approximately
$138,400,000 from same facility operations for the year ended December 31, 1998,
as compared to the same period in 1997, was due to the following: approximately
$66,500,000 due to an increase in the provision for insurance and related items;
approximately $61,400,000 due to increased wages and related expenses
principally due to higher wages and greater benefits required to attract and
retain qualified personnel and the hiring of therapists on staff as opposed to
contracting for their services; approximately $32,900,000 due to increases in
purchased ancillary products, nursing supplies and other variable costs; and
approximately $13,300,000 due to various other items. These increases in
operating and administrative expenses were partially offset by approximately
$35,700,000

                                       28
<PAGE>   30

due to a decrease in contracted therapy expenses as a result of hiring
therapists on staff as opposed to contracting for their services.

     On December 31, 1998, Beverly Indemnity, Ltd., a wholly-owned subsidiary of
the Company, completed a risk transfer of substantially all of its pre-May 1998
auto liability, general liability and workers' compensation claims liability to
a third party insurer effected through a loss portfolio transfer valued as of
December 31, 1998. In exchange for a premium of approximately $116,000,000 (paid
primarily from restricted cash and investments), the Company acquired
reinsurance of approximately $180,000,000 to insure such auto liability, general
liability and workers' compensation losses. In addition, in exchange for a
premium of approximately $4,000,000, the Company acquired excess coverage of
approximately $20,000,000 for general liability losses. The Company's provision
for insurance and related items increased approximately $82,200,000 during the
fourth quarter of 1998 primarily as a result of this transaction.

  INTEREST EXPENSE, NET

     Net interest expense decreased approximately $14,300,000 to $55,230,000 for
the year ended December 31, 1998, as compared to $69,512,000 for the same period
in 1997 primarily due to the conversion of the Company's 5 1/2% convertible
subordinated debentures to Common Stock in the third quarter of 1997, as well as
the repayments of the Company's 7 5/8% convertible subordinated debentures, the
8 3/4% Notes and certain other notes and mortgages during the fourth quarter of
1997 with the proceeds from the Merger.

  DEPRECIATION AND AMORTIZATION

     Depreciation and amortization expense decreased approximately $13,300,000
to $93,722,000 for the year ended December 31, 1998, as compared to $107,060,000
for the same period in 1997. Such decrease was affected by the following:
approximately $25,900,000 decrease due to the dispositions of, or lease
terminations on, certain nursing facilities, ATH and PCA; partially offset by an
increase of approximately $12,600,000 due to acquisitions, as well as capital
additions and improvements.

LIQUIDITY AND CAPITAL RESOURCES

     At December 31, 1999, the Company had approximately $24,700,000 in cash and
cash equivalents, approximately $105,700,000 of net working capital and
approximately $222,700,000 of unused commitments under its Revolver/Letter of
Credit Facility.

     Net cash provided by operating activities for the year ended December 31,
1999 was approximately $189,100,000, an increase of approximately $182,400,000
from the prior year primarily due to a reduction in patient accounts receivable
as a result of the sale of receivables to BFC (as defined below), as well as the
Company's continuing focus on cash collections, and certain income tax refunds
received during the year ended December 31, 1999. Net cash used for investing
and financing activities were approximately $71,500,000 and $110,200,000,
respectively, for the year ended December 31, 1999. The Company received net
cash proceeds of approximately $126,000,000 from the issuance of long-term debt,
approximately $41,900,000 from the dispositions of facilities and other assets
and approximately $22,200,000 from collections on notes receivable. Such net
cash proceeds, along with cash generated from operations, were used to repay
approximately $152,000,000 of net borrowings under the Revolver/Letter of Credit
Facility, to repay approximately $80,600,000 of long-term debt and to fund
capital expenditures totaling approximately $95,400,000.

     In January 1999, the Company entered into a $65,000,000 promissory note
with A.I. Credit Corp. at an annual interest rate of 6.50%. The promissory note
is secured by a surety bond. In October 1999, the note was renegotiated to allow
the Company to make an interest-only payment in January 2000 at an annual
interest rate of 6.50%, with the principal balance payable in two equal
installments in January 2001 and in January 2002 at an annual interest rate of
7.00%. The proceeds from this promissory note were used to pay down Revolver
borrowings.

                                       29
<PAGE>   31

     During the year ended December 31, 1999, the Company entered into
promissory notes totaling approximately $10,820,000 in conjunction with the
construction of certain nursing facilities and approximately $15,100,000 in
conjunction with the acquisitions of certain facilities. Such debt instruments
bear interest at rates ranging from 7.00% to 8.00%, 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 facilities.

     During 1999, the Company refinanced its Medium Term Notes and increased its
borrowings from $40,000,000 to $70,000,000. The Medium Term Notes are
collateralized by patient accounts receivable, which are sold by Beverly Health
and Rehabilitation Services, Inc. ("BHRS") (currently operating as Beverly
Healthcare), a wholly-owned subsidiary of the Company, to Beverly Funding
Corporation ("BFC"), a wholly-owned bankruptcy remote subsidiary of the Company.
As a result of this refinancing, the Company was required by Statement of
Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities," ("SFAS No. 125") to
deconsolidate BFC. SFAS No. 125 provides accounting and reporting standards for
sales, securitizations, and servicing of receivables and other financial assets,
secured borrowing and collateral transactions, and the extinguishments of
liabilities. It requires companies to recognize the financial and servicing
assets it controls and the liabilities it has incurred and to deconsolidate
financial assets when control has been surrendered in accordance with the
criteria provided in SFAS No. 125. Deconsolidation of BFC, which had total
assets of approximately $113,400,000, which cannot be used to satisfy claims of
the Company or any of its subsidiaries, total liabilities of approximately
$75,800,000 and total stockholder's equity of approximately $37,600,000 at
December 31, 1999, caused a reduction in the Company's accounts
receivable-patient and long-term debt. In addition, the Company recorded its
ongoing investment in BFC as an increase in other, net assets. The Company's
Statements of Cash Flows reflect the change in receivables sold to BFC from June
30, 1999 to December 31, 1999 in the caption Accounts receivable -- patient and
the change in the Company's investment in BFC from June 30, 1999 to December 31,
1999 in the caption Other, net -- investing.

     The Company has a $125,000,000 financing arrangement available for the
construction of certain facilities. The Company leases the facilities, under
operating leases with the creditor, upon completion of construction. The Company
has the option to purchase these facilities at the end of the initial lease
terms at fair market value. Total construction advances under the financing
arrangement as of December 31, 1999 were approximately $111,200,000.

     Effective September 30, 1999, the Company executed an amendment to the
Credit Agreement covering the Company's $375,000,000 Revolver/Letter of Credit
Facility, as well as amendments with certain of its other lenders covering debt
of approximately $199,000,000 (collectively, the "Amendments"). Such Amendments
were required since recording of the special charges related to the Allocation
Investigations, as discussed herein, would have resulted in the Company's
noncompliance with certain financial covenants contained in those debt
agreements. The Amendments modified certain financial covenant levels and
increased the annual interest rates for such debt.

     The settlements of the Allocation Investigations require payments totaling
$30,000,000 ($25,000,000 for the first installment of the civil settlement
reimbursement and $5,000,000 for the criminal settlement) within 30 days of
signing the final separate civil and criminal settlement documents, with the
remaining $145,000,000 civil settlement reimbursement to be withheld from the
Company's biweekly Medicare periodic interim payments for a period of eight
years. The Company used borrowings under its Revolver/Letter of Credit Facility
to make the initial $30,000,000 payments during the first quarter of 2000. The
Company anticipates cash flows from operations to decline approximately
$18,100,000 per year as a result of the reduction in Medicare periodic interim
payments and, therefore, may incur additional borrowings under the Revolver/
Letter of Credit Facility to fund ongoing cash needs.

     The Company currently anticipates that cash flows from operations and
borrowings under its banking arrangements will be adequate to repay its debts
due within one year of approximately $34,100,000, to fund the settlement
obligations to the federal government, to make normal recurring capital
additions and improvements of approximately $96,000,000, to make selective
acquisitions, including the purchase of previously leased facilities, to
construct new facilities, and to meet working capital requirements for the
twelve

                                       30
<PAGE>   32

months ending December 31, 2000. If cash flows from operations or availability
under existing banking arrangements fall below expectations, the Company may be
required to delay capital expenditures, dispose of certain assets, issue
additional debt securities, or consider other alternatives to improve liquidity.

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

     The Company is exposed to market risk because it utilizes financial
instruments. The market risks inherent in these instruments are represented by
the potential loss due to adverse changes in the general level of U.S. interest
rates. The Company manages its interest rate risk exposure by maintaining a mix
of fixed and variable rates for debt and notes receivable. The following table
provides information regarding the Company's market sensitive financial
instruments and constitutes a forward-looking statement.
<TABLE>
<CAPTION>

EXPECTED MATURITY DATES   2000        2001       2002       2003       2004      THEREAFTER     TOTAL
-----------------------  -------    --------    -------    -------    -------    ----------    --------
                                                     (DOLLARS IN THOUSANDS)
                                                                    ----------------------
<S>                      <C>        <C>         <C>        <C>        <C>        <C>           <C>
Total long-term debt:
 Fixed Rate............  $33,408    $ 61,055    $57,675    $32,402    $40,793     $401,562     $626,895
 Average Interest
   Rate................     8.38%       7.43%      7.34%      8.52%      8.01%        8.88%

 Variable Rate.........  $   644    $114,762    $23,786    $   905    $ 1,030     $ 12,194     $153,321
 Average Interest
   Rate................     6.54%       8.02%      6.42%      6.54%      6.50%        6.52%

Total notes receivable:
 Fixed Rate............  $16,468    $    949    $   639    $ 3,992    $   519     $  2,051     $ 24,618
 Average Interest
   Rate................     9.54%       8.76%      8.70%      9.00%      9.00%        8.73%

 Variable Rate.........  $    47    $     53    $    56    $    62    $    68     $    873     $  1,159
 Average Interest
   Rate................     8.75%       8.75%      8.75%      8.75%      8.75%        8.75%

<CAPTION>
                          FAIR VALUE     FAIR VALUE
                         DECEMBER 31,   DECEMBER 31,
EXPECTED MATURITY DATES      1999           1998
-----------------------  ------------   ------------
                           (DOLLARS IN THOUSANDS)

<S>                      <C>            <C>
Total long-term debt:
 Fixed Rate............    $591,199       $585,394
 Average Interest
   Rate................
 Variable Rate.........    $153,321       $344,060
 Average Interest
   Rate................
Total notes receivable:
 Fixed Rate............    $ 19,400       $ 43,600
 Average Interest
   Rate................
 Variable Rate.........    $  1,200       $  1,300
 Average Interest
   Rate................
</TABLE>

                                       31
<PAGE>   33

ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

<TABLE>
<CAPTION>
                                                              PAGE
                                                              ----
<S>                                                           <C>
Report of Ernst & Young LLP, Independent Auditors...........   33
Consolidated Balance Sheets.................................   34
Consolidated Statements of Operations.......................   35
Consolidated Statements of Stockholders' Equity.............   36
Consolidated Statements of Cash Flows.......................   37
Notes to Consolidated Financial Statements..................   38
Supplementary Data (Unaudited) -- Quarterly Financial
  Data......................................................   62
</TABLE>

                                       32
<PAGE>   34

               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, 1999 and 1998, and the related consolidated
statements of operations, stockholders' equity, and cash flows for each of the
three years in the period ended December 31, 1999. Our audits also included the
financial statement schedule listed in the Index at Item 14(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, 1999 and 1998, and the consolidated
results of its operations and its cash flows for each of the three years in the
period ended December 31, 1999, 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.

                                            /s/ERNST & YOUNG LLP

Little Rock, Arkansas
February 17, 2000

                                       33
<PAGE>   35

                           BEVERLY ENTERPRISES, INC.

                          CONSOLIDATED BALANCE SHEETS
                             (DOLLARS IN THOUSANDS)

                                     ASSETS

<TABLE>
<CAPTION>
                                                                   DECEMBER 31,
                                                              -----------------------
                                                                 1999         1998
                                                              ----------   ----------
<S>                                                           <C>          <C>
Current assets:
  Cash and cash equivalents.................................  $   24,652   $   17,278
  Accounts receivable -- patient, less allowance for
    doubtful accounts:
    1999 -- $64,398; 1998 -- $21,764........................     319,097      463,822
  Accounts receivable -- nonpatient, less allowance for
    doubtful accounts:
    1999 -- $1,057; 1998 -- $441............................      30,890       85,585
  Notes receivable..........................................      16,930       21,075
  Operating supplies........................................      32,276       32,133
  Deferred income taxes.....................................      54,932       56,512
  Prepaid expenses and other................................      15,019       19,565
                                                              ----------   ----------
         Total current assets...............................     493,796      695,970
Property and equipment, net.................................   1,110,065    1,120,315
Other assets:
  Notes receivable, less allowance for doubtful notes:
    1999 -- $5,604; 1998 -- $2,921..........................       3,658       21,263
  Designated funds..........................................       3,136        4,029
  Goodwill, net.............................................     229,639      217,066
  Other, net................................................     142,586      101,868
                                                              ----------   ----------
         Total other assets.................................     379,019      344,226
                                                              ----------   ----------
                                                              $1,982,880   $2,160,511
                                                              ==========   ==========
                        LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
  Accounts payable..........................................  $   93,168   $   85,533
  Accrued wages and related liabilities.....................      92,514       96,092
  Accrued interest..........................................      14,138       12,783
  Other accrued liabilities.................................     154,182      134,975
  Current portion of long-term debt.........................      34,052       27,773
                                                              ----------   ----------
         Total current liabilities..........................     388,054      357,156
Long-term debt..............................................     746,164      878,270
Deferred income taxes payable...............................      28,956      114,962
Other liabilities and deferred items........................     178,582       33,917
Commitments and contingencies
Stockholders' equity:
  Preferred stock, shares authorized: 25,000,000............          --           --
  Common stock, shares issued: 1999 -- 110,382,356;
    1998 -- 110,275,714.....................................      11,038       11,028
  Additional paid-in capital................................     875,637      876,383
  Accumulated deficit.......................................    (139,429)      (4,782)
  Accumulated other comprehensive income....................       1,061          760
  Treasury stock, at cost: 1999 -- 7,886,800 shares;
    1998 -- 7,886,800 shares................................    (107,183)    (107,183)
                                                              ----------   ----------
         Total stockholders' equity.........................     641,124      776,206
                                                              ----------   ----------
                                                              $1,982,880   $2,160,511
                                                              ==========   ==========
</TABLE>

                            See accompanying notes.

                                       34
<PAGE>   36

                           BEVERLY ENTERPRISES, INC.

                     CONSOLIDATED STATEMENTS OF OPERATIONS
                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
                                                                 YEARS ENDED DECEMBER 31,
                                                           ------------------------------------
                                                              1999         1998         1997
                                                           ----------   ----------   ----------
<S>                                                        <C>          <C>          <C>
Net operating revenues...................................  $2,546,672   $2,812,232   $3,217,099
Interest income..........................................       4,335       10,708       13,201
                                                           ----------   ----------   ----------
          Total revenues.................................   2,551,007    2,822,940    3,230,300
Costs and expenses:
  Operating and administrative:
     Wages and related...................................   1,542,148    1,664,741    1,713,224
     Provision for insurance and related items...........      88,377      154,267       87,780
     Other...............................................     723,803      814,127    1,087,017
  Interest...............................................      72,578       65,938       82,713
  Depreciation and amortization..........................      99,160       93,722      107,060
  Special charges related to settlements of federal
     government investigations...........................     202,447        1,865           --
  Asset impairments, workforce reductions and other
     unusual items.......................................      23,818       69,443       44,000
  Year 2000 remediation..................................      12,402        9,719           --
                                                           ----------   ----------   ----------
          Total costs and expenses.......................   2,764,733    2,873,822    3,121,794
                                                           ----------   ----------   ----------
Income (loss) before provision for (benefit from) income
  taxes, extraordinary charge and cumulative effect of
  change in accounting for start-up costs................    (213,726)     (50,882)     108,506
Provision for (benefit from) income taxes................     (79,079)     (25,936)      49,913
                                                           ----------   ----------   ----------
Income (loss) before extraordinary charge and cumulative
  effect of change in accounting for start-up costs......    (134,647)     (24,946)      58,593
Extraordinary charge, net of income tax benefit of
  $1,057.................................................          --       (1,660)          --
Cumulative effect of change in accounting for start-up
  costs, net of income tax benefit of $2,811.............          --       (4,415)          --
                                                           ----------   ----------   ----------
Net income (loss)........................................  $ (134,647)  $  (31,021)  $   58,593
                                                           ==========   ==========   ==========
Income (loss) per share of common stock:
  Basic and diluted:
     Before extraordinary charge and cumulative effect of
       change in accounting for start-up costs...........  $    (1.31)  $     (.24)  $      .57
     Extraordinary charge................................          --         (.02)          --
     Cumulative effect of change in accounting for
       start-up costs....................................          --         (.04)          --
                                                           ----------   ----------   ----------
     Net income (loss)...................................  $    (1.31)  $     (.30)  $      .57
                                                           ==========   ==========   ==========
     Shares used to compute basic per share amounts......     102,491      103,762      102,060
                                                           ==========   ==========   ==========
     Shares used to compute diluted per share amounts....     102,491      103,762      103,422
                                                           ==========   ==========   ==========
</TABLE>

                            See accompanying notes.

                                       35
<PAGE>   37

                           BEVERLY ENTERPRISES, INC.

                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                             (DOLLARS IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                         RETAINED      ACCUMULATED
                                                          ADDITIONAL     EARNINGS         OTHER
                                    PREFERRED   COMMON     PAID-IN     (ACCUMULATED   COMPREHENSIVE   TREASURY
                                      STOCK      STOCK     CAPITAL       DEFICIT)     INCOME (LOSS)     STOCK       TOTAL
                                    ---------   -------   ----------   ------------   -------------   ---------   ---------
<S>                                 <C>         <C>       <C>          <C>            <C>             <C>         <C>
Balances at January 1, 1997.......    $ --      $10,443    $774,672     $ 133,957        $    --      $ (57,977)  $ 861,095
  Employee stock transactions,
    net...........................      --          54       21,314            --             --             --      21,368
  Purchase of 4,850,700 shares of
    common stock for treasury.....      --          --           --            --             --        (62,729)    (62,729)
  Cancellation and retirement of
    6,274,108 shares of common
    stock held in treasury........      --        (627)     (69,689)           --             --         70,316          --
  Disposition of PCA..............      --          --           --      (121,230)            --             --    (121,230)
  Forgiveness of PCA intercompany
    balance.......................      --          --           --       (45,081)            --             --     (45,081)
  Conversion of 5 1/2% Debentures
    into common stock.............      --       1,119      147,991            --             --             --     149,110
  Conversion of 7 5/8% Debentures
    into common stock.............      --          --           47            --             --             --          47
  Comprehensive income:
    Unrealized gains on
      securities, net of income
      taxes of $896...............      --          --           --            --          1,332             --       1,332
    Net income....................      --          --           --        58,593             --             --      58,593
                                                                                                                  ---------
  Total comprehensive income......      --          --           --            --             --             --      59,925
                                      ----      -------    --------     ---------        -------      ---------   ---------
Balances at December 31, 1997.....      --      10,989      874,335        26,239          1,332        (50,390)    862,505
  Employee stock transactions,
    net...........................      --          39        2,048            --             --             --       2,087
  Purchase of 3,886,800 shares of
    common stock for treasury.....      --          --           --            --             --        (51,120)    (51,120)
  Settlement of amounts due from
    1997 purchase of 4,000,000
    shares of common stock for
    treasury......................      --          --           --            --             --         (5,673)     (5,673)
  Comprehensive income (loss):
    Unrealized gains on
      securities, net of income
      taxes of $795...............      --          --           --            --          1,183             --       1,183
    Adjustment to unrealized gains
      on securities, net of income
      tax benefit of $1,180.......      --          --           --            --         (1,755)            --      (1,755)
    Net loss......................      --          --           --       (31,021)            --             --     (31,021)
                                                                                                                  ---------
  Total comprehensive loss........      --          --           --            --             --             --     (31,593)
                                      ----      -------    --------     ---------        -------      ---------   ---------
Balances at December 31, 1998.....      --      11,028      876,383        (4,782)           760       (107,183)    776,206
  Employee stock transactions,
    net...........................      --          10         (746)           --             --             --        (736)
  Comprehensive income (loss):
    Unrealized gains on
      securities, net of income
      taxes of $202...............      --          --           --            --            301             --         301
    Net loss......................      --          --           --      (134,647)            --             --    (134,647)
                                                                                                                  ---------
  Total comprehensive loss........      --          --           --            --             --             --    (134,346)
                                      ----      -------    --------     ---------        -------      ---------   ---------
Balances at December 31, 1999.....    $ --      $11,038    $875,637     $(139,429)       $ 1,061      $(107,183)  $ 641,124
                                      ====      =======    ========     =========        =======      =========   =========
</TABLE>

                            See accompanying notes.

                                       36
<PAGE>   38

                           BEVERLY ENTERPRISES, INC.

                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                     YEARS ENDED DECEMBER 31,
                                                              ---------------------------------------
                                                                 1999          1998          1997
                                                              -----------   -----------   -----------
<S>                                                           <C>           <C>           <C>
Cash flows from operating activities:
  Net income (loss).........................................  $  (134,647)  $   (31,021)  $    58,593
  Adjustments to reconcile net income (loss) to net cash
    provided by operating activities:
    Depreciation and amortization...........................       99,160        93,722       107,060
    Provision for reserves on patient, notes and other
       receivables,
       net..................................................       32,089        25,249        34,341
    Amortization of deferred financing costs................        2,909         2,336         3,163
    Special charges related to settlements of federal
       government investigations............................      202,447         1,865            --
    Asset impairments, workforce reductions and other
       unusual
       items................................................       23,818        69,443        44,000
    Extraordinary charge....................................           --         2,717            --
    Cumulative effect of change in accounting for start-up
       costs................................................           --         7,226            --
    (Gains) losses on dispositions of facilities and other
       assets, net..........................................        4,004       (33,853)      (19,901)
    Deferred taxes..........................................      (83,079)      (28,105)       20,247
    Insurance related accounts..............................       33,500        39,587       (25,432)
    Changes in operating assets and liabilities, net of
       acquisitions and dispositions:
       Accounts receivable -- patient.......................          901      (132,199)      (46,639)
       Operating supplies...................................         (800)       (1,239)       (3,911)
       Prepaid expenses and other receivables...............        1,121           240       (18,749)
       Accounts payable and other accrued expenses..........      (16,536)       23,080         3,377
       Income taxes payable.................................       25,175       (27,729)       (7,305)
       Other, net...........................................         (921)       (4,530)       (4,640)
                                                              -----------   -----------   -----------
         Total adjustments..................................      323,788        37,810        85,611
                                                              -----------   -----------   -----------
         Net cash provided by operating activities..........      189,141         6,789       144,204
Cash flows from investing activities:
  Capital expenditures......................................      (95,414)     (150,451)     (133,087)
  Payments for acquisitions, net of cash acquired...........       (6,985)     (162,969)      (61,567)
  Proceeds from dispositions of facilities and other
    assets..................................................       41,941        82,119       421,412
  Collections on notes receivable and REMIC investment......       22,185         6,089        32,273
  Other, net................................................      (33,264)       (5,374)      (28,178)
                                                              -----------   -----------   -----------
         Net cash provided by (used for) investing
           activities.......................................      (71,537)     (230,586)      230,853
Cash flows from financing activities:
  Revolver borrowings.......................................    1,132,000     1,328,000     1,604,000
  Repayments of Revolver borrowings.........................   (1,284,000)   (1,077,000)   (1,745,000)
  Proceeds from issuance of long-term debt..................      125,820         9,495        31,137
  Repayments of long-term debt..............................      (80,605)      (70,878)     (166,369)
  Purchase of common stock for treasury.....................           --       (56,793)      (65,126)
  Proceeds from exercise of stock options...................          129         3,092         5,401
  Deferred financing costs..................................       (3,830)         (730)       (1,251)
  Proceeds from designated funds, net.......................          256           659        (2,380)
                                                              -----------   -----------   -----------
         Net cash provided by (used for) financing
           activities.......................................     (110,230)      135,845      (339,588)
                                                              -----------   -----------   -----------
Net increase (decrease) in cash and cash equivalents........        7,374       (87,952)       35,469
Cash and cash equivalents at beginning of year..............       17,278       105,230        69,761
                                                              -----------   -----------   -----------
Cash and cash equivalents at end of year....................  $    24,652   $    17,278   $   105,230
                                                              ===========   ===========   ===========
Supplemental schedule of cash flow information:
  Cash paid (received) during the year for:
    Interest, net of amounts capitalized....................  $    68,314   $    65,927   $    81,411
    Income tax payments (refunds), net......................      (21,175)       26,030        36,971
</TABLE>

                            See accompanying notes.

                                       37
<PAGE>   39

                           BEVERLY ENTERPRISES, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

  Basis of Presentation

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

     The Company provides healthcare services in 34 states and the District of
Columbia. Its operations include nursing facilities, assisted living centers,
home care centers, outpatient therapy clinics and rehabilitation therapy
services. In addition, prior to June 30, 1998, the Company operated acute
long-term transitional hospitals and, prior to the Merger, institutional and
mail service pharmacies. The consolidated financial statements of the Company
include the accounts of the Company and all of its wholly-owned subsidiaries.
All significant intercompany accounts and transactions have been eliminated.

  Use of Estimates

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

  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 cost less accumulated depreciation or,
where appropriate, the present value of the related capital lease obligations
less accumulated amortization. Depreciation and amortization are computed by the
straight-line method over the estimated useful lives of the assets.

  Intangible Assets

     Goodwill (stated at cost less accumulated amortization of $31,196,000 in
1999 and $25,547,000 in 1998) is being amortized over periods not to exceed 40
years using the straight-line method. Operating and leasehold rights and
licenses, which are included in the consolidated balance sheet caption "Other,
net," (stated at cost less accumulated amortization of $18,891,000 in 1999 and
$18,307,000 in 1998) are being amortized over the lives of the related assets
(principally 40 years) and leases (principally 10 to 15 years), using the
straight-line method.

     On an ongoing basis, the Company reviews the carrying value of its
intangible assets in light of any events or circumstances that indicate they may
be impaired or that the amortization period may need to be adjusted. If such
circumstances suggest the intangible value cannot be recovered, calculated based
on undiscounted cash flows over the remaining amortization period, the carrying
value of the intangible will be reduced by such shortfall. As of December 31,
1999, the Company does not believe there is any indication that the carrying
value or the amortization period of its intangibles needs to be adjusted.

  Impairment of Long-Lived Assets

     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") requires impairment losses to be recognized for long-lived
assets used in operations when indicators of impairment are present and the

                                       38
<PAGE>   40
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
undiscounted cash flows are not sufficient to recover the assets' carrying
amounts. The impairment loss is measured by comparing the fair value of the
asset to its carrying amount. In accordance with SFAS No. 121, the Company
assesses the need for an impairment write-down when such indicators of
impairment are present. See Notes 2 and 3.

  Insurance

     General liability and professional liability costs for the long-term care
industry, especially in the state of Florida, have become increasingly expensive
and unpredictable. The Company and most of its competitors have experienced
increases in both the number of claims and the size of the typical claim. This
phenomenon is most evident in the state of Florida, where well-intended patient
rights' statutes tend to be exploited by plaintiffs' attorneys, since the
statutes allow for actual damages, punitive damages and plaintiff attorney fees
to be included in any proven violation. The Company's provision for insurance
and related items decreased approximately $65,900,000 for the year ended
December 31, 1999, as compared to the same period in 1998, primarily due to the
LPT (as discussed below), which significantly increased insurance costs during
the fourth quarter of 1998. Despite such decrease year over year, the Company,
as well as other nursing home providers with significant operations in Florida,
are experiencing substantial increases in patient care and other claims,
evidencing the negative trend surrounding patient care liabilities.

     On December 31, 1998, Beverly Indemnity, Ltd., a wholly-owned subsidiary of
the Company, completed a risk transfer of substantially all of its pre-May 1998
auto liability, general liability and workers' compensation claims liability to
a third party insurer effected through a loss portfolio transfer ("LPT") valued
as of December 31, 1998. In exchange for a premium of approximately $116,000,000
(paid primarily from restricted cash and investments), the Company acquired
reinsurance of approximately $180,000,000 to insure such auto liability, general
liability and workers' compensation losses. In addition, in exchange for a
premium of approximately $4,000,000, the Company acquired excess coverage of
approximately $20,000,000 for general liability losses. As of December 31, 1999,
based upon estimates and analyses by its outside actuaries, the Company expects
the ultimate losses on such transferred general liability losses to reach the
excess layer and to also exceed the total aggregate limits. The liabilities for
the excess co-insurance are approximately $2,000,000, and the liabilities for
those losses exceeding the total aggregate limit are approximately $2,000,000 on
a discounted basis. The Company will be required to cover such excess and
increased its insurance reserves during 1999 to take such expected losses into
consideration. The Company's provision for insurance and related items increased
approximately $82,200,000 during the fourth quarter of 1998 primarily as a
result of this transaction.

     Prior to the LPT, and for periods not covered by the LPT, the Company
insures the majority of its auto liability, general liability and workers'
compensation risks through insurance policies with third parties, some of which
are subject to reinsurance agreements between the insurer and Beverly Indemnity,
Ltd. The liabilities for estimated incurred losses not covered by third party
insurance are discounted at 10% to their present value based on expected loss
payment patterns determined by independent actuaries. Had the discount rate been
reduced by one-half of a percentage point, the Company would have incurred a
pre-tax charge of

                                       39
<PAGE>   41
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)

approximately $700,000 for the year ended December 31, 1999. The discounted
insurance liabilities are included in the consolidated balance sheet captions as
follows (in thousands):

<TABLE>
<CAPTION>
                                                               1999      1998
                                                              -------   -------
<S>                                                           <C>       <C>
Accrued wages and related liabilities.......................  $ 1,310   $    --
Other accrued liabilities...................................   10,000        --
Other liabilities and deferred items........................   75,224    18,151
                                                              -------   -------
                                                              $86,534   $18,151
                                                              =======   =======
</TABLE>

     On an undiscounted basis, the total insurance liabilities as of December
31, 1999 and 1998 were $99,400,000 and $22,800,000, respectively. As of December
31, 1999, the Company had deposited approximately $600,000 in funds (the
"Beverly Indemnity funds") that are restricted for the payment of insured
claims. In addition, the Company anticipates that approximately $8,600,000 of
its existing cash at December 31, 1999, while not legally restricted, will be
utilized primarily to fund certain workers' compensation and general liability
claims and expenses, and the Company does not expect to use such cash for other
purposes.

     The Company purchased traditional indemnity insurance coverage for its
1999, 1998 and 1997 workers' compensation and auto liabilities. During 1997, the
Company transferred a portion of its liabilities for workers' compensation and
general liability related to certain of its sold nursing facilities in the state
of Texas to a third-party indemnity insurance company. As of December 31, 1999,
based upon estimates and analyses by its outside actuaries, the Company expects
the ultimate losses on such transferred liabilities to exceed the aggregate
insurance limit available by approximately $4,000,000. The Company will be
required to cover such excess and increased its insurance reserves during 1999
to take such expected losses into consideration.

  Stock Based Awards

     Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation," ("SFAS No. 123") encourages, but does not require,
companies to recognize compensation expense for stock-based awards based on
their fair value on the date of grant. The Company has elected to continue to
account for its stock-based awards in accordance with Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees," and,
accordingly, recognizes no compensation expense for its stock option grants
which are issued at market value on the date of grant. See Note 8 for the pro
forma effects on the Company's reported net income (loss) and diluted earnings
per share assuming the election had been made to recognize compensation expense
on stock-based awards in accordance with SFAS No. 123.

  Revenues

     The Company's revenues are derived primarily from providing long-term
healthcare services. Approximately 72%, 74% and 74% of the Company's net
operating revenues for 1999, 1998 and 1997, respectively, were derived from
funds under federal and state medical assistance programs, and approximately 42%
and 62% of the Company's net patient accounts receivable at December 31, 1999
and 1998, respectively, are due from such programs. The decrease in net patient
accounts receivable derived from funds under federal and state medical
assistance programs for the year ended December 31, 1999, as compared to 1998,
was primarily due to the deconsolidation of Beverly Funding Corporation (see
Note 6). The Company accrues for revenues when services are provided at standard
charges adjusted to amounts estimated to be received under governmental programs
and other third-party contractual arrangements. These revenues and receivables
are reported at their estimated net realizable amounts and are subject to audit
and retroactive adjustment.

                                       40
<PAGE>   42
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)

Provisions for estimated third-party payor settlements are provided in the
period the related services are rendered and are adjusted in the period of
settlement. Changes in estimates related to third party receivables resulted in
a reduction of approximately $2,000,000 in net operating revenues for the year
ended December 31, 1999 and an increase of approximately $10,900,000 and
$8,900,000 in net operating revenues for the years ended December 31, 1998 and
1997, respectively.

     Laws and regulations governing the Medicare and Medicaid programs are
complex and subject to interpretation. The Company believes that it is in
compliance with all applicable laws and regulations; however, as disclosed in
Note 7, the Company has been the subject of an investigation involving
allegations of potential wrongdoing, which was settled subsequent to December
31, 1999. Compliance with such laws and regulations is subject to government
review and interpretation, as well as significant regulatory action including
fines, penalties, and exclusion from the Medicare and Medicaid programs.

  Concentration of Credit Risk

     The Company has significant accounts receivable, notes receivable and other
assets whose collectibility or realizability is dependent upon the performance
of certain governmental programs, primarily Medicare and Medicaid. These
receivables and other assets represent the only concentration of credit risk for
the Company. The Company does not believe there are significant credit risks
associated with these governmental programs. The Company believes that an
adequate provision has been made for the possibility of these receivables and
other assets proving uncollectible and continually monitors and adjusts these
allowances as necessary.

  Income Taxes

     The Company follows the liability method in accounting for income taxes.
The liability method provides that deferred tax assets and liabilities are
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.

                                       41
<PAGE>   43
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)

  Earnings per Share

     The following table sets forth the computation of basic and diluted income
(loss) per share for the years ended December 31 (in thousands):

<TABLE>
<CAPTION>
                                                        1999        1998       1997
                                                      ---------   --------   --------
<S>                                                   <C>         <C>        <C>
NUMERATOR:
  Numerator for basic and diluted income (loss) per
     share from continuing operations...............  $(134,647)  $(24,946)  $ 58,593
                                                      =========   ========   ========
DENOMINATOR:
  Denominator for basic income (loss) per
     share -- weighted average shares...............    102,491    103,762    102,060
  Effect of dilutive securities:
     Employee stock options.........................         --         --      1,236
     Performance shares.............................         --         --        126
                                                      ---------   --------   --------
  Dilutive potential common shares..................         --         --      1,362
                                                      ---------   --------   --------
  Denominator for diluted income (loss) per share --
     adjusted weighted average shares and assumed
     conversions....................................    102,491    103,762    103,422
                                                      =========   ========   ========
  Basic and diluted income (loss) per share.........  $   (1.31)  $  (0.24)  $   0.57
                                                      =========   ========   ========
</TABLE>

  Comprehensive Income (Loss)

     Comprehensive income (loss) includes net income (loss), as well as charges
and credits directly to stockholders' equity which are excluded from net income
(loss). Accumulated other comprehensive income, net of income taxes, consists of
unrealized gains on available-for-sale securities of approximately $1,061,000
and $760,000 at December 31, 1999 and 1998, respectively.

  New Accounting Standards

     Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS No. 133"), establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities.
It requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. SFAS No. 133 is effective for the Company during the first
quarter of 2001. The Company has not completed its review of SFAS No. 133 but
does not expect there to be a material effect on its consolidated financial
position or results of operations.

     Statement of Position 98-5, "Reporting on the Costs of Start-Up Activities"
("SOP 98-5"), provides guidance on the financial reporting of start-up and
organization costs. SOP 98-5 requires costs of start-up activities and
organization costs to be expensed as incurred. Prior to 1998, the Company
capitalized start-up costs in connection with the opening of new facilities and
businesses. The Company adopted the provisions of SOP 98-5 in its financial
statements for the year ended December 31, 1998. The effect of adopting SOP 98-5
was to decrease the Company's pre-tax loss from continuing operations in 1998 by
approximately $1,000,000 and to record a charge for the cumulative effect of an
accounting change, as of January 1, 1998, of $4,415,000, net of income taxes, or
$0.04 per share, to expense costs that had previously been capitalized.

                                       42
<PAGE>   44
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)

     Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1"), provides guidance on the
capitalization and amortization of costs incurred to develop or obtain computer
software for internal use. The Company's adoption of SOP 98-1 during the first
quarter of 1999 did not have a material effect on its consolidated financial
position or results of operations.

  Other

     Certain prior year amounts have been reclassified to conform with the 1999
presentation.

2. SPECIAL CHARGES RELATED TO SETTLEMENTS OF FEDERAL GOVERNMENT INVESTIGATIONS

     In late July 1999, the Company reached a tentative understanding with the
U.S. Department of Justice to settle the separate civil and criminal aspects of
all investigations by the federal government and its fiscal intermediary into
the allocation of nursing labor hours to the Medicare program from 1990 to 1998
(the "Allocation Investigations"). On February 3, 2000, the Company announced
that it had signed agreements with the Office of Inspector General of the
Department of Health and Human Services and the U.S. Department of Justice
finalizing the tentative settlements. (See Note 7). As a result, during the year
ended December 31, 1999, the Company recorded a special pre-tax charge of
approximately $202,400,000 ($127,500,000, net of income taxes, or $1.24 per
share diluted) which includes: (i) provisions totaling approximately
$128,800,000 representing the net present value of the separate civil and
criminal settlements; (ii) impairment losses of approximately $17,000,000 on 10
nursing facilities that pled guilty of submitting erroneous cost reports to the
Medicare program in conjunction with the criminal settlement; (iii)
approximately $39,000,000 for certain prior year cost report related items
affected by the settlements; (iv) approximately $3,100,000 of debt issuance and
refinancing costs related to various bank debt modifications as a result of the
settlements; and (v) approximately $14,500,000 for other investigation and
settlement related costs.

     If, prior to January 1, 1999, the settlement obligations and related items
had been finalized and recorded, the Company's bank debt had been refinanced and
the Company had closed or sold the facilities that are impacted by the criminal
settlement, the Company's results of operations, on an unaudited pro forma
basis, would have been reduced by approximately $13,200,000, or $.13 per share
diluted, for the year ended December 31, 1999.

3. ASSET IMPAIRMENTS, WORKFORCE REDUCTIONS AND OTHER UNUSUAL ITEMS

     During the fourth quarter of 1999, the Company recorded a pre-tax charge of
approximately $23,800,000 related to restructuring of agreements on certain
leased facilities; severance and other workforce reduction expenses; asset
impairments; and other unusual items. The Company negotiated the terminations of
lease agreements on 19 nursing facilities (2,047 beds), which resulted in a
charge of approximately $17,300,000. In addition, the Company accrued
approximately $5,900,000 primarily related to severance agreements associated
with three executives of the Company. Substantially all of the $5,900,000 was
paid during the first quarter of 2000.

     In preparing for the January 1, 1999 implementation of the new Medicare
prospective payment system ("PPS"), as well as responding to other legislative
and regulatory changes, the Company reorganized its inpatient rehabilitative
operations, analyzed its businesses for impairment issues and implemented new
care-delivery and tracking software. These initiatives, among others, resulted
in a fourth quarter 1998 pre-tax charge of approximately $69,400,000, including
$3,800,000 for workforce reductions, $58,700,000 for asset impairments and
$6,900,000 for various other items.
                                       43
<PAGE>   45
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

3. ASSET IMPAIRMENTS, WORKFORCE REDUCTIONS AND OTHER UNUSUAL
ITEMS -- (CONTINUED)
     During the fourth quarter of 1998, the Company reorganized all employed
therapy associates into a newly formed subsidiary, Beverly Rehabilitation, Inc.
("Bev Rehab"), which is part of the Company's Beverly Care Alliance segment, in
order to create a more consolidated, strategic approach to managing the
Company's inpatient rehabilitation business under PPS. The Company accrued
approximately $2,500,000 related to the termination of 835 therapy associates in
conjunction with this reorganization. During 1999, 770 therapy associates were
paid approximately $2,300,000 and left the Company. The Company reversed the
remaining $200,000 during 1999 for changes in its initial accounting estimates.

     In addition, the Company's home care and outpatient therapy units underwent
the consolidation and relocation of certain services, including billing and
collections, which resulted in a workforce reduction charge of approximately
$1,300,000 associated with the termination of 236 associates. Of these 236
associates, 74 associates were paid $233,000 and left the Company by December
31, 1998. During 1999, 85 home care and outpatient therapy associates were paid
approximately $600,000 and left the Company. The Company reversed the remaining
$500,000 during 1999 for changes in its initial accounting estimates.

     The significant regulatory changes under PPS and other provisions of the
1997 Act were an indicator to management that the carrying values of certain of
its nursing facilities may not be fully recoverable. In addition, there were
certain assets that had 1998 operating losses, and anticipated future operating
losses, which led management to believe that these assets were impaired.
Accordingly, management estimated the undiscounted future cash flows to be
generated by each facility and reduced the carrying value to its estimate of
fair value, resulting in an impairment charge of approximately $9,000,000 in
1998. Management calculated the fair values of the impaired facilities by using
the present value of estimated undiscounted future cash flows, or its best
estimate of what that facility, or similar facilities in that state, would sell
for in the open market. Management believes it has the knowledge to make such
estimates of open market sales prices based on the volume of facilities the
Company has purchased and sold in previous years. There were no material
impairment adjustments recorded during the year ended December 31, 1997.

     Also during the fourth quarter of 1998, management identified nine nursing
facilities with an aggregate carrying value of approximately $14,000,000 which
needed to be replaced in order to increase operating efficiencies, attract
additional census or upgrade the nursing home environment. Management committed
to a plan to construct new facilities to replace these buildings and reduced the
carrying values of these facilities to their estimated salvage values. These
assets are included in the total assets of Beverly Healthcare (See Note 11). In
addition, management committed to a plan to dispose of 24 home care centers and
nine outpatient therapy clinics which had 1998 and expected future period
operating losses. These businesses had an aggregate carrying value of
approximately $16,500,000 and were written down to their fair value less costs
to sell. These assets generated pre-tax losses for the Company of approximately
$5,100,000 during the year ended December 31, 1998. Substantially all of these
assets were purchased during 1998. The Company disposed of a majority of these
assets during 1999. These assets were included in the total assets of Beverly
Care Alliance (See Note 11). The Company incurred a fourth quarter 1998 charge
of approximately $30,300,000 related to these replacements, closings and planned
disposals. These assets were included in the consolidated balance sheet captions
"Property and equipment, net" and "Goodwill, net" at December 31, 1998.

     In addition to the workforce reduction and impairment charges, the Company
recorded a fourth quarter 1998 impairment charge for other long-lived assets of
approximately $19,400,000 primarily related to the write-off of software and
software development costs. In conjunction with the implementation of business
process changes, and the need for enhanced data-gathering and reporting required
to operate effectively under

                                       44
<PAGE>   46
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

3. ASSET IMPAIRMENTS, WORKFORCE REDUCTIONS AND OTHER UNUSUAL
ITEMS -- (CONTINUED)

PPS, the Company installed new clinical software in each of its nursing
facilities during late-1998, which made obsolete the previously employed
software. In addition, certain of the Company's other ongoing software
development projects were abandoned or written down due to obsolescence,
feasibility or cost recovery issues.

4. ACQUISITIONS AND DISPOSITIONS

     During the year ended December 31, 1999, the Company purchased three
outpatient therapy clinics, two home care centers, two nursing facilities (284
beds), one previously leased nursing facility (190 beds) and certain other
assets for cash of approximately $6,000,000, acquired debt of approximately
$15,100,000 and closing and other costs of approximately $1,700,000. The
acquisitions of such facilities and other assets were accounted for as purchases
and resulted in the Company recording goodwill of approximately $8,400,000. Also
during such period, the Company sold or terminated the leases on 12 nursing
facilities (1,291 beds), one assisted living center (10 units), 17 home care
centers and certain other assets for cash proceeds of approximately $7,100,000
and notes receivable of approximately $1,000,000. The Company did not operate
two of these nursing facilities (166 beds) which were leased to other nursing
home operators in prior year transactions. The Company recognized net pre-tax
losses,which were included in net operating revenues during the year ended
December 31, 1999, of approximately $4,000,000 as a result of these
dispositions. The operations of these facilities and certain other assets were
immaterial to the Company's consolidated financial position and results of
operations.

     During the year ended December 31, 1998, the Company purchased 111
outpatient therapy clinics, 50 home care centers, eight nursing facilities (823
beds), one assisted living center (48 units), two previously leased nursing
facilities (228 beds) and certain other assets for cash of approximately
$163,200,000, acquired debt of approximately $8,000,000 and closing and other
costs of approximately $7,000,000. The acquisitions of such facilities and other
assets were accounted for as purchases and resulted in the Company recording
goodwill of approximately $143,000,000. Also, during such period, the Company
sold or terminated the leases on 26 nursing facilities (3,203 beds) and certain
other assets for cash proceeds of approximately $52,500,000 (approximately
$35,600,000 of which was included in accounts receivable -- nonpatient at
December 31, 1998), notes receivable of approximately $21,300,000, assumed debt
of approximately $4,600,000 and closing and other costs of approximately
$2,300,000. The Company did not operate seven of these nursing facilities (893
beds) which were leased to other nursing home operators in prior year
transactions. The Company recognized net pre-tax gains, which were included in
net operating revenues, during the year ended December 31, 1998 of approximately
$17,900,000 as a result of these dispositions. The operations of these
facilities and certain other assets were immaterial to the Company's
consolidated financial position and results of operations.

     In June 1998, the Company completed the sale of American Transitional
Hospitals, Inc. ("ATH"), which operated as Beverly Specialty Hospitals, to
Select Medical Corporation for cash of approximately $65,300,000 and assumed
debt of approximately $2,400,000. Prior to the sale, ATH operated 15
transitional hospitals (743 beds) in eight states which addressed the needs of
patients requiring intense therapy regimens, but not necessarily the breadth of
services provided within traditional acute care hospitals. The Company
recognized a pre-tax gain, which was included in net operating revenues, of
approximately $16,000,000 during the year ended December 31, 1998 as a result of
this disposition. During the year ended December 31, 1999, the Company recorded
a pre-tax charge to adjust the sales price of this disposition by approximately
$4,500,000, which was included in net operating revenues. The operations of ATH
were immaterial to the Company's consolidated financial position and results of
operations.

                                       45
<PAGE>   47
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

4. ACQUISITIONS AND DISPOSITIONS -- (CONTINUED)

     During the year ended December 31, 1997, the Company purchased six
previously leased nursing facilities (758 beds) and certain other assets
including, among other things, 14 institutional pharmacies and 40 outpatient
therapy clinics, for cash of approximately $60,800,000 and closing and other
costs of approximately $9,500,000. The acquisitions of such facilities and other
assets were accounted for as purchases. Also during such period, the Company
sold or terminated the leases on 68 nursing facilities (8,314 beds) and certain
other assets for cash proceeds of approximately $146,800,000. The Company
recognized net pre-tax gains, which were included in net operating revenues,
during the year ended December 31, 1997 of approximately $19,900,000 as a result
of these dispositions. The operations of these facilities and certain other
assets were immaterial to the Company's consolidated financial position and
results of operations.

     On December 3, 1997, the Company completed a tax-free reorganization (the
"Reorganization") in order to facilitate the merger of Pharmacy Corporation of
America ("PCA") with Capstone Pharmacy Services, Inc. (the "Merger"). As a
result of the Merger, the Company received approximately $281,000,000 of cash as
partial repayment for PCA's intercompany debt, with a charge to the Company's
retained earnings of approximately $45,100,000 for the remaining intercompany
balance which was not repaid. Pursuant to the Reorganization, each of the
Company's stockholders of record at the close of business on December 3, 1997
received .4551 shares of PharMerica, Inc.'s common stock for each share of the
Company's Common Stock held. The conversion ratio was based on a total of
109,873,230 outstanding shares of the Company's Common Stock at the close of
business on December 3, 1997 divided into the 50,000,000 shares issued by
PharMerica, Inc.

     In connection with the Reorganization, the Company incurred $44,000,000 of
transaction costs related to the restructuring, repayment or renegotiating of
substantially all of the Company's outstanding debt instruments, as well as the
renegotiating or making of certain payments, primarily in the form of
accelerated vesting of stock-based awards, under various employment agreements
with officers of the Company. Such amounts were funded with a portion of the
$281,000,000 proceeds received as partial repayment of PCA's intercompany debt,
as discussed above. Included in the $44,000,000 of transaction costs were
approximately $18,000,000 of non-cash expenses related to various long-term
incentive agreements.

     At the date of the Merger, PCA had total assets of approximately
$489,200,000, total liabilities of approximately $368,000,000 and total
stockholder's equity of approximately $121,200,000. Total net operating revenues
for PCA for the year ended December 31, 1997 were approximately $564,200,000 and
represent the operations of PCA prior to the Merger.

                                       46
<PAGE>   48
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

5. PROPERTY AND EQUIPMENT

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

<TABLE>
<CAPTION>
                                     TOTAL                     OWNED                 LEASED
                            -----------------------   -----------------------   -----------------
                               1999         1998         1999         1998       1999      1998
                            ----------   ----------   ----------   ----------   -------   -------
<S>                         <C>          <C>          <C>          <C>          <C>       <C>
Land, buildings and
  improvements............  $1,446,004   $1,433,170   $1,412,715   $1,393,839   $33,289   $39,331
Furniture and equipment...     374,855      350,410      369,388      344,484     5,467     5,926
Construction in
  progress................      32,543       31,057       32,543       31,057        --        --
                            ----------   ----------   ----------   ----------   -------   -------
                             1,853,402    1,814,637    1,814,646    1,769,380    38,756    45,257
Less accumulated
  depreciation and
  amortization............     743,337      694,322      716,228      662,281    27,109    32,041
                            ----------   ----------   ----------   ----------   -------   -------
                            $1,110,065   $1,120,315   $1,098,418   $1,107,099   $11,647   $13,216
                            ==========   ==========   ==========   ==========   =======   =======
</TABLE>

     The Company provides 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 or term of lease, if less; furniture and
equipment -- 5 to 15 years. Capitalized lease 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, 1999, 1998 and 1997 was $83,328,000, $81,722,000 and
$87,286,000, respectively.

                                       47
<PAGE>   49
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

6. LONG-TERM DEBT

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

<TABLE>
<CAPTION>
                                                                1999       1998
                                                              --------   --------
<S>                                                           <C>        <C>
Credit Agreement due December 31, 2001......................  $114,000   $266,000
9% Senior Notes due February 15, 2006, unsecured............   180,000    180,000
Notes and mortgages, less imputed interest: 1999 -- $67,
  1998 -- $92; due in installments through the year 2031, at
  effective interest rates of 6.00% to 12.50%, a portion of
  which is secured by property, equipment and other assets
  with a net book value of $240,154 at December 31, 1999....   199,831    167,268
Industrial development revenue bonds, less imputed interest:
  1999 -- $9, 1998 -- $13; due in installments through the
  year 2013, at effective interest rates of 4.81% to 10.72%,
  a portion of which is secured by property and other assets
  with a net book value of $186,130 at December 31, 1999....   145,896    169,306
A.I. Credit Corp. Note due January 2002, secured by a surety
  bond......................................................    65,000         --
8 3/4% First Mortgage Bonds due July 1, 2008, secured by
  first mortgages on eight nursing facilities with an
  aggregate net book value of $14,982 at December 31,
  1999......................................................    12,841     14,219
8 5/8% First Mortgage Bonds due October 1, 2008, secured by
  first mortgages on 10 nursing facilities with an aggregate
  net book value of $26,004 at December 31, 1999............    20,640     21,540
Series 1995 Bonds due June 2005, at an interest rate of
  6.88% with respect to $7,000 and 7.24% with respect to
  $18,000, secured by a letter of credit....................    25,000     25,000
Medium Term Notes due June 15, 2000 (deconsolidated June
  1999 as discussed below)..................................        --     40,000
Term Loan under the GE Capital Facility.....................       735      5,471
                                                              --------   --------
                                                               763,943    888,804
Present value of capital lease obligations, less imputed
  interest: 1999 -- $384, 1998 -- $419, at effective
  interest rates of 6.00% to 13.00%.........................    16,273     17,239
                                                              --------   --------
                                                               780,216    906,043
Less amounts due within one year............................    34,052     27,773
                                                              --------   --------
                                                              $746,164   $878,270
                                                              ========   ========
</TABLE>

     In January 1999, the Company entered into a $65,000,000 promissory note
with A.I. Credit Corp. at an annual interest rate of 6.50%. The promissory note
is secured by a surety bond. In October 1999, the note was renegotiated to allow
the Company to make an interest-only payment in January 2000 at an annual
interest rate of 6.50%, with the principal balance payable in two equal
installments in January 2001 and in January 2002 at an annual interest rate of
7.00%. The proceeds from this promissory note were used to pay down Revolver
borrowings.

     During the year ended December 31, 1999, the Company entered into
promissory notes totaling approximately $10,820,000 in conjunction with the
construction of certain nursing facilities and approximately $15,100,000 in
conjunction with the acquisitions of certain facilities. Such debt instruments
bear interest at rates ranging from 7.00% to 8.00%, 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 facilities.

     During June 1999, the Company refinanced its Medium Term Notes and
increased its borrowings from $40,000,000 to $70,000,000. The Medium Term Notes
are collateralized by patient accounts receivable, which

                                       48
<PAGE>   50
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

6. LONG-TERM DEBT -- (CONTINUED)

are sold by Beverly Health and Rehabilitation Services, Inc. ("BHRS") (currently
operating as Beverly Healthcare), a wholly-owned subsidiary of the Company, to
Beverly Funding Corporation ("BFC"), a wholly-owned bankruptcy remote subsidiary
of the Company. As a result of this refinancing, the Company was required by
Statement of Financial Accounting Standards No. 125, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities," ("SFAS
No. 125") to deconsolidate BFC. SFAS No. 125 provides accounting and reporting
standards for sales, securitizations, and servicing of receivables and other
financial assets, secured borrowing and collateral transactions, and the
extinguishments of liabilities. It requires companies to recognize the financial
and servicing assets it controls and the liabilities it has incurred and to
deconsolidate financial assets when control has been surrendered in accordance
with the criteria provided in SFAS No. 125. Deconsolidation of BFC, which had
total assets of approximately $113,400,000, which cannot be used to satisfy
claims of the Company or any of its subsidiaries, total liabilities of
approximately $75,800,000 and total stockholder's equity of approximately
$37,600,000 at December 31, 1999, caused a reduction in the Company's accounts
receivable-patient and long-term debt. In addition, the Company recorded its
ongoing investment in BFC as an increase in other, net assets. The Company's
Statement of Cash Flows reflects the change from June 30, 1999 to December 31,
1999 in receivables sold to BFC in the caption Accounts receivable -- patient
and the change from June 30, 1999 to December 31, 1999 in the Company's
investment in BFC in the caption Other, net -- investing.

     Effective September 30, 1999, the Company executed an amendment to its
$375,000,000 Credit Agreement (the "Credit Agreement"), as well as amendments
with certain of its other lenders covering debt of approximately $199,000,000
(collectively, the "Amendments"), which modified certain financial covenant
levels and increased the annual interest rates for such debt and added real and
personal property as collateral, including stock of certain of the Company's
subsidiaries. The Amendments were required since recording of the special
charges related to the Allocation Investigations, as discussed herein, would
have resulted in the Company's noncompliance with certain financial covenants
contained in those debt agreements. The Credit Agreement provides for a
Revolver/Letter of Credit Facility (the "Revolver/LOC Facility"). At December
31, 1999, the Company had approximately $114,000,000 of outstanding borrowings
and approximately $38,300,000 of outstanding letters of credit under the
Revolver/LOC Facility. Borrowings under the Credit Agreement bear interest at
adjusted LIBOR plus 2.25%, the Base Rate, as defined, plus 1.25% or the adjusted
CD rate, as defined, plus 2.375%, at the Company's option. Such interest rates
may be adjusted quarterly based on certain financial ratio calculations. The
Company pays certain commitment fees and commissions with respect to the
Revolver/LOC Facility and had approximately $222,700,000 of unused commitments
under such facility at December 31, 1999. The Credit Agreement is secured by
property, equipment and other assets with a net book value of approximately
$14,600,000 at December 31, 1999, is guaranteed by substantially all of the
Company's present and future subsidiaries (collectively, the "Subsidiary
Guarantors") and imposes on the Company certain financial tests and restrictive
covenants.

     The Company has $180,000,000 of 9% Senior Notes due February 15, 2006 (the
"Senior Notes") which were sold through a public offering (the "Senior Notes
offering"). The Senior Notes are unsecured obligations guaranteed by the
Subsidiary Guarantors and impose on the Company certain restrictive covenants.
Separate financial statements of the Subsidiary Guarantors are not considered to
be material to holders of the 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 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 assets separate from its investment in its subsidiaries.

                                       49
<PAGE>   51
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

6. LONG-TERM DEBT -- (CONTINUED)

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

<TABLE>
<CAPTION>
                          2000       2001      2002      2003      2004     THEREAFTER    TOTAL
                         -------   --------   -------   -------   -------   ----------   --------
<S>                      <C>       <C>        <C>       <C>       <C>       <C>          <C>
Future minimum lease
  payments.............  $ 2,929   $  2,742   $ 2,750   $ 2,106   $ 2,206    $ 16,807    $ 29,540
Less interest..........    1,487      1,363     1,228     1,098     1,009       7,082      13,267
                         -------   --------   -------   -------   -------    --------    --------
Net present value of
  future minimum lease
  payments.............    1,442      1,379     1,522     1,008     1,197       9,725      16,273
Notes, mortgages and
  bonds................   32,610    174,438    79,939    32,299    40,626     404,031     763,943
                         -------   --------   -------   -------   -------    --------    --------
                         $34,052   $175,817   $81,461   $33,307   $41,823    $413,756    $780,216
                         =======   ========   =======   =======   =======    ========    ========
</TABLE>

     Many of the capital and operating leases contain at least one renewal
option (which could extend the term of the leases by five to fifteen years),
purchase options, escalation clauses and provisions for payments by the Company
of real estate taxes, insurance and maintenance costs.

     The industrial development revenue bonds were originally issued prior to
1985 primarily for the construction or acquisition of nursing facilities. Bond
reserve funds are included in designated funds. These funds are invested
primarily in certificates of deposit and in United States government securities
and are carried at cost, which approximates market value. Net capitalized
interest relating to construction was not material in 1999, 1998, or 1997.

7. COMMITMENTS AND CONTINGENCIES

     The future minimum rental commitments required by all noncancelable
operating leases with initial or remaining terms in excess of one year as of
December 31, 1999, are as follows (in thousands):

<TABLE>
<CAPTION>
YEAR ENDING
DECEMBER 31,
------------
<S>                                                           <C>
2000........................................................    $ 87,065
2001........................................................      76,182
2002........................................................      63,855
2003........................................................      44,260
2004........................................................      29,755
Thereafter..................................................      61,160
                                                                --------
                                                                $362,277
                                                                ========
</TABLE>

     Total future minimum rental commitments are net of approximately $4,648,000
of minimum sublease rental income due in the future under noncancelable
subleases. Rent expense on operating leases, net of sublease rental income, for
the years ended December 31 was as follows: 1999 -- $115,598,000; 1998 --
$113,762,000; 1997 -- $114,694,000. Sublease rent income was approximately
$7,096,000, $6,772,000 and $5,638,000 for the years ended December 31, 1999,
1998 and 1997, respectively. Contingent rent expense, based primarily on
revenues, was approximately $18,000,000, $17,000,000 and $18,000,000 for the
years ended December 31, 1999, 1998 and 1997, respectively.

                                       50
<PAGE>   52
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

7. COMMITMENTS AND CONTINGENCIES -- (CONTINUED)

     The Company has a $125,000,000 financing arrangement available for the
construction of certain facilities. The Company will lease the facilities, under
operating leases with the creditor, upon completion of construction. The Company
will have the option to purchase these facilities at the end of the initial
lease terms. Total construction advances under the financing arrangement as of
December 31, 1999 were approximately $111,200,000.

     In 1992, the Company entered into an agreement to outsource its management
information systems functions for a period of seven years, with an option to
renew based on mutual agreement among the parties. Such agreement was
renegotiated during 1997 to allow the Company to bring the programming functions
under its direct control but continue to outsource the data processing functions
and to extend the term of the agreement. The future minimum commitments as of
December 31, 1999 required under such agreement are as follows:
2000 -- $3,944,000; 2001 -- $3,859,000; and 2002 -- $2,849,000. The Company
incurred approximately $6,515,000, $5,673,000 and $4,498,000 under such
agreement during the years ended December 31, 1999, 1998 and 1997, respectively.

     The Company is contingently liable for approximately $60,724,000 of
long-term debt maturing on various dates through 2019, as well as annual
interest and letter of credit fees of approximately $5,557,000. Such contingent
liabilities principally arose from the Company's sale of nursing facilities and
retirement living centers. The Company operates the facilities related to
approximately $27,574,000 of the principal amount for which it is contingently
liable, pursuant to long-term agreements accounted for as operating leases. In
addition, the Company is contingently liable for various operating leases that
were assumed by purchasers and are secured by the rights thereto, as well as
approximately $2,784,000 of loans to certain officers of the Company, which are
collateralized by the Company's Common Stock.

     On February 3, 2000, the Company entered into a series of agreements with
the U.S. Department of Justice and the Office of Inspector General (the "OIG")
of the Department of Health and Human Services which settled the federal
government investigations of the Company relating to the allocation to the
Medicare Program of certain nursing labor costs in its skilled nursing
facilities from 1990 to 1998 (the "Allocation Investigations"). These agreements
finalized the terms of the settlements, which were tentatively announced in July
1999.

     The agreements consist of: (i) a Plea Agreement; (ii) a Civil Settlement
Agreement; (iii) a Corporate Integrity Agreement; and (iv) an agreement
concerning the disposition of 10 nursing facilities. Under the Plea Agreement, a
subsidiary of the Company pled guilty to one count of mail fraud and 10 counts
of making false statements to Medicare relating to the submission of certain
Medicare cost reports for 10 separate nursing facilities. The subsidiary paid a
criminal fine of $5,000,000 and, under a separate agreement, is obligated to
dispose of the 10 nursing facilities. The subsidiary will continue to operate
and staff the nursing facilities until new operators are found.

     Under the separate Civil Settlement Agreement, the Company will reimburse
the federal government $170,000,000 as follows: (i) $25,000,000, which was paid
during the first quarter of 2000, and (ii) $145,000,000 to be withheld from the
Company's biweekly Medicare periodic interim payments in equal installments over
eight years. The Company anticipates cash flows from operations to decline
approximately $18,100,000 per year as a result of the reduction in Medicare
periodic interim payments. Such installments began during the first quarter of
2000. In addition, the Company agreed to resubmit certain Medicare filings to
reflect reduced labor costs.

     The Company also entered into a Corporate Integrity Agreement with the OIG
relating to the monitoring of compliance with requirements of federal healthcare
programs on an ongoing basis. Such agreement addresses the Company's obligations
to ensure that it is in compliance with the requirements for participation
                                       51
<PAGE>   53
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

7. COMMITMENTS AND CONTINGENCIES -- (CONTINUED)

in the federal healthcare programs, and includes the Company's functional and
training obligations, audit and review requirements, recordkeeping and reporting
requirements, as well as penalties for breach/ noncompliance of the agreement.

     On July 6, 1999, an amended complaint was filed by the plaintiffs in a
previously disclosed purported class action lawsuit pending against the Company
and certain of its officers in the United States District Court for the Eastern
District of Arkansas (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. Due to the preliminary state of the Class Action
and the fact the second amended complaint does not allege damages with any
specificity, the Company is unable at this time to assess the probable outcome
of the Class Action or the materiality of the risk of loss. However, the Company
believes that it acted lawfully with respect to plaintiff investors and will
vigorously defend the Class Action. However, there can be no assurances that the
Company will not experience an adverse effect on its consolidated financial
position, results of operations or cash flows as a result of these proceedings.

     In addition, since July 29, 1999, eight derivative lawsuits have been filed
in the state courts of Arkansas, California and Delaware (collectively, the
"Derivative Actions"). The Derivative Actions each name the Company's directors
as defendants, as well as the Company as a nominal defendant. Some actions also
name as defendants certain of the Company's officers. The Derivative Actions
each allege breach of fiduciary duties to the Company and its stockholders
arising primarily out of the Company's alleged exposure to loss due to the Class
Action and the Allocation Investigations. Due to the preliminary state of the
Derivative Actions and the fact the complaints do not allege damages with any
specificity, the Company is unable at this time to assess the probable outcome
of the Derivative Actions or the materiality of the risk of loss. However, the
Company believes that it acted lawfully with respect to the allegations of the
Derivative Actions and will vigorously defend the Derivative Actions. However,
there can be no assurances that the Company will not experience an adverse
effect on its consolidated financial position, results of operations or cash
flows as a result of these proceedings.

     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. The Company does not
believe that the ultimate resolution of such other matters will have a material
adverse effect on the Company's consolidated financial position or results of
operations.

8. STOCKHOLDERS' EQUITY

     The Company had 300,000,000 shares of authorized $.10 par value common
stock ("Common Stock") at December 31, 1999 and 1998. The Company is subject to
certain restrictions under its long-term debt agreements related to the payment
of cash dividends on its Common Stock. The Company had 25,000,000 shares of
authorized $1 par value preferred stock at December 31, 1999 and 1998, all of
which remain 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 June 1996, the Company announced that its Board of Directors had
authorized a stock repurchase program whereby the Company may repurchase, from
time to time on the open market, up to a total of 10,000,000 shares of its
outstanding Common Stock. In December 1997, the Company repurchased 4,000,000
shares of its Common Stock through an accelerated stock repurchase transaction
at a cost of approximately $56,100,000 (approximately $5,700,000 of which was
paid during 1998). During 1998, the Company

                                       52
<PAGE>   54
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

8. STOCKHOLDERS' EQUITY -- (CONTINUED)

repurchased 3,000,000 shares of its Common Stock, through a similar transaction,
and approximately 900,000 shares on the open market at a total cost of
approximately $51,100,000. The repurchases were financed primarily through
borrowings under the Company's Revolver/LOC Facility. On June 2, 1998, the
Company announced that its Board of Directors had authorized an increase in its
stock repurchase program. The Company may repurchase from time to time on the
open market, up to an additional 10,000,000 shares of its outstanding Common
Stock. From June 1996 through December 1998, the Company had repurchased
approximately 10,200,000 shares of its outstanding Common Stock under the stock
repurchase program. During the first quarter of 2000, the Company repurchased
approximately 1,000,000 additional shares of its outstanding Common Stock under
the stock repurchase program. The repurchases were financed primarily through
borrowings under the Company's Revolver/LOC Facility. If, prior to January 1,
1999, the Company had repurchased these additional shares, the Company's results
of operations, on an unaudited pro forma basis, would have been a net loss of
approximately $134,816,000, or $1.33 per share diluted, for the year ended
December 31, 1999. The Company is subject to certain restrictions under its
credit arrangements related to the repurchase of its outstanding Common Stock.

     During 1997, the New Beverly 1997 Long-Term Incentive Plan was approved
(the "1997 Long-Term Incentive Plan"). Such plan became effective December 3,
1997 and will remain 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 Company has
10,000,000 shares of Common Stock authorized for issuance, subject to certain
adjustments, under the 1997 Long-Term Incentive Plan in the form of nonqualified
stock options, incentive stock options, stock appreciation rights, restricted
stock, performance awards, bonus stock and other stock unit awards. Except for
options granted upon the assumption of, or in substitution for, options of
another company in which the Company participates in a corporate transaction or
the options affected by the Reorganization (as discussed below), nonqualified
and incentive stock options must be granted at a purchase price equal to the
market price on the date of grant. 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.

     During 1997, the New Beverly Non-Employee Directors Stock Option Plan was
approved (the "Non-Employee Directors Stock Option Plan"). Such plan became
effective December 3, 1997 and will remain in effect until December 31, 2007,
subject to early termination by the Board of Directors. The Company has 300,000
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 December 11, 1997 to
provide that each nonemployee director be granted an option to purchase 3,375
shares of the Company's Common Stock on June 1 of each year until the plan is
terminated, subject to the availability of shares. Such options are granted at a
purchase price equal to fair market value on the date of grant, become
exercisable one year after date of grant and expire 10 years after date of
grant.

                                       53
<PAGE>   55
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

8. STOCKHOLDERS' EQUITY -- (CONTINUED)

     The following table summarizes stock option, restricted stock and other
stock units data relative to the Company's long-term incentive plans for the
years ended December 31:

<TABLE>
<CAPTION>
                                              1999                     1998                     1997
                                      ---------------------   ----------------------   ----------------------
                                                  WEIGHTED-                WEIGHTED-                WEIGHTED-
                                                   AVERAGE                  AVERAGE                  AVERAGE
                                       NUMBER     EXERCISE      NUMBER     EXERCISE      NUMBER     EXERCISE
                                      OF SHARES     PRICE     OF SHARES      PRICE     OF SHARES      PRICE
                                      ---------   ---------   ----------   ---------   ----------   ---------
<S>                                   <C>         <C>         <C>          <C>         <C>          <C>
Options outstanding at beginning
  of year...........................  8,163,565     $9.20      6,561,903     $9.29      4,908,727    $10.55
Changes during the year:
  Granted...........................    121,627      6.51      3,341,994      8.81      2,944,522     10.87
  Exercised.........................    (40,450)     6.44       (428,069)     6.89     (1,047,423)     8.06
  Cancelled.........................   (937,283)     9.88     (1,312,263)     9.42       (243,923)    14.64
                                      ---------               ----------               ----------
Options outstanding at end of
  year..............................  7,307,459      9.08      8,163,565      9.20      6,561,903      9.29
                                      =========               ==========               ==========
Options exercisable at end of
  year..............................  4,107,067      8.56      3,761,259      8.50      5,073,903      8.23
                                      =========               ==========               ==========
Options available for grant at end
  of year...........................  2,413,967                1,701,426                3,738,097
                                      =========               ==========               ==========
Restricted stock outstanding at
  beginning
  of year...........................         --                       --                  145,200
Changes during the year:
  Granted...........................     84,491                       --                   10,500
  Vested............................    (16,972)                      --                 (134,711)
  Forfeited.........................         --                       --                  (20,989)
                                      ---------               ----------               ----------
Restricted stock outstanding at end
  of year...........................     67,519                       --                       --
                                      =========               ==========               ==========
Phantom units outstanding at
  beginning of year.................         --                       --                   76,769
Changes during the year:
  Granted...........................         --                       --                       --
  Vested............................         --                       --                  (76,316)
  Cancelled.........................         --                       --                     (453)
                                      ---------               ----------               ----------
Phantom units outstanding at end of
  year..............................         --                       --                       --
                                      =========               ==========               ==========
Performance shares outstanding at
  beginning of year.................         --                       --                  992,000
Changes during the year:
  Granted...........................         --                       --                   16,000
  Vested............................         --                       --                 (759,389)
  Cancelled.........................         --                       --                 (248,611)
                                      ---------               ----------               ----------
Performance shares outstanding at
  end of year.......................         --                       --                       --
                                      =========               ==========               ==========
</TABLE>

     On February 16, 2000, the Company granted 2,095,900 stock options to
certain of its officers and employees.

                                       54
<PAGE>   56
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

8. STOCKHOLDERS' EQUITY -- (CONTINUED)

     Exercise prices for options outstanding as of December 31, 1999 ranged from
$3.24 to $16.06. The weighted-average remaining contractual life of these
options is seven years. The following table provides certain information with
respect to stock options outstanding at December 31, 1999:

<TABLE>
<CAPTION>
                                                 OPTIONS OUTSTANDING
                                   -----------------------------------------------
                                                                     WEIGHTED-            OPTIONS EXERCISABLE
                                                   WEIGHTED-          AVERAGE        ------------------------------
                                     OPTIONS        AVERAGE          REMAINING         OPTIONS     WEIGHTED-AVERAGE
RANGE OF EXERCISE PRICES           OUTSTANDING   EXERCISE PRICE   CONTRACTUAL LIFE   EXERCISABLE    EXERCISE PRICE
------------------------           -----------   --------------   ----------------   -----------   ----------------
<S>                                <C>           <C>              <C>                <C>           <C>
$ 3.24 - $ 6.75..................   3,026,641        $ 5.68             8.73          1,396,768         $ 4.76
$ 7.06 - $10.00..................   1,768,128          9.09             6.47          1,636,366           9.19
$10.19 - $13.75..................   1,570,211         12.51             7.69            908,609          12.23
$14.00 - $16.06..................     942,479         14.26             8.17            165,324          14.28
                                    ---------                                         ---------
$ 3.24 - $16.06..................   7,307,459        $ 9.08             7.15          4,107,067         $ 8.56
                                    =========                                         =========
</TABLE>

     As a result of the Reorganization (as discussed herein), immediately prior
to the Distribution, (i) each option to purchase the Company's Common Stock then
outstanding became fully vested and exercisable, (ii) all restrictions on
outstanding restricted shares lapsed and became fully vested, (iii) each
outstanding award of phantom units became fully vested, and (iv) each
outstanding performance share became fully vested. The Company incurred expenses
of approximately $18,000,000 in 1997 as it related to these stock-based awards,
which was included in the $44,000,000 of transaction costs. In addition, all
options outstanding immediately after the Distribution were cancelled and
replaced with new options issued by the Company under the 1997 Long-Term
Incentive Plan. Such options are exercisable upon the same terms and conditions
(except that all options are 100% vested) as under the applicable option
agreement issued thereunder, except that (i) the number of shares for which such
options may be converted, and (ii) the option exercise price per share of such
options were adjusted to take into account the effect of the Reorganization.

     The Company recognizes compensation expense for its restricted stock
grants, performance share grants (when the performance targets are achieved) and
other stock unit awards. The total charges to the Company's consolidated
statements of operations for the years ended December 31, 1999, 1998 and 1997
related to these stock-based awards were approximately $198,000, $0 and
$19,767,000, respectively. The total charges for 1997 included approximately
$18,000,000 related to the impact of the Reorganization on the Company's stock-
based awards (as discussed above).

     Pro forma information regarding net income and earnings per share is
required by SFAS No. 123, and has been determined as if the Company had
accounted for its 1999, 1998 and 1997 stock option and performance share grants
under the fair value method as prescribed by such statement. The fair value for
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, 1999, 1998 and 1997, respectively: risk-free interest rates
of 6.8%, 5.0% and 5.9%; volatility factors of the expected market price of the
Company's Common Stock of .46, .41 and .35; and weighted-average expected option
lives of 9 years, 10 years and 8 years. The Company does not currently pay cash
dividends on its Common Stock and no future dividends are currently planned.
Such weighted-average assumptions resulted in a weighted average fair value of
options granted during 1999, 1998 and 1997 of $4.27 per share, $5.35 per share
and $7.84 per share, respectively. The fair value of the performance share
grants was based on the market value of the Company's Common Stock on the date
of grant.

     The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models

                                       55
<PAGE>   57
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

8. STOCKHOLDERS' EQUITY -- (CONTINUED)

require the input of highly subjective assumptions including the expected stock
price volatility. Because the Company's stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimates, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its stock options.

     For purposes of pro forma disclosures, the estimated fair value of the
stock options and performance shares is amortized to expense over their
respective vesting periods. The pro forma effects on reported net income (loss)
and diluted earnings per share assuming the Company had elected to account for
its stock option and performance share grants in accordance with SFAS No. 123
for the years ended December 31, 1999, 1998 and 1997 would have been a net loss
of $137,015,000 or $1.34 per share, a net loss of $32,202,000 or $.31 per share
and net income of $47,244,000 or $.46 per share, respectively. The pro forma
amounts for 1997 reflect the impact of the Reorganization on the Company's
outstanding stock options (as discussed above). Such pro forma effects are not
necessarily indicative of the effect on future years.

     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 Common Stock at the current market
price through payroll deductions. The Company makes contributions in the amount
of 30% of the participant's contribution. Each participant specifies the amount
to be withheld from earnings per two-week pay period, subject to certain
limitations. The total charges to the Company's consolidated statements of
operations for the years ended December 31, 1999, 1998 and 1997 related to this
plan were approximately $1,723,000, $2,435,000 and $2,449,000, respectively.

9. INCOME TAXES

     The provision for (benefit from) taxes on income (loss) before
extraordinary charge and the cumulative effect of change in accounting for
start-up costs (see Note 1) consists of the following for the years ended
December 31 (in thousands):

<TABLE>
<CAPTION>
                                                          1999       1998      1997
                                                        --------   --------   -------
<S>                                                     <C>        <C>        <C>
Federal:
  Current.............................................  $     --   $     --   $22,997
  Deferred............................................   (72,001)   (28,227)   20,404
State:
  Current.............................................     4,000      2,169     6,669
  Deferred............................................   (11,078)       122      (157)
                                                        --------   --------   -------
                                                        $(79,079)  $(25,936)  $49,913
                                                        ========   ========   =======
</TABLE>

     The Company had an annual effective tax rate of 37% for the year ended
December 31, 1999, compared to annual effective tax rates of 51% and 46% for the
years ended December 31, 1998 and 1997, respectively. The annual effective tax
rate in 1999 was different than the federal statutory rate primarily due to the
impact of state income taxes. The annual effective tax rate in 1998 was
different than the federal statutory rate primarily due to the impact of the
sale of ATH (see Note 4), the benefit of certain tax credits, and the pre-tax
charge of approximately $69,400,000 (see Note 3) which reduced the Company's
pre-tax income to a level where the impact of permanent tax differences and
state income taxes had a more significant impact on the effective tax rate. The
annual effective tax rate in 1997 was different than the federal statutory rate
primarily due to the impact of nondeductible transaction costs associated with
the Reorganization (see Note 4).

                                       56
<PAGE>   58
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

9. INCOME TAXES -- (CONTINUED)

     A reconciliation of the provision for (benefit from) income taxes, computed
at the statutory rate, to the Company's annual effective tax rate is summarized
as follows (dollars in thousands):

<TABLE>
<CAPTION>
                                             1999              1998             1997
                                        --------------    --------------    -------------
                                         AMOUNT     %      AMOUNT     %     AMOUNT     %
                                        --------   ---    --------   ---    -------   ---
<S>                                     <C>        <C>    <C>        <C>    <C>       <C>
Tax (benefit) at statutory rate.......  $(74,804)  35     $(17,809)  35     $37,977   35
General business tax credits..........    (2,470)   1       (2,315)   5          --   --
State tax provision, net..............    (4,601)   2        1,489   (3)      4,233    4
Nondeductible amortization of
  intangibles.........................     1,192   --          (74)  --       1,702    2
Sale of ATH...........................        --   --       (6,867)  13          --   --
Effect of Reorganization and Merger...        --   --           --   --       5,618    5
Other.................................     1,604   (1)        (360)   1         383   --
                                        --------   --     --------   --     -------   --
                                        $(79,079)  37     $(25,936)  51     $49,913   46
                                        ========   ==     ========   ==     =======   ==
</TABLE>

     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 the Company's deferred tax assets and liabilities at
December 31, 1999 and 1998 are as follows (in thousands):

<TABLE>
<CAPTION>
                                             DECEMBER 31, 1999       DECEMBER 31, 1998
                                            --------------------    --------------------
                                             ASSET     LIABILITY     ASSET     LIABILITY
                                            --------   ---------    --------   ---------
<S>                                         <C>        <C>          <C>        <C>
Insurance reserves........................  $ 25,512   $     --     $ 11,988   $     --
General business tax credit
  carryforwards...........................     8,850         --        5,270         --
Alternative minimum tax credit
  carryforwards...........................    15,772         --       16,568         --
Provision for dispositions................    35,454      3,882       37,805      3,152
Provision for Medicare repayment..........    55,175         --           --         --
Depreciation and amortization.............     6,582    132,863       12,711    136,096
Operating supplies........................        --     13,004           --     13,241
Federal net operating loss
  carryforwards...........................    29,491         --       17,846         --
Other.....................................    24,707     25,818       22,728     30,877
                                            --------   --------     --------   --------
                                            $201,543   $175,567     $124,916   $183,366
                                            ========   ========     ========   ========
</TABLE>

     At December 31, 1999, the Company had federal net operating loss
carryforwards of $84,259,000 for income tax purposes which expire in years 2018
through 2019. At December 31, 1999, the Company had general business tax credit
carryforwards of $8,850,000 for income tax purposes which expire in years 2008
through 2015. For financial reporting purposes, the federal net operating loss
carryforwards and the general business tax credit carryforwards have been
utilized to offset existing net taxable temporary differences reversing during
the carryforward periods. The Company's net deferred tax assets at December 31,
1999 will be realized primarily through the reversal of temporary taxable
differences and future taxable income. Accordingly, the Company does not believe
that a deferred tax valuation allowance is necessary at December 31, 1999.

10. FAIR VALUES OF FINANCIAL INSTRUMENTS

     Financial Accounting Standards Statement No. 107, "Disclosures about Fair
Value of Financial Instruments" 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
                                       57
<PAGE>   59
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

10. FAIR VALUES OF FINANCIAL INSTRUMENTS --(CONTINUED)

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. Statement No. 107 excludes certain financial
instruments and all nonfinancial instruments from its disclosure requirements.
Accordingly, the aggregate fair value amounts presented do not represent the
underlying value of the Company. The following methods and assumptions were used
by the Company in estimating its 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". During the
fourth quarter of 1998, Beverly Indemnity, Ltd. completed a risk transfer of
substantially all of its pre-May 1998 auto liability, general liability and
workers' compensation claims liability to a third party insurer effected through
a loss portfolio transfer (see Note 1) which resulted in the sale of securities
with a book value of approximately $61,600,000. Also during 1998, various other
securities were sold with a book value of approximately $33,700,000. Beverly
Indemnity, Ltd. received gross proceeds of approximately $98,000,000 from the
sale of these securities and recognized gross gains on the sales of these
securities of approximately $3,000,000. In addition, an adjustment was recorded
to accumulated other comprehensive income for unrealized gains on these
securities of $1,755,000, net of income taxes.

  Long-term Debt (Including Current Portion)

     The carrying amounts of the Company's 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 the Company's incremental
borrowing rates for similar types of borrowing arrangements.

  Federal Government Settlements (Including Current Portion)

     The carrying amount of the Company's obligations to the federal government
resulting from the settlements of the Allocation Investigations is included in
the consolidated balance sheet captions "Other accrued liabilities" and "Other
liabilities and deferred items." Such obligations are non-interest bearing, and
as such, were imputed at their approximate fair market rate of 9% for accounting
purposes. Therefore, the carrying amount of such obligations should approximate
its fair value.

                                       58
<PAGE>   60
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

10. FAIR VALUES OF FINANCIAL INSTRUMENTS --(CONTINUED)

     The carrying amounts and estimated fair values of the Company's financial
instruments at December 31, 1999 and 1998 are as follows (in thousands):

<TABLE>
<CAPTION>
                                                   1999                   1998
                                            -------------------    -------------------
                                            CARRYING     FAIR      CARRYING     FAIR
                                             AMOUNT     VALUE       AMOUNT     VALUE
                                            --------   --------    --------   --------
<S>                                         <C>        <C>         <C>        <C>
Cash and cash equivalents.................  $ 24,652   $ 24,652    $ 17,278   $ 17,278
Notes receivable, net (including current
  portion)................................    20,588     20,600      42,338     44,900
Beverly Indemnity funds...................       561        561       1,600      1,600
Long-term debt (including current
  portion)................................   780,216    744,520     906,043    929,454
Federal government settlements (including
  current portion)........................   133,314    133,314          --         --
</TABLE>

     During 1999 and 1998, the Company defeased long-term debt with aggregate
carrying values of $8,135,000 and $5,650,000, respectively. The fair values of
such defeased debt were estimated using discounted cash flow analyses, based on
the Company's incremental borrowing rates for similar types of borrowing
arrangements, and were approximately $14,071,000 and $5,819,000 at December 31,
1999 and 1998, respectively.

     In order to consummate certain dispositions and other transactions, the
Company has agreed to guarantee the debt assumed or acquired by the purchaser or
the performance under a lease, by the lessor. It is not practicable to estimate
the fair value of the Company's off-balance sheet guarantees (See Note 7). The
Company does 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 the Company, 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. In addition, the Company guarantees approximately $2,784,000 of
loans to certain officers of the Company, which are collateralized by the
Company's Common Stock. The fair values of such loans were estimated using
discounted cash flow analyses, based on the Company's incremental borrowing
rates for similar types of borrowing arrangements, and were approximately
$2,806,000 at December 31, 1999.

11. 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

     At December 31, 1999 and 1998, the Company was organized into two operating
segments, which support the Company's delivery of long-term healthcare services.
These operating segments included: (i) Beverly Healthcare, which provides
long-term healthcare through the operation of nursing facilities and assisted
living centers; and (ii) Beverly Care Alliance, which operates outpatient
therapy clinics, home care centers and a rehabilitation services business.

     At December 31, 1997, in addition to the two operating segments mentioned
above, the Company owned Beverly Specialty Hospitals, which operated the
Company's transitional hospitals. In June 1998, the Company

                                       59
<PAGE>   61
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

11. SEGMENT INFORMATION -- (CONTINUED)

completed the sale of this segment to Select Medical Corporation (see Note 4).
In addition to the three operating segments mentioned above, the Company owned
PCA, which operated the Company's institutional and mail service pharmacy
businesses. In December 1997, the Company completed the Merger of PCA with
Capstone Pharmacy Services, Inc. (see Note 4).

  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). The
Company evaluates performance and allocates resources based on income or loss
from operations before income taxes, excluding any unusual items.

  Factors Management Used to Identify the Company's Operating Segments

     The Company's operating segments are strategic business units that offer
different services within the long-term healthcare continuum. Business in each
operating segment is conducted by one or more corporations headed by a president
who is also a senior officer of the Company. The corporations comprising each
operating segment also have separate boards of directors.

                                       60
<PAGE>   62
                           BEVERLY ENTERPRISES, INC.

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

11. SEGMENT INFORMATION -- (CONTINUED)

     The following table summarizes certain information for each of the
Company's operating segments (in thousands):

<TABLE>
<CAPTION>
                                              BEVERLY     BEVERLY     PHARMACY
                                  BEVERLY       CARE     SPECIALTY   CORPORATION
                                 HEALTHCARE   ALLIANCE   HOSPITALS   OF AMERICA    ALL OTHER(1)     TOTALS
                                 ----------   --------   ---------   -----------   ------------   ----------
<S>                              <C>          <C>        <C>         <C>           <C>            <C>
Year ended December 31, 1999
  Revenues from external
     customers.................  $2,305,341   $237,014    $    --           --      $   4,317     $2,546,672
  Intercompany revenues........          --    140,216         --           --         11,643        151,859
  Interest income..............         240         88         --           --          4,007          4,335
  Interest expense.............      28,434        425         --           --         43,719         72,578
  Depreciation and
     amortization..............      79,454     13,228         --           --          6,478         99,160
  Pre-tax income (loss)........     109,884     23,417         --           --       (347,027)      (213,726)
  Total assets.................   1,501,670    325,771         --           --        155,439      1,982,880
  Capital expenditures.........      73,029     10,518         --           --         11,867         95,414
Year ended December 31, 1998
  Revenues from external
     customers.................  $2,531,496   $192,627    $61,775           --      $  26,334     $2,812,232
  Intercompany revenues........          --     13,518        539           --         10,682         24,739
  Interest income..............         410        160          3           --         10,135         10,708
  Interest expense.............      29,359        108         93           --         36,378         65,938
  Depreciation and
     amortization..............      78,269      8,662      1,578           --          5,213         93,722
  Pre-tax income (loss)........     165,707      6,878       (670)          --       (222,797)       (50,882)
  Total assets.................   1,526,091    303,913         --           --        330,507      2,160,511
  Capital expenditures.........      87,209     15,149      4,937           --         43,156        150,451
Year ended December 31, 1997
  Revenues from external
     customers.................  $2,583,758   $ 60,103    $99,783     $472,861      $     594     $3,217,099
  Intercompany revenues........          --     15,643      1,708       91,338         10,269        118,958
  Interest income..............         302         --          3          125         12,771         13,201
  Interest expense.............      32,264         19        275       14,965         35,190         82,713
  Depreciation and
     amortization..............      77,162      3,402      2,517       18,281          5,698        107,060
  Pre-tax income (loss)........     173,363      2,801        819       33,450       (101,927)       108,506
  Total assets.................   1,504,437    101,364     48,964           --        418,704      2,073,469
  Capital expenditures.........      90,699      6,468      5,198       11,725         18,997        133,087
</TABLE>

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

(1) All Other consists of the operations of the Company's corporate headquarters
    and related overhead, as well as certain non-operating revenues and
    expenses, and unusual items.

                                       61
<PAGE>   63

                           BEVERLY ENTERPRISES, INC.

                         SUPPLEMENTARY DATA (UNAUDITED)
                            QUARTERLY FINANCIAL DATA
                     (IN THOUSANDS, EXCEPT PER SHARE DATA)

     The following is a summary of the quarterly results of operations for the
years ended December 31, 1999 and 1998.
<TABLE>
<CAPTION>
                                                               1999                                          1999
                                      -------------------------------------------------------   ------------------------------
                                        1ST         2ND        3RD        4TH        TOTAL        1ST        2ND        3RD
                                      --------   ---------   --------   --------   ----------   --------   --------   --------
<S>                                   <C>        <C>         <C>        <C>        <C>          <C>        <C>        <C>
Total revenues......................  $635,029   $ 633,678   $638,331   $643,969   $2,551,007   $697,427   $717,648   $700,635
                                      ========   =========   ========   ========   ==========   ========   ========   ========
Income (loss) before provision for
 (benefit from) income taxes,
 extraordinary charge and cumulative
 effect of change in accounting for
 start-up costs.....................  $  9,377   $(183,901)  $ 12,535   $(51,737)  $ (213,726)  $ 29,099   $ 31,803   $ 32,822
Provision for (benefit from) income
 taxes..............................     3,470     (68,044)     4,638    (19,143)     (79,079)    11,058     10,258     11,487
                                      --------   ---------   --------   --------   ----------   --------   --------   --------
Income (loss) before extraordinary
 charge and cumulative effect of
 change in accounting for start-up
 costs..............................     5,907    (115,857)     7,897    (32,594)    (134,647)    18,041     21,545     21,335
Extraordinary charge................        --          --         --         --           --         --         --         --
Cumulative effect of change in
 accounting for start-up costs......        --          --         --         --           --     (4,415)        --         --
                                      --------   ---------   --------   --------   ----------   --------   --------   --------
Net income (loss)...................  $  5,907   $(115,857)  $  7,897   $(32,594)  $ (134,647)  $ 13,626   $ 21,545   $ 21,335
                                      ========   =========   ========   ========   ==========   ========   ========   ========
Income (loss) per share of common
 stock:
Basic:
 Before extraordinary charge and
   cumulative effect of change in
   accounting for start-up costs....  $    .06   $   (1.13)  $    .08   $   (.32)  $    (1.31)  $    .17   $    .21   $    .21
 Extraordinary charge...............        --          --         --         --           --         --         --         --
 Cumulative effect of change in
   accounting for start-up costs....        --          --         --         --           --       (.04)        --         --
                                      --------   ---------   --------   --------   ----------   --------   --------   --------
 Net income (loss)..................  $    .06   $   (1.13)  $    .08   $   (.32)  $    (1.31)  $    .13   $    .21   $    .21
                                      ========   =========   ========   ========   ==========   ========   ========   ========
 Shares used to compute per share
   amounts..........................   102,480     102,494    102,495    102,496      102,491    106,006    103,682    103,019
                                      ========   =========   ========   ========   ==========   ========   ========   ========
Diluted:
 Before extraordinary charge and
   cumulative effect of change in
   accounting for start-up costs....  $    .06   $   (1.13)  $    .08   $   (.32)  $    (1.31)  $    .17   $    .20   $    .21
 Extraordinary charge...............        --          --         --         --           --         --         --         --
 Cumulative effect of change in
   accounting for start-up costs....        --          --         --         --           --       (.04)        --         --
                                      --------   ---------   --------   --------   ----------   --------   --------   --------
 Net income (loss)..................  $    .06   $   (1.13)  $    .08   $   (.32)  $    (1.31)  $    .13   $    .20   $    .21
                                      ========   =========   ========   ========   ==========   ========   ========   ========
 Shares used to compute per share
   amounts..........................   102,693     102,494    102,715    102,496      102,491    107,479    105,112    103,610
                                      ========   =========   ========   ========   ==========   ========   ========   ========
Common stock price range:
 High...............................  $   6.94   $    8.19   $   8.00   $   5.19                $  15.56   $  16.25   $  14.81
 Low................................  $   4.50   $    4.31   $   3.88   $   3.50                $  12.25   $  13.50   $   7.38

<CAPTION>
                                               1999
                                      ----------------------
                                         4TH        TOTAL
                                      ---------   ----------
<S>                                   <C>         <C>
Total revenues......................  $ 707,230   $2,822,940
                                      =========   ==========
Income (loss) before provision for
 (benefit from) income taxes,
 extraordinary charge and cumulative
 effect of change in accounting for
 start-up costs.....................  $(144,606)  $  (50,882)
Provision for (benefit from) income
 taxes..............................    (58,739)     (25,936)
                                      ---------   ----------
Income (loss) before extraordinary
 charge and cumulative effect of
 change in accounting for start-up
 costs..............................    (85,867)     (24,946)
Extraordinary charge................     (1,660)      (1,660)
Cumulative effect of change in
 accounting for start-up costs......         --       (4,415)
                                      ---------   ----------
Net income (loss)...................  $ (87,527)  $  (31,021)
                                      =========   ==========
Income (loss) per share of common
 stock:
Basic:
 Before extraordinary charge and
   cumulative effect of change in
   accounting for start-up costs....  $    (.84)  $     (.24)
 Extraordinary charge...............       (.02)        (.02)
 Cumulative effect of change in
   accounting for start-up costs....         --         (.04)
                                      ---------   ----------
 Net income (loss)..................  $    (.86)  $     (.30)
                                      =========   ==========
 Shares used to compute per share
   amounts..........................    102,389      103,762
                                      =========   ==========
Diluted:
 Before extraordinary charge and
   cumulative effect of change in
   accounting for start-up costs....  $    (.84)  $     (.24)
 Extraordinary charge...............       (.02)        (.02)
 Cumulative effect of change in
   accounting for start-up costs....         --         (.04)
                                      ---------   ----------
 Net income (loss)..................  $    (.86)  $     (.30)
                                      =========   ==========
 Shares used to compute per share
   amounts..........................    102,389      103,762
                                      =========   ==========
Common stock price range:
 High...............................  $    8.13
 Low................................  $    5.25
</TABLE>

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

     The Company had an annual effective tax rate of 37% for the year ended
December 31, 1999 compared to an annual effective tax rate of 51% for the year
ended December 31, 1998. The annual effective tax rate in 1999 was different
than the federal statutory rate primarily due to the impact of state income
taxes. The annual effective tax rate in 1998 was different than the federal
statutory rate primarily due to the impact of the sale of ATH (see Note 4), the
benefit of certain tax credits, and the $69,400,000 pre-tax charge (see Note 3)
which reduced the Company's pre-tax income to a level where the impact of
permanent tax differences and state income taxes had a more significant impact
on the effective tax rate.

                                       62
<PAGE>   64

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

     None.

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY.

     Incorporated herein by reference from the Company's definitive proxy
statement for the Annual Meeting of Stockholders to be held on May 25, 2000, to
be filed pursuant to Regulation 14A.

ITEM 11. EXECUTIVE COMPENSATION.

     Incorporated herein by reference from the Company's definitive proxy
statement for the Annual Meeting of Stockholders to be held on May 25, 2000, to
be filed pursuant to Regulation 14A.

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

     Incorporated herein by reference from the Company's definitive proxy
statement for the Annual Meeting of Stockholders to be held on May 25, 2000, to
be filed pursuant to Regulation 14A.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

     Jon E.M. Jacoby, a director, serves as Executive Vice President, Chief
Financial Officer and director of Stephens Group, Inc. During the years ended
December 31, 1998 and 1997, the Company used Stephens Group, Inc., or its
affiliates, for investment banking services.

                                    PART IV

ITEM 14. 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

     No reports on Form 8-K were filed by the Company during the quarter ended
December 31, 1999.

  (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 14(a)1 and 2, above.

                                       63
<PAGE>   65

                           BEVERLY ENTERPRISES, INC.

                 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND
                         FINANCIAL STATEMENT SCHEDULES
                                  (ITEM 14(a))

<TABLE>
<CAPTION>
                                                              PAGE
                                                              ----
<S>                                                           <C>
1. Consolidated financial statements:
   Report of Ernst & Young LLP, Independent Auditors........   33
   Consolidated Balance Sheets at December 31, 1999 and
     1998...................................................   34
   Consolidated Statements of Operations for each of the
     three years in the period ended December 31, 1999......   35
   Consolidated Statements of Stockholders' Equity for each
     of the three years in the period ended December 31,
     1999...................................................   36
   Consolidated Statements of Cash Flows for each of the
     three years in the period ended December 31, 1999......   37
   Notes to Consolidated Financial Statements...............   38
   Supplementary Data (Unaudited) -- Quarterly Financial
     Data...................................................   62

2. Consolidated financial statement schedule for each of the
   three years in the period ended December 31, 1999:
   II -- Valuation and Qualifying Accounts..................   65

   All other schedules are omitted because they are either
   not applicable or the items do not exceed the various
   disclosure levels.
</TABLE>

                                       64
<PAGE>   66

                           BEVERLY ENTERPRISES, INC.

                SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
                  YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                CHARGED                       DUE TO
                                 BALANCE AT   (CREDITED)                   ACQUISITIONS            BALANCE
                                 BEGINNING        TO         WRITE-OFFS/       AND                 AT END
DESCRIPTION                       OF YEAR     OPERATIONS     RECOVERIES    DEPOSITIONS    OTHER    OF YEAR
-----------                      ----------   -----------    -----------   ------------   ------   -------
<S>                              <C>          <C>            <C>           <C>            <C>      <C>
Year ended December 31, 1999:
  Allowance for doubtful
     accounts:
     Accounts receivable --
       patient.................   $21,764       $67,400(A)    $(26,901)      $ 1,901      $  234   $64,398
     Accounts receivable --
       nonpatient..............       677           963             17            --        (234)    1,423*
     Notes receivable..........     2,921         3,733         (1,400)           --         350     5,604
                                  -------       -------       --------       -------      ------   -------
                                  $25,362       $72,096       $(28,284)      $ 1,901      $  350   $71,425
                                  =======       =======       ========       =======      ======   =======
Year ended December 31, 1998:
  Allowance for doubtful
     accounts:
     Accounts receivable --
       patient.................   $17,879       $25,549       $(19,807)      $(1,857)     $   --   $21,764
     Accounts receivable --
       nonpatient..............       862           (90)           (13)          (82)         --       677*
     Notes receivable..........     2,917          (210)           (66)           --         280     2,921
                                  -------       -------       --------       -------      ------   -------
                                  $21,658       $25,249       $(19,886)      $(1,939)     $  280   $25,362
                                  =======       =======       ========       =======      ======   =======
Year ended December 31, 1997:
  Allowance for doubtful
     accounts:
     Accounts receivable --
       patient.................   $25,618       $35,343       $(34,858)      $(8,224)     $   --   $17,879
     Accounts receivable --
       nonpatient..............       637           209           (218)           --         234       862*
     Notes receivable..........     4,951        (1,211)          (306)       (1,453)        936     2,917
                                  -------       -------       --------       -------      ------   -------
                                  $31,206       $34,341       $(35,382)      $(9,677)     $1,170   $21,658
                                  =======       =======       ========       =======      ======   =======
</TABLE>

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

(A)  Includes $39,000,000 for certain prior year cost report related items
     affected by the Allocation Investigations, as well as $1,007,000 for
     additional accounts receivable-patient reserves required on the 10 nursing
     facilities required to be disposed of as a result of the settlements of
     such investigations, and are included in the "Special charges related to
     settlements of federal government investigations."

 *   Includes amounts classified in long-term other assets as well as current
     assets.

                                       65
<PAGE>   67

                           BEVERLY ENTERPRISES, INC.

                               INDEX TO EXHIBITS
                                (ITEM 14(a)(3))

<TABLE>
<CAPTION>
EXHIBIT NUMBER
--------------
<C>                      <S>
          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 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)
          4.4            -- First Supplemental Indenture dated as of April 1, 1993 to
                            the First Mortgage Bond Indenture, with respect to 8 3/4%
                            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)
          4.5            -- Second Supplemental Indenture dated as of July 1, 1993 to
                            the First Mortgage Bond Indenture, with respect to 8 5/8%
                            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)
          4.6            -- 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))
          4.7            -- 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)
</TABLE>

                                       66
<PAGE>   68

<TABLE>
<CAPTION>
EXHIBIT NUMBER
--------------
<C>                      <S>
          4.8            -- 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))
          4.9            -- 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)
          4.10           -- 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 10.4 to Beverly
                            Enterprises, Inc.'s Registration Statement on Form S-4
                            filed on February 13, 1995 (File No. 33-57663))
         10.2*           -- New Beverly Holdings, Inc. 1997 Long-Term Incentive Plan
                            (the "1997 LTIP") (incorporated by reference to Exhibit
                            4.1 to Beverly Enterprises, Inc.'s Registration Statement
                            on Form S-8 filed on December 8, 1997 (File No.
                            333-41669))
         10.3*           -- Amendment No. 1 to the 1997 LTIP dated as of December 3,
                            1997 (incorporated by reference to Exhibit 10.3 to
                            Beverly Enterprises, Inc.'s Annual Report on Form 10-K
                            for the year ended December 31, 1997)
         10.4*           -- New Beverly Holdings, Inc. Non-Employee Directors' Stock
                            Option Plan (the "Directors' Option Plan") (incorporated
                            by reference to Exhibit 4.1 to Beverly Enterprises,
                            Inc.'s Registration Statement on Form S-8 filed on
                            December 12, 1997 (File No. 333-42131))
         10.5*           -- Amendment No. 1 to the Directors' Option Plan dated as of
                            December 3, 1997 (incorporated by reference to Exhibit
                            10.5 to Beverly Enterprises, Inc.'s Annual Report on Form
                            10-K for the year ended December 31, 1997)
         10.6*           -- 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)
         10.7*           -- Amended and Restated Beverly Enterprises, Inc. Executive
                            Life Insurance Plan and Summary Plan Description (the
                            "Executive Life Plan") (incorporated by reference to
                            Exhibit 10.7 to Beverly Enterprises, Inc.'s Annual Report
                            on Form 10-K for the year ended December 31, 1993)
         10.8*           -- Amendment No. 1, effective September 29, 1994, to the
                            Executive Life Plan (incorporated by reference to Exhibit
                            10.10 to Beverly Enterprises, Inc.'s Registration
                            Statement on Form S-4 filed on February 13, 1995 (File
                            No. 33-57663))
         10.9*           -- 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)
         10.10*          -- 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)
</TABLE>

                                       67
<PAGE>   69

<TABLE>
<CAPTION>
EXHIBIT NUMBER
--------------
<C>                      <S>
         10.11*          -- 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))
         10.12*          -- 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)
         10.13*          -- 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)
         10.14*          -- 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)
         10.15*          -- 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)
         10.16*          -- 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)
         10.17*          -- 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)
         10.18*          -- 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)
         10.19*          -- 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)
         10.20*          -- 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)
         10.21*          -- Beverly Enterprises, Inc.'s Supplemental Executive
                            Retirement Plan effective as of January 1, 1998
                            (incorporated by reference to Exhibit 10.21 to Beverly
                            Enterprises, Inc.'s Annual Report on Form 10-K for the
                            year ended December 31, 1997)
         10.22*          -- Beverly Enterprises, Inc.'s Executive Deferred
                            Compensation Plan (incorporated by reference to Exhibit
                            4.1 to Beverly Enterprises, Inc.'s Registration Statement
                            on Form S-8 filed on December 5, 1997 (File No.
                            333-41673))
         10.23*          -- Amendment No. 1 to the Executive Deferred Compensation
                            Plan made as of December 11, 1997 (incorporated by
                            reference to Exhibit 10.23 to Beverly Enterprises, Inc.'s
                            Annual Report on Form 10-K for the year ended December
                            31, 1997)
         10.24*          -- Amendment No. 2 to the Executive Deferred Compensation
                            Plan made as of December 11, 1997 (incorporated by
                            reference to Exhibit 10.24 to Beverly Enterprises, Inc.'s
                            Annual Report on Form 10-K for the year ended December
                            31, 1997)
</TABLE>

                                       68
<PAGE>   70

<TABLE>
<CAPTION>
EXHIBIT NUMBER
--------------
<C>                      <S>
         10.25*          -- 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)
         10.26*          -- 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)
         10.27*          -- 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)
         10.28*          -- 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)
         10.29*          -- 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)
         10.30*          -- 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)
         10.31*          -- 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))
         10.32*          -- Employment Contract, made as of August 22, 1997, between
                            New Beverly Holdings, Inc. and David R. Banks
                            (incorporated by reference to Exhibit 10.17 to Amendment
                            No. 2 to Beverly Enterprises, Inc.'s Registration
                            Statement on Form S-1 filed on September 22, 1997 (File
                            No. 333-28521))
         10.33*          -- 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))
         10.34*          -- Executive Stock Option Agreement, effective as of
                            February 19, 1998, between Beverly Enterprises, Inc. and
                            David R. Banks (incorporated by reference to Exhibit 10.1
                            to Beverly Enterprises, Inc.'s Quarterly Report on Form
                            10-Q for the quarter ended March 31, 1998)
         10.35           -- 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)
</TABLE>

                                       69
<PAGE>   71

<TABLE>
<CAPTION>
EXHIBIT NUMBER
--------------
<C>                      <S>
         10.36           -- Agreement dated as of December 29, 1986 among Beverly
                            California Corporation, Beverly Enterprises -- Texas,
                            Inc., Stephens Inc. and Real Properties, Inc. (incor-
                            porated 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)
         10.37           -- 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)
         10.38           -- 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)
         10.39           -- Amended and Restated Credit Agreement, dated as of April
                            30, 1998, among Beverly Enterprises, Inc., the Banks
                            listed therein and Morgan Guaranty Trust Company of New
                            York, as Issuing Bank and Agent (incorporated by
                            reference to Exhibit 10.38 to Beverly Enterprises, Inc.'s
                            Annual Report on Form 10-K for the year ended December
                            31, 1998)
         10.40           -- Amendment No. 1 to Amended and Restated Credit Agreement,
                            dated as of September 30, 1999, among Beverly
                            Enterprises, Inc., the Banks listed therein and Morgan
                            Guaranty Trust Company of New York, as Issuing Bank and
                            Agent (incorporated by reference to Exhibit 10.1 to
                            Beverly Enterprises, Inc.'s Quarterly Report on Form 10-Q
                            for the quarter ended September 30, 1999)
         10.41           -- Master Services Agreement, dated as of September 18,
                            1997, by and between Alltel Information Services, Inc.
                            and Beverly Enterprises, Inc.
         10.42           -- 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))
</TABLE>

                                       70
<PAGE>   72

<TABLE>
<CAPTION>
EXHIBIT NUMBER
--------------
<C>                      <S>
         10.43           -- Corporate Integrity Agreement between the Office of
                            Inspector General of the Department of Health and Human
                            Services and Beverly Enterprises, Inc.
         10.44           -- Plea Agreement
         10.45           -- Addendum to Plea Agreement
         10.46           -- Settlement Agreement between the United States of
                            America, Beverly Enterprises, Inc. and Domenic Todarello
         10.47           -- Agreement Regarding the Operations of Beverly
                            Enterprises -- California, Inc.
         21.1            -- Subsidiaries of Registrant
         23.1            -- Consent of Ernst & Young LLP, Independent Auditors
         27.1            -- Financial Data Schedule for the year ended December 31,
                            1999
</TABLE>

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

* Exhibits 10.1 through 10.34 are the management contracts, compensatory plans,
  contracts and arrangements in which any director or named executive officer
  participates.

                                       71
<PAGE>   73

                                   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: March 29, 2000                       By:     /s/ DAVID R. BANKS
                                              ----------------------------------
                                                        David R. Banks
                                                 Chairman of the Board, Chief
                                                Executive Officer and Director

     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:

<TABLE>
<C>                                                      <S>                            <C>
                 /s/ DAVID R. BANKS                      Chairman of the Board,         March 29, 2000
-----------------------------------------------------      Chief Executive Officer
                   David R. Banks                          and Director

                /s/ SCOTT M. TABAKIN                     Executive Vice President       March 29, 2000
-----------------------------------------------------      and Chief Financial
                  Scott M. Tabakin                         Officer

                /s/ PAMELA H. DANIELS                    Senior Vice President,         March 29, 2000
-----------------------------------------------------      Controller and Chief
                  Pamela H. Daniels                        Accounting Officer

              /s/ BERYL F. ANTHONY, JR.                  Director                       March 29, 2000
-----------------------------------------------------
                Beryl F. Anthony, Jr.

                /s/ CAROLYNE K. DAVIS                    Director                       March 29, 2000
-----------------------------------------------------
                  Carolyne K. Davis

                 /s/ JAMES R. GREENE                     Director                       March 29, 2000
-----------------------------------------------------
                   James R. Greene

                /s/ EDITH E. HOLIDAY                     Director                       March 29, 2000
-----------------------------------------------------
                  Edith E. Holiday

                 /s/ JON E.M. JACOBY                     Director                       March 29, 2000
-----------------------------------------------------
                  Jon E. M. Jacoby

             /s/ RISA J. LAVIZZO-MOUREY                  Director                       March 29, 2000
-----------------------------------------------------
               Risa J. Lavizzo-Mourey

               /s/ MARILYN R. SEYMANN                    Director                       March 29, 2000
-----------------------------------------------------
                 Marilyn R. Seymann
</TABLE>

                                       72