<PAGE>   1

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                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                            ------------------------

                                   FORM 10-Q
(MARK ONE)

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

                 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2001

                                       OR

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

             FOR THE TRANSITION PERIOD FROM             TO             .

                           COMMISSION FILE NUMBER: 1-13845

                              BALANCED CARE CORPORATION
               (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

<TABLE>
<S>                                            <C>
                   DELAWARE                                      25-1761898
       (STATE OR OTHER JURISDICTION OF                        (I.R.S. EMPLOYER
        INCORPORATION OR ORGANIZATION)                      IDENTIFICATION NO.)
     1215 MANOR DRIVE, MECHANICSBURG, PA                           17055
   (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)                      (ZIP CODE)
</TABLE>

                                 (717) 796-6100
              (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)

     Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.

                              [X]  Yes    [ ]  No

     Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.

<TABLE>
<CAPTION>
                                                               OUTSTANDING AT
                    CLASS                                       MAY 11, 2001
                    -----                                      --------------
<S>                                            <C>
        Common Stock, $.001 par value                            34,172,847
</TABLE>

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<PAGE>   2

                           BALANCED CARE CORPORATION

                               TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                              PAGE
                                                              ----
<S>                                                           <C>
                 PART I -- FINANCIAL INFORMATION
ITEM 1:
CONDENSED FINANCIAL STATEMENTS (unaudited)
  Consolidated Balance Sheets as of March 31, 2001 and June
     30, 2000...............................................    2
  Consolidated Statements of Operations for the three months
     ended March 31, 2001 and 2000..........................    3
  Consolidated Statements of Operations for the nine months
     ended March 31, 2001 and 2000..........................    4
  Consolidated Statements of Changes in Stockholders' Equity
     for the nine months ended
     March 31, 2001.........................................    5
  Consolidated Statements of Cash Flows for the nine months
     ended March 31, 2001 and 2000..........................    6
Notes to Consolidated Financial Statements..................    7
ITEM 2:
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
  AND RESULTS OF OPERATIONS.................................   18
ITEM 3:
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
  RISK......................................................   32
ITEM 5:
OTHER EVENTS................................................   32
                   PART II -- OTHER INFORMATION
ITEM 3:
DEFAULTS UPON SENIOR SECURITIES.............................   32
ITEM 6:
EXHIBITS AND REPORTS ON FORM 8-K............................   33
</TABLE>

     (A) Exhibits

     (B) Reports on Form 8-K

                                        1
<PAGE>   3

                        PART I -- FINANCIAL INFORMATION

ITEM 1:  FINANCIAL STATEMENTS

                   BALANCED CARE CORPORATION AND SUBSIDIARIES

                          CONSOLIDATED BALANCE SHEETS
                        (IN THOUSANDS EXCEPT SHARE DATA)

<TABLE>
<CAPTION>
                                                               MARCH 31,     JUNE 30,
                                                                 2001          2000
                                                              -----------    ---------
                                                              (UNAUDITED)    (AUDITED)
<S>                                                           <C>            <C>
ASSETS
Current assets:
  Cash and cash equivalents.................................   $  1,973      $  5,722
  Receivables (net of allowance for doubtful receivables)...      3,566         5,085
  Development contracts in process..........................         --           336
  Prepaid expenses and other current assets.................      2,613         2,329
                                                               --------      --------
          Total current assets..............................      8,152        13,472
  Restricted investments....................................      3,286         3,879
  Property and equipment, net...............................     79,584        79,878
  Goodwill, net.............................................     14,040        14,469
  Purchase option deposits..................................      2,861         4,296
  Other assets..............................................      1,765         4,000
                                                               --------      --------
          Total assets......................................   $109,688      $119,994
                                                               ========      ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
  Current portion of long-term debt.........................   $ 86,704      $  8,888
  Accounts payable..........................................      1,873         2,664
  Accrued payroll...........................................        625         1,045
  Accrued expenses..........................................      7,002         4,423
                                                               --------      --------
          Total current liabilities.........................     96,204        17,020
Long-term debt, net of current portion......................      1,710        60,881
Straight-line lease liability...............................      2,868         2,784
Deferred revenue and other liabilities......................        962         3,003
                                                               --------      --------
          Total liabilities.................................    101,744        83,688
                                                               --------      --------
Commitments and contingencies
Stockholders' equity:
  Preferred stock, $.001 par value; 5,000,000 authorized;
     none outstanding.......................................         --            --
  Preferred stock, Series A, $.001 par value; 1,150,958
     authorized; none outstanding...........................         --            --
  Preferred stock, Series B, $.001 par value; 5,009,750
     authorized; none outstanding...........................         --            --
  Common stock, $.001 par value; authorized -- 50,000,000
     shares; issued and outstanding -- 34,172,847 shares at
     March 31, 2001 and June 30, 2000.......................         35            35
  Additional paid-in capital................................     83,333        83,333
  Accumulated deficit.......................................    (75,424)      (47,062)
                                                               --------      --------
          Total stockholders' equity........................      7,944        36,306
                                                               --------      --------
          Total liabilities and stockholders equity.........   $109,688      $119,994
                                                               ========      ========
</TABLE>

          See accompanying notes to consolidated financial statements.
                                        2
<PAGE>   4

                   BALANCED CARE CORPORATION AND SUBSIDIARIES

                     CONSOLIDATED STATEMENTS OF OPERATIONS
                        (IN THOUSANDS EXCEPT SHARE DATA)

<TABLE>
<CAPTION>
                                                                  THREE MONTHS ENDED
                                                                      MARCH 31,
                                                              --------------------------
                                                                 2001           2000
                                                              -----------    -----------
                                                              (UNAUDITED)    (UNAUDITED)
<S>                                                           <C>            <C>
Revenues:
  Resident services.........................................    $10,909        $ 8,491
  Patient services..........................................      2,334          3,375
  Development fees..........................................         18             54
  Management fees...........................................        187             70
  Other revenues............................................         88             80
                                                                -------        -------
          Total revenues....................................     13,536         12,070
                                                                -------        -------
Operating expenses:
  Facility operating expenses:
     Salaries, wages and benefits...........................      6,097          5,619
     Other operating expenses...............................      3,842          2,872
  General and administrative expenses.......................      2,526          2,298
  Provision for losses under shortfall funding agreements...      1,655            700
  Lease expense.............................................      2,249          1,599
  Depreciation and amortization.............................      1,379          1,255
  Loss on impairment of long-lived assets...................      1,167             --
  Loss on financial restructuring...........................      2,193             --
                                                                -------        -------
          Total operating expenses..........................     21,108         14,343
                                                                -------        -------
     Loss from operations...................................     (7,572)        (2,273)
Other income (expense):
  Interest and other income.................................         55            108
  Interest expense..........................................     (2,128)        (1,349)
  Purchase option payments..................................         --           (291)
                                                                -------        -------
     Loss before income taxes...............................     (9,645)        (3,805)
Provision for income taxes..................................          3             --
                                                                -------        -------
     Net loss...............................................    $(9,648)       $(3,805)
                                                                =======        =======
     Basic loss per share...................................    $ (0.28)       $ (0.11)
                                                                =======        =======
     Diluted loss per share.................................    $ (0.28)       $ (0.11)
                                                                =======        =======
Weighted average shares -- basic............................     34,173         34,173
                                                                =======        =======
Weighted average shares -- diluted..........................     34,173         34,173
                                                                =======        =======
</TABLE>

          See accompanying notes to consolidated financial statements.
                                        3
<PAGE>   5

                   BALANCED CARE CORPORATION AND SUBSIDIARIES

                     CONSOLIDATED STATEMENTS OF OPERATIONS
                        (IN THOUSANDS EXCEPT SHARE DATA)

<TABLE>
<CAPTION>
                                                                  NINE MONTHS ENDED
                                                                      MARCH 31,
                                                              --------------------------
                                                                 2001           2000
                                                              -----------    -----------
                                                              (UNAUDITED)    (UNAUDITED)
<S>                                                           <C>            <C>
Revenues:
  Resident services.........................................   $ 35,328       $ 22,418
  Patient services..........................................      7,048         25,565
  Development fees..........................................         56            592
  Management fees...........................................        284            245
  Other revenues............................................        310            191
                                                               --------       --------
          Total revenues....................................     43,026         49,011
                                                               --------       --------
Operating expenses:
  Facility operating expenses:
     Salaries, wages and benefits...........................     20,063         23,153
     Other operating expenses...............................     12,083         13,888
  General and administrative expenses.......................      7,809          7,466
  Provision for losses under shortfall funding agreements...      5,519          2,250
  Lease expense.............................................      8,410          8,501
  Depreciation and amortization.............................      4,166          2,769
  Loss on impairment of long-lived assets (Note 9)..........      1,167             --
  Loss on financial restructuring (Note 7)..................      6,581             --
                                                               --------       --------
          Total operating expenses..........................     65,798         58,027
                                                               --------       --------
     Loss from operations...................................    (22,772)        (9,016)
Other income (expense):
  Interest and other income.................................        291            280
  Interest expense..........................................     (5,878)        (2,172)
  Purchase option payments..................................         --           (291)
                                                               --------       --------
     Loss before income taxes and extraordinary charge......    (28,359)       (11,199)
Provision for income taxes..................................          3              5
                                                               --------       --------
     Loss before extraordinary charge.......................    (28,362)       (11,204)
Extraordinary loss on extinguishment of debt................         --           (739)
                                                               --------       --------
          Net loss..........................................   $(28,362)      $(11,943)
                                                               ========       ========
Basic loss per share:
     Loss before extraordinary charge.......................   $  (0.83)      $  (0.47)
                                                               ========       ========
     Net loss...............................................   $  (0.83)      $  (0.50)
                                                               ========       ========
Diluted loss per share:
     Loss before extraordinary charge.......................   $  (0.83)      $  (0.47)
                                                               ========       ========
     Net loss...............................................   $  (0.83)      $  (0.50)
                                                               ========       ========
Weighted average shares -- basic............................     34,173         23,984
                                                               ========       ========
Weighted average shares -- diluted..........................     34,173         23,984
                                                               ========       ========
</TABLE>

          See accompanying notes to consolidated financial statements.
                                        4
<PAGE>   6

                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
                  NINE MONTHS ENDED MARCH 31, 2001 (UNAUDITED)
                      (IN THOUSANDS OF DOLLARS AND SHARES)

<TABLE>
<CAPTION>
                                            COMMON STOCK
                                           ---------------    ADDITIONAL
                                           ISSUED     PAR      PAID-IN      ACCUMULATED
                                           SHARES    VALUE     CAPITAL        DEFICIT       TOTAL
                                           ------    -----    ----------    -----------    --------
<S>                                        <C>       <C>      <C>           <C>            <C>
Balance at June 30, 2000.................  34,173     $35      $83,333       $(47,062)     $ 36,306
Net Loss.................................                                     (28,362)      (28,362)
                                           ------     ---      -------       --------      --------
Balance at March 31, 2001................  34,173     $35      $83,333       $(75,424)     $  7,944
                                           ======     ===      =======       ========      ========
</TABLE>

          See accompanying notes to consolidated financial statements.
                                        5
<PAGE>   7

                   BALANCED CARE CORPORATION AND SUBSIDIARIES

                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                        (IN THOUSANDS EXCEPT SHARE DATA)

<TABLE>
<CAPTION>
                                                                  NINE MONTHS ENDED
                                                                      MARCH 31,
                                                              --------------------------
                                                                 2001           2000
                                                              -----------    -----------
                                                              (UNAUDITED)    (UNAUDITED)
<S>                                                           <C>            <C>
Cash Flows from Operating Activities:
  Net loss..................................................   $(28,362)      $(11,943)
  Adjustments to reconcile net loss to net cash used for
     operating activities:
     Depreciation and amortization..........................      4,165          2,769
     Provision for losses under shortfall funding
      agreements............................................      5,519          2,250
     Loss on impairment of long-lived assets................      1,167             --
     Non-cash loss on financial restructuring...............      5,641             --
     Non cash interest -- convertible debt..................        910             --
     Extraordinary loss on extinguishment of debt...........         --            739
     Changes in operating assets and liabilities, excluding
      effects of acquisitions:
     (Increase) decrease in receivables, net................     (4,870)           879
     (Increase) decrease in development contracts in
      process, net..........................................         (2)         1,441
     Increase in prepaid expenses and other current
      assets................................................     (1,315)          (473)
     Increase (decrease) in accounts payable, accrued
      payroll and accrued expenses..........................        957        (11,606)
                                                               --------       --------
       Net cash used for operating activities...............    (16,190)       (15,944)
                                                               --------       --------
Cash Flows from Investing Activities:
  Proceeds from sale of assets..............................         --          6,675
  Purchases of property and equipment.......................       (908)       (56,561)
  (Increase) decrease in restricted investments.............     (1,442)         1,315
  (Increase) decrease in purchase option deposits and other
     assets.................................................         16         (4,479)
  Business acquisitions.....................................     (4,842)        (2,457)
                                                               --------       --------
       Net cash used for investing activities...............     (7,176)       (55,507)
                                                               --------       --------
Cash Flows from Financing Activities:
  Proceeds from issuance of debt............................     34,585         54,658
  Payments on debt (including extinguishment costs of $707
     in 2000)...............................................    (16,407)        (6,499)
  Proceeds from issuance of common stock....................         --         19,537
  Increase in straight-line lease liability.................      1,621             --
  Decrease in other liabilities.............................       (182)          (840)
                                                               --------       --------
       Net cash provided by financing activities............     19,617         66,856
  Decrease in cash and cash equivalents.....................     (3,749)        (4,595)
Cash and cash equivalents at beginning of period............      5,722          8,160
                                                               --------       --------
Cash and cash equivalents at end of period..................   $  1,973       $  3,565
                                                               ========       ========
Supplemental Cash Flow Information:
  Cash paid for interest....................................   $  5,114       $  1,789
                                                               ========       ========
  Cash paid for income taxes................................   $     28       $      5
                                                               ========       ========
Acquisitions:
  Fair value of assets acquired.............................     (5,435)        (3,482)
  Liabilities assumed.......................................        593          1,025
                                                               --------       --------
  Consideration paid for acquisitions.......................   $  4,842       $ (2,457)
                                                               ========       ========
</TABLE>

          See accompanying notes to consolidated financial statements.
                                        6
<PAGE>   8

                   BALANCED CARE CORPORATION AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

  (a) Organization and Background

     Balanced Care Corporation ("BCC" or the "Company") was incorporated in
April 1995 and utilizes assisted living facilities as the primary service
platform to provide an array of healthcare and hospitality services, including
preventive care and wellness, medical rehabilitation, Alzheimer's/dementia care
and, in certain markets, extended care. As of March 31, 2001, the Company owned,
leased or managed 54 assisted living communities and three skilled nursing
facilities (combined, "the opened facilities") and had one assisted living
community under a development contract. The Company's operations are located in
Pennsylvania, Arkansas, Virginia, Ohio, North Carolina, Tennessee, West
Virginia, Florida, Maryland and Indiana. These opened facilities have a capacity
for 4,530 assisted living residents, 169 skilled nursing patients, and 86
independent living residents (See Note 8).

  (b) Basis of Presentation

     The accompanying consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries from their respective acquisition
dates. All significant inter-company accounts and transactions have been
eliminated in the consolidated financial statements.

     The financial statements as of and for the three and nine-month periods
ended March 31, 2001 and 2000 are unaudited but, in the opinion of management,
have been prepared on the same basis as the audited financial statements and
reflect all adjustments, consisting of normal recurring accruals necessary for a
fair presentation of the information set forth therein. The results of
operations for the three and nine-month periods ended March 31, 2001 are not
necessarily indicative of the operating results to be expected for the full year
or any other period. These financial statements and notes should be read in
conjunction with the financial statements and notes included in the audited
consolidated financial statements of the Company for the year ended June 30,
2000 as contained in the Company's Annual Report on Form 10-K.

2. CONVERTIBLE DEBENTURES

     On July 31, 2000, HR Investments Limited ("HR"), RH Investments Limited
("RH"), and VXM Investments Limited ("VXM" and together with HR and RH,
collectively, the "Holders"), each purchased at par from the Company, 9.5%
unsecured convertible grid debentures, as amended by Amendment No. 1 to 9.5%
Unsecured Convertible Grid Debentures dated as of July 31, 2000 (as amended,
collectively, the "Debentures"), in an aggregate principal amount equal to
$14,000,000. The Debentures were purchased in accordance with the terms and
conditions of three purchase agreements dated as of June 30, 2000 between the
Company and each of the Holders. Under the Debentures, the Holders had the
right, at any time up to and including the earlier to occur of the Early
Termination Date and the Maturity Date (as such terms are defined below), to
convert all or any part of the Debentures into Common Stock of the Company at
the conversion rate of $2.00 per share (subject to adjustment as provided in the
Debentures, the "Conversion Rate"). The Debentures had a maturity date of July
1, 2005 (the "Maturity Date"). Interest under the Debentures accrued at an
annual rate of 9.5% and was due and payable quarterly. The Company, at its
option, could pay the interest in cash or in lieu of payment, could add the
interest amount payable to the outstanding principal amount of the Debentures,
subject to certain conditions precedent. For each of the quarters ended
September 30, December 31, 2000, and March 31, 2001, the Company elected to pay
the interest in the form of an increase to the principal balance outstanding for
the Debentures.

     Events of default occurred under the Debentures and as a result, in
accordance with the provisions of the Debentures, they became immediately due
and payable. Notwithstanding the foregoing, the Holders each notified the
Company in writing that they did not intend to take any action to enforce their
rights to receive payment of the outstanding obligations under the Debentures
prior to April 6, 2001. On April 4, 2001, the Company paid the

                                        7
<PAGE>   9
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Holders all of the outstanding obligations in full under the Debentures with
part of the proceeds of the VXM Loan discussed in Note 9.

3. PROMISSORY NOTES

     On November 6, 2000, the Company entered into a Letter Agreement (as
defined in Note 6), under which the Company requested that HR, RH and VXM make
loans to the Company in the aggregate amount of $8,000,000. On November 6, 2000,
$6,500,000 of the $8,000,000 was loaned to the Company (the "$6.5M Loan") and on
December 7, 2000, the remaining $1,500,000 was loaned to the Company (the "$1.5M
Loan"). The $6.5M Loan and the $1.5M Loan were evidenced by six promissory notes
made by the Company, as follows: (1) a $2,166,667 note and a $500,000 note in
favor of HR, (2) a $2,166,667 note and a $500,000 note in favor of RH and (3) a
$2,166,666 note and a $500,000 note in favor of VXM (collectively, the "Initial
Notes"). Interest accrued under the Initial Notes at an annual rate of 12%, and
was due and payable monthly in arrears. The Initial Notes had a maturity date of
January 31, 2001. The Company did not make the payments required under the
Initial Notes and therefore events of default occurred. In accordance with the
provisions of the Initial Notes, all outstanding amounts become immediately due
and payable. Notwithstanding the foregoing, HR, RH and VXM had agreed in writing
to extend the maturity of the Initial Notes until April 6, 2001. On April 4,
2001, the Company paid all of the outstanding obligations under the Initial
Notes with part of the proceeds from the VXM Loan discussed in Note 9.

     On February 9, 2001, VXM made a loan to the Company in the amount of
$750,000, as evidenced by a promissory note made by the Company in favor of VXM
(the "February Note"). On March 7, 2001, VXM made a loan to the Company in the
amount of $850,000, as evidenced by a promissory note made by the Company in
favor of VXM (the "March Note" and, together with the February Note,
collectively, the "Subsequent Notes"). Interest accrued under the Subsequent
Notes at a fixed annual rate of 12% and was due and payable on maturity. The
Subsequent Notes each had a maturity date of April 6, 2001. On April 4, 2001,
the Company paid all of the outstanding obligations under the Subsequent Notes
with part of the proceeds of the VXM Loan discussed in Note 9.

4. BUSINESS ACQUISITIONS AND PRO FORMA RESULTS OF OPERATIONS

  Business Acquisitions

     Acquisitions and the method of payment are summarized as follows (dollars
in thousands):

<TABLE>
<CAPTION>
                                                                          COMMON
                               LEASED                              CASH   STOCK    LIABILITIES   TOTAL    GOODWILL
TRANSACTION DESCRIPTION       OR OWNED   BUSINESS     LOCATION     PAID   ISSUED    INCURRED      COST    RECORDED      MONTH
-----------------------       --------   --------   ------------   ----   ------   -----------   ------   --------   ------------
<S>                           <C>        <C>        <C>            <C>    <C>      <C>           <C>      <C>        <C>
Stock of Leased Special
  Purpose Entities(1).......   Leased      ALF           Various   $ 32    $--       $4,576      $4,608     $--      October 2000
Stock of Leased Special
  Purpose Entity(1).........   Leased      ALF      Anderson, IN     88     --       $  146      $  234      --        March 2001
                                                                   ----              ------      ------
                                                                   $120              $4,722      $4,842
                                                                   ----              ------      ------
</TABLE>

---------------
(1) Represents the acquisition under a purchase option agreement in which the
    Company had the right to acquire the stock of the Operator/Lessee of managed
    facilities.

     In Fiscal 2001, the Company exercised its purchase options and acquired the
equity interests of seven special purpose entities ("SPEs"), which were formed
to lease and operate certain assisted living facilities. The primary asset of
each of the SPEs is the leasehold interest in the assisted living facility. For
six of the SPEs, the Company borrowed $4,678,000 to pay the aggregate purchase
price, as evidenced by two promissory notes payable to the lessor at an annual
interest rate of 12% and 14%, respectively. Interest only is payable monthly for
four years, at which time principal and interest is payable monthly based on a
four-year amortization period. For one SPE

                                        8
<PAGE>   10
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

(Anderson, IN), the Company borrowed $146,000 to pay the purchase price as
evidenced by a promissory note payable to the seller at an annual interest rate
of 10%. Principal and accrued interest are due on June 30, 2001. In a
simultaneous transaction, the landlord for the Anderson property agreed to
terminate the lease and lease guarantees and release the Company from its
obligations under this lease.

     These facilities were developed and previously managed by the Company. The
total cost of $4,842,000 for Fiscal 2001 (including prior purchase option
deposits of $443,000) has been allotted to the assets acquired and liabilities
assumed of the acquired entities, based on estimated fair values, as follows
(dollars in thousands):

<TABLE>
<CAPTION>
                                                               2001
                                                              ------
<S>                                                           <C>
Current assets (less cash acquired of $264).................  $  691
Property and equipment......................................      24
Leasehold interests and other intangibles...................   4,720
Other assets................................................      --
Current liabilities.........................................    (917)
Long-term liabilities.......................................     (76)
Loss on termination of lease................................     400
                                                              ------
                                                              $4,842
                                                              ======
</TABLE>

     The following unaudited summary, prepared on a pro forma basis, combines
the results of operations of acquired and divested businesses with those of the
Company as if the acquisitions and divestitures had been consummated as of the
beginning of the respective periods and after considering the impact of certain
adjustments such as: amortization of goodwill, depreciation on assets acquired,
interest on acquisition financing and lease payments on the leased facility (in
thousands of dollars except EPS). The pro forma results include seven businesses
acquired in December 1999, six businesses acquired in October 2000, the
divestiture of the NHP facilities in December 2000, the divestiture of the
Anderson, IN property in March 2001, and the divestiture of the Missouri
operations in January 2000.

<TABLE>
<CAPTION>
                                                          NINE MONTHS ENDED
                                                              MARCH 31,
                                                         --------------------
                                                           2001        2000
                                                         --------    --------
<S>                                                      <C>         <C>
Revenue................................................  $ 39,485    $ 32,502
Expenses...............................................    63,334      45,758
                                                         --------    --------
Loss before extraordinary items........................   (23,849)    (13,256)
Loss before extraordinary items per common share.......      (.70)       (.39)
</TABLE>

     The unaudited pro forma results are not necessarily indicative of what
actually might have occurred if the acquisitions and divestitures had been
completed as of July 1, 2000 and 1999, respectively. In addition, they are not
intended to be a projection of future results of operations.

5. LOSS PER SHARE

     Loss per share is computed using the weighted average number of common
shares outstanding. For the three and nine-month periods ended March 31, 2001
and 2000, common equivalent shares from stock options and warrants are excluded
from the computation, as their effect is anti-dilutive.

6. CHANGES IN CONTROL

     On July 31, 2000, the Holders (as defined in Note 2) purchased the
Debentures (as defined in Note 2) at par in an aggregate principal amount equal
to $14,000,000. The Debentures were purchased in accordance with the terms and
conditions of three Purchase Agreements dated as of June 30, 2000 between the
Company and each of

                                        9
<PAGE>   11
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

the Holders. The Purchase Agreements and the form of the Debentures were filed
as exhibits to the Company's Current Report on Form 8-K dated June 30, 2000.

     On April 4, 2001, the Company paid the Holders all of the outstanding
obligations under the Debentures with part of the proceeds of the VXM Loan
discussed in Note 9. Upon payment of the Debentures, the Holders' rights to
convert the Debentures into approximately 17%-24% of the issued and outstanding
Common Stock of the Company were automatically extinguished.

     The Holders and IPC Advisors S.a.r.l, a Luxembourg Company may be deemed to
be an affiliated group within the meaning of Section 13 (d)(3) of the Exchange
Act. In December 1999, IPC acquired 49.8% of the issued and outstanding shares
of Common Stock of the Company. As a result of the foregoing transaction and
certain open market purchases, IPC presently beneficially owns 18,212,100 shares
of Common Stock of the Company, representing approximately 53.3% of the
outstanding shares of Common Stock of the Company. Pursuant to Schedule 13D
(Amendment No. 3) filed with the SEC and dated February 16, 2001, prior to
retirement of the Debentures, on a combined basis, IPC and the Holders (directly
or indirectly) were deemed to beneficially own 61.2% of the Common Stock of the
Company.

     On November 6, 2000, IPC and the Company, based on the considerations of a
special committee of certain of the independent directors of the Board of
Directors of the Company (the "Special Committee"), entered into a letter
agreement (the "Letter Agreement") pursuant to which IPC agreed to consider
making an offer of $1.00 per common share in cash for the entire equity interest
in the Company not already owned by IPC, subject to the completion of due
diligence satisfactory to IPC in its sole discretion, and to the negotiation and
execution of mutually satisfactory definitive documentation (the "Proposed
Offer").

     Under the Letter Agreement, in consideration of HR, RH and VXM's
willingness to make loans to the Company in the aggregate amount of $8,000,000
(the "Initial Notes"), and in further consideration of IPC incurring time and
expense in conducting due diligence, the Company agreed to amend Section 6.8 of
the Subscription Agreement dated as of October 8, 1999 between the Company and
IPC to permit IPC to make the Proposed Offer. In addition, the Company agreed,
subject to the fiduciary duties of the Company's board of directors, not to
solicit, participate in discussions or negotiations concerning or furnish
information to any person other than IPC until January 15, 2001. In the event
the Company received an unsolicited request for information or an unsolicited
acquisition proposal, if the Special Committee determined in its good faith
judgment (after receiving the advice of counsel) that if the Company failed to
participate in such discussions or negotiations with or provide such information
to, the person making the acquisition proposal or requesting information, there
was a reasonable probability that the Board of Directors would be in violation
of its fiduciary duties under applicable law, then the Company was required to
notify IPC and keep IPC fully informed of the status and details of any such
acquisition proposal or inquiry. If such an acquisition proposal would have been
approved by the Board of Directors prior to January 31, 2000, the Company was
required to reimburse IPC for its documented costs and expenses (including,
without limitation, reasonable attorneys' fees), in connection with the
transactions contemplated by the Letter Agreement, up to an aggregate of
$500,000.

     The Special Committee received an opinion dated November 6, 2000 from
Raymond James & Associates, Inc., its financial advisors, to the effect that,
subject to certain assumptions, limitations and qualifications, cash
consideration of $1.00 per share was fair to the stockholders of the Company
from a financial point of view. In addition, the Special Committee of the Board
of Directors of the Company confirmed that it had determined that the
consideration of $1.00 per share in cash for each share of the Company's
outstanding common stock not owned by IPC and its affiliates was advisable and
fair to the stockholders of the Company and, subject to negotiation of
definitive agreements relating to the Proposed Offer acceptable to the Special
Committee, the Special Committee would recommend that the Board of Directors of
the Company approve and adopt such definitive agreements and the Special
Committee would then recommend that stockholders of the Company tender into
and/or vote to approve and adopt such definitive agreements as applicable, and
once recommended, the Special Committee would not modify, amend or withdraw such
recommendations, unless the Special
                                        10
<PAGE>   12
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Committee determined, in its good faith judgment (after receiving the advice of
counsel), that if the Special Committee failed to modify, amend or withdraw such
recommendations, there was a reasonable probability that the Special Committee
would be in violation of its fiduciary duties under applicable law. In the
Letter Agreement, the Company acknowledged that IPC would not be under any
obligation to make such Proposed Offer.

     On December 5, 2000, IPC advised the Company and the Special Committee that
IPC would not proceed with the Proposed Offer. Accordingly, the non-solicitation
provisions of the Letter Agreement terminated.

     On November 15, 2000, the Company received a complaint filed in the Court
of Chancery of the State of Delaware. The complaint was filed by a stockholder
of the Company and alleges, among other things, that the Letter Agreement and
the Proposed Offer that IPC would be willing to consider, as described in the
Letter Agreement, are unfair to the public stockholders of the Company because
the transaction would purportedly deny the Company's stockholders the right to
share proportionately in the true value of the Company's business and future
prospects and, further, that the directors of the Company have breached their
fiduciary duties to the stockholders of the Company. The complaint seeks
alternative forms of relief including, (i) preliminary and permanently enjoining
the Defendants from proceeding with, consummating or closing a proposed
transaction with IPC, (ii) in the event that a proposed transaction is
consummated, rescinding it and setting it aside, (iii) awarding rescissory
and/or compensatory damages in an unspecified amount, and (iv) awarding the
Plaintiff the costs of the action including attorneys' and experts' fees. The
Plaintiff has also requested that the action be maintained as a class action and
that the Plaintiff be certified as the class representative. The Company has
evaluated the complaint and believes it is without merit and intends to defend
it vigorously. On December 7, 2000, the Plaintiff's counsel granted Defendants
an indefinite extension of time to move, answer or otherwise respond to the
complaint. There has been no further action in connection with the pending
complaint.

     See Note 6 for other loans made by the Holders to the Company.

7. LOSS ON FINANCIAL RESTRUCTURING

     The loss on financial restructuring includes losses incurred on the
termination of leases described in Note 8 ($2,836,000), costs incurred in
connection with financing efforts and rent restructuring, including costs
incurred for employee terminations resulting from the restructuring
($3,075,000), and a reserve against notes receivable ($670,000).

8. RENT RESTRUCTURING

     Many of the facilities operated or managed by the Company are leased under
long-term operating leases with real estate investment trusts, or REITs (the
landlords), with annual lease obligations aggregating approximately $18,550,000
(excluding the divested NHP and Anderson, IN operations) at March 31, 2001. The
lease documents with all of the REITs contain certain financial and/or
performance covenants and other restrictions which, unless waived in writing by
the applicable REIT, (i) require the Company, on a consolidated basis, to meet
certain financial covenants, such as a tangible net worth covenant, a current
ratio, a debt to equity ratio and/or minimum cash requirements (measured on a
quarterly and year end basis), (ii) require the tenants, on a facility basis, to
meet certain rent coverage ratios (measured on a quarterly and year-end basis),
(iii) require the Company and/or the tenants to maintain certain escrow funds,
(iv) limit, among other things, the ability of the Company, certain of its
subsidiaries and/or the tenants to borrow additional funds, encumber assets,
dispose of assets or engage in mergers or other business combinations, (v)
cross-default certain of the Company's other obligations and (vi) prohibit the
Company and/or the tenants from operating competing facilities within a
designated radius of existing facilities. The Company is not in compliance with
the financial covenants set forth in clauses (i) and (ii) at March 31, 2001
under its leases with four of its landlords. Except as discussed below, the
Company has not received any default notices from any of the affected landlords
specifically with respect to the Company's failure to comply with the financial
covenants for the quarter ended March 31, 2001. However, there

                                        11
<PAGE>   13
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

can be no assurance that the Company will not receive such notices or that the
landlords will not take action to enforce their rights and remedies under the
leases.

     On November 15, 2000, the Company received notices of events of default
from Meditrust with respect to the failure to meet certain financial covenants
under the Meditrust leases at September 30, 2000 and the failure to timely
complete construction of the facility located in Chesterfield, VA. The Meditrust
notices stated that Meditrust had elected to apply the cash collateral deposits
from nine of the 12 Outlook Pointe facility leases in the aggregate amount of
$1,187,988 towards repayment of two promissory notes made by TC Realty Holding
Company in favor of Meditrust in the aggregate principal amount of $1,420,000,
which notes had a maturity date of October 1, 2000 (collectively, the
"Xenia/Lima Notes"). The proceeds from the Xenia/Lima Notes were used to provide
working capital for the Xenia and Lima Outlook Pointe facilities. On November
15, 2000, Meditrust also elected to apply the cash collateral deposits from two
more of the 12 Outlook Pointe facility leases in the aggregate amount of
$174,898 towards the prepayment of a promissory note made by Black Box Holding
Company in favor of Meditrust in the principal amount of $362,225, which note
had a maturity date of January 30, 2001 (the "Lewisburg Note"). The proceeds
from the Lewisburg Note were used to provide working capital for the Lewisburg
Outlook Pointe facility. Finally, on November 15, 2000, Meditrust elected to
apply the cash collateral from the remaining Outlook Pointe facility lease in
the amount of $108,821 towards the prepayment of a promissory note made by the
Company and IPC in favor of Meditrust in the principal amount of $7,811,054.

     On January 30, 2001, an additional note made by TC Realty Holding Company
in favor of Meditrust in the principal amount of $517,464 (the "Chippewa Note")
came due and payable and an additional note made by Black Box Holding Company in
the principal amount of $517,064 (the "Dillsburg Note") came due and payable.
The proceeds from the Chippewa Note and the Dillsburg Note were used to provide
working capital for the Chippewa and Dillsburg Outlook Pointe facilities.

     On February 9, 2001, two additional notes made by TC Realty Holding Company
in favor of Meditrust in the principal amounts of $948,500 and $813,751,
respectively (the "Pocahontas/Blytheville Notes") came due and payable. The
proceeds from the Pocahontas/Blytheville Notes were used to provide working
capital for the Pocahontas and Blytheville facilities (hereafter, the Xenia/Lima
Notes, the Lewisburg Note, the Chippewa Note, the Dillsburg Note and the
Pocahontas/Blytheville Notes shall be collectively referred to as the "Notes").

     Under certain Working Capital Assurance Agreements executed by the Company
in favor of Meditrust, the Company is obligated to advance such amounts as are
necessary to ensure that the obligations under the Notes are paid in a timely
fashion. Meditrust may seek payment from the Company for the outstanding
principal balance of the Notes, together with default interest and late charges,
at any time. To date, Meditrust has not commenced any legal action against the
Company for its obligations under the Working Capital Assurance Agreements;
however, there can be no assurance that Meditrust will not commence action to
enforce its rights and remedies against the Company.

     As of December 2000, the Company has elected to withhold rent payments from
five of its six landlords. To date, the Company has negotiated, and continues to
negotiate, with the affected landlords to obtain covenant modifications,
purchase options, rent reductions, rent abatements, rent deferrals and/or
facility transfers that reflect the current economics of the Company's
facilities. The negotiations are primarily related to newly constructed
facilities that are in various stages of lease-up and require significant
capital to reach maturity.

     With respect to the five affected landlords, the non-payment of rent
constitutes monetary defaults under the Company's facility leases, and provide
the landlords with various remedies, including, but not limited to, termination
of the leases. These monetary defaults could trigger defaults under other leases
with the same landlord or with the Company's other landlords or lenders.
Although the Company has received notices of default from the affected
landlords, to date only NHP has commenced legal action and this action has been
settled and dismissed as discussed below. Notwithstanding the foregoing, there
can be no assurance that the affected

                                        12
<PAGE>   14
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

landlords will not take action to enforce their rights and remedies against the
Company for its defaulted obligations.

     As a result of the Company's failure to pay full rent to NHP under the
Company's master leases for the month of December 2000, NHP commenced legal
action against the Company to enforce its rights and remedies under the leases.
On January 12, 2001, the Company and NHP reached agreement and entered into a
Master Termination and Release Agreement under which (i) NHP agreed to terminate
the Company's master leases and lease guarantees as of December 31, 2000 with
respect to 10 operating properties and one undeveloped property located in
Akron, OH; (ii) NHP agreed to release the Company from its obligations under the
leases, the guarantees and the other lease documents, (iii) the Company agreed
to transfer to NHP all right, title and interest to the 11 properties, including
certain security deposits maintained in favor of NHP, (iv) NHP agreed to dismiss
all legal action against the Company, and (v) the Company agreed to manage the
10 operating properties for an interim period of time. The operating properties
are located in Bristol, Johnson City and Murfreesboro, TN; Pensacola and
Tallahassee, FL; Lakemont Farms and York, PA; Heritage Lakes, OH; Hagerstown,
MD; and Teay's Valley, WV. The aggregate annual lease obligation for the 11
properties was approximately $7,000,000.

     In a similar transaction, Health Care Property Investors, Inc. ("HCPI"),
the landlord for the Company's facility located in Anderson, IN, reached an
agreement with the Company and entered into an Agreement for Termination of
Lease, Guaranties, and Ancillary Documents under which (i) HCPI agreed to
terminate the Company's lease agreement and guarantees as of March 31, 2001 for
the Anderson property, (ii) HCPI agreed to release the Company from its
obligations under the lease, the guarantees and other lease documents, and (iii)
the Company agreed to transfer to a designated new operator all right, title,
and interest to the Anderson facility. The annual lease obligation for this
property was approximately $520,000. In addition, subject to certain conditions
precedent, HCPI has agreed to transfer the Jackson, TN, facility to a third
party operator on or before November 1, 2001. The annual lease obligation for
the Jackson facility is approximately $470,000.

     The remaining landlords have demanded payment of the outstanding rent and
one landlord has elected to apply $257,000 under certain letters of credit
maintained in favor of the landlord by the Company towards the Company's rent
obligations.

     Although the Company believes it will be able to negotiate definitive
agreements with the five affected landlords, there can be no assurance that the
Company will be able to do so until such time as the applicable parties have
entered into definitive documents and all conditions to closing have been
satisfied or waived. Further, unless and until closing occurs, there can be no
assurance that the affected landlords will not take legal action to enforce
their rights and remedies against the Company with respect to the defaulted
obligations. To date, the Company recorded a loss on financial restructuring in
the amount of $6,581,000 at March 31, 2001 (See Note 7 to the financial
statements).

9. IMPAIRMENT OF LONG-LIVED ASSETS

     In conjunction with the financial restructuring (described in Note 7 and
8), the Company has evaluated the impact of the economic environment on the
current value of its long-lived assets. As a result, the Company applied
Statement of Financial Accounting Standards No. 121 in the third quarter of
2001. In accordance with SFAS No. 121, the Company estimated the future cash
flows expected to result from those assets to be held and used. The Company
analyzed its estimated future cash flows on an individual facility basis to
determine whether there is a potential asset impairment, and whether expected
future cash flows used in measuring assets are impaired. As a result of the
analysis performed, the Company recorded an impairment charge of $1,167,000.

                                        13
<PAGE>   15
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

10. SUBSEQUENT EVENT

     On April 4, 2001, HR, RH and VXM made a loan to the Company in the amount
of $27,853,524 (the "VXM Loan"), under the terms and conditions set forth in a
loan agreement among the Company, HR, RH and VXM (the "VXM Loan Agreement"). The
VXM Loan accrues interest at a fixed annual rate of 12% and has a maturity date
of August 4, 2001. On April 4, 2001, the Company received its first advance
under the VXM Loan in an amount to equal $26,003,524 and used the proceeds to
satisfy the obligations under the Debentures, the Initial Notes and the
Subsequent Notes. The remaining approximately $1 million balance from the first
advance was used by the Company for working capital. The Company received the
second advance under the VXM Loan in May 2001 in an amount equal to $750,000 and
anticipates receiving the final advance in June 2001 in an amount equal to $1.1
million. The proceeds from these advances will be used for working capital. The
lender's VXM obligations to fund the remaining advances is subject to the
Company's compliance with the terms and conditions of the VXM Loan Agreement and
the documents related thereto.

     The VXM Loan is secured by a pledge of the stock of certain of the
Company's subsidiaries (collectively, the "Subsidiaries") pursuant to a Stock
Pledge Agreement dated as of April 4, 2001 (the "Stock Pledge Agreement"). In
addition the Company, the Subsidiaries, HR, RH, VXM and Heller entered into a
Subordination Agreement dated as of April 4, 2001 (the "Subordination
Agreement"). Under the Subordination Agreement, HR, RH and VXM (collectively,
the "Junior Lender") agreed to subordinate their respective rights and interests
in and to the "Junior Debt" and the "Junior Loan Documents" (as such terms are
defined in the Subordination Agreement) in favor of Heller, including the Junior
Lender's rights under the Stock Pledge Agreement and the VXM Loan Agreement. The
Junior Lender has agreed to refrain from taking any action or from receiving any
payment with respect to the Junior Debt and the Junior Loan Documents until the
Company's obligations to Heller are paid in full. As of March 31, 2001, the
Company's outstanding obligations to Heller include (1) a $37,000,000 loan
having a maturity date of December 31, 2001 and (2) the Company's $12,000,000
revolving line of credit, having a maturity date of July 29, 2002 (collectively,
the "Heller Obligations").

  Reverse Stock Split

     On May 3, 2001, the Company's Board of Directors unanimously approved, and
recommended that the Company's stockholders approve at the Company's next annual
meeting (the "Annual Meeting"), an amendment to Article Five of the Company's
Certificate of Incorporation (the "Reverse Stock Split Amendment") to effect a
reverse stock split (the "Reverse Stock Split") of the Company's issued and
outstanding shares of Common Stock, whereby each twenty (20) shares of Common
Stock (the "Existing Common Stock") outstanding as of the close of business on
the Effective Date (as defined below) will automatically be reclassified and
converted into one (1) share of Common Stock (the "New Common Stock"). The
Reverse Stock Split will not change the number of authorized shares of Common
Stock or the par value of the shares of Common Stock. No fractions of shares of
New Common Stock will be issued in connection with the Reverse Stock Split. In
lieu thereof, each stockholder of record otherwise entitled to a fraction of a
share of New Common Stock will receive one whole share of New Common Stock.
Share and per share information in the financial statements does not give effect
to the reverse stock split.

     If approved by the stockholders at the Annual Meeting, the Reverse Stock
Split will be accomplished by filing a Restated Certificate of Incorporation
with the Delaware Secretary of State in accordance with Section 245 of the
Delaware General Corporation Law (the "DGCL"). The Company plans to file the
Restated Certificate as soon as practicable if the Reverse Stock Split Proposal
is approved at the Annual Meeting or at any adjournment thereof. Under the DGCL,
the Restated Certificate will become effective on the date of filing, unless the
Company provides otherwise (the "Effective Date"). The Board of Directors
reserves the right not to file the Restated Certificate until such time as the
Board of Directors determines that it is in the best interests of the Company
and its stockholders. The Board of Directors also reserves the right to abandon
the Reverse Stock Split

                                        14
<PAGE>   16
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

before or after the Annual Meeting and prior to the close of business on the
Effective Date if for any reason the Board of Directors deems it advisable to do
so.

  Recapitalization Plan

     On May 8, 2001, the Company announced that its board of directors approved
a recapitalization plan, including a rights offering to the Company's
stockholders in an amount of approximately $55.0 million (the "Rights
Offering"). Proceeds of the recapitalization are expected to be applied to (i)
complete restructuring of the Company's lease obligations, (ii) repay short-term
debt, (iii) provide working capital and (iv) pay transaction costs. In order to
affect the Rights Offering, the Company's stockholders will be asked to approve
the Reverse Stock Split at the Company's Annual Meeting (see "Recent
Developments"). IPC, the Company's 53% stockholder, has agreed to vote in favor
of the recapitalization plan and the Reverse Stock Split Amendment at the
Company's Annual Meeting.

     Under the Rights Offering, the Company's existing stockholders will receive
pro rata the right to purchase (i) secured convertible debentures (the
"Debentures") having a maturity of five years and bearing interest at a rate of
12% per annum, payable in cash or in kind at the Company's option and/or (ii) a
substantially equivalent security. The Debentures or the equivalent security
will be secured by (i) subordinated security interests in certain of the
Company's assets and/or (ii) the pledge of stock of certain of the Company's
subsidiaries. The Debentures will be convertible into shares of Common Stock of
the Company at a price of $6.00 per share (on a post-Reverse Stock Split basis).
The Company will have the right to prepay the Debentures at any time, and will
have the right to require conversion of the Debentures if the price per share of
the Common Stock exceeds $9.00 (on a post-Reverse Stock Split basis) for each of
30 consecutive trading days on the American Stock Exchange.

     Common stockholders who participate in the Rights Offering and exercise
their rights in full will preserve their proportionate equity ownership and
voting power of the Company on a fully diluted basis. Stockholders who do not
exercise their rights in full may experience a decrease in their proportionate
equity ownership and voting power. The rights issuable in connection with the
Rights Offering will be transferable. In addition, all participating
stockholders will have the right, but not the obligation, to purchase their pro
rata share of any portion of the Rights Offering not subscribed for the other
Company stockholders. IPC has agreed to subscribe for rights in an amount
sufficient to complete the recapitalization plan.

     In the interim, the Company has entered into a non-binding letter agreement
with IPC, under which IPC has agreed to provide the Company with interim
financing in an amount of up to approximately $54,000,000 (the "Bridge Loan").
IPC's commitment to fund the Bridge Loan is subject to the Company reaching
satisfactory agreements with its landlords to complete the Company's lease
restructuring plan. The Bridge Loan will have a four-month term and bear
interest at a rate of 12% per annum. Interest will accrue and will be payable
upon maturity. Subject to necessary approvals, the Bridge Loan will be secured
by (i) subordinated security interests in certain of the Company's encumbered
assets and/or (ii) the pledge of stock of certain of the Company's subsidiaries.
The Company will use the proceeds of the Bridge Loan, in part, to complete its
lease restructuring. The Company continues to be in negotiations with certain of
its landlords to obtain covenant waivers, purchase options, rent reductions,
rent abatements and/or rent deferrals in consideration for certain payments to
the landlords. The remainder of the Bridge Loan will be used to (i) retire
existing short-term debt owed to IPC and (ii) provide working capital. As
consideration for providing the Bridge Loan, the Company will pay a commitment
fee in the amount of $1.08 million.

10. SEGMENT REPORTING

     In Fiscal 2001 and 2000, the Company had three primary reportable segments:
(i) Resident Services which includes all assisted living and independent living
services, and the management of assisted living facilities, (ii) Patient
Services which includes skilled nursing services, home health services, and
medical rehabilitation services, and (iii) Development, General and
Administrative. No other individual business segment exceeds the
                                        15
<PAGE>   17
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

10% quantitative thresholds of SFAS No. 131. The Company discontinued
development activities in the third quarter of its fiscal year ended June 30,
1999.

     Balanced Care Corporation management evaluates the performance of its
operating segments on the basis of income from continuing operations before
non-recurring items (representing provisions for losses on development
activities and severance agreements, loss on financial restructuring, loss on
impairment of long-lived assets, other non-recurring operating charges, and
gains and losses on disposition of assets, including purchase options), lease
expense, interest (net), taxes, depreciation and amortization.

<TABLE>
<CAPTION>
                                                            QUARTER ENDED MARCH 31, 2001
                                               ------------------------------------------------------
                                               RESIDENT    PATIENT      GENERAL AND
                                               SERVICES    SERVICES    ADMINISTRATIVE    CONSOLIDATED
                                               --------    --------    --------------    ------------
<S>                                            <C>         <C>         <C>               <C>
Revenues.....................................  $ 11,150     $2,335        $    51          $ 13,536
Facility Operating expenses..................     7,987      1,952             --             9,939
                                               --------     ------        -------          --------
Contribution Margin..........................     3,163        383             51             3,597
General and administrative expenses..........        --         --          2,526             2,526
Provision for losses under shortfall funding
  agreements.................................     1,655         --             --             1,655
                                               --------     ------        -------          --------
Income (loss) before non-recurring items,
  lease expense, interest (net), taxes,
  depreciation and amortization..............  $  1,508     $  383        $(2,475)         $   (584)
                                               ========     ======        =======          ========
</TABLE>

<TABLE>
<CAPTION>
                                                              QUARTER ENDED MARCH 2000
                                               ------------------------------------------------------
                                               RESIDENT    PATIENT      GENERAL AND
                                               SERVICES    SERVICES    ADMINISTRATIVE    CONSOLIDATED
                                               --------    --------    --------------    ------------
<S>                                            <C>         <C>         <C>               <C>
Revenues.....................................  $  8,631     $3,385        $    54          $ 12,070
Facility Operating expenses..................     5,625      2,866             --             8,491
                                               --------     ------        -------          --------
Contribution Margin..........................     3,006        519             54             3,579
General and administrative expenses..........        --         --          2,298             2,298
Provision for losses under shortfall funding
  agreements.................................       700         --             --               700
                                               --------     ------        -------          --------
Income (loss) before non-recurring items,
  lease expense, interest (net), taxes,
  depreciation and amortization..............  $  2,306     $  519        $(2,244)         $    581
                                               ========     ======        =======          ========
</TABLE>

<TABLE>
<CAPTION>
                                                          NINE MONTHS ENDED MARCH 31, 2001
                                               ------------------------------------------------------
                                               RESIDENT    PATIENT      GENERAL AND
                                               SERVICES    SERVICES    ADMINISTRATIVE    CONSOLIDATED
                                               --------    --------    --------------    ------------
<S>                                            <C>         <C>         <C>               <C>
Revenues.....................................  $ 35,820     $7,053        $   153          $ 43,026
Facility Operating expenses..................    26,358      5,788             --            32,146
                                               --------     ------        -------          --------
Contribution Margin..........................     9,462      1,265            153            10,880
General and administrative expenses..........        --         --          7,809             7,809
Provision for losses under shortfall funding
  agreements.................................     5,519         --             --             5,519
                                               --------     ------        -------          --------
Income (loss) before non-recurring and
  extraordinary items, lease expense,
  interest (net), taxes, depreciation and
  amortization...............................  $  3,943     $1,265        $(7,656)         $ (2,448)
                                               ========     ======        =======          ========
Total Assets.................................  $102,080     $3,637        $ 3,971          $109,688
                                               ========     ======        =======          ========
</TABLE>

                                        16
<PAGE>   18
                   BALANCED CARE CORPORATION AND SUBSIDIARIES

           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

<TABLE>
<CAPTION>
                                                         NINE MONTHS ENDED MARCH 31, 2000
                                              ------------------------------------------------------
                                              RESIDENT    PATIENT      GENERAL AND
                                              SERVICES    SERVICES    ADMINISTRATIVE    CONSOLIDATED
                                              --------    --------    --------------    ------------
<S>                                           <C>         <C>         <C>               <C>
Revenues....................................  $ 22,833    $25,586        $   592          $ 49,011
Facility Operating expenses.................    14,584     22,457             --            37,041
                                              --------    -------        -------          --------
Contribution Margin.........................     8,249      3,129            592            11,970
General and administrative expenses.........        --         --          7,466             7,466
Provision for losses under shortfall funding
  agreements................................     2,250         --             --             2,250
                                              --------    -------        -------          --------
Income (loss) before non-recurring and
  extraordinary items, lease expense,
  interest (net), taxes, depreciation and
  amortization..............................  $  5,999    $ 3,129        $(6,874)         $  2,254
                                              ========    =======        =======          ========
Total Assets................................  $102,295    $ 2,996        $13,049          $118,340
                                              ========    =======        =======          ========
</TABLE>

                                        17
<PAGE>   19

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

     The following discussion and analysis addresses the Company's results of
operations on a historical basis for the quarters ended March 31, 2001 and 2000
and liquidity and capital resources of the Company. This information should be
read in conjunction with the Company's consolidated financial statements, and
related notes thereto, contained elsewhere in this report. This report contains,
in addition to historical information, forward-looking statements that involve
risks and uncertainties. The Company's actual results could differ materially.
Factors that could cause or contribute to such differences include, but are not
limited to, those disclosed in the "Risk Factors" section in the Company's
Annual Report on Form 10-K for the year ended June 30, 2000.

OVERVIEW

     The Company was incorporated in April 1995 and utilizes assisted living
facilities as the primary service platform to provide an array of healthcare and
hospitality services, including preventive care and wellness, medical
rehabilitation, Alzheimer's/dementia care and, in certain markets, extended
care.

     The Company has grown primarily by designing, developing, operating and
managing its Outlook Pointe(R) signature series assisted living facilities and
through acquisitions. The following table summarizes the Company's operating
facilities at March 31, 2001 and 2000 (excluding the Company's former Missouri
facilities, the NHP facilities and the Anderson, IN facility):

<TABLE>
<CAPTION>
                                                                         MARCH 31,
                                            -------------------------------------------------------------------
                                                          2001                               2000
                                            --------------------------------   --------------------------------
                                            OWNED   LEASED   MANAGED   TOTAL   OWNED   LEASED   MANAGED   TOTAL
                                            -----   ------   -------   -----   -----   ------   -------   -----
<S>                                         <C>     <C>      <C>       <C>     <C>     <C>      <C>       <C>
Developed Assisted Living Facilities......   12        6       22       40      12        1       24       37
Acquired Assisted Living Facilities.......    5        9       --       14       5        8       --       13
Skilled Nursing Facilities................   --        3       --        3      --        3       --        3
                                             --       --       --       --      --       --       --       --
                                             17       18       22       57      17       12       24       53
                                             ==       ==       ==       ==      ==       ==       ==       ==
</TABLE>

     On January 12, 2001, the Company and NHP entered into a Master Termination
and Release Agreement under which (i) NHP agreed to terminate the Company's
master leases and lease guarantees as of December 31, 2000 with respect to 10
operating properties and one undeveloped property located in Akron, OH, (ii) NHP
agreed to release the Company from its obligations under the leases, the
guarantees and the other lease documents, (iii) the Company agreed to transfer
to NHP all right, title and interest to the 11 properties, including certain
security deposits maintained in favor of NHP, (iv) NHP agreed to dismiss all
legal action against the Company, and (v) the Company agreed to manage the 10
operating properties for an interim period of time. The operating properties are
located in Bristol, Johnson City and Murfreesboro, TN; Pensacola and
Tallahassee, FL; Lakemont Farms and York, PA; Heritage Lakes, OH; Hagerstown,
MD; and Teay's Valley, WV. These 10 facilities have a resident capacity of 772.
The aggregate annual lease obligation for the 11 properties was approximately
$7,000,000.

     In a similar transaction, Health Care Property Investors, Inc. ("HCPI"),
the landlord for the Company's facility located in Anderson, IN, reached an
agreement with the Company and entered into an Agreement for Termination of
Lease, Guaranties, and Ancillary Documents under which (i) HCPI agreed to
terminate the Company's lease agreement and guarantees as of March 31, 2001 for
the Anderson, IN property, (ii) HCPI agreed to release the Company from its
obligations under the leases, the guarantees and other lease documents, and
(iii) the Company agreed to transfer to a designated new operator all right,
title, and interest to the Anderson, IN property. The annual lease obligation
for this property was approximately $450,000.

     As of March 31, 2001, the Company owned, leased or managed 54 assisted
living communities (excluding the NHP and Anderson facilities) and three skilled
nursing facilities and had one assisted living community under development. The
Company's operations are located in Pennsylvania, Arkansas, Virginia, Ohio,
North Carolina, Tennessee, West Virginia, Florida, Maryland and Indiana. These
operating facilities have a capacity for 3,758 assisted living residents, 169
skilled nursing patients and 86 independent living residents.

                                        18
<PAGE>   20

     In addition to the 40 Outlook Pointe(R) signature series assisted living
facilities opened as of March 31, 2001 (excluding the NHP and Anderson
facilities) the Company has a signed agreement to manage one additional assisted
living facility currently in the final stages of construction. This facility
under construction is expected to open in August 2001 and will conclude the
development activity initiated four years ago.

     The Company generates revenue from three primary sources: resident
services, patient services and management fees. Resident services include all
revenues earned from services provided to assisted living facility residents
except revenues for therapies and home health care services provided by the
Company's licensed agencies which were, prior to the discontinuation of these
services in the September 30, 1999 quarter, included in patient services
revenues. Patient services revenues include charges for room and board,
rehabilitation therapies, pharmacy, medical supplies, sub acute care, home
health, and other programs provided to patients in skilled nursing facilities as
well as rehabilitation and home health services provided to assisted living
facility residents prior to discontinuation of these services. Management fees
are earned for managing assisted living facilities for other owners or lessees.
As a result of strategic changes made in the prior fiscal year including the
divestiture of the Company's Missouri operations, the acquisition of the
operations of developed facilities and the wind-down of development activity,
the mix of the Company's revenues has changed, and revenues from assisted living
resident services represent the predominant component of total revenues.

     The Company classifies its operating expenses into the following
categories: (i) facility operating expenses which include labor, food,
marketing, rehabilitation therapy costs and other direct facility expenses; (ii)
general and administrative expenses, which primarily include corporate office
expenses, regional office expenses, and other overhead costs; (iii) provisions
for losses, which include losses relating to working capital advances made under
shortfall funding agreements; (iv) non-recurring charges; (v) lease expense,
which includes rent for the facilities operated by the Company as well as
corporate office and other rent; and (vi) depreciation and amortization.

RECENT DEVELOPMENTS

  Reverse Stock Split

     On May 3, 2001, the Company's Board of Directors unanimously approved, and
recommended that the Company's stockholders approve at the Company's next annual
meeting (the "Annual Meeting"), an amendment to Article FIFTH of the Company's
Certificate of Incorporation (the "Reverse Stock Split Amendment") to effect a
reverse stock split (the "Reverse Stock Split") of the Company's issued and
outstanding shares of Common Stock, whereby each twenty (20) shares of Common
Stock (the "Existing Common Stock") outstanding as of the close of business on
the Effective Date (as defined below) will automatically be reclassified and
converted into one (1) share of Common Stock (the "New Common Stock"). The
Reverse Stock Split will not change the number of authorized shares of Common
Stock or the par value of the shares of Common Stock. No fractions of shares of
New Common Stock will be issued in connection with the Reverse Stock Split. In
lieu thereof, each stockholder of record otherwise entitled to a fraction of a
share of New Common Stock will receive one whole share of New Common Stock.
Share and per share information in the financial statements does not give effect
to the reverse stock split. The Company intends to hold its Annual Meeting as
soon as practicable, and anticipates that it will be held in July 2001. IPC, the
Company's 53% stockholder, has agreed to vote its share in favor of the Reverse
Stock Split Amendment at the Annual Meeting.

     If approved by the stockholders at the Annual Meeting, the Reverse Stock
Split will be accomplished by filing a Restated Certificate of Incorporation
with the Delaware Secretary of State in accordance with Section 245 of the
Delaware General Corporation Law (the "DGCL"). The Company plans to file the
Restated Certificate as soon as practicable if the Reverse Stock Split Proposal
is approved at the Annual Meeting or at any adjournment thereof. Under the DGCL,
the Restated Certificate will become effective on the date of filing, unless the
Company provides otherwise (the "Effective Date"). The Board of Directors
reserves the right not to file the Restated Certificate until such time as the
Board of Directors determines that it is in the best interests of the Company
and its stockholders. The Board of Directors also reserves the right to abandon
the Reverse Stock Split before or after the Annual Meeting and prior to the
close of business on the Effective Date if for any reason the Board of Directors
deems it advisable to do so.

                                        19
<PAGE>   21

RENT RESTRUCTURING

  Lease Obligations

     Many of the facilities operated or managed by the Company are leased under
long-term operating leases with real estate investment trusts, or REITs, with
annual lease obligations aggregating approximately $18,550,000 (excluding the
NHP and Anderson, IN leases) at March 31, 2001. The lease documents with all of
the REITs contain certain financial and/or performance covenants and other
restrictions which, unless waived in writing by the applicable REIT, (i) require
the Company, on a consolidated basis, to meet certain financial covenants, such
as a tangible net worth covenant, a current ratio, a debt to equity ratio and/or
minimum cash requirements (measured on a quarterly and year end basis), (ii)
require the tenants, on a facility basis, to meet certain rent coverage ratios
(measured on a quarterly and year-end basis), (iii) require the Company and/or
the tenants to maintain certain escrow funds, (iv) limit, among other things,
the ability of the Company, certain of its subsidiaries and/or the tenants to
borrow additional funds, encumber assets, dispose of assets or engage in mergers
or other business combinations, (v) cross-default certain of the Company's other
obligations and (vi) prohibit the Company and/or the tenants from operating
competing facilities within a designated radius of existing facilities. The
Company is not in compliance with the financial covenants set forth in clauses
(i) and (ii) at March 31, 2001 under its leases with four of its landlords.
Except as discussed below, the Company has not received any default notices from
any of the affected landlords specifically with respect to the Company's failure
to comply with the financial covenants for the quarter ended March 31, 2001.
However, there can be no assurance that the Company will not receive such
notices or that the landlords will not take action to enforce their rights and
remedies under the leases.

     On November 15, 2000, the Company received notices of events of default
from Meditrust with respect to the failure to meet certain financial covenants
under the Meditrust leases at September 30, 2000 and the failure to timely
complete construction of the facility located in Chesterfield, VA. The Meditrust
notices stated that Meditrust had elected to apply the cash collateral deposits
from nine of the 12 Outlook Pointe facility leases in the aggregate amount of
$1,187,988 towards repayment of two promissory notes made by TC Realty Holding
Company in favor of Meditrust in the aggregate principal amount of $1,420,000,
which notes had a maturity date of October 1, 2000 (collectively, the
"Xenia/Lima Notes"). The proceeds from the Xenia/Lima Notes were used to provide
working capital for the Xenia and Lima Outlook Pointe facilities. On November
15, 2000, Meditrust also elected to apply the cash collateral deposits from two
more of the 12 Outlook Pointe facility leases in the aggregate amount of
$174,898 towards the prepayment of a promissory note made by Black Box Holding
Company in favor of Meditrust in the principal amount of $362,225, which note
had a maturity date of January 30, 2001 (the "Lewisburg Note"). The proceeds
from the Lewisburg Note were used to provide working capital for the Lewisburg
Outlook Pointe facility. Finally, on November 15, 2000, Meditrust elected to
apply the cash collateral from the remaining Outlook Pointe facility in the
amount of $108,821 towards the prepayment of a promissory note made by the
Company and IPC in favor of Meditrust in the principal amount of $7,811,054.

     On January 30, 2001, an additional note made by TC Realty Holding Company
in favor of Meditrust in the principal amount of $517,464 (the "Chippewa Note")
came due and payable and an additional note made by Black Box Holding Company in
the principal amount of $517,064 (the "Dillsburg Note") came due and payable.
The proceeds from the Chippewa Note and the Dillsburg Note were used to provide
working capital for the Chippewa and Dillsburg Outlook Pointe.

     On February 9, 2001, two additional notes made by TC Realty Holding Company
in favor of Meditrust in the principal amounts of $948,000 and $813,751,
respectively (the "Pocahontas/Blytheville Notes") came due and payable. The
proceeds from the Pocahontas/Blytheville Notes were used to provide working
capital for the Pocahontas/Blytheville Notes were used to provide working
capital for the Pocahontas and Blytheville facilities (hereinafter, the
Xenia/Lima Notes, the Lewisburg Note, the Chippewa Note, the Dillsburg Note and
the Pocahontas/Blytheville Notes shall be collectively referred to as the
"Notes").

     Under certain Working Capital Assurance Agreements executed by the Company
in favor of Meditrust, the Company is obligated to advance such amounts as are
necessary to ensure that the obligations under the Notes are paid in a timely
fashion. Meditrust may seek payment from the Company for the outstanding
principal balance of the Notes, together with default interest and late charges,
at any time. To date, Meditrust has not commenced any

                                        20
<PAGE>   22

legal action against the Company for its obligations under the Working Capital
Assurance Agreements; however, there can be no assurance that Meditrust will not
commence action to enforce its rights and remedies against the Company. No
provision has been made for any loss in connection with this matter.

     As of December 2000, the Company has elected to withhold on rent payments
from five of its six landlords. To date, the Company has negotiated and
continues to negotiate, with the affected landlords to obtain covenant
modifications, purchase options, rent reductions, rent abatements, rent
deferrals and/or facility transfers that reflect the current economics of the
Company's facilities. The negotiations are primarily related to newly
constructed facilities that are in various stages of lease-up and require
significant capital to reach maturity.

     With respect to the five affected landlords, the non-payment of rent
constitutes monetary defaults under the Company's facility leases, and provides
the landlords with various remedies, including, but not limited to, termination
of the leases. These monetary defaults could trigger defaults under other leases
with the same landlord or with the Company's other landlords or lenders.

     The Company has received notices of default from the affected landlords.
NHP accelerated all rent and commenced legal action to enforce its rights and
remedies; however, on January 12, 2001, the Company and NHP reached an agreement
and NHP agreed to dismiss all legal actions against the Company (see
"Termination of Master Leases and Strategic Charges"). The other landlords have
demanded payment of the outstanding rent and one landlord has elected to apply
$257,000 under certain letters of credit maintained in favor of the landlord by
the Company towards the Company's rent obligations. To date, other than the NHP
litigation that has been dismissed, no other legal action has been commenced
against the Company in connection with the foregoing payment defaults; however,
there can be no assurance that the affected landlords will not take action to
enforce their rights and remedies under the leases.

     Although the Company is attempting to negotiate definitive agreements with
the five affected landlords, there can be no assurance that the Company will be
able to do so until such time as the applicable parties have entered into
definitive documents and all conditions to closing have been satisfied or
waived. The Company is actively negotiating with the affected landlords
regarding restructuring the lease obligations. To date, the Company has recorded
a loss on financial restructuring of $6,581,000 at March 31, 2001. Such loss
resulted from the write-off of certain assets comprised primarily of lease
acquisition costs, collateral deposits, and estimated costs of employee
terminations resulting from the restructuring.

  Termination of Leases and Restructuring Charges

     As a result of the Company's failure to pay full rent to NHP under the
Company's master leases for the month of December 2000, NHP commenced legal
action against the Company to enforce its rights and remedies under the leases.
On January 12, 2001, the Company and NHP reached agreement and entered into a
Master Termination and Release Agreement under which (i) NHP agreed to terminate
the Company's master leases and lease guarantees as of December 31, 2000 with
respect to 10 operating properties and one undeveloped property, (ii) NHP agreed
to release the Company from its obligations under the leases, the guarantees and
the other lease documents, (iii) the Company agreed to transfer to NHP all
right, title and interest to the 11 properties, including certain security
deposits maintained in favor of NHP, (iv) NHP agreed to dismiss all legal action
against the Company and (v) the Company agreed to manage the 10 operating
properties for an interim period of time. The Company anticipates that its
interim management services will end with respect to the 10 operating properties
on or before June 30, 2001 provided the new operators have obtained all
necessary approvals to assume operations. The operating properties are located
in Bristol, Johnson City and Murfreesboro, TN; Pensacola and Tallahassee, FL;
Lakemont Farms and York, PA; Heritage Lakes, OH; Hagerstown, MD; and Teay's
Valley, WV. The aggregate annual lease obligation for the 11 properties was
approximately $7,000,000.

     In a similar transaction Health Care Property Investors, Inc. ("HCPI"), the
landlord for the Company's assisted living facility located in Anderson, IN,
reached an agreement with the Company and entered into an Agreement for
Termination of Lease, Guaranties, and Ancillary Documents under which (i) HCPI
agreed to terminate the Company's lease agreement and guarantees as of March 31,
2001 for the Anderson property, (ii) HCPI agreed to release the Company from its
obligations under the leases, the guarantees and other lease documents, (iii)
the Company agreed to transfer to a designated new operator all right, title,
and interest to the
                                        21
<PAGE>   23

Anderson property. The annual lease obligation for this property was
approximately $520,000. In addition, subject to certain conditions precedent,
HCPI has agreed to transfer the Jackson, TN, facility to a third party operator
on or before November 1, 2001. The annual lease obligation for the Jackson
facility is approximately $470,000.

CHANGE IN CONTROL

     On July 31, 2000, HR Investments Limited, a Cayman Islands corporation
("HR"), RH Investments Limited, a Cayman Islands corporation ("RH"), and VXM
Investments Limited, a Cayman Islands corporation ("VXM" and together with HR
and RH, collectively, the "Holders"), each purchased at par from the Company,
9.5% Unsecured Convertible Grid Debentures, as amended by Amendment No. 1 to
9.5% Unsecured Convertible Grid Debentures dated as of July 31, 2000 (as
amended, the "Debentures"), in an aggregate principal amount equal to
$14,000,000. The Debentures were purchased in accordance with the terms and
conditions of three Purchase Agreements dated as of June 30, 2000 between the
Company and each of the Holders. The Purchase Agreements and the form of the
Debentures were filed as exhibits to the Company's Current Report on Form 8-K
dated June 30, 2000.

     On April 4, 2001, the Company paid the Holders all of the outstanding
obligations under the Debentures with part of the proceeds of the VXM Loan
discussed below. Upon payment of the Debentures, the Holders' rights to convert
the Debentures into approximately 17%-24% of the issued and outstanding Common
Stock of the Company were automatically extinguished.

     The Holders and IPC Advisors S.a.r.l., a Luxembourg company ("IPC"), may be
deemed to be an affiliated group within the meaning of Section 13 (d)(3) of the
Exchange Act. In December 1999, IPC acquired 49.8% of the issued and outstanding
shares of Common Stock of the Company. As a result of the foregoing transaction
and certain open market purchases, IPC presently beneficially owns 18,212,100
shares of Common Stock of the Company, representing approximately 53.3% of the
outstanding shares of Common Stock of the Company. Pursuant to Schedule 13D
(Amendment No. 3) filed with the SEC and dated February 16, 2001, prior to
retirement of the Debentures, on a combined basis, IPC and the Holders (directly
or indirectly) were deemed to beneficially own 61.2% of the Common Stock of the
Company.

     On November 6, 2000, IPC and the Company, based on the considerations of a
special committee of certain of the independent directors of the Board of
Directors of the Company (the "Special Committee"), entered into a letter
agreement (the "Letter Agreement") pursuant to which IPC agreed to consider
making an offer of $1.00 per common share in cash for the entire equity interest
in the Company not already owned by IPC, subject to the completion of due
diligence satisfactory to IPC in its sole discretion, and to the negotiation and
execution of mutually satisfactory definitive documentation (the "Proposed
Offer").

     Under the Letter Agreement, in consideration of HR, RH and VXM's
willingness to make loans to the Company in the aggregate amount of $8,000,000,
and in further consideration of IPC incurring time and expense in conducting due
diligence, the Company agreed to amend Section 6.8 of the Subscription Agreement
dated as of October 8, 1999 between the Company and IPC to permit IPC to make
the Proposed Offer. In addition, the Company agreed, subject to the fiduciary
duties of the Company's Board of Directors, not to solicit, participate in
discussions or negotiations concerning or furnish information to any person
other than IPC until January 15, 2001. In the event the Company received an
unsolicited request for information or an unsolicited acquisition proposal, if
the Special Committee determined in its good faith judgment (after receiving the
advice of counsel) that if the Company failed to participate in such discussions
or negotiations with or provide such information to, the person making the
acquisition proposal or requesting information, there was a reasonable
probability that the Board of Directors would be in violation of its fiduciary
duties under applicable law, then the Company was required to notify IPC and
keep IPC fully informed of the status and details of any such acquisition
proposal or inquiry. If such an acquisition proposal was approved by the Board
of Directors prior to January 31, 2000, the Company was required to reimburse
IPC for its documented costs and expenses (including, without limitation,
reasonable attorneys' fees), in connection with the transactions contemplated by
the Letter Agreement, up to an aggregate of $500,000.

                                        22
<PAGE>   24

     The Special Committee received an opinion dated November 6, 2000 from
Raymond James & Associates, Inc., its financial advisors, to the effect that,
subject to certain assumptions, limitations and qualifications, cash
consideration of $1.00 per share was fair to the stockholders of the Company
from a financial point of view. In addition, the Special Committee of the Board
of Directors of the Company confirmed that it had determined that the
consideration of $1.00 per share in cash for each share of the Company's
outstanding common stock not owned by IPC and its affiliates was advisable and
fair to the stockholders of the Company and, subject to negotiation of
definitive agreements relating to the Proposed Offer acceptable to the Special
Committee, the Special Committee would recommend that the Board of Directors of
the Company approve and adopt such definitive agreements and the Special
Committee would then recommend that stockholders of the Company tender into
and/or vote to approve and adopt such definitive agreements as applicable, and
once recommended, the Special Committee would not modify, amend or withdraw such
recommendations, unless the Special Committee determined, in its good faith
judgment (after receiving the advice of counsel), that if the Special Committee
failed to modify, amend or withdraw such recommendations, there was a reasonable
probability that the Special Committee would be in violation of its fiduciary
duties under applicable law. In the Letter Agreement, the Company acknowledged
that IPC would not be under any obligation to make such Proposed Offer.

     On December 5, 2000, IPC advised the Company and the Special Committee that
IPC would not proceed with the Proposed Offer. Accordingly, the non-solicitation
provisions of the Letter Agreement terminated.

     On November 15, 2000, the Company received a complaint filed in the Court
of Chancery of the State of Delaware. The complaint was filed by a stockholder
of the Company and alleges, among other things, that the Letter Agreement and
the Proposed Offer that IPC would be willing to consider, as described in the
Letter Agreement, are unfair to the public stockholders of the Company because
the transaction would purportedly deny the Company's stockholders the right to
share proportionately in the true value of the Company's business and future
prospects and, further, that the directors of the Company have breached their
fiduciary duties to the stockholders of the Company. The complaint seeks
alternative forms of relieve including, (i) preliminary and permanently
enjoining the Defendants from proceeding with, consummating or closing a
proposed transaction with IPC advisors, (ii) in the event that a proposed
transaction is consummated, rescinding it and setting it aside, (iii) awarding
rescissory and/or compensatory damages in an unspecified amount, and (iv)
awarding the Plaintiff the costs of the action including attorneys' and experts'
fees. The Plaintiff has also requested that the action be maintained as a class
action and that the Plaintiff be certified as the class representative. The
Company has evaluated the complaint and believes it is without merit and intends
to defend it vigorously. On December 7, 2000, the Plaintiff's counsel granted
Defendants an indefinite extension of time to move, answer or otherwise respond
to the complaint. There has been no further action in connection with the
pending complaint.

OTHER FINANCING

     Under the Letter of Agreement with the Company, HR, RH and VXM agreed to
make loans to the Company in the aggregate amount of $8,000,000. On November 6,
2000, $6,500,000 of the $8,000,000 was loaned to the Company (the "$6.5M Loan")
and on December 7, 2000, the remaining $1,500,000 was loaned to the Company (the
"$1.5M Loan"). The $6.5M Loan and the $1.5M Loan were evidenced by six
promissory notes made by the Company, as follows: (1) a $2,166,667 note and a
$500,000 note in favor of HR, (2) a $2,166,667 note and a $500,000 note in favor
of RH and (3) a $2,166,666 note and a $500,000 note in favor of VXM
(collectively, the "Initial Notes"). The Initial Notes had a maturity date of
January 31, 2001. The Company did not make the payments required under the
Initial Notes and therefore events of default occurred. In accordance with the
provisions of the Initial Notes, all outstanding amounts become immediately due
and payable. Notwithstanding the foregoing, HR, RH and VXM agreed in writing to
extend the maturity of the Initial Notes until April 6, 2001. Interest accrued
under the Initial Notes at an annual rate of 12%, and was due and payable
monthly in arrears. On April 4, 2001, the Company paid all of the outstanding
obligations under the Initial Notes with part of the proceeds from the VXM Loan
discussed below.

     On February 9, 2001, VXM made a loan to the Company in the amount of
$750,000, as evidenced by a promissory note made by the Company in favor of VXM
(the "February Note"). On March 7, 2001, VXM made a loan to the Company in the
amount of $850,000, as evidenced by a promissory note made by the Company in
favor of VXM (the "March Note" and, together with the February Note,
collectively, the "Subsequent Notes").
                                        23
<PAGE>   25

Interest accrued under the Subsequent Notes at a fixed annual rate of 12% and
was due and payable on maturity. The Subsequent Notes each had a maturity date
of April 6, 2001. On April 4, 2001, the Company paid all of the outstanding
obligations under the Subsequent Notes with part of the proceeds from the VXM
Loan discussed below.

     On April 4, 2001, HR, RH and VXM made a loan to the Company in the amount
of $27,853,524 (the "VXM Loan"), under the terms and conditions set forth in a
loan agreement among the Company, HR, RH and VXM (the "VXM Loan Agreement"). The
VXM Loan accrues interest at a fixed annual rate of 12% and has a maturity date
of August 4, 2001. On April 4, 2001, the Company received its first advance
under the VXM Loan in an amount to equal $26,003,524 and used the proceeds to
satisfy the obligations under the Debentures, the Initial Notes and the
Subsequent Notes. The remaining approximately $1 million balance from the first
advance was used by the Company for working capital. The Company received the
second advance under the VXM Loan in May 2001 in an amount equal to $750,000 and
anticipates receiving the final advance in June 2001 in an amount equal to $1.1
million. The proceeds from these advances will be used for working capital. The
lender's obligations to fund the remaining advances is subject to the Company's
compliance with the terms and conditions of the VXM Loan Agreement and the
documents related thereto.

     The VXM Loan is secured by a pledge of the stock of certain of the
Company's subsidiaries (collectively, the "Subsidiaries") pursuant to a Stock
Pledge Agreement dated as of April 4, 2001 (the "Stock Pledge Agreement"). In
addition the Company, the Subsidiaries, HR, RH, VXM and Heller entered into a
Subordination Agreement dated as of April 4, 2001 (the "Subordination
Agreement"). Under the Subordination Agreement, HR, RH and VXM (collectively,
the "Junior Lender") agreed to subordinate their respective rights and interests
in and to the "Junior Debt" and the "Junior Loan Documents" (as such terms are
defined in the Subordination Agreement) in favor of Heller, including the Junior
Lender's rights under the Stock Pledge Agreement and the VXM Loan Agreement. The
Junior Lender has agreed to refrain from taking any action or from receiving any
payment with respect to the Junior Debt and the Junior Loan Documents until the
Company's obligations to Heller are paid in full. As of March 31, 2001, the
Company's outstanding obligations to Heller include (1) a $37,000,000 loan
having a maturity date of December 31, 2001 and (2) the Company's $12,000,000
revolving line of credit, having a maturity date of July 29, 2002 (collectively,
the "Heller Obligations").

     On May 8, 2001, the Company announced that its board of directors approved
a recapitalization plan, including a rights offering to the Company's
stockholders in an amount of approximately $55.0 million (the "Rights
Offering"). Proceeds of the recapitalization are expected to be applied to (i)
complete restructuring of the Company's lease obligations, (ii) repay short-term
debt, (iii) provide working capital and (iv) pay transaction costs. In order to
affect the Rights Offering, the Company's stockholders will be asked to approve
the Reverse Stock Split at the Company's Annual Meeting (see "Recent
Developments"). IPC, the Company's 53% stockholder, has agreed to vote in favor
of the recapitalization plan and the Reverse Stock Split Amendment at the
Company's Annual Meeting.

     Under the Rights Offering, the Company's existing stockholders will receive
pro rata the right to purchase (i) secured convertible debentures (the
"Debentures") having a maturity of five years and bearing interest at a rate of
12% per annum, payable in cash or in kind at the Company's option and/or (ii) a
substantially equivalent security. The Debentures or the equivalent security
will be secured by (i) subordinated security interests in certain of the
Company's assets and/or (ii) the pledge of stock of certain of the Company's
subsidiaries. The Debentures will be convertible into shares of Common Stock of
the Company at a price of $6.00 per share (on a post-Reverse Stock Split basis).
The Company will have the right to prepay the Debentures at any time, and will
have the right to require conversion of the Debentures if the price per share of
the Common Stock exceeds $9.00 (on a post-Reverse Stock Split basis) for each of
30 consecutive trading days on the American Stock Exchange.

     Common stockholders who participate in the Rights Offering and exercise
their rights in full will preserve their proportionate equity ownership and
voting power of the Company on a fully diluted basis. Stockholders who do not
exercise their rights in full may experience a decrease in their proportionate
equity ownership and voting power. The rights issuable in connection with the
Rights Offering will be transferable. In addition, all participating
stockholders will have the right, but not the obligation, to purchase their pro
rata share of any

                                        24
<PAGE>   26

portion of the Rights Offering not subscribed for the other Company
stockholders. IPC has agreed to subscribe for rights in an amount sufficient to
complete the recapitalization plan.

     In the interim, the Company has entered into a non-binding letter agreement
with IPC, under which IPC has agreed to provide the Company with interim
financing in an amount of up to approximately $54,000,000 (the "Bridge Loan").
IPC's commitment to fund the Bridge Loan is subject to the Company reaching
satisfactory agreements with its landlords to complete the Company's lease
restructuring plan. The Bridge Loan will have a four-month term and bear
interest at a rate of 12% per annum. Interest will accrue and will be payable
upon maturity. Subject to necessary approvals, the Bridge Loan will be secured
by (i) subordinated security interests in certain of the Company's encumbered
assets and/or (ii) the pledge of stock of certain of the Company's subsidiaries.
The Company will use the proceeds of the Bridge Loan, in part, to complete its
lease restructuring. The Company continues to be in negotiations with certain of
its landlords to obtain covenant waivers, purchase options, rent reductions,
rent abatements and/or rent deferrals in consideration for certain payments to
the landlords. The remainder of the Bridge Loan will be used to (i) retire
existing short-term debt owed to IPC and (ii) provide working capital. As
consideration for providing the Bridge Loan, the Company will pay a commitment
fee in the amount of $1.08 million.

     The Company intends to hold its Annual Meeting as soon as practicable and
the stockholders will be asked to approve, among other things, (i) the
recapitalization plan (including the Bridge Loan), (ii) the Reverse Stock Split
and (iii) the Rights Offering. IPC, the Company's 53% stockholder, has agreed to
vote in favor or each of the proposals at the Annual Meeting. However, although
the Company believes it will reach agreement with the applicable landlords in
connection with the lease restructuring plan and will be able to obtain the
Bridge Loan from IPC on substantially the terms contained in the letter
agreement, there can be no assurance that the Company will be able to do so
until such time as the applicable parties have entered into definitive
agreements and applicable conditions to closing have been satisfied or waived
(the "Closing(s)"). Unless and until such Closing(s) occur, there can be no
assurance that the Company's landlords or lenders will not take action against
the Company with respect to the Company's defaulted obligations.

OPERATING AND CENSUS TRENDS

     The following table sets forth, for the periods indicated, certain resident
capacity and occupancy data for the periods indicated for the Company's 57
owned, leased or managed facilities at March 31, 2001 and the Company's 53
owned, leased and managed facilities at March 31, 2000 (excluding the Company's
former Missouri facilities, the NHP facilities, the Anderson facility, and the
two managed AL facilities not developed by the Company):

<TABLE>
<CAPTION>
                                             MARCH 31, 2001}                      MARCH 31, 2000}
                                    ---------------------------------    ---------------------------------
                                       STABLE        STABLE     TOTAL       STABLE        STABLE     TOTAL
                                    FACILITIES(1)    BEDS(1)    BEDS     FACILITIES(1)    BEDS(1)    BEDS
                                    -------------    -------    -----    -------------    -------    -----
<S>                                 <C>              <C>        <C>      <C>              <C>        <C>
End of Period Capacity:
  Owned...........................       17           1,052     1,052         17           1,052     1,052
  Leased..........................       16           1,013     1,201         12             782       782
  Managed.........................       18           1,215     1,613         10             607     1,658
                                         --           -----     -----         --           -----     -----
Total.............................       51           3,280     3,866         39           2,441     3,492
                                         ==           =====     =====         ==           =====     =====
End of Period Occupancy:
  Owned...........................                       94%       94%                        92%       92%
  Leased..........................                       89%       85%                        93%       93%
  Managed.........................                       77%       68%                        75%       55%
                                                      -----     -----                      -----     -----
Total.............................                       86%       80%                        88%       75%
                                                      =====     =====                      =====     =====
</TABLE>

---------------
(1) Represents communities or expansions thereof that have (i) achieved 90%
    occupancy; (ii) have been opened at least 15 months for 75 bed or less
    communities; 18 months for 75 to 100 bed communities; and 24 months for 100+
    bed communities; or (iii) were acquired as mature properties. The above data
    does not include divested communities.

                                        25
<PAGE>   27

     To provide information on facility operating performance, the following
table summarizes the operations of all Balanced Care facilities in operation as
of the dates indicated, including facilities owned, leased and managed for
special purpose entities and excluding the divested Missouri operations and the
NHP Facilities and Anderson:

<TABLE>
<CAPTION>
                                    MARCH 31,    DECEMBER 31,    SEPTEMBER 30,    JUNE 30,    MARCH 31,
                                      2001           2000            2000           2000        2000
                                    ---------    ------------    -------------    --------    ---------
<S>                                 <C>          <C>             <C>              <C>         <C>
At quarter end:
  Facilities in Operation.........        57            57               55            55           53
  Resident Capacity...............     3,866         3,866            3,703         3,703        3,492
  Census..........................     3,094         3,023            2,910         2,786        2,613
For the three month period ended:
  Revenue.........................   $19,291       $18,956          $18,051       $16,458      $15,241
  EBITDAR.........................   $ 3,988       $ 4,590          $ 4,631       $ 3,539      $ 3,346
</TABLE>

     The above summary is presented for the purpose of demonstrating the
operating trends of the Company's overall portfolio of facilities and is not
necessarily indicative of the Company's reported consolidated results of
operations under Generally Accepted Accounting Principles (GAAP). The results of
operations for the managed facilities are included in the data above but are not
included in the Company's consolidated financial statements presented in this
Quarterly Report. The decline in EBITDAR from the December 31, 2000 quarter to
the March 31, 2001 quarter in the amount of $602,000 was primarily caused by an
increase in utilities expense of $406,000 and an increase in insurance expense
of $207,000.

     See also "Liquidity and Capital Resources -- Operations."

RESULTS OF OPERATIONS

     The following table sets forth, for the periods indicated, certain data as
a percentage of total revenue:

<TABLE>
<CAPTION>
                                                               THREE MONTHS      NINE MONTHS
                                                                  ENDED             ENDED
                                                                MARCH 31,         MARCH 31,
                                                              --------------    --------------
                                                              2001     2000     2001     2000
                                                              -----    -----    -----    -----
<S>                                                           <C>      <C>      <C>      <C>
Statement of Operations Data:
Resident services...........................................   80.6%    70.3%    82.1%    45.7%
Patient services............................................   17.2     28.0     16.4     52.2
Development fees............................................    0.1      0.4      0.1      1.2
Management fees.............................................    1.4      0.6      0.7      0.5
Other Revenue...............................................    0.7      0.7      0.7      0.4
                                                              -----    -----    -----    -----
Total revenue...............................................  100.0%   100.0%   100.0%   100.0%
                                                              -----    -----    -----    -----
</TABLE>

                                        26
<PAGE>   28

<TABLE>
<CAPTION>
                                                               THREE MONTHS      NINE MONTHS
                                                                  ENDED             ENDED
                                                                MARCH 31,         MARCH 31,
                                                              --------------    --------------
                                                              2001     2000     2001     2000
                                                              -----    -----    -----    -----
<S>                                                           <C>      <C>      <C>      <C>
Operating expenses:
  Facility operating expenses...............................   73.4     70.3     74.7     75.6
  General and administrative expenses.......................   18.7     19.0     18.2     15.2
  Provision for losses on shortfall funding agreements......   12.2      5.8     12.8      4.6
  Lease expense.............................................   16.6     13.2     19.5     17.3
  Depreciation and amortization.............................   10.2     10.4      9.7      5.6
  Loss on impairment of long-lived assets...................    8.6       --      8.7       --
  Loss on financial restructuring...........................   16.2       --     15.3       --
                                                              -----    -----    -----    -----
Total operating expenses....................................  155.9%   118.7%   152.9%   118.3%
                                                              -----    -----    -----    -----
Loss from operations........................................  (55.9)   (18.7)   (52.9)   (18.3)
Other income (expense)......................................  (15.3)   (12.7)   (13.0)    (4.5)
                                                              -----    -----    -----    -----
Loss before income taxes and extraordinary item.............  (71.2)   (31.4)   (65.9)   (22.8)
Provision for income taxes..................................     --       --       --       --
                                                              -----    -----    -----    -----
Loss before extraordinary item..............................  (71.2)   (31.4)   (65.9)   (22.8)
Extraordinary loss on extinguishment of debt................     --       --       --      1.5
                                                              -----    -----    -----    -----
Net loss....................................................  (71.2)%  (31.4)%  (65.9)%  (24.3)%
                                                              =====    =====    =====    =====
</TABLE>

  Three Months Ended March 31, 2001 Compared to the Three Months Ended March 31,
2000

     Total Revenue.  Total revenue for the three months ended March 31, 2001
increased by $1,466,000 to $13,536,000 compared to $12,070,000 for the three
months ended March 31, 2000. This increase was primarily a result of additional
resident service revenues of $2,418,000, from SPE facilities acquired during
fiscal years 2000 and 2001. This increase was partially offset by a decrease in
patient service revenues of $1,041,000, which resulted primarily from the
divestiture of the Company's former Missouri operations. Resident services
comprised 81% and 70% of total revenues for three months ended March 31, 2001
and 2000, respectively. The increase in this percentage of total revenues was
due to the Company's implementation of its business plan, which focuses on
assisted living operations and acquiring the operations of assisted living
facilities from the SPEs, coupled with the decrease in patient service revenues
in the three months ended March 31, 2001 compared to the same period in the
prior fiscal year due to the divestiture of the Missouri operations in January
2000.

     Operating Expenses.  Total operating expenses increased by $6,765,000 to
$21,108,000 for the three months ended March 31, 2001 from $14,343,000 for the
three months ended March 31, 2000. This increase was the result of (i) increased
expenses of $2,904,000 from SPE facilities acquired during fiscal years 2000 and
2001; (ii) increased expenses of $201,000 from the remaining skilled nursing
facilities (SNF) operations; (iii) an increase in the provision for losses under
shortfall fundings of $955,000; (iv) loss on financial restructuring of
$2,193,000; (v) loss on impairment of long-lived assets of $1,167,000; and (vi)
increased lease expense of $650,000. These increases were partially offset by
the decrease in expenses of $1,503,000 resulting from the divestiture of the
Missouri operations.

     Facility operating expenses for the three months ended March 31, 2001
increased by $1,448,000 to $9,939,000 from $8,491,000 for the three months ended
March 31, 2000. This increase was a result primarily of: (i) an increase of
$2,004,000 from SPE facilities acquired during fiscal years 2000 and 2001 and
(ii) a $200,000 increase from the remaining SNF operations. These increases were
offset by a $1,162,000 decrease in expenses relating to the divestiture of the
Missouri operations.

     General and administrative expenses increased by $228,000 to $2,526,000 for
the three months ended March 31, 2001 from $2,298,000 for the three months ended
March 31, 2000.

     The provision for losses under shortfall funding agreements increased by
$955,000 to $1,655,000 for the three months ended March 31, 2001 from $700,000
for the three months ended March 31, 2000. The increase is

                                        27
<PAGE>   29

primarily the result of the depletion of SPE working capital for managed
operations. The Company reports its losses under these shortfall-funding
agreements using the modified equity accounting approach. Information concerning
the provision for losses under shortfall funding agreements is discussed below
under "Liquidity and Capital Resources -- Operations."

     Lease expense increased by $650,000 to $2,249,000 for the three months
ended March 31, 2001 from $1,599,000 for the three months ended March 31, 2000.
This increase was primarily a result of increased rents of $850,000 from SPEs
acquired in fiscal year 2001. This increase was partially offset by decreased
rents of $219,000 for the divested Missouri operations.

     Depreciation and amortization increased by $124,000 to $1,379,000 for the
three months ended March 31, 2001 from $1,255,000 for the three months ended
March 31, 2000. The increase resulted primarily from an increase of $135,000
relating to properties purchased in December 1999 and from SPE's acquired in
fiscal years 2000 and 2001.

     The loss on financial restructuring includes a provision for losses under
severance agreements of $800,000, loss on lease termination of $704,000 and
costs incurred in connection with financing efforts and rent restructuring of
$428,000. No loss on financial restructuring was incurred for the same period in
the prior fiscal year (refer to Note 7 to the financial statements).

     The loss on impairment of long-lived assets equalled $1,167,000. No loss on
impairment of long-lived assets was incurred in the prior period.

     Other Income (Expense).  Interest and other income for the three months
ended March 31, 2001 decreased by $53,000 to $55,000 from $108,000 for the three
months ended March 31, 2000. Interest expense for the three months ended March
31, 2001 increased by $779,000 to $2,128,000 from $1,349,000 for the three
months ended March 31, 2000. This was primarily due to the interest on the Line
of Credit, the Heller Note, the convertible debentures and other interim working
capital loans. Purchase option payments were $291,000 for the three months ended
March 31, 2000. No payments were made for the three months ended March 31, 2001.

     Provision for Income Taxes.  The provision for income taxes was $3,000 for
the three months ended March 31, 2001. No provision for the three months ended
March 31, 2000 was reported.

     Net Loss.  The Company's net loss of $9,648,000 for the three months ended
March 31, 2001 increased by $5,843,000 from a net loss of $3,805,000 for the
three months ended March 31, 2000. This increase resulted primarily from (i) an
increase in the provision for losses under shortfall funding agreements of
$955,000; (ii) increased lease expense of $650,000; (iii) increased interest
expense of $779,000; (iv) loss on financial restructuring of $1,628,000; and (v)
loss on impairment of long-lived assets of $1,167,000.

  Nine Months Ended March 31, 2001 Compared to the Nine Months Ended March 31,
2000

     Total Revenue.  Total revenue for the nine months ended March 31, 2001
decreased by $5,985,000 to $43,026,000 compared to $49,011,000 for the nine
months ended March 31, 2000. This decrease was primarily the result of a
decrease in patient service revenues of $18,517,000, which resulted from the
divestiture of the Company's former Missouri operations. This decrease was
partially offset by additional resident service revenues of $12,910,000,
primarily from SPE facilities acquired during fiscal year 2000 and fiscal year
2001. Resident services comprised 82% and 46% of total revenues for nine months
ended March 31, 2001 and 2000, respectively. The increase in this percentage of
total revenues was due to the Company's implementation of its business plan,
which focuses on assisted living operations and acquiring the operations of
assisted living facilities from the SPEs, coupled with the decrease in patient
service revenues in the nine months ended March 31, 2001 compared to the same
period in the prior fiscal year due to the divestiture of the Missouri
operations in January 2000.

     Operating Expenses.  Total operating expenses increased by $7,771,000 to
$65,798,000 for the nine months ended March 31, 2001 from $58,027,000 for the
nine months ended March 31, 2000. The increase is primarily attributed to the
loss on financial restructuring of $6,581,000 and loss on impairment of
long-lived assets of $1,167,000.

                                        28
<PAGE>   30

     Facility operating expenses for the nine months ended March 31, 2001
decreased by $4,895,000 to $32,146,000 from $37,041,000 for the nine months
ended March 31, 2000. The decrease was the result of a decrease of $17,600,000
resulting from the divestiture of the Missouri operations and was partially
offset by (i) an increase of $11,488,000 from SPE facilities acquired during
fiscal years 2000 and 2001 and (ii) a $608,000 increase from the remaining SNF
operations.

     General and administrative expenses increased by $343,000 to $7,809,000 for
the nine months ended March 31, 2001 from $7,466,000 for the nine months ended
March 31, 2000.

     The provision for losses under shortfall funding agreements increased by
$3,269,000 to $5,519,000 for the nine months ended March 31, 2001 from
$2,250,000 for the nine months ended March 31, 2000. The increase is primarily
the result of the depletion of SPE working capital for managed operations. The
Company reports its losses under these shortfall-funding agreements using the
modified equity accounting approach. Information concerning the provision for
losses under shortfall funding agreements is discussed below under "Liquidity
and Capital Resources -- Operations."

     Lease expense decreased by $91,000 to $8,410,000 for the nine months ended
March 31, 2001 from $8,501,000 for the nine months ended March 31, 2000. This
decrease was primarily the net result of: (i) decreased rents of $3,220,000 for
the divested Missouri operations and (ii) decreased rents of $1,193,000 as a
result of the purchase of the real estate of five leased facilities in December
1999. These decreases were partially offset by increased rents of $4,336,000
from SPEs acquired in fiscal years 2000 and 2001.

     Depreciation and amortization increased by $1,397,000 to $4,166,000 for the
nine months ended March 31, 2001 from $2,769,000 for the nine months ended March
31, 2000. The increase related primarily to the properties purchased in December
1999.

     The loss on financial restructuring includes losses incurred on the
termination of leases, costs incurred in connection with financing efforts and
rent restructuring, a provision for losses under severance agreements, and a
reserve against certain notes receivable, as described in Note 7 to the
financial statements. No loss on financial restructuring was incurred for the
same period in the prior fiscal year.

     The loss on impairment of long-lived assets equalled $1,167,000. No loss on
impairment of long-lived assets was incurred for the same period in the prior
fiscal year.

     Other Income (Expense).  Interest and other income for the nine months
ended March 31, 2001 increased by $11,000 to $291,000 from $280,000 for the nine
months ended March 31, 2000. Interest expense for the nine months ended March
31, 2001 increased by $3,706,000 to $5,878,000 from $2,172,000 for the nine
months ended March 31, 2000. This was primarily due to the interest on the Line
of Credit, the Heller Note, and the convertible debentures. Purchase option
payments were $291,000 for the nine months ended March 31, 2001. No payments
were made for the nine months ended March 31, 2001.

     Provision for Income Taxes.  The provision for income taxes for the nine
months ended March 31, 2001 decreased by $2,000 to $3,000 from $5,000 for the
nine months ended March 31, 2000.

     Net Loss.  The Company's net loss of $28,362,000 for the nine months ended
March 31, 2001 increased by $6,419,000 from a net loss of $11,943,000 for the
nine months ended March 31, 2000. This increase resulted primarily from (i) an
increase in the provision for losses under shortfall funding agreements of
$3,269,000; (ii) increased depreciation expense of $1,397,000; (iii) increased
interest expense of $3,706,000; and (iv) loss on financial restructuring of
$6,581,000; and (v) loss on impairment of long-lived assets of $1,167,000.

LIQUIDITY AND CAPITAL RESOURCES

     Since the Company re-directed its focus to operations from development the
Company's capital requirements and sources have also changed. Historically the
Company primarily sought development and acquisition capital, using development
fees to support operating losses and corporate overhead. Since the Company's
announcement in fiscal year 1999 that it was curtailing development activities
and focusing on operations, the Company has entered into various financing and
capital transactions to access liquidity in order to provide the funds to
support operations.
                                        29
<PAGE>   31

  Recent Developments

     See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Recent Developments -- Rent Restructuring and
Termination of Master Leases."

  Change in Control of Registrant

     See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Change in Control."

  Other Financing Transactions

     See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Other Financing."

  Operations

     At March 31, 2001, the Company had opened 40 of its Outlook Pointe(R)
signature series assisted living facilities and operated and managed a total of
59 assisted and skilled nursing facilities (excluding the 10 NHP facilities and
the Anderson facility.) The Company has adequate financing to complete
construction on the one remaining facility currently under construction, which
is expected to open in June 2001. This will conclude the Company's initial round
of development activity initiated four years ago. In October 2000, the Company
assumed the lease for a 70 bed assisted living facility in Merrillville, IN.

     The Company's development projects have generally involved entering into
development agreements with third party owners, which are typically REITs (each,
an "Owner"). A third party special purpose entity ("SPE") Operator/Lessee leases
the assisted living facility from the Owner when construction has been completed
and provides funding for the working capital during the initial occupancy
period. The Company manages the assisted living facility pursuant to a
management agreement for a term of two to nine years in return for a management
fee approximating 6% of the net revenue of the facility. The foregoing is an
off-balance sheet financing structure.

     For development projects utilizing the off-balance sheet structure, the
Company has the option to purchase the equity or assets of the Operator/Lessee
at a purchase price based on a formula set forth in an Option Agreement and a
Shortfall Funding Agreement, respectively. As consideration for the option,
which is exercisable by the Company at any time during the term of the Option
Agreement, the Company pays option payments to the equity owner of the SPE (the
"Equity Owner"). Without the Owner's prior consent, the Equity Owner may not
sell the equity or assets of the SPE to any third party other than the Company.
The Company has closed 40 development projects for which the Company holds or
held the foregoing type of option (excluding the 10 NHP facilities and the
Anderson facility). In October 2000, the Company exercised its options to
purchase six SPEs financed under this structure for a total purchase price of
approximately $4.6 million that was financed with a promissory note held by the
owner/lessor. On March 31, 2001, the Company exercised its option to purchase
one SPE for a total purchase price of $234,000, which was partially financed
with a promissory note held by the previous owner/lessee. As of March 31, 2001,
the Company has exercised its option to purchase 18 SPEs financed under the SPE
structure (excluding the 10 NHP Facilities and Anderson) for a total purchase
price of approximately $21.9 million, of which $6.4 million was paid in cash and
$15.5 million was financed by increasing the existing facility lease bases. The
Company continues to manage 22 properties under the SPE structure. Management is
negotiating purchase arrangements with SPE owners in conjunction with its rent
restructuring.

     Many of the facilities operated or managed by the Company are leased under
long-term operating leases. These lease obligations for the next twelve months
aggregate approximately $18,550,000 (excluding the NHP and Anderson leases). The
lease documents with all of the REITS contain certain financial and/or
performance covenants and other restrictions which, unless waived in writing by
the REIT, (i) require the Company, on a consolidated basis, to meet certain
financial covenants, such as a tangible net worth covenant, a current ratio, a
debt to equity ratio and/or minimum cash requirements (measured on a quarterly
and year end basis), (ii) require the tenants, on a facility basis, to meet
certain rent coverage ratios (measured on a quarterly and year end basis),

                                        30
<PAGE>   32

(iii) require the Company and/or the tenants to maintain certain escrow funds,
(iv) limit, among other things, the ability of the Company, certain of its
subsidiaries and/or the tenants to borrow additional funds, encumber assets,
dispose of assets or engage in mergers or other business combinations, (v)
cross-default certain of the Company's other obligations and (vi) prohibit the
Company and/or the tenants from operating competing facilities within a
designated radius of existing facilities. The Company is not in compliance with
financial covenants set forth in clauses (i) and (ii) at March 31, 2001 under
its leases with four of its landlords. Except as discussed below, the Company
has not received any default notices from any of the affected landlords
specifically with respect to the Company's failure to comply with the financial
covenants; however, there can be no assurance that the Company will not receive
such notices or that the landlords will not take action to enforce their rights
and remedies under the leases.

     On November 15, 2000, the Company received notices of events of default
from Meditrust with respect to the failure to meet certain financial covenants
under the Meditrust leases at September 30, 2000 and the failure to timely
complete construction of the facility located in Chesterfield, VA. The Meditrust
notices stated that Meditrust had elected to apply the cash collateral deposits
from nine of the 12 Outlook Pointe facility leases in the aggregate amount of
$1,187,988 towards repayment of two promissory notes made by TC Realty Holding
Company in favor of Meditrust in the aggregate principal amount of $1,420,000,
which notes had a maturity date of October 1, 2000 (collectively, the
"Xenia/Lima Notes"). The proceeds from the Xenia/Lima Notes were used to provide
working capital for the Xenia and Lima Outlook Pointe facilities. On November
15, 2000, Meditrust also elected to apply the cash collateral deposits from two
more of the 12 Outlook Pointe facility leases in the aggregate amount of
$174,898 towards the prepayment of a promissory note made by Black Box Holding
Company in favor of Meditrust in the principal amount of $362,225, which note
had a maturity date of January 30, 2001 (the "Lewisburg Note"). The proceeds
from the Lewisburg Note were used to provide working capital for the Lewisburg
Outlook Pointe facility. Finally, on November 15, 2000, Meditrust elected to
apply the cash collateral from the remaining Outlook Pointe facility lease in
the amount of $108,821 towards the prepayment of a promissory note made by the
Company and IPC in favor of Meditrust in the principal amount of $7,811,054.

     On January 30, 2001, an additional note made by TC Realty Holding Company
in favor of Meditrust in the principal amount of $517,464 (the "Chippewa Note")
came due and payable and an additional note made by Black Box Holding Company in
the principal amount of $517,064 (the "Dillsburg Note") came due and payable.
The proceeds from the Chippewa Note and the Dillsburg Note were used to provide
working capital for the Chippewa and Dillsburg Outlook Pointe facilities

     On February 9, 2001, two additional notes made by TC Realty Holding Company
in favor of Meditrust in the principal amounts of $948,500 and $813,751,
respectively (the "Pocahontas/Blytheville Notes") came due and payable. The
proceeds from the Pocahontas/Blytheville Notes were used to provide working
capital for the Pocahontas and Blytheville facilities (hereafter, the Xenia/Lima
Notes, the Lewisburg Note, the Chippewa Note, the Dillsburg Note and the
Pocahontas/Blytheville Notes shall be collectively referred to as the "Notes").

     Under certain Working Capital Assurance Agreements executed by the Company
in favor of Meditrust, the Company is obligated to advance such amounts as are
necessary to ensure that the obligations under the Notes are paid in a timely
fashion. Meditrust may seek payment from the Company for the outstanding
principal balance of the Notes, together with default interest and late charges,
at any time. To date, Meditrust has not commenced any legal action against the
Company for its obligations under the Working Capital Assurance Agreements;
however, there can be no assurance that Meditrust will not commence action to
enforce its rights and remedies against the Company.

     The Company's lease arrangements are generally for initial terms of 9 to 15
years with aggregate renewal terms ranging from 15 to 25 years and provide for
contractually fixed rent plus additional rent, subject to certain limits. The
additional rent is capped at 2% to 3% of the prior year's total rent and is
based on either the annual increase in gross revenues of the facility or the
increase in the consumer price index. The Company's lease arrangements generally
contain an option to purchase the facility at its fair market value at the end
of the initial lease term and each renewal term.

                                        31
<PAGE>   33

     The Company's operations do not generate sufficient cash flow to meet
current rent obligations. However, the operations do generate sufficient cash
flow to cover facility operating and general and administrative expenses.
Therefore, as part of the Company's rent restructuring plan, cash flows
remaining after meeting the foregoing expenses are used to make certain rent and
interest payments. Management has negotiated the Rights Offering to meet the
current and future capital needs of the Company. IPC, the Company's 53%
stockholder, has agreed to vote its shares in favor of the Rights Offering at
the Company's Annual Meeting. Although the Company anticipates that the Rights
Offering will be completed in due course, there can be no assurance this will be
the case until definitive documents have been prepared and the transactions
contemplated thereunder have been completed. The inability of the Company to
close on the Rights Offering would have a material adverse effect on the
Company's business, results of operations and financial condition. If the
Company was unable to close on the Rights Offering and find an alternative
financing source, the Company might ultimately need to seek protection under
applicable insolvency laws; however, the Company is not pursuing this
alternative at this time. The Company's ability to continue as a going concern
is dependent upon, among other things, the Company's ability to restructure the
terms of its debt and lease obligations, the Company's ability to generate
sufficient cash from operations and closing on the Rights Offering.

  Operating Activities

     Cash used by operations increased by $246,000 to $16,190,000 for the nine
months ended March 31, 2001 from cash used by operations of $15,944,000 for the
nine months ended March 31, 2000. The increase in cash used was due to funding
losses and increase in receivables.

  Investing and Financing Activities

     Cash used for investing activities decreased by $48,331,000 to $7,176,000
for the nine months ended March 31, 2001 from $55,507,000 for the nine months
ended March 31, 2000. Cash provided by financing activities decreased by
$47,239,000 to $19,617,000 for the nine months ended March 31, 2001 from
$66,856,000 for the nine months ended March 31, 2000. Decreases in cash used for
investing activities resulted from reduced purchases of property and equipment
and a reduction in purchase option deposits. Decreases in financing activities
resulted from the decreased funding from debt and capital sources.

ITEM 3:  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     The Company did not have any securities subject to market risk as of, or
during, the nine months ended March 31, 2001.

ITEM 5:  OTHER EVENTS

     See Item 2, "Management's Discussion and Analysis of Financial Condition
and Results of Operations -- Recent Developments."

                          PART II -- OTHER INFORMATION

ITEM 3:  DEFAULTS UPON SENIOR SECURITIES

     On December 30, 1999, the Company and IPC (collectively, "Maker") made a
promissory note in the amount of $7,811,054 (the "Meditrust Note") in favor of
New Meditrust Corporation, as assigned to La Quinta TRS II, Inc. on March 28,
2001 ("Meditrust"). The Meditrust Note had a maturity date of April 3, 2001 (the
"Maturity Date"). On April 4, 2001, the Company received written notice from
Meditrust that stated Maker had failed to pay the Meditrust Note on the Maturity
Date and demanded immediate payment. To date, the Meditrust Note has not been
paid by Maker.

     The Company entered into an Indemnification, Defense, Hold Harmless and
Reimbursement Agreement dated as of December 29, 1999 in favor of IPC (the
"Indemnification Agreement"), under which the Company agreed to indemnify IPC
for its obligations to Meditrust under the Meditrust Note. The Company's
obligations under the Indemnification Agreement are secured by a pledge of the
stock of certain of the Company's subsidiaries pursuant to a Stock Pledge
Agreement dated as of April 18, 2000, as the same has been amended
                                        32
<PAGE>   34

from time to time. IPC's rights and interests under the IPC Stock Pledge
Agreement are also subordinated to the rights of Heller pursuant to a Third
Amended and Restated Subordination Agreement dated as of March 7, 2001. IPC has
agreed to refrain from taking any action or from receiving any payment arising
under or with respect to the Indemnification Agreement until the Heller
Obligations are paid in full.

     See also, "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources."

ITEM 6:  EXHIBITS AND REPORTS ON FORM 8-K

<TABLE>
<CAPTION>
EXHIBIT
NUMBER                             DESCRIPTION
-------    ------------------------------------------------------------
<S>        <C>
10.1       Master Termination and Release Agreement by and among
           Nationwide Health Properties, Inc. ("NHP"), MLD Delaware
           Trust ("MLD"), Balanced Care Corporation ("BCC"), BCC
           Development and Management Co., and the entities listed on
           Schedule 1 dated January 12, 2001(filed herewith)
10.2       License Agreement by and among NHP, MLD and BCC dated
           January 12, 2001 (filed herewith)
10.3       Form of Interim Management Agreement with NHP dated January
           12, 2001 (filed herewith)
10.4       Schedule to Form of Interim Management Agreement with NHP
           (filed herewith)
10.5       Form of Interim Management Agreement with NHP dated January
           12, 2001 (filed herewith)
10.6       Schedule to Form of Interim Management Agreement with NHP
           (filed herewith)
10.7       Master Operations Transfer Agreement by and among NHP, MLD,
           and the entities listed on Schedule 1 dated January 12, 2001
           (filed herewith)
10.8       Third Amendment to Stock Pledge Agreement by and among BCC,
           parties identified as Pledgors, FRR Investments Limited, IPC
           Advisors S.a.r.l. ("IPC") and HR Investments Limited ("HR"),
           RH Investments Limited ("RH")and VXM Investments Limited
           ("VXM") dated as of January 5, 2001 (filed herewith)
10.9       Fourth Amendment to Stock Pledge Agreement by and among BCC,
           parties identified as Pledgors, FRR Investments Limited,
           IPC, HR, RH, and VXM dated as of February 9, 2001 (filed
           herewith)
10.10      Promissory Note made by BCC in favor of VXM dated as
           February 9, 2001 (filed herewith)
10.11      Second Amended and Restated Subordination Agreement by and
           among FRR Investments Limited, IPC, HR, RH, VXM, Heller
           Healthcare Finance, Inc., BCC, and the entities listed on
           Exhibit A and Exhibit D thereto dated as of February 9, 2001
           (filed herewith)
10.12      Fifth Amendment to Stock Pledge Agreement by and among BCC,
           parties identified as Pledgors, FRR Investments Limited,
           IPC, HR, RH, and VXM dated as of March 7, 2001 (filed
           herewith)
10.13      Promissory Note made by BCC in favor of VXM dated as of
           March 7, 2001 (filed herewith)
10.14      Third Amended and Restated Subordination Agreement by and
           among FRR Investments Limited, IPC, HR, RH, VXM, Heller
           Healthcare Finance, Inc., BCC, and the entities listed on
           Exhibit A and Exhibit D thereto dated as of March 7, 2001
           (filed herewith)
10.15      Anderson Operations Transfer Agreement by and among Assisted
           Care Operators of Anderson, LLC ("ACO"), and Balanced Care
           at Anderson, Inc., and Trilogy Health Services, LLC dated as
           of March 31, 2001 (filed herewith)
10.16      Agreement for Termination of Lease Guaranties and Ancillary
           Documents by and among Health Care Property Investors, Inc.
           ("HCPI"), ACO, Assisted Care Operators, LLC, Oakhaven Senior
           Living, Inc., Oakhaven Assisted Living, Inc., BCC, and BCC
           Development and Management Co. dated as of March 31, 2001
           (filed herewith)
10.17      Agreement for Assumption of Guaranty Obligations by and
           among HCPI and BCC dated as of March 31, 2001 (filed
           herewith)
10.18      Employment Agreement by and between BCC and Brad E.
           Hollinger dated as of January 31, 2001 (filed herewith)
</TABLE>

---------------
(B) Reports on Form 8-K

1. Current Report on Form 8-K date April 16, 2001 regarding engagement of
   Raymond James and Associates, Inc. and $27.8 million loan.

                                        33
<PAGE>   35

                                   SIGNATURES

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

                                          BALANCED CARE CORPORATION

                                          By:        /s/ CLINT T. FEGAN
                                            ------------------------------------
                                                       Clint T. Fegan
                                                  Chief Financial Officer

Date: May 15, 2001

                                        34
<PAGE>   36

                                 EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT
NUMBER                             DESCRIPTION
-------    ------------------------------------------------------------
<S>        <C>
10.1       Master Termination and Release Agreement by and among
           Nationwide Health Properties, Inc. ("NHP"), MLD Delaware
           Trust ("MLD"), Balanced Care Corporation ("BCC"), BCC
           Development and Management Co., and the entities listed on
           Schedule 1 dated January 12, 2001(filed herewith)
10.2       License Agreement by and among NHP, MLD and BCC dated
           January 12, 2001 (filed herewith)
10.3       Form of Interim Management Agreement with NHP dated January
           12, 2001 (filed herewith)
10.4       Schedule to Form of Interim Management Agreement with NHP
           (filed herewith)
10.5       Form of Interim Management Agreement with NHP dated January
           12, 2001 (filed herewith)
10.6       Schedule to Form of Interim Management Agreement with NHP
           (filed herewith)
10.7       Master Operations Transfer Agreement by and among NHP, MLD,
           and the entities listed on Schedule 1 dated January 12, 2001
           (filed herewith)
10.8       Third Amendment to Stock Pledge Agreement by and among BCC,
           parties identified as Pledgors, FRR Investments Limited, IPC
           Advisors S.a.r.l. ("IPC") and HR Investments Limited ("HR"),
           RH Investments Limited ("RH")and VXM Investments Limited
           ("VXM") dated as of January 5, 2001 (filed herewith)
10.9       Fourth Amendment to Stock Pledge Agreement by and among BCC,
           parties identified as Pledgors, FRR Investments Limited,
           IPC, HR, RH, and VXM dated as of February 9, 2001 (filed
           herewith)
10.10      Promissory Note made by BCC in favor of VXM dated as
           February 9, 2001 (filed herewith)
10.11      Second Amended and Restated Subordination Agreement by and
           among FRR Investments Limited, IPC, HR, RH, VXM, Heller
           Healthcare Finance, Inc., BCC, and the entities listed on
           Exhibit A and Exhibit D thereto dated as of February 9, 2001
           (filed herewith)
10.12      Fifth Amendment to Stock Pledge Agreement by and among BCC,
           parties identified as Pledgors, FRR Investments Limited,
           IPC, HR, RH, and VXM dated as of March 7, 2001 (filed
           herewith)
10.13      Promissory Note made by BCC in favor of VXM dated as of
           March 7, 2001 (filed herewith)
10.14      Third Amended and Restated Subordination Agreement by and
           among FRR Investments Limited, IPC, HR, RH, VXM, Heller
           Healthcare Finance, Inc., BCC, and the entities listed on
           Exhibit A and Exhibit D thereto dated as of March 7, 2001
           (filed herewith)
10.15      Anderson Operations Transfer Agreement by and among Assisted
           Care Operators of Anderson, LLC ("ACO"), and Balanced Care
           at Anderson, Inc., and Trilogy Health Services, LLC dated as
           of March 31, 2001 (filed herewith)
10.16      Agreement for Termination of Lease Guaranties and Ancillary
           Documents by and among Health Care Property Investors, Inc.
           ("HCPI"), ACO, Assisted Care Operators, LLC, Oakhaven Senior
           Living, Inc., Oakhaven Assisted Living, Inc., BCC, and BCC
           Development and Management Co. dated as of March 31, 2001
           (filed herewith)
10.17      Agreement for Assumption of Guaranty Obligations by and
           among HCPI and BCC dated as of March 31, 2001 (filed
           herewith)
10.18      Employment Agreement by and between BCC and Brad E.
           Hollinger dated as of January 31, 2001 (filed herewith)
</TABLE>