<PAGE> 1
                      SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

                ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) of
                       the SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 1998

Commission file number 0-19294

                              RehabCare Group, Inc.
             (Exact name of Registrant as specified in its charter)

           Delaware                                           51-0265872
(State or other jurisdiction of             (I.R.S. Employer Identification No.)
 incorporation or organization)

          7733 Forsyth Boulevard, 17th Floor, St. Louis, Missouri 63105
              (Address of principal executive offices and zip code)

Registrant's telephone number, including area code (314) 863-7422

Securities registered pursuant to Section
12(b) of the Act:                          Name of exchange on which registered:
Common Stock, par value $.01 per share     New York Stock Exchange
Preferred Stock Purchase Rights            New York Stock Exchange

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

                       Yes   x                No

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

         The aggregate  market value of voting stock held by  non-affiliates  of
Registrant  at March  10,  1999,  was  $102,030,058.  At  March  10,  1999,  the
Registrant had 6,527,082 shares of Common Stock outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

         Part III of this Annual Report on Form 10-K  incorporates  by reference
information contained in the Registrant's Proxy Statement for its annual meeting
of stockholders to be held April 30, 1999.


                                        

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                                     PART I

ITEM 1.      BUSINESS

General

      RehabCare Group,  Inc. (the "Company" or the  "Registrant"),  is a leading
manager of comprehensive medical rehabilitation,  subacute (skilled nursing) and
outpatient therapy programs on a multi-year  contract basis and contract therapy
services to hospitals and nursing homes. Therapy  professionals  employed by the
Company include licensed physical and occupational therapists and their licensed
assistants,  as well as speech language  pathologists.  The Company believes the
locus of care in the  communities  where it has programs will continue to be the
acute-care  hospital and, thus, it works primarily with acute-care  hospitals to
deliver these programs with the goal of enhancing the overall economic viability
of the client  facility.  The  Company's  strategy is to use its  expertise  and
experience to provide its clients with an efficient and cost-effective  means to
offer physical medicine and rehabilitation  services in whatever setting is most
economically  feasible  while  establishing  long-term  relationships  with  its
clients.  Each of the product  lines the Company  offers is part of a post-acute
continuum directed at restoring  functional  independence and returning patients
to a residential setting.

      On July 31,  1998,  the Company  acquired  Rehabilitative  Care Systems of
America,  Inc.  ("RCSA"),  a manager of  outpatient  services for  hospitals and
school  districts,  and  merged it with its  outpatient  division.  The  Company
expanded  on its 1997 entry  into the  contract  therapy  business  through  the
acquisition of Therapeutic Systems, Ltd. ("Therapeutic Systems") on September 9,
1998.

      The  Company  also is a  leading  provider  of  therapists  and  nurses to
hospitals and long-term  care and  rehabilitation  facilities on both an interim
and permanent basis. Traveling nurses and therapists are recruited and typically
work on  assignment  for 13 weeks,  while per diem  therapists  and nurses  fill
vacancies of 1 day to 13 weeks. On August 17, 1998, the Company acquired StarMed
Staffing, Inc. ("StarMed"), a provider of traveling and per diem nurses.

      Historically,  the Company  has sought to broaden  its service  offerings,
both through  internal  growth and  acquisition.  The Company  believes that the
acquisition  of  additional   therapy-based   contract   management   companies,
established   outpatient  operators  and  other  therapy  providers  within  the
rehabilitation  industry and staffing  companies is an appropriate  strategy for
growth.  Additional related acquisition  opportunities are regularly reviewed by
the Company.


Industry Overview

      Many healthcare  providers are  increasingly  seeking to outsource a broad
range of services  through  contracts  with product line  managers.  Outsourcing
allows  healthcare  providers to take advantage of the specialized  expertise of
contract  managers,  thereby enabling providers to concentrate on the businesses
they know best, such as facility and nurse management. The trend toward lowering
the cost of  healthcare  by  reducing  lengths of stay has left most  healthcare
providers with empty beds. Continued  reimbursement pressures under managed care
and Medicare have driven healthcare  providers to look for additional sources of
revenue.  As overhead and operating  cost  constraints  have come into place and
manpower has been  reduced,  outsourcing  has become more  important in order to
increase   patient  volumes  and  provide  services  at  a  lower  cost  without
sacrificing quality.

      By outsourcing  post-acute  services,  healthcare  providers use specialty
contract managers such as the Company to:



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      Utilize unused space - Post-acute  services help  hospitals  utilize empty
wings of their  facilities,  which  allows the  hospital  to recover the cost of
capital investment and overhead associated with the space.

      Increased   volumes  -  Patients  needing  less  intensive   treatment  or
post-acute  therapies who would have been referred to other venues for treatment
can now remain in the hospital setting,  allowing  hospitals to capture revenues
that would  otherwise  be realized by another  provider.  New  patients are also
attracted to the hospital by new services.

      Sign   agreements   with  managed  care   organizations   -  Managed  care
organizations  find it more  advantageous to sign a contract covering both acute
and  post-acute  services  with one entity rather than several  separate,  often
unrelated  entities.  Contract managers may provide patient  evaluation  systems
that  collect  data on  patients  in each of their  units  showing the degree of
improvement  and the related  costs from the time the patient is admitted to the
post-acute  program through the time of discharge.  This is an important feature
to  managed  care  organizations  in  controlling  their  costs  while  assuring
appropriate  outcomes.  Contract  managers  may often  also have the  ability to
capture and analyze this information from a large number of acute rehabilitation
and subacute units,  which an individual  hospital could not otherwise do on its
own without a substantial investment in specialized systems.  Becoming part of a
managed care network helps the hospital attract  physicians,  and in turn, bring
more patients to the hospital.

      Increase  cost  control  -  Because  of  their  extensive   experience  in
post-acute  product lines,  contract managers can offer pricing  structures that
effectively  control a  healthcare  provider's  financial  risk  related  to the
service provided. Contract managers also frequently share in the financial risks
with their hospital clients of any losses the hospital incurs in connection with
starting the unit and  reimbursement  from payors.  For hospitals using contract
managers,  the result is often lower average  costs per discharge  than those of
self-managed  programs.  A hospital is able to  increase  its  revenues  without
having to increase its administrative staff or incur other fixed costs.

      Recruit  therapists  -  Although  the  supply of  therapists  has  greatly
improved,  therapists are still not readily available in many communities across
the nation.  Contract  managers often operate  tele-recruiting  departments with
recruiters whose job it is to match up candidates with therapist openings.  They
will  typically  maintain  close  connections  with  therapy  schools and attend
regional and national therapy association conferences several times a year.

      Obtain  reimbursement  advice - The  contract  managers  may  also  employ
reimbursement  specialists  who are  available  to assist  client  hospitals  in
interpreting   complicated   regulations.   These  specialists  analyze  current
regulations  and assist the  hospital in complying  with them,  a highly  valued
service in the current changing healthcare environment.

      A shortage of medical professionals and providers' efforts to manage costs
by maintaining flexible staffing has created opportunities for traveling and per
diem staffing  services.  In reaction to  reimbursement  cuts under the Balanced
Budget Act of 1997  ("BBA"),  nursing  homes and  providers of therapists to the
nursing home industry have reduced therapy staff,  thus  substantially  reducing
the demand for therapy  staffing  companies.  In  contrast,  the nurse  staffing
business,  a substantially  larger market, is strong due to providers continuing
to maintain  variable nurse staffing  levels,  an increase in the average age of
nurses, and an insufficient new supply of nursing graduates.


Services

      The Company operates in two businesses that have  fundamental  differences
in operations:  program management and staffing. Program management includes the
management  of  acute  rehabilitation  and  skilled  nursing  units,  outpatient
programs  and  contract  therapy  services.  Staffing  includes  both  traveling
(generally 13-week assignments) and per diem staffing of nurses and therapists.

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      Acute  Rehabilitation  Units - Since its inception in 1982,  the Company's
core business has been the staffing and management of acute rehabilitation units
within  acute-care  hospitals.  The Company  operates these units on a fee basis
that is  computed  in most  cases  based on patient  days in the unit.  The unit
typically  consists of 20 beds and utilizes formerly idle space in the hospital.
It treats  patients  having  primarily one of ten required  diagnoses  including
stroke, head injury or hip replacement.  The Company typically provides staffing
and management of the unit including a program  director,  a physician,  and the
clinical  staff  which may include a  psychologist,  physical  and  occupational
therapists,  a speech  pathologist,  a social worker,  a nurse  manager,  a case
manager  and  other  appropriate  supporting  personnel.  The unit  affords  the
hospital  the ability to offer  rehabilitation  services to its  patients,  thus
retaining  those patients who might otherwise be discharged to a setting outside
the hospital.  This service line represented  approximately 46% of the Company's
revenues  in 1998.  The  Company  plans to  continue  growing  this  part of its
business both through the signing of new contracts as well as through  retention
of current clients.  Re-signings of expiring acute rehabilitation contracts have
historically ranged from 80-90 percent.

      Subacute Units - In 1994,  the Company added the subacute  service line in
response to client requests for management  services and the Company's desire to
broaden its post-acute services.  The subacute unit is located in the acute-care
hospital  and is  separately  licensed  as a  skilled  nursing  unit,  utilizing
formerly  idle space in the  hospital.  This unit treats the patients who are at
the low end of need for medical or  rehabilitative  care,  with greater need for
nursing  care.  These  patients'   diagnoses  cover  approximately  60  clinical
conditions including stroke, post-surgical conditions,  pulmonary disease, burn,
cancer,  congestive heart failure and wound management.  The subacute unit makes
it possible  for the  patient to remain in a hospital  setting  where  emergency
needs can be quickly  met as opposed  to being  sent to a  freestanding  skilled
nursing facility. The Company provides administrative and nurse management.  The
hospital benefits,  once again, by retaining patients who would be discharged to
another setting,  thereby capturing additional revenue and utilizing idle space.
This service line  represented  approximately  7% of the  Company's  revenues in
1998.  Due to  substantially  lower  reimbursement  rates  for  skilled  nursing
facilities and units under BBA, the Company has negotiated reduced rates for its
services  and  expects  revenues  in this line of  business  to  decline in 1999
compared to 1998. The Company believes there is still opportunity to provide its
services to already existing subacute units that require professional management
in order to remain economically viable under prospective payment.

      Outpatient Programs - The outpatient division furnishes primarily therapy,
program   development  and  administrative   personnel  to  hospital  outpatient
departments,  satellites and school  districts.  In 1998,  RCSA was acquired and
merged into the  outpatient  division.  Pressure from payors to move patients to
lower  cost  settings  has  helped  fuel  the  growth  in  outpatient  services.
Outpatient  programs help bring patients into the hospital  through the referral
development efforts in the community.  These programs serve a younger population
reimbursed  by  commercial  and  managed  care  payors and treat  mainly  sports
medicine and workers  compensation  patients.  The service line helps  hospitals
compete with freestanding  clinics.  The Company's programs are always conducted
on the client  hospital's  campus or in satellite  locations  controlled  by the
hospital.  In  1998,  this  product  line  represented  approximately  8% of the
Company's  revenues.  The  Company  plans to  increase  this line of business by
signing  additional  contracts  with  hospitals as well as  purchasing  existing
outpatient facilities in partnership with its hospital clients.

      Contract  Therapy - In 1997,  the  Company,  through  acquisitions,  added
contract  therapy to its product lines. In September 1998, the Company  expanded
this product line  through the  acquisition  of  Therapeutic  Systems.  Contract
therapy  is  the  management  and  delivery  of  services,  including  providing
therapists,  in  long-term  care  settings.  Contract  therapy  revenues in 1998
accounted for  approximately  7% of the  Company's  business.  Contract  therapy
affords  the  client  the  opportunity  to  fulfill  their  recurring  need  for
therapists on a part-time  basis without the need to add  full-time  staff.  The
introduction of a prospective  payment system for skilled nursing facilities and
units has created a demand for the Company's  management  systems and expertise,
including  utilization of services and controlling  costs.  The Company plans to
grow  this  service  line  both   through   additional   contracts  as  well  as
acquisitions.


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      Traveling  Therapists  and  Nurses - In  March  1996,  RehabCare  acquired
Healthcare Staffing Solutions, Inc. ("HSSI"), located in Lowell,  Massachusetts,
thereby  entering  the  therapy  staffing  business.  Through  its  Health  Tour
division,  HSSI  recruits  and  relocates  physical,   occupational  and  speech
therapists to hospitals  and long-term  care  facilities  for typically  13-week
assignments (traveling therapists).  The enactment of the BBA, which established
a  prospective  payment  system for  skilled  nursing  facilities  and units has
significantly reduced the demand for traveling  therapists.  In response to this
decline, HSSI entered the nurse staffing business, a market significantly larger
than the therapist  market.  In August 1998,  the Company  acquired  StarMed,  a
provider of traveling  and per diem nurses,  subsequently  merging its traveling
division,  which  represented 25% of StarMed's  business,  with HSSI's traveling
therapy  division.  Business from traveling  therapists and nurses accounted for
approximately  17% of the Company's  1998  revenues.  Growth of this business is
planned primarily by increasing the number of traveling therapists and nurses on
assignment.

      Per Diem Staffing - In 1997,  HSSI entered the per diem staffing  business
which  provides  short-term  assignments  ranging from 1 day to 13 weeks to fill
vacancies typically resulting from turnover, vacation, maternity and sick leave.
Per diem staffing is a localized  market  business.  The  acquisition of StarMed
added  35 local  offices  providing  per diem  nurse  staffing.  Growth  of this
business is planned by increasing  the number of per diem offices and leveraging
those offices to furnish both therapy and nurse staffing services.  The per diem
staffing  business  accounted  for  approximately  15%  of  the  Company's  1998
revenues.


Expansion Strategy

      The Company's  expertise is in the management of quality  acute,  subacute
and  outpatient   rehabilitation  and  therapy  programs  and  contract  therapy
services,  and in the  provision of quality  clinical  personnel  to  healthcare
facilities. Drawing on this expertise, the thrust of its expansion strategy will
be to  develop  and  expand  contract  relationships  with  host  facilities  to
establish  and manage  acute,  subacute  and  outpatient  physical  medicine and
rehabilitation programs, and contract therapy services as well as increasing its
per diem  staffing  offices  and  traveling  nurses and  therapists.  Acute-care
hospitals  have  traditionally  been the  locus of  healthcare  delivery  in the
community and, as such, have controlled a substantial amount of the expenditures
for healthcare services. As healthcare reform evolves, the Company believes that
hospitals  will  continue to play a central role in the  delivery of  healthcare
services,  provided that they can achieve cost efficiencies and offer a complete
range of services  required within their  communities.  To this end, the Company
has  positioned  itself to assist  hospitals in providing the full  continuum of
physical  medicine  and  rehabilitation  services  within  acute,  subacute  and
outpatient settings  controlled by the hospital.  The economies of scale offered
by the  hospital's  existing  plant and  equipment,  coupled with the  Company's
expertise in delivering  these services,  offers the opportunity for a community
hospital to be a full  service  provider in the area of  physical  medicine  and
rehabilitation on a cost-effective basis.


Business Development

      The Company's  program  management  sales force focuses on generating  new
accounts and making follow-on sales. It has nine regional  development  officers
who are responsible for cultivating  relationships with prospective  clients. In
addition,  the  Company's  officers  play  an  integral  role  in the  Company's
marketing efforts.  With a broad range of services,  the Company has significant
opportunity to expand within its existing  client base.  Further,  cross-selling
more than one product line  strengthens  the  Company's  relationships  with its
clients.

      The  staffing  division's  ability  to  expand  its per diem  offices,  by
controlling start-up costs and reaching profitability quickly, facilitates rapid
growth.  The ability to cross-sell  therapy per diem staff from existing StarMed
offices, and to generate leads for travel and permanent therapists,  allows more
efficient use of overhead.

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Competition

      The  Company's  program  management  division  has no  direct  competitors
offering all the same program services although other companies may offer one or
more of the same services.  The Company competes with other contract  management
and therapy companies for agreements with acute-care hospitals and extended care
facilities.  The  Company's  programs in acute-care  hospitals  also compete for
patients  with  the  programs  of  other  acute-care   hospitals,   freestanding
rehabilitation,  skilled nursing and outpatient facilities.  Among the principal
competitive advantages the Company believes it has are a reputation for quality,
cost effectiveness,  a proprietary  outcomes  management system,  innovation and
price.  The Company  also  competes  with  hospitals,  nursing  homes,  clinics,
physicians' offices and contract therapy companies for the services of physical,
occupational and speech  therapists.  The Company's  staffing  division competes
with a number of  private  and  public  companies  and  believes  its  strategic
advantage is its diversity of staffing solutions,  ranging from single shift, to
a 13 week assignment, to permanent placement, which is attractive to clients and
prospective employees.


Regulation

      The  healthcare  industry  is  regulated  by  Federal,   state  and  local
governmental  agencies.  These  regulations  attempt  to  control  the number of
healthcare   facilities   through   certificate  of  need  laws,   licensure  or
certification  of healthcare  facilities  and the  reimbursement  for healthcare
services.

      In  many  states,   acute-care  hospitals  contracting  with  the  Company
generally are not required to obtain a  certificate  of need prior to opening an
inpatient unit. If a certificate of need is required, the process may take up to
12 months or more  depending upon the state  involved.  The  application  may be
denied if contested by a competitor  or the state agency.  Certificates  of need
are  usually   issued  for  a   specified   maximum   expenditure   and  require
implementation of the proposed improvement within a specified period of time.

      Licensure is a state or local requirement, while Medicare certification is
a Federal requirement.  Generally,  licensure and Medicare  certification follow
specific  standards and requirements.  Compliance is monitored by annual on-site
inspections  by  representatives  of  relevant  government  agencies.   Loss  of
licensure or Medicare  certification  by a hospital with which the Company has a
management contract would likely result in the termination of that contract.

      Prior to 1983,  Medicare  provided for  reimbursement of reasonable direct
and  indirect  costs of the services  furnished  by hospitals to patients.  As a
result of the Social  Security  Amendments  Act of 1983,  Congress  adopted  the
Prospective  Payment System ("PPS") as a means to control costs of most Medicare
inpatient hospital services.  Under this system, the Secretary of the Department
of Health and Human  Services  established  fixed payment  amounts per discharge
based on Diagnosis-Related  Groups ("DRG"). In general, a hospital's payment for
Medicare  inpatients  is  limited to the DRG rate,  regardless  of the amount of
services  provided to the patient or the length of the patient's  hospital stay.
Under PPS, a hospital  may keep any  difference  between its DRG payment and its
operating costs incurred in furnishing  inpatient  services,  but is at risk for
any operating costs that exceed its payment rate. As a result, hospitals have an
incentive to discharge Medicare patients as soon as is clinically appropriate.

      Inpatient  rehabilitation  units,  skilled  nursing  units and  outpatient
rehabilitation   services  have   historically   been  exempt  from  PPS.  Acute
rehabilitation  units  within  acute-care  hospitals  are  eligible to obtain an
exemption  from  PPS,  generally  after  the  first  year  of  operation,   upon
satisfaction of specified Federal criteria.  Such criteria include the operation
for a full 12  months  under  PPS and the  completion  of an  initial  exemption
survey.   The  exemption  survey  measures   compliance  with  certain  criteria
applicable to exempt units  generally,  including  approval to  participate as a
Medicare provider,  admission standards,  record keeping,  compliance with state
licensure laws,  segregation of beds,  accounting standards and certain specific
standards applicable to rehabilitation units,  including staffing,  medical care
and patient mix. Upon successful completion of the survey, Medicare payments for

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rehabilitation  provided  in  inpatient  units  are  made   under  a  cost-based
reimbursement system.

      In 1997,  Congress enacted the BBA, which includes numerous changes to the
Medicare system.  These changes include various reductions in payments under the
current  cost-based  reimbursement  system,  the implementation of a prospective
payment  system for skilled  nursing  facilities and units  ("SNU-PPS")  that is
being phased in starting  July 1998 and a prospective  payment  system for acute
rehabilitation  facilities  and units to be phased in over two years starting in
late  2000.  By  January 1, 1999,  substantially  all of the  Company's  managed
subacute units were fully phased in under SNU-PPS.  Although  specifics of other
prospective  payment  systems are not yet  available,  the  changes  will almost
certainly favor low-cost,  efficient  providers.  The Company  believes that its
strategy of administering  programs on the premises of host facilities positions
it well for the changing reimbursement environment.

      Various Federal and state laws regulate the relationship between providers
of healthcare services and physicians.  These laws include the "fraud and abuse"
provisions of the Social Security Act, under which civil and criminal  penalties
can be  imposed  upon  persons  who pay or  receive  remuneration  in return for
referrals of patients who are eligible for  reimbursement  under the Medicare or
Medicaid  programs.  The Company does not believe its business  arrangements are
out of compliance with these provisions.  The provisions are broadly written and
the full extent of their  application  is not  currently  known.  The  Inspector
General of the  Department of Health and Human Services has issued "safe harbor"
regulations  specifying  certain forms of relationships  that will not be deemed
violations  of  these  provisions.   The  Company  believes  that  its  business
arrangements are in compliance with any definitive regulations.

      In recognition of the importance of achieving and  maintaining  regulatory
compliance,   the  Company  has  established  a  Corporate   Compliance  Program
("Program")  to  establish  general  standards  of conduct and  procedures  that
promote  compliance with business  ethics,  regulations,  law and  accreditation
standards.  In its design, the Company has established  compliance standards and
procedures to be followed by its employees and other agents that are  reasonably
capable of reducing the prospect of criminal  conduct,  and has designed systems
for reporting and auditing of  potentially  criminal  acts. A key element of the
Program is the ongoing  communication  and training of employees and agents such
that it  becomes  a part of the day to day  business  operations.  A  compliance
committee  consisting of  representatives  of both designated members of Company
management and the Company's Board of Directors has been  established to oversee
implementation  and ongoing  operations  of the Program,  to enforce the Program
through appropriate disciplinary  mechanisms,  and to ensure that all reasonable
steps  are  taken to  respond  to an  offense  and to  prevent  further  similar
offenses. The Company is not aware of the existence of any current activities on
the part of any of its employees that would not be materially in compliance with
this  Program  and has  undertaken  the  Program  in an  effort to  enhance  the
prospects of continued compliance.


Employees

      As of December 31, 1998, the Company had  approximately  7,500  employees.
The  physicians  who  are  the  medical  directors  of the  contract  units  are
independent  contractors and not employees of the Company. Nurses and therapists
in the  staffing  division may be on either the  Company's or client's  payroll.
None  of  the  Company's  employees  are  subject  to  a  collective  bargaining
agreement. Management considers the relationship with its employees to be good.


ITEM 2.      PROPERTIES

      The Company  currently leases 26,000 square feet of executive office space
in Clayton,  Missouri, under a lease that expires in the year 2008, assuming all
options to renew are  exercised.  In addition to the monthly  rental  cost,  the
Company is also  responsible for specified  increases in operating  costs.  HSSI
leases 32,000

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square feet of executive  office space in Lowell,  Massachusetts,  under a lease
that expires in the year 2002, assuming all options to renew are exercised, plus
leases various  properties  throughout the country used as temporary housing for
traveling  therapists and nurses.  StarMed leases 9,000 square feet of executive
office space in Clearwater,  Florida,  under a lease that expires in 2002,  plus
leases various office space for its per diem staffing businesses  throughout the
country.


ITEM 3.      LEGAL PROCEEDINGS

      Not applicable.


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

      Not applicable.
                                     PART II

ITEM 5.      MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED
             STOCKHOLDER MATTERS

      Information  concerning  the Common Stock of the Registrant is included on
page 40 in this Annual Report of the  Registrant for the year ended December 31,
1998.


ITEM 6.      SELECTED FINANCIAL DATA

      Six-Year Financial Summary is included on page 40 in this Annual Report of
the Registrant for the year ended December 31, 1998.


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

      OVERVIEW

      The  Company  changed its fiscal year end from the last day of February to
December 31,  effective as of December 31, 1996. The change  resulted in a short
period of ten months that began March 1, 1996, and ended December 31, 1996.

      The growth in the  Company's  operating  revenues and net earnings  during
1998 was the  result  of an  increase  in the  number  of  acute,  subacute  and
outpatient programs,  and growth from acquisitions.  The 1998 results reflect an
increase in the average  number of inpatient  units from 110 to 128, an increase
in the average number of outpatient  units managed by the Company from 18 to 26,
an increase in contract therapy  locations from 44 to 67, and increased  nursing
weeks  worked  due to the  acquisition  of  StarMed.  The  growth  for  1997 was
primarily attributable to an increase in acute and subacute units plus increased
therapy  weeks worked at HSSI.  The growth for 1996 reflects the increase in the
number of subacute units and results from the acquisition of HSSI.

      In the normal  course of business,  new units are opened and some existing
units are closed  each year.  During  the first year of  operation,  a new acute
rehabilitation  unit will typically be subject to  limitations in  reimbursement
from  Medicare   considerably   below  the  hospital's   operating  cost.  As  a
consequence,  during this period the Company agrees with the client  hospital to
bear certain costs on the  hospital's  behalf and to waive a portion of its fees
until the unit qualifies for an exemption from Medicare limitations. The Company

                                        8

<PAGE> 9



assists the hospital in qualifying  the unit for the exemption and in minimizing
the  unreimbursed  costs during this non-exempt  period.  The Company's  average
operating  losses during the qualifying  period can range to as high as $150,000
to $200,000 per unit.  If the Company does not obtain an exemption for the unit,
the contract may be terminated  and, in the event of  termination,  losses would
generally  not be  recoverable.  Upon  completion  of the  qualifying  year  and
obtaining  the  exemption,  the hospital is eligible to recover all of its costs
related to the operation of the unit,  including  the  Company's  fees under the
management   contract.   Once  a  unit  becomes  exempt,  the  unit  experiences
accelerated  growth in  operating  revenues  and  profitability  as the  patient
population is expanded in response to the more favorable reimbursement terms.

      Subacute  units  and  outpatient  programs  are not  subject  to the  same
limitations in reimbursement  from Medicare as acute  rehabilitation  units and,
therefore,  should result in significantly  reduced start-up losses per unit. In
1997,  Congress  enacted  changes to the  Medicare  regulations  calling for the
implementation of SNU-PPS that is being phased in commencing in July 1998. As of
January 1, 1999,  substantially  all of the Company's  managed  skilled  nursing
units were wholly under SNU-PPS.

      In March 1996 the Company  acquired HSSI. The aggregate  purchase price of
$21,450,000 paid at closing included  $13,258,000 in cash, a $6,000,000 ten-year
convertible  subordinated  promissory  note and 185,295  shares of the Company's
common  stock.  Additional  consideration  will  be  paid  to  the  former  HSSI
stockholders  contingent  upon  the  attainment  of  certain  target  cumulative
earnings  before  interest  and income  taxes up to a maximum of  $8,800,000  in
additional  consideration  over six  years.  In 1998 and  1997,  $2,104,000  and
$1,000,000,  respectively,  of additional  consideration  was paid to the former
owners of HSSI.

      On January  28,  1997,  the Company  acquired  TeamRehab,  Inc.  and Moore
Rehabilitation  Services,  Inc.  ("Team  and  Moore"),  a provider  of  contract
therapy.  On June 12, 1997, the Company acquired Rehab  Unlimited,  Inc. and the
assets of Cimarron  Health Care,  Inc. and merged them into Team and Moore.  The
aggregate purchase prices for these acquisitions paid at closing was $6,950,000,
consisting of $4,275,000 in cash,  $1,825,000 in subordinated  promissory  notes
and 54,151 shares of the Company's common stock.  Additional  consideration will
be paid to the former Team and Moore stockholders contingent upon the attainment
of certain target cumulative  earnings before interest and income taxes, up to a
maximum of  $2,400,000  in additional  consideration  over four years.  In 1998,
$301,000 of contingent  consideration  was paid to the former owners of Team and
Moore.

      On January 31,  1997,  the Company  made a tender  offer to purchase up to
1,387,500  shares of its common stock at a single purchase price,  not less than
$13.33  nor in  excess  of $15.00  per  share.  The  actual  purchase  price was
determined  based on the  lowest  single  purchase  price at which  stockholders
tendered shares that was sufficient to purchase 1,387,500 shares. As of February
28,  1997,  the closing  date,  shares  totaling  greater  than  1,387,500  were
tendered, resulting in the Company's repurchase on March 12, 1997, of a total of
1,499,932  shares  at the  single  per  share  price of $15.00  per  share.  The
repurchase  was  financed  by an  increase  in the bank term loan and  revolving
credit facility.

      On July 31, 1998, the Company acquired RCSA for  consideration  consisting
of cash and stock. On August 17, 1998, the Company  acquired StarMed and certain
related entities for cash from Medical Resources, Inc. On September 9, 1998, the
Company acquired Therapeutic Systems for consideration consisting of cash, stock
and notes. The aggregate  purchase prices for these acquisitions paid at closing
was $41,150,000,  consisting of $37,950,000 in cash, 130,426 shares of stock and
$1,000,000 in subordinated notes. An additional $2,000,000 in cash consideration
in the purchase of StarMed has been deferred until certain  contingencies expire
and is secured by a bank letter of credit held by a  third-party  escrow  agent.
Additional  consideration  may be  paid  to the  former  stockholders  of  RCSA,
contingent  upon the retention of clients and  Therapeutic  Systems,  contingent
upon the attainment of certain  financial goals over the next three years, of up
to  $4,950,000.  The cash purchase  prices were funded through  borrowings  made
available by an increase in the Company's bank credit facility to $90,000,000.


                                        9

<PAGE> 10



The  acquisitions  have been accounted for by the purchase method of accounting,
whereby  their  operating  results  are  included  in the  Company's  results of
operations commencing on the respective dates of acquisition.


RESULTS OF OPERATIONS

      The  following  table sets forth for 1998,  1997 and the ten months  ended
December  31,  1996,  the  percentage  that  certain  items in the  consolidated
statements of earnings bear to operating revenues:

<TABLE>
<CAPTION>
                                                                                              Ten Months Ended
                                                                 Year Ended December 31,        December 31,
------------------------------------------------- ------------------------------------------ -----------------
                                                               1998                  1997            1996
------------------------------------------------- ----------------------- ------------------ -----------------
<S>                                                            <C>                   <C>             <C>   
Operating revenues                                             100.0%                100.0%          100.0%
Costs and expenses:
    Operating expenses                                           69.5                 68.9            71.1
    General and administrative                                   17.3                 17.0            16.1
    Depreciation and amortization                                 1.9                  2.3             2.6
Operating earnings                                               11.3                 11.8            10.2
Gain on sale of marketable securities                              .7                   .9              --
Other expense, net                                               (1.4)                (1.6)           (1.0)
Earnings before income taxes and cumulative
      effect of change in accounting principle                   10.6                 11.1             9.2
Income taxes                                                      4.3                  4.5             3.7
Earnings before cumulative effect of change in
      accounting principle                                        6.3                  6.6             5.5
Cumulative effect of change in accounting for
      start-up costs, net of tax                                 (0.4)                  --              --
Net earnings                                                      5.9%                 6.6%            5.5%
======================================================   ============= =====================  ===================
</TABLE>
Twelve Months Ended December 31, 1998 Compared to Twelve Months Ended
December 31, 1997

      Operating  revenues  in  1998  increased  by  $46,636,000,  or  29.0%,  to
$207,416,000  as compared to 1997.  Acquisitions  accounted for 89.2% of the net
increase.  Inpatient unit revenue increased by $14,225,000.  A 16.2% increase in
the average number of inpatient units from 110.3 to 128.2 units, and an increase
in the average daily  billable  census per  inpatient  unit of 6.1% from 13.2 to
14.0, generated a 23.3% increase in billable patient days to 656,363 and a 14.6%
increase in revenue from inpatient  units.  The increase in billable  census per
unit for  inpatient  units is  primarily  attributable  to a 10.4%  increase  in
admissions  per unit,  offset by a 3.8%  decline in average  billable  length of
stay. The decline in average length of stay reflects both the continued trend of
reduced  rehabilitation  lengths  of stay and the  increase  in  subacute  units
operational  in  1998,   which  carry  a  shorter  length  of  stay  than  acute
rehabilitation units. The increase in billable patient days was offset by a 7.1%
decrease in average per diem billing rates, reflecting a greater mix of subacute
units which  carry  lower  average per diem rates than acute units and lower per
diem billing  rates for subacute  units subject to the BBA.  Outpatient  revenue
increased  74.8% to  $16,484,000,  reflecting  $1,164,000  from  the  July  1998
acquisition  of RCSA,  plus an  increase  in the  average  number of  outpatient
clinics  managed  from  17.9 to 26.1 and an  increase  in units of  service  per
clinic.  Contract  therapy revenue  increased  66.6% to $13,921,000,  reflecting
$2,621,000 from the acquisitions of Team and Moore and Rehab Unlimited, and

                                       10

<PAGE> 11



$3,935,000  from the  acquisition  of  Therapeutic  Systems in  September  1998.
Staffing  revenue  increased  43.5% to  $66,597,000,  reflecting the addition of
$34,293,000  in  nurse  staffing   revenue  achieved  through  the  August  1998
acquisition of StarMed, offset by an approximate $14,900,000 decrease in therapy
staffing revenues.  Demand for therapists has declined significantly as a result
of the implementation of SNU-PPS.

      Operating  expenses for the twelve  month  periods  compared  increased by
$33,461,000,  or 30.2%, to $144,187,000.  Acquisitions  accounted for 88% of the
net increase. The remaining increase was attributable to the increase in patient
days and units of services, offset by decreased therapy staffing costs.

      The excess of operating expenses over operating  revenues  associated with
non-exempt  units  decreased  from  $778,000 to  $637,000,  on a decrease in the
average number of non-exempt  units from 7.7 to 3.2. The per unit average excess
of  operating  expenses  over  operating  revenues  increased  from  $102,000 to
$199,000 reflecting a greater percentage of units where the Company is obligated
to  provide  therapy  staff.  The  average  excess of  operating  expenses  over
operating  revenues for units during their  non-exempt year can range to as high
as $150,000 to $200,000.

      General and  administrative  expenses increased  $8,638,000,  or 31.6%, to
$35,932,000,  reflecting  increases  in  corporate  office  expenses  as well as
administration,  business  development,  operations and professional services in
support  of  the   increase  in  units,   plus  the   addition  of  general  and
administrative expenses of companies acquired.

      Depreciation and amortization  increased $186,000 reflecting  amortization
of goodwill from  acquisitions,  offset by the  elimination of  amortization  of
start-up costs in 1998.

      Interest expense increased $622,000 reflecting interest on additional debt
issued in the acquisitions of StarMed and Therapeutic  Systems.  Gain on sale of
marketable securities reflects the sale of the Company's investment in Intensiva
HealthCare Corporation, approximately 50% of which was sold in the first quarter
of 1997, and the remaining 50% sold in the fourth quarter of 1998.

      Earnings before income taxes and cumulative effect of change in accounting
principle increased by $3,993,000,  or 22.3%, to $21,875,000.  The provision for
income taxes for 1998 was $8,901,000 compared to $7,267,000 in 1997,  reflecting
effective  income tax rates of 40.7% and 40.6%,  respectively.  Earnings  before
cumulative effect of change in accounting principle increased by $2,359,000,  or
22.2%, to $12,974,000.  The cumulative effect of change in accounting  principle
of $776,000  represents the after-tax charge related to the adoption,  effective
January 1, 1998,  of Statement  of Position  No. 98-5  Reporting on the Costs of
Start-up  Activities.  Net  earnings  increased  by  $1,583,000,  or  14.9%,  to
$12,198,000. Diluted earnings per share increased 16.3% to $1.71 from $1.47 on a
1.8%   decrease  in  the   weighted-average   shares  and  assumed   conversions
outstanding.  The gains on sale of marketable securities represented $.12 of the
earnings  per share in both 1998 and 1997.  The  cumulative  effect of change in
accounting  principle  reduced  earnings  per  share  by $.11  in  1998  with no
comparable  reduction  in 1997.  Excluding  the  gains  on  sales of  marketable
securities  and the  cumulative  effect of the change in  accounting  principle,
diluted  earnings per share increased 25.9% from $1.35 in 1997 to $1.70 in 1998.
The  decrease  in  shares  outstanding  is  attributable   primarily  to  shares
repurchased  and a decrease in the dilutive  effect of stock  options  resulting
from a decrease in the average  market price of the Company's  stock relative to
the underlying  exercise prices of outstanding  options,  offset by stock option
exercises and shares issued in the acquisitions of RCSA and Therapeutic Systems.

Twelve Months Ended December 31, 1997 Compared to Twelve Months Ended 
December 31, 1996

      Management  believes that a comparison of the twelve months ended December
31, 1997 to the ten months ended December 31, 1996 is not meaningful  because of
the difference in length of reporting  periods.  Therefore,  this discussion and
analysis  of  results  of  operations  includes  a  comparison  of  the  audited
twelve-month  period  ended  December 31, 1997,  to the  unaudited  twelve-month
period ended December 31, 1996.

                                       11

<PAGE> 12



      Operating  revenues  in  1997  increased  by  $40,924,000,  or  34.1%,  to
$160,780,000 as compared to the same period in 1996.  Acquisitions accounted for
35.0% of the net increase.  A 20.8%  increase in the average number of inpatient
units from 91.3 to 110.3 units,  and an increase in the average  daily  billable
census per inpatient unit of 3.1% from 12.8 to 13.2,  generated a 24.6% increase
in billable  patient days to 532,195.  The increase in billable  census per unit
for inpatient  units is primarily  attributable to a 9.0% increase in admissions
per unit,  offset by a 5.4%  decline in  average  billable  length of stay.  The
decline in average  length of stay reflects both the continued  trend of reduced
rehabilitation lengths of stay and the increase in subacute units operational in
1997, which carry a shorter length of stay than acute rehabilitation  units. The
increase in billable  patient days was offset by a 3.7%  decrease in average per
diem billing rates, reflecting a greater mix of subacute units which carry lower
average per diem rates than acute units.  The $16,279,000  increase in inpatient
unit revenue was offset by a 9.8% decrease in outpatient  revenue to $9,429,000,
primarily  reflecting  the  loss  of  two  units.  Revenues  of  HSSI  increased
$17,544,000  primarily  as a result of an increase in weeks  worked plus revenue
from HSSI's new per diem staffing division.

      Operating  expenses for the  twelve-month  periods  compared  increased by
$25,305,000, or 29.6%, to $110,726,000.  Acquisitions accounted for 34.2% of the
net increase. The remaining increase was attributable to the increase in patient
days and increased placements at HSSI.

      The excess of operating expenses over operating  revenues  associated with
non-exempt  units  decreased  from  $912,000 to $778,000,  on an increase in the
average number of non-exempt  units from 5.4 to 7.7. The per unit average excess
of operating expenses over operating revenues declined from $169,000 to $102,000
reflecting a 2.5%  increase in billable  patients per unit to 2.9 plus a greater
percentage of units where the Company is not obligated to provide therapy staff.
The average  excess of  operating  expenses  over  operating  revenues for units
during their non-exempt year can range to as high as $150,000 to $200,000.

      General and  administrative  expenses increased  $8,725,000,  or 47.0%, to
$27,294,000,   reflecting   increases   in   professional   services,   business
development,  general office and operations  compared to the previous year, plus
the addition of general and administrative expenses of companies acquired.

      Depreciation and amortization  increased $631,000 reflecting primarily the
amortization  of  goodwill  from  the  purchase  of Team  and  Moore  and  Rehab
Unlimited.

      Interest income decreased  $83,000 as a result of reductions in investment
balances,  as cash  was  used to make  acquisitions  and  make  payments  on the
Company's debt.

      Interest expense increased  $1,441,000  reflecting  interest on additional
debt arising from the  repurchase of shares of the Company's  common stock,  and
the  acquisitions of HSSI, Team and Moore and Rehab  Unlimited.  Gain on sale of
marketable  securities  reflects the sale of approximately  50% of the Company's
investment in Intensiva HealthCare Corporation.

      Earnings  before  income  taxes  increased  by  $6,192,000,  or 53.0%,  to
$17,882,000.  The  provision  for  income  taxes  for the  twelve-month  periods
compared was $7,267,000 compared to $4,698,000,  reflecting effective income tax
rates of 40.6% and 40.2% for the respective  periods.  Net earnings increased by
$3,623,000, or 51.8%, to $10,615,000. Diluted earnings per share increased 58.1%
to  $1.47  from  $.93  on  a  4.4%  decrease  in  the  weighted-average   shares
outstanding.  The gain on sale of marketable securities  represented $.12 of the
earnings  per share in 1997.  Excluding  the gain,  diluted  earnings  per share
increased 45% to $1.35.  The decrease in shares  outstanding is  attributable to
the repurchase of shares of the Company's  common stock offset by an increase in
the dilutive effect of outstanding stock options.


LIQUIDITY AND CAPITAL RESOURCES

      As of  December 31, 1998, the  Company  had $8,683,000 in cash and current


                                       12

<PAGE> 13



marketable  securities  and a  current  ratio  of 1.5:1.  Working  capital as of
December 31, 1998, increased from December 31, 1997, by  $7,813,000,  reflecting
working  capital  from the  acquisitions of StarMed and  Therapeutic Systems and
working capital generated by operations.

      Net accounts  receivable were $46,349,000 at December 31, 1998 compared to
$24,147,000 at December 31, 1997. The number of days average net revenues in net
receivable  was 63.8 days and 52.0 days as of December 31, 1998 and December 31,
1997,  respectively.  The increase is primarily  the result of  acquisitions  of
businesses that traditionally carry longer payment terms from clients.

      During the year ended  December 31,  1998,  the Company  incurred  capital
expenditures of $2,103,000 as compared to $1,372,000 for the twelve months ended
December 31, 1997. At December 31, 1998, the Company had no material commitments
for capital expenditures.

      In connection with the development and implementation of additional units,
the Company may incur capital  expenditures  for  equipment  and deferred  costs
arising from payments  made to hospitals  for a portion of capital  improvements
needed to begin a unit's  operation.  For the twelve  months ended  December 31,
1998, the Company made deferred cost payments to four client hospitals  totaling
$450,000 for capital  improvements,  while for the twelve months ended  December
31, 1997,  payments were made to four client  hospitals  totaling  $368,000.  At
December 31, 1998,  the Company had 8  commitments  totaling  $1,084,000 to make
additional capital improvement payments to client hospitals.

      The  Company's  operating  cash flows  constitute  its  primary  source of
liquidity and  historically  have been  sufficient  to fund its working  capital
requirements.  The Company expects to meet its future working  capital,  capital
expenditure, business expansion and debt service requirements from a combination
of internal sources and outside financing.  As part of the acquisitions of RCSA,
StarMed and  Therapeutic  Systems,  the  Company's  bank term loan and revolving
credit  facility were  restructured.  Under the terms of the  restructured  loan
agreement, the Company entered into a five-year bank term loan with a commitment
of up to $60,000,000. The amount that may be borrowed under the revolving credit
facility was increased to the lesser of $30,000,000 or 85% of eligible  accounts
receivable,  reduced by amounts  outstanding  under the Company's bank letter of
credit.  As of December 31, 1998, the Company's  borrowings  under the term loan
and revolving credit facility totaled  $57,364,000 and $0,  respectively,  and a
letter of credit was outstanding in the amount of $2,000,000.

      On January 10, 1997,  the Company sold 165,000 shares of its investment in
Intensiva  HealthCare  Corporation in a market  transaction for $1,485,000.  The
remaining 161,287 shares were sold on December 18, 1998 for $1,552,000.

      On March 12, 1997, the Company repurchased  1,499,932 shares of its common
stock.  To finance  the  repurchase,  the  Company  issued $45 million in senior
secured debt, which was restructured in 1998 as described above.


YEAR 2000

         The Company is subject to risks associated with "Year 2000" compliance,
a term which  refers to the  ability of various  data  processing  hardware  and
software  systems to interpret dates correctly after the beginning of January 1,
2000.

         The Company has  developed  and presented to the Board of Directors its
action plan for Year 2000  compliance.  The major  phases of the action plan are
awareness, assessment, renovation, validation and implementation.

         The  awareness  phase included a communication  of Year 2000 compliance

                                       13

<PAGE> 14



issues  and  the  potential   ramifications  to  the  Company,   education  and
identification of key systems. The assessment phase included the inventorying of
systems that may be impacted by Year 2000 issues.

         Most of the Company's systems are purchased from industry-known vendors
and are generally  used in their standard  configuration.  Other systems will be
replaced  by or  converted  to Year 2000  compatible  systems.  The  Company has
closely reviewed the Year 2000 progress as reported by each vendor.  The Company
has been  assured  by  certain of these  vendors,  that new Year 2000  compliant
systems  have been  installed.  In all other  cases,  compliant  systems will be
delivered in time for installation and testing prior to year end 1999.

         The final phase of the action plan is the  implementation of remediated
and other  systems into the  operating  environment  of the  Company.  For those
systems  that have not yet been  delivered,  the  Company  expects  delivery  of
compliant  systems not later than early in the second quarter of 1999. The final
phase of the plan is scheduled to be completed by June 30, 1999. Concurrent with
the development and execution of the plan is the evolution of a contingency plan
that includes procedures to be followed should a system fail.

         The  Company  is also  completing  an  assessment  of Year  2000  risks
relating  to its  lines  of  business  separate  from  its  dependence  on  data
processing.  The assessment  includes  corresponding with customers to ascertain
their overall preparedness regarding Year 2000 risks. The plan also provides for
the  identification  and  communication  with  significant  non-data  processing
third-party  vendors regarding their preparedness for Year 2000 risks. It is not
possible  to  quantify  the  overall  potential  adverse  effects to the Company
resulting  from these  customers'  or non-data  vendors'  failure to  adequately
prepare  for  Year  2000  compliance.  The  failure  of a  customer  to  prepare
adequately  for Year  2000  could  have a  significant  adverse  effect  on such
customer's  operations  and  profitability,  which,  in turn,  could inhibit its
ability to pay for the  Company's  services  in  accordance  with  their  terms.
Failure of a non-data  vendor to prepare  adequately  for Year 2000 could have a
significant  adverse effect on the vendor's  operations,  which, in turn,  could
inhibit the  vendor's  ability to deliver  purchased  goods and  services to the
Company in a timely manner.  The Company also  recognizes the importance of Year
2000  compliance by  customers,  payment  sources,  and vendors to the Company's
customers and vendors.  The Company must  necessarily  rely upon the  compliance
programs of these third parties.

         The Company  does not expect that the cost of the Year 2000  compliance
will be material to its business, financial condition, or results of operations,
nor does  management  anticipate  any material  disruption  in operations as the
result of any failure by the Company or its  subsidiaries.  While the Company is
making a substantial effort to become Year 2000 compliant, there is no assurance
the failure to  adequately  address  all issues  relating to the Year 2000 issue
would not have a material  adverse effect on its financial  condition or results
of operations.


INFLATION

         Although  inflation has abated during the last several years,  the rate
of  inflation  in  healthcare  related  services  continues  to exceed  the rate
experienced  by the  economy  as a whole.  The  Company's  management  contracts
typically  provide for an annual increase in the fees paid to the Company by its
client  hospitals  based upon  increases  in various  inflation  indices.  These
increases generally offset increases in costs incurred by the Company.


ITEM 7A.      QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         Not applicable.


                                       14

<PAGE> 15



ITEM 8.      FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA











                          Independent Auditors' Report

The Board of Directors
RehabCare Group, Inc.:

We have audited the accompanying consolidated balance sheets of RehabCare Group,
Inc. and subsidiaries  (the "Company") as of December 31, 1998 and 1997, and the
related consolidated  statements of earnings,  stockholders'  equity, cash flows
and  comprehensive  earnings for the years ended  December 31, 1998 and 1997 and
for the ten  months  ended  December  31,  1996.  These  consolidated  financial
statements   are  the   responsibility   of  the   Company's   management.   Our
responsibility  is  to  express  an  opinion  on  these  consolidated  financial
statements based on our audits.

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

In our opinion, the consolidated  financial statements referred to above present
fairly,  in all material  respects,  the financial  position of RehabCare Group,
Inc. and subsidiaries as of December 31, 1998 and 1997, and the results of their
operations  and their cash flows for the years ended  December 31, 1998 and 1997
and for the ten months ended  December 31, 1996,  in conformity  with  generally
accepted accounting principles.

As discussed in note 1 to the  consolidated  financial  statements,  the Company
changed its method of accounting for start-up costs.







St. Louis, Missouri
February 5, 1999



                                       15

<PAGE> 16
<TABLE>
                              REHABCARE GROUP, INC.

                           Consolidated Balance Sheets
                  (dollars in thousands, except per share data)
<CAPTION>
                                                                                                      December 31,
                                                Assets                                           1998             1997
                                                ------                                           ----             ----
<S>                                                                                            <C>              <C>
Current assets:
     Cash and cash equivalents                                                                $  5,666           1,975
     Marketable securities, available-for-sale                                                   3,017           4,664
     Accounts receivable, net of allowance for doubtful accounts
         of $3,404 and $1,338, respectively                                                     46,349          24,147
     Deferred tax assets                                                                         3,382           1,773
     Prepaid expenses and other current assets                                                     938             720
                                                                                               -------          ------
                            Total current assets                                                59,352          33,279
                                                                                               -------          ------
Marketable securities, trading, noncurrent                                                       1,240           1,812
                                                                                               -------          ------
Equipment and leasehold improvements, net                                                        4,537           3,342
                                                                                               -------          ------
Other assets:
     Excess of cost over net assets acquired, net                                               86,285          52,949
     Deferred contract costs, net                                                                1,184           1,138
     Investments in nonconsolidated subsidiaries                                                 1,648           1,159
     Deferred tax assets                                                                           --              181
     Other                                                                                       2,624           3,381
                                                                                               -------          ------
                            Total other assets                                                  91,741          58,808
                                                                                               -------          ------
                                                                                              $156,870          97,241
                                                                                               =======          ======
                                 Liabilities and Stockholders' Equity
                                 ------------------------------------  
Current liabilities:
     Current portion of long-term debt                                                        $ 11,926           4,520
     Accounts payable                                                                            2,179           1,700
     Accrued salaries and wages                                                                 14,049           9,925
     Accrued expenses                                                                            8,601           3,570
     Income taxes payable                                                                        1,991             771
                                                                                               -------          ------
                            Total current liabilities                                           38,746          20,486
                                                                                               -------          ------
Deferred compensation and other long-term liabilities                                            3,084           2,501
                                                                                               -------          ------
Deferred tax liabilities                                                                           955              --
                                                                                               -------          ------
Long-term debt, less current portion                                                            53,929          34,494
                                                                                               -------          ------
Stockholders' equity:
     Preferred stock, $.10 par value; authorized 10,000,000 shares,
         none issued and outstanding                                                                --              --
     Common stock, $.01 par value; authorized 20,000,000 shares,
         issued 7,657,391 shares and 7,152,191 shares as of
         December 31, 1998 and 1997, respectively                                                   77              72
     Additional paid-in capital                                                                 30,654          23,972
     Retained earnings                                                                          47,390          35,192
     Less common stock held in treasury at cost, 1,166,234 shares and
           1,311,307 shares as of December 31, 1998 and 1997, respectively                     (17,975)        (20,212)
     Accumulated other comprehensive earnings                                                       10             736
                                                                                               -------          ------
                            Total stockholders' equity                                          60,156          39,760
                                                                                               -------          ------
                                                                                              $156,870          97,241
                                                                                               =======          ======

See accompanying notes to consolidated financial statements.
</TABLE>

                                       16

<PAGE> 17
<TABLE>


                              REHABCARE GROUP, INC.

                       Consolidated Statements of Earnings
                  (dollars in thousands, except per share data)


<CAPTION>
                                                                                                                   
                                                                                                                    Ten Months Ended
                                                                                           Year Ended December 31,      December 31,
                                                                                            1998              1997          1996
 <S>                                                                                    <C>                  <C>           <C>
 Operating revenues                                                                     $ 207,416            160,780       104,611
 Costs and expenses:
     Operating expenses                                                                   144,187            110,726        74,326
     General and administrative                                                            35,932             27,294        16,844
     Depreciation and amortization                                                          3,966              3,780         2,743
                                                                                          -------            -------       -------
            Total costs and expenses                                                      184,085            141,800        93,913
                                                                                          -------            -------       -------
            Operating earnings                                                             23,331             18,980        10,698
 Interest income                                                                              258                186           152
 Interest expense                                                                          (3,381)            (2,759)       (1,211)
 Gain on sale of marketable securities                                                      1,516              1,448            --
 Other income, net                                                                            151                 27            15
                                                                                          -------            -------       -------
            Earnings before income taxes and cumulative
                effect of change in accounting principle                                   21,875             17,882         9,654
 Income taxes                                                                               8,901              7,267         3,886
            Earnings before cumulative effect of                                          -------            -------       -------
                change in accounting principle                                             12,974             10,615         5,768
 Cumulative effect of change in accounting for start-up costs,
            net of tax                                                                       (776)                --            --
                                                                                          -------            -------       -------
            Net earnings                                                                $  12,198             10,615         5,768
                                                                                          =======            =======       =======

 Net earnings per common share:
     Basic
            Earnings before cumulative effect of change in
                accounting principle                                                    $    2.10               1.77           .82
            Cumulative effect of change in accounting for
                start-up costs                                                               (.13)                --            --
                                                                                          -------            -------       -------
            Net earnings                                                                $    1.97               1.77           .82
                                                                                          =======            =======       =======
     Diluted
            Earnings before cumulative effect of change in
                accounting principle                                                    $    1.82               1.47           .76
            Cumulative effect of change in accounting for
                start-up costs                                                               (.11)                --            --
                                                                                          -------            -------       -------
            Net earnings                                                                $    1.71               1.47           .76
                                                                                          =======            =======       =======

 See accompanying notes to consolidated financial statements.

</TABLE>

                                       17

<PAGE> 18

<TABLE>
                              REHABCARE GROUP, INC.

                 Consolidated Statements of Stockholders' Equity
                             (amounts in thousands)
<CAPTION>
                                                             
                                               Common Stock                                     Accumulated              
                                         ------------------------- Additional                  other compre-   Total             
                                         Issued  Treasury           paid-in   Retained  Treasury  hensive   stockholders'
                                         shares   stock    Amount   capital   earnings   stock    earnings     equity
                                         ------  --------  ------  ---------- --------  -------- ---------- ------------  
 <S>                                     <C>     <C>       <C>      <C>         <C>     <C>       <C>          <C>      
 Balance, February 29, 1996              6,777      --     $ 67     20,021      18,809       --       --        38,897

 Net earnings                               --      --       --         --       5,768       --       --         5,768
 Issuance of common stock
        in connection with acquisition     185      --        2      2,190          --       --       --         2,192
 Exercise of stock options (including
        tax benefit)                        78      --        1        582          --       --       --           583
 Unrealized gain on marketable
        securities, net of tax              --      --       --         --          --       --    2,230         2,230
                                         -----   -----      ---     ------      ------   ------    -----        ------
 Balance, December 31, 1996              7,040      --       70     22,793      24,577       --    2,230        49,670

 Net earnings                               --      --       --         --      10,615       --       --        10,615
 Purchase of treasury stock                 --   1,500       --         --          --  (23,131)      --       (23,131)
 Issuance of common stock
        in connection with acquisitions     38     (41)       1        639          --      644       --         1,284
 Exercise of stock options (including
        tax benefit)                        74    (148)       1        540          --    2,275       --         2,816
 Change in unrealized gain on
        marketable securities, net of tax   --      --       --         --          --       --   (1,494)       (1,494)
                                         -----   -----      ---     ------      ------   ------    -----        ------
 Balance, December 31, 1997              7,152   1,311       72     23,972      35,192  (20,212)     736        39,760

 Net earnings                               --      --       --         --      12,198       --       --        12,198
 Issuance of common stock
        in connection with acquisitions    130      --        1      2,199          --       --       --         2,200
 Exercise of stock options (including
        tax benefit)                       375    (145)       4      4,483          --    2,237       --         6,724
 Change in unrealized gain on
        marketable securities, net of tax   --      --       --         --          --       --     (726)         (726)
                                         -----   -----      ---     ------      ------   ------    -----        ------
 Balance, December 31, 1998              7,657   1,166     $ 77     30,654      47,390  (17,975)      10        60,156
                                         =====   =====      ===     ======      ======   ======    =====        ======

 See accompanying notes to consolidated financial statements.
</TABLE>





                                       18

<PAGE> 19
<TABLE>

                              REHABCARE GROUP, INC.

                      Consolidated Statements of Cash Flows
                             (dollars in thousands)
<CAPTION>
                                                                                                             Ten Months Ended
                                                                                  Year Ended December 31,        December 31,
                                                                                   1998            1997             1996
                                                                                  -----------------------    ----------------     
 <S>                                                                             <C>               <C>              <C>
 Cash flows from operating activities:
     Net earnings                                                                $ 12,198          10,615           5,768
     Adjustments to reconcile net earnings to net cash provided
         by operating activities:
              Cumulative effect of change in accounting
                  for start-up costs                                                  776              --              --
              Depreciation and amortization                                         3,966           3,780           2,743
              Provision for losses on accounts receivable                           1,093             717             549
              Equity in earnings of affiliate                                        (107)            (20)             --
              Gain on sale of marketable securities                                (1,516)         (1,448)             --
              Increase (decrease) in deferred compensation                           (598)            545             586
              Increase in accounts receivable, net                                 (6,666)         (7,755)         (4,586)
              Decrease (increase) in prepaid expenses and other current assets         43            (155)            259
              Decrease in other assets                                                161              15             122
              Increase (decrease) in accounts payable and accrued expenses          1,059           1,759          (1,915)
              Increase in accrued salaries and wages                                1,990           2,386           1,390
              Increase (decrease) in income taxes payable and deferred              1,156            (622)           (498)
                                                                                 --------          ------         -------
                      Net cash provided by operating activities                    13,555           9,817           4,418
                                                                                 --------          ------         -------

 Cash flows from investing activities:
     Additions to equipment and leasehold improvements, net                        (1,868)         (1,343)           (732)
     Purchase of marketable securities                                             (1,838)         (1,473)         (1,128)
     Proceeds from sale/maturities of marketable securities                         4,363           2,080           1,815
     Cash paid in acquisition of businesses, net of cash received                 (42,449)         (6,629)        (19,258)
     Investment in joint venture                                                     (382)           (630)             --
     Deferred contract costs, net                                                    (450)           (368)           (160)
     Other, net                                                                      (805)         (1,483)         (1,282)
                                                                                 --------          ------         -------
                      Net cash used in investing activities                       (43,429)         (9,846)        (20,745)
                                                                                 --------          ------         -------

 Cash flows from financing activities:
     Proceeds from (payments on) revolving credit facility                            --             (500)          2,000
     Payments on long-term debt                                                   (10,559)         (3,603)         (2,408)
     Proceeds from issuance of long-term debt                                      36,400          23,500           4,750
     Proceeds from issuance of notes payable                                        1,000           2,150           6,000
     Purchase of treasury stock                                                       --          (23,131)             --
     Exercise of stock options (including tax benefit)                              6,724           2,816             583
                                                                                 --------          ------         -------
                      Net cash provided by financing activities                    33,565           1,232          10,925
                                                                                 --------          ------         -------
                      Net increase (decrease) in cash and cash
                                equivalents                                         3,691           1,203          (5,402)
 Cash and cash equivalents at beginning of period                                   1,975             772           6,174
                                                                                 --------          ------         -------
 Cash and cash equivalents at end of period                                      $  5,666           1,975             772
                                                                                 ========          ======         =======

 See accompanying notes to consolidated financial statements.

</TABLE>


                                       19

<PAGE> 20
<TABLE>

                              REHABCARE GROUP, INC.

                Consolidated Statements of Comprehensive Earnings
                             (Amounts in thousands)

<CAPTION>

                                                                                                      Ten Months Ended
                                                                             Year Ended December 31,     December 31,
                                                                              1998           1997           1996
                                                                              ----           ----           ----
 <S>                                                                        <C>             <C>           <C>
 Net earnings                                                               $  12,198       10,615         5,768
 Other comprehensive earnings, net of tax--
     Unrealized gains (losses) on securities:
          Unrealized holding gains (losses)
               arising during period                                              184         (625)        2,230
          Less: reclassification adjustment for
               realized gains included in net earnings                           (910)        (869)           --
                                                                               ------       ------        ------
 Comprehensive earnings                                                     $  11,472        9,121         7,998
                                                                               ======       ======        ======
 See accompanying notes to consolidated financial statements.
</TABLE>


                                       20

<PAGE> 21


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


(1)   Summary of Significant Accounting Policies

      (a)    Principles of Consolidation
             The consolidated  financial statements  include the accounts of the
                parent   company  and  its  wholly   owned   subsidiaries.   All
                significant  intercompany  balances and  transactions  have been
                eliminated in consolidation. The Company has an investment which
                is accounted  for using the equity  method and records its share
                of the net earnings  (losses) of this entity in consolidated net
                income.

      (b)    Change in Fiscal Year
             The Company changed  its  fiscal  year  end  from  the  last day of
                February to December 31,  effective as of December 31, 1996. The
                change  resulted  in a short  fiscal  period of ten months  that
                began March 1, 1996,  and ended  December 31, 1996.  Information
                included in the footnotes to the financial  statements  for 1996
                refers to the ten months ended December 31, 1996.

      (c)    Accounting Change
             The Company adopted the  provisions  of  Statement  of Position No.
                98-5 ("SOP 98-5"), Reporting on the Costs of Start-Up Activities
                on January  1,  1998,  which  requires  that  costs of  start-up
                activities  be expensed as  incurred.  Start-up  activities  are
                defined  in SOP 98-5 as those  one-time  activities  related  to
                opening a new facility, introducing a new territory,  conducting
                business with a new class of customer or beneficiary, initiating
                a new  process  in an  existing  facility  or  commencing  a new
                operation.  Previously,  the Company capitalized these costs and
                amortized  them  over  the  term  of the  contract.  The  change
                resulted in a cumulative after-tax charge of $776,000,  $.11 per
                diluted share, recorded in the quarter ended March 31, 1998.

      (d)    Cash Equivalents and Marketable Securities
             Cash in excess of daily  requirements  is  invested  in  short-term
                investments  with  original  maturities of three months or less.
                Such  investments are deemed to be cash equivalents for purposes
                of the consolidated statements of cash flows.

                The Company  classifies its debt and equity  securities into one
                of   three   categories:    held-to-   maturity,   trading,   or
                available-for-sale.   Management   determines  the   appropriate
                classification  of its  investments  at the time of purchase and
                reevaluates  such  determination  at each  balance  sheet  date.
                Investments  at December 31, 1998 consist of  marketable  equity
                securities,  variable  rate  municipal  bonds and  money  market
                securities. All marketable securities included in current assets
                are classified as available-for-sale and as such, the difference
                between cost and market,  net of estimated taxes, is recorded as
                other comprehensive  earnings. Gain (or loss) on such securities
                is not  recognized  in the  consolidated  statement  of earnings
                until the  securities  are sold.  All  marketable  securities in
                non-current assets are classified as trading.

      (e)    Credit Risk
             The Company primarily provides services to a geographically diverse
                clientele of healthcare  providers throughout the United States.
                The Company performs ongoing credit evaluations of its clientele
                and does not  require  collateral.  An  allowance  for  doubtful
                accounts is maintained at a level which  management  believes is
                sufficient to cover potential credit losses.


                                       21

<PAGE> 22


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


      (f)    Equipment and Leasehold Improvements
             Depreciation   and   amortization   of  equipment   and   leasehold
                improvements are computed on the  straight-line  method over the
                estimated  useful  lives  of the  related  assets,  principally:
                equipment - five to seven  years and  leasehold  improvements  -
                life of lease or life of asset, whichever is less.

      (g)    Intangible Assets
             Substantially  all the  excess  of cost  over net  assets  acquired
                (goodwill)  relates  to  acquisitions  and  is  amortized  on  a
                straight-line basis over 40 years.  Accumulated  amortization of
                goodwill was  $7,483,773  and $5,206,000 as of December 31, 1998
                and 1997, respectively.  The Company evaluates the realizability
                of goodwill based upon  expectations of undiscounted  cash flows
                and operating income.  Based upon its most recent analysis,  the
                Company  believes  that no  impairment  of  goodwill  exists  at
                December 31, 1998.

      (h)    Deferred Contract Costs
             Deferred contract costs represent  payments made to hospitals for a
                portion  of  capital  improvements  needed  to  begin  a  unit's
                operation.  The  Company  is  entitled  to a pro rata  refund of
                deferred  capital  improvement  costs  in  the  event  that  the
                hospital   terminates   the   contract   before  its   scheduled
                termination date. Deferred contract costs are charged to expense
                over the initial term of the contracts. Accumulated amortization
                of deferred  contract  costs was $391,000 and  $1,138,000  as of
                December 31, 1998 and 1997, respectively.

      (i)    Disclosure About Fair Value of Financial Instruments
             The estimated fair-market  value of the revolving  credit  facility
                and  long-term  debt  (including   current  portions   thereof),
                approximates carrying value due to the variable rate features of
                the  instruments.  The Company  believes it is not  practical to
                estimate a fair value  different  from the carrying value of its
                subordinated  debt and the notes  payable to related  parties as
                the  instruments  have numerous  unique features as discussed in
                note 6.

      (j)    Revenues and Costs
             The Company recognizes  revenues as services  are  provided or when
                the  revenue  is  earned.   Costs   related  to  marketing   and
                development of new contracts are expensed as incurred.

      (k)    Income Taxes
             Deferred tax assets and  liabilities  are  recognized for temporary
                differences  between the financial statement carrying amounts of
                existing assets and  liabilities and their  respective tax bases
                and operating  loss and tax credit  carryforwards.  Deferred tax
                assets and  liabilities  are measured using enacted tax rates in
                effect for the year in which those  differences  are expected to
                be recovered or settled.

      (l)    Treasury Stock
             The purchase of the  Company's  common  stock is  recorded at cost.
                Upon  subsequent  reissuance,  the  treasury  stock  account  is
                reduced by the average cost basis of such stock.

      (m)    Comprehensive Earnings
             On January 1, 1998, the Company adopted the provisions of Statement
                of Financial  Accounting  Standards  ("SFAS") No. 130, Reporting
                Comprehensive  Income, which requires reporting of comprehensive
                income  (earnings)  and its  components,  in  the  statement  of

                                       22

<PAGE>23


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


                earnings  and  statement of stockholders' equity,  including net
                earnings as a  component.  Comprehensive  earnings is the change
                in equity of a business from  transactions  and other events and
                circumstances from non-owner sources.

      (n)    Segment Disclosures
             The Company has  adopted  the  provisions  of SFAS No.  131  ("SFAS
                131"),  Disclosures  about Segments of an Enterprise and Related
                Information.   SFAS  131  establishes  standards  for  reporting
                information  about  operating  segments and related  disclosures
                about  products  and  services,   geographic   areas  and  major
                customers.

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

      (p)    Reclassifications
             Certain prior years' amounts have been reclassified to conform with
                the current year presentation.

      (q)    Derivatives
             In June 1998, the Financial  Accounting Standards Board issued SFAS
                No. 133 ("SFAS 133"),  Accounting for Derivative Instruments and
                Hedging   Activities.   SFAS  133   establishes   standards  for
                derivative instruments, including certain derivative instruments
                embedded  in other  contracts,  and for hedging  activities.  It
                requires an entity to recognize all derivatives as either assets
                or  liabilities  in the  statement  of  financial  position  and
                measure those  instruments at fair value.  SFAS 133 is effective
                for all fiscal  years  beginning  after June 15,  1999.  Earlier
                application  of SFAS 133 is encouraged but should not be applied
                retroactively  to financial  statements  of prior  periods.  The
                Company is currently  evaluating the  requirements and impact of
                SFAS 133.

(2)   Acquisitions
      On July 31,  1998,  the Company  acquired  Rehabilitative  Care Systems of
         America,  Inc. ("RCSA"),  a provider of program outpatient therapy, for
         consideration  consisting  of cash and stock.  On August 17, 1998,  the
         Company  acquired StarMed  Staffing,  Inc.  ("StarMed"),  a provider of
         nurse  staffing,  and certain  related  entities  for cash from Medical
         Resources,  Inc. On September 9, 1998, the Company acquired Therapeutic
         Systems, Ltd. ("Therapeutic  Systems"), a provider of contract therapy,
         for  consideration  consisting of cash,  stock and notes. The aggregate
         purchase prices for these acquisitions paid at closing was $41,150,000,
         consisting  of  $37,950,000  in  cash,  130,426  shares  of  stock  and
         $1,000,000 in  subordinated  notes.  An  additional  $2,000,000 in cash
         consideration  in the  purchase  of  StarMed  has been  deferred  until
         certain  contingencies expire and is secured by a bank letter of credit
         held by a third-party  escrow agent.  Additional  consideration  may be
         paid to the former stockholders of RCSA,  contingent upon the retention
         of clients, and Therapeutic Systems,  contingent upon the attainment of
         certain financial goals over the next three years, of up to $4,950,000.
         The cash purchase price was funded through borrowings made available by
         an increase in the Company's bank credit facility to  $90,000,000.  See
         note  6.  Goodwill  of   approximately   $33,000,000   related  to  the
         acquisitions is being amortized over 40 years.

                                       23

<PAGE> 24


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


      The following  unaudited  pro  forma  financial  information  assumes  the
         acquisitions  occurred as of January 1, 1997.  This  information is not
         necessarily  indicative  of  results  of  operations  that  would  have
         occurred had the  purchases  actually been made at the beginning of the
         periods presented.

<TABLE>
<CAPTION>

                                                                   Year Ended December 31,
                                                                    1998            1997
                                                                   -----------------------
 <S>                                                         <C>                 <C>
 Operating revenues                                          $   264,635,000     229,669,000
 Net earnings                                                     13,727,000      12,355,000
 Net earnings per common and common
      equivalent share:
         Basic                                               $          2.19            2.02
         Diluted                                             $          1.90            1.68

</TABLE>

      On August 15, 1997, the Company  acquired a 40% interest in Allied Therapy
         Services,  L.L.C.  ("Allied") for $630,000 in cash and notes. The joint
         venture provides physical,  occupational and speech therapy services to
         nursing homes,  other long-term care  facilities,  outpatient  clinics,
         school systems and home health  agencies.  The Company accounts for its
         investment using the equity method.

      On January  28,  1997,  the Company  acquired  TeamRehab,  Inc.  and Moore
         Rehabilitation  Services,  Inc.  ("Team  and  Moore"),  a  provider  of
         contract  therapy.  On  June  12,  1997,  the  Company  acquired  Rehab
         Unlimited, Inc. and the assets of Cimarron Health Care, Inc. and merged
         them into Team and  Moore.  The  aggregate  purchase  prices  for these
         acquisitions  paid at closing was $6,950,000,  consisting of $4,275,000
         in cash, $1,825,000 in subordinated  promissory notes and 54,151 shares
         of the Company's common stock. Additional consideration will be paid to
         the former Team and Moore  stockholders  contingent upon the attainment
         of certain target cumulative earnings before interest and income taxes,
         up to a maximum of  $2,400,000 in  additional  consideration  over four
         years. In 1998,  $301,000 of contingent  consideration  was paid to the
         former owners of Team and Moore.  Goodwill  related to the acquisitions
         totaling $6,254,000 is being amortized over 40 years.

      On March 1, 1996, the Company acquired Healthcare Staffing Solutions, Inc.
         ("HSSI"), a provider of therapy staffing.  The aggregate purchase price
         of  $21,450,000  paid  at  closing  included  $13,258,000  in  cash,  a
         $6,000,000  ten-year  convertible   subordinated  promissory  note  and
         185,295  shares of the Company's  common stock.  Of the  $13,258,000 of
         cash paid,  $8,750,000  was borrowed  under the Company's term loan and
         revolving credit facility. Additional consideration will be paid to the
         former HSSI  stockholders  contingent  upon the  attainment  of certain
         target  cumulative  earnings  before  interest and income taxes up to a
         maximum of $8,800,000 in additional  consideration  over six years.  In
         1998 and 1997,  $2,104,000 and  $1,000,000,  respectively of contingent
         consideration was paid to the former owners of HSSI.

      The acquisitions, with the exception of Allied, have been accounted for by
         the purchase method of accounting,  whereby their operating results are
         included  in the  Company's  results of  operations  commencing  on the
         respective closing dates of acquisition.


                                       24

<PAGE> 25


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


(3)   Marketable Securities
      Current  marketable  securities at December 31, 1998 consist  primarily of
         variable rate municipal bonds. Noncurrent marketable securities consist
         of marketable  equity  securities  ($840,000 and $1,469,000 at December
         31, 1998 and 1997,  respectively) and money market securities ($400,000
         and $343,000 at December 31, 1998 and 1997, respectively) held in trust
         under the Company's deferred compensation plan.

(4)   Allowance for  Doubtful  Accounts
      Activity in the  allowance for doubtful accounts is as follows:

<TABLE>
<CAPTION>
                                                                                                        Ten Months  Ended
                                                                          Year Ended December 31,          December 31,
                                                                        1998                  1997             1996
                                                                        --------------------------      -----------------  
                <S>                                                 <C>                   <C>                <C>
                Balance at beginning of period                      $  1,338,000          1,386,000            822,000
                Provisions for doubtful accounts                       1,093,000            717,000            549,000
                Allowance related to acquisitions                      1,720,000             30,000            387,000
                Accounts written off                                   (747,000)          (795,000)           (372,000)
                                                                       ---------          ---------          ---------
                Balance at end of period                            $  3,404,000          1,338,000          1,386,000
                                                                       =========          =========          =========

</TABLE>

(5)   Equipment and Leasehold Improvements
      Equipment and leasehold improvements, at cost, consist of the following:

<TABLE>
<CAPTION>
                                                                                         December 31,
                                                                                     1998          1997
                                                                                     ------------------
                <S>                                                            <C>               <C>
                Equipment                                                      $   8,227,000     5,752,000
                Leasehold improvements                                               384,000       132,000
                                                                                   ---------     ---------
                                                                                   8,611,000     5,884,000
                Less accumulated depreciation and amortization                     4,074,000     2,542,000
                                                                                   ---------     ---------
                                                                               $   4,537,000     3,342,000
                                                                                   =========     =========




</TABLE>



                                       25

<PAGE> 26

                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


(6)    Long-Term Debt
       Long-term debt consists of the following:
<TABLE>
<CAPTION>
                                                                                            December 31,
                                                                                        1998            1997
                                                                                        ----            ----
<S>                                                                                 <C>               <C>
Bank Debt:
----------
Term facility - LIBOR plus 1.0% to 2.0% or Corporate Base
  Rate ("CBR"),  rate  dependent on the ratio of  indebtedness,  net of cash and
  marketable  securities,  to  cash flow,  maturing  October 1, 2003  (weighted-
  average rates of 6.7% and 7.2% at December 31, 1998 and 1997, respectively)       $ 57,364,000      22,750,000

Revolving credit facility-LIBOR  plus 1.0% to 2.0% or CBR, rate dependent on the
  ratio  of  indebtedness, net  of cash and marketable securities, to cash flow,
  maturing October 1, 2003 (weighted-average rate of 7.4% at December 31, 1997)               --       8,000,000

Subordinated Debt:
Note payable, 6.25% convertible, maturing March 1, 2006                                6,000,000       6,000,000
Note payable, 8%, maturing October 15, 1997, held in escrow as
  of December 31, 1997                                                                        --         395,000
Note payable, 8%, payable $93,750 quarterly through February 1,
  2001                                                                                   844,000       1,219,000
Note payable, 8%, payable in quarterly installments of $40,625
  commencing July 1, 1999, maturing July 1, 2001                                         322,000         325,000
Note payable, 8%, maturing August 15, 2001                                               325,000         325,000

Note payable, 8%, maturing September 9, 2002                                           1,000,000              --
                                                                                      ----------      ----------
                                                                                      65,855,000      39,014,000
Less current portion                                                                  11,926,000       4,520,000
                                                                                      ----------      ----------
Total long-term debt                                                                $ 53,929,000      34,494,000
                                                                                      ==========      ==========
</TABLE>

      On August  17,  1998,  as  part  of the  1998  acquisitions,  the  Company
         restructured  and  increased  its bank  debt.  Under  the  terms of the
         restructured  loan  agreement  the Company  entered  into a  five-year,
         $60,000,000  term loan and a revolving  line of credit which allows the
         Company to borrow up to the lesser of  $30,000,000  or 85% of  eligible
         accounts  receivable  as defined by the  agreement,  reduced by amounts
         outstanding under bank letters of credit. The Company pays a fee on the
         unused portion of the commitment  from .2% to .5% per annum,  with such
         rate being dependent on the ratio of the Company's indebtedness, net of
         cash and  marketable  securities,  to cash flow.  Borrowings  under the
         agreement,   including  the  revolving  credit  facility,  are  secured
         primarily by the Company's accounts receivable, equipment and leasehold
         improvements,  and  future  income  and  profits.  The  loan  agreement
         requires  the Company to meet  certain  financial  covenants  including
         maintaining  minimum net worth and fixed charge  coverage  ratios.  The
         loan agreement also restricts the Company's ability to pay dividends to
         its  stockholders.  As  of  December  31,  1998,  the  Company  had  an
         outstanding  bank  letter of credit in the  amount of  $2,000,000.  The
         average outstanding  borrowings under the revolving credit facility for
         1998,  1997  and 1996  were  $3,451,000,  $7,507,000 and $3,000,000  at
         weighted-average  interest  rates  of 7.0%,  7.4%  and 7.5% per  annum,
         respectively.

                                       26

<PAGE> 27


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


      The $6,000,000 convertible  subordinated  notes payable may be redeemed in
         whole or in part by the Company at any time after March 1, 2000 at from
         100% to 104% of the principal  balance.  The notes are convertible into
         the Company's  common stock prior to March 1, 2006,  subject to earlier
         redemption   by  the  Company,   at  the  option  of  the  former  HSSI
         shareholders,  at a  conversion  price  of  $14.17  per  share.  Of the
         $6,000,000 balance  outstanding  $4,500,000 is payable to a director of
         the Company who is president of HSSI.

      The scheduled  principal  payments of long-term  debt at December 31, 1998
         are as follows:  $11,926,000 in 1999,  $12,010,000 in 2000, $11,973,000
         in 2001,  $12,473,000  in  2002,  $11,473,000  in 2003 and  $6,000,000,
         thereafter.  Interest  paid for 1998,  1997 and 1996  was,  $3,630,000,
         $2,598,000 and $1,053,000, respectively. The Company purchases interest
         rate swaps and caps of twelve  months in length to reduce the impact of
         fluctuations  in interest  rates on its floating rate debt. At December
         31, 1998, the Company had a $20,000,000 interest rate swap outstanding.
         The  difference  to be paid  or  received  under  these  agreements  is
         recognized as an adjustment to interest expense.  The fair value of the
         swap if the Company  were to  terminate  the  agreement at December 31,
         1998 was not material.

(7)   Stockholders'  Equity 
      On January 31, 1997, the  Company  made a tender offer to  purchase  up to
         1,387,500  shares of  its common  stock at a single purchase price, not
         less  than  $13.33  nor in  excess of  $15.00  per  share.  The  actual
         purchase price was determined based on the lowest single purchase price
         at which stockholders tendered  shares that  was sufficient to purchase
         at least  1,387,500 shares.  As of February 28, 1997, the closing date,
         shares totaling  greater than 1,387,500 were tendered, resulting in the
         Company's repurchase on March 12, 1997, of a total of 1,499,932  shares
         at the single  purchase  price of $15.00 per  share. The repurchase was
         financed by  an  increase  in the  bank  term loan and revolving credit
         facility.

      The Company has a 1996 Long-Term  Performance Plan pursuant to which stock
         appreciation rights,  restricted stock,  performance awards,  incentive
         stock  options  or  nonqualified  stock  options,  may  be  granted  to
         employees.  Under the plan,  stock awards for  1,050,000  shares may be
         granted  within  10 years  of the date of  adoption  of the  plan.  The
         Company  also  has  a  1987   Incentive   Stock  Option  Plan,  a  1987
         Nonstatutory  Stock  Option Plan,  and a  Directors'  Stock Option Plan
         (together  with the  1996  Long-Term  Performance  Plan,  the  "Plans")
         pursuant to which  incentive  stock options may be granted to employees
         and  nonstatutory   stock  options  may  be  granted  to  employees  or
         directors. Under the 1987 Incentive Stock Option and Nonstatutory Stock
         Option Plans,  options to purchase  1,500,000 shares were available for
         grant, of which 825,000 shares were incentive stock options.  Under the
         Directors'  Stock  Option  Plan (the  "Directors'  Plan"),  options  to
         purchase  525,000 shares of stock may be granted.  Stock options may be
         granted for a term not to exceed 10 years (five years with respect to a
         person  receiving an  incentive  stock option who owns more than 10% of
         the capital  stock of the Company) and must be granted  within 10 years
         from the date of adoption of the respective plan. The exercise price of
         all stock options must be at least equal to the fair market value (110%
         of fair market value for a person  receiving an incentive  stock option
         who owns  more than 10% of the  capital  stock of the  Company)  of the
         shares on the date granted.  Under the Directors'  Plan,  each director
         who is not otherwise an officer or employee of the Company, receives an
         option each year through  1998 to acquire  15,000  shares of stock,  or
         such  lesser  amount as provided in the  Directors'  Plan,  at the fair
         market  value  on the  respective  option  grant  date.  Options  for a
         designated  number  of  shares  may  also be  granted  to a  particular
         director or directors from time to time at the discretion of the Board.
         All stock options become fully  exercisable  after four years from date
         of grant,  except for options  granted under the Directors'  Plan which
         become fully exercisable after six months.

                                       27

<PAGE> 28
                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


      The per share weighted-average  fair value of stock options granted during
         1998,  1997 and 1996 was  $8.55,  $7.64 and $6.89 on the dates of grant
         using  the  Black  Scholes  option-pricing  model  with  the  following
         weighted-average  assumptions:  1998  -  expected  dividend  yield  0%,
         volatility of 40%, risk-free interest rate of 4.7% and an expected life
         of 4 to 7 years;  1997 - expected dividend yield 0%, volatility of 33%,
         risk-free  interest  rate of 5.6% and an expected life of 4 to 7 years;
         1996 expected dividend yield 0%, volatility of 30%,  risk-free interest
         rate of 6.25% and an expected life of 4 to 7 years.

      The Company applies Accounting Principles Board Opinion No. 25 and related
         Interpretations   in  accounting   for  its  Plans.   Accordingly,   no
         compensation cost has been recognized for its long-term performance and
         stock option plans. Had compensation cost for the Company's stock-based
         compensation plans been determined based on the fair value at the grant
         dates for awards under those plans  consistent  with the method of SFAS
         No. 123 ("SFAS  123"),  Accounting  for Stock Based  Compensation,  the
         Company's  net  earnings and earnings per share would have been reduced
         to the pro forma amounts indicated below:

<TABLE>
<CAPTION>
                                     
                                                           
                                                                                                
                                                                                       Ten Months Ended
                                                            Year Ended December 31,       December 31,
                                                            1998             1997            1996
                                                            ----             ----            ----
 <S>                                                     <C>              <C>              <C>
 Net earnings                      As reported           $12,198,000      $10,615,000      $5,768,000
                                   Pro forma              10,546,000        9,820,000       5,340,000

 Basic earnings per share          As reported                  1.97             1.77             .82
                                   Pro forma                    1.71             1.64             .76

 Diluted earnings per share        As reported                  1.71             1.47             .76
                                   Pro forma                    1.49             1.36             .71

</TABLE>

      In accordance  with SFAS 123,  the pro forma net  earnings  reflects  only
         options  granted  subsequent  to February 1995 and does not reflect the
         full impact of calculating  compensation cost for stock options granted
         prior to March 1995, that vested in 1998, 1997 and 1996.

      A  summary  of the  status  of the  Company's  stock  option  plans  as of
         December 31, 1998, 1997 and 1996, and changes during the periods ending
         on those dates is presented below:

<TABLE>
<CAPTION>
                                           Year Ended                     Year Ended                   Ten Months  Ended
                                        December 31, 1998              December 31, 1997               December 31, 1996
                                        -----------------              -----------------               -----------------
                                                Weighted-Average               Weighted-Average                Weighted-Average
                                       Shares    Exercise Price       Shares    Exercise Price        Shares    Exercise Price
                                       ------    --------------       ------   ----------------       ------   ---------------- 
       <S>                          <C>          <C>                <C>            <C>              <C>            <C>
       Outstanding at
           beginning of period      1,925,809    $  11.00           1,863,671      $  9.11          1,625,738      $  8.64
       Granted                        833,696       15.53             335,375        19.43            456,399        10.78
       Exercised                     (519,848)       8.76            (221,558)        7.78            (78,028)        6.65
       Forfeited                     (469,508)      26.16             (51,679)       11.45           (140,438)       10.43
                                    ---------                       ---------                       ---------
       Outstanding at
           end of period            1,770,149       13.26           1,925,809        11.00          1,863,671         9.11
                                    =========                       =========                       =========
       Options exercisable
           at end of period         1,061,756                       1,247,265                       1,159,959
                                    =========                       =========                       =========

</TABLE>
                                       28

<PAGE> 29


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


       The  following   table   summarizes   information   about  stock  options
outstanding at December 31, 1998:
<TABLE>
<CAPTION>


                                       Options Outstanding                                  Options Exercisable
                         ---------------------------------------------------         --------------------------------
                                       Weighted-Average
         Range of          Number          Remaining       Weighted-Average             Number       Weighted-Average
      Exercise Prices   Outstanding     Contractual Life     Exercise Price           Exercisable      Exercise Price
      ---------------   -----------     ----------------   ----------------           -----------    ----------------
   <S>                    <C>                  <C>              <C>                    <C>               <C>  
   $    4.83 -  9.17        630,503            4.8 years        $   8.60                 589,234         $   8.60
       10.67 - 14.38        552,044            7.6                 11.37                 333,022            11.45
       16.25 - 20.08        396,884            9.8                 18.36                   3,891            17.43
       22.08 - 27.38        190,718            8.3                 23.52                 135,609            23.81
                          ---------                                                    ---------
         4.83 - 27.38     1,770,149            7.2                 13.26               1,061,756            11.47
                          =========                                                    =========
</TABLE>

      The Board of Directors of the Company declared a dividend  distribution of
         one preferred stock purchase right (the "Rights") for each share of the
         Company's  common stock owned as of October 1, 1992, and for each share
         of  the   Company's   common  stock  issued  until  the  Rights  become
         exercisable.  Each Right, when exercisable, will entitle the registered
         holder to purchase from the Company one sixty-seventh of a share of the
         Company's Series A junior participating preferred stock, $.10 par value
         (the Series A preferred stock), at a price of $35 per one sixty-seventh
         of a share.  The Rights are not exercisable and are  transferable  only
         with the Company's  common stock until the earlier of 10 days following
         a public  announcement  that a person has acquired  ownership of 15% or
         more of the Company's  outstanding common stock, or the commencement or
         announcement of a tender offer or exchange offer,  the  consummation of
         which would  result in the  ownership by a person of 15% or more of the
         Company's  outstanding  common stock. The Series A preferred stock will
         be nonredeemable and junior to any other series of preferred stock that
         the Company  may issue in the future.  Each share of Series A preferred
         stock,  upon issuance,  will have a preferential  dividend in an amount
         equal to the  greater  of $1.00 per  share or 100  times  the  dividend
         declared per share of the Company's  common stock.  In the event of the
         liquidation of the Company, the Series A preferred stock will receive a
         preferred liquidation payment equal to the greater of $100 or 100 times
         the payment made on each share of the Company's common stock.  Each one
         sixty-seventh  of a share of Series A preferred stock  outstanding will
         have one  vote on all  matters  submitted  to the  stockholders  of the
         Company  and will vote  together  as one class with the  holders of the
         Company's common stock.

      In the event that a person acquires beneficial ownership of 15% or more of
         the Company's common stock, holders of Rights (other than the acquiring
         person or group) may  purchase,  at the Rights' then  current  purchase
         price, shares of the Company's common stock having a value at that time
         equal to twice  such  exercise  price.  In the event  that the  Company
         merges  into  or  otherwise  transfers  50% or more  of its  assets  or
         earnings  power to any  person  after the  Rights  become  exercisable,
         holders  of Rights  (other  than the  acquiring  person  or group)  may
         purchase,  at the then  current  exercise  price,  common  stock of the
         acquiring  entity  having a value  at that  time  equal  to twice  such
         exercise price.






                                       29

<PAGE> 30


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


(8)   Earnings per Share
      The  following  table  sets  forth the  computation  of basic and  diluted
           earnings per share:
<TABLE>
<CAPTION>

                                                                                                       Ten Months Ended
                                                                          Year Ended December 31,         December 31,
                                                                            1998           1997               1996
                                                                            ----           ----               ----
<S>                                                                     <C>              <C>                 <C>        
Numerator:
Numerator for basic earnings per share -
    earnings available to common stockholders
    (net earnings)                                                      $ 12,198,000     10,615,000          5,768,000
Effect of dilutive securities - after-tax interest on
    convertible subordinated promissory notes                                225,000        225,000            184,000
                                                                          ----------     ----------          ---------
Numerator for diluted earnings per share -
    earnings available to common stockholders
    after assumed conversions                                           $ 12,423,000     10,840,000          5,952,000
                                                                          ==========     ==========          =========

Denominator:
Denominator for basic earnings per share -
    weighted-average shares outstanding                                    6,184,000      5,999,000          7,001,000
 Effect of dilutive securities:
    Stock options                                                            585,000        809,000            388,000
    Convertible subordinated promissory notes                                423,000        423,000            423,000
    Contingently issuable shares                                              53,000        144,000               --
                                                                          ----------     ----------          ---------
Denominator for diluted earnings per share -
    adjusted weighted-average shares and assumed
    conversions                                                            7,245,000      7,375,000          7,812,000
                                                                          ==========     ==========          =========

 Basic earnings per share                                               $       1.97           1.77                .82
                                                                                ====           ====                ===
 Diluted earnings per share                                             $       1.71           1.47                .76
                                                                                ====           ====                ===

</TABLE>

(9)   Employee Benefits
      The Company has an Employee Savings Plan, which is a defined  contribution
         plan qualified  under Section 401(k) of the Internal  Revenue Code, for
         the benefit of its eligible employees.  Employees who attain the age of
         21 and complete twelve  consecutive months of employment with a minimum
         of 1,000 hours worked are  eligible to  participate  in the plan.  Each
         participant may contribute from 2% to 20% of his or her compensation to
         the plan subject to limitations on the highly compensated  employees to
         ensure the plan is nondiscriminatory. Contributions made by the Company
         to the Employee Savings Plan were at rates of up to 50% of the first 4%
         of employee  contributions.  Expense in  connection  with the  Employee
         Savings  Plan for 1998,  1997 and 1996 totaled  $681,000,  $439,000 and
         $329,000, respectively.

      The Company  maintains a  nonqualified   deferred  compensation  plan  for
         certain employees. Under the plan, participants may defer up to 100% of
         their yearly  compensation.  The amounts deferred are held in trust but
         remain the property of the Company.

      The Company  establishes supplemental  bonus  plans in order to retain key
         members of management.  The current plans have vesting  periods of from
         four to seven years. Deferred payments that have vested are distributed
         upon termination of employment or at such  later date as established by
           

                                       30

<PAGE> 31


                              REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


         the plans. The total cost of the supplemental bonus plans is charged to
         earnings as  compensation  over the service period of the  participant.
         Compensation  expense under the plans for 1998,  1997, and 1996 totaled
         $360,000, $56,000, and $309,000, respectively.

      At December 31, 1998 and 1997,  $1,240,000 and  $1,812,000,  respectively,
         were  payable  under  the   nonqualified   deferred   compensation  and
         supplemental bonus plans and approximated the value of the trust assets
         owned by the Company.

(10)  Lease Commitments
      The Company leases  office  space  and  certain  office   equipment  under
         noncancellable  operating  leases.  Future minimum lease payments under
         noncancellable  operating  leases,  as of December 31, 1998,  that have
         initial  or  remaining   lease  terms  in  excess  of  one  year  total
         approximately  $1,639,000 for 1999, $1,426,000 for 2000, $1,036,000 for
         2001,  $887,000  for 2002 and $512,000  for 2003 and  thereafter.  Rent
         expense for 1998, 1997 and 1996 was approximately $1,203,000,  $766,000
         and $605,000, respectively.

(11)  Income Taxes
      Income taxes consist of the following:
<TABLE>
<CAPTION>
                                                                                                Ten Months Ended
                                                             Year Ended December 31,               December 31,
                                                          1998                  1997                  1996
                                                          ----                  ----                  ----
 <S>                                                 <C>                       <C>                   <C>

 Federal - current                                   $   7,922,000             6,298,000             3,787,000
 Federal - deferred                                         42,000              (122,000)             (539,000)
 State                                                     937,000             1,091,000               638,000
                                                         ---------             ---------             ---------
                                                     $   8,901,000             7,267,000             3,886,000
                                                         =========             =========             =========
 Deferred tax liability recorded in
       stockholders' equity                          $       4,000               520,000             1,367,000
                                                         =========             =========             =========

</TABLE>

                                      
       A reconciliation between expected income taxes, computed by  applying the
           statutory Federal income  tax  rates to earnings before income taxes,
           and actual income tax is as follows:
<TABLE>
<CAPTION>
                                                                                               Ten Months Ended
                                                            Year Ended December 31,               December 31,
                                                          1998                  1997                  1996
                                                          ----                  ----                  ----
 <S>                                                  <C>                      <C>                   <C>                       
 Statutory U.S. Federal rate                               35%                   35%                   34%
                                                           ===                   ===                   ===
 Expected income taxes                                $  7,656,000             6,259,000             3,282,000
 Tax effect of interest income from
       municipal bond obligations
       exempt from Federal taxation                        (65,000)              (54,000)              (43,000)
 State income taxes, net of Federal
       income tax benefit                                  609,000               709,000               421,000
 Tax effect of amortization expense
       not deductible for tax purposes                     261,000               261,000               211,000
 Other, net                                                440,000                92,000                15,000
                                                         ---------             ---------             ---------
                                                      $  8,901,000             7,267,000             3,886,000
                                                         =========             =========             =========
</TABLE>

                                       31

<PAGE> 32
                             REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


      The tax effects of temporary  differences  that give rise to the  deferred
         tax assets and liabilities are as follows:
<TABLE>
<CAPTION>
                                                                                        December 31,
                                                                                1998                    1997
                                                                                ----------------------------
 <S>                                                                         <C>                   <C>
 Deferred tax assets:
       Net operating loss                                                    $    95,000             569,000
       Provision for doubtful accounts                                         1,112,000             519,000
       Accrued insurance, bonus and
           vacation expense                                                    2,776,000           2,442,000
       Other                                                                     740,000             351,000
                                                                               ---------           ---------
                                                                               4,723,000           3,881,000
                                                                               ---------           ---------
 Deferred tax liabilities:
       Unrealized gains on marketable
           securities                                                              4,000             520,000
       Goodwill amortization                                                   1,494,000             765,000
       Other                                                                     798,000             642,000
                                                                               ---------           ---------
                                                                               2,296,000           1,927,000
                                                                               ---------           ---------
       Net deferred tax asset                                                $ 2,427,000           1,954,000
                                                                               =========           =========

</TABLE>
      The Company is required to  establish a valuation  allowance  for deferred
         tax assets if,  based on the weight of available  evidence,  it is more
         likely  than not that some  portion or all of the  deferred  tax assets
         will not be realized.  The ultimate  realization of deferred tax assets
         is dependent  upon the  generation of future  taxable income during the
         periods  in  which  those  temporary   differences  become  deductible.
         Management   considers   the   scheduled   reversal  of  deferred   tax
         liabilities,   projected   future   taxable  income  and  tax  planning
         strategies  in  making  this  assessment.   Based  upon  the  level  of
         historical  taxable income and projections for future taxable income of
         the periods  which the deferred tax assets are  deductible,  management
         believes  that a valuation  allowance  is not  required,  as it is more
         likely than not that the  results of future  operations  will  generate
         sufficient taxable income to realize the deferred tax assets.

      As a result of the acquisition of Advanced Rehabilitation  Resources, Inc.
         in 1993,  the  Company,  as of December  31,  1998,  has  approximately
         $231,000 of net operating loss  carryforwards  for income tax purposes,
         which will  expire in years 2005  through  2008.  The Tax Reform Act of
         1986 imposes an annual  limitation on the amount of any  preacquisition
         loss  carryforwards  that can be used to offset Company Federal taxable
         income  generated after the acquisition  date.  Generally,  this annual
         limitation will approximate $1,200,000.

      Income taxes paid by the Company for 1998, 1997 and 1996 were  $6,500,000,
         $6,400,000 and $4,234,000, respectively.

(12)  Industry Segment Information
      The Company operates in two business segments that are managed  separately
         based on fundamental differences in operations:  program management and
         staffing.  The program  management  segment  includes the management of
         acute rehabilitation and skilled nursing units, outpatient programs and

                                       32

<PAGE> 33
                             REHABCARE GROUP, INC.

                   Notes to Consolidated Financial Statements


         contract therapy services.  The staffing segment  includes  staffing of
         nurses and  therapists on a temporary and permanent  basis.  All of the
         Company's  services  are  provided  in the  United  States.  Summarized
         information about the Company's  operations in each industry segment is
         as follows:
<TABLE>
<CAPTION>
                                                   Revenues from
                                                Unaffiliated Customers                               Operating Earnings
                                         ------------------------------------                ----------------------------------  
                                         1998            1997            1996                1998           1997           1996
                                         ----            ----            ----                ----           ----           ----
 <S>                                <C>               <C>             <C>                  <C>            <C>            <C>      
 Program management                 $ 142,051,000     115,209,000      76,349,000          21,225,000     14,566,000      8,043,000
 Staffing                              65,365,000      45,571,000      28,262,000           2,106,000      4,414,000      2,655,000
                                      -----------     -----------     -----------          ----------     ----------     ----------
 Total                              $ 207,416,000     160,780,000     104,611,000          23,331,000     18,980,000     10,698,000
                                      ===========     ===========     ===========          ==========     ==========     ==========
</TABLE>

<TABLE>
<CAPTION>
                                                   Total Asset                                 Depreciation and Amortization
                                         ------------------------------------                ----------------------------------
                                         1998            1997            1996                1998           1997           1996
                                         ----            ----            ----                ----           ----           ----
 <S>                                <C>                <C>             <C>                  <C>            <C>            <C>
 Program management                 $  89,369,000      67,530,000      54,236,000           2,758,000      2,874,000      2,076,000
 Staffing                              67,501,000      29,711,000      26,566,000           1,208,000        906,000        667,000
                                      -----------      ----------      ----------           ---------      ---------      ---------
 Total                              $ 156,870,000      97,241,000      80,802,000           3,966,000      3,780,000      2,743,000
                                      ===========      ==========      ==========           =========      =========      =========
</TABLE>

<TABLE>
<CAPTION>
                                                 Capital Expenditures
                                         ------------------------------------
                                         1998            1997            1996
                                         ----            ----            ----
 <S>                                <C>                 <C>               <C>
 Program management                 $   1,491,000       1,123,000         541,000
 Staffing                                 612,000         249,000         191,000
                                        ---------       ---------         -------
 Total                              $   2,103,000       1,372,000         732,000
                                        =========       =========         =======
</TABLE>
(13)  Quarterly Financial Information (Unaudited) 
      (In thousands, except per share data)
<TABLE>
<CAPTION>
                                                                                         Quarter Ended
                   1998                                                Dec. 31       Sep. 30       June 30       Mar. 31
                   ----                                                -------       -------       -------       -------
 <S>                                                                <C>               <C>           <C>           <C>
 Operating revenues                                                 $   66,835        54,050        42,967        43,564
 Operating earnings                                                      6,712         5,935         5,345         5,339
 Earnings before income taxes and cumulative
    effect of change in accounting principle                             7,178         5,147         4,808         4,742
 Net earnings                                                            4,227         3,072         2,883         2,016
 Net earnings per common share:
      Basic
         Earnings before cumulative effect of
             change in accounting principle                                .65           .49           .48           .47
         Net earnings                                                      .65           .49           .48           .35
      Diluted
         Earnings before cumulative effect of
             change in accounting principle                                .59           .43           .41           .40
         Net earnings                                                      .59           .43           .41           .29
</TABLE>


                                       33

<PAGE> 34


<TABLE>
<CAPTION>
                                                                                         Quarter Ended
                   1997                                               Dec. 31        Sep. 30       June 30       Mar. 31
                   ----                                               -------        -------       -------       -------
 <S>                                                               <C>                <C>           <C>           <C>       
 Operating revenues                                                $   42,728         42,151        39,496        36,405
 Operating earnings                                                     5,352          4,854         4,464         4,310
 Earnings before income taxes                                           4,659          4,139         3,741         5,343
 Net earnings                                                           2,744          2,439         2,165         3,267
 Net earnings per common share:
       Basic                                                              .47            .43           .38           .48
       Diluted                                                            .38            .35           .31           .42
</TABLE>

            The sum of the quarterly earnings per common share may not equal the
            full  year   earnings   per  common   share  due  to  rounding   and
            computational differences.


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

      Not applicable.

                                    PART III

 ITEM 10.     DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

      Certain  information  regarding  directors and  executive  officers of the
Company is  contained  under the caption  "Item 1 - Election of  Directors"  and
"Compliance with Section 16(a) of the Securities  Exchange Act of 1934" included
in the Proxy  Statement  for the 1999  Annual  Meeting  of  Stockholders,  which
information is incorporated herein by reference.

      The following is a list as of March 11, 1999, of the names and ages of the
executive officers of the Company and positions with the Company. The employment
history of each of the  executive  officers for the past five years  follows the
list. There is no family relationship between any of the named persons.

<TABLE>
<CAPTION>
        Name          Age               Position
        ----          ---               --------
<S>                    <C>  <C>
Alan C. Henderson      53   President and Chief Executive Officer
Richard C. Stoddard    50   Executive Vice President, President, HSSI
Gregory F. Bellomy     42   President, Contract Therapy Division
Tom E. Davis           49   President, Inpatient Division
Keith L. Goding        48   Executive Vice President and Chief Development Officer
Alfred J. Howard       46   President, Outpatient Division
Hickley M. Waguespack  55   Executive Vice President, Customer Service and Retention
John R. Finkenkeller   46   Senior Vice President, Chief Financial Officer and Secretary
</TABLE>

      ALAN C.  HENDERSON has been  President and Chief  Executive  Officer and a
Board Member of the Company  since May 1998 and was  Executive  Vice  President,
Chief Financial Officer and Secretary from 1991 through May 1998.

      RICHARD C.  STODDARD is a co-founder of HSSI,  has been  President of HSSI
since 1989, and is also a Board Member at the Company.

                                       34

<PAGE> 35
                                     
      GREGORY F. BELLOMY has been  President of the Company's  Contract  Therapy
Division since September 1998. Prior to joining the Company,  Mr. Bellomy served
in various capacities, including Division President, Division Vice President and
Area General Manager, at TheraTex  Incorporated from 1992 to 1997, at which time
TheraTex was acquired by Vencor Incorporated.  Mr. Bellomy was National Director
of Vencare Ancillary Services for Vencor until he joined the Company.

      TOM E. DAVIS has been  President of the Inpatient  Division of the Company
since  January  1998 and joined  the  Company  in  January  1997 as Senior  Vice
President of Operations.  Prior to joining the Company, Mr. Davis was Group Vice
President for Quorum Health Resources from January 1990 to January 1997.

      KEITH L. GODING has been Executive  Vice  President and Chief  Development
Officer of the Company since  February 1995.  Prior to joining the Company,  Mr.
Goding was Vice  President for Corporate  Alliances and Vice President of Sales,
Marketing and Product Development for Spectrum Healthcare  Services,  a division
of ARAMARK, where he was employed since 1974.

      ALFRED J.  HOWARD has been  President  of the  Outpatient  Division of the
Company since August 1996.  Prior to joining the Company he was President of the
Eastern  Operations for Pacific  Rehabilitation and Sports Medicine from October
1993 to August 1996.

      HICKLEY M. WAGUESPACK has been Executive Vice President,  Customer Service
and Retention of the Company since January 1998, was Chief Operating  Officer of
the Company from March 1995 through December 1997, and was Senior Vice President
- Operations from June 1991 until February 1995.

      JOHN R.  FINKENKELLER  has been Senior Vice President and Chief  Financial
Officer of the Company since June 1998, was elected Secretary in August 1998 and
was Senior Vice President and Treasurer since October 1991.


 ITEM 11.     EXECUTIVE COMPENSATION

      Information  regarding  executive  compensation  is  contained  under  the
caption  "Compensation of Executive  Officers,"  included in the Proxy Statement
for the 1999 Annual Meeting of  Stockholders,  which is  incorporated  herein by
reference.


 ITEM 12.     SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
              MANAGEMENT

      Information  regarding security ownership of certain beneficial owners and
management  is contained  under the captions  "Voting  Securities  and Principal
Holders Thereof" and "Security  Ownership by Management,"  included in the Proxy
Statement for the 1999 Annual  Meeting of  Stockholders,  which is  incorporated
herein by reference.


 ITEM 13.     CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

      Not applicable.


                                       35

<PAGE> 36

                                     PART IV

 ITEM 14.     EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
              FORM 8-K

      (a) The following documents are filed as part of this report:

            (1) Financial Statements
                    Independent Auditors' Report
                    Consolidated Balance Sheets as of December 31, 1998 and 1997
                    Consolidated  Statements  of  Earnings  for the years  ended
                        December 31, 1998 and 1997, and for the ten months ended
                        December 31, 1996
                    Consolidated  Statements  of  Stockholders'  Equity  for the
                        years ended  December 31, 1998 and 1997, and for the ten
                        months ended December 31, 1996
                    Consolidated  Statements  of Cash Flows for the years  ended
                        December  31,  1998 and 1997,  and for ten months  ended
                        December 31, 1996
                    Consolidated  Statements of  Comprehensive  Earnings for the
                        years ended  December 31, 1998 and 1997, and for the ten
                        months ended December 31, 1996
                    Notes to Consolidated Financial Statements

            (2)  Financial Statement Schedules:
                      None

            (3) Exhibits:
                     See Exhibit Index on page 46 of this Report.

      (b)  Reports on Form 8-K

      No  reports  on Form 8-K were  filed by the  Registrant  during  the three
months ended December 31, 1998.


                                       36

<PAGE> 37



                                   SIGNATURES

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

 Dated: March 11, 1999
                                           REHABCARE GROUP, INC.
                                           (Registrant)


                                       By: /s/ ALAN C. HENDERSON
                                           -------------------------------------
                                           (Alan C. Henderson)
                                           President and Chief Executive Officer

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


 Signature                          Title                         Dated
 ---------                          -----                         -----
                                                                            
 /s/ ALAN C. HENDERSON              President, Chief Executive    March 11, 1999
 --------------------------------   Officer and Director 
 (Alan C. Henderson)                             
 Principal Executive Officer

 /s/ JOHN R. FINKENKELLER           Senior Vice President         March 11, 1999
 --------------------------------   and Chief Financial Officer
 (John R. Finkenkeller)                          
 Principal Financial Officer

 /s/ WILLIAM G. ANDERSON            Director                      March 11, 1999
 --------------------------------
 (William G. Anderson)

 /s/ RICHARD E. RAGSDALE            Director                      March 11, 1999
 --------------------------------
 (Richard E. Ragsdale)

 /s/ JOHN H. SHORT                  Director                      March 11, 1999
 --------------------------------
 (John H. Short)

 /s/ RICHARD C. STODDARD            Director                      March 11, 1999
 --------------------------------
 (Richard C. Stoddard)

 /s/ H. EDWIN TRUSHEIM              Director                      March 11, 1999
 --------------------------------
 (H. Edwin Trusheim)

 /s/ THEODORE M. WIGHT              Director                      March 11, 1999
 --------------------------------
 (Theodore M. Wight)



                                       37

<PAGE> 38



                                  EXHIBIT INDEX

 3.1    Restated  Certificate  of  Incorporation  (filed as  Exhibit  3.1 to the
        Registrant's  Registration  Statement  on Form  S-1,  dated  May 9, 1991
        [Registration No. 33-40467] and incorporated herein by reference)

 3.2    Certificate  of  Amendment of  Certificate  of  Incorporation  (filed as
        Exhibit  3.1 to the  Registrant's  Report on Form  10-Q for the  quarter
        ended May 31, 1995 and incorporated herein by reference)

 3.3    Bylaws (filed as Exhibit 3.2 to the Registrant's  Registration Statement
        on  Form  S-1,  dated  May  9,  1991  [Registration  No.  33-40467]  and
        incorporated herein by reference)

 4.1    Rights  Agreement,  dated September 21, 1992, by and between the Company
        and  Boatmen's  Trust  Company  (filed  as  Exhibit  1 to the  Company's
        Registration  Statement  on  Form  8-A  filed  September  24,  1992  and
        incorporated herein by reference)

 10.1   1987  Incentive  Stock Option and 1987  Nonstatutory  Stock Option Plans
        (filed as Exhibit  10.1 to the  Registrant's  Registration  Statement on
        Form S-1, dated May 9, 1991 [Registration No. 33-40467] and incorporated
        herein by reference)

 10.2   Form  of  Stock  Option   Agreement   (filed  as  Exhibit  10.2  to  the
        Registrant's  Registration  Statement  on Form  S-1,  dated  May 9, 1991
        [Registration No. 33-40467] and incorporated herein by reference)

 10.3   Employment Agreement with Alan C. Henderson, dated May 1, 1991 (filed as
        Exhibit  10.4  to  Amendment  No.  1 to  the  Registrant's  Registration
        Statement on Form S-1, dated June 19, 1991  [Registration  No. 33-40467]
        and incorporated herein by reference)

 10.4   Employment  Agreement with Richard C.  Stoddard,  dated March 1, 1996 by
        and between Registrant, Healthcare Staffing Solutions, Inc. d/b/a Health
        Tour, and Richard C. Stoddard (filed as Exhibit 10.1 to the Registrant's
        Current Report on Form 8-K, dated March 1, 1996 and incorporated  herein
        by reference)

 10.5   Form of Termination  Compensation Agreement for Alan C. Henderson (filed
        as Exhibit 10.6 to the Registrant's  Registration Statement on Form S-1,
        dated February 18, 1993  [Registration  No.  33-58490] and  incorporated
        herein by reference)

 10.6   Form of Termination  Compensation Agreement for other executive officers
        (filed as Exhibit  10.7 to the  Registrant's  Registration  Statement on
        Form S-1,  dated  February  18, 1993  [Registration  No.  33-58490]  and
        incorporated herein by reference)

 10.7   Supplemental  Bonus  Plan  (filed as  Exhibit  10.8 to the  Registrant's
        Registration   Statement   on  Form  S-1,   dated   February   18,  1993
        [Registration No. 33-58490] and incorporated herein by reference)

 10.8   Deferred Profit Sharing Plan (filed as Exhibit 10.15 to the Registrant's
        Registration   Statement   on  Form  S-1,   dated   February   18,  1993
        [Registration No. 33-58490] and incorporated herein by reference)

 10.9   RehabCare  Executive Deferred  Compensation Plan (filed as Exhibit 10.12
        to the  Registrant's  Report  on  Form  10-K,  dated  May 27,  1994  and
        incorporated herein by reference)


                                       38

<PAGE> 39



                             EXHIBIT INDEX (CONT'D)

 10.10  RehabCare   Directors'  Stock  Option  Plan  (filed  as  Appendix  A  to
        Registrant's Proxy Statement for the 1994 Annual Meeting of Stockholders
        and incorporated herein by reference)

 10.11  RehabCare Group, Inc. 1996 Long-Term Performance Plan (filed as Appendix
        A to the  Registrant's  Proxy  Statement for the 1996 Annual  Meeting of
        Stockholders and incorporated herein by reference)

 10.12  Form of Subordinated Convertible Promissory Note of Registrant issued to
        stockholders of Healthcare  Staffing  Solutions,  Inc. d/b/a Health Tour
        (filed as Exhibit 2.4 to the  Registrant's  Current  Report on Form 8-K,
        dated March 1, 1996 and incorporated herein by reference)

 10.13  Stock Purchase Agreement, dated January 27, 1997 by and among Registrant
        and the stockholders of TeamRehab,  Inc., Moore Rehabilitation Services,
        Incorporated and Moore  Rehabilitation  Services,  PC. (filed as Exhibit
        10.19 to the Registrant's  Report on Form 10-K, dated March 12, 1997 and
        incorporated herein by reference)

 10.14  Form  of  Subordinated  Promissory  Note  of  Registrant  issued  to the
        stockholders  of  TeamRehab,   Inc.,  Moore   Rehabilitation   Services,
        Incorporated and Moore  Rehabilitation  Services,  PC. (filed as Exhibit
        10.20 to the Registrant's  Report on Form 10-K, dated March 12, 1997 and
        incorporated herein by reference)

 10.15  Stock  Purchase  Agreement,  dated  July 8,  1998 by and  among  Medical
        Resources,  Inc.,  HealthCare  Staffing  Solutions,  Inc. and  RehabCare
        Group, Inc. (filed as Exhibit 2.1 to Registrant's Current Report on Form
        8-K, dated August 14, 1998 and incorporated herein by reference)

 10.16  Escrow  Agreement,  dated as of August  14,  1998 by and  among  Medical
        Resources  Inc.,  RehabCare  Group,  Inc. and IBJ Schroder  Bank & Trust
        Company  (filed as Exhibit 2.2 to  Registrant's  Current  Report on Form
        8-K, dated August 14, 1998 and incorporated herein by reference)

 10.17  L/C  Procedures  Agreement,  dated  as of  July 8,  1998 by and  between
        Medical Resources,  Inc. and RehabCare Group, Inc. (filed as Exhibit 2.3
        to  Registrant's  Current  Report on Form 8-K, dated August 14, 1998 and
        incorporated herein by reference)

 10.18  Stock  Purchase  Agreement  dated  as of  August  5,  1998 by and  among
        RehabCare Group Inc.,  Therapeutic  Systems,  Ltd. and Ronald C. Stauber
        (filed as Exhibit 2.1 to Registrant's  Current Report on Form 8-K, dated
        September 9, 1998 and incorporated herein by reference)

 10.19  Amendment  No. 1 to Stock  Purchase  Agreement  dated as of September 9,
        1998 by and among RehabCare Group, Inc.,  Therapeutic Systems,  Ltd. and
        Ronald C. Stauber (filed as Exhibit 2.2 to  Registrant's  Current Report
        on Form  8-K,  dated  September  9,  1998  and  incorporated  herein  by
        reference)

  13.1  Those portions of the Annual Report for the year ended          Page  40
        December 31, 1998 of the Registrant included in response 
        to Items 5 and 6 of Form 10-K

  21.1  Subsidiaries of the Registrant                                  Page  41

  23    Consent of KPMG LLP                                             Page  42

  27    Financial Data Schedule                                         Page  43

                                       39

<PAGE> 40
<TABLE>                                                             Exhibit 13.1
<CAPTION>
SIX-YEAR FINANCIAL SUMMARY                                               Dollars in thousands, except per share data
(year ended December 31, unless noted)                1998           1997           1996<F1>        1996<F2>     1995<F2>   1994<F2>
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                 <C>            <C>            <C>             <C>           <C>            <C> 
Statement of earnings data:
Operating revenues                                  $207,416       $160,780       $119,856        $89,377       $83,210      $61,740
Operating earnings                                    23,331         18,980         12,717         10,276         8,531        5,533
Net earnings <F4>                                     12,198         10,615          6,992          5,878         4,735        3,070
Net earnings per share (EPS): <F3>  <F4>
     Basic                                          $   1.97       $   1.77       $   1.01        $   .87       $   .71      $   .59
     Diluted                                        $   1.71       $   1.47       $    .93        $   .84       $   .70      $   .59
Weighted average shares outstanding (000s):<F3>
     Basic                                             6,184          5,999          6,955          6,725         6,614        4,514
     Diluted                                           7,245          7,375          7,711          6,975         6,783        5,214
------------------------------------------------------------------------------------------------------------------------------------
Balance sheet data:
Working capital                                     $ 20,606       $ 12,793       $  9,254        $11,818       $ 5,460      $ 6,271
Total assets                                         156,870         97,241         80,802         57,066        52,833       45,445
Total debt                                            65,855         39,014         17,467          7,125        10,200        7,700
Stockholders' equity                                  60,156         39,760         49,670         38,897        32,431       24,132
------------------------------------------------------------------------------------------------------------------------------------
Financial statistics:
Operating margin                                       11.3%          11.8%          10.6%          11.5%         10.2%        9.0%
Net margin<F5>                                          5.8%           6.1%           5.8%           6.6%          5.7%        5.0%
Current ratio                                          1.5:1          1.6:1          1.6:1          2.0:1         1.4:1        1.6:1
Diluted EPS growth rate <F5>                            25.9%          45.2%          14.8%          20.0%         18.6%       22.9%
Return on equity<F5>  <F6>                              24.1%          21.8%          16.1%          16.5%         16.7%       25.8%
------------------------------------------------------------------------------------------------------------------------------------
Operating statistics:
Inpatient (acute rehab and subacute):
     Average number of units                           128.2          110.3           91.3           84.7          84.1         64.4
     Average admissions per unit                         354            321            294            279           261          264
     Average length of stay (billable)                  14.5           15.0           15.9           17.3          18.4         19.0
     Patient days (billable)                         656,363        532,195        426,995        408,385       403,784      323,040
Outpatient:
     Average number of locations                        26.1           17.9           19.6           21.2          13.6          7.6
     Patient visits                                  378,108        231,256        223,904        278,970       135,064          N/A
Therapy staffing - Number of weeks worked             52,265         29,652         21,908             --            --           --
Contract therapy - Average number of locations          49.5           35.6             --             --            --           --
------------------------------------------------------------------------------------------------------------------------------------
<FN>
<F1>For  comparability  purposes,  reflects the twelve months ended December 31,
    1996.  
<F2>Twelve month  period  ended last day of February.  
<F3>All share data adjusted for 3-for-2 stock split in October 1997.
<F4>1998 and 1997 include  pre-tax gains of $1.5 million ($0.9 million after tax
    or $0.12 per share) and $1.4 million  ($0.9  million  after tax or $0.12 per
    share), respectively,  from sales of marketable securities. 1998 includes an
    $0.8 million ($0.11 per share) after-tax charge for the cumulative effect of
    change in accounting for start-up costs.
<F5>Excludes  gains  from sale of  marketable  securities  and  charge  for the
    cumulative  effect of change  in  accounting  principle  described  in <F4>.
<F6>Average of beginning and ending equity. 
N/A - Not available
</FN>
</TABLE>
--------------------------------------------------------------------------------
STOCK DATA
The Company's  common stock is listed and traded on the New York Stock  Exchange
under the symbol "RHB". The stock prices below are the high and low sale prices.
Calendar Quarter             1st      2nd     3rd      4th
1998:   High               $27.50   $31.75  $25.13   $21.00
        Low                 20.63    21.75   11.88    11.00
1997:   High                17.58    24.83   25.25    31.13
        Low                 12.50    15.75   17.67    23.50

The  Company  has not paid  dividends  on its common  stock  during the two most
recently  completed  fiscal years and has not declared any dividends  during the
current fiscal year.  The Company does not  anticipate  paying cash dividends in
the foreseeable  future.  The number of holders of the Company's common stock as
of March 11, 1999 was  approximately  3,637 including 158 shareholders of record
and an estimated 3,479 persons or entities holding common stock in nominee name.

Shareholders may receive earnings news releases,  which provide timely financial
information,  by notifying our investor relations  department or by visiting our
website at http://www.rehabcare.com.

                                       40
<PAGE> 41

                                                                    Exhibit 21.1
                           Subsidiaries of Registrant




 Healthcare Staffing Solutions, Inc.       Incorporated in the Commonwealth
     d/b/a Health Tour                          of Massachusetts

 Health Tour Management, Inc.              Incorporated in the Commonwealth
                                                of Massachusetts

 TeamRehab, Inc.                           Incorporated in the State of Missouri

 Moore Rehabilitation Services, Inc.       Incorporated in the State of Missouri

 RehabCare Group East, Inc.                Incorporated in the State of Delaware

 RehabCare Group Management Services, Inc. Incorporated in the State of Delaware

 RehabCare Group of California, Inc.       Incorporated in the State of Delaware

 RehabCare Group of Texas Holdings, Inc.   Incorporated in the State of Delaware

 RehabCare Group of Texas, L.P.            Organized in the State of Texas

 StarMed Management, L.L.C.                Incorporated in the State of Delaware

 StarMed Health Personnel, Inc.            Incorporated in the State of Delaware

 Wesley Medical Resources, Inc.            Incorporated in the State of Delaware

 Therapeutic Systems, Ltd.                 Incorporated in the State of Illinois




                                       41



<PAGE> 42

                                                                      Exhibit 23











                          Independent Auditors' Consent


 The Board of Directors
 RehabCare Group, Inc.:

 We consent to the incorporation by reference in the registration  statement No.
33-82106 on Form S-8,  registration  statement  No.  33-82048  on Form S-8,  and
registration statement No. 333-11311 on Form S-8 of RehabCare Group, Inc. of our
report dated February 5, 1999, with respect to the  consolidated  balance sheets
of RehabCare Group,  Inc. and subsidiaries as of December 31, 1998 and 1997, and
the related  consolidated  statements of earnings,  stockholders'  equity,  cash
flows and comprehensive  earnings for the years ended December 31, 1998 and 1997
and for the ten months ended December 31, 1996,  which report is included in the
December 31, 1998 annual report on Form 10-K of RehabCare Group, Inc.

 As discussed in note 1 to the consolidated  financial  statements,  the Company
changed its method of accounting for start-up costs.


                                                                 KPMG LLP




 St. Louis, Missouri
 March 24, 1999


                                       42