e10vq
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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

     
[X]   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
     
    For the quarterly period ended September 30, 2003
     
    or
     
[   ]   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
     
    For the Transition period from             to             

Commission file number 1-13498

Assisted Living Concepts, Inc.

(Exact name of registrant as specified in its charter)
     
Nevada
(State or other jurisdiction of
incorporation or organization)
  93-1148702
(IRS Employer
Identification No.)

1349 Empire Central, Suite 900
Dallas, TX 75247

(Address of principal executive offices)

(214) 424-4000
(Registrant’s telephone number, including area code)

     Indicate by check mark whether Registrant (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that 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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [   ] No [X]

     Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [X] No [   ]

     The Registrant had 6,432,091 shares of common stock, $.01 par value, outstanding at November 6, 2003.



 


TABLE OF CONTENTS

PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEETS
CONSOLIDATED STATEMENTS OF OPERATIONS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosure About Market Risk
Item 4. Controls and Procedures
PART II — OTHER INFORMATION
Item 1. Legal Proceedings
Item 4. Submission of Matters to a Vote of Security Holders
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
EXHIBIT INDEX
EX-12 Ratio of Earnings to Fixed Charges
EX-31.1 Certification Pursuant to Section 302
EX-31.2 Certification Pursuant to Section 302
EX-32.1 Certification Purusant to Section 1350
EX-32.2 Certification Purusant to Section 1350


Table of Contents

ASSISTED LIVING CONCEPTS, INC.

FORM 10-Q
September 30, 2003

INDEX

                 
            Page
           
    PART I — FINANCIAL INFORMATION        
Item 1   Financial Statements        
    Consolidated Balance Sheets, December 31, 2002 and September 30, 2003     3  
    Consolidated Statements of Operations, Three and Nine Months Ended September 30, 2002 and 2003     4  
    Consolidated Statements of Cash Flows, Nine Months Ended September 30, 2002 and 2003     5  
    Notes to Consolidated Financial Statements     6  
Item 2   Management's Discussion and Analysis of Financial Condition and Results of Operations     17  
Item 3   Quantitative and Qualitative Disclosure About Market Risk     23  
Item 4   Controls and Procedures     23  
    PART II — OTHER INFORMATION        
Item 1   Legal Proceedings     24  
Item 4   Submission of Matters to a Vote of Security Holders     24  
Item 6   Exhibits and Reports on Form 8-K     24  

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PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

ASSISTED LIVING CONCEPTS, INC.
CONSOLIDATED BALANCE SHEETS
(In Thousands, Except Share Amounts)

ASSETS

                       
          December 31,   September 30,
          2002   2003
         
 
                  (Unaudited)
Current assets:
               
 
Cash and cash equivalents
  $ 7,165     $ 10,904  
 
Cash restricted for resident security deposits
    1,929       1,562  
 
Accounts receivable, net of allowance for doubtful accounts of $230 at December 31, 2002 and $682 at September 30, 2003
    2,715       3,783  
 
Prepaid insurance
    343       1,074  
 
Prepaid expenses
    991       1,001  
 
Assets held for sale
    9,727        
 
Cash restricted for workers’ compensation claims
    4,696       4,377  
 
Other current assets
    3,193       4,127  
 
   
     
 
   
Total current assets
    30,759       26,828  
Restricted cash
    5,315       1,010  
Property and equipment, net
    177,930       183,301  
Deferred income taxes
          1,673  
Other assets, net
    2,036       1,272  
 
   
     
 
   
Total assets
  $ 216,040     $ 214,084  
 
   
     
 
     
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
               
 
Accounts payable
  $ 769     $ 1,170  
 
Accrued real estate taxes
    4,836       4,750  
 
Accrued interest expense
    2,174       1,136  
 
Accrued payroll expense
    5,021       4,767  
 
Other accrued expenses
    5,718       6,539  
 
Income taxes payable
          1,827  
 
Resident security deposits
    1,991       1,400  
 
Other current liabilities
    976       772  
 
Current portion of unfavorable lease adjustment
    607       490  
 
Current portion of long-term debt and capital lease obligations
    11,521       2,860  
 
   
     
 
   
Total current liabilities
    33,613       25,711  
Other liabilities
    463       641  
Unfavorable lease adjustment, net of current portion
    2,508       2,449  
Long-term debt and capital lease obligations, net of current portion
    109,078       102,705  
Senior and Junior Secured notes
    41,993       50,100  
 
   
     
 
   
Total liabilities
    187,655       181,606  
Commitments and contingencies
               
Shareholders’ equity:
               
 
Preferred stock, $.01 par value; 3,250,000 shares authorized; none issued or outstanding
           
 
Common stock, $.01 par value; 20,000,000 shares authorized; issued and outstanding 6,431,759 shares at December 31, 2002 and 6,432,091 shares at September 30, 2003 (68,241 shares to be issued upon settlement of pending claims)
    65       65  
 
Additional paid-in capital
    32,734       34,057  
 
Accumulated deficit
    (4,414 )     (1,644 )
 
   
     
 
   
Total shareholders’ equity
    28,385       32,478  
 
   
     
 
   
Total liabilities and shareholders’ equity
  $ 216,040     $ 214,084  
 
   
     
 

The accompanying notes are an integral part of these consolidated financial statements.

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ASSISTED LIVING CONCEPTS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(unaudited)

                                     
        Three Months Ended   Nine Months Ended
        September 30,   September 30,
       
 
        2002   2003   2002   2003
       
 
 
 
Revenue
  $ 39,069     $ 42,443     $ 113,896     $ 125,519  
Operating expenses:
                               
 
Residence operating expenses
    27,157       28,397       78,784       83,840  
 
Corporate general and administrative
    4,178       4,546       14,074       13,648  
 
Building rentals
    3,061       3,319       9,166       9,543  
 
Depreciation and amortization
    1,692       1,736       4,942       5,113  
 
   
     
     
     
 
   
Total operating expenses
    36,088       37,998       106,966       112,144  
 
   
     
     
     
 
Operating income
    2,981       4,445       6,930       13,375  
Other income (expense):
                               
 
Interest expense
    (3,545 )     (3,375 )     (10,602 )     (10,233 )
 
Interest income
    55       97       160       163  
 
Other income (expense), net
    14             36       (71 )
 
   
     
     
     
 
   
Total other expense, net
    (3,476 )     (3,278 )     (10,406 )     (10,141 )
 
   
     
     
     
 
Income (loss) before debt restructure, reorganization costs, and discontinued operations
    (495 )     1,167       (3,476 )     3,234  
Debt restructure and reorganization costs
    (14 )           (680 )      
 
   
     
     
     
 
Income (loss) from continuing operations before income taxes
    (509 )     1,167       (4,156 )     3,234  
 
Income tax expense
          191             958  
 
   
     
     
     
 
Income (loss) from continuing operations
    (509 )     976       (4,156 )     2,276  
Discontinued operations:
                               
 
Income (loss) from operations (including gain and loss on sale of assets)
    (54 )           (486 )     830  
 
Income tax expense
                      336  
 
   
     
     
     
 
Income (loss) from discontinued operations
    (54 )           (486 )     494  
 
   
     
     
     
 
Net income (loss)
  $ (563 )   $ 976     $ (4,642 )   $ 2,770  
 
   
     
     
     
 
Basic earnings per share:
                               
 
Income (loss) from continuing operations
  $ (0.08 )   $ 0.15     $ (0.64 )   $ 0.35  
 
Income (loss) from discontinued operations
    (0.01 )           (0.07 )     0.08  
 
   
     
     
     
 
 
Net income (loss)
  $ (0.09 )   $ 0.15     $ (0.71 )   $ 0.43  
 
   
     
     
     
 
Diluted earnings per share:
                               
 
Income (loss) from continuing operations
  $ (0.08 )   $ 0.14     $ (0.64 )   $ 0.34  
 
Income (loss) from discontinued operations
    (0.01 )           (0.07 )     0.08  
 
   
     
     
     
 
 
Net income (loss)
  $ (0.09 )   $ 0.14     $ (0.71 )   $ 0.42  
 
   
     
     
     
 

The accompanying notes are an integral part of these consolidated financial statements.

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ASSISTED LIVING CONCEPTS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)

                     
        Nine Months Ended
        September 30,
       
        2002   2003
       
 
Operating Activities:
               
Net income (loss)
  $ (4,642 )   $ 2,770  
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
               
 
Depreciation and amortization
    5,051       5,113  
 
Stock-based compensation expense
          163  
 
Amortization of debt issuance costs
    80       83  
 
Amortization of fair value adjustment to building rentals
    (511 )     (176 )
 
Amortization of fair market adjustment to long-term debt
    320       306  
 
Amortization of discount on long-term debt
    328       424  
 
Straight line adjustment to building rentals
    282       90  
 
Interest paid-in-kind
    915       1,003  
 
Provision for doubtful accounts
    207       658  
 
(Gain) loss on sale or disposal of assets
    545       (833 )
Changes in assets and liabilities:
               
 
Accounts receivable
    (296 )     (1,726 )
 
Prepaid expenses
    (584 )     (741 )
 
Other current assets
    225       (39 )
 
Other assets
    (80 )     (216 )
 
Accounts payable
    (371 )     401  
 
Accrued expenses
    (1,502 )     (555 )
 
Other liabilities
    (82 )     607  
 
   
     
 
   
Net cash provided by (used in) operating activities
    (115 )     7,332  
Investing Activities:
               
Decrease (increase) in restricted cash
    (2,263 )     4,991  
Purchases of property and equipment
    (2,207 )     (2,493 )
Sales of properties
          2,569  
 
   
     
 
   
Net cash provided by (used in) investing activities
    (4,470 )     5,067  
Financing Activities:
               
Proceeds from long-term debt
    3,508        
Payments on long-term debt and capital lease obligations
    (1,948 )     (8,660 )
Debt issuance costs
    (79 )      
 
   
     
 
   
Net cash provided by (used in) financing activities
    1,481       (8,660 )
 
   
     
 
Net increase (decrease) in cash and cash equivalents
    (3,104 )     3,739  
Cash and cash equivalents, beginning of period
    6,077       7,165  
 
   
     
 
Cash and cash equivalents, end of period
  $ 2,973     $ 10,904  
 
   
     
 
Supplemental disclosure of cash flow information:
               
 
Cash payments for interest
  $ 8,472     $ 9,880  

The accompanying notes are an integral part of these consolidated financial statements.

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ASSISTED LIVING CONCEPTS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. The Company

Assisted Living Concepts, Inc., (“the Company”) owns, leases and operates assisted living residences which provide housing to older persons who need help with the activities of daily living such as bathing and dressing. The Company provides personal care and support services and makes available routine health care services, as permitted by applicable law, designed to meet the needs of its residents.

2. Basis of Presentation

The condensed consolidated financial statements included herein have been prepared by the Company without audit and in the opinion of management include all adjustments (all of which are normal and recurring) necessary for a fair presentation of the results of operations for each of the three and nine month periods ended September 30, 2002 and 2003, pursuant to the rules and regulations of the Securities and Exchange Commission. The accompanying condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. Certain reclassifications have been made to the prior period financial statements to conform to the current period presentation. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations; however the Company believes that the disclosures in the accompanying financial statements are adequate to make the information presented not misleading.

The accompanying condensed consolidated financial statements should be read in conjunction with the Company’s annual report on Form 10-K for the fiscal year ended December 31, 2002 filed with the Securities and Exchange Commission. The results of operations for the three and nine month periods ended September 30, 2003 are not necessarily indicative of the results for a full year.

The results of operations for the three and nine month periods ended September 30, 2002 and 2003 reflect the continuing operations of 177 residences. Results of operations for five residences sold on September 30, 2002 and two residences sold in March 2003 are included in discontinued operations in the accompanying financial statements. (See Note 5).

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3. Long-Term Debt

As of December 31, 2002 and September 30, 2003, long-term debt consists of the following (in thousands):

                                 
    December 31, 2002   September 30, 2003
   
 
    Carrying   Principal   Carrying   Principal
    Amount   Amount   Amount   Amount
   
 
 
 
Trust Deed Notes, payable to the State of Oregon Housing and Community Services Department (OHCS) due 2028
  $ 9,688     $ 9,585     $ 9,553     $ 9,456  
Variable Rate Multifamily Revenue Bonds, payable to the Washington State Housing Finance Commission Department due 2028
    7,217       7,295       7,221       7,295  
Variable Rate Demand Housing Revenue Bonds, Series 1997, payable to the Idaho Housing and Finance Association due 2017
    6,277       6,345       5,995       6,060  
Variable Rate Demand Housing Revenue Bonds, Series A-1 and A-2 payable to the State of Ohio Housing Finance Agency due 2018
    11,451       11,575       9,987       10,105  
Housing and Urban Development Insured Mortgages due 2035
    7,329       7,410       7,287       7,372  
New Senior Secured Notes due 2009
    35,750       35,750       34,350       34,350  
New Junior Secured Notes due 2012
    13,925       16,225       15,750       17,497  
Mortgages payable due 2008
    27,995       27,948       27,542       27,534  
G.E. Capital (Previously Heller Healthcare Finance, Inc.) Credit Facility due 2005
    42,691       43,516       37,980       38,496  
Capital lease obligations
    269       269              
 
   
     
     
     
 
Total long-term debt
    162,592     $ 165,918       155,665     $ 158,165  
 
           
             
 
Less current portion
    11,521               2,860          
 
   
             
         
Long-term debt
  $ 151,071             $ 152,805          
 
   
             
         

The Trust Deed Notes payable to OHCS are secured by buildings, land, furniture and fixtures of six Oregon residences. The notes are payable in monthly installments including interest at effective rates ranging from 7.375% to 9.0%.

The Variable Rate Multifamily Revenue Bonds are payable to the Washington State Housing Finance Commission Department and at September 30, 2003 are secured by a $7.4 million letter of credit and by buildings, land, furniture and fixtures of the five Washington residences and had an interest rate of 1.2% at September 30, 2003. The letter of credit expires in January 2005 and had an annual fee of 2.0% at September 30, 2003.

The Variable Rate Demand Housing Revenue Bonds, Series 1997 are payable to the State of Idaho Housing and Finance Association and at September 30, 2003 are secured by a $6.2 million letter of credit and by buildings, land, furniture and fixtures of four Idaho residences and had an interest rate of 1.2% at September 30, 2003. The letter of credit expires in January 2005 and had an annual fee of 2.0% at September 30, 2003.

The Variable Rate Demand Housing Revenue Bonds are payable to the State of Ohio Housing Finance Agency (“OHFA”) and at September 30, 2003 are secured by a $10.3 million letter of credit and by buildings, land, furniture and fixtures of six Ohio residences and had an interest rate of 1.2% at September 30, 2003. The letter of credit expires in January 2005 and had an annual fee of 2.0% at September 30, 2003.

At September 30, 2003, mortgage loans include three fixed rate loans secured by seven Texas residences, three Oregon residences and three New Jersey residences. These loans collectively require monthly principal and interest payments of $230,000, with balloon payments of $11.8 million, $5.3 million and $7.2 million due at maturity in May 2008, August 2008 and September 2008, respectively. These loans bear fixed interest rates from 7.58% to 8.79%.

Housing and Urban Development (“HUD”) insured mortgages include three separate loan agreements entered into in 2001. These are fixed rate mortgages, each of which is secured by a separate facility in Texas. These loans mature between July 1, 2036 and August 1,

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2036 and collectively require monthly principal and interest payments of $47,493. The loans bear fixed interest rates between 7.40% and 7.55%.

The GE Capital credit facility is a secured line of credit up to $44.0 million. This is a variable rate credit facility, secured by 31 facilities. This credit facility matures in January 2005 and requires monthly principal payments of $65,000 for 2003 and $80,000 for 2004. The interest on the credit facility is calculated at LIBOR plus 4.5%, floating monthly (not to be less than 8%) and is payable monthly in arrears.

On January 1, 2002 the Debtors emerged from the proceedings under Chapter 11 of the Bankruptcy Code. The Company’s Plan of reorganization included the issuance of $40.25 million aggregate principal amount of seven-year secured notes (the “New Senior Secured Notes”), bearing interest at 10% per annum, payable semi-annually in arrears, and $15.25 million aggregate principal amount of ten-year secured notes (the “New Junior Secured Notes” and collectively with the New Senior Secured Notes, the “New Notes”), bearing interest payable in additional New Junior Secured Notes for three years at 8% per annum and thereafter payable in cash at 12% per annum, payable semi-annually in arrears. The New Junior Secured Notes were issued at a discount of $2.6 million. The discount is being amortized over the life of the New Junior Secured Notes using the effective interest method. The New Notes are secured by 51 properties as of September 30, 2003.

In July 2003, the Company completed an open market purchase of a portion of the Company’s outstanding 10% Senior Secured Notes due 2009 and Junior Secured Notes due 2012. The transaction included the purchase of $147,889 principal amount of Senior Secured Notes and $34,178 principal amount of Junior Secured Notes (collectively, the “Purchased Notes”). Because the purchase of the Junior Notes is not permitted under the Indentures and constitutes a Default there under, and the purchase of the Senior Notes may not be permitted and could constitute Default there under, although this issue is not clear, the Company cancelled the purchase transaction with the seller in September 2003.

As of the Effective Date, the Successor Company revalued its long-term debt in conjunction with the implementation of fresh-start reporting. At December 31, 2001, an adjustment of $3.1 million was recorded to reduce long-term debt to its fair market value. Amortization of this adjustment is computed using the straight-line method over the individual loan life.

As of September 30, 2003, the following periodic principal payments are required (in thousands):

             
October 1, 2003 through December 31, 2003
  $ 720  
 
2004
    2,942  
 
2005
    39,462  
 
2006
    2,258  
 
2007
    2,408  
Thereafter
    110,375  
 
   
 
   
Total
  $ 158,165  
 
   
 

The Company has a series of reimbursement agreements with U.S. Bank for letters of credit that secure certain Revenue bonds payable, which total approximately $23.9 million as of September 30, 2003. An amendment to these agreements signed in September 2003 released $4.3 million of previously restricted cash to the Company, extended the expiration of the letters of credit to January 2005, amended the annual fees to be 2% of the stated amount of the letters of credit, and set in place new financial covenants. The Company was in compliance with these new covenants at September 30, 2003. Failure to comply with these covenants would constitute an event of default, which would allow U.S. Bank to declare any amounts outstanding under the loan documents to be due and payable.

In addition to the debt agreements with OHCS related to the six owned residences in Oregon, the Company has entered into Lease Approval Agreements with OHCS and the lessor of the Oregon Leases, which obligates the Company to comply with the terms and conditions of the underlying trust deed relating to the leased buildings. Under the terms of the OHCS debt agreements, the Company is required to maintain a capital replacement escrow account to cover expected capital expenditure requirements for the Oregon Leases and the six OHCS loans.

As a further condition of the OHCS debt agreements, the Company is required to comply with the terms of certain regulatory agreements which provide, among other things, that in order to preserve the federal income tax exempt status of the bonds, the Company is required to lease at least 20% of the units of the projects to low or moderate income persons as defined in Section 142(d) of the Internal Revenue Code. There are additional requirements as to the age and physical condition of the residents with which the

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Company must also comply. Non-compliance with these restrictions may result in an event of default and cause acceleration of the scheduled repayment.

4. Income Taxes

The Company anticipates taxable income for financial reporting purposes for the year ending December 31, 2003, and accordingly, has provided for federal and state income taxes on income from continuing operations and discontinued operations for the nine months ended September 30, 2003. The Company has recorded such income tax expense at the rate of 31.8% for the nine months ended September 30, 2003.

The provision for income taxes differs from the applicable U.S. statutory federal rate as a result of the following items:

         
Statutory federal income tax rate
    34.0 %
State income taxes, net of federal benefit
    5.4 %
Non-deductible expenses
    0.7 %
Reduction of valuation allowance
    (8.3 )%
 
   
 
Effective tax rate
    31.8 %

For the three months ended September 30, 2003, the company recorded income tax expense at the rate of 31.8%, less the effect of the change in the estimate from the six months ended June 30, 2003. The change in the estimate for the six months ended June 30, 2003 was a reduction of income tax expense of $180,000, resulting primarily from anticipation of utilization of net operating loss (NOL) carry-forwards.

At December 31, 2001, the Company had approximately $94 million of NOL carry-forwards, which will expire between 2009 and 2021. These NOL carry-forwards have been reduced to approximately $16 million as a result of the discharge and cancellation of certain pre-petition liabilities under the Plan. The reduction of the NOL carry-forwards was effective on the date the liabilities were discharged.

The NOL carry-forwards remaining after the application of the cancellation of indebtedness provisions are subject to certain provisions of the Internal Revenue Code, which restricts the utilization of such NOL carry-forwards. In addition, any net unrealized built-in losses resulting from the excess of tax basis over the carrying value of the Company’s assets (primarily property and equipment) as of the Effective Date, which are recognized within five years are also subject to these provisions. Section 382 of the Internal Revenue Code imposes limitations on the utilization of the NOL carry-forwards and built-in losses after certain changes of ownership of a loss company. The Company is deemed to be a loss company for these purposes. Under these provisions, the Company’s ability to utilize these NOL carry-forwards and built-in losses in the future will generally be subject to an annual limitation of approximately $1.6 million (the “Annual Limitation”). There can be no assurance that the Company will be able to utilize these pre-change NOL carry-forwards or built-in losses and therefore, the Company established a 100 percent valuation allowance as of the Effective Date. Pursuant to SOP 90-7, the income tax benefit, if any, of the future realization of these NOL carry-forwards and built-in losses will be recorded as an adjustment to additional paid-in capital.

For the year ended December 31, 2002, the Annual Limitation was not utilized since the Company incurred a loss for financial statement purposes. A 100 percent valuation allowance of approximately $45.0 million was recorded to offset the associated net deferred tax asset as of December 31, 2002. For the full fiscal year ending December 31, 2003, the Company anticipates utilizing the 2003 Annual Limitation as well as the unused 2002 Annual Limitation.

5. Discontinued Operations

During March 2003, the Company sold one residence in Ohio and one residence in Indiana. The total sales price for these residences was $2.6 million, and the Company recognized a gain from these sales of $899,000.

In accordance with SFAS No. 144, the results of operations and the gain and losses from sales have been included in “Income (loss) from discontinued operations” in the accompanying financial statements for the three and nine-month periods ended September 30, 2002 and 2003.

On September 30, 2002 the Company completed the sale of four Florida residences and one Georgia residence. Consequently, the results of operations for these residences are included in “Income (loss) from discontinued operations” in the accompanying financial statements for the three and nine-month periods ended September 30, 2002.

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6. Stock-based Compensation

Previously, the Company accounted for stock-based compensation plans under the recognition and measurement provisions of APB Opinion No. 25, “Accounting for Stock Issued to Employees” (APB No. 25) and related interpretations. No stock-based employee compensation expense for stock options was reflected in Net Income previous to April 1, 2003, as all stock options granted under those plans had an exercise price equal to the fair market value of the underlying common stock on the date of grant. Effective April 1, 2003, the Company adopted the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation”, and recognizes compensation expense according to the prospective transition method under SFAS No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure”. Under this method the Company expenses the fair value of all new stock options granted after January 1, 2003. The following table illustrates the effect on net income and earnings per share had the company applied the fair value accounting method to all of the Company’s stock option grants.

                                   
      Three Months Ended   Nine Months Ended
      September 30,   September 30,
     
 
      2002   2003   2002   2003
     
 
 
 
Net income (loss), as reported
  $ (563 )   $ 976     $ (4,642 )   $ 2,770  
Add: Stock-based employee compensation expense included in reported net income, net of related tax effects
          46             108  
Deduct: Total stock-based employee compensation expense determined under fair value method for all awards granted, net of related tax effects
    (41 )     (53 )     (54 )     (129 )
 
   
     
     
     
 
Pro forma net income (loss)
  $ (604 )   $ 969     $ (4,696 )   $ 2,749  
 
   
     
     
     
 
Net income (loss) per share:
                               
 
Basic — as reported
  $ (0.09 )   $ 0.15     $ (0.71 )   $ 0.43  
 
Basic — pro forma
  $ (0.09 )   $ 0.15     $ (0.72 )   $ 0.42  
 
Diluted — as reported
  $ (0.09 )   $ 0.14     $ (0.71 )   $ 0.42  
 
Diluted — pro forma
  $ (0.09 )   $ 0.14     $ (0.72 )   $ 0.41  

7. Income (Loss) Per Share

The weighted average common shares used for basic net income (loss) per common share were 6,500,000 for the three and nine month periods ended September 30, 2002 and 2003. The effect of dilutive stock options using the treasury stock method added 263,444 shares for the three month period ended September 30, 2003 and 131,169 shares for the nine month period ended September 30, 2003. The effect of options for the three and nine month periods ended September 30, 2002 is not considered since their effect is antidilutive.

8. Subsidiary Guarantee of New Notes

The New Notes, issued by the Company, are publicly traded and the repayment of these notes is guaranteed by three wholly owned subsidiaries of the Company: ALC Indiana, Inc., Home and Community Care, Inc. (“HCI”) and Carriage House Assisted Living, Inc. (“Carriage House”). The following information is presented as required under the Securities and Exchange Commission Financial Reporting Release No. 55 in connection with the guarantee of the New Notes by the Company’s wholly owned subsidiaries. The operating and investing activities of the separate legal entities included in the consolidating financial statements are fully interdependent and integrated with the Company and each other.

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ASSISTED LIVING CONCEPTS, INC.
CONDENSED CONSOLIDATING BALANCE SHEETS
September 30, 2003
(in thousands, except share amounts)
(unaudited)

                                                                 
                    Wholly-Owned Subsidiaries        
                   
       
                    ALC                   Non-        
                    Indiana,   Carriage           Participating   Consolidating   Consolidated
            ALC, Inc.   Inc.   House   HCI   Subsidiaries   Adjustments   Total
           
 
 
 
 
 
 
ASSETS
Current Assets:
                                                       
   
Cash and cash equivalents
  $ 10,904     $     $     $     $     $     $ 10,904  
   
Cash restricted for resident security deposits
    1,562                                     1,562  
   
Accounts receivable, net of allowance for doubtful accounts
    3,510                         273             3,783  
   
Prepaid insurance
    1,074                                     1,074  
   
Prepaid expenses
    923                         78             1,001  
   
Cash restricted for workers’ compensation claims
    4,377                                     4,377  
   
Other current assets
    1,652                         2,475             4,127  
   
 
   
     
     
     
     
     
     
 
     
Total current assets
    24,002                         2,826             26,828  
Restricted cash
    1,010                                     1,010  
Receivable (payable) from subsidiaries/ parent
    (3,622 )     5,498       (925 )     3,309       (4,260 )            
Property and equipment, net
    85,655       12,365       3,465       4,082       77,734             183,301  
Investment in subsidiaries
    28,255                               (28,255 )      
Deferred income taxes
    1,673                                     1,673  
Other assets, net
    1,271                         1             1,272  
   
 
   
     
     
     
     
     
     
 
     
Total assets
  $ 138,244     $ 17,863     $ 2,540     $ 7,391     $ 76,301     $ (28,255 )   $ 214,084  
   
 
   
     
     
     
     
     
     
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
                                                       
   
Accounts payable
  $ 1,067     $     $     $     $ 103     $     $ 1,170  
   
Accrued real estate taxes
    2,938       491       178       125       1,018             4,750  
   
Accrued interest expense
    964                         172             1,136  
   
Accrued payroll expense
    4,694                         73             4,767  
   
Other accrued expenses
    6,533                         6             6,539  
   
Resident security deposits
    1,274                         126             1,400  
   
Other current liabilities
    2,202       369                   28             2,599  
   
Current portion of unfavorable lease adjustment
    424             66                         490  
   
Current portion of long-term debt and capital lease obligation, net of current portion
    1,299                         1,561             2,860  
   
 
   
     
     
     
     
     
     
 
     
Total current liabilities
    21,395       860       244       125       3,087             25,711  
Other liabilities
    601             40                         641  
Unfavorable lease adjustment
    2,041             340             68             2,449  
Long-term debt and capital lease obligation
    81,556                         71,249             152,805  
   
 
   
     
     
     
     
     
     
 
     
Total liabilities
    105,593       860       624       125       74,404             181,606  
   
 
   
     
     
     
     
     
     
 
Shareholders’ equity:
                                                       
   
Common stock
    65       16,342                         (16,342 )     65  
   
Additional paid-in capital
    34,230             2,549       7,365       5,667       (15,754 )     34,057  
   
Accumulated deficit
    (1,644 )     661       (633 )     (99 )     (3,770 )     3,841       (1,644 )
   
 
   
     
     
     
     
     
     
 
     
Total shareholders’ equity
    32,651       17,003       1,916       7,266       1,897       (28,255 )     32,478  
   
 
   
     
     
     
     
     
     
 
     
Total liabilities and shareholders’ equity
  $ 138,244     $ 17,863     $ 2,540     $ 7,391     $ 76,301     $ (28,255 )   $ 214,084  
   
 
   
     
     
     
     
     
     
 

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ASSISTED LIVING CONCEPTS, INC.

CONDENSED CONSOLIDATING BALANCE SHEETS
DECEMBER 31, 2002
(in thousands, except share amounts)

                                                               
                  Wholly-Owned Subsidiaries        
                 
       
                                          Non-        
                  ALC   Carriage           Participating   Consolidating   Consolidated
          ALC, Inc.   Indiana, Inc.   House   HCI   Subsidiaries   Adjustments   Total
         
 
 
 
 
 
 
     
ASSETS
Current Assets:
                                                       
 
Cash and cash equivalents
  $ 7,165     $     $     $     $     $     $ 7,165  
 
Cash restricted for resident security deposits
    1,929                                     1,929  
 
Accounts receivable, net of allowance for doubtful accounts
    2,446                   3       266             2,715  
 
Prepaid insurance
    343                                     343  
 
Prepaid expenses
    946                         45             991  
 
Assets held for sale
    9,727                                     9,727  
 
Cash restricted for workers’ compensation claims
    4,696                                     4,696  
 
Other current assets
    1,199                   3       1,991             3,193  
 
   
     
     
     
     
     
     
 
   
Total current assets
    28,451                   6       2,302             30,759  
Restricted cash
    5,315                                     5,315  
Receivable from subsidiaries/parent
    (6,489 )     6,454       (1,236 )     2,780       (1,509 )            
Property and equipment, net
    81,328       12,565       3,558       4,176       76,303             177,930  
Investment in subsidiaries
    27,632                               (27,632 )      
Deferred income taxes
                                         
Other assets, net
    1,635                         401             2,036  
 
   
     
     
     
     
     
     
 
   
Total assets
  $ 137,872     $ 19,019     $ 2,322     $ 6,962     $ 77,497     $ (27,632 )   $ 216,040  
 
   
     
     
     
     
     
     
 
   
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
                                                       
 
Accounts payable
  $ 234     $     $     $ 1     $ 534     $     $ 769  
 
Accrued real estate taxes
    2,830       285       234       71       1,416             4,836  
 
Accrued interest expense
    2,147                         27             2,174  
 
Accrued payroll expense
    4,960                         61             5,021  
 
Other accrued expenses
    5,669                         49             5,718  
 
Resident security deposits
    1,779                   (1 )     213             1,991  
 
Other current liabilities
    976                                     976  
 
Current portion of unfavorable lease adjustment
    525             82                         607  
 
Current portion of long-term debt and capital lease obligation
    8,817                         2,704             11,521  
 
   
     
     
     
     
     
     
 
   
Total current liabilities
    27,937       285       316       71       5,004             33,613  
Other liabilities
    430             33                         463  
Unfavorable lease adjustment, net of current portion
    2,095             347             66             2,508  
Long-term debt and capital lease obligation, net of current portion
    78,852                         72,219             151,071  
 
   
     
     
     
     
     
     
 
   
Total liabilities
    109,314       285       696       71       77,289             187,655  
 
   
     
     
     
     
     
     
 
Commitments and contingencies
                                                       
Shareholders’ equity:
                                                       
 
Preferred stock
                                         
 
Common stock
    65       16,342                         (16,342 )     65  
 
Additional paid-in capital
    32,907             2,548       7,365       5,667       (15,753 )     32,734  
 
Accumulated deficit
    (4,414 )     2,392       (922 )     (474 )     (5,459 )     4,463       (4,414 )
 
   
     
     
     
     
     
     
 
   
Total shareholders’ equity
    28,558       18,734       1,626       6,891       208       (27,632 )     28,385  
 
   
     
     
     
     
     
     
 
   
Total liabilities and shareholders’ equity
  $ 137,872     $ 19,019     $ 2,322     $ 6,962     $ 77,497     $ (27,632 )   $ 216,040  
 
   
     
     
     
     
     
     
 

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ASSISTED LIVING CONCEPTS, INC.

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
Nine Months Ended September 30, 2003
(in thousands)
(unaudited)

                                                     
        Wholly-Owned Subsidiaries
               
         
                ALC                   Non-    
                Indiana,   Carriage           participating   Consolidated
        ALC,Inc.   Inc.   House   HCI   Subsidiaries   Total
       
 
 
 
 
 
Revenue
  $ 114,239     $     $     $     $ 11,280     $ 125,519  
Operating expenses:
                                               
 
Residence operating expenses
    75,142       284       189             8,225       83,840  
 
Corporate general and administrative
    13,648                               13,648  
 
Building rentals
    8,845             698                   9,543  
 
Depreciation and amortization
    2,576       306       103       99       2,029       5,113  
 
   
     
     
     
     
     
 
   
Total operating expenses
    100,211       590       990       99       10,254       112,144  
 
   
     
     
     
     
     
 
Operating income (loss)
    14,028       (590 )     (990 )     (99 )     1,026       13,375  
 
   
     
     
     
     
     
 
Other income (expense):
                                               
 
Interest expense
    (5,246 )                       (4,987 )     (10,233 )
 
Interest income
    163                               163  
 
Management fee income (expense)
    (548 )           357             191        
 
Lease income (expense)
    (1,620 )     1,620                          
 
Other expense, net
    (71 )                             (71 )
 
   
     
     
     
     
     
 
   
Total other expense, net
    (7,322 )     1,620       357             (4,796 )     (10,141 )
 
   
     
     
     
     
     
 
Income (loss) from continuing operations before income taxes
    6,706       1,030       (633 )     (99 )     (3,770 )     3,234  
 
Income tax expense
    589       369                         958  
 
   
     
     
     
     
     
 
Income (loss) from continuing operations
    6,117       661       (633 )     (99 )     (3,770 )     2,276  
Income (loss) from discontinued operations (including gain on sale of assets)
    830                               830  
 
Income tax expense
    336                               336  
 
   
     
     
     
     
     
 
Income from discontinued operations
    494                               494  
 
   
     
     
     
     
     
 
 
Net income (loss)
  $ 6,611     $ 661     $ (633 )   $ (99 )   $ (3,770 )   $ 2,770  
 
   
     
     
     
     
     
 

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ASSISTED LIVING CONCEPTS, INC

CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
Nine Months Ended September 30, 2002
(in thousands)
(unaudited)

                                                     
                Wholly-Owned Subsidiaries    
               
   
                ALC                   Non-    
                Indiana,   Carriage           Participating   Consolidated
        ALC, Inc.   Inc.   House   HCI   Subsidiaries   Total
       
 
 
 
 
 
Revenue
  $ 104,130     $     $     $     $ 9,766     $ 113,896  
Operating expenses:
                                               
 
Residence operating expenses
    70,923       222       179             7,460       78,784  
 
Corporate general and administrative
    14,074                               14,074  
 
Building rentals
    8,509             657                   9,166  
 
Depreciation and amortization
    2,496       300       97       98       1,951       4,942  
 
   
     
     
     
     
     
 
   
Total operating expenses
    96,002       522       933       98       9,411       106,966  
 
   
     
     
     
     
     
 
Operating income (loss)
    8,128       (522 )     (933 )     (98 )     355       6,930  
Other income (expense):
                                               
 
Interest expense
    (5,622 )                       (4,980 )     (10,602 )
 
Interest income
    160                               160  
 
Management fee income (expense)
    371             (230 )           (141 )      
 
Lease income (expense)
    (1,620 )     1,620                          
 
Other income, net
    36                               36  
 
   
     
     
     
     
     
 
   
Total other income (expense), net
    (6,675 )     1,620       (230 )           (5,121 )     (10,406 )
 
   
     
     
     
     
     
 
Income (loss) before debt restructure, and reorganization cost, and discontinued operations
    1,453       1,098       (1,163 )     (98 )     (4,766 )     (3,476 )
Debt restructure and reorganization costs
    (680 )                             (680 )
 
   
     
     
     
     
     
 
Income (loss) from continuing operations
    773       1,098       (1,163 )     (98 )     (4,766 )     (4,156 )
Income (loss) from discontinued operations
    (355 )                 (450 )     319       (486 )
 
   
     
     
     
     
     
 
 
Net income (loss)
  $ 418     $ 1,098     $ (1,163 )   $ (548 )   $ (4,447 )   $ (4,642 )
 
   
     
     
     
     
     
 

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ASSISTED LIVING CONCEPTS, INC.
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
Nine months ended September 30, 2003
(in thousands)
(unaudited)

                                                       
                  Wholly-Owned Subsidiaries    
                 
   
                  ALC                   Non-    
                  Indiana,   Carriage           Participating   Consolidated
          ALC, Inc.   Inc.   House   HCI   Subsidiaries   Total
         
 
 
 
 
 
Operating Activities:
                                               
 
Net income
  $ 6,611     $ 661     $ (633 )   $ (99 )   $ (3,770 )   $ 2,770  
Adjustment to reconcile net loss to net cash provided by (used in) operating activities:
                                               
   
Depreciation and amortization
    2,576       306       103       99       2,029       5,113  
   
Stock-based compensation expense
    163                               163  
   
Amortization of deferred financing fees
    83                               83  
   
Amortization of fair value adjustment to building rentals
    (153 )           (23 )                 (176 )
   
Amortization of fair market adjustment to debt
    7                         299       306  
   
Amortization of note discount
    424                               424  
   
Straight-line adjustment to building rentals
    90                               90  
   
Interest paid-in-kind
    1,003                               1,003  
   
Provision for doubtful accounts
    625                         33       658  
   
Gain on sale of assets
    (833 )                             (833 )
Changes in assets and liabilities:
                                               
   
Receivable (payable) from subsidiaries/ parent
    (2,879 )     (1,436 )     612       (55 )     3,758        
   
Accounts receivable
    (1,722 )                 3       (7 )     (1,726 )
   
Prepaid expenses
    (708 )                       (33 )     (741 )
   
Other current assets
    442                   3       (484 )     (39 )
   
Other assets
    (616 )                       400       (216 )
   
Accounts payable
    833                   (1 )     (431 )     401  
   
Accrued expenses
    (475 )     206       (56 )     55       (285 )     (555 )
   
Other liabilities
    203       369       7             28       607  
 
   
     
     
     
     
     
 
     
Net cash provided by operating activities
    5,674       106       10       5       1,537       7,332  
Investing Activities:
                                               
Collections of restricted cash, net
    4,991                               4,991  
Purchases of property and equipment
    (1,805 )     (106 )     (10 )     (5 )     (567 )     (2,493 )
Sale of properties
    2,569                               2,569  
 
   
     
     
     
     
     
 
     
Net cash provided by (used in) investing activities
    5,755       (106 )     (10 )     (5 )     (567 )     5,067  
Financing Activities:
                                               
Payments on long-term debt and capital lease obligation
    (7,690 )                       (970 )     (8,660 )
 
   
     
     
     
     
     
 
   
Net cash used in financing activities
    (7,690 )                       (970 )     (8,660 )
 
   
     
     
     
     
     
 
Net increase in cash and cash equivalents
    3,739                               3,739  
Cash and cash equivalents, beginning of period
    7,165                               7,165  
 
   
     
     
     
     
     
 
 
Cash and cash equivalents, end of period
  $ 10,904     $     $     $     $     $ 10,904  
 
   
     
     
     
     
     
 

 


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ASSISTED LIVING CONCEPTS, INC.
CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
Nine months ended September 30, 2002
(in thousands)
(unaudited)

                                                     
                Wholly-Owned Subsidiaries    
               
   
                ALC                   Non-    
                Indiana,   Carriage           Participating   Consolidated
        ALC, Inc.   Inc   House   HCI   Subsidiaries   Total
       
 
 
 
 
 
Operating Activities:
                                               
Net loss
  $ 418     $ 1,098     $ (1,163 )   $ (548 )   $ (4,447 )   $ (4,642 )
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
                                               
 
Depreciation and amortization
    2,434       300       97       239       1,981       5,051  
 
Amortization of deferred financing fees
    80                               80  
 
Amortization of fair value adjustment to building rentals
    (443 )           (68 )                 (511 )
 
Amortization of fair market adjustment of debt
    320                               320  
 
Amortization of note discount
    328                               328  
 
Straight-line adjustment to building rentals
    282                               282  
 
Interest paid-in-kind
    915                               915  
 
Provision for doubtful accounts
    207                               207  
 
Loss on sale of assets
    286                   468       (209 )     545  
Changes in assets and liabilities:
                                               
 
Receivable (payable) from subsidiaries/parent
    (2,255 )     1,877       1,267       (1,960 )     1,071        
 
Accounts receivable
    (299 )                 8       (5 )     (296 )
 
Prepaid expenses
    (627 )                       43       (584 )
 
Other current assets
    599                   17       (391 )     225  
 
Other assets
    (2,025 )                 1,810       135       (80 )
 
Accounts payable
    (199 )                 (4 )     (168 )     (371 )
 
Accrued expenses
    2,187       (3,198 )     (54 )     (1 )     (436 )     (1,502 )
 
Other current liabilities
    (71 )                 (11 )           (82 )
 
Other liabilities
    826       (30 )     25       (18 )     (803 )      
 
   
     
     
     
     
     
 
   
Net cash provided by (used in) operating activities
    2,963       47       104             (3,229 )     (115 )
 
   
     
     
     
     
     
 
Investing Activities:
                                               
Decrease/increase in restricted cash
    (2,263 )                             (2,263 )
Purchases of property and equipment
    1,628       (47 )     (104 )           (3,684 )     (2,207 )
 
   
     
     
     
     
     
 
   
Net cash used in investing activities
    (635 )     (47 )     (104 )           (3,684 )     (4,470 )
Financing Activities:
                                               
Proceeds from long-term debt
    (3,405 )                       6,913       3,508  
Payments on long-term debt and capital lease obligation
    (1,948 )                             (1,948 )
Debt issuance costs of offerings and long-term debt
    (79 )                             (79 )
 
   
     
     
     
     
     
 
   
Net cash provided by (used in) financing activities
    (5,432 )                       6,913       1,481  
 
   
     
     
     
     
     
 
Net decrease in cash and cash equivalents
    (3,104 )                             (3,104 )
Cash and cash equivalents, beginning of period
    6,077                               6,077  
 
   
     
     
     
     
     
 
Cash and cash equivalents, end of period
  $ 2,973     $     $     $     $     $ 2,973  
 
   
     
     
     
     
     
 

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This report on Form 10-Q may be deemed to constitute forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements, including without limitation, statements containing the words “will,” “believes,” “anticipates,” “estimates,” “intends,” “expects,” “should,” “could,” and words of similar import, are forward looking statements. These forward-looking statements may be affected by risks and uncertainties, including without limitation (i) our ability to control costs and improve operating margins, (ii) our ability to increase occupancy, (iii) our ability to increase our revenue at a pace which exceeds expense inflation, (iv) our ability to operate our residences in compliance with evolving regulatory requirements, (v) the degree to which our future operating results and financial condition may be affected by a reduction in Medicaid reimbursement rates, and (vi) our ability to extend or renegotiate our current debt agreements. In light of such risks and uncertainties, our actual results could differ materially from such forward-looking statements. Except as may be required by law, we do not undertake any obligation to publicly release any revisions to any forward-looking statements contained herein to reflect events and circumstances occurring after the date hereof or to reflect the occurrence of unanticipated events.

References in this section to “ALC,” the “Company,” “us” or “we” refer to Assisted Living Concepts, Inc. and its wholly owned subsidiaries.

General

We operate, own and lease free-standing assisted living residences. These residences are primarily located in small, middle-market, rural and suburban communities with a population typically ranging from 10,000 to 40,000. As of September 30, 2003, we had operations in 14 states.

We provide personal care and support services, and make available routine nursing services (as permitted by applicable law) designed to meet the personal and health care needs of our residents. We believe that this combination of residential, personal care, support and health care services provides a cost-efficient alternative to, and affords an independent lifestyle for, individuals who do not require the broader array of medical services that nursing facilities are required by law to provide.

As of September 30, 2003, we operated 177 assisted living residences (6,838 units), of which we owned 122 residences (4,733 units) and leased 55 residences (2,105 units).

We derive our revenues primarily from resident fees for room, board and care. Resident fees typically are paid monthly by residents, their families, state Medicaid agencies or other third parties. Resident fees include revenue derived from a multi-tiered rate structure, which varies based on the level of care provided. Resident fees are recognized as revenues when services are provided. Our expenses include:

    residence operating expenses, such as staff payroll, food, property taxes, utilities, insurance and other direct residence operating expenses;

    general and administrative expenses consisting of regional management and corporate support functions such as legal, accounting and other administrative expenses;

    building rentals;

    depreciation and amortization; and

    interest expense related to debt.

We anticipate that the majority of our revenues will continue to come from private pay sources. However, we believe that by having located some of our residences in states with favorable regulatory and reimbursement climates, we should have a stable source of residents eligible for Medicaid reimbursement to the extent that private pay residents are not available and, in addition, provide our private pay residents with alternative sources of income when their private funds are depleted and they become Medicaid eligible.

Although we manage the mix of private paying residents and Medicaid paying residents residing in our facilities, any significant increase in our Medicaid population could have an adverse effect on our financial position, results of operations and cash flows, particularly if states operating these programs continue to limit, or more aggressively seek limits on, reimbursement rates.

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Fresh-Start Reporting

Upon the Effective Date of our Plan of reorganization, we adopted fresh-start reporting in accordance with the American Institute of Certified Public Accountants Statement of Position 90-7, “Financial Reporting By Entities in Reorganization Under the Bankruptcy Code” (SOP 90-7). In connection with the adoption of fresh-start reporting, a new entity has been deemed created for financial reporting purposes. For financial reporting purposes, we adopted the provisions of fresh-start reporting effective December 31, 2001. In adopting the requirements of fresh-start reporting as of December 31, 2001, we were required to value our assets and liabilities at their estimated fair value and eliminate our accumulated deficit at December 31, 2001.

Sales of Residences

During March 2003, the Company sold one residence in Ohio and one residence in Indiana. The total sales price for these residences was $2.6 million, and the Company recognized a gain from these sales of $899,000.

Critical Accounting Policies and Estimates

The discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate these estimates, including those related to bad debts, income taxes, professional and general liability reserves, the carrying value of long-lived assets, financing operations, contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Results of Operations

The following tables set forth, for the periods presented, operating expenses as a percentage of revenue, the number of total residences and units operated, average occupancy and rental rates and the sources of our revenue. The portion of revenues received from state Medicaid agencies are labeled as “Medicaid state paid portion” while the portion of our revenues that a Medicaid-eligible resident must pay out of his or her own resources is labeled “Medicaid resident paid portion.”

                                     
        Three Months Ended   Nine Months Ended
        September 30,   September 30,
       
 
        2002   2003   2002   2003
       
 
 
 
Revenue
    100.0       100.0       100.0       100.0  
Operating expenses:
                               
 
Residence operating expenses
    69.5       66.9       69.2       66.8  
 
Corporate general and administrative
    10.7       10.7       12.4       10.9  
 
Building rentals
    7.9       7.8       8.1       7.5  
 
Depreciation and amortization
    4.3       4.1       4.2       4.1  
 
   
     
     
     
 
   
Total operating expenses
    92.4       89.5       93.9       89.3  
 
   
     
     
     
 
Operating income
    7.6       10.5       6.1       10.7  
Other income (expense):
                               
 
Interest expense
    (9.1 )     (8.0 )     (9.4 )     (8.1 )
 
Interest income
    0.2       0.2       0.2       0.1  
 
Other income, net
    0.0             0.0       (0.1 )
 
   
     
     
     
 
   
Total other expense, net
    (8.9 )     (7.8 )     (9.2 )     (8.1 )
Income (loss) before debt restructure, reorganization costs, and discontinued operations
    (1.3 )     2.7       (3.1 )     2.6  
Debt restructure and reorganization costs
    (0.0 )           (0.5 )      
 
   
     
     
     
 
Income (loss) from continuing operations before income taxes
    (1.3 )     2.7       (3.6 )     2.6  
 
Income tax expense
          0.4             0.8  
 
   
     
     
     
 
Income (loss) from continuing operations
    (1.3 )     2.3       (3.6 )     1.8  
Discontinued operations:
                               
 
Income (loss) from operations (including gain on sale of assets)
    (0.1 )           (0.5 )     0.7  
 
Income tax expense
                      0.3  
 
   
     
     
     
 
Income (loss) from discontinued operations
    (0.1 )           (0.5 )     0.4  
 
   
     
     
     
 
Net income (loss)
    (1.4 )     2.3       (4.1 )     2.2  
 
   
     
     
     
 

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        Three Months Ended   Nine Months Ended
        September 30,   September 30,
       
 
        2002   2003   2002   2003
       
 
 
 
Other Data Relating to Continuing Operations:
                               
 
Residences operated (end of period)
    177       177       177       177  
 
Units operated (end of period)
    6,847       6,838       6,847       6,838  
 
Average occupancy rate (based on occupied units)
    85.8 %     88.4 %     84.9 %     88.1 %
 
Average monthly rental rate
  $ 2,180     $ 2,310     $ 2,153     $ 2,282  
 
Sources of revenue:
                               
   
Medicaid state paid portion
    13.1 %     14.0 %     12.6 %     13.4 %
   
Medicaid resident paid portion
    8.0 %     9.1 %     7.7 %     8.7 %
   
Private resident paid portion
    78.9 %     76.9 %     79.7 %     77.9 %
 
   
     
     
     
 
   
Total
    100.0 %     100.0 %     100.0 %     100.0 %
 
   
     
     
     
 

Three months ended September 30, 2003 compared to three months ended September 30, 2002:

The Company recorded net income of $1.0 million on revenues of $42.4 million for the three months ended September 30, 2003 (the “September 2003 Quarter”) compared to a net loss of $563,000 on revenues of $39.1 million for the three months ended September 30, 2002 (the “September 2002 Quarter”).

Revenues increased $3.4 million for the September 2003 Quarter compared to the September 2002 Quarter primarily due to an increase in average occupancy percentage of approximately 2.6% and an increase in average rental rate received from residents of approximately $130 per month. In March 2003 the Company instituted a rent increase in all its residences.

Residence operating expenses increased $1.2 million for the September 2003 Quarter compared to the September 2002 Quarter but decreased as a percentage of revenue from 69.5% to 66.9%. Of the increase, $929,000 is attributable to an increase in payroll expenses, which decreased slightly as a percentage of revenue. The increase in payroll is primarily due to an increase in benefits and workers’ compensation expense, additional personnel, and increased salaries and wages, including expenses related to employee incentives. An increase in utilities expense of $329,000 in addition to less significant increases in other expense categories comprise the remaining increase in residence operating expenses from the September 2002 Quarter to the September 2003 Quarter. These increases were offset primarily by a decrease of $284,000 in maintenance costs, and less significant decreases in other expense categories.

Corporate, general and administrative expenses increased $368,000 for the September 2003 Quarter compared to the September 2002 Quarter and remained constant as a percentage of revenue at 10.7%. This increase is primarily related to $517,000 of bonus expense, $252,000 of legal fees, and other less significant increases. These increases were offset by less significant decreases in other corporate overhead items.

Building rentals increased $258,000, or 8.4%, for the September 2003 Quarter compared to the September 2002 Quarter and decreased as a percentage of revenue from 7.9% to 7.8%.

Depreciation and amortization expense increased by $44,000 for the September 2003 Quarter compared to the September 2002 Quarter.

Interest expense decreased $170,000 for the September 2003 Quarter compared to the September 2002 Quarter. The decrease is primarily due to the overall reduction of indebtedness.

The provision for income tax expense was $191,000 for the September 2003 Quarter. The Company anticipates taxable income for financial reporting purposes for the year ending December 31, 2003, and accordingly, has provided for federal and state income taxes on income from continuing operations and discontinued operations for the three months ended September 30, 2003. The Company has recorded such income tax expense at the rate of 31.8%, the estimated effective tax rate for the nine months ended September 30, less the effect of the change in the estimate from the six months ended June 30, 2003. The change in the estimate for the six months ended June 30, 2003 was a reduction of income tax expense of $180,000, resulting primarily from anticipation of utilization of net operating loss (NOL) carry-forwards. For income tax return purposes the Company anticipates any taxable income generated for the year ending December 31, 2003 will be offset in total by NOL carry-forwards.

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Nine months ended September 30, 2003 compared to nine months ended September 30, 2002:

The Company recorded net income of $2.8 million on revenues of $125.5 million for the nine months ended September 30, 2003 compared to a net loss of $4.6 million on revenues of $113.9 million for the nine months ended September 30, 2002.

Revenues increased $11.6 million for the nine months ended September 2003 compared to the nine months ended September 2002 primarily due to an increase in average occupancy percentage of approximately 3.2% and an increase in average rental rate received from residents of approximately $129 per month. In March 2003 the Company instituted a rent increase in all its residences.

Residence operating expenses increased $5.1 million for the nine months ended September 2003 compared to the nine months ended September 2002 but decreased as a percentage of revenue from 69.2% to 66.8%. Of the increase, $3.4 million is attributable to an increase in payroll expenses, which decreased slightly as a percentage of revenue. The increase in payroll is primarily due to an increase in benefits and workers’ compensation expense, additional personnel, and increased salaries and wages, including expenses related to employee incentives. An increase in utilities expense of $1.3 million in addition to less significant increases in other expense categories comprise the remaining increase in residence operating expenses from the nine months ended September 2002 to the nine months ended September 2003. These increases were offset primarily by a decrease of $374,000 in maintenance costs and less significant decreases in other expense categories.

Corporate, general and administrative expenses decreased $426,000 for the nine months ended September 2003 compared to the nine months ended September 2002 and decreased as a percentage of revenue from 12.4% to 10.9%. This decrease is primarily related to $768,000 of severance expenses incurred in the nine months ended September 2002 related to management changes. The Company incurred no significant severance expenses during the nine months ended September 2003. Also contributing to the decrease in administrative expenses was a $399,000 decrease in travel related expenses from the nine months ended September 2002 to the nine months ended September 2003. These expenses decreased primarily due to the completion of the corporate office relocation to Dallas, Texas in May 2003 and the corporate office’s new facilities being more centrally located to the Company’s residences. These decreases were offset primarily by increases from the nine months ended September 2002 to the nine months ended September 2003 in bonus expenses of $725,000 and other employee incentives and hiring expenses.

Building rentals increased $377,000, or 4.1%, for the nine months ended September 2003 compared to the nine months ended September 2002 and decreased as a percentage of revenue from 8.1% to 7.5%.

Depreciation and amortization expense increased by $171,000 for the nine months ended September 2003 compared to the nine months ended September 2002.

Interest expense decreased $369,000 for the nine months ended September 2003 compared to the nine months ended September 2002. The decrease is primarily due to the overall reduction of indebtedness.

Debt restructure and reorganization costs were $680,000 for the nine months ended September 2002. These were professional fees, including legal and investment advisory fees, related to the Company’s Plan of Reorganization, which became effective January 1, 2002. The Company did not incur these expenses in the nine months ended September 2003.

Results from discontinued operations during the nine months ended September 2002 include results of operations, sales-related expenses from residences that were subsequently sold and gains and/or losses related to those sales. The results from discontinued operations during the nine months ended September 2003 include results of operations, sales-related expenses from residences that were sold during March 2003, and gains and/or losses related to those sales.

Income tax expense was $1.3 million for the nine months ended September 2003. The Company anticipates taxable income for financial reporting purposes for the year ending December 31, 2003, and accordingly, has provided for federal and state income taxes on income from continuing operations and discontinued operations for the nine months ended September 30, 2003. The Company has recorded such income tax expense at the rate of 31.8%. For income tax return purposes the Company anticipates any taxable income generated for the year ending December 31, 2003 will be offset in total by NOL carry-forwards.

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Liquidity and Capital Resources

At September 30, 2003, we had working capital of $1.1 million and unrestricted cash and cash equivalents of $10.9 million.

Net cash provided by operating activities was $7.3 million during the nine months ended September 30, 2003. The primary sources were net income of $2.8 million and $5.1 million for depreciation and amortization.

Net cash provided by investing activities was $5.1 million during the nine months ended September 30, 2003. The primary sources were the release of $4.3 million of restricted cash related to the amended agreements with U.S. Bank (see below) and the sale of properties for $2.6 million. These sources were offset by purchases of property and equipment totaling $2.5 million.

Net cash used in financing activities was $8.7 million during the nine months ended September 30, 2003, all of which related to payments on long-term debt. Of this amount, $4.3 million released from U.S. Bank (see below) was used to partially pay down the amount outstanding on the G.E. Capital Credit Facility.

Related to the New Notes, in June 2003 the Company received a notice of default from the Trustee indicating that the Company failed to comply with a non-financial covenant under the Indentures pertaining to the New Notes that requires the Company to deliver an annual opinion stating that all filings, recordings or other actions that are necessary to maintain the Liens under the Collateral Documents (as such terms are defined under the Indentures pertaining to the New Notes) have been done, or that no such action is required. The Company has delivered the required annual opinions to the Trustee and has received notice from the Trustee that the Default referenced in the Notice has been cured.

In July 2003, the Company completed an open market purchase of a portion of the Company’s outstanding 10% Senior Secured Notes due 2009 and Junior Secured Notes due 2012. The transaction included the purchase of $147,889 principal amount of Senior Secured Notes and $34,178 principal amount of Junior Secured Notes (collectively, the “Purchased Notes”). Because the purchase of the Junior Notes is not permitted under the Indentures and constitutes a Default there under, and the purchase of the Senior Notes may not be permitted and could constitute Default there under, although this issue is not clear, the Company cancelled the purchase transaction with the seller in September 2003.

The Company has a series of reimbursement agreements with U.S. Bank for letters of credit that secure certain of our Revenue bonds payable, which total approximately $23.9 million as of September 30, 2003. An amendment to these agreements signed in September 2003 released $4.3 million of previously restricted cash to the Company, extended the expiration of the letters of credit to January 2005, amended the annual fees to be 2% of the stated amount of the letters of credit, and set in place new financial covenants. The Company was in compliance with these new covenants at September 30, 2003. Failure to comply with these covenants would constitute an event of default, which would allow U.S. Bank to declare any amounts outstanding under the loan documents to be due and payable. Any such default could have a material adverse effect on the Company.

Our credit agreements with U.S. Bank contain certain restrictive and financial covenants, including certain financial ratios. The agreements also require us to deposit $500,000 in cash collateral with U.S. Bank in the event certain regulatory actions are commenced with respect to the properties securing our obligations to U.S. Bank. U.S. Bank is required to release such deposits upon satisfactory resolution of the regulatory action. As of the date of this filing, no such deposits have been required.

The Company leases 37 of its facilities, representing 1,426 units, from LTC Properties, Inc. (LTC). In accordance with the Company’s plan of reorganization, effective January 1, 2002, the Company entered into a Master Lease Agreement with LTC under which 16 leases were consolidated. This Master Lease Agreement provides for aggregate rent reductions of $875,000 per year and restructures the provision related to minimum rent increases for the 16 properties for the initial remaining term. The Master Lease Agreement and other LTC lease agreements also provides LTC with the option to exercise certain remedies, including the termination of the Master Lease Agreement and the other LTC leases, upon the occurrence of an Event of Default. A change of control of the Company is deemed to be an Event of Default. A change of control is deemed to occur if, among other things, (i) any person, directly or indirectly, is or becomes the beneficial owner of thirty percent (30%) or more of the combined voting power of the Company’s outstanding voting securities, (ii) the stockholders approve under certain conditions a merger or consolidation of the Company with another corporation or entity, or (iii) the stockholders approve a plan of liquidation or sale of all or substantially all of the assets of the Company. If the surviving entity has a net worth of $75 million or more, the change of control does not constitute an Event of Default. In addition, there are cross default provisions in the LTC leases. At the same time that the Company entered into the Master Lease Agreement, it also amended 16 other leases with LTC under which the renewal rights of certain of those leases are tied together differently than previously with certain other leases. The lease agreements between the Company and LTC expire according to the following schedule:

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            Year of Lease
Number of LTC Properties   Expiration

 
 
    6       2007  
 
    18       2008  
 
    7       2009  
 
    1       2010  
 
    5       2015  
 
   
         
Total
    37          
 
   
         

Below is summarized financial information for the 37 properties:

                                                 
    Three months ended
   
(in thousands)   June 30,   September 30,   December 31,   March 31,   June 30,   September 30,
(unaudited)   2002   2002   2002   2003   2003   2003
   
 
 
 
 
 
Revenue
  $ 7,921     $ 8,315     $ 8,292     $ 8,448     $ 8,776     $ 8,855  
Residence operating expenses
    5,214       5,432       5,493       5,469       5,442       5,552  
Building rentals
    2,120       2,120       2,120       2,149       2,149       2,236  
Depreciation & amortization
    5       10       13       15       17       20  
 
   
     
     
     
     
     
 
Total operating expenses
    7,339       7,562       7,626       7,633       7,608       7,808  
 
   
     
     
     
     
     
 
Operating income
  $ 582     $ 753     $ 666     $ 815     $ 1,168     $ 1,047  
 
   
     
     
     
     
     
 

An Event of Default under the LTC leases including a change of control of the Company that resulted in the termination of the LTC leases would significantly impair the Company’s cash flow from operations and could have a material adverse effect on the Company.

Under the Senior Notes and Junior Notes the Company is required to make an offer (the “Change of Control Offer”) to repurchase the Senior Notes and the Junior Notes upon the occurrence of a change of control of the Company. A change of control as defined in the Indentures includes, among other things, the acquisition by any person or group of beneficial ownership greater than 50% of the total voting power of the common stock of the Company. The Change of Control Offer must be at a price equal to 101% of the principal amount of the Senior Notes and Junior Notes, together with accrued and unpaid interest. The occurrence of a change of control under the Indentures could have a material adverse effect on the Company.

As indicated in Amendment No. 9 to Schedule 13D/A, filed with the SEC on June 13, 2003 on behalf of BRU Holding Co., LLC, BET Associates, L.P., and Bruce E. Toll (the “Filing Persons”), Bruce Toll has acquired beneficial ownership of 1,110,426 shares (17.26%) of common stock of the Company. The Filing Persons further indicated that they have acquired the Company’s securities for investment purposes but are currently re-evaluating their position and possible alternative future courses of action, including the possibility of seeking to acquire control of the Company, although no specific plan or proposal has been formulated. According to Amendment No. 12, to Schedule 13D/A, filed with the SEC on October 20, 2003, Bruce Toll has acquired beneficial ownership of 1,795,161 shares of common stock of the Company, or 27.91% of the Company’s common stock, (based on 6,431,925 shares of common stock outstanding) and the Filing Persons have no intent to purchase additional shares which would increase their beneficial ownership percentage in excess of 29.9%. In the event the Filing Persons purchase a block of 50,000 or more shares of common stock during the period from September 18, 2003 through September 17, 2004, Mr. Toll as agreed to purchase an additional 557,214 shares of common stock from National Healthcare Investments, Inc. at the highest amount paid for a block of 50,000 or more shares of common stock during such twelve-month period. W. Andrew Adams, the Company’s Chairman of the Board, is President, Chief Executive Officer and Chairman of the Board of Directors of National Healthcare Investments, Inc.

Certain of our leases and loan agreements, including the LTC leases, contain covenants and cross-default provisions such that a default on one of those agreements could cause us to be in default on one or more other agreements which would have a material adverse effect on the Company.

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

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Based upon our current level of operations, we believe that our current cash on hand and expected cash flow from operations are sufficient to meet our liquidity needs for at least the next twelve months.

There can be no assurance, however, that our business will generate sufficient cash flow from operations, or that currently anticipated cost savings and operating improvements will be realized on schedule, both of which may be necessary to enable us to pay our indebtedness, to satisfy our lease obligations and to fund our other liquidity needs. As a result, we may need to refinance all or a portion of our indebtedness, on or before maturity. There can be no assurance that we will be able to refinance any of our indebtedness, on commercially reasonable terms or at all.

Item 3. Quantitative and Qualitative Disclosure About Market Risk

Market risk represents the risk of changes in value of a financial instrument, derivative or non-derivative, caused by fluctuations in interest rates and equity prices. Changes in these factors could cause fluctuations in our results of operations and cash flows.

For fixed rate debt, changes in interest rates generally affect the fair market value of the debt instrument, but not our results of operations or cash flows. We do not have an obligation to prepay any of our fixed rate debt prior to maturity, and therefore, interest rate risk and changes in the fair market value of our fixed rate debt will not have an impact on our results of operations or cash flows until we decide, or are required, to refinance such debt.

For variable rate debt, changes in interest rates generally do not impact the fair market value of the debt instrument, but do affect our future results of operations and cash flows. We had variable rate debt of $62.0 million outstanding at September 30, 2003 with a weighted average interest rate of 5.4%, of which $38.5 million has an interest rate floor of 8.0%. Assuming that our balance of variable rate debt remains constant, each one-percent increase in interest rates would result in an annual increase in interest expense, and a corresponding decrease in net cash flows, of $235,000 until the interest rate floor is exceeded. Conversely, each one-percent decrease in interest rates would result in an annual decrease in interest expense, and a corresponding increase in net cash flows, of $235,000.

We are also exposed to market risks from fluctuations in interest rates and the effects of those fluctuations on market values of our cash equivalents and short-term investments. These investments generally consist of overnight investments that are not significantly exposed to interest rate risk, except to the extent that changes in interest rates will ultimately affect the amount of interest income earned and cash flow from these investments.

We do not have any derivative financial instruments in place to manage interest costs, but that does not mean we will not use them as a means to manage interest rate risk in the future.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, has evaluated our “disclosure controls and procedures” (as defined in Securities Exchange Act of 1934 (the “Exchange Act”) Rules 13a-15(e) and 15d-15(e) as of the end of the period covered by this report pursuant to Rule 13a-15(b) under the Exchange Act). Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures are effective to ensure that information required to be disclosed in reports that we file or submit under the Exchange Act is (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Controls

There has been no change in our internal control over financial reporting that occurred during our last fiscal quarter that has materially affected or is reasonably likely to materially affect, our internal control over financial reporting.

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PART II — OTHER INFORMATION

Item 1. Legal Proceedings

We are involved from time to time in ordinary, routine or regulatory legal proceedings incidental to our business. As of November 11, 2003, we believe that such legal proceedings should not have a material adverse effect on our business.

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

None

Item 6. Exhibits and Reports on Form 8-K

  (a)   The following documents are filed as part of this report:
     
Exhibit    
Number    
     
12   Ratio of Earnings to Fixed Charges
     
31.1   Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
     
31.2   Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
     
32.1   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
     
32.2   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

  (b)   Reports on Form 8-K

    We filed a report on Form 8-K on July 29, 2003 pursuant to Item 5 of Form 8-K announcing the Company’s receipt of a Notice of cure from BNY Midwest Trust Company, the Trustee under the Indentures, regarding the annual opinion requirement.

    We filed a report on Form 8-K on August 14, 2003 pursuant to Items 5 and 7 of Form 8-K announcing the Company’s financial results for the quarter ended June 30, 2003.

    We filed a report on Form 8-K on September 4, 2003 pursuant to Item 5 of Form 8-K announcing the death of Richard C. Ladd, a director of the Company.

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SIGNATURES

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

                 
    ASSISTED LIVING CONCEPTS, INC.
Registrant
                 
    By:   /s/ Matthew Patrick
       
   
        Name:
Title:
  Matthew Patrick
Senior Vice President, Chief Financial Officer,
Secretary and Treasurer
   
                 
November 12, 2003                
                 
    By:   /s/ Stephan M. Kearney
       
   
        Name:
Title:
  Stephan M. Kearney
Vice President, Controller and
Chief Accounting Officer
   
                 
November 12, 2003                

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EXHIBIT INDEX

     
Exhibit    
Number    

   
12   Ratio of Earnings to Fixed Charges
     
31.1   Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
     
31.2   Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
     
32.1   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
     
32.2   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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