10-K

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-K

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

For the fiscal year ended December 31, 2004

OR

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

Commission File Number 001-16817

FIVE STAR QUALITY CARE, INC.

Maryland	04-3516029
(State of Incorporation)	(IRS Employer Identification No.)

400 Centre Street, Newton, Massachusetts 02458

617-796-8387

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

Title of each class	Name of each exchange on which registered
Common Stock	American Stock Exchange

Securities to be registered pursuant to Section 12(g) of the Act: None

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 ý  No o

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

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2).

Yes o  No ý

The aggregate market value of the voting shares of the registrant held by non-affiliates was $35.6 million based on the $4.40 closing price per common share on the American Stock Exchange on June 30, 2004.   For purposes of this calculation, an aggregate of 399,582.6 shares of common  stock are held by the directors and officers of the registrant and have been included in the number of shares of common stock held by affiliates, which includes 35,000 shares of common stock held by Senior Housing Properties Trust.

Number of the registrant’s shares of common stock outstanding as of March 25, 2005: 12,227,634.

References in this Annual Report on Form 10-K to the “Company,” “Five Star”, “FVE”, “we”, “us” or “our” include Five Star Quality Care, Inc., and its consolidated subsidiaries, unless the context indicates otherwise.

DOCUMENTS INCORPORATED BY REFERENCE

Certain information required in Items 10, 11, 12, 13 and 14 of Part III of this Annual Report on Form 10-K is incorporated by reference from our definitive Proxy Statement for the Annual Meeting of Shareholders scheduled to be held on May 11, 2005, or our definitive Proxy Statement.

WARNING CONCERNING FORWARD LOOKING STATEMENTS

OUR ANNUAL REPORT ON FORM 10-K CONTAINS FORWARD LOOKING STATEMENTS WITHIN THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 AND FEDERAL SECURITIES LAWS.  THESE STATEMENTS REPRESENT OUR PRESENT BELIEFS AND EXPECTATIONS, BUT THEY MAY NOT OCCUR FOR VARIOUS REASONS.  FOR EXAMPLE:

•OUR FUTURE INSURANCE COSTS AND INSURANCE RESERVE CALCULATIONS MAY BE GREATER THAN WE NOW ANTICIPATE;

•WE MAY BE UNABLE TO CARRY OUT OUR BUSINESS PLAN TO EXPAND BECAUSE WE ARE UNABLE TO LOCATE EXPANSION OPPORTUNITIES AT PRICES WE ARE WILLING OR ABLE TO PAY;

•OUR RECEIVABLES RESERVES MAY BE INADEQUATE, ESPECIALLY THE RESERVES WHICH RELATE TO MEDICARE AND MEDICAID PAYMENTS BECAUSE SUCH PAYMENTS ARE SUBJECT TO GOVERNMENTAL AUDITS AND TO GOVERNMENT FISCAL POLICIES;

•OUR PENDING ACQUISITION OF SIX ASSISTED LIVING COMMUNITIES MAY NOT BE CONCLUDED BECAUSE OF OUR FAILURE TO RECEIVE LICENSING, THIRD PARTY CONSENTS OR OTHERWISE;

•WE MAY BE UNABLE TO MAINTAIN OR IMPROVE OUR FUTURE OCCUPANCY RATES AND AS A RESULT OUR REVENUES MAY DECLINE;

•THE IMPROVING ECONOMY MAY RESULT IN WAGE PRESSURES WHICH INCREASE OUR FUTURE COSTS;

•FUTURE MEDICARE AND MEDICAID RATES MAY BE LOWER THAN WE NOW ANTICIPATE;

•SUNRISE SENIOR LIVING SERVICES INC.’S, OR SLS’S, OPERATIONS OF THE COMMUNITIES WHICH IT MANAGES FOR US MAY RESULT IN LOSSES TO US; OR

•WE MAY BECOME SUBJECT TO FINES OR REGULATORY SANCTIONS WHICH MATERIALLY ADVERSELY AFFECT OUR FINANCIAL CONDITION OR PERFORMANCE.

IN ANY SUCH EVENT, OUR FUTURE FINANCIAL PERFORMANCE MAY CAUSE THE IMPROVEMENTS IMPLIED BY OUR RECENT PERFORMANCE TO REVERSE AND WE MAY EXPERIENCE LOSSES.  IF OUR FINANCIAL RESULTS DO NOT CONTINUE TO IMPROVE, OUR STOCK PRICE LIKELY WILL DECLINE.  YOU SHOULD NOT PLACE UNDUE RELIANCE UPON FORWARD LOOKING STATEMENTS.

EXCEPT AS MAY BE REQUIRED BY APPLICABLE LAW, WE DO NOT INTEND TO IMPLY THAT WE WILL RELEASE PUBLICLY THE RESULT OF ANY REVISION TO THE FORWARD LOOKING STATEMENTS CONTAINED IN THIS ANNUAL REPORT TO REFLECT THE FUTURE OCCURRENCE OF PRESENTLY UNANTICIPATED EVENTS.

FIVE STAR QUALITY CARE, INC.

2004 FORM 10-K ANNUAL REPORT

Table of Contents

	PART I
Item 1.	Business
Item 2.	Properties
Item 3.	Legal Proceedings
Item 4.	Submission of Matters to a Vote of Security Holders
	PART II
Item 5.	Market for the Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities
Item 6.	Selected Financial Data
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A.	Quantitative and Qualitative Disclosures About Market Risk
Item 8.	Financial Statements and Supplementary Data
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A.	Controls and Procedures
Item 9B.	Other Information
	PART III
Item 10.	Directors and Executive Officers of the Registrant
Item 11.	Executive Compensation*
Item 12.	Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters
Item 13.	Certain Relationships and Related Transactions*
Item 14.	Principal Accountant Fees and Services*
	PART IV
Item 15.	Exhibits and Financial Statement Schedules

* Incorporated by reference from our Proxy Statement for the Annual Meeting of Shareholders scheduled to be held on May 11, 2005, to be filed pursuant to Regulation 14A.

PART I

Item 1.  Business

GENERAL

We operate senior living communities, including independent living and congregate care communities, assisted living communities and nursing homes. As of December 31, 2004, excluding communities we managed under third party management contracts, we operated 148 communities containing 16,573 living units, including 96 primarily independent and assisted living communities containing 11,724 living units and 52 nursing homes containing 4,849 living units. Of our 96 primarily independent and assisted living communities, we lease 77 communities containing 10,308 living units from Senior Housing Properties Trust, or Senior Housing, our former parent, including 30 communities which are directly operated for our account by SLS, a wholly owned subsidiary of Sunrise Senior Living, Inc., or Sunrise, and we own or lease from parties other than Senior Housing 19 communities containing 1,416 living units.  All but one of our nursing homes are leased from Senior Housing. Our 148 communities include 4,960 independent living apartments, 5,046 assisted living suites, 283 special care beds and 6,284 nursing beds. Our principal executive offices are located at 400 Centre Street, Newton, Massachusetts 02458, and our telephone number is (617) 796-8387.

OUR HISTORY

We were created by Senior Housing in April 2000 to operate nursing homes repossessed or acquired from two former Senior Housing tenants. We were reincorporated in Maryland on September 17, 2001. On December 31, 2001, Senior Housing distributed substantially all of our outstanding shares to its shareholders and we became a separate publicly owned company listed on the American Stock Exchange, or AMEX. Pursuant to the transaction agreement governing this spin off:

•Senior Housing capitalized us with approximately $50 million of equity, consisting of cash and working capital, primarily operating receivables, net of operating payables;

•we agreed to lease 31 primarily independent and assisted living communities then operated by Marriott Senior Living Services, or MSLS, a wholly owned subsidiary of Marriott International Inc., or Marriott, upon their acquisition by Senior Housing which occurred in 2002, as described below;

•we leased 53 nursing homes and two assisted living communities from Senior Housing;

•we assumed one lease from the town of Campbell, Nebraska; and

•we agreed to acquire FSQ, Inc., or FSQ, the former operating company of the healthcare business we owned in order to acquire the personnel, systems and assets necessary for our business.

During 2002, we commenced operations at 51 senior living communities, including the 31 communities then operated by MSLS, and currently operated by SLS, and 20 additional communities. In March and April 2002, we issued 3,823,000 common shares in an underwritten public offering raising net proceeds of $26.1 million.  Also during 2002, we ceased operations at two communities, one of which was previously leased from Senior Housing and one of which was previously leased from the town of Campbell, Nebraska.

During 2003, we commenced operations at three senior living communities, which we lease from Senior Housing. Also during 2003, we ceased operations at seven communities, one of which was previously leased from Senior Housing. During 2003, we also acquired an institutional pharmacy located in Wisconsin for $1.8 million and we acquired a company insuring some of our workers compensation related risks for $1.3 million.

In March 2004, we ceased operations at one community that is leased from Senior Housing and was managed by SLS and we established an additional insurance company to insure a portion of our liability insurance.

In September 2004, we acquired an institutional pharmacy business located in Lincoln, Nebraska for approximately $3.0 million.

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In November 2004, we acquired 100% of the capital stock of LTA Holdings, Inc., or LTA, for approximately $211 million, excluding closing costs. LTA owned, leased and operated 47 senior living communities with 2,636 living units, which primarily offer assisted living services, located in seven states.  The majority of these 47 communities were built by LTA between 1997 and 2002, the average age of the 47 communities is approximately five years and 100% of the revenues at these communities were paid by residents from their private resources.  In addition, LTA had two management contracts with third parties for 12 assisted living communities.  We terminated one contract for 11 of these communities, on March 1, 2005.

To finance this acquisition, we entered into a $148.2 million sale leaseback transaction with Senior Housing for 31 of the communities acquired from LTA. We also entered into a $16.8 million mortgage loan with Senior Housing secured by five of our properties. We funded the balance of the purchase price with cash on hand, and by assuming  Department of Housing and Urban Development, or HUD, insured long term mortgage debts and an operating lease for four communities from Health Care Property Investors, Inc., or HCPI.

In December 2004 and January 2005, we issued a total of 3,620,000 shares of common stock, or common shares, for net proceeds of $28.8 million.  We used a portion of proceeds raised in this offering to pay off the $16.8 million mortgage loan with Senior Housing described above.

In January 2005, we agreed to acquire six assisted living communities for approximately $63.5 million from six limited liability companies known as Gordon Health Care Ventures, LLC, or Gordon.  We intend to finance this acquisition with cash on hand, borrowings under our line of credit and mortgage or sale leaseback transactions for some of the communities being purchased or for certain other unencumbered communities which we currently own.  Completion of this acquisition is subject to various conditions customary in multi-community healthcare transactions of this type, including completion of diligence, licensing and receiving third party consents.  We expect this acquisition to close during the second quarter of 2005, but there is no assurance that it will close.

In March 2005, we acquired one assisted living community for a purchase price of $6.9 million, excluding closing costs, and commenced operations at that community.  We funded the purchase price with cash on hand.  This community has 62 living units and 100% of the revenues at this community are paid by residents from their private resources.

OUR GROWTH STRATEGY

We believe that the aging of the U.S. population will increase demand for existing independent living properties, assisted living communities and nursing homes. Our principal growth strategy is to profit from this demand by operating and acquiring properties that provide high quality services to residents who pay with private resources.

We seek to improve the profitability of our existing operations by increasing revenues and improving margins. We attempt to increase revenues by increasing rates and occupancies. We attempt to improve margins by limiting increases in expenses and improving operating efficiencies.

In addition to managing our existing operations, we intend to continue to grow our business through acquisitions of independent and assisted living communities where residents’ private resources account for a large majority of revenues. Since we became a public company in late 2001, we added 94 primarily independent and assisted living communities to our business which generate approximately 87% of their revenue from residents’ private resources, rather than from Medicare or Medicaid. We prefer to purchase communities which have achieved or are close to stabilized operations. For example, the LTA communities which we acquired were 86% occupied as of December 31, 2004.  We also try to make acquisitions where we can realize cost savings by combining operations with our existing operations.

Starting in the mid 1990s, a large number of independent and assisted living communities were developed with financing from private equity and real estate opportunity funds. We believe that many of these communities are now at or approaching stabilized operations and many of these financial investors are now anxious to sell. For example: in 2002, we acquired 15 independent and assisted living communities which were assembled and developed by Constellation Health Services, Inc., a division of Constellation Energy Group, Inc., f/k/a Baltimore Gas and Electric Company; and the controlling shareholder of LTA prior to our acquisition of LTA was a private equity fund. We expect to pursue similar acquisitions for the next several years.

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We also intend to expand our institutional pharmacy business. We acquired our first pharmacy in Wisconsin in 2003.  During 2004, we acquired a second pharmacy located in Nebraska. Whenever we buy an institutional pharmacy business, we seek to grow its business by providing pharmacy services at our senior living communities within the same service area.  We are currently interested in acquiring pharmacies in other areas where we own senior living communities.

Although expansion of our nursing home business is not our primary growth strategy, we have in the past considered acquiring additional nursing homes. Most nursing homes are financially dependent upon the Medicare and Medicaid programs. Accordingly, we believe the potential for profitable operations of nursing homes is limited by government rate setting. In these circumstances, we are only interested in expanding our nursing home operations at prices which we believe take into account the risks inherent in government funding. In the past few years, we have been unable to buy nursing homes at prices we consider appropriate, but we intend to investigate such opportunities in the future.

RISK FACTORS

We have only recently been able to operate profitably.  Ownership of our securities involves a high degree of risk.  The following is a summary of the material risks of ownership of our securities.

A small percentage decline in our revenues or increase in our expenses could have a material negative impact upon our operating results.

For the year ended December 31, 2004, our revenues were $628.0 million and our expenses were $624.7 million. A small percentage decline in our revenues or increase in our expenses could have a material negative impact upon our operating results.

Our growth strategy may not succeed.

Our business plan includes acquiring additional senior living communities and institutional pharmacies. This growth strategy involves risks including the following:

•we may be unable to locate senior living communities or pharmacies available for purchase at acceptable prices;

•we may be unable to access capital to make acquisitions or operate acquired businesses;

•acquired operations may bring with them contingent liabilities which mature;

•to the extent we incur acquisition debt or leases, our operating leverage may increase; and

•combining our present operations with newly acquired operations may disrupt operations or cost more than anticipated when acquisition prices are determined.

For these reasons and others:

•the pending acquisition of the Gordon facilities may not be completed; or, if it is completed those facilities’ operations may not be profitably integrated into our existing operations;

•our business plan to grow may not succeed;

•the benefits which we hope to achieve by growing may not be achieved;

•we may suffer declines in profitability or suffer recurring losses; and

•our existing operations may suffer from a lack of management attention or financial resources if such attention and resources are devoted to a failed growth strategy.

Our insurance costs have increased and may continue to increase.

In several well publicized instances, private litigation by residents of senior living communities for alleged abuses has resulted in large damage awards against other operating companies. Today, some lawyers and law firms specialize in bringing litigation against senior living companies. As a result of this litigation and potential litigation, our cost of liability insurance has increased dramatically during the past few years. Workers compensation and employee health insurance costs have also increased in recent years. To partially offset these increases, we have increased the

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amounts of our self insurance by use of higher deductibles and captive insurance companies. Medical liability insurance reform has become a topic of political debate and some states have enacted legislation to limit future liability awards. However, if such reforms are not generally adopted, we expect our insurance costs may continue to increase. Although our reserves for self insurance have been determined with guidance from third party professionals, our reserves may prove inadequate. Increasing insurance costs and increasing reserves may materially negatively affect our results of operations.

Our business is subject to extensive regulation which increases our costs and may result in losses.

Licensing and Medicare and Medicaid laws require operators of senior living communities to comply with extensive standards governing operations. There are also various laws prohibiting fraud by senior living operators, including criminal laws that prohibit false claims for Medicare and Medicaid and that regulate patient referrals. In recent years, the federal and state governments have devoted increased resources to monitoring quality of care at senior living communities and to anti-fraud investigations. When quality of care deficiencies are identified or improper billing is uncovered, various sanctions may be imposed, including denial of new admissions, exclusion from Medicare or Medicaid program participation, monetary penalties, governmental oversight or loss of licensure. Our communities receive notices of sanctions from time to time. A result of this extensive regulatory system and increasing enforcement initiatives has been to increase our costs of monitoring quality of care compliance and billing procedures, and we expect these costs may continue to increase. Also, if we become subject to regulatory sanctions, our business may be adversely affected and we might experience financial losses.

The failure of Medicare and Medicaid rates to match our costs will reduce our income.

Some of our operations, especially our nursing homes, receive significant revenues from the Medicare and Medicaid programs. During the year ended December 31, 2004, approximately 41% of our total revenues was received from these programs. The federal government and some states are now experiencing fiscal deficits. Historically, when governmental deficits have increased, cut backs in Medicare and Medicaid funding have often followed. These cut backs sometimes include rate reductions, but more often result in a failure of Medicare and Medicaid rates to increase by sufficient amounts to offset increasing costs. We cannot now predict whether future Medicare and Medicaid rates will be sufficient to cover our future cost increases. Future Medicare and Medicaid rate declines or a failure of these rates to cover increasing costs would result in our experiencing lower earnings or losses.

Sunrise’s management of 30 of our communities may have adverse consequences to us.

In March 2003, Marriott sold its subsidiary which manages 30 communities for us to Sunrise. We believe Sunrise’s financial condition and reputation as an operator of senior living communities is weaker than the financial condition and reputation of Marriott. The operations and the financial results which we realize from the communities managed for us by Sunrise have declined and become more volatile since this sale and this decline and volatility may continue in the future.

We are subject to possible conflicts of interest and we have engaged in, and will continue to engage in for the foreseeable future, transactions with related parties.

Our business is subject to possible conflicts of interest as follows:

•our Chief Executive Officer, Evrett W. Benton, and our Chief Financial Officer, Bruce J. Mackey Jr., are also part-time employees of Reit Management and Research LLC, or RMR. RMR is the manager for Senior Housing and we purchase various services from RMR pursuant to a shared services agreement;

•our managing directors, Barry M. Portnoy and Gerard M. Martin, are also managing trustees of Senior Housing. Messrs. Portnoy and Martin also own RMR and another entity that leases office space to us; and

•under our shared services agreement with RMR, in the event of a conflict between Senior Housing and us, RMR may act on behalf of Senior Housing rather than on our behalf.

We do not believe that these conflicts adversely affect our business.

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On December 31, 2001, Senior Housing distributed substantially all of its ownership of our shares to its shareholders. As a condition to the spin off, we entered into agreements with Senior Housing which, among other things, limit ownership of more than 9.8% of our voting shares, restrict our ability to take any action that could jeopardize the tax status of Senior Housing as a real estate investment trust and limit our ability to acquire real estate of types which are owned by Senior Housing or other real estate investment trusts managed by RMR.

One hundred twenty-eight of the 148 senior living communities we currently operate are leased from Senior Housing for total annual minimum rent of $95.8 million.

As a result of the agreements entered into in connection with the spin off, our leases with Senior Housing and our shared services agreement with RMR, Senior Housing, RMR and their respective affiliates play a significant role in our business and we do not anticipate any changes to that role for the foreseeable future. Future business dealings between us, Senior Housing, RMR and their respective affiliates may be on terms less favorable to us than we could achieve on an arm’s length basis.

Our business requires regular capital expenditures.

Physical characteristics of senior living communities are mandated by various governmental authorities. Changes in these regulations may require us to make significant expenditures. In the future, our communities may require significant expenditures to address ongoing required maintenance and to make them attractive to residents. Our available financial resources may be insufficient to fund these expenditures.

Our business is highly competitive and we may be unable to operate profitably.

We compete with numerous other companies that provide senior living services, including home healthcare companies and other real estate based service providers. Historically, nursing homes have been somewhat protected from competition by state laws requiring certificates of need to develop new communities; however, these barriers are being eliminated in many states. Also, there are few barriers to competition for home healthcare or for independent and assisted living services. Growth in the availability of nursing home alternatives, including assisted living communities, has had and may in the future have the effect of reducing the occupancy or profitability at nursing homes, including those we operate. Many of our existing competitors are larger and have greater financial resources than we do. Accordingly, we cannot provide any assurances that we will be able to attract a sufficient number of residents to our communities or that we will be able to attract employees and keep wages and other employee benefits, insurance costs and other operating expenses at levels which will allow us to compete successfully or to operate profitably.

We may not achieve the anticipated benefits of our recently completed acquisition of LTA.

The financial benefits we expect to realize from our acquisition of LTA are largely dependent upon our ability to increase the occupancy of the LTA communities and to realize cost savings by combining the LTA operations and our existing operations. If our management of the LTA communities does not increase revenues and lower costs, we may not achieve the anticipated benefits and we may experience losses.

Anti-takeover provisions in our governing documents and in our material agreements may prevent shareholders from receiving a takeover premium for their shares.

Our charter places restrictions on the ability of any person or group to acquire beneficial ownership of more than 9.8% (in number of shares or value, whichever is more restrictive) of any class of our equity securities. Additionally, the terms of our leases with Senior Housing and our shared services agreement with RMR provide that our rights under these agreements may be cancelled by Senior Housing and RMR, respectively, upon the acquisition by any person or group of more than 9.8% of our voting stock, and upon other change in control events, as defined in those documents. If the breach of these ownership limitations causes a lease default, shareholders causing the default may become liable to us or to other shareholders for damages. Additionally, on March 10, 2004, we entered into a rights agreement whereby in the event a person or group of persons acquires or attempts to acquire 10% or more of our outstanding common shares, our shareholders, other than such person or group, will be entitled to purchase additional shares or other securities or property at a discount. These agreements and other provisions in our charter and bylaws may increase the difficulty of acquiring control of us by means of a tender offer, open market purchases, a proxy fight or otherwise, if the acquisition is not

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approved by our board of directors. Other provisions in our governing documents which may deter takeover proposals include the following:

•staggered terms for members of our board of directors; the power of our board of directors, without a shareholders’ vote, to authorize and issue additional shares and classes of shares on terms that it determines;

•a 75% shareholder vote and cause requirements for removal of directors; and

•advance notice procedures with respect to nominations of directors and shareholder proposals.

For all of these reasons, shareholders may be unable to cause a change of control of us or to realize a change of control premium for their common shares.

A significant increase in our labor costs could have a material adverse effect on us.

We compete with other operators of senior living communities with respect to attracting and retaining qualified personnel responsible for the day to day operations of each of our communities. A shortage of nurses or other trained personnel may require us to increase the wages and benefits offered to our employees in order to attract and retain these personnel or to hire more expensive temporary personnel. No assurance can be given that our labor costs will not increase or that any increase will be matched by corresponding increases in rates charged to residents. Any significant failure by us to control our labor costs or to pass on any increased labor costs to residents through rate increases could have a material adverse effect on our business, financial condition and results of operations.

Circumstances that adversely affect the ability of the elderly to pay for our services could have a material adverse effect on us.

Approximately 59% of our total revenues from our communities for the year ended December 31, 2004 were attributable to private pay sources. We expect to continue to rely on the ability of our residents to pay for our services from their own financial resources. Inflation or other circumstances that adversely affect the ability of the elderly to pay for our services could have a material adverse effect on our business, financial condition and results of operations.

TYPES OF COMMUNITIES

Our present business plan contemplates the ownership, leasing and management of independent living apartments or congregate care communities, assisted living communities, specialty care suites and nursing homes. Some communities combine more than one type of service in a single building or campus.

Independent Living Apartments or Congregate Care Communities.  Independent living apartments, or congregate care communities, provide high levels of privacy to residents and require residents to be capable of relatively high degrees of independence. An independent living apartment usually bundles several services as part of a regular monthly charge. For example, one or two meals per day in a central dining room, weekly maid service or services of a social director may be included in the base charge. Additional services are generally available from staff employees on a fee for service basis. In some independent living properties, separate parts of the community are dedicated to assisted living or nursing services. As of March 25, 2005, our business includes 4,960 independent living apartments in 38 communities.

Assisted Living Communities.  Assisted living communities are typically comprised of one bedroom units which include private bathrooms and efficiency kitchens. Services bundled within one charge usually include three meals per day in a central dining room, daily housekeeping, laundry, medical reminders and 24 hour availability of assistance with the activities of daily living such as dressing and bathing. Professional nursing and healthcare services are usually available at the community on call or at regularly scheduled times. As of March 25, 2005, our business includes 5,046 assisted living suites in 95 communities.

Specialty Care Suites.  Specialty care suites offer specialized programs for patients suffering from specific illnesses, usually Alzheimer’s disease. As of March 25, 2005, our business includes 283 specialty care suites in 9 communities.

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Nursing Homes.  Nursing homes generally provide extensive nursing and healthcare services similar to those available in hospitals, without the high costs associated with operating theaters, emergency rooms or intensive care units. A typical purpose built nursing home includes mostly two bed rooms with a separate bathroom in each room and shared dining and bathing facilities. Some private rooms are available for those residents who pay higher rates or for residents whose medical conditions require segregation. Nursing homes are staffed by licensed nursing professionals 24 hours per day. As of March 25, 2005, our business includes 6,284 nursing home beds in 78 communities.

OPERATING STRUCTURE

We have several regional offices, which are located throughout the country. Each regional office is responsible for multiple communities and is headed by a regional director of operations with extensive experience in the senior living industry. Each regional office is typically supported by a clinical or wellness director, a rehabilitation services director, a regional accounts manager, a human resources specialist and a sales and marketing specialist. Regional staff are responsible for all our community operations within the region, including:

•resident services;

•marketing and sales;

•hiring of community personnel;

•compliance with applicable legal and regulatory requirements; and

•supporting our development and acquisition plans within their region.

Our home office staff performs the following tasks:

•general oversight of our regional staff and pharmacy operations;

•the establishment of company wide policies and procedures relating to resident care;

•human resources policies and procedures;

•information technology;

•Medicare and Medicaid billing;

•licensing and certification maintenance;

•legal services;

•central purchasing;

•budgeting and supervision of maintenance and capital expenditures;

•implementation of our growth strategy; and

•accounting and finance functions, including operations budgeting, accounts receivable and collections, accounts payable, payroll, financial reporting, and tax planning and compliance.

INDEPENDENT AND ASSISTED LIVING COMMUNITY STAFFING

Each of the independent and assisted living communities we operate for our own account has an executive director responsible for the day to day operations of the community, including quality of care, resident services, sales and marketing, financial performance and staff supervision. The executive director is supported by department heads, who oversee the care and service of the residents, a wellness director, who is responsible for coordinating the services necessary to meet the health care needs of our residents and a marketing director, who is responsible for selling our services.  Other key positions include the dining services coordinator, the activities coordinator and the property maintenance coordinator.

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NURSING HOME STAFFING

Each of our nursing homes is managed by a state licensed administrator who is supported by other professional personnel, including a director of nursing, an activities director, a marketing director, a social services director, a business office manager, and physical, occupational and speech therapists. Our directors of nursing are state licensed nurses who supervise our registered nurses, licensed practical nurses and nursing assistants. Staff size and composition vary depending on the size and occupancy of each nursing home and on the type of care provided by the nursing home. Our nursing homes also contract with physicians who provide certain medical services.

PHARMACY OPERATIONS AND STAFFING

Our pharmacy operations provide goods and services to operators and residents of senior living communities; we do not sell to the public generally. At each pharmacy, we have an executive director who is a state licensed pharmacist and who manages the pharmacy and supervises billing. The executive director is responsible for the day to day operations of the pharmacy including sales and marketing, financial performance, compliance with regulatory codes regarding the dispensing of controlled substances and staff supervision. Other pharmacy personnel include licensed dispensing pharmacists, a director of pharmacy consultation, a medical records director, a nurse consultant, pharmacy technicians and billing personnel.

EMPLOYEES

As of March 25, 2005, we had approximately 9,000 employees, including 5,300 full time equivalents. Approximately 550 employees, including 350 full time equivalents, are represented under five collective bargaining agreements which have remaining terms of one to three years. We have no other employment agreements. We believe our relations with our union and non-union employees are good.

GOVERNMENT REGULATION AND REIMBURSEMENT

Our operations must comply with numerous federal, state and local statutes and regulations. Also, the healthcare industry depends significantly upon federal and state programs for revenues and, as a result, is vulnerable to the budgetary policies of both the federal and state governments.

Independent Living Communities. Government benefits generally are not available for services at independent living communities and the resident charges in these communities are paid from private resources. However, a number of Federal Supplemental Security Income program benefits pay housing costs for elderly or disabled residents to live in these types of residential communities. The Social Security Act requires states to certify that they will establish and enforce standards for any category of group living arrangement in which a significant number of Supplemental Security Income residents reside or are likely to reside. Categories of living arrangements which may be subject to these state standards include independent living apartments and assisted living communities. Because independent living communities usually offer common dining facilities, in many locations they are required to obtain licenses applicable to food service establishments in addition to complying with land use and life safety requirements. In many states, independent living communities are licensed by state or county health departments, social service agencies or offices on aging with jurisdiction over group residential communities for seniors. To the extent that independent living communities include units in which assisted living or nursing services are provided, these units are subject to applicable state licensing regulations, and if the communities receive Medicaid or Medicare funds, to certification standards. In some states, insurance or consumer protection agencies regulate independent living communities in which residents pay entrance fees or prepay for services.

Assisted Living Communities.  According to the National Academy for State Health Policy, or the National Academy, a majority of states provide or are approved to provide Medicaid payments for residents in some assisted living communities under waivers granted by the Federal Centers for Medicare and Medicaid Services, or CMS, or under Medicaid state plans, and certain other states are planning some Medicaid funding by preparing or requesting waivers to fund assisted living demonstration projects. Because rates paid to assisted living community operators are generally lower than rates paid to nursing home operators, some states use Medicaid funding of assisted living as a means of lowering the cost of services for residents who may not need the higher intensity of health related services provided in nursing homes. States that administer Medicaid programs for assisted living communities are responsible for monitoring the services at,

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and physical conditions of, the participating communities. Different states apply different standards in these matters, but generally we believe these monitoring processes are similar to the concerned states’ inspection processes for nursing homes.

In light of the large number of states using Medicaid to purchase services at assisted living communities and the growth of assisted living in recent years, a majority of states have adopted licensing standards applicable to assisted living communities. A majority of states have licensing statutes or standards specifically using the term “assisted living” and have requirements for communities servicing people with Alzheimer’s disease or dementia. The majority of states have revised their licensing regulations recently or are reviewing their policies or drafting or revising their regulations. State regulatory models vary; there is no national consensus on a definition of assisted living, and no uniform approach by the states to regulating assisted living communities. Most state licensing standards apply to assisted living communities whether or not they accept Medicaid funding. Also, according to the National Academy, a few states require certificates of need from state health planning authorities before new assisted living communities may be developed. Based on our analysis of current economic and regulatory trends, we believe that assisted living communities that become dependent upon Medicaid payments for a majority of their revenues may decline in value because Medicaid rates may fail to keep up with increasing costs. We also believe that assisted living communities located in states that adopt certificate of need requirements or otherwise restrict the development of new assisted living communities may increase in value because these limitations upon development may help ensure higher occupancy and higher non-governmental rates.

The US. Department of Health and Human Services, the Government Accountability Office and the Senate Special Committee on Aging have recently studied and reported on the development of assisted living and its role in the continuum of long-term care and as an alternative to nursing homes.   In 2003, the Government Accountability Office recommended that CMS strengthen its oversight of state Medicaid waiver programs and state quality assurance programs.  Also in 2003, a working group of assisted living providers, consumers and regulatory organizations made recommendations to the Senate Special Committee on Aging on a range of subjects, including staffing, funding and regulation of assisted living.  We cannot predict whether these studies and reports will result in governmental policy changes or new legislation, or what impact any changes may have. Based upon our analysis of current economic and regulatory trends, we do not believe that the federal government is likely to have a material impact upon the current regulatory environment in which the assisted living industry operates unless it also undertakes expanded funding obligations, and we do not believe a materially increased financial commitment from the federal government is presently likely. However, we do anticipate that assisted living communities will increasingly be licensed and regulated by the various states, and that, in the absence of federal standards, the states’ policies will continue to vary widely.

Nursing Homes-Reimbursement.  About 61% of all nursing home revenues in the U.S. in 2003 (the most recent date for which information seems to be publicly available) came from publicly funded programs, including about 46% from Medicaid programs and 12% from the Medicare program. Nursing homes are among the most highly regulated businesses in the country. The federal and state governments regularly monitor the quality of care provided at nursing homes. State health departments conduct surveys of resident care and inspect the physical condition of nursing home properties. These periodic inspections and occasional changes in life safety and physical plant requirements sometimes require nursing home operators to make significant capital improvements. These mandated capital improvements have in the past usually resulted in Medicare and Medicaid rate adjustments, albeit on the basis of amortization of expenditures over expected useful lives of the improvements. A Medicare prospective payment system, or the PPS, was phased in over three years beginning with cost reporting years starting on or after July 1, 1998. Under the PPS, capital costs are part of the prospective rate and are not community specific.  The PPS and other recent legislative and regulatory actions with respect to state Medicaid rates are limiting the reimbursement levels for some nursing home services. At the same time, federal and state enforcement and oversight of nursing homes are increasing, making licensing and certification of these communities more rigorous.

The PPS was established by the Balanced Budget Act of 1997, and was intended to reduce the rate of growth in Medicare payments for skilled nursing communities. Before the current Medicare payment system, Medicare rates were community specific and cost based. Under the current Medicare payment system, skilled nursing facilities receive a fixed payment for each day of care provided to residents who are Medicare beneficiaries. Each resident is assigned to one of 44 care groups depending on that resident’s medical characteristics and service needs. Per diem payment rates are established for each of these care groups. Medicare payments cover substantially all services provided to Medicare residents in skilled nursing communities, including ancillary services such as rehabilitation therapies. The PPS is intended to provide incentives to providers to furnish only necessary services and to deliver those services efficiently. During the three year

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phase in period, Medicare rates for skilled nursing communities were based on a blend of community specific costs and rates established by the new Medicare payment system. According to the Government Accountability Office, between fiscal year 1998 and fiscal year 1999, the first full year of the changed Medicare payment system phase in, the average Medicare payment per day declined by about 9%.

Since November 1999, Congress has provided some relief from the impact of the Balanced Budget Act of 1997. Effective April 1, 2000, the Medicare, Medicaid and State Children’s Health Insurance Program Balanced Budget Refinement Act of 1999 temporarily boosted payments for certain skilled nursing cases by 20% and allowed skilled nursing communities to transition more rapidly to the federal payment system. This Act also increased the Medicare payment rates by 4% for fiscal years 2001 and 2002 and imposed a two year moratorium on some therapy limitations for skilled nursing residents covered under Medicare Part B. In December 2000, the Medicare, Medicaid and State Children’s Health Insurance Program Benefits Improvement and Protection Act of 2000 was approved. Effective April 1, 2001 to October 1, 2002, this Act increased the nursing component of the payment rate for each care group by 17%. This Act also increased annual inflation adjustments for fiscal year 2001, increased rehabilitation care group rates by 7%, maintained the previously temporary 20% increase in the other care group rates established in 1999, and extended the moratorium on some therapy reimbursement rate caps through 2002. However, as of October 1, 2002, the 4% across the board increase in Medicare payment rates and the 17% increase in the nursing component of the rates expired. Effective October 1, 2003, CMS increased the annual inflation update to skilled nursing community rates by 3% per year, and added an additional 3% for the year beginning October 1, 2003, to account for inflation underestimates in prior years. The 20% increase for the skilled nursing care groups and the 7% increase in rehabilitation care group rates will expire when the current resource utilization groups are refined, currently anticipated to be effective October 1, 2005, for fiscal year 2006. Effective December 8, 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 set a new moratorium on implementation of some therapy reimbursement rate caps through 2005.

Nursing Homes-Survey and Enforcement. CMS has undertaken an initiative to increase the effectiveness of Medicare and Medicaid nursing home survey and enforcement activities. CMS’s initiative follows a July 1998 Government Accountability Office investigation which found inadequate care in a significant proportion of California nursing homes and CMS’s July 1998 report to Congress on the effectiveness of the survey and enforcement system. In 1999, the U.S. Department of Health and Human Services, Office of Inspector General issued several reports concerning quality of care in nursing homes, and the Government Accountability Office issued reports in 1999, 2000, 2002, 2003 and 2004 which recommended that CMS and the states strengthen their compliance and enforcement practices, including federal oversight of state actions, to better ensure that nursing homes provide adequate care. Since 1998, the Senate Special Committee on Aging has been holding hearings on these issues. CMS is taking steps to focus more survey and enforcement efforts on nursing homes with findings of substandard care or repeat violations of Medicare and Medicaid standards and to identify chain operated communities with patterns of noncompliance. CMS is also increasing its oversight of state survey agencies and requiring state agencies to use enforcement sanctions and remedies more promptly when substandard care or repeat violations are identified, to investigate complaints more promptly, and to survey communities more consistently. In addition, CMS has adopted regulations expanding federal and state authority to impose civil money penalties in instances of noncompliance. Medicare survey results and nursing staff hours per resident for each nursing home are posted on the Medicare website at www.medicare.gov. CMS plans to post fire safety survey results and sprinkler status of nursing homes on the Medicare website in 2005.  When deficiencies under state licensing and Medicare and Medicaid standards are identified, sanctions and remedies such as denials of payment for new Medicare and Medicaid admissions, civil monetary penalties, state oversight and loss of Medicare and Medicaid participation or licensure may be imposed. We receive notices of potential sanctions and remedies from time to time, and such sanctions have been imposed from time to time on us. If we are unable to cure deficiencies which have been identified or that are identified in the future, additional sanctions may be imposed, and if imposed, may adversely affect our ability to meet our financial obligations and negatively affect our financial condition and results of operations.

In 2000 and 2002, CMS issued reports on its study linking nursing staffing levels with quality of care, and CMS is assessing the impact that minimum staffing requirements would have on community costs and operations. In a report presented to Congress in 2002, the Department of Health and Human Services found that 90% of nursing homes lack the nurse and nurse aide staffing necessary to provide adequate care to residents. The Bush administration has indicated that it does not intend to impose minimum staffing levels or to increase Medicare or Medicaid rates to cover the costs of increased staff at this time, but CMS is publishing the nurse staffing level at each nursing home on the internet  (www.medicare.gov) to increase market pressures on nursing home operators.

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Federal efforts to target fraud and abuse and violations of anti-kickback laws and physician referral laws by Medicare and Medicaid providers have also increased. In March 2000, the U.S. Department of Health and Human Services Office of Inspector General issued compliance guidelines for nursing communities to assist them in developing voluntary compliance programs to prevent fraud and abuse. Also, new rules governing the privacy, use and disclosure of individually identified health information became final in 2001 and took effect in 2003, with civil and criminal sanctions for noncompliance. An adverse determination concerning any of our licenses or eligibility for Medicare or Medicaid reimbursement or the costs of required compliance with applicable federal or state regulations could adversely affect our ability to meet our financial obligations and negatively affect our financial condition and results of operations.

Nursing Homes-Certificates of Need. Most states limit the number of nursing homes by requiring developers to obtain certificates of need before new communities may be built. Also, such  states as California and Texas that have eliminated certificate of need laws often have retained other means of limiting new nursing home development, such as the use of moratoria, licensing laws or limitations upon participation in the state Medicaid program. We believe that these governmental limitations may make nursing homes more valuable by limiting competition.

Other Matters.  Under the Medicare Prescription Drug, Improvement and Modernization Act of 2003, Medicare beneficiaries may receive prescription drug benefits beginning in 2006 by enrolling in private health plans or managed care organizations, or if they remain in traditional Medicare, by enrolling in stand alone prescription drug plans. A number of legislative proposals that would affect major reforms of the healthcare system have been introduced in the U.S. Congress and many are being considered by some state governments, such as programs for national health insurance, the option of block grants for states rather than federal matching money for certain state Medicaid services, additional Medicare and Medicaid reforms and federal and state cost containment measures. In connection with recent fiscal pressures on state governments, legislation and regulation to reduce Medicaid nursing home payment rates in some states are possible in the future. We cannot predict whether any of these legislative or regulatory proposals will be adopted or, if adopted, what effect, if any, these proposals would have on our business.

INSURANCE

Litigation against senior living operators has been increasing during the past few years. Several cases by nursing home patients or their families who have won large monetary awards for mistreatment have been widely publicized. The amount of such litigation in Florida has been particularly significant. As a result, liability insurance costs are rising and, in some cases, such insurance is not available to some senior living operators. We have liability insurance for the properties which we now operate. Only one of these communities is located in Florida and such community has no nursing home beds. SLS is responsible for obtaining insurance for the senior living communities which SLS manages for us. As of December 31, 2004, five of these communities were located in Florida (884 independent living apartments, 331 assisted living suites and 95 nursing home beds).

In recent years, our insurance costs for workers compensation and employee healthcare have also increased significantly. This is especially so with respect to workers compensation insurance in California where we operated six communities with approximately 575 employees as of December 31, 2004, and where SLS operated two communities with approximately 300 employees for our account.

To partially offset these insurance cost increases, we have taken several actions including the following:

•we have increased the deductible or retention amounts for which we are liable under our liability insurance;

•we have established an offshore captive insurance company which participates in our liability insurance program. Some of our premiums for liability insurance are paid to this company which may retain some of these amounts and the earnings on these amounts based upon our actual claims experiences;

•we have acquired another offshore insurance company and established a captive insurance program for our workers compensation insurance obligations in those states which permit such arrangements. This program may allow us to reduce our net workers compensation insurance costs by allowing us to retain the earnings on our reserves, provided our claims experience is as projected by various statutory and actuarial formulas;

•we have increased the amounts which some of our employees are required to pay for health insurance coverage and as co-payments for health services and pharmaceutical prescriptions and decreased the amount of certain healthcare benefits;

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•we have increased the deductible or retention amounts for our health insurance obligations;

•we have hired professional advisors to help us establish programs to reduce our insured workers compensation and professional and general liabilities, including a program to monitor and pro-actively settle liability claims and to reduce workplace injuries;

•we have hired professionals to help us establish appropriate reserves for our retained liabilities and captive insurance programs; and

•we have hired an asset manager for the SLS managed communities who, among other duties, monitors various insurance programs for these communities.

Our current insurance arrangements generally are renewable in June 2005. We do not know if our insurance charges and self-insurance reserve requirements will continue to increase, and we cannot now predict the amount of any such increase, or to what extent, if at all, we may be able to offset any increase through use of higher deductibles, retention amounts, self insurance or other means in the future.

COMPETITION

The senior living services business is highly competitive. We compete with service providers offering alternate types of services, such as home healthcare services, as well as other companies providing community based services. Our management team has been assembled within the past four years, and, although we believe it is experienced and highly talented, it does not have extensive experience working together. We expect we may expand our business with Senior Housing; however, Senior Housing is not obligated to provide us with opportunities to lease additional properties. We have large lease obligations and limited financeable assets. Many of our competitors have greater financial resources than we do. For all of these reasons and others, we cannot provide any assurance that we will be able to compete successfully for business in the senior living industry.

ENVIRONMENTAL MATTERS

Under various federal, state and local laws, owners as well as tenants and operators of real estate may be required to investigate and clean up hazardous substances released or otherwise present at a property, and may be held liable to a governmental entity or to third parties for property damage or personal injuries and for investigation and clean up costs incurred in connection with any such hazardous substances. Under our leases, we have also agreed to indemnify Senior Housing for any such liabilities related to the leased communities. In addition, some environmental laws create a lien on a contaminated site in favor of the government for damages and costs it incurs in connection with the contamination, which lien may be senior in priority to our leases. We have reviewed environmental surveys of our leased and owned communities. Based upon that review we do not believe that any of these properties are subject to any material environmental contamination. However, no assurances can be given that a prior owner, operator or occupant of our communities did not create a material environmental condition not known to us which might have been revealed by more in depth study of the properties or that future uses or conditions (including, without limitation, changes in applicable environmental laws and regulations) will not result in the imposition of environmental liability upon us. The presence or discovery of any material environmental contaminants at our communities could have a material adverse impact on us.

INTERNET WEBSITE

Our internet website address is www.5sqc.com.  Copies of our governance guidelines, code of ethics and the charters of our audit, quality of care, compensation and nominating and governance committees may be obtained free of charge by writing to our Secretary, Five Star Quality Care, Inc., 400 Centre Street, Newton, MA 02458 or at our website.  We make available, free of charge, through our website, our Annual Reports on Form 10-K, our Quarterly Reports on Form 10-Q, our Current Reports on Form 8-K and amendments to such reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, or the Exchange Act, as soon as reasonably practicable after such forms are electronically filed with the Securities and Exchange Commission.  Any shareholder or other interested party who desires to communicate with our independent directors, individually or as a group, may do so by filling out a report on our website. Our board also provides a process for security holders to send communications to our entire board. Information about the process for sending communications to our board can be found on our website.  Our website address is included several times in this Annual Report on Form 10-K as a textual reference only and the information in the website is not incorporated by reference into this Annual Report on Form 10-K.

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Item 2.  Properties

OUR SENIOR LIVING COMMUNITIES

As of December 31, 2004, excluding communities we managed under third party management contracts, our business included 148 senior living communities which may be categorized into three groups as follows:

Ownership	No. of communities	Type of units				Total living units	Occupancy for the year ended Dec 31, 2004		Revenues for the year ended Dec. 31, 2004 (in thousands)			Percent of revenues from private resources
		Indep. living apts.	Assist. living suites	Special care beds	Nursing home beds
Communities we operate and lease from Senior Housing	98	733	2,395	—	4,605	7,733	89	%(1)	$	336,570	(1)	42	%
Communities we lease from Senior Housing and SLS manages	30	3,977	1,485	283	1,530	7,275	91	%	303,111			85	%
Communities we operate and own or lease from parties other than Senior Housing	20	250	1,166	—	149	1,565	84	%(1)	49,787		(1)	80	%
Totals:	148	4,960	5,046	283	6,284	16,573	89	%	$	689,468		62	%

(1)Includes amounts and data for periods prior to commencement of our lease or ownership.

COMMUNITIES WE OPERATE AND LEASE FROM SENIOR HOUSING

As of December 31, 2004, we operated 98 communities which are leased from Senior Housing. These communities have 7,733 living units and are located in 19 states. The following table provides additional information about these communities and their operations.

		Type of units						Revenues for the		Percent of
Location	No. of communities	Indep. living apts.	Assist. living suites	Nursing home beds	Total living units	Occupancy for the year ended Dec. 31, 2004 (1)		year ended Dec. 31, 2004 (in thousands) (1)		revenues from private resources
1. Alabama	3	—	132	—	132	96	%	$	4,452	100	%
2. Arizona	2	—	52	125	177	78	%	6,429		23	%
3. California	6	84	165	396	645	93	%	29,369		34	%
4. Colorado	7	64	—	752	816	87	%	42,203		24	%
5. Connecticut	2	—	—	300	300	97	%	22,189		7	%
6. Georgia	10	—	287	338	625	91	%	24,455		42	%
7. Iowa	7	19	—	476	495	90	%	25,247		15	%
8. Kansas	2	140	—	55	195	84	%	5,111		64	%
9. Kentucky	4	—	193	—	193	90	%	5,801		100	%
10. Maryland	6	275	324	—	599	89	%	21,029		100	%
11. Michigan	1	—	—	124	124	90	%	11,279		9	%
12. Missouri	2	—	—	180	180	82	%	5,060		19	%
13. Nebraska	14	—	—	815	815	86	%	33,942		30	%
14. North Carolina	1	—	89	—	89	96	%	3,424		100	%
15. South Carolina	7	—	304	—	304	90	%	9,664		100	%
16. Tennessee	6	—	301	—	301	89	%	9,586		100	%
17. Virginia	9	143	548	—	691	87	%	23,473		100	%
18. Wisconsin	7	—	—	861	861	90	%	45,563		21	%
19. Wyoming	2	8	—	183	191	82	%	8,294		23	%
Totals:	98	733	2,395	4,605	7,733	89	%	$	336,570	42	%

(1) Includes amounts and data for periods prior to commencement of our lease.

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COMMUNITIES WE LEASE FROM SENIOR HOUSING AND SLS MANAGES

As of December 31, 2004, we leased 30 of our communities from Senior Housing and SLS managed these communities for us. These communities have 7,275 living units and are located in 13 states. The following table provides additional information about these communities and their operations.

	Types of units
Location	No. of communities	Indep. living apts.	Assist. living suites	Special care beds	Nursing home beds	Total living units	Occupancy for the year ended Dec. 31, 2004		Revenues for the year ended Dec. 31, 2004 (in thousands)		Percent of revenues from private resources
1. Arizona	3	523	142	28	188	881	90	%	$	33,223	89	%
2. California	2	246	100	—	59	405	91	%	20,025		95	%
3. Delaware	5	335	173	26	341	875	94	%	45,197		77	%
4. Florida	5	884	331	—	95	1,310	89	%	41,185		86	%
5. Indiana	1	117	—	30	74	221	92	%	11,448		75	%
6. Kansas	1	117	30	—	60	207	96	%	9,772		86	%
7. Kentucky	3	380	55	—	171	606	95	%	25,266		81	%
8. Massachusetts	1	—	125	—	—	125	97	%	6,708		100	%
9. New Jersey	1	217	108	31	60	416	71	%	13,303		85	%
10. New Mexico	1	114	35	—	60	209	97	%	10,537		93	%
11. Ohio	1	144	87	25	60	316	88	%	14,241		90	%
12. South Carolina	1	—	60	36	68	164	94	%	6,342		69	%
13. Texas	5	900	239	107	294	1,540	92	%	65,864		86	%
Totals:	30	3,977	1,485	283	1,530	7,275	91	%	$	303,111	85	%

COMMUNITIES WE OPERATE AND OWN OR LEASE FROM PARTIES OTHER THAN SENIOR HOUSING

As of December 31, 2004, our business included 20 communities we owned or leased from parties other than Senior Housing which had 1,565 living units located in nine states. The following table provides additional information about these communities and their operations:

		Type of units				Occupancy		Revenues for the		Percent of revenues
Location	No. of communities	Indep. living apts.	Assist. living suites	Nursing home beds	Total living units	for the year ended Dec. 31, 2004 (1)		year ended Dec. 31, 2004 (in thousands) (1)		from private resources
1. Alabama	3	—	121	—	121	63	%	$	2,472	100	%
2. Florida	1	136	70	—	206	92	%	4,556		100	%
3. Michigan	1	—	—	149	149	92	%	11,310		13	%
4. Missouri	1	114	—	—	114	61	%	1,552		100	%
5. North Carolina	4	—	351	—	351	81	%	11,963		100	%
6. Nebraska	1	—	73	—	73	92	%	2,201		100	%
7. South Carolina	5	—	238	—	238	88	%	7,075		100	%
8. Tennessee	3	—	226	—	226	92	%	5,602		100	%
9. Virginia	1	—	87	—	87	81	%	3,056		100	%
Totals:	20	250	1,166	149	1,565	84	%	$	49,787	80	%

(1) Includes amounts and data for periods prior to commencement of our lease or ownership.

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OUR SENIOR HOUSING LEASES

We have four leases with Senior Housing, three for the communities that we operate and one for the communities managed by SLS. The material terms of these leases include the following:

Minimum rent.  Our minimum rent obligations for the communities we operate is approximately $31.8 million per year, and for the communities managed by SLS is approximately $64.0 million per year.

Percentage rent. We are required to pay additional rent under our leases. This rent is payable and calculated separately for the lease relating to the communities that SLS manages for us and for the three leases, on a combined basis, relating to the communities we operate. The percentage rent equals 4% of the amount by which gross revenues of properties subject to the three leases for the communities we operate or the communities managed by SLS, as the case may be, in a year exceeds gross revenues of the properties under the three leases or the SLS lease, as the case may be, in a base year. The base year for the communities we recently acquired from LTA and lease from Senior Housing is 2006 and percentage rent begins in 2007. The base year for all other communities we lease from Senior Housing is 2005 and percentage rent begins in 2006.

Term. The terms of these leases are as follows:

		Initial expiration date	Renewal terms
•	Leases for communities operated by us	December 31, 2020	One 15 year renewal option
•	Lease for communities managed by SLS	December 31, 2017	Two consecutive renewal options for 10 and 5 years (15 years total)

Operating costs.  Each lease is a so-called “triple-net” lease which requires us to pay all costs incurred in the operation of the communities, including the costs of personnel, service to residents, insurance and real estate and personal property taxes.

Rent during renewal term.  Rent during each renewal term is the same as the minimum rent and percentage rent payable during the initial term.

Non economic circumstances.  If we determine that continued operations of one or more communities is not economically practical, we may negotiate with Senior Housing to close or sell that community, including Senior Housing’s ownership in the property. In the event of such a sale, Senior Housing receives the net proceeds and our rent for the remaining communities in the affected lease is reduced according to formulas set forth in the leases.

Maintenance and alterations.  We are required to operate continuously and maintain, at our expense, the leased communities in good order and repair, including structural and nonstructural components. We may request Senior Housing to fund amounts needed for repairs and renovations in return for rent adjustments to provide Senior Housing a return on its investment according to formulas set forth in the leases. At the end of each lease term, we are required to surrender the leased communities in substantially the same condition as existed on the commencement date of the lease, subject to any permitted alterations and subject to ordinary wear and tear.

Assignment and subletting.  Senior Housing’s consent is generally required for any direct or indirect assignment or sublease of any of the communities. In the event of any assignment or subletting, we will remain liable under the applicable lease.

Indemnification and insurance.  With limited exceptions, we are required to indemnify Senior Housing from all liabilities which may arise from the ownership or operation of the communities. We generally are required to maintain commercially reasonable insurance, including:

•“all-risk” property insurance, in an amount equal to 100% of the full replacement cost of the communities;

•business interruption insurance;

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•comprehensive general liability insurance, including bodily injury and property damage, in amounts as are generally maintained by companies providing senior living services;

•flood insurance if any community is located in whole or in part in a flood plain;

•workers compensation insurance if required by law; and

•such additional insurance as may be generally maintained by companies providing senior living services, including professional and general liability insurance.

Each lease requires that Senior Housing be named as an additional insured under these policies.

Damage, destruction, condemnation and environmental matters.  If any of the leased communities is damaged by fire or other casualty or taken for a public use, we are generally obligated to rebuild unless the community cannot be restored. If the community cannot be restored, Senior Housing will generally receive all insurance or taking proceeds and we are liable to Senior Housing for the amount of any deductible or deficiency between the replacement cost and the insurance proceeds, and our rent is adjusted pro rata. We are also required to remove and dispose of any hazardous substance at the leased communities in compliance with all applicable environmental laws and regulations.

Events of default.  Events of default under each lease include the following:

•our failure to pay rent or any other sum when due;

•our failure to maintain the insurance required under such lease;

•any person or group acquiring ownership of 9.8% or more of our outstanding voting stock or any change in our control or sale of a material portion of our assets without Senior Housing’s consent;

•the occurrence of certain events with respect to our insolvency or dissolution;

•our default under indebtedness which gives the holder the right to accelerate;

•our being declared ineligible to receive reimbursement under Medicare or Medicaid programs for any of the leased communities which participate in such programs or the revocation of any material license required for our operations; and

•our failure to perform any terms, covenants or agreements of the leases and the continuance thereof for a specified period of time after written notice.

Remedies.  Upon the occurrence of any event of default, each lease provides that, among other things, Senior Housing may, to the extent legally permitted:

•accelerate the rents;

•terminate the leases in whole or in part;

•enter the property and take possession of any and all our personal property and retain or sell the same at a public or private sale;

•make any payment or perform any act required to be performed by us under the leases; and

•rent the property and recover from us the difference between the amount of rent which would have been due under the lease and the rent received from the re-letting.

We are obligated to reimburse Senior Housing for all costs and expenses incurred in connection with any exercise of the foregoing remedies.

Management.  We may not enter into any new management agreement or amend or modify any management agreement with SLS affecting any leased community without the prior written consent of Senior Housing.

Lease subordination.  Our leases may be subordinated to any mortgages on properties leased from Senior Housing.

Financing limitations; security.  We may not incur debt secured by our investments in our tenant subsidiaries. Further, our tenant subsidiaries are prohibited from incurring liabilities other than operating liabilities incurred in the ordinary course of business, liabilities secured by our accounts receivables or purchase money debt. We have pledged 100% of the equity interests of certain of our tenant subsidiaries to Senior Housing or its lenders, and we may pledge interests in our leases only if the pledge is consented to by Senior Housing.

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FF&E reserves.  We are required under our lease for the communities managed by SLS to make deposits into certain accounts that we own for replacements and improvements known as FF&E reserves. Senior Housing has a security and remainder interest in these accounts and in all property purchased with funding from these accounts.

SUNRISE SENIOR LIVING SERVICES, INC. MANAGEMENT AGREEMENTS

The following is a description of the material terms of our management agreements with SLS:

Term.  Generally each of the management agreements has an initial term expiring in 2027, with one five year renewal term at SLS's option.

Community services.  Our contract with SLS delegates to SLS the responsibility for operations of the managed communities, including obtaining and maintaining all insurance, establishing resident care policies and procedures, carrying out and supervising all necessary repairs and maintenance, procuring food, supplies, equipment, furniture and fixtures, and establishing prices, rates and charges for services provided. SLS also recruits, employs and directs all community based employees.

Central services.  SLS also furnishes certain central administrative services, which are provided on a central or regional basis to all senior living communities managed by SLS. Such services include: (1) marketing and public relations; (2) human resources program development; (3) information systems development and support; and (4) centralized computer payroll and accounting.

FF&E reserves and capital improvements.  SLS has established an FF&E reserve account under each management agreement to cover the expected recurring cost of replacements and renewals to the furniture, furnishings, fixtures, soft goods, case goods, vehicles and equipment, and for building repairs and maintenance which are normally capitalized. The FF&E reserve accounts are funded from the operating revenues of the managed communities. The amount of this funding varies among the managed communities; however, for most communities it is currently set at 2.85% of gross revenues and will gradually increase to 3.5% of gross revenues. In 2004 and 2003, we deposited $8.6 million and $8.1 million into these accounts, respectively. In the event major capital improvements are required, or if the amounts set aside in the FF&E reserve accounts are inadequate for required repairs, we may be required to separately fund such repairs and improvements. Any such separate funding which we provide increases the amount of our owner’s priority, as described below. The amount of FF&E reserve funding required under our SLS management agreements is the same as the funding required by our Senior Housing lease for these communities. Also, under our lease, we have the option to request Senior Housing to provide any required separate funding in return for rent adjustments to provide Senior Housing a return on its investment according to a formula set forth in the lease.

Fees.  For its management services, SLS receives a base fee generally equal to 5% of the managed communities’ gross revenues, plus an incentive fee generally equal to 20% of operating cash flows in excess of owner’s priority amounts, as defined in the agreements. For its central services, SLS receives a fee generally equal to 2% of gross revenues. During 2004 and 2003, management and central services fees paid to SLS and SLS’s predecessor, MSLS, totaled $19.3 million and $17.3 million, respectively.

Owner’s priority.  We receive the profits of the SLS managed communities on a priority basis before SLS receives any incentive fees. The amount of the owner’s priority for each managed community is established based upon a specified rate of return on historical capital investments in these communities, including capital improvements during the term of the management agreements which are funded by us or Senior Housing in addition to the FF&E reserve. As of the year ended December 31, 2004 and 2003, the aggregate amount of owner’s priority for all communities managed by SLS was $72.5 million and $69.4 million, respectively.

Pooling.  Twenty nine of the communities are subject to pooling arrangements whereby the calculation and payment of fees payable to SLS and owner’s priority for several groups of these 29 communities are combined.

Defaults and termination.  The SLS management agreements contain various default and termination provisions. Our right to exercise termination options under the SLS management agreements is subject to approval by Senior Housing under the terms of the lease for these communities.

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Item 3.    Legal Proceedings

In the ordinary course of business we are involved in litigation incidental to our business; however, we are not aware of any other material pending legal proceeding affecting us for which we might become liable or the outcome of which we expect to have a material impact on us.

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

None.

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PART II

Item 5.  Market for the Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities

Our common shares are traded on the AMEX (symbol: FVE). The following table sets forth for the periods indicated the high and low sales prices for our common shares as reported by the AMEX:

	Low		High
2003
First Quarter	$	1.11	$	1.80
Second Quarter	1.06		1.87
Third Quarter	1.43		2.88
Fourth Quarter	2.06		4.50
2004
First Quarter	$	3.50	$	6.39
Second Quarter	3.55		5.25
Third Quarter	4.10		7.69
Fourth Quarter	6.55		8.80

The closing price of our common shares on the AMEX on March 24, 2005, was $8.10 per share.

As of March 18, 2005, there were 3,594 record holders of our common shares, and we estimate that as of such date there were approximately 55,000 beneficial owners of our common shares.

We have not paid any dividends in the past and do not expect to pay dividends in the foreseeable future.

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Item 6.    Selected Financial Data

The following table presents selected financial data which has been derived from our historical financial statements for the period from April 27, 2000 (the date we commenced operations) through December 31, 2004. Prior to December 31, 2001, we were owned by Senior Housing.  The following data should be read in conjunction with, and is qualified in its entirety by reference to, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, and our financial statements and the notes thereto included elsewhere in this Annual Report on Form 10-K.  As discussed under “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, we are a relatively new company and we have recently expanded our operations; as a result, our historical financial information is not fully reflective of our current operations.  Accordingly, you should not place undue reliance on our historical financial information.

	Year ended December 31,												Period from April 27, 2000 through
	2004			2003			2002			2001			December 31, 2000
	(in thousands, except per share data)
Operating data:
Total revenues	$	628,005		$	575,182		$	519,106		$	219,834		$	2,222
Net income (loss) from continuing operations	4,110			(6,490		)	(10,259		)	1,473			(1,614		)
Net income (loss) from discontinued operations	(699		)	(1,449		)	(2,915		)	(946		)	298
Net income (loss)	$	3,291		$	(7,939	)	$	(13,174	)	$	527		$	(1,316	)
Per common share data:
Income (loss) from continuing operations	$	0.46		$	(0.77	)	$	(1.36	)	$	0.34		$	(0.37	)
Income (loss) from discontinued operations	(0.08		)	(0.17		)	(0.38		)	(0.22		)	0.07
Net income (loss)	$	0.38		$	(0.94	)	$	(1.74	)	$	0.12		$	(0.30	)
Balance sheet data (as of December 31):
Total assets	$	222,985		$	147,370		$	133,197		$	68,043		$	54,788
Total indebtedness	42,581			10,435			16,123			—			100
Other long term obligations	25,558			18,417			17,723			—			—
Total shareholders’ equity	$	95,904		$	64,427		$	65,047		$	50,233		$	54,688

The following table presents selected financial data for the year ended December 31, 2000, derived from historical financial statements of our two predecessors, Integrated Health Services, Inc. and Mariner Post-Acute Network, Inc., prior to their acquisition by Senior Housing.

	Year ended December 31, 2000
	(in thousands)
Integrated Health Services, Inc.
Operating data:
Operating revenues	$	135,378
Net loss	(25,252		)
Balance sheet data (as of December 31):
Total assets	$	34,942
Long term liabilities	—
Mariner Post-Acute Network, Inc.
Operating data:
Operating revenues	$	85,325
Net loss	(7,421		)
Balance sheet data (as of December 31):
Total assets	$	23,052
Long term liabilities	32,090

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Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations

We were formed as a 100% owned subsidiary of Senior Housing. Effective July 1, 2000, we assumed the operations of healthcare communities from two bankrupt former tenants of Senior Housing. Pursuant to tax laws applicable to real estate investment trusts, Senior Housing engaged FSQ, an independent operating company formed by our managing directors, to manage these communities.  At the time we assumed operations of these communities, we had not received substantially all of the required licenses for these communities. As a result, for the period from July 1, 2000 through December 31, 2000, we accounted for the operations of these communities using the equity method of accounting and we only recorded the net income from these operations.  Thereafter, we obtained all necessary licenses to operate these communities, and on January 1, 2001, we began to consolidate the results of operations of these communities. On December 31, 2001, Senior Housing distributed substantially all of our shares to its shareholders in a spin off transaction and we became a separately traded public company. On January 2, 2002, in order to acquire the personnel, systems and assets necessary to operate these communities, we acquired FSQ by merger.

OVERVIEW OF INDUSTRY TRENDS

The senior living industry is experiencing growth as a result of demographic and various other factors.  According to census data, the over age 75 population in the United States is growing much faster than the general population.  As a general rule, economic factors that affect seniors will have a corresponding impact on the senior living industry.  For example, general concerns regarding lower interest rates on savings and uncertainty of investment returns have impacted seniors during the past several years.  On the other hand, the continuing strength of the home resale market in most areas of the country has been beneficial to seniors, since the equity from the sale of a home is a significant source of funding for senior living care for many people. In addition, overall economic conditions and general consumer confidence can impact the industry, as many adult children subsidize the cost for care of elderly parents and share in decisions regarding their care.

The independent and assisted living business is rapidly changing.  The demand for these services increased significantly beginning with the emergence of the industry segment in the mid-1990s.  However, the development of new independent and assisted living communities across the country outstripped demand during this period, resulting in oversupply of unit capacity, longer fill up times, price pressures and deep discounting.  The growing demand for independent and assisted living services, together with minimal new development activity, reduced to some extent the oversupply in many markets in recent years. As a result, we have been able to increase occupancy and rates.  We believe that new development will remain at sustainable levels over the next few years. The average length of stay in independent and assisted living communities is approximately three and a half and two years, respectively, which represents a challenge and an opportunity for us.  We must find a number of new residents to maintain and build occupancy.  However, we also have the opportunity to “mark-to-market” if we are able to attract new residents at higher current market rates, replacing prior residents that had lower or discounted rates.

The skilled nursing segment is a more mature segment of the senior living industry, and has seen both demand and price increases in recent years, with little new unit capacity entering the market.  We expect this growth in demand to continue over the next several years, but with new alternatives available to seniors such as home health care and the growing independent and assisted living market, this growth in demand may be reduced and in some cases reversed.  In addition, while we have had overall Medicare and Medicaid rate increases over the last two years, we are not sure that future rates will increase as fast as our costs.  In fact, due to both federal and state budget shortfalls we expect in some areas that our rates may decline.  The average length of stay in nursing homes is approximately one and a half years.  We believe that many of our skilled nursing facilities benefit from significant barriers to entry from competitors, including the significant cost and length of time to develop competitive facilities, the difficulty in finding acceptable development sites in the geographical areas in which our facilities are located and some states certificate of need and license processes.

OVERVIEW OF FIVE STAR’S REVENUES AND EXPENSES

We earn our revenues primarily by providing housing and services to our residents. Approximately 62% of our revenues come from private pay sources, meaning that residents or their families pay from their own funds (or from the proceeds of their long-term care policies). All private pay residents are billed in advance for the next month’s housing and care.

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Our most significant expenses are:

•Wages and benefits – includes wages for our employees working at our communities and wage related expenses such as health insurance, workers compensation insurance and other standard benefits.

•Other operating expenses – includes utilities, housekeeping, dietary, maintenance, marketing, insurance and community level administrative costs.

•Management fee to SLS – management fee related to the 30 communities SLS manages for us.

•Rent expense – we lease 132 of our 148 senior living communities from two entities, Senior Housing and HCPI.

•General and administrative expenses – wage related costs for headquarters and regional staff supporting our communities are the largest component of this category.  Other significant items are travel, marketing and legal and professional services.

•Depreciation and amortization expense – we incur depreciation expense on buildings and furniture and equipment.  We incur amortization expense related to costs associated with our revolving credit facility and other debt.

•Interest expense –interest on outstanding balances on our revolving credit facility as well as other debt.

The following information should be read in conjunction with the consolidated financial statements included in this Annual Report on Form 10-K.

Year ended December 31, 2004 versus year ended December 31, 2003

The following tables present an overview of our portfolio for the years ended December 31, 2004 and 2003:

	2004				2003			$	Variance		Change
Net revenues from residents (in 000s)	$		614,796		$	573,412		$	41,384		7	%
Pharmacy revenue (in 000s)	13,209				1,770			11,439			646	%
Wages and benefits (in 000s)	326,314				313,846			12,468			4	%
Other operating expenses (in 000s)	159,892				149,401			10,491			7	%
Pharmacy expenses (in 000s)	12,093				1,666			10,427			628	%
Management fee to SLS (in 000s)	19,293				17,272			2,021			12	%
Rent expense (in 000s)	83,370				77,495			5,875			8	%
General and administrative (in 000s)	20,053				17,470			2,583			15	%
Depreciation and amortization (in 000s)	3,666				3,587			79			2	%
Interest and other income (in 000s)	1,666				229			1,437			626	%
Interest expense (in 000s)	880				1,164			(284		)	-24	%
Provision for income taxes (in 000s)	120				—			120			—
Loss from discontinued operations (in 000s)	699				1,449			(750		)	-52	%
No. of communities (end of period)	148				100			—			48
No. of living units (end of period)	16,573				13,924			—			2,649
Occupancy	89			%	89		%	—			—
Average daily rate	$		114		$	127		—			-10	%
Revenue per day per available unit	$	101			$	113		—			-11	%
Percent of revenues from Medicare	16			%	14		%	—			2	%
Percent of revenues from Medicaid	25			%	26		%	—			-1	%
Percent of revenues from private and other sources	59			%	60		%	—			-1	%

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Comparable Communities (communities that we operated continuously since January 1, 2003):

	2004				2003			$	Variance	Change
Net revenues from residents (in 000s)	$		598,184		$	571,105		$	27,079	5	%
Community expenses (in 000s)	473,143				461,399			11,744		3	%
No. of communities (end of period)	97				97			—		—
No. of living units (end of period)	13,689				13,689			—		—
Occupancy	90			%	89		%	—		1	%
Average daily rate	$		133		$	129		—		3	%
Revenue per day per available unit	$	119			$	114		—		4	%
Percent of revenues from Medicare	17			%	14		%	—		3	%
Percent of revenues from Medicaid	25			%	26		%	—		-1	%
Percent of revenues from private and other sources	58			%	60		%	—		-2	%

The 7% increase in net revenues from residents is due primarily to higher per diem charges to residents and our beginning operations at three additional communities in May 2003, one community in May 2004 and 47 communities in November 2004. The 5% increase in net revenues from residents at the communities that we have operated continuously since January 1, 2003 is due primarily to 4% higher per diem charges to residents and a 1% increase in occupancy.  The increase in revenues from our two pharmacies is a result of our acquiring these pharmacies during the third quarters of 2003 and 2004.

Our 4% increase in wages and benefits costs is primarily due to wage increases as well as wages related to the three communities we began to operate in May 2003, one community we began to operate in May 2004 and the 47 communities we acquired in November 2004.  The 7% increase in other operating expenses, which include utilities, housekeeping, dietary, maintenance, insurance and community level administrative costs is primarily a result of increased charges from third parties, our operation of three additional communities beginning in May 2003, one community we began to operate in May 2004, and our 47 communities acquired in November 2004.   The operating expenses for the communities that we have operated continuously since January 1, 2003 have increased by 3% principally due to wage and benefit increases.  The increase in pharmacy expenses is a result of our acquiring these pharmacies during the third quarters of 2003 and 2004.  Management fees related to the 30 communities that SLS manages for us increased by 12% because of the increased revenues at these communities and a contractual increase in the effective management fee calculation.  The 8% rent expense increase is due to the addition of communities that we began to lease in 2003 and 2004, and our payment of additional rent for capital improvements which were funded by Senior Housing since January 1, 2003.

The 15% increase in general and administrative expenses for the year ended December 31, 2004 is primarily due to costs resulting from our increased operations, as well as increases in wages and benefits for our corporate and regional staff.

The 2% increase in depreciation expense for the year ended December 31, 2004 is primarily attributable to our purchase of furniture and fixtures related to the communities managed by SLS and our acquisition of 16 communities as a result of the LTA acquisition in November 2004, offset by our sale of seven communities in 2003.

Our interest and other income increased by $1.4 million primarily due to the amounts received in connection with our January 2004 settlement with Marriott and MSLS, whereby we and Senior Housing were each paid $1.3 million.  Under the terms of the settlement, we and Senior Housing, and Marriott and MSLS, agreed to dismiss all claims and counterclaims asserted in the litigation.

We accrued $120,000 for federal alternative minimum income taxes during the year ended December 31, 2004.  This provision was not required for the year ended December 31, 2003.  There is no provision for regular income taxes because we have net operating loss carry forwards.

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Loss from discontinued operations for the year ended December 31, 2004 was $699,000, compared to a loss of $1.4 million for the year ended December 31, 2003.  This decrease is primarily the result of our ceasing operations at one property in 2004 compared with our ceasing operations at seven properties in 2003.

Year ended December 31, 2003 versus year ended December 31, 2002

The following tables present an overview of our portfolio for the years ended December 31, 2003 and 2002:

	2003				2002			$	Variance		Change
Net revenues from residents (in 000s)	$		573,412		$	519,106		$	54,306		10	%
Pharmacy revenue (in 000s)	1,770				—			1,770			—
Wages and benefits (in 000s)	313,846				274,248			39,598			14	%
Other operating expenses (in 000s)	149,401				143,053			6,348			4	%
Pharmacy expenses (in 000s)	1,666				—			1,666			—
Management fee to SLS (in 000s)	17,272				16,643			629			4	%
Rent expense (in 000s)	77,495				75,210			2,285			3	%
General and administrative (in 000s)	17,470				15,415			2,055			13	%
Depreciation and amortization (in 000s)	3,587				1,794			1,793			100	%
Interest and other income (in 000s)	229				297			(68		)	-23	%
Interest expense (in 000s)	1,164				198			966			488	%
Loss from discontinued operations (in 000s)	1,449				2,915			(1,466		)	-50	%
No. of communities (end of period)	100				105			—			-5
No. of living units (end of period)	13,924				13,962			—			-38
Occupancy	89			%	89		%	—			—
Average daily rate	$		127		$	114		—			11	%
Revenue per day per available unit	$	113			$	102		—			11	%
Percent of revenues from Medicare	14			%	11		%	—			3	%
Percent of revenues from Medicaid	26			%	31		%	—			-5	%
Percent of revenues from private and other sources	60			%	58		%	—			2	%

Comparable Communities (communities that we operated continuously since January 1, 2002):

	2003				2002			$	Variance	Change
Net revenues from residents (in 000s)	$		236,667		$	227,446		$	9,221	4	%
Community expenses (in 000s)	215,793				210,645			5,148		2	%
No. of communities (end of period)	53				53			—		—
No. of living units (end of period)	4,868				4,868			—		—
Occupancy	90			%	89		%	—		1	%
Average daily rate	$		148		$	144		—		3	%
Revenue per day per available unit	$	133			$	128		—		4	%
Percent of revenues from Medicare	21			%	20		%	—		1	%
Percent of revenues from Medicaid	58			%	58		%	—		—
Percent of revenues from private and other sources	21			%	22		%	—		-1	%

The 10% increase in net revenues from residents is attributable primarily to our beginning operations at 15 communities in October 2002, and at three communities in May 2003.  The 4% increase in net revenues from residents at the communities we operated throughout 2003 and 2002 is due primarily to 3% higher per diem charges to residents

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and a 1% increase in occupancy.  The pharmacy revenue increase is a result of our acquiring a pharmacy during the third quarter of 2003.  The 2% increase in revenues from Medicare and Medicaid is a result of our higher Medicare census throughout 2003.

Our 14% increase in wages and benefits costs is primarily due to expenses at the 18 communities we began to operate since October 2002, as well as increases in workers compensation and employee health insurance costs.  The 4% increase in other operating expenses, which include utilities, housekeeping, dietary, maintenance, insurance and community level administrative costs is primarily due to the expenses at the 18 communities we began to operate since October 2002, as well as higher professional and general liability insurance costs.  The operating expenses for the communities that we have operated continuously since January 1, 2002 have increased by 2% primarily due to increases in employee health, workers compensation and professional and general liability insurance costs.  The pharmacy expenses are a result of our acquiring a pharmacy during the third quarter of 2003.  Management fees related to the 31 communities managed for us by SLS increased by 4%, primarily because these arrangements commenced on January 11, 2002; therefore, 2003 includes 11 more days than 2002.  Rent expense to Senior Housing increased by 3%, primarily due to rents for communities we began to lease since October 2002, and rent increases which resulted from Senior Housing’s purchase of improvements at leased communities, partially offset by a lease modification entered into in October 2002 which changed the ownership of certain FF&E reserve escrows.

The 13% increase in our general and administrative expenses is primarily due to costs resulting from our increased operations and to legal costs incurred in connection with our litigation with Marriott and MSLS which was settled in January 2004.

The $1.8 million increase in depreciation expense is attributable to our purchase of seven communities in 2002, as well as to capitalized improvements to some of our communities which increased our depreciable assets.

The $68,000 decrease in interest and other income is due to lower cash balances and lower interest rates in 2003, partially offset by interest earned on mortgage notes receivable.

The $1.4 million decrease in the loss from discontinued operations is primarily attributable to our dispositions of these operations in 2002, as well as the recovery of some accounts receivable that were previously written off.

LIQUIDITY AND CAPITAL RESOURCES

Our current assets at December 31, 2004 were $76.0 million, compared to $55.5 million at December 31, 2003.  This increase is primarily attributable to our acquisition of LTA in November 2004, and our equity offering in December 2004.  At December 31, 2004 and 2003, we had cash and cash equivalents of $26.2 million and $17.6 million, respectively.  Our current liabilities were $59.1 million at December 31, 2004, compared to $58.1 million at December 31, 2003.

In 2003, information became available to us which resulted in our recording $7.2 million of additional paid in capital. This amount was the result of our having received more working capital assets and our having assumed fewer liabilities than we had previously recorded at the time of our spin off from Senior Housing.

We lease 128 communities from Senior Housing under four leases. Our leases with Senior Housing require us to pay minimum rent of $95.8 million annually and percentage rent beginning in 2006. We believe we are in compliance with the terms of our leases with Senior Housing.

Our revenues from services to residents at our communities is the primary source of cash to fund operating expenses, including rent, principal and interest payments on our debt and capital expenditures. At some of our communities, operating revenues for nursing home services are received from the Medicare and Medicaid programs. For each of 2004 and 2003, 41% of our total revenues were derived from these programs.  Medicare and Medicaid revenues were earned primarily from the 51 nursing homes we lease from Senior Housing. Since 1998, the PPS has generally lowered Medicare rates paid to senior living communities, including many that we operate.  In October 2004 and 2003, Medicare rates increased by approximately 3% and 6%, respectively. Our Medicare revenues totaled $109.8 million and $86.1 million for the years ended December 31, 2004 and 2003, respectively. Our Medicaid revenues totaled $152.1 million and $148.6 million for the years ended December 31, 2004 and 2003, respectively. Some of the states in which we operate have not raised rates by amounts sufficient to offset increasing costs or are expected to reduce Medicaid funding.

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The magnitude of the potential Medicaid rate reductions cannot currently be estimated, but it may be material and may affect our future results of operations. Further Medicare and Medicaid rate declines may have a dramatic negative impact on our revenues and may produce losses.

Recent increases in the costs of insurance, especially tort liability insurance, workers compensation and employee health insurance, which are affecting the senior living industry, may continue to have an adverse impact upon our future results of operations. Also, we believe Marriott’s sale of its senior living management business to Sunrise has had, and may continue to have, an adverse impact on our financial results.

Also, prior to July 2004, pursuant to existing contract terms, a portion of our management fees payable to SLS were conditional, based on exceeding a threshold of net operating income that was not achieved and, therefore, was not being paid. As of July 2004, this portion of the management fee is no longer conditional and we are now required to pay the full fee. We expect the annual amount of this additional management fee to be approximately $3.0 million per year. We expect improvements in our operations will offset this increased cost, but our efforts in this regard may not be successful.

Our revolving credit facility limits our ability to incur debt as more fully described below in “Debt Instruments and Covenants”. The terms of our leases with Senior Housing contain provisions whereby Senior Housing may cancel our rights under these agreements upon the acquisition by any person or group of more than 9.8% of our voting stock, and upon other change of control events. These leases also limit our ability to create, incur, assume or guarantee indebtedness.

In August 2003, we sold a community in Bloomfield, Connecticut for $3.5 million, $3.15 million of which was paid in the form of a promissory note from the purchaser secured by a mortgage on that property. This note is payable in monthly installments of $8,750 of principal, plus interest which accrues on the unpaid principal balance at a rate of 8% per year. This note matures on August 26, 2009, but we have the right to require prepayment as of August 31, 2008.

In December 2003, we sold five group homes in Maryland for $3.55 million, $3.11 million of which was paid in the form of a promissory note from the purchaser secured by a mortgage on those five properties. This note is payable in monthly installments of $1,700 of principal, plus interest which accrues on the unpaid principal balance at a rate of 9%. This note matures on November 30, 2018, but we have the right to require prepayment earlier by giving notice after November 30, 2009.

During 2003, Senior Housing agreed to sell us two nursing homes in Michigan that we leased from Senior Housing. The purchase price is $10.5 million, the appraised value of the properties. On April 19, 2004, we purchased one of these properties from Senior Housing for $5.9 million. We financed this acquisition with $5.0 million of proceeds we received from a new HUD insured mortgage and by using cash on hand. We expect the second purchase to occur during 2005 and we intend to finance the second sale with proceeds that we receive from a second HUD insured mortgage and with available cash. The second property is currently leased from Senior Housing on a combined basis with 97 other properties. Under the terms of our lease with Senior Housing, upon completion of the sale, the annual rent payable under the combined lease will be reduced by 10% of the sale prices we pay to Senior Housing.

In November 2004, we acquired 100% of the capital stock of LTA for approximately $211 million, excluding closing costs.  To finance this acquisition, we entered into a $148.2 million sale leaseback transaction with Senior Housing for 31 of the communities acquired from LTA. We also entered a $16.8 million mortgage loan with Senior Housing secured by five of our properties. We funded the balance of the purchase price with cash on hand and by assuming HUD insured long term mortgage debt and an operating lease for four communities from HCPI.

In December 2004 and January 2005, we issued a total of 3,620,000 common shares for net proceeds in the amount of $28.8 million.  A portion of proceeds raised in this offering were used to pay off the $16.8 million mortgage loan with Senior Housing described above.

On January 21, 2005, we agreed to purchase six assisted living communities for approximately $63.5 million from Gordon.  We intend to finance this acquisition with cash on hand, borrowings under our line of credit and mortgage or sale leaseback transactions for some of the communities being purchased or for certain othe r communities which we currently own.  Completion of this acquisition is subject to various conditions customary in multi-community

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healthcare transactions of this type, including completion of diligence, licensing and receiving third party consents.  We expect this acquisition to close during the second quarter of 2005, but there is no assurance that it will close.

We will be required to comply with Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, for our fiscal year ending December 31, 2005 if our “public float” exceeds $75 million as of June 30, 2005, or in any event for our fiscal year ending December 31, 2006.  Based on the closing price of our stock on March 24, 2005, our “public float” was $99.0 million.  As such, we have commenced our plan for complying with Section 404 and are currently in the process of documenting our processes and controls.  We expect to devote substantial time and effort and incur substantial costs in complying with Section 404 in fiscal year 2005 and beyond.

Despite the commitments, contingencies and limitations described above, we believe that a combination of our efforts to increase revenues and contain costs, our ability to borrow on our revolving credit facility, our ability to sell to Senior Housing certain capital improvements made to communities leased from Senior Housing and the possibility of sales or financings of our owned communities will be sufficient to meet our working capital needs, operating expenses, rent payments to Senior Housing, debt service and capital expenditures for the next 12 months and the foreseeable future.

As of December 31, 2004, our contractual obligations were as follows (dollars in thousands):

	Payment due by period
Contractual Obligations	Total		Less than 1 year		1-3 years		3-5 years		More than 5 years
Long Term Debt Obligations (1)	$	42,581	$	463	$	1,016	$	1,181	$	39,921
Operating Lease Obligations (2)	1,256,178		97,017		291,051		291,051		577,059
Purchase Obligations (3)	4,600		4,600		—		—		—
Other Long Term Liabilities Reflected on our Balance Sheet under GAAP (4)	25,842		5,385		10,450		6,370		3,637
Total	$	1,329,201	$	107,465	$	302,517	$	298,602	$	620,617

(1)These amounts represent amounts due under several HUD insured mortgages.

(2)These amounts represent minimum lease payments through 2014 and 2020.  It does not include percentage rent that may be payable under these leases.

(3)This amount represents our obligation to purchase a property from Senior Housing.  This obligation is contingent upon our receiving HUD insured financing for a significant part of this purchase price.

(4)These amounts include liabilities for continuing care contracts which require residents to make advance payments, some of which are refundable and continuously carried as liabilities and some of which are not refundable and are carried as liabilities until they are recognized as revenues over the periods during which we expect to provide the service. These amounts also include insurance reserves related to workers compensation and professional liability insurance as well as deferred gains related to property sales.

Debt Instruments and Covenants

In October 2002, we entered into a revolving credit facility.  The interest rate on borrowings on this facility is LIBOR plus a spread.  The maximum amount available under this facility is $12.5 million, and is subject to limitations based upon qualifying collateral. The borrower under this facility is a subsidiary that we organized with the intention that it be “bankruptcy-remote”.  Certain of our other subsidiaries sell or contribute their accounts receivable to the borrower on a true sale basis and make certain representations and other undertakings in favor of the borrower in connection with each sale.  The seller subsidiaries have granted security interests in their assets to secure their obligations to the borrower.  We guarantee the obligations of the seller subsidiaries obligations to the borrower subsidiary and have pledged the stock or membership interests in each of the seller subsidiaries to the borrower. The borrower has in turn collaterally assigned these undertakings, guarantees and collateral to the revolving credit facility lenders, and has granted a security interest in the purchased receivables and all of its other assets to secure its obligations under the facility. The facility is available for acquisitions, working capital and general business purposes.  The facility contains covenants and

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events of default requiring the maintenance of collateral, minimum net worth and certain other financial ratios, and places limits on our ability to incur or assume debt or create liens with respect to certain of our properties, and other customary provisions.  The accounts receivable collateralizing the facility totaled $16.6 million as of December 31, 2004.  In certain circumstances and subject to available collateral and lender approvals, the maximum amounts which we may draw under this credit agreement may be increased to $25.0 million. The termination date of the facility is October 24, 2005. As of December 31, 2004, no amounts were outstanding under the facility.  At March 25, 2005, we believe we are in compliance with all applicable covenants under this revolving credit agreement and no amounts were outstanding under the facility.  We have begun negotiations with a bank concerning a substitute credit facility to become effective before our current credit facility expires; however, we can provide no assurance that these negotiations will be successfully concluded.

On April 19, 2004, we purchased a property from Senior Housing for $5.9 million.  We financed this acquisition with $5.0 million in proceeds we received from a HUD insured mortgage and with cash on hand.  The interest cost on this debt is 5.6% per year.  Principal and interest is due monthly through April 2039.  This mortgage contains standard HUD mortgage covenants.  At March 25, 2005, we believe we are in compliance with all material covenants of this mortgage.

As part of our recent LTA acquisition, we assumed $30.9 million of HUD insured mortgage debt. The interest cost on this debt is a weighted average rate of 7.1% per year. Principal and interest is due monthly through varying dates ranging from February 2032 to June 2039. Mortgage premiums totaling $6.5 million were recorded in accounting for the acquisition of the mortgaged properties in order to record the assumed mortgages at their estimated fair value.  The mortgage premiums will be amortized as a reduction to interest expense over the period the mortgages remain outstanding.  These mortgages are secured by seven of our communities and contain standard HUD mortgage covenants.  At March 25, 2005, we believe we are in compliance with all material covenants of these mortgages.

Off Balance Sheet Arrangements

We have no off balance sheet arrangements as defined in Regulation S-K, Item 303(a)(4)(iii).

Related Party Transactions

On December 31, 2001, Senior Housing distributed substantially all of its ownership of our shares to its shareholders. In order to effect this spin off and to govern relations after the spin off, we entered into agreements with Senior Housing, pursuant to which it was agreed, among other things, that:

•so long as Senior Housing remains a real estate investment trust, or a REIT, we may not waive the share ownership restrictions in our charter on the ability of any person or group to acquire more than 9.8% of any class of our equity shares without, among other requirements, the consent of Senior Housing and our determination that the exception to the ownership limitations would not cause a default under any of our leases;

•so long as we are a tenant of Senior Housing, we will neither permit any person or group to acquire more than 9.8% of any class of our voting stock or permit the occurrence of other change in control events, as defined, nor will we take any action that, in the reasonable judgment of Senior Housing or HRPT Properties Trust (another REIT which owns shares of Senior Housing), or HRPT, might jeopardize the tax status of Senior Housing or HRPT as REITs;

•Senior Housing has the option, upon the acquisition by a person or group of more than 9.8% of our voting stock and upon other change in control events, as defined, to cancel all of our rights under the leases we have with Senior Housing; and

•so long as we maintain our shared services agreement with RMR, we will not acquire or finance any real estate without first giving Senior Housing, HRPT or any other publicly owned REIT or other entity managed by RMR, the opportunity to acquire or finance real estate investments of the type in which Senior Housing, HRPT or any other publicly owned REIT or other entity managed by RMR, respectively, invest.

At the time of our spin off from Senior Housing, all of the persons serving as our directors were trustees of Senior Housing. Our two managing directors, Messrs. Martin and Portnoy, are currently the managing trustees of Senior Housing.

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Of the 148 senior living communities we currently operate, 128 are leased from Senior Housing for total annual minimum rent of $95.8 million.

During 2003, we and Senior Housing were jointly involved in litigation with Marriott, the operator of the senior living communities which we leased from Senior Housing. We and Senior Housing equally shared the costs of this litigation. This litigation was settled in January 2004.

Since January 1, 2004, we have entered into or agreed to enter into multiple transactions with Senior Housing, including the following:

•On March 1, 2004, Senior Housing purchased from us one independent and assisted living community with 229 units located in Maryland. The purchase price was $24.1 million, the appraised value of the property. Simultaneous with this purchase, our existing leases with Senior Housing were modified as follows:

•the lease for 53 nursing homes and the lease for 13 independent and assisted living communities were combined into one lease and the property acquired on March 1, 2004 was added to this combined lease;

•the combined lease maturity date was changed to December 31, 2020 from December 31, 2018 and 2019 for the separate leases;

•our minimum rent for the combined lease of 53 nursing homes and 14 independent living communities was increased by $2.4 million;

•for all of our leases with Senior Housing, the amount of additional rent to be paid to Senior Housing was changed to 4% of the increase in revenues at the leased properties beginning in 2006. Prior to the lease combination, the percentage and the beginning time period for the nursing home lease and the independent and assisted living community lease was 3% in 2004 and 4% in 2005, respectively; and

•all other lease terms remain substantially unchanged.

•In 2003, Senior Housing evicted a nursing home tenant that had defaulted on its obligations to Senior Housing. Until May 2004, we managed this nursing home for Senior Housing’s account. Effective on May 1, 2004, we agreed with Senior Housing to add this nursing home to a multi-property lease from Senior Housing and to increase the annual rent by $180,000. All other lease terms remained unchanged.

•One of the properties we lease from Senior Housing was subject to a ground lease from an unaffiliated third party. We were responsible for paying the ground rent of $307,000 per year. On June 3, 2004, Senior Housing exercised an option to purchase this land for $3.6 million and acquired the landlord’s rights and obligations under the ground lease. We now pay the ground rent to Senior Housing.

•On November 18, 2004, Senior Housing loaned us $117.0 million in connection with our acquisition of LTA. Such loan was repaid on November 19, 2004 with the proceeds we received from a $148.2 million sale leaseback with Senior Housing for 31 of the 47 acquired communities and a $16.8 million mortgage loan from Senior Housing secured by five of our communities.  This mortgage was repaid in December 2004.

•During 2004, pursuant to the terms of our leases with Senior Housing, we sold to Senior Housing $9.5 million of improvements we had made to its properties, and our annual rent payable to Senior Housing was increased by 10% of Senior Housing’s purchase price, or $945,700.

We obtained a workers compensation insurance policy for the year beginning June 15, 2003, from a third party insurer. This third party insurer ceded a portion of the premiums we paid to a Bermuda based company, Affiliates Insurers, Limited, or Affiliates, which was owned by RMR. Affiliates was organized by RMR to assist us in creating a partial self insurance program on an expedited basis. On December 8, 2003, we acquired Affiliates from RMR for an amount equal to RMR’s cost of organizing and capitalizing that company, approximately $1.3 million.

Our Chief Executive Officer and Chief Financial Officer are also officers and employees of RMR. These officers devote a substantial majority of their business time to our affairs and the remainder to RMR’s business which is separate from our business. We believe the compensation we pay to these officers reasonably reflects their division of business time; however, periodically, these individuals may divide their business time differently than they do currently and their compensation from us may become disproportionate to this division.

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RMR provides management and administrative services to us under a shared services agreement. RMR is compensated at an annual rate equal to 0.6% of our total revenues. Aggregate fees earned by RMR for services during 2004, 2003 and 2002, were $3.7 million, $3.4 million and $2.9 million, respectively. RMR also provides the internal audit function for us and for other publicly owned companies to which it provides management services.  We pay a pro rata share of RMR’s costs in providing that function.  Our audit committee approves the identity and salary of the individual serving as our director of internal audit, as well as the pro rata share of the costs which we pay.  The fact that RMR has responsibilities to other entities, including one of our landlords, Senior Housing, could create conflicts; and in the event of such conflicts between Senior Housing and us, the shared services agreement allows RMR to act on behalf of Senior Housing rather than on our behalf. RMR is owned by Messrs. Martin and Portnoy who are our managing directors. Messrs. Martin and Portnoy each have material interests in the transactions between us and RMR described above. All transactions between us and RMR are approved by our independent directors. Our compensation committee has approved the renewal of the shared services agreement for its current term which will end December 31, 2005.

Messrs. Martin and Portnoy own the building in which our headquarters is located. Our lease for space was originally executed by FSQ. This lease expires in 2011. We paid rent, which includes our proportional share of utilities and real estate taxes, under this lease during 2004, 2003 and 2002 of $561,000, $569,000 and $539,000, respectively.

Until March 31, 1997, Mr. Portnoy was a partner of Sullivan & Worcester LLP, our counsel and counsel to Senior Housing, RMR and affiliates of each of the foregoing, and he received payments from that firm during 2004, 2003 and 2002 in respect of his retirement.

Wells Fargo & Company beneficially owns 8.1% of our common shares. Wells Fargo Bank, N.A., an affiliate of Wells Fargo & Company, became the transfer agent and registrar for our common shares, effective as of December 13, 2004.

Critical Accounting Policies

Our critical accounting policies concern revenue recognition, our assessment of the net realizable value of our accounts receivable, the realizable value of long term assets, accounting for long term care contracts, accounting for business combinations and our assessment of reserves related to our self insurance programs.

Our revenue recognition policies involve judgments about Medicare and Medicaid rate calculation methodologies.  These judgments are based principally upon our experience with these programs and our knowledge and familiarity with the current rules and regulations of these programs.  We recognize revenues when services are provided and these amounts are reported at their estimated net realizable amounts.  Some Medicare and Medicaid revenues are subject to audit and retroactive adjustment.

Our policies for valuing accounts receivable involve significant judgments based upon our experience, including consideration of the age of the receivable, the terms of the agreements with our residents or their third party payors, the resident or payors stated intent to pay, the resident or payors financial capacity and other factors which may include litigation or appeal proceedings.

We monitor our long term assets to determine whether any impairment of these assets may have occurred.  If the facts and circumstances indicate that an impairment may have occurred, we evaluate the asset’s carrying value to determine whether an impairment charge is required.  This process includes a review of historical and projected future financial results realized or to be realized from the affected assets, market conditions affecting the sale of similar assets and the like.  This process requires that estimates be made and errors in our judgments or estimates could have a material effect on our financial statements.

At certain of our communities, we offer long term care contracts under which residents pay a one time deposit in exchange for reduced charges during their stay.  The one time deposits may be refundable or non-refundable, or partially refundable and partially non-refundable.  We record such deposits as a long term obligation and amortize the non-refundable portion of such deposits into revenue over our estimate of the periods during which future services will be provided.  We base these estimates on our experience and actuarial information.

Since we became a separate public company, each of our acquisitions has been accounted for as a purchase business combination in accordance with Statement of Financial Accounting Standards No. 141.  Purchase accounting requires that we make certain judgments and estimates based on our experience, including determining the fair value and useful lives of assets acquired and the fair value of liabilities assumed.  Some of our judgments and estimates are also based upon published industry statistics and in some cases third party appraisals.

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Our critical accounting policies for determining reserves for the self funded part of our insurance programs and for our self insurance programs involve significant judgments based upon our experience, including projected settlements for pending claims, known incidents which we expect may result in claims, estimates of incurred but not yet reported claims and incidents, claims experience, estimated litigation costs and other factors.  We also periodically receive and rely upon recommendations from professional consultants in establishing these reserves.

In the future we may need to revise the judgments, estimates and assessments we use to formulate our critical accounting policies to incorporate information which is not now known.  We cannot predict the effect changes to these premises underlying our critical accounting policies may have on our future results of operations, although such changes could be material and adverse.

Inflation and Deflation

Inflation in the past several years in the U.S. has been modest. Future inflation might have both positive or negative impacts on our business. Rising price levels may allow us to increase occupancy charges to residents, but may also cause our operating costs, including our percentage rent, to increase.  Also our ability to increase rates paid by Medicare and Medicaid will be limited despite inflation.

Deflation would likely have a negative impact upon us. A large component of our expenses consist of minimum rental obligations to Senior Housing. Accordingly we believe that a general decline in price levels which could cause our charges to residents to decline would likely not be fully offset by a decline in our expenses.

Seasonality

Our business is subject to modest effects of seasonality. During the calendar fourth quarter holiday periods nursing home and assisted living residents are sometimes discharged to join family celebrations and admission decisions are often deferred. The first quarter of each calendar year usually coincides with increased illness among nursing home and assisted living residents which can result in increased costs or discharges to hospitals. As a result of these factors, nursing home and assisted living operations sometimes produce greater earnings in the second and third quarters of a calendar year and lesser earnings in the first and fourth quarters. We do not believe that this seasonality will cause fluctuations in our revenues or operating cash flow to such an extent that we will have difficulty paying our expenses, including rent, which do not fluctuate seasonally.

Item 7A.  Quantitative and Qualitative Disclosures About Market Risk

We are exposed to risks associated with market changes in interest rates.  We manage our exposure to this market risk through our monitoring of available financing alternatives.  Other than as described below we do not now anticipate any significant changes in our exposure to fluctuations in interest rates or in how we manage this risk in the future.

Changes in market interest rates also affect the fair value of our debt obligations; increases in market interest rates decrease the fair value of our fixed rate debt, while decreases in market interest rates increase the fair value of our fixed rate debt.   For example: based upon discounted cash flow analysis, if prevailing interest rates were to decline by 10% and other credit market considerations remained unchanged, the market value of our $42.6million mortgage debt outstanding on December 31, 2004, would increase by about $4.2 million; and, similarly, if prevailing interest rates were to increase by 10%, the market value of our $42.6 million mortgage debt would decline by about $4.2 million.

Our revolving credit facility bears interest at floating rates and matures in October 2005.  As of December 31, 2004, we had no amounts outstanding under this revolving credit facility.  We borrow in U.S. dollars and borrowings under our revolving credit facility are subject to interest at LIBOR plus a spread.  Accordingly, we are vulnerable to changes in U.S. dollar based short term rates, specifically LIBOR.  A change in interest rates would not affect the value of any outstanding floating rate debt but would affect our operating results.  For example, if the maximum amount of our credit facility of $12.5 million were drawn and interest rates decrease or increase by 1% per annum, our interest expense would decrease or increase by $125,000 per year, or $0.01 per share, based on currently outstanding

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common shares, respectively.  If interest rates were to change gradually over time, the impact would be spread over time.

Our exposure to fluctuations in interest rates may increase in the future if we incur debt to fund acquisitions or otherwise.

As of March 25, 2005, we have no commercial paper, derivatives, swaps, hedges, joint ventures or partnerships.

Item 8. Financial Statements and Supplementary Data

The information required by this Item is included in Item 15 of this Annual Report on Form 10-K.

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

We have had no changes in or disagreements with our accountants on accounting and financial disclosure.

Item 9A.  Controls and Procedures

As of the end of the period covered by this report, our management carried out an evaluation, under the supervision and with the participation of our President and Chief Executive Officer and our Treasurer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures pursuant to Rules 13a-15 and 15d-15 of the Exchange Act.  Based upon that evaluation, our President and Chief Executive Officer and our Treasurer and Chief Financial Officer concluded that our disclosure controls and procedures are effective.

There have been no changes in our internal control over financial reporting during the quarter ended December 31, 2004 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Item 9B.  Other Information

None.

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PART III

Item 10.  Directors and Executive Officers of the Registrant

In March 2004, we adopted a code of business conduct and ethics that applies to all our representatives, including our officers and directors.  Our code of business conduct and ethics is posted on our website, www.5sqc.com.  A printed copy of our code of business conduct and ethics is also available free of charge to any shareholder who requests a copy.  We intend to disclose any amendments or waivers to our code of business conduct and ethics applicable to our principal executive officer, principal financial officer, principal accounting officer or controller (or any person performing similar functions) on our website.

The remainder of the information required by Item 10 is incorporated by reference to our definitive Proxy Statement, which will be filed not later than 120 days after the end of our fiscal year.

Item 11.  Executive Compensation

The information required by Item 11 is incorporated by reference to our definitive Proxy Statement, which will be filed not later than 120 days after the end of our fiscal year.

Item 12.  Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters

Equity Compensation Plan Information.  We may grant options and common shares to our officers, directors, employees and other individuals who render services to us, subject to vesting requirements under our 2001 Stock Option and Stock Incentive Plan, or the Plan.  In addition, our directors receive 4,000 shares per year each as part of their annual compensation for serving as our directors and such shares may be awarded under the Plan.  The terms of grants made under the Plan are determined by our directors at the time of the grant.  The following table is as of December 31, 2004.

	Number of securities to be issued upon exercise of outstanding options, warrants and rights (a)	Weighted-average exercise price of outstanding options, warrants and rights (b)	Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) (c)
Equity compensation plans approved by security holders	None	None	500,000	(1)
Equity compensation plans not approved by security holders	None	None	None
Total	None	None	500,000

(1)  Pursuant to the terms of the Plan, in no event shall the number of shares issued exceed 650,000.

The remainder of the information required by Item 12 is incorporated by reference to our definitive Proxy Statement, which will be filed not later than 120 days after the end of our fiscal year.

Item 13.  Certain Relationships and Related Transactions

The information required by Item 13 is incorporated by reference to our definitive Proxy Statement, which will be filed not later than 120 days after the end of our fiscal year.

Item 14.  Principal Accountant Fees and Schedules

The information required by Item 14 is incorporated by reference to our definitive Proxy Statement, which will be filed not later than 120 days after the end of our fiscal year.

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Item 15.  Exhibits and Financial Statement Schedules.

(a)  Index to Financial Statements

Consolidated Financial Statements of Five Star Quality Care, Inc.

Report of Independent Registered Accounting Firm

Consolidated Balance Sheet at December 31, 2004 and 2003

Consolidated Statement of Operations for the years ended December 31, 2004, 2003 and 2002

Consolidated Statement of Shareholders’ Equity for the years ended December 31, 2004, 2003 and 2002

Consolidated Statement of Cash Flows for the years ended December 31, 2004, 2003 and 2002

Notes to Consolidated Financial Statements

All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions, or are inapplicable, and therefore have been omitted.

(b)Exhibits

Exhibit No.	Description
2.1	Transaction Agreement, dated December 7, 2001, by and among Senior Housing Properties Trust, certain subsidiaries of Senior Housing Properties Trust party thereto, the Company, certain subsidiaries of the Company party thereto, FSQ, Inc., Hospitality Properties Trust, HRPT Properties Trust and Reit Management & Research LLC. (Incorporated by reference to Senior Housing Properties Trust’s Current Report on Form 8-K dated December 13, 2001.)
2.2	Sale-Purchase Agreement by and among ILM II Senior Living, Inc. and ILM II Holding, Inc. and the Company, dated January 23, 2002, as amended by First Amendment to Sale-Purchase Agreement by and among ILM II Senior Living, Inc., ILM II Holding, Inc. and Five Star Quality Care, Inc., dated February 22, 2002 and Second Amendment to Sale-Purchase Agreement among ILM II Senior Living, Inc., ILM II Holding, Inc., and Five Star Quality Care, Inc., dated March 1, 2002. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-83648.)
2.3	Purchase and Sale Agreement, dated as of August 26, 2002, by and among Constellation Health Services, Inc. and certain of its subsidiaries, as Seller, and Constellation Real Estate Group, Inc., as Guarantor, and Senior Housing Properties Trust, as Buyer, as amended by First Amendment to Purchase and Sale Agreement, dated as of October 25, 2002, by and among Constellation Health Services, Inc. and certain of its subsidiaries, as Seller, and Senior Housing Properties Trust and the Company, collectively as Buyer. (Incorporated by reference to the Company’s Current Report on Form 8-K dated October 25, 2002.)
2.4	Agreement and Plan of Merger, dated as of September 23, 2004, by and among the Company, FVE Acquisition Inc. and LTA Holdings, Inc. (Incorporated by reference to the Company’s Current Report on Form 8-K dated September 23, 2004.)
2.5	Purchase and Sale Agreement, dated as of November 19, 2004, by and among certain affiliates of the Company, as Sellers, and certain affiliates of Senior Housing Properties Trust, as Purchasers. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
2.6	Purchase and Sale Agreement, dated as of November 19, 2004, by and among certain affiliates of the Company, as Sellers, and certain affiliates of Senior Housing Properties Trust, as Purchasers. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)

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2.7	Purchase and Sale Agreement, dated as of November 19, 2004, by and among certain affiliates of the Company, as Sellers, and SNH/LTA Properties Trust and SNH/LTA Properties GA LLC, as Purchasers. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
2.8	Purchase and Sale Agreement, dated as of January 21, 2005, by and among the Company, as Purchaser, and Franciscan Manor Associates, LLC, Muirfield Associates, LLC, Prestwicke Associates, LLC, Royal Aberdeen, LLC, Troon Associates, LLC and Turnberry Associates, LLC, as Seller. (Filed herewith).
2.9	First Amendment to Purchase and Sale Agreement, dated as of February 3, 2005, by and among the Company, as Purchaser, and Franciscan Manor Associates, LLC, Muirfield Associates, LLC, Prestwicke Associates, LLC, Royal Aberdeen, LLC, Troon Associates, LLC and Turnberry Associates, LLC, as Seller. (Filed herewith).
3.1	Composite copy of Articles of Amendment and Restatement of the Company. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 12, 2004.)
3.2	Composite copy of Amended and Restated Bylaws of the Company. (Incorporated by reference to the Company’s Current Report on Form 8-K dated March 10, 2004.)
3.3	Articles Supplementary, as corrected by Certificate of Correction dated March 19, 2004. (Incorporated by reference to the Company’s Form 8-A dated March 19, 2004 and the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004, respectively.)
4.1	Specimen Certificate for shares of common stock of the Company. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-69846, as amended on November 8, 2001.)
4.2	Description of Capital Stock of the Company. (Contained in Exhibits 3.1 and 3.2.)
4.3	Rights Agreement, dated as of March 10, 2004, by and between the Company and Equiserve Trust Company, N.A. (Incorporated by reference to the Company’s Current Report on Form 8-K dated March 10, 2004.)
4.4	Appointment of Successor Rights Agent, dated as of December 13, 2004, by and between the Company and Wells Fargo Bank, National Association, a national banking association. (Incorporated by reference to the Company’s Current Report on Form 8-K dated December 13, 2004.)
10.1	Deed of Trust Note, dated May 22, 1986, by and between the Company (successor in interest to The Heartlands Retirement Community – Ellicott City I, Inc., successor in interest to Health Park Housing Limited Partnership) and The Bank of New York (successor in interest to Mercantile-Safe Deposit and Trust Company). (Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.)
10.2	Second Deed of Trust Note, dated July 31, 1997, by and between the Company (successor in interest to The Heartlands Retirement Community – Ellicott City I, Inc.) and Mercantile Mortgage Corporation. (Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.)
10.3	Stock Purchase Agreement, dated August 9, 2001, by and among Senior Housing Properties Trust, SNH/CSL Properties Trust, Crestline Capital Corporation and CSL Group, Inc. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-69846.)
10.4	Amendment to Stock Purchase Agreement, dated November 5, 2001, by and among Senior Housing Properties Trust, SNH/CSL Properties Trust, Crestline Capital Corporation and CSL Group, Inc. (Incorporated by reference to Senior Housing Properties Trust’s Current Report on Form 8-K dated November 5, 2001.)
10.5†	2001 Stock Option and Stock Incentive Plan of the Company. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-69846, as amended on December 5, 2001.)

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10.6†#	Form of Restricted Share Agreement. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003.)
10.7#	Representative Form of Composite Copy of Operating Agreement, as amended through December 13, 2001, by and among subsidiaries of the Company and Marriott Senior Living Services, Inc. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-83648, as amended on March 20, 2002.)
10.8#	Representative Form of Pooling Agreement by and among certain subsidiaries of the Company and Marriott Senior Living Services, Inc. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-69846, as amended on December 5, 2001.)
10.9	Master Lease Agreement, dated December 31, 2001, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and Five Star Quality Care Trust, as Tenant. (Incorporated by reference to Senior Housing Properties Trust’s Current Report on Form 8-K dated December 31, 2001.)
10.10	Amended Master Lease Agreement, dated January 11, 2002, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool III Trust, as Tenant. (Incorporated by reference to Senior Housing Properties Trust’s Current Report on Form 8-K dated December 31, 2001.)
10.11	First Amendment to Amended Master Lease Agreement, dated October 1, 2002, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool III Trust, as Tenant. (Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.)
10.12	Second Amendment to Amended Master Lease Agreement, dated March 1, 2004, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool III Trust, collectively as Tenant. (Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2004.)
10.13	Amended and Restated Lease Agreement, dated March 1, 2004, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and Five Star Quality Care Trust, as Tenant. (Incorporated by reference to the Company’s Current Report on Form 8-K dated March 1, 2004.)
10.14	Guaranty Agreement, dated December 31, 2001, made by the Company, as Guarantor, for the benefit of the Landlord under the Master Lease Agreement, dated December 31, 2001, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and Five Star Quality Care Trust, as Tenant. (Incorporated by reference to Senior Housing Properties Trust’s Current Report on Form 8-K dated December 31, 2001.)
10.15	Pledge of Shares of Beneficial Interest Agreement, dated December 31, 2001, made by the Company for the benefit of the Landlord under the Master Lease Agreement, dated December 31, 2001, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and Five Star Quality Care Trust, as Tenant. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-83648, as amended on December 5, 2001.)
10.16	Security Agreement, dated December 31, 2001, by and among Five Star Quality Care Trust and the Landlord under the Master Lease Agreement by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and Five Star Quality Care Trust, as Tenant, dated December 31, 2001. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-83648, as amended on December 5, 2001.)
10.17	Shared Services Agreement, dated January 2, 2002, by and between the Company and Reit Management & Research LLC. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-83648, as amended on December 5, 2001.)
10.18	Amendment No. 1 to Shared Services Agreement, dated January 14, 2002, by and between the Company and Reit Management & Research LLC. (Incorporated by reference to the Company’s

36

	Registration Statement on Form S-1, File No. 333-83648.)
10.19	Amendment No. 2 to Shared Services Agreement, dated as of March 10, 2004, by and between the Company and Reit Management & Research LLC. (Incorporated by reference to the Company’s Current Report on Form 8-K dated March 10, 2004.)
10.20	Guaranty Agreement, dated January 11, 2002, made by the Company, as Guarantor, for the benefit of the Landlord under the Amended Master Lease Agreement, dated January 11, 2002, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool III Trust, as Tenant. (Incorporated by reference to Senior Housing Properties Trust’s Current Report on Form 8-K dated December 31, 2001.)
10.21	Pledge of Shares of Beneficial Interest Agreement, dated January 11, 2002, made by FSQ, Inc. for the benefit of the Landlord under the Amended Master Lease Agreement, dated January 11, 2002, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool III Trust, as Tenant. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-83648, as amended on December 5, 2001.)
10.22	Security Agreement, dated January 11, 2002, by and among FS Tenant Holding Company Trust and the Landlord under the Amended Master Lease Agreement, dated January 11, 2002, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and FS Tenant Holding Company Trust and FS Tenant Pool III Trust, as Tenant. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-83648, as amended on December 5, 2001.)
10.23	Receivables Purchase and Transfer Agreement, dated as of October 24, 2002, by and among the Company, as Primary Servicer, the Providers named therein, and FSQC Funding Co., LLC, as Purchaser. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.)
10.24	Loan and Security Agreement, dated as of October 24, 2002, by and among FSQC Funding Co., LLC, as Borrower, the Lenders party thereto, Dresdner Kleinwort Wasserstein LLC, as Co-Program Manager, Syndication Agent and Lead Arranger, Healthcare Finance Group, Inc., as Co-Program Manager, and HFG Healthco-4 LLC, as Collateral Agent. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.)
10.25	Guaranty Agreement, dated as of October 24, 2002, made by the Company, Five Star Quality Care Trust and Five Star Quality Care Holding Co., Inc. in favor of FSQC Funding Co., LLC. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.)
10.26	Pledge Agreement, dated as of October 24, 2002, by and among Five Star Quality Care Trust and Five Star Quality Care Holding Co., Inc., as Grantors, and HFG Healthco-4 LLC, as Collateral Agent for the benefit of the Lenders and as assignee of the Purchaser. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.)
10.27	Assignment of Contracts as Collateral Security, dated as of October 24, 2002, between FSCQ Funding Co., LLC and HFG Healthco-4, LLC, as Collateral Agent. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.)
10.28	Lease Agreement, dated October 25, 2002, by and between SNH CHS Properties Trust, as Landlord, and FVE-CHS LLC, as Tenant. (Incorporated by reference to the Company’s Current Report on Form 8-K dated October 25, 2002.)
10.29	First Amendment to Lease Agreement, dated as of May 30, 2003, by and between SNH CHS Properties Trust and FVE-CHS LLC. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003.)
10.30	Second Amendment to Lease Agreement dated as of September 30, 2003, by and between SNH CHS Properties Trust and FVE-CHS LLC. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2003.)

37

10.31	Guaranty Agreement, dated October 25, 2002, for the benefit of SNH CHS Properties Trust and Senior Housing Properties Trust made by the Company. (Incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.)
10.32	Guaranty Agreement, dated October 25, 2002, made by Five Star Quality Care-MD, LLC, Five Star Quality Care-NC, LLC and Five Star Quality Care-VA, LLC for the benefit of SNH CHS Properties Trust. (Incorporated by reference to the Company’s Report on Form 10-K for the year ended December 31, 2002.)
10.33	Pledge Agreement, dated October 25, 2002, made by FSQ, Inc. for the benefit of SNH CHS Properties Trust. (Incorporated by reference to the Company’s Report on Form 10-K for the year ended December 31, 2002.)
10.34	Security Agreement, dated October 25, 2002, by and between FVE-CHS LLC and SNH CHS Properties Trust. (Incorporated by reference to the Company’s Report on Form 10-K for the year ended December 31, 2002.)
10.35	Security Agreement, dated October 25, 2002, by and among Five Star Quality Care-MD, LLC, Five Star Quality Care-NC, LLC, Five Star Quality Care-VA, LLC and SNH CHS Properties Trust. (Incorporated by reference to the Company’s Report on Form 10-K for the year ended December 31, 2002.)
10.36	Partial Termination of Lease and Sublease dated as of June 5, 2003, by and among SPTIHS Properties Trust, Five Star Quality Care Trust and Five Star Quality Care – GA, LLC. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2003.)
10.37	Purchase and Sale Agreement, dated March 1, 2004, by and among Ellicott City Land I, LLC and Ellicott City Land II, LLC, collectively as Sellers and SNH CHS Properties Trust, as Purchaser. (Incorporated by reference to the Company’s Current Report on Form 8-K dated March 1, 2004.)
10.38†#	Representative Indemnification Agreement. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2004.)
10.39	Partial Termination and Amendment of Lease, dated April 19, 2004, by and among certain subsidiaries of Senior Housing Properties Trust, as Landlord, and Five Star Quality Care Trust, as Tenant. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004.)
10.40	Amended and Restated Purchase and Sale Agreement, dated April 19, 2004, by and between SPT-Michigan Trust and Five Star Quality Care-Howell, LLC. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004.)
10.41	Mortgage, dated April 19, 2004, between Five Star Quality Care-Howell, LLC and Love Funding Corporation. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31,  2004.)
10.42	First Amendment to Amended and Restated Lease Agreement, dated June 23, 2004, by and among certain subsidiaries of Senior Housing Properties Trust, as Landlord, and Five Star Quality Care Trust, as Tenant. (Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2004.)
10.43	Promissory Note, dated as of November 18, 2004, made by FVE Acquisition Inc. to the order of Senior Housing Properties Trust. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
10.44	Loan Agreement, dated as of November 19, 2004, by and among Senior Housing Properties Trust, the Company and FSQ/LTA Holdings Inc. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
10.45	Joint and Several Promissory Note, dated as of November 19, 2004, made by the Company and FSQ/LTA Holdings Inc. to the order of Senior Housing Properties Trust. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on

38

	November 29, 2004.)
10.46	Lease Agreement, dated as of November 19, 2004, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and certain affiliates of the Company as Tenant. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
10.47	Guaranty Agreement, dated as of November 19, 2004, made by the Company in favor of the Beneficiaries named therein. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
10.48	Lease Agreement, dated as of November 19, 2004, by and among certain affiliates of Senior Housing Properties Trust, as Landlord, and certain affiliates of the Company as Tenant. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
10.49	Guaranty Agreement, dated as of November 19, 2004, made by the Company in favor of the Beneficiaries named therein. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
10.50	Second Amended and Restated Lease Agreement, dated as of November 19, 2004, by and among, Ellicott City Land I LLC, Ellicott City Land II LLC, HRES2 Properties Trust, SNH CHS Properties Trust, SPTIHS Properties Trust, SPT-Michigan Trust, SPTMNR Properties Trust, SNH/LTA Properties Trust and SNH/LTA Properties GA LLC, as Landlord, and Five Star Quality Care Trust, as Tenant. (Incorporated by reference to the Company’s Registration Statement on Form S-1, File No. 333-119955, as amended on November 29, 2004.)
12.1	Computation of Ratio of Earnings to Fixed Charges. (Filed herewith.)
21.1	Subsidiaries of the Company. (Filed herewith.)
23.1	Consent of Ernst & Young LLP. (Filed herewith.)
31.1	Certification required by Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended. (Filed herewith.)
31.2	Certification required by Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended. (Filed herewith.)
32.1	Certification required by 18 U.S.C. Section 1350 (Section 906 of the Sarbanes-Oxley Act of 2002). (Furnished herewith.)
99.1	Composite Copy of Governance Guidelines, effective January 19, 2005. (Furnished herewith.)

†	Indicates a management contract or a compensatory plan, contract or arrangement.
#	Agreement filed is illustrative of numerous other agreements to which the Company is a party.

39

Report of Independent Registered Public Accounting Firm

To the Directors and Shareholders of Five Star Quality Care, Inc.

We have audited the accompanying consolidated balance sheet of Five Star Quality Care, Inc., as of December 31, 2004 and 2003, and the related consolidated statements of operations, shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2004. These financial statements are the responsibility of the Company’s management.  Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement.  We were not engaged to perform an audit of the Company’s internal control over financial reporting.  Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal controls over financial reporting.  Accordingly, we express no such opinion.  An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Five Star Quality Care, Inc. at December 31, 2004 and 2003, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles.

/s/ Ernst & Young, LLP

Boston, Massachusetts

March 21, 2005

F-1

FIVE STAR QUALITY CARE, INC.

CONSOLIDATED BALANCE SHEET

(dollars in thousands, except share data)

	2004			2003
ASSETS
Current assets:
Cash and cash equivalents	$	26,194		$	17,611
Accounts receivable, net of allowance of $5,278 and $4,305 at December 31, 2004 and 2003, respectively	36,742			30,581
Due from Senior Housing Properties Trust	—			544
Prepaid expenses	10,417			4,305
Other current assets	2,690			2,412
Total current assets	76,043			55,453
Property and equipment, net	95,189			55,484
Restricted cash - insurance arrangements	17,611			12,056
Restricted cash - other	12,753			15,338
Mortgage notes receivable	6,099			6,143
Goodwill	11,548			610
Other long term assets	3,742			2,286
	$	222,985		$	147,370
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	12,625		$	13,820
Accrued expenses	13,951			7,759
Accrued compensation and benefits	11,382			8,936
Due to Senior Housing Properties Trust	7,961			6,605
Due to Sunrise Senior Living, Inc.	309			6,134
Mortgage notes payable	463			54
Secured revolving credit facility	—			4,000
Accrued real estate taxes	3,449			5,142
Security deposit liability	3,325			2,405
Other current liabilities	5,656			3,290
Total current liabilities	59,121			58,145
Long term liabilities:
Mortgage notes payable	42,118			6,381
Continuing care contracts	9,094			10,164
Other long term liabilities	16,748			8,253
Total long term liabilities	67,960			24,798
Commitments and contingencies:
Shareholders’ equity:
Preferred stock, par value $0.01: 1,000,000 shares authorized, none issued	—			—
Common stock, par value $0.01: 20,000,000 shares authorized, 12,096,634 and 8,513,634 shares issued and outstanding at December 31, 2004 and 2003, respectively	121			85
Additional paid-in capital	114,394			86,244
Accumulated deficit	(18,611		)	(21,902		)
Total shareholders’ equity	95,904			64,427
	$	222,985		$	147,370

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

F-2

FIVE STAR QUALITY CARE, INC.

CONSOLIDATED STATEMENT OF OPERATIONS

(in thousands, except per share data)

	For the year ended December 31,
	2004			2003			2002
Revenues:
Net revenues from residents	$	614,796		$	573,412		$	519,106
Pharmacy revenue	13,209			1,770			—
Total revenues	628,005			575,182			519,106
Operating expenses:
Wages and benefits	326,314			313,846			274,248
Other operating expenses	159,892			149,401			143,053
Pharmacy expenses	12,093			1,666			—
Management fee to Sunrise Senior Living Services, Inc.	19,293			17,272			16,643
Rent expense	83,370			77,495			75,210
General and administrative	20,053			17,470			15,415
Depreciation and amortization	3,666			3,587			1,794
Impairment of assets	—			—			150
Restructuring costs	—			—			122
Spin off and merger expense, non recurring	—			—			2,829
Total operating expenses	624,681			580,737			529,464
Operating income (loss)	3,324			(5,555		)	(10,358		)
Interest and other income	1,666			229			297
Interest expense	(880		)	(1,164		)	(198		)
Income (loss) from continuing operations before income taxes	4,110			(6,490		)	(10,259		)
Provision for income taxes	(120		)	—			—
Income (loss) from continuing operations	3,990			(6,490		)	(10,259		)
Loss from discontinued operations	(699		)	(1,449		)	(2,915		)
Net income (loss)	$	3,291		$	(7,939	)	$	(13,174	)
Weighted average shares outstanding	8,716			8,482			7,556
Basic and diluted income (loss) per share from:
Continuing operations	$	0.46		$	(0.77	)	$	(1.36	)
Discontinued operations	(0.08		)	(0.17		)	(0.38		)
Net income (loss) per share	$	0.38		$	(0.94	)	$	(1.74	)

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

F-3

FIVE STAR QUALITY CARE, INC.

CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY

(dollars in thousands, except share data)

	Number of Shares	Common Stock		Additional Paid-in Capital		Accumulated Deficit			Total
Balance at December 31, 2001	4,374,334	$	44	$	50,978	$	(789	)	$	50,233
Issuance of stock, pursuant to merger of FSQ, Inc.	250,000	2		1,873		—			1,875
Issuance of stock, pursuant to equity offering	3,823,300	38		26,039		—			26,077
Stock grants	5,000	—		36		—			36
Net income	—	—		—		(13,174		)	(13,174		)
Balance at December 31, 2002	8,452,634	84		78,926		(13,963		)	65,047
Stock grants	61,000	1		103		—			104
Capital contributions at lease inception	—	—		7,215		—			7,215
Net loss	—	—		—		(7,939		)	(7,939		)
Balance at December 31, 2003	8,513,634	85		86,244		(21,902		)	64,427
Stock grants	83,000	1		540		—			541
Issuance of stock, pursuant to equity offering	3,500,000	35		27,610		—			27,645
Net income	—	—		—		3,291			3,291
Balance at December 31, 2004	12,096,634	$	121	$	114,394	$	(18,611	)	$	95,904

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

F-4

FIVE STAR QUALITY CARE, INC.

CONSOLIDATED STATEMENT OF CASH FLOWS

(dollars in thousands)

	For the year ended December 31,
	2004			2003			2002
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)	$	3,291		$	(7,939	)	$	(13,174	)
Adjustments to reconcile net income (loss) to cash provided by operating activities:
Depreciation and amortization	3,666			3,588			1,794
Spin off and merger expense	—			—			2,829
Impairment of assets	—			—			150
Loss from discontinued operations	699			372			2,915
Provision for bad debt expense	973			403			(1,916		)
Changes in assets and liabilities:
Accounts receivable	(6,098		)	3,674			12,310
Prepaid expenses and other current assets	162			(9,583		)	778
Accounts payable and accrued expenses	(10,547		)	2,592			6,802
Accrued compensation and benefits	2,423			3,124			524
Due to Senior Housing Properties Trust	2,501			6,667			(3,480		)
Due to Sunrise Senior Living Services, Inc.	(5,825		)	6,134			—
Security deposits and other liabilities	9,092			10,132			441
Cash provided by operating activities	337			19,164			9,973
CASH FLOWS FROM INVESTING ACTIVITIES:
Transfer of working capital by lease	—			—			10,722
Payments on mortgage note receivable	44			35			—
Deposits into restricted cash accounts	(10,491		)	(18,250		)	(7,445		)
Withdrawals from restricted cash for purchases of furniture, fixtures and equipment	7,521			4,167			—
Acquisition of pharmacy, net of cash acquired	(3,525		)	(1,800		)	—
Acquisition of insurance company, net of cash acquired	—			(1,310		)	—
Acquisition of LTA Holdings, Inc., net of cash acquired	(112,431		)	—			—
Acquisition of real estate	(6,084		)	—			—
Proceeds from real estate sales	122,682			16,331			(44,927		)
Proceeds from disposition of assets held for sale	9,457			10,754			—
Furniture, fixtures and equipment purchases	(20,421		)	(15,812		)	(6,954		)
Cash used in investing activities	(13,248		)	(5,885		)	(48,604		)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from borrowings on revolving credit facility	22,000			55,500			—
Repayments of borrowings on revolving credit facility	(26,000		)	(51,500		)	—
Proceeds from issuance of common stock, net	27,645			—			26,113
Payment of deferred financing costs	—			—			(1,055		)
Proceeds from mortgage note payable	122,015			—			—
Repayments of mortgage notes payable	(123,467		)	(9,687		)	—
Cash provided by (used in) financing activities	22,193			(5,687		)	25,058
Net cash used in discontinued operations	(699		)	(251		)	(1,100		)
Change in cash and cash equivalents	8,583			7,341			(14,673		)
Cash and cash equivalents at beginning of year	17,611			10,270			24,943
Cash and cash equivalents at end of year	$	26,194		$	17,611		$	10,270
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest	$	512		$	1,381		$	145
Non-cash investing and financing activities:
Notes exchanged in sale of properties	—			(6,261		)	—
Capital contributions at lease inception	—			7,215			—
Issuance of common stock	541			104			—
Acquisition of assets by merger	—			(2,220		)	(1,052		)
Assumption of liabilities by merger	—			(890		)	2,006
Assumption of mortgage	86,764			—			15,775
Issuance of common stock for merger	—			—			1,875
Assumption of assets by lease	—			—			(12,061		)
Assumption of liabilities by lease	—			—			22,783

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

F-5

FIVE STAR QUALITY CARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(dollars in thousands, except per share data)

1. Organization and Business

We were organized on April 27, 2000, as a wholly owned subsidiary of Senior Housing Properties Trust, or Senior Housing.

On December 31, 2001, Senior Housing distributed all of our common shares to its shareholders.  Concurrent with our spin-off, we entered into a transaction agreement with Senior Housing and others to govern our initial capitalization and other events related to the spin-off.  On January 11, 2002, we entered into a lease with Senior Housing for 31 independent and assisted living communities formerly managed by Marriott Senior Living Services, Inc., or MSLS, a subsidiary of Marriott International, Inc., or Marriott, and now managed by Sunrise Senior Living Services, Inc., or SLS, a subsidiary of Sunrise Senior Living, Inc., or Sunrise.  Pursuant to the transaction agreement, we received the working capital assets and liabilities associated with this leasehold as part of our initial capitalization.  During 2003, information became available to us which resulted in $7,215 of additional paid in capital.  This amount was the result of our having received more working capital assets and having assumed fewer liabilities than we had previously recorded.

As of December 31, 2004, excluding communities we managed under third party management contracts, we operated 148 communities containing 16,573 living units, including 96 primarily independent and assisted living communities containing 11,724 living units and 52 nursing homes containing 4,849 living units. Of our 96 primarily independent and assisted living communities, we lease 77 communities containing 10,308 living units from Senior Housing, our former parent, including 30 communities which are directly operated for our account by SLS, and we own or lease from parties other than Senior Housing 19 communities containing 1,416 living units.  All but one of our nursing homes are leased from Senior Housing. Our 148 communities include 4,960 independent living apartments, 5,046 assisted living suites, 283 special care beds and 6,284 nursing beds.  We also operate two institutional pharmacies.

We experienced losses in 2003 and 2002.  We believe that a combination of our efforts to increase revenues and contain costs, our ability to borrow on our revolving credit facility, our ability to sell to Senior Housing certain capital improvements made to communities leased from Senior Housing and the possibility of sales or financings of our owned communities will be sufficient to meet our working capital needs, operating expenses, rent payments to Senior Housing, debt service and capital expenditures for the next 12 months and the foreseeable future.

2.  Summary of Significant Accounting Policies

Basis of Presentation.  The accompanying consolidated financial statements include our accounts and those of all of our subsidiaries. All intercompany transactions have been eliminated.

Under the terms of our management agreements with SLS we have provided SLS with working capital to be used in the operation of the communities.  The components of the working capital, primarily cash and cash equivalents, inventories, trade accounts receivable and accounts payable, are controlled by SLS on our behalf, but we retain the risks and rewards associated with the underlying assets and liabilities.  Accordingly, the components of this working capital (including cash and cash equivalents of $17,787 and $13,167 at December 31, 2004 and 2003, respectively, are included in our consolidated balance sheet.

Estimates and assumptions.  Preparation of these financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and assumptions that may affect the amounts reported in these financial statements and related notes.  The actual results could differ from our estimates.

F-6

Cash and cash equivalents.  Cash and cash equivalents, consisting of investments with original maturities of three months or less at the date of purchase, are carried at cost plus accrued interest, which approximates market.

Restricted cash - insurance arrangements.  Restricted cash - insurance arrangements is cash that we deposited as security for letters of credit which secure obligations arising from our professional liability insurance program.  Restricted cash - insurance arrangements also includes amounts held by our captive insurance companies that will be used to pay for future workers compensation and liability claims.

Restricted cash - other.  Restricted cash - other as of December 31, 2004, includes the following amounts that we are required to escrow: (i) $518 required by certain healthcare regulatory agencies, (ii) $5,540 for future capital expenditures, as required by our lease with Senior Housing and our management agreements with SLS, (iii) $2,585 for real estate taxes and capital expenditures as required by mortgages, (iv) $3,859 for resident security deposits for certain SLS managed communities and (v) $251 for other business reasons.  Restricted cash - - other as of December 31, 2003, includes the following amounts that we are required to escrow: (i) $518 required by certain healthcare regulatory agencies, (ii) $5,000 for future capital expenditures, as required by our lease with Senior Housing and our management agreements with SLS, (iii) $339 for real estate taxes and capital expenditures as required by a mortgage, (iv) $9,168 for resident security deposits for certain SLS managed communities and (v) $313 for other business reasons.

Accounts receivable and allowance for doubtful accounts.  We record accounts receivable at their estimated net realizable value.  In the case of receivables generated from residents, we estimate allowances for uncollectible amounts based upon factors which include, but are not limited to, the age of the receivable and the terms of the agreements with residents or their third party payors.  In the case of other receivables, such as those due from various governments or other entities with which we have transacted business, we estimate allowances based upon factors which include, but are not limited to, the agreements with such payors, their stated intent to pay, their financial capacity to pay and other factors which may include litigation.  Accounts receivable allowances are estimates.  We periodically review and revise these estimates based on new information; such revisions may be material.

During 2004, 2003 and 2002, we increased our allowance for doubtful accounts by $3,600, $2,456 and $4,387, respectively, and wrote off accounts receivable of $2,627, $2,053 and $4,502, respectively.

Included in accounts receivable as of December 31, 2004 and 2003 are amounts due from the Federal Government Medicare program of $10,952 and $9,651, respectively, and amounts due from various state Medicaid programs of $14,570 and $13,463, respectively.

Deferred finance costs.  We capitalize issuance costs related to borrowings and amortize the deferred costs over the terms of the respective loans.  The unamortized balance of deferred finance costs was $925 and $503 at December 31, 2004 and 2003, respectively.  Accumulated amortization related to deferred finance costs was $617 and $326 at December 31, 2004 and 2003, respectively.  At December 31, 2004, the weighted average amortization period remaining is approximately 34 years.  The amortization expense to be incurred over the next five years as of December 31, 2004 is $262 in 2005, $36 in 2006, $35 in 2007, $35 in 2008 and $35 in 2009.

Property and equipment.  Property and equipment is stated at cost.  We expense depreciation on real estate properties on a straight line basis over estimated useful lives of up to 40 years for buildings, up to 15 years for building improvements and up to seven years for personal property. We regularly evaluate whether events or changes in circumstances have occurred that could indicate an impairment in the value of long lived assets.  If there is an indication that the carrying value of an asset is not recoverable, we estimate the projected undiscounted cash flows from the asset to determine if an impairment loss should be recognized.  We determine the amount of impairment loss by comparing the historical carrying value of the asset to its estimated fair value.  We determine estimated fair value through an evaluation of recent financial performance and projected discounted cash flows of properties using standard industry valuation techniques.  During 2002, we wrote off certain impaired assets with a carrying value of $772.

Goodwill.  Goodwill represents the costs of business acquisitions in excess of the fair value of identifiable net assets acquired. Goodwill is reviewed annually for impairment.  If the review indicates that carrying amount of

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goodwill exceeds its fair value, the carrying value of goodwill will be adjusted.  To date, no impairment charges have been recorded.

Self insurance.  We self insure up to certain retained limits for workers compensation and professional liability.  Claims in excess of these retained limits are insured by third party insurance providers up to contractual limits, over which we are self insured.  We are fully self insured for all employee health related claims.  We accrue the estimated cost of self insured amounts based on projected settlements for pending claims, known incidents which we expect may result in claims, estimates of incurred but not yet reported claims and incidents and expected changes in premiums for insurance provided by third party insurers whose policies provide for retroactive adjustments.  We periodically adjust these estimates based upon our claims experience, recommendations from our professional consultants, changes in market conditions and other factors; such adjustments may be material.

Continuing care contracts.  At some of our communities that are managed by SLS, residents can enter into continuing care contracts.  These contracts require residents to make advance payments some of which are refundable and are carried as liabilities until they are refunded and some of which are not refundable and are carried as liabilities until they are amortized into revenues during the periods we expect to provide the service.  Portions of these payments are included in restricted cash on our consolidated balance sheet.

Income taxes.  We account for income taxes in accordance with Statement of Financial Accounting Standards, or SFAS, No. 109, “Accounting for Income Taxes”, or FAS 109.  FAS No. 109 prescribes an asset and liability approach that requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial statement carrying amounts and the tax bases of assets and liabilities (see Footnote 5).

We pay franchise taxes in certain states in which we have operations.  We have included the franchise taxes in general and administrative and other operating expenses in our consolidated statements of operations.

Revenue recognition.  Our revenues are derived primarily from services to residents at communities we own or lease.  We accrue revenues when services are provided and revenues are earned.  Some of our services are provided with the expectation of payment from governments or other third party payors; related revenues are reported at their estimated net realizable amounts at the time the services are provided.  We derived approximately 38%, 39% and 39% of 2004, 2003 and 2002 net resident revenues, respectively, from payments under federal and state medical assistance programs.  Revenues under some of these programs are subject to audit and retroactive adjustment.

Medicare revenues totaled $109,800, $86,100 and $68,400 during 2004, 2003 and 2002, respectively.  Medicaid revenues totaled $152,100, $148,600 and $142,600 during 2004, 2003 and 2002, respectively.  Both the Federal Government and some of the states in which we operate are contemplating plans to reduce Medicare and Medicaid funding.  We cannot estimate the magnitude of potential Medicaid and Medicare rate reductions but it may be material.  Medicaid and Medicare rates reductions, if they occur, may have a negative impact on our revenues and may decrease our net income and may cause us to incur losses.

Management Agreements.  Our management agreements with SLS provide for payment of base management fees equal to 5% of revenues at the managed communities and incentive management fees equal to 20% of the operating profit at the managed communities, as defined, over a priority return to us.  SLS is also entitled to central administrative services fees equal to 2% of our revenues at the managed communities.  Our management agreements with SLS expire in 2027 and have a five year renewal term at SLS’s option.  During 2004, 2003 and 2002, we incurred fees under these management agreement with SLS totaling $19,293, $17,272 and $16,643, respectively.

Restructuring costs.  During 2002, we reduced the number of our regional offices and had staff reductions in our home office.  As a result, we incurred restructuring costs of $122 for severance payments to terminated employees, all of which were paid in 2002.

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Per common share amounts.  We computed earnings (loss) per share for the years ended December 31, 2004, 2003 and 2002, using the weighted average number of shares outstanding during each year.  We have no common share equivalents, instruments convertible into common shares or other dilutive instruments.

Reclassifications.  Reclassifications have been made to the prior years’ financial statements to conform to the current year’s presentation, including a reclassification of $3,625 of cash related to our captive insurance company, which was presented as cash and cash equivalents in 2003, to restricted cash.  These reclassifications had no effect on net income (loss) or shareholders’ equity.

3.  Property and Equipment

Property and equipment, at cost, as of December 31, 2004 and 2003, consist of:

	2004			2003
Land	$	7,362		$	3,542
Buildings and improvements	74,111			42,328
Furniture, fixtures and equipment	19,954			13,476
	101,427			59,346
Accumulated depreciation	(6,238		)	(3,862		)
	$	95,189		$	55,484

4.  Line of Credit

On October 24, 2002, one of our subsidiaries entered into a revolving credit facility agreement.  The interest rate on borrowings on this facility is LIBOR plus a spread.  The maximum amount available under this facility is $12,500, and is subject to limitations based upon qualifying collateral. The facility is available for acquisitions, working capital and general business purposes.  The facility is secured by accounts receivable (totaling $16,556 as of December 31, 2004) generated at some of our communities and contains covenants such as maintenance of collateral, maintenance of lockbox accounts designed to provide the lenders with access to the collateral, consolidated minimum net worth and certain other financial ratios.  In certain circumstances, subject to lender and collateral availability, the maximum borrowings under this facility may be increased to $25,000. The facility terminates on October 24, 2005. As of December 31, 2004, no amounts were outstanding under the facility.  Interest expense related to this facility was $85 and $155 for the years ended December 31, 2004 and 2003, respectively.

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5.  Income Taxes

Significant components of our deferred tax assets and liabilities as of December 31, 2004 and 2003, are as follows:

	2004			2003
Deferred tax assets (liabilities) for the income tax effects of:
Allowance for doubtful accounts	$	2,073		$	1,826
Accrued liabilities	405			527
Deferred income	2,642			323
Insurance reserve	1,076			1,703
Continuing care contracts	2,880			2,276
Depreciable assets	(2,162		)	2,309
Charitable contributions	68			43
Net operating loss carry forwards	1,769			1,268
Tax credits	984			395
Other	(133		)	—
Net deferred tax asset before valuation allowance	9,602			10,670
Valuation allowance	(9,602		)	(10,670		)
Net deferred tax asset	$	—		$	—

As a result of our short operating history and the losses we incurred during 2002 and 2003, we continue to record a valuation reserve for the full amount of our deferred tax assets.  If our operating results continue to be profitable, we may reduce or eliminate the valuation reserve.  In such event, we would record a reduction in the valuation reserve as an income tax benefit in the consolidated statement of operations, which would impact our results of operations.

Our operations in the year ended December 31, 2004 produced taxable income of approximately $4,827.  Our 2002 and 2003 operations resulted in tax loss carry forwards which eliminated our taxable income in 2004.  After 2004, we have tax losses of approximately $3,709 that may be carried forward to offset future taxable income.  During the year ended December 31, 2004, we incurred approximately $120 for alternative minimum taxes that are payable without regard to our tax loss carry forwards.  Our net operating loss carry forwards will expire beginning in 2020, if unused.

The principal reasons for the difference between our effective tax (benefit) rate and the U.S. Federal statutory income tax (benefit) rate are as follows:

	For the years ended December 31,
	2004		2003		2002
Taxes at statutory U.S. federal income tax rate	34.0	%	(34.0	)%	(34.0	)%
State and local income taxes, net of federal tax benefit	5.3	%	(4.0	)%	(4.0	)%
Tax credits	(17.9	)%	(5.0	)%	—
Alternative minimum tax	3.5	%	0.0	%	0.0	%
Change in valuation allowance	(21.4	)%	6.5	%	—
Other differences, net	0.0	%	36.5	%	38.0	%
Effective tax rate	(0.0	)%	(0.0	)%	0.0	%
Tax valuation allowance	0.0	%	0.0	%	0.0	%

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6.  Mortgages Payable

One of the properties acquired by one of our subsidiaries in October 2002 was encumbered by two mortgage notes secured by first and second deeds of trust.  In accordance with the prepayment provisions of the first mortgage, in December 2003, we prepaid the first mortgage note which totaled $9,323.  The remaining deed of trust mortgage totaling $6,435 was prepaid on March 1, 2004.

On April 19, 2004, we purchased from Senior Housing a property that was previously leased to us by Senior Housing.  We funded part of the purchase price with proceeds we received from a Department of Housing and Urban Development, or HUD, insured mortgage in the amount of $5,015.  Seven of the properties acquired by us on November 19, 2004 from LTA are encumbered by nine mortgages.  These nine mortgages are also insured by HUD.  Mortgage premiums totaling $6,534 were recorded in accounting for the acquisition of the mortgaged properties in order to record the assumed mortgages at their estimated fair value.  The mortgage premiums will be amortized as a reduction to interest expense over the period the mortgages remain outstanding.  Interest expense on the mortgages was $521 for the year ended December 31, 2004, which is net of mortgage premium amortization of $14.

The following table is a summary of the mortgage notes payable as of December 31, 2004:

Principal Balance		Monthly Payment		Cash Interest Rate		Effective Interest Rate		Maturity Date	Fair Value Premium Adjustment		Total Mortgage Payable
$	4,987	$	45	5.55	%	5.55	%	1-May-39	$	—	$	4,987
1,377		14		8.00	%	5.60	%	1-Jan-38	405		1,782
1,187		11		8.45	%	5.60	%	1-Nov-37	422		1,609
1,018		10		7.50	%	5.60	%	1-Oct-36	229		1,247
5,448		47		7.00	%	5.60	%	1-Jun-36	889		6,337
5,856		47		7.15	%	5.60	%	1-Nov-38	1,113		6,969
5,370		44		7.00	%	5.60	%	1-Jun-36	900		6,270
712		6		8.50	%	5.60	%	1-Feb-32	213		925
5,894		51		7.25	%	5.60	%	1-Jun-39	1,209		7,103
4,198		41		8.13	%	5.60	%	1-Feb-32	1,154		5,352
$	36,047	$	316	7.13	%(1)				$	6,534	$	42,581

(1)  Weighted average interest rate

Monthly payments are required to be made into a replacement reserve fund from which withdrawals are subject to the approval of HUD for all our mortgages.  In addition, we are required to make monthly escrow deposits for taxes and insurance.

Principal payments due under the terms of these mortgages are as follows:

2005	$	293
2006	318
2007	343
2008	362
2009	445
Thereafter	34,286
	$	36,047

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7.  Leases

We lease 128 communities under four non-cancelable leases with Senior Housing and 4 communities under a lease with Healthcare Property Investors, Inc., or HCPI.  These leases are “triple-net” leases which require that we pay for all costs incurred in the operation of the communities, including the cost of insurance and real estate taxes, maintain the communities and indemnify the landlord for any liability which may arise from its ownership during the lease term. SLS manages 30 of the communities included in one of our leases with Senior Housing.

Our leases with Senior Housing require us to pay, as additional rent, 4% of the amount by which gross revenues of the leased communities exceeds gross revenue for a base year.  The base year for the former LTA communities that we lease from Senior Housing is 2006 and percentage rent begins in 2007. The base year for all other communities we lease from Senior Housing is 2005 and percentage rent begins in 2006.  The additional rent is payable and calculated separately for the lease relating to the communities that SLS manages for us and on a combined basis for the three leases relating to the communities we operate.

We are required under our lease for the communities managed by SLS to make deposits into accounts known as FF&E Reserves to fund future replacements and improvements at these communities. Senior Housing has a security and remainder interest in these accounts and in all property purchased with funding from these accounts.

Senior Housing has agreed to fund amounts that we request for repairs, renovations and improvements to communities we lease from them in return for rent increases according to formulas set forth in the leases.  In 2004, Senior Housing funded $9,457 for repairs, renovations and improvements to some of our communities.  As a result of this transaction, and in accordance with our leases, our annual minimum rent to Senior Housing increased by 10% of the amount funded, or $945.

The following table is a summary of our leases:

Landlord	Number of Communities	Minimum rent as of December 31, 2004		Initial expiration date	Renewal terms
Senior Housing (3 leases)	98	$	31,841	December 31, 2020	Option for one 15-year renewal.
Senior Housing (SLS managed communities)	30	63,993		December 31, 2017	Consecutive options for one 10-year and one 5-year renewal.
HCPI	4	1,183		December 31, 2014	Option for one 5-year renewal.
Totals	132	$	97,017

The future minimum rent required by our leases as of December 31, 2004, is as follows:

2005	$	97,017
2006	97,017
2007	97,017
2008	97,017
2009	97,017
Thereafter	771,093
	$	1,256,178

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8.   Shareholders’ Equity

During 2003, we issued 61,000 common shares to our directors, officers and others who provide services to us.  The shares were valued at $1.17 to $1.75 per share, the average price of our common shares on the American Stock Exchange, or AMEX, on the date of issue, or $104 in the aggregate.

During 2004, we issued 83,000 common shares to our directors, officers and others who provide services to us.  The shares were valued at $4.04 to $6.99 per share, the average price of our common shares on the AMEX on the dates of issue, or $541 in the aggregate.

On December 13, 2004, we issued 3,500,000 common shares, in an underwritten public offering, for proceeds, net of underwriting commissions and other costs, of $27,645.  On January 11, 2005, we issued an additional 120,000 common shares, as part of an underwriter’s over allotment option in this public offering, for proceeds, net of underwriting commissions and other costs, of $960.

We initially had an aggregate of 650,000 shares of our common shares available to be issued under the terms of the 2001 Stock Option and Stock Incentive Plan, or the Award Plan.  As of December 31, 2004, 500,000 of our common shares remain reserved for issuance under the Award Plan.  Shares issued under this plan to directors vest immediately.  Shares issued to our officers and other individuals who provide services to us vest over three years.

9.   Acquisitions

In January 2002, we entered into a lease with Senior Housing for 31 independent and assisted living communities then managed by MSLS and currently managed by SLS.  In connection with this transaction, we acquired the net working capital of the communities of $6,537, received cash of $5,665, and assumed certain long term liabilities totaling $12,202.  We allocated the purchase price on the basis of the fair value of assets acquired and liabilities assumed.

In April 2002, we purchased five senior living communities for $45,500 in cash. We allocated the purchase price to the land, buildings and equipment acquired.

In October 2002, we purchased an additional seven senior living communities for $27,000.  We allocated the purchase price to the land, buildings and equipment acquired.  To finance this purchase, we sold one of our existing communities to Senior Housing for approximately $12,700 and assumed $15,798 of mortgage debt, which had a fair value of $16,210.  In connection with this transaction, we leased another eight senior living communities from Senior Housing, which Senior Housing simultaneously acquired.

In November 2004, we purchased 100% of the capital stock of LTA for $211,000 exclusive of closing costs.  To finance this acquisition, we entered into a $148,200 sale leaseback transaction with Senior Housing for 31 of the communities acquired from LTA. We funded the balance of the purchase price with cash on hand and by assuming HUD insured long term mortgage debt and an operating lease for four communities from HCPI.  We allocated the purchase price to $11,661 of working capital assets, $48,348 to land, buildings and equipment, $7,095 to goodwill, $2,590 to lease acquisition costs, $11,709 to working capital liabilities and $37,601 to mortgage notes payable based on the fair value of the assets acquired and the liabilities assumed.

In addition to our community acquisitions, we have purchased two institutional pharmacies.  In September 2003, we purchased one pharmacy in Wisconsin for $1,800.  In September 2004, we purchased another pharmacy in Nebraska for $3,000.  We allocated the purchase prices principally to working capital assets, customer relationships and goodwill based on the fair value of the assets acquired and liabilities assumed.

We account for each of these acquisitions using the purchase method of accounting.  As such, we have included the results of operations of each of the communities and pharmacies acquired in our consolidated statement of operations from the date of acquisition.  Purchase accounting for certain 2004 acquisitions is preliminary, primarily with respect to identification and valuation of intangibles, and is expected to be finalized in the second or third quarter of 2005. 

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10.  Pro Forma Information (Unaudited)

Pro forma operating results assuming commencement of operations as of January 1, 2003, of the 47 communities we acquired from LTA during 2004 and assuming that our sale of 3,500,000 common shares occurred on January 1, 2003, are as follows:

	2004			2003
	(unaudited)
Revenues	$	701,040		$	650,830
Expenses	695,597			657,205
Net (loss) income from continuing operations	5,443			(6,375		)
Loss from discontinued operations	(699		)	(1,449		)
Net (loss) income	$	4,744		$	(7,824	)
Shares outstanding	12,097			12,097
Net (loss) income per share	$	0.45		$	(0.53	)

These unaudited pro forma operating results do not represent or are not indicative of our operating results for any future date or period.  Actual future results may be materially different from pro forma results.  Differences could arise from many factors.

11.  Discontinued Operations

During 2002, we ceased operations at two leased nursing homes: one community in Phoenix, Arizona, which we leased from Senior Housing; and one community in Campbell, Nebraska, which we leased from that municipality.  The Arizona community was closed and subsequently sold by Senior Housing for $770 which caused a $77 reduction in annual minimum rent payable in accordance with the lease terms for the multiple property lease which had included this community.  The operations of the Nebraska community were assumed by its owner.  Also in 2002, we decided to sell one additional nursing home located in Connecticut.

During 2003, we ceased operating one nursing home that we leased from Senior Housing.  In August 2003, we sold an assisted living community and we received $3,500, consisting of $350 of cash and a $3,150 six year mortgage note at 8% interest.  We deferred the $1,100 gain on this sale and we expect to recognize this gain as income over the life of the note in proportion to principal payments on the note that we receive.  In December 2003, we sold five assisted living communities and we received $3,550, consisting of $440 of cash and a $3,110 fifteen year mortgage note at 9% interest.  We deferred the $1,200 gain on this sale and we expect to recognize this gain as income when the buyer demonstrates it has the ability to pay the mortgage note.  These deferred gains are included in other long term liabilities on our consolidated balance sheet.

During the first quarter of 2004, we ceased operations at one assisted living community that we lease from Senior Housing which was managed for us by SLS.  We and Senior Housing are exploring other uses for that property as well as its potential sale.

As of December 31, 2004, substantially all of our assets and liabilities related to these communities have been disposed of and paid, respectively.  We have reclassified the consolidated statement of operations for all periods presented to show the results of operations of these communities as discontinued.  Below is a summary of the operating results of these discontinued operations included in the financial statements for years ended December 31, 2004, 2003 and 2002:

	2004			2003			2002
Revenues	$	281		$	7,045		$	5,763
Expenses	980			8,494			8,678
Net loss	$	(699	)	$	(1,449	)	$	(2,915	)

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12.  Transactions With Affiliates

On December 31, 2001, Senior Housing distributed substantially all of its ownership of our shares to its shareholders. In order to effect this spin off and to govern relations after the spin off, we entered into agreements pursuant to which it was agreed, among other things, that:

•so long as Senior Housing remains a REIT, we may not waive the share ownership restrictions in our charter on the ability of any person or group to acquire more than 9.8% of any class of our equity shares without, among other requirements, the consent of Senior Housing and our determination that the exception to the ownership limitations would not cause a default under any of our leases;

•so long as we are a tenant of Senior Housing, we will neither permit any person or group to acquire more than 9.8% of any class of our voting stock or permit the occurrence of other change in control events, as defined, nor will we take any action that, in the reasonable judgment of Senior Housing or HRPT Properties Trust (another REIT which owns shares of Senior Housing), or HRPT, might jeopardize the tax status of Senior Housing or HRPT as REITs;

•Senior Housing has the option, upon the acquisition by a person or group of more than 9.8% of our voting stock and upon other change in control events, as defined, to cancel all of our rights under the leases we have with Senior Housing; and

•so long as we maintain our shared services agreement with RMR or are a tenant under a lease with Senior Housing, we will not acquire or finance any real estate without first giving Senior Housing, HRPT, or any other publicly owned REIT or other entity managed by RMR the opportunity to acquire or finance real estate investments of the type in which Senior Housing, HRPT, or any other publicly owned REIT or other entity managed by RMR, respectively, invest.

At the time of our spin off from Senior Housing, all of the persons serving as our directors were trustees of Senior Housing. Our two managing directors, Messrs. Martin and Portnoy, are the managing trustees of Senior Housing.

Of the 148 senior living communities we currently operate, 128 are leased from Senior Housing for total annual minimum rent of $95,834.

During 2003, we and Senior Housing were jointly involved in litigation with Marriott, the operator of the senior living communities which we leased from Senior Housing. We and Senior Housing equally shared the costs of this litigation. This litigation was settled in January 2004.

Since January 1, 2004, we have entered into or agreed to enter into multiple transactions with Senior Housing, including the following:

•On March 1, 2004, Senior Housing purchased from us one independent and assisted living community with 229 units located in Maryland. The purchase price was $24,100, the appraised value of the property. Simultaneous with this purchase, our existing leases with Senior Housing were modified as follows:

•the lease for 53 nursing homes and the lease for 13 independent and assisted living communities were combined into one lease and the property acquired on March 1, 2004 was added to this combined lease;

•the combined lease maturity date was changed to December 31, 2020 from December 31, 2018 and 2019 for the separate leases;

•our minimum rent for the combined lease of 53 nursing homes and 14 independent living communities was increased by $2,410  per year;

•for all of our leases with Senior Housing, the amount of additional rent to be paid to Senior Housing was changed to 4% of the increase in revenues at the leased properties beginning in 2006. Prior to the lease combination, the percentage and the beginning time period for the nursing home lease and the independent and assisted living community lease was 3% for 2004 and 4% for 2005, respectively; and all other lease terms remain substantially unchanged.

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•In 2003, Senior Housing evicted a nursing home tenant that had defaulted on its obligations to Senior Housing. Until May 2004, we managed this nursing home for Senior Housing’s account. Effective on May 1, 2004, we agreed with Senior Housing to add this nursing home to a multi-property lease from Senior Housing and to increase the annual rent by $180. All other lease terms remained unchanged.

•One of the properties we lease from Senior Housing was subject to a ground lease with an unaffiliated third party. We are responsible for paying the ground rent of $307 per year. On June 3, 2004, Senior Housing exercised an option to purchase this land for $3,600  and acquired the landlord’s rights and obligations under the ground lease. We now pay the ground rent to Senior Housing.

•On November 18, 2004, Senior Housing loaned us $117,000 in connection with our acquisition of LTA. Such loan was repaid on November 19, 2004 with the proceeds we received from a $148,200 sale leaseback with Senior Housing for 31 of the 47 acquired communities and a $16,800 mortgage loan from Senior Housing secured by five of our communities.  This mortgage was repaid in December 2004.

•During 2004, pursuant to the terms of our leases with Senior Housing, we sold to Senior Housing $9,500 of improvements we had made to its properties, and our annual rent payable to Senior Housing was increased by 10% of Senior Housing’s purchase price or $946.

We obtained a workers compensation insurance policy for the year beginning June 15, 2003, from a third party insurer. This third party insurer ceded a portion of the premiums we paid to a Bermuda based company, Affiliates Insurers, Limited, or Affiliates, which was owned by RMR. Affiliates was organized by RMR to assist us in creating a partial self insurance program on an expedited basis. On December 8, 2003, we acquired Affiliates from RMR for an amount equal to RMR’s cost of organizing and capitalizing that company, approximately $1,310.

Our Chief Executive Officer and Chief Financial Officer are also officers and employees of RMR. These officers devote a substantial majority of their business time to our affairs and the remainder to RMR’s business which is separate from our business. We believe the compensation we pay to these officers reasonably reflects their division of business time; however, periodically, these individuals may divide their business time differently than they do currently and their compensation from us may become disproportionate to this division.

RMR provides management and administrative services to us under a shared services agreement. RMR is compensated at an annual rate equal to 0.6% of our total revenues. Aggregate fees earned by RMR for services during 2004, 2003 and 2002, were $3,700, $3,400 and $2,900, respectively. RMR also provides the internal audit function for us and for other publicly owned companies to which it provides management services.  We pay a pro rata share of RMR’s costs in providing that function.  Our audit committee approves the identity and salary of the individual serving as our internal audit manager, as well as the pro rata share of the costs which we pay.  The fact that RMR has responsibilities to other entities, including one of our landlords, Senior Housing, could create conflicts; and in the event of such conflicts between Senior Housing and us, the shared services agreement allows RMR to act on behalf of Senior Housing rather than on our behalf. RMR is owned by Messrs. Martin and Portnoy who are our managing directors. Messrs. Martin and Portnoy each have material interests in the transactions between us and RMR described above. All transactions between us and RMR are approved by our independent directors. Our independent directors have approved the renewal of the shared services agreement for its current term which will end December 31, 2005.

Messrs. Martin and Portnoy own the building in which our headquarters is located. Our lease for space was originally executed by FSQ. This lease expires in 2011. We paid rent, which includes our proportional share of utilities and real estate taxes, under this lease during 2004, 2003 and 2002 of $561, $569 and $539, respectively.

Wells Fargo & Company beneficially owns 8.1% of our common shares. Wells Fargo Bank, N.A., an affiliate of Wells Fargo & Company, became the transfer agent and registrar for our common shares, effective as of December 13, 2004.

13.  Employee Benefit Plan

During 2001, we established an employee savings plan under the provisions of section 401(k) of the Internal Revenue Code.  All employees are eligible to participate in the plan and are entitled, upon termination or retirement, to receive their portion of the plan assets.  We do not contribute to this plan, but do pay certain expenses

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of the plan.  Plan expenses were $35, $23 and $24 for the years ended December 31, 2004, 2003 and 2002, respectively.

In connection with our acquisition of LTA, we assumed an additional employee savings plan under the provisions of section 401(k) of the Internal Revenue Code.  All former LTA employees are eligible to participate in this plan and are entitled, upon termination or retirement, to receive their portion of the plan assets.  We match a certain level of employee contributions to this plan and pay certain expenses of the plan.  The plan’s expenses, including our contribution to the plan, were $13 for the year ended December 31, 2004.

14.  Fair Value of Financial Instruments

Our financial instruments are limited to cash and cash equivalents, accounts receivable, accounts payable, continuing care contracts, mortgage notes receivable and payable.  The fair value of these financial instruments was not materially different from their carrying values at December 31, 2004 and 2003.  Our estimates of fair values were based on current market prices and discounted cash flow analysis.

15. Commitments and Contingencies

Connecticut Strike Costs.  During 2001, we incurred costs to hire temporary staff and to provide security services for residents and temporary employees during a Connecticut labor strike.  At the time of this strike, the Governor of Connecticut and the Connecticut Department of Social Services agreed to adjust Medicaid rates to compensate for a portion of these increased costs.  During 2004, we received $666, which represents substantially all amounts due from the Connecticut Department of Social Services related to this matter.

Receivables from United States Department of Health and Human Services.  During 2000, we assumed the operations of 40 nursing homes from Integrated Health Services, Inc. and certain related entities, collectively, IHS, a company then in bankruptcy, pursuant to a court approved settlement agreement.  Because of complex legal and governmental processes necessary to transfer nursing home licenses and Medicare and Medicaid payments, arrangements were agreed upon for IHS to continue to receive payments from Medicare and Medicaid payors for services provided at the nursing homes following our assumption of operations, including an agreement among us, IHS and the Secretary of the United States Department of Health and Human Services, or HHS.  These arrangements were approved by the bankruptcy court and generally honored by IHS with respect to approximately $42,000 received by IHS for our account.  We initially believed IHS had received an additional $2,000 that was due to us.  When IHS refused to pay this amount, we commenced suit against IHS in the bankruptcy court in August 2002.  Following the filing of the suit, settlement discussions were started.  In December 2002, IHS paid approximately $700 of the receivable balance.  IHS has asserted that it is only obligated to deliver funds it received from Medicare and Medicaid payors, including HHS, and that HHS has withheld payments that are due to us.  In March 2003, we commenced suit against IHS, HHS and the State of Colorado Department of Healthcare Policy and Financing concerning the remaining receivable balance.  Shortly after we commenced this litigation, settlement was reached with the State of Colorado providing us a payment of approximately $400.  In December 2003, the court granted a motion to dismiss HHS, but took no action on IHS’s motion to dismiss.  In January 2004, we appealed the court’s decision to dismiss HHS.  On February 24, 2004, the court denied in all material respects IHS’s motion to dismiss.  We intend to pursue these claims, but we cannot predict the outcome of this litigation.

SLS Management Agreements.  During 2002, about the time Marriott decided to sell MSLS to Sunrise, we and Senior Housing became involved in litigation with Marriott and MSLS.  On January 7, 2004, we and Senior Housing settled the pending litigation with Marriott and MSLS.  Under the terms of the settlement, we and Senior Housing, and Marriott and MSLS, agreed to dismiss all claims and counterclaims asserted in the litigation.  Also, under the terms of the settlement, Marriott paid to us and Senior Housing $1,250 each.  The settlement was a compromise of the parties’ disputes entered into to avoid the expense and inconvenience of litigation and neither we or Senior Housing, nor Marriott or MSLS, has admitted any liability, violation of law or wrongdoing in connection with the matters in the litigation.  We believe the settlement resolves all of our litigation with Marriott. This settlement does not affect our or Senior Housing’s rights vis-à-vis SLS or Sunrise which arise by reason of the events that occurred after Sunrise purchased MSLS.  This settlement payment is included in other income for the year ended December 31, 2004.

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16.  Segment Information

We operate substantially in one reportable segment, which is the business of operating senior living communities, including independent living and congregate care communities, assisted living communities and nursing homes.  All of our operations and assets are located in the United States.

17.  Selected Quarterly Financial Data (Unaudited)

Following is summary unaudited quarterly results of operations for the years ended December 31, 2004 and 2003:

	2004
	First Quarter		Second Quarter		Third Quarter		Fourth Quarter
Revenues	$	150,141	$	153,348	$	155,248	$	169,268
Net income from continuing operations	1,142		1,067		869		912
Net income	691		943		891		766
Net income per common share	$	0.08	$	0.11	$	0.10	$	0.09

	2003
	First Quarter			Second Quarter			Third Quarter			Fourth Quarter
Revenues	$	141,597		$	140,499		$	145,964		$	147,122
Net income from continuing operations	(2,189		)	(1,427		)	(733		)	(2,141		)
Net loss	(2,537		)	(1,974		)	(1,166		)	(2,262		)
Loss per common share	$	(0.27	)	$	(0.24	)	$	(0.14	)	$	(0.27	)

18.  Subsequent Events

In January 2005, we agreed to acquire six assisted living communities for approximately $63,500 from six limited liability companies known as Gordon Health Care Ventures, LLC, or Gordon.  We intend to finance this acquisition with cash on hand, borrowings under our line of credit and mortgage or sale leaseback transactions for some of the communities being purchased or for certain other unencumbered communities which we currently own.  Completion of this acquisition is subject to various conditions customary in multi-community healthcare transactions of this type, including completion of diligence, licensing and receiving third party consents.  We expect this acquisition to close during the second quarter of 2005, but there is no assurance that it will close.

In March 2005, we acquired one assisted living community for a purchase price of approximately $6,900, excluding closing costs, and commenced operations at that community.  We funded the purchase price with cash on hand.

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SIGNATURES

Pursuant to the requirements of Section 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.

FIVE STAR QUALITY CARE, INC.
By:	/s/ Evrett W. Benton
	Evrett W. Benton
	President and Chief Executive Officer

Dated:  March 29, 2005

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 dates indicated.

Signature	Title	Date
/s/ Evrett W. Benton	President and Chief Executive	March 29, 2005
Evrett W. Benton	Officer
/s/ Bruce J. Mackey Jr.	Chief Financial Officer and Treasurer	March 29, 2005
Bruce J. Mackey Jr.	(Principal Accounting Officer)
/s/ Barry M. Portnoy
Barry M. Portnoy	Managing Director	March 29, 2005
/s/ Gerard M. Martin
Gerard M. Martin	Managing Director	March 29, 2005
/s/ Bruce M. Gans
Bruce M. Gans	Director	March 29, 2005
/s/ Barbara D. Gilmore
Barbara D. Gilmore	Director	March 29, 2005
/s/ Arthur G. Koumantzelis
Arthur G. Koumantzelis	Director	March 29, 2005

EX-2.8

Exhibit 2.8

PURCHASE AND SALE AGREEMENT

BY AND AMONG

FIVE STAR QUALITY CARE, INC.,

AS PURCHASER,

and

FRANCISCAN MANOR ASSOCIATES, LLC,

MUIRFIELD ASSOCIATES, LLC,

PRESTWICKE ASSOCIATES, LLC,

ROYAL ABERDEEN ASSOCIATES, LLC,

TROON ASSOCIATES, LLC, and

TURNBERRY ASSOCIATES, LLC
AS SELLER

___________________________

JANUARY 21, 2005

Table of Contents

SECTION I.  DEFINITIONS

1.1.  “Agreement”

1.2.  “Assigned Assets”

1.3.  “Broker”

1.4.  “Business Day”

1.5.  “Closing”

1.6.  “Closing Date”

1.7.  “Code”

1.8.  “Contracts”

1.9.  “Deposit”

1.10.  “ERISA Affiliate”

1.11.  “Escrow Agent”

1.12.  “Employee Benefit Plan”

1.13.  “ERISA”

1.14.  “FF&E”

1.15.  “Facility”

1.16.  “Files and Records”

1.17.  “GAAP”

1.18.  “Gordon”

1.19.  “Healthcare Licenses”

1.20.  “Improvements”

1.21.  “Indemnification Claim”

1.22.  “Indemnified Parties” and “Indemnified Party”

1.23.  “Inspection Period”

1.24.  “Intangible Property”

1.25.  “Intellectual Property”

1.26.  “Inventory”

1.27.  “Knowledge”

1.28.  “Land”

1.29.  “Leases”

1.30.  “Licenses and Permits”

1.31.  “Objection Notice”

1.32.  “Other Personal Property”

1.33.  “Payable Holdback Amount”

1.34.  “Permitted Exceptions”

1.35.  “Person”

1.36.  “Property”

1.37.  “Purchase Price”

1.38.  “Purchaser”

1.39.  “Purchaser Claims”

1.40.  “Resident Agreements”

1.41.  “Resident”

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1.42.  “Resident Deposit”

1.43.  “Seller” and “Sellers”

1.44.  “Seller Benefit Arrangement”

1.45.  “Seller Employee”

1.46.  “Seller Employee Benefit Plan”

1.47.  “Seller Financial Statements”

1.48.  “Subsidiaries”

1.49.  “Survey”

1.50.  “Tenant”

1.51.  “Title Commitment”

1.52.  “Title Company”

1.53.  “Title Policy”

1.54.  “Trade Payables”

1.55.  “Voluntary Lien”

1.56.  “Warranties”

SECTION II.  PURCHASE AND SALE; CLOSING

2.1.  Purchase and Sale.

2.2.  Closing.

2.3.  Purchase Price.

2.4.  Duties of Escrow Agent.

2.5.  Bulk Sales Waiver.

SECTION III.  DILIGENCE, ETC.

3.1.  Diligence Inspections.

3.2.  Title and Survey Matters.

3.3.  Seller’s Diligence Materials.

3.4.  Other Diligence Materials.

3.5.  Confidentiality.

3.6.  Termination of Agreement.

SECTION IV.  CONDITIONS TO THE PURCHASER’S OBLIGATION TO CLOSE

4.1.  Closing Documents.

4.2.  Condition of Property, Etc.

4.3.  Title Policy.

SECTION V.  CONDITIONS TO THE SELLER’S OBLIGATION TO CLOSE

5.1.  Purchase Price.

5.2.  Closing Documents.

5.3.  Representations.

SECTION VI.  REPRESENTATIONS AND WARRANTIES OF THE SELLERS

6.1.  Representations of the Sellers.

6.2.  Survival of the Seller’s Representations.

6.3.  Purchaser’s Right to Indemnification.

6.4.  “As Is”.

SECTION VII.  REPRESENTATIONS AND WARRANTIES OF THE PURCHASER

7.1.  Representations of the Purchaser.

7.2.  Survival, Etc.

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SECTION VIII.  COVENANTS OF THE SELLERS

8.1.  Compliance with Laws, Etc.

8.2.  Approval of Agreements.

8.3.  Compliance with Agreements.

8.4.  Notice of Material Changes or Untrue Representations.

8.5.  Operation of Property.

8.6.  Insurance.

8.7.  Employees.

8.8.  Cooperation.

8.9.  Licensing Approval.

8.10.  Bulk Sales.

SECTION IX.  APPORTIONMENTS AND OTHER ADJUSTMENTS

9.1.  Real Property Apportionments and Other Adjustments.

9.2.  Closing Costs.

9.3.  Receivables and Payables.

SECTION X.  DAMAGE TO OR CONDEMNATION OF PROPERTY

10.1.  Casualty.

10.2.  Condemnation.

SECTION XI.  DEFAULT

11.1.  Default by the Seller.

11.2.  Default by the Purchaser.

SECTION XII.  MISCELLANEOUS

12.1.  Allocation of Liability.

12.2.  Brokers.

12.3.  Publicity.

12.4.  Financials.

12.5.  Notices.

12.6.  Waivers, Etc.

12.7.  Assignment; Successors and Assigns.

12.8.  Severability.

12.9.  Counterparts, Etc.

12.10.  Performance on Business Days.

12.11.  Attorneys Fees.

12.12.  Section and Other Headings.

12.13.  Time of Essence.

12.14.  GOVERNING LAW.

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PURCHASE AND SALE AGREEMENT

THIS PURCHASE AND SALE AGREEMENT is made and entered into as of January 21, 2005 by and among FIVE STAR QUALITY CARE, INC., a Maryland corporation, as purchaser (the “Purchaser”), and each of the limited liability companies identified as a “Seller” on the signature page hereof (each, a “Seller” and, collectively, the “Sellers”).

WITNESSETH:

WHEREAS, the Sellers are the owners of the Properties (this and other capitalized terms used and not otherwise defined herein shall have the meanings given such terms in Section 1); and

WHEREAS, the Purchaser desires to purchase the Properties from the Sellers, and the Sellers desire to sell the Properties to the Purchaser, subject to and upon the terms and conditions hereinafter set forth;

NOW, THEREFORE, in consideration of the mutual covenants herein contained and other good and valuable consideration, the mutual receipt and legal sufficiency of which are hereby acknowledged, the Sellers and the Purchaser, intending to be legally bound, hereby agree as follows:

SECTION I.  DEFINITIONS

Capitalized terms used in this Agreement shall have the meanings set forth below or in the section of this Agreement referred to below:

1.1.          “Agreement”  shall mean this Purchase and Sale Agreement, together with all of the Schedules and Exhibits attached hereto, as it and they may be amended from time to time as herein provided.

1.2.          “Assigned Assets”  shall mean, with respect to any Property, collectively, the Contracts, Intangible Property, Intellectual Property, Leases, Licenses and Permits, Resident Agreements, Resident Deposits and Warranties related to such Property.

1.3.          “Broker”  shall mean Marcus & Millichap of Chicago.

1.4.          “Business Day”  shall mean any day other than a Saturday, Sunday or any other day on which banking institutions

in The Commonwealth of Massachusetts or The Commonwealth of Pennsylvania are authorized by law or executive action to close.

1.5.          “Closing”  shall have the meaning given such term in Section 2.2.

1.6.          “Closing Date”  shall have the meaning given such term in Section 2.2.

1.7.          “Code”  shall mean the Internal Revenue Code of 1986.

1.8.          “Contracts”  shall mean, with respect to any Property, collectively, all contracts and agreements to which any Seller is a party relating to the ownership, use, operation or maintenance of such Property.

1.9.          “Deposit”  shall have the meaning given such term in Section 2.3.

1.10.        “ERISA Affiliate”  shall mean a Person and/or such Person’s Subsidiaries or any trade or business (whether or not incorporated) which is under common control with such Person or such Person’s Subsidiaries or which is treated as a single employer with such Person or any Subsidiary of such Person under Section 414(b), (c), (m) or (o) of the Code or Section 4001(b)(1) of ERISA.

1.11.        “Escrow Agent”  shall mean the New York office of Lawyers Title Insurance Corporation or such other person as shall be reasonably acceptable to the Purchaser and the Sellers.

1.12.        “Employee Benefit Plan”  shall mean any employee benefit plan, as defined in Section 3(3) of ERISA.

1.13.        “ERISA”  shall mean the Employee Retirement Income Security Act of 1974.

1.14.        “FF&E”  shall mean, with respect to each Property, collectively, all fixtures, furniture, equipment, artwork, machinery, systems owned by the Seller which is the owner of such Property and attached or appurtenant to, located on or used in connection with the ownership, use, operation or maintenance of such Property.  The FF&E for each Property shall include any motor vehicles which are being used in connection with the ownership, use, operation or maintenance of such Property.  In no event shall the FF&E include any item which is owned by any Resident at any Property.

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1.15.        “Facility”  shall mean, with respect to any Property, the assisted living facility and/or Alzheimer’s care facility currently being operated on such Property.

1.16.        “Files and Records”  shall mean, with respect to any Property, collectively, all books, records, files, and papers, whether in hard copy or computer format, used in connection with the operation of such Property, including, without limitation, sales, marketing and advertising materials, lists of present suppliers and personnel and employment records, books of account and other financial records.  In no event shall the Files and Records include any minute books or other documents pertaining exclusively to the organization or governance of any Seller.

1.17.        “GAAP”  shall mean United States generally accepted accounting principles as in effect on the date of the applicable Seller Financial Statements being referenced.

1.18.        “Gordon”  shall have the meaning given such term in Section 6.3.

1.19.        “Healthcare Licenses”  shall have the meaning given such term in Section 6.1(l).

1.20.        “Improvements”  shall mean, with respect to any Property, collectively, all buildings, fixtures and other improvements located on the Land relating to such Property, together with all fixtures and other property affixed thereto.

1.21.        “Indemnification Claim”  shall have the meaning given such term in Section 6.3.

1.22.        “Indemnified Parties” and “Indemnified Party”  shall have the meanings given such terms in Section 6.3.

1.23.        “Inspection Period”  shall mean the period expiring on 8:00 p.m., local time at the Property, on February 3, 2005.

1.24.        “Intangible Property”  shall mean, with respect to each Property, collectively, all of the intangible property owned by the Seller which is the owner of such Property and which arises from or is used in connection with the ownership, use, operation or maintenance of such Property.  The Intangible Property shall include, without limitation, the following: (i) all good will; and (ii) all accounts receivable representing amounts owed to the Seller which is the owner of such Property for goods and services provided by Seller or on its behalf at such Property.

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1.25.        “Intellectual Property”  shall have the meaning given such term in Section 6.1(q).

1.26.        “Inventory”  shall mean, with respect to any Property, collectively, any consummables, inventories, stocks, supplies and other related items owned by the Seller which is the owner of such Property and which are used in connection with the operation or maintenance of such Property or the provision of services to the Residents of such Property.

1.27.        “Knowledge”  shall mean the actual knowledge of any Person (except as otherwise specifically provided) after diligent inquiry and investigation.

1.28.        “Land”  shall mean the parcels of land described in Schedule 1.22 attached hereto and made a part hereof, together with all easements, rights of way, and appurtenances which the Sellers may now own or hereafter acquire with respect thereto.

1.29.        “Leases”  shall mean, with respect to any Property, collectively, any leases or other agreements pursuant to which a third party occupies space at such Property.

1.30.        “Licenses and Permits”  shall mean, with respect to any Property, any certificates of occupancy and other transferable licenses, permits, registrations, authorizations, use agreements, orders, or approvals of governmental or quasi-governmental agencies and authorities (whether federal, state, local, municipal, or foreign) or private parties relating to the construction, use, operation, or enjoyment of such Property.

1.31.        “Objection Notice”  shall have the meaning given such term in Section 3.2.

1.32.        “Other Personal Property”  shall mean, with respect to any Property, collectively, all of the personal property (other than the FF&E and Files and Records) which is owned by the Seller that owns such Property and which is used in connection with the ownership, use, operation or maintenance of such Property.  In no event shall the Other Personal Property include any item which is owned by any Resident at any Property or any petty cash on hand at any Property.

1.33.        “Payable Holdback Amount”  shall have the meaning given such term in Section 9.3(b).

1.34.        “Permitted Exceptions”  shall mean, collectively, (a) liens for taxes, assessments and governmental charges not

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yet due and payable or due and payable but not yet delinquent; and (b) such other non monetary encumbrances with respect to the Property which are not objected to by the Purchaser in accordance with Section 3.2.

1.35.        “Person”  shall mean an individual, partnership, joint venture, corporation, limited liability company, real estate investment trust, any other form of business organization, and any government or governmental authority.

1.36.        “Property”  shall mean, collectively, the FF&E, the Facility, the Files and Records, the Improvements, the Intangible Property, the Inventory, the Land, the Licenses and Permits, the Other Personal Property, the Resident Agreements, the Resident Deposits and the Warranties.

1.37.        “Purchase Price”  shall have the meaning given such term in Section 2.3.

1.38.        “Purchaser”  shall have the meaning given such term in the preambles to this Agreement, together with any permitted successors and assigns.

1.39.        “Purchaser Claims”  shall have the meaning given such term in Section 6.3.

1.40.        “Resident Agreements”  shall mean, with respect to any Property, collectively, all resident agreements and other agreements or arrangements for the use or occupancy of any units, beds or other facilities provided, meals served, goods sold or services provided, in each case, on or at such Property, or any portion thereof, or in connection with the operation of the Facility on such Property.

1.41.        “Resident”  shall mean a resident under a Resident Agreement.

1.42.        “Resident Deposit”  shall mean any deposit or other form of security given by a Resident pursuant to a Resident Agreement.

1.43.        “Seller” and “Sellers”  shall have the meanings given such terms in the preambles to this Agreement.

1.44.        “Seller Benefit Arrangement”  shall mean any employment, consulting, severance or other similar contract, arrangement or policy and each plan, arrangement (written or oral), program, agreement or commitment providing for insurance

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coverage (including any self-insured arrangements), workers’ compensation, disability benefits, supplemental unemployment benefits, vacation benefits, retirement benefits, life, health, disability or accident benefits (including, without limitation, any “voluntary employees’ beneficiary association” as defined in Section 501(c)(9) of the Code providing for the same or other benefits) or for deferred compensation, profit-sharing bonuses, stock options, stock appreciation rights, stock purchases or other forms of incentive compensation or post-retirement insurance, compensation or benefits which (i) is not a Seller Employee Benefit Plan, (ii) is entered into, maintained, contributed to or required to be contributed to, as the case may be, by any Seller, or any ERISA Affiliate of such Seller, and (iii) covers any employees, former employees, directors or former directors of such Seller or any of its ERISA Affiliates.

1.45.        “Seller Employee”  shall have the meaning given such term in Section 8.7.

1.46.        “Seller Employee Benefit Plan”  shall mean any Employee Benefit Plan that is sponsored or contributed to by any Seller or any of its ERISA Affiliates (or that has been maintained by such Person within the preceding 6 years) covering employees or former employees of such Seller or any of its ERISA Affiliates.

1.47.        “Seller Financial Statements”  shall have the meaning given such term in Section 6.1(e).

1.48.        “Subsidiaries”  shall mean all corporations, associations or other entities of which a Person owns, directly or indirectly, more than twenty percent (20%) of the voting stock or other voting equity interests of such corporation, association or other entity.

1.49.        “Survey”  shall have the meaning given such term in Section 3.2.

1.50.        “Tenant”  shall mean each tenant under a Lease.

1.51.        “Title Commitment”  shall have the meaning given such term in Section 3.2.

1.52.        “Title Company”  shall mean the New York office of Lawyers Title Insurance Corporation or such other title company as may be selected by the Purchaser.

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1.53.        “Title Policy”  shall have the meaning given such term in Section 4.3

1.54.        “Trade Payables”  shall mean amounts payable to suppliers of goods and services in the ordinary course of business.

1.55.        “Voluntary Lien”  shall mean any mortgage, deed or trust or other consensual monetary lien (other than a Permitted Exception), as well as any non-consensual lien that results from a breach by any Seller of its obligations under this Agreement.

1.56.        “Warranties”  shall mean, with respect to any Property, collectively, all assignable warranties or guaranties, if any, presently in effect from contractors, suppliers or manufacturers of the Improvements or the FF&E with respect to such Property.

SECTION II.  PURCHASE AND SALE; CLOSING

2.1.          Purchase and Sale.  In consideration of the payment of the Purchase Price by the Purchaser to the Sellers and for other good and valuable consideration, the Sellers hereby agree to sell to the Purchaser, and the Purchaser hereby agrees to purchase from the Sellers, the Properties for the Purchase Price, subject to and in accordance with the terms and conditions of this Agreement.  The obligations of the Sellers under this Agreement are joint and several.  If any Seller fails to fulfill its obligations under this Agreement, the Purchaser may, at its election, be relieved of all further obligations this Agreement without thereby waiving any rights it may have by reason of such failure.

2.2.          Closing.  The purchase and sale of the Property shall be consummated at a closing (the “Closing”) to be held at the offices of Sullivan & Worcester LLP, One Post Office Square, Boston, Massachusetts 02109, or at such other location as the Seller and the Purchaser may agree, at 10:00 a.m., local time at the Properties, on the later to occur of (i) the date which is one (1) Business Day following the date on which the Inspection Period expires or (ii) February 4, 2005 (the “Closing Date”).

2.3.          Purchase Price. 

(a)           The purchase price to be paid for the Property (the “Purchase Price”) shall be SIXTY THREE MILLION FIVE HUNDRED THOUSAND DOLLARS ($63,500,000).  The Purchase Price shall be paid as follows:

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(i)            Within two (2) Business Days after the execution of this Agreement by all parties, the Purchaser shall deposit with the Escrow Agent the sum of ONE MILLION DOLLARS ($1,000,000) (such amount, together with all interest earned thereon, the “Deposit”); and

(ii)           The balance of the Purchase Price, subject to adjustment as provided in Article 9, shall be paid by the Purchaser to the Sellers at the Closing as set forth in Schedule 2.3(a)(ii).

(b)           The Purchase Price shall be payable in immediately available federal funds by wire transfer to an account or accounts to be designated by each of the Sellers.

2.4.          Duties of Escrow Agent. 

(a)           The Escrow Agent shall hold the Deposit in an interest-bearing account designated by the Purchaser and shall pay the Deposit to the party entitled thereto in accordance with the terms of this Agreement.

(b)           The acceptance by the Escrow Agent of its duties as such under this Agreement is subject to the following terms and conditions, which all parties to this Agreement hereby agree shall govern and control with respect to the rights, duties, liabilities and immunities of the Escrow Agent:

(i)            The Escrow Agent acts hereunder as a depositary only, and is not responsible or liable in any manner whatever for the sufficiency of any amounts deposited with it;

(ii)           The Escrow Agent shall not be liable for acting upon any notice, request, waiver, consent, receipt or other instrument or document which the Escrow Agent in good faith believes to be genuine and what it purports to be;

(iii)          The Escrow Agent shall not be liable for any error in judgment, or any act done or step taken or omitted by it in good faith, or any mistake of fact or law, or anything which it may do or refrain from doing in connection herewith, except its own bad faith, gross negligence or willful misconduct;

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(iv)          The Escrow Agent may consult with, and obtain advice from, legal counsel in the event of any dispute or question as to the construction of any of the provisions hereof or its duties hereunder, and it shall incur no liability and shall be fully protected in acting in good faith in accordance with the opinion and advice of such counsel;

(v)           The Escrow Agent shall be entitled to rely upon any document, instrument or signature believed by it to be genuine and signed by either of the other parties hereto or their successors;

(vi)          The Escrow Agent may assume that any person purporting to give any notice of instructions in accordance with the provisions hereof has been duly authorized to do so; and

(vii)         The Sellers and the Purchaser hereby release the Escrow Agent from any act done or omitted to be done by the Escrow Agent in good faith in the performance of its duties hereunder.

(c)           The Sellers and the Purchaser may collectively remove the Escrow Agent at any time upon not less than five (5) Business Days’ prior notice to the Escrow Agent; in such case, the Purchaser, by notice to the Sellers, shall appoint a successor Escrow Agent, who shall (1) be reasonably satisfactory to the Sellers and (2) accept such appointment and agree in writing to be bound by the terms of this Agreement.  If no successor Escrow Agent is appointed and acting hereunder within five (5) Business Days after the removal of the Escrow Agent or there is a dispute among the parties with respect to payment of the Deposit, the Escrow Agent may deliver the Deposit into a court of competent jurisdiction.  Upon delivery of the Deposit to a successor agent or court of competent jurisdiction, the Escrow Agent shall be released and discharged from all further obligations hereunder.

(d)           The Escrow Agent agrees to serve without compensation for its services; provided, however, that the Purchaser, on the one hand, and the Sellers, on the other hand, hereby agree to reimburse, or to advance to, the Escrow Agent one-half (1/2) all reasonable expenses of the Escrow Agent incurred in the performance of its duties hereunder.

2.5.          Bulk Sales Waiver.  The parties agree to waive: (a) notice to the Department of Revenue of the transfers

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contemplated herein within ten (10) days prior to Closing; and (b) the furnishing of a bulk sales certificate under Section 1403 of the Pennsylvania Fiscal Code, as amended.

SECTION III.  DILIGENCE, ETC.

3.1.          Diligence Inspections.  From and after the date of this Agreement, the Sellers shall permit the Purchaser and its representatives to perform such due diligence with respect to the Properties as the Purchaser deems necessary or advisable in its sole discretion, subject to the terms and conditions of this Agreement.  Such due diligence may include, without limitation, inspections of the Properties (including, without limitation, all roofs, electric, mechanical and structural elements, and HVAC systems), soil analysis and environmental investigations, examinations of the Sellers’ records with respect to the Properties (and the right to make copies of the same), all at such reasonable times as the Purchaser or its representatives may request.  Any such due diligence shall be performed in a manner consistent with this Agreement and so as to minimize any interference with the Residents.  To the extent that the Purchaser damages or disturbs any Property, the Purchaser shall, to the extent practicable, return such Property to substantially the same condition which existed immediately prior to such damage or disturbance.  The Purchaser shall indemnify, defend and hold harmless the Sellers from and against any and all expense, loss or damage which the Sellers may incur as a result of any act or omission of the Purchaser or its representatives, agents or contractors, other than any expense, loss or damage to the extent arising from any Seller’s negligence or any act or omission of any Seller during any such inspection.  Such indemnification agreement shall survive the termination of this Agreement for a period of one (1) year.

3.2.          Title and Survey Matters. 

(a)           Promptly upon execution of this Agreement, the Purchaser shall order from the Title Company and direct the Title Company promptly to deliver to the Purchaser and the Sellers one or more preliminary title commitments, having an effective date after the date of this Agreement, for one or more ALTA extended owner’s policies of title insurance with respect to the Properties, together with copies of all instruments and documents referred to therein as exceptions to title (collectively, the “Title Commitment”).

(b)           Promptly upon execution of this Agreement, the Purchaser may arrange for the preparation of one or more ALTA

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surveys with respect to the Properties (collectively, the “Survey”) by a licensed surveyor in the jurisdiction(s) in which the Properties are located.  Alternatively, the Purchaser may arrange to have any existing surveys in the possession of the Seller recertified to the Purchaser as of a current date or the Purchaser may request that the Sellers provide the Title Company with an affidavit, in form and substance reasonably satisfactory to the Sellers, which certifies that no changes have been made with respect to the location of the Improvements and other matters shown on such existing surveys since the date of the same.  In either such case, the existing surveys in the possession of the Sellers shall be deemed to be the “Survey” for purposes of this Agreement.

(c)           Prior to the expiration of the Inspection Period, the Purchaser shall give the Sellers notice of any title exceptions or survey matters (other than Permitted Exceptions) as to which the Purchaser objects (an “Objection Notice”).  Subject to Section 3.2(c), if, for any reason, the Sellers are unable or unwilling to take such actions as may be required to cause such exceptions to be removed from the Title Commitment or the Survey, or to otherwise remedy such matters, the Sellers shall give the Purchaser notice thereof; it being understood and agreed that the failure of the Sellers to give such notice within two (2) Business Days after receiving an Objection Notice shall be deemed an election by the Sellers to cause such removal and remedy (and, if necessary, the Closing Date shall be extended until the date which is two (2) Business Days after the date on which the Sellers deliver or are deemed to have delivered to such notice).  If the Sellers shall be unable or unwilling (or the Sellers are deemed unable or unwilling) to remove any title defects or remedy any survey matters to which the Purchaser has objected, the Purchaser may elect (i) to terminate this Agreement by written notice given to the Sellers at or prior to Closing or (ii) to consummate the transactions contemplated hereby notwithstanding such defect, without any abatement or reduction in the Purchase Price on account of such defect.

(d)           In all events, at or prior to Closing, the Sellers shall cure (i) all Voluntary Liens and (ii) all other exceptions identified in an Objection Notice provided the aggregate cost of curing such other exceptions does not exceed SIXTY THREE THOUSAND FIVE HUNDRED DOLLARS ($63,500).  Nothing contained in this Section 3.2(d) shall be deemed to permit either party to extend the Closing Date, it being acknowledged and agreed that if the Sellers are unable to cure any exception

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referred to in clause (ii) above prior to Closing, the Purchaser shall only have the right to terminate this Agreement in accordance with Section 3.2(c) or to consummate the transactions contemplated hereby, notwithstanding such defect, except that an amount reasonably estimated to be necessary to cure such defect (which amount shall in no event exceed $63,500) shall be retained by the Escrow Agent and paid to the Purchaser to reimburse it for any amounts paid by it to cure such defect.

(e)           Further, the Sellers shall use commercially reasonable efforts (such as furnishing the Title Company with an affidavit which may be required to establish that a lease or other instrument is no longer in effect or applicable to a Property) to have all matters that do not appear to be valid exceptions to any Seller’s title to its Property including, without limitation, references to instruments or documents which on their face or by law are no longer effective and matters which have no apparent applicability to a Property), omitted as exceptions in the Title Commitment.

3.3.          Seller’s Diligence Materials.  On or prior to the date of this Agreement, the Sellers shall deliver (or shall have delivered) to the Purchaser true, correct and complete copies of all documents required to be delivered by the Sellers under this Agreement, including, without limitation, all Resident Agreements, Leases, Files and Records, Licenses and Permits, environmental reports, title insurance policies, title reports, title commitments and surveys with respect to the Properties as may be in the Seller’s possession or control.

3.4.          Other Diligence Materials.  Throughout the Inspection Period and thereafter until the Closing or earlier termination of this Agreement, the Sellers shall permit the Purchaser and its representatives to review and examine all environmental assessment reports, building evaluations, financial data and other investigations and materials pertaining to the Properties as are in the possession or control of the Sellers and shall permit the Purchaser to make copies of any such materials as the Purchaser or its representatives may request.  The Purchaser shall coordinate with the Sellers to schedule such reviews and examinations at such reasonable times and in such reasonable places as the parties may reasonably agree upon.  In the event that the Closing does not take place as herein contemplated for any reason, the Purchaser shall either (a) return all such copies to the Seller or (b) destroy all such copies.

3.5.          Confidentiality.  The Purchaser agrees to treat any information which it obtains pursuant to this Article III as

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confidential and shall not disclose any such information to any Person, provided there shall be no obligation to treat as confidential information that (a) was publicly known or otherwise known to the Purchaser prior to the time of such disclosure or (b) subsequently becomes known through no act or omission by the Purchaser.  Notwithstanding the foregoing, the Purchaser may deliver copies of such information to (i) the Purchaser’s directors, officers, employees, and to its agents and professional consultants, (ii) any Person to whom the Purchaser offers to sell any of the Properties, provided that said Persons agree to be bound by the terms hereof regarding such information, (iii) any federal or state regulatory authority having jurisdiction over the Purchaser and which requires such disclosure or (iv) any other Person to which such disclosure or disclosure may be necessary or appropriate (A) in compliance with any law, rule, regulation or order applicable to such Person, (B) in response to any subpoena or other legal process, or (C) to the extent that the Purchaser reasonably determines disclosure is necessary in the enforcement of or for the protection of its rights and remedies under this Agreement.

3.6.          Termination of Agreement.  If the results of the inspections performed by or on behalf of the Purchaser with respect to any Property pursuant to this Article III shall be unsatisfactory to the Purchaser in any respect or if the Purchaser otherwise shall determine not to proceed to Closing, then the Purchaser shall have the right, in the Purchaser’s sole and absolute discretion, to terminate this Agreement in whole but not in part at any time prior to the expiration of the Inspection Period by giving written notice thereof to the Sellers, in which event this Agreement shall terminate and be of no further force and effect and neither party shall have any liability to the other hereunder and the Escrow Agent shall refund the Deposit to the Purchaser promptly upon its receipt of the Purchaser’s request therefor.  In the event that the Purchaser shall fail to terminate this Agreement as aforesaid, the Purchaser shall have no further right to terminate this Agreement pursuant to this Section 3.6.

SECTION IV.  CONDITIONS TO THE PURCHASER’S OBLIGATION TO CLOSE

The obligation of the Purchaser to acquire the Properties shall be subject to the satisfaction of the following conditions precedent on and as of the Closing Date:

4.1.          Closing Documents.  Each of the Sellers shall have delivered to the Purchaser the following:

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(a)           Good and sufficient grant deeds with covenants against grantor’s acts with respect to each Property, in proper statutory form for recording, duly executed and acknowledged by the Seller which owns such Property, conveying title to the Land and Improvements, free from all liens and encumbrances other than the Permitted Exceptions and otherwise substantially in the form attached hereto as Exhibit A (collectively, the “Deeds”);

(b)           An assignment from each Seller and an assumption by the Purchaser, duly executed by such Seller, with respect to the Assigned Assets with respect to the Property owned by such Seller and otherwise substantially in the form attached hereto as Exhibit B;

(c)           Bills of sale from each Seller, duly executed by such Seller, with respect to the FF&E, the Files and Records, the Inventory and the Other Personal Property with respect to the Property owned by such Seller and otherwise substantially in the form attached hereto as Exhibit C;

(d)           A non-competition agreement, duly executed by Scott Gordon, substantially in the form attached hereto as Exhibit D;

(e)           Any agreement with respect to the Purchaser’s operation of the Properties under the Sellers’ Healthcare Licenses, the form and substance of which shall be negotiated and agreed upon during the Inspection Period;

(f)            Duly executed original copies of the Assigned Assets;

(g)           An affidavit dated as of the Closing Date, in respect of Section 1445 of the Internal Revenue Code of 1986, as amended, sufficient to provide one exemption under subdivision (b) thereof;

(h)           To the extent the same are in the Sellers’ possession or control, original, fully executed copies of all material documents and agreements, plans and specifications and contracts, licenses and permits pertaining to each Property, including, without limitation, certificates of occupancy with respect to each Property;

(i)            Evidence of each Seller’s authority to consummate the transactions contemplated this Agreement, in form and substance reasonably satisfactory to the Purchaser and the Title Company; and

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(j)            A parties in possession affidavit, a mechanic’s lien affidavit, a gap indemnity and such other conveyance documents, certificates, deeds and other instruments as the Purchaser, the Sellers or the Title Company may reasonably require and as are customary in like transactions in the county in which the Properties are located.

4.2.          Condition of Property, Etc. 

(a)           The Properties, including all improvements located thereon, shall be in substantially the same physical condition as on the date of this Agreement, ordinary wear and tear and damage by casualty or condemnation excepted (except as otherwise expressly provided pursuant to this Agreement);

(b)           The Sellers shall have fully paid for and installed new carpet and new furniture costing approximately $130,000 in the Facility commonly known as Franciscan Manor;

(c)           No notice of default shall have been given or received by any Seller under any material Contract or other agreement benefiting or affecting the Properties in any respect (including any Lease or Resident Agreement) and all such agreements, Leases and Resident Agreements shall be in full force and effect (the Sellers agreeing to issue default notices in a commercially reasonable manner consistent with past practices);

(d)           All material licenses, permits and other authorizations necessary for the current use, occupancy and operation of the Properties shall be in full force and effect; and

(e)           All representations and warranties of the Sellers herein shall be true, correct and complete in all material respects on and as of the Closing Date and the Sellers shall have performed all covenants and obligations required to be performed by the Sellers on or before the Closing Date; including, without limitation, the curing of all title and survey matters which the Sellers shall have undertaken to perform.

4.3.          Title Policy.  The Title Company shall be prepared, subject only to payment of the usual and customary premium, to issue one or more title insurance policies to the Purchaser, insuring title to the Properties is vested in the Purchaser, subject only to the Permitted Exceptions, or such other exceptions as may be approved by the Purchaser in accordance

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with Section 3.2, with such endorsements as shall be required by the Purchaser and otherwise in form and substance consistent with the Title Commitment (collectively, the “Title Policy”).

SECTION V.  CONDITIONS TO THE SELLER’S OBLIGATION TO CLOSE

The obligation of the Sellers to convey the Properties to the Purchaser is subject to the satisfaction of the following conditions precedent on and as of the Closing Date:

5.1.          Purchase Price.  The Purchaser shall deliver to the Sellers the Purchase Price payable hereunder.

5.2.          Closing Documents.  The Purchaser shall deliver to the Sellers duly executed and acknowledged counterparts of the documents described in Section 4.1 (as applicable) and evidence of the Purchaser’s authority to consummate the transactions contemplated this Agreement, in form and substance reasonably satisfactory to the Sellers and the Title Company.

5.3.          Representations.  All representations and warranties of the Purchaser herein shall be true, correct and complete in all material respects on and as of the Closing Date and the Purchaser shall have performed all covenants and obligations required to be performed by the Purchaser on or before the Closing Date.

SECTION VI.  REPRESENTATIONS AND WARRANTIES OF THE SELLERS

6.1.          Representations of the Sellers.  To induce the Purchaser to enter into this Agreement, the Sellers, jointly and severally, represent and warrant to the Purchaser as follows:

(a)           Status and Authority of the Sellers, Etc.  Each Seller is a limited liability company, duly organized, validly existing and in good standing under the laws of its state of formation, and has all requisite power and authority under the laws of such state and its charter documents to enter into and perform its obligations under this Agreement and to consummate the transactions contemplated hereby.  Each Seller is duly qualified to do business in The Commonwealth of Pennsylvania.

(b)           Action of the Sellers, Etc.  Each Seller has taken all necessary action to authorize the execution, delivery and performance of this Agreement, and upon the execution and delivery of any document to be delivered by such Seller on or prior to the Closing Date, this Agreement and such document shall constitute the valid and binding obligation and agreement

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of such Seller, enforceable against such Seller in accordance with its terms, except as such enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws of general application affecting the rights and remedies of creditors.

(c)           No Violations of Agreements.  Neither the execution, delivery or performance of this Agreement by any Seller, nor compliance with the terms and provisions hereof, will result in any breach of the terms, conditions or provisions of, or conflict with or constitute a default under, or result in the creation of any lien, charge or encumbrance upon any of the Properties pursuant to the terms of any indenture, mortgage, deed of trust, note, evidence of indebtedness or any other agreement or instrument by which any Seller is bound.

(d)           Litigation.  Except as set forth on Schedule 6.1(d) attached hereto and made a part hereof, no investigation, action or proceeding is pending, and, to the Sellers’ knowledge, no action or proceeding is threatened and no investigation looking toward any such action or proceeding has begin, against any Seller and no investigation, action or proceeding is pending and, to the Sellers’ knowledge, no action or proceeding is threatened and no investigation looking toward such an action or proceeding has begun, which (i) questions the validity of this Agreement or any action taken or to be taken pursuant hereto, (ii) could reasonably be expected to result in any material adverse change in the business, operation, affairs or condition of any of the Properties, (iii) could reasonably be expected to result in or subject any of the Properties to a material liability, or (iv) involves condemnation or eminent domain proceedings against any part of the Properties. 

(e)           Financial Statements.  The Sellers have delivered to the Purchaser complete and accurate copies of the financial statements of each of the Sellers for the twelve (12) month period ended December 31, 2004 (collectively, the “Seller Financial Statements”).  The Seller Financial Statements, including in each case the notes thereto, have been prepared in accordance with GAAP applied on a consistent basis throughout the periods covered thereby, except as otherwise noted therein (and except with respect to the deletion of amortization and depreciation and the insertion of bed reserves), are complete and accurate, do not contain any untrue statement of a material fact or omit to state a material fact required by GAAP to be stated therein or necessary in order to make the statements contained therein not misleading, and fairly present the results of operations of the Sellers on the bases therein stated, as of

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the respective dates thereof, and for the respective periods covered thereby subject to normal year-end audit adjustments and accruals not material in amount.

(f)            No Undisclosed Liabilities.  Except as set forth in the Seller Financial Statements, as of December 31, 2004, none of the Sellers has any obligations, indebtedness or liabilities of any nature which would have been required by GAAP to be reflected on the balance sheet of such Seller as of December 31, 2004 or described in the notes thereto, that are not shown on such balance sheet or the notes to such balance sheet. Except as set forth in such balance sheet, no Seller has, on the date of this Agreement, outstanding any material obligation, indebtedness or liability, and no Seller knows of any basis for the assertion against any Seller of any such obligation, indebtedness or liability, other than those incurred since December 31, 2004, in the ordinary course of business.

(g)           Leases and Resident Agreements.  Other than the Leases and the Resident Agreements listed on Schedule 6.1(g)  attached hereto and made a part hereof, no Seller has entered into any contract or agreement with respect to the occupancy of any of the Properties which will be binding on the Purchaser after the Closing.  The copies of the Leases and the Resident Agreements heretofore delivered by the Sellers to the Purchaser are a true, correct and complete copies thereof; the Leases and the Resident Agreements have not been amended except as evidenced by amendments similarly delivered and constitute the entire agreement between the Sellers and the Tenants or Residents thereunder.  Schedule 6.1(g) identifies the Property and unit number where each Resident resides, the current monthly fee charged to such Resident, and the amount of any Resident Deposit provided by such Resident.  Except as otherwise set forth in Schedule 6.1(g): (i) to each Seller’s knowledge, each of the Leases and the Resident Agreements is in full force and effect on the terms set forth therein, there are no defaults or circumstances which, with the giving of notice, the passage of time or both, would constitute a default by either party thereunder; (ii) to each Seller’s knowledge, each Tenant and each Resident is legally required to pay all sums and perform all material obligations set forth therein without concessions, abatements, offsets, defenses or other basis for relief or adjustment; (iii) no Tenant or Resident has asserted in writing or, to the Sellers’ knowledge, has any defense to, offsets or claims against, rent payable by it or the performance of its other obligations under its Lease or Resident Agreement; and (iv) no Tenant or Resident has prepaid any rent or other charge

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more than thirty (30) days in advance of its due date.  The other information set forth in the Schedule 6.1(g) is true, correct and complete in all material respects.

(h)           Contracts, Etc.  Other than the Leases, the Resident Agreements and the Contracts listed on Schedule 6.1(h) attached hereto and made a part hereof, no Seller has entered into any contract or agreement with respect to any Property or otherwise.  The copies of the Contracts heretofore delivered by the Sellers to the Purchaser are true, correct and complete copies thereof.  To each Seller’s knowledge, no Seller nor any other party to any Contract is in default of any of its obligations thereunder.

(i)            FF&E and Other Personal Property.  Schedule 6.1(i) attached hereto and made a part hereof contains general description of the FF&E and the Other Personal Property located at each Property and shows the current title holder, make, model and VIN for all motor vehicles which are being used in connection with the ownership, use, operation or maintenance of each Property.

(j)            Utilities, Etc.  To the Sellers’ knowledge, all utilities and services necessary for the use and operation of each Property (including, without limitation, road access, gas, water, electricity and telephone) are available thereto.  To the Sellers’ knowledge, no fact, condition or proceeding exists which would result in the termination or impairment of the furnishing of such utilities to any Property.

(k)           Compliance With Law; No Defaults.  To the Sellers’ knowledge (i) none of the Properties violates in any material respect any material federal, state, municipal and other governmental statutes, ordinances, by-laws, rules, regulations or any other legal requirements, including, without limitation, those relating to construction, occupancy, zoning, adequacy of parking, environmental protection, occupational health and safety and fire safety applicable thereto and (ii) there are presently in effect all material licenses, permits and other authorizations necessary for the current use, occupancy and operation thereof.  No Seller has received written notice of any threatened request, application, proceeding, plan or study which would materially adversely affect the present use or zoning of any of the Properties or which would modify or realign any adjacent street or highway.  No Seller is in default or, to any Seller’s knowledge, alleged to be in default, with respect to any judgment, order, writ, injunction or decree of any court or any federal, state, municipal or other governmental

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authority, department, commission, board or agency or other governmental entity.

(l)            Healthcare Licensing.  The Sellers have obtained all licenses which are necessary and appropriate to permit the Properties to be operated as home care centers and to permit the Sellers to provide the services which they currently provide to the current Residents of the Properties (the “Healthcare Licenses”).  The Sellers have provided the Purchaser with true, correct and complete copies of the last two (2) annual compliance surveys related to such Healthcare Licenses for each Property.  Each of the Healthcare Licenses is in full force and effect and no Seller has received any written notice regarding, or has any knowledge of, any circumstance at any Property which needs to be rectified in connection with such Healthcare Licenses.  To the Sellers’ knowledge, each Property is in compliance with all applicable licensing requirements with respect to such Property.  No Seller has taken any action which might jeopardize the effectiveness or good standing of any Healthcare Licenses.  No Seller is aware of any circumstances which might prevent the Purchaser from obtaining any such licenses for the Property in its own name.

(m)          Taxes.  Except as set forth on Schedule 6.1(m) attached hereto and made a part hereof, to each Seller’s knowledge, other than the amounts disclosed by tax bills, no taxes or special assessments of any kind (special, bond or otherwise) are or have been levied with respect to any Properties, or any portion thereof, which are outstanding or unpaid, other than amounts not yet due and payable or, if due and payable, not yet delinquent, and, to each Seller’s knowledge, no such taxes or special assessments are pending or threatened.  All matters disclosed on Schedule 6.1(m) as aforesaid shall be paid and settled by the Escrow Agent or the Purchaser out of the proceeds to be received by Seller at Closing.

(n)           Hazardous Substances.  Except as disclosed to the Purchaser in writing, to each Seller’s knowledge, without independent inquiry, no Seller nor any Tenant, Resident or other occupant or user of any Property, or any portion thereof, has stored or disposed of (or engaged in the business of storing or disposing of) or has released or caused the release of any hazardous waste, contaminants, oil, radioactive or other material on such Property, or any portion thereof, in violation of any applicable Federal, state or local statutes, laws, ordinances, rules or regulations, and, to each Seller’s knowledge, without independent inquiry, except as so disclosed

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to the Purchaser, each Property is free from any such hazardous waste, contaminants, oil, radioactive and other materials, except for any such materials maintained in accordance with applicable law.

(o)           Insurance.  Schedule 6.1(o) to this Agreement sets forth a complete and accurate list of all insurance policies and other surety arrangements of any kind or nature whatsoever which are in force and to which any Seller is a named party or beneficiary, specifying the insurance carrier, the type of insurance coverage, the policy number, the date through which premiums have been paid, the aggregate amount of insurance coverage per claim or per occurrence, as the case may be, applicable self-retention limits and/or self- or co-insurance requirements, and describing in reasonable detail each pending claim under each such policy.  Such insurance provides coverage against, among other matters, property damage and other casualty loss (including loss or destruction arising from earthquakes), personal injury, workers’ compensation claims, general liability, and other similar risks and matters incident to the conduct of the business of the Sellers and similarly situated businesses and in a manner and in an amount that is consistent with industry practice.  No Seller has received written notice from any insurance carrier of defects or inadequacies at any Property which, if uncorrected, would result in a termination of insurance coverage or an increase in the premiums charged therefor.

(p)           Employment Contracts; Labor Matters.  Schedule 6.1(p)-1 to this Agreement sets forth a complete and accurate list of all employment contracts or consulting contracts between any Seller and any Person and the Sellers have delivered to the Purchaser complete and accurate copies of all such contracts, together with all amendments, waivers, modifications, supplements or side letters affecting the obligations of any party thereunder.  Schedule 6.1(p)-2 to this Agreement sets forth a complete and accurate list of all employees of the Sellers and the annual salary, benefit entitlements and other compensation paid to them or accrued as of the date of this Agreement.  Except as set forth on said Schedule 6.1(p)-2, no employees of any Seller are represented by any labor organization, and no labor organization or group of employees of any Seller have made a pending demand for recognition or have filed a petition seeking a representation proceeding with the National Labor Relations Board within the last two (2) years.

(q)           Intellectual Property.  Schedule 6.1(q) of this Agreement sets forth a complete and accurate list of all the

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trademarks and service marks (whether or not registered) and trademark and service mark registrations and applications, patent and patent applications, copyright and copyright applications, trade dress, trade and product names (collectively, the “Intellectual Property”) owned or licensed by any of the Sellers.  Except as set forth in Schedule 6.1(q), the Sellers own or have the perpetual right to use all rights under any such Intellectual Property without consideration.  To the Sellers’ knowledge, no Seller is infringing or alleged to be infringing upon the rights of any third party with respect to any of Intellectual Property, and no Seller knows of any basis for the assertion against any Seller of a claim for such infringement.  Schedule 6.1(q) sets forth a complete and accurate list of all software computer programs and databases owned by the Seller which have been purchased from third parties, other than third party software generally commercially available on a “shrink wrap” license or similar basis.

(r)            Inventory.  All items of each Seller’s Inventory reflected on the Seller Financial Statements or thereafter acquired and not subsequently disposed of in the ordinary course of business are suitable and useable in the ordinary course of business and include, and will on the Closing Date include, a sufficient but not excessive quantity of each type of such inventory and supplies in order to meet the normal requirements of each Seller’s business at each Property.  Without limiting the foregoing, such Inventory shall include, as of the Closing Date, a sufficient quantity of food and grocery items at each Property to provide for the needs of the Residents for at least one (1) week.

(s)           Pension and Benefit Plans.  Schedule 6.1(s) of this Agreement lists each Seller Employee Benefit Plan and Seller Benefit Arrangement.  The Sellers have delivered to the Purchaser with respect to each such Seller Employee Benefit Plan and Seller Benefit Arrangement complete and accurate copies of (i) all written documents comprising such plans and arrangements (including amendments and individual, trust or insurance agreements relating thereto); (ii) the two (2) most recent Federal Form 5500 series (including all schedules thereto) filed with respect to each such Seller Employee Benefit Plan; (iii) the two (2) most recent financial statements and actuarial reports, if any, pertaining to each such plan or arrangement; (iv) the summary plan description currently in effect and all material modifications thereto, if any, for each such Seller Employee Benefit Plan; and (v) written communications to employees to the extent the substance of any Seller Employee

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Benefit Plan described therein differs materially from the other documentation furnished under this Section.

(t)Accounts Receivable.  Schedule 6.1(t) attached hereto contains a true and correct list of all accounts receivable representing amounts owed to the Sellers as of December 31, 2004 for goods and services provided by the Sellers or on their behalf at the Properties, the face amount of such receivables, the periods as to which such receivables relate, and the amount of time such receivables have been outstanding.

(u)Trade Payables.  Schedule 6.1(u) attached hereto contains a true and correct list of all Trade Payables representing amounts owed by the Sellers as of December 31, 2004 for goods and services provided to the Sellers or on their behalf at the Properties, the face amount of such payables, the periods as to which such payables relate, and the amount of time such payables have been outstanding.

(v)Not a Foreign Person.  No Seller is a “foreign person” within the meaning of Section 1445 of the Internal Revenue Code of 1986, as amended, and the regulations promulgated thereunder.

(w)Disclosure.  None of the information concerning any Seller or its business, condition (financial or otherwise), assets, liabilities, properties, prospects, personnel, products, plans and policies contained herein, in any Exhibits, Schedules or in the Seller Financial Statements contains an untrue statement of a material fact or omits to state a material fact necessary to make the statements contained herein or therein, in light of the circumstances under which they were made, not misleading.

6.2.Survival of the Seller’s Representations.  The representations and warranties made in this Agreement by the Sellers shall be continuing and shall be deemed remade by the Sellers as of the Closing Date, with the same force and effect as if made on, and as of, the Closing Date.  All representations and warranties made in this Agreement by the Sellers shall survive the Closing, provided no action based thereon shall be commenced after the first (1^st) anniversary of the Closing.

6.3.Purchaser’s Right to Indemnification.  Scott W. Gordon (“Gordon”), Chief Operating Officer of Gordon Health Ventures, LLC, the sole member of each Seller, shall indemnify and hold harmless the Purchaser, its successors and assigns (collectively, “Indemnified Parties” or each an “Indemnified

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Party”) from and against any and all losses, obligations, liabilities, damages, claims, costs and expenses (including but not limited to all reasonable legal and other expenses incurred by them) (collectively, “Purchaser Claims”) resulting from a material breach of any representation or warranty made by any Seller in this Section VI; provided, however, that Gordon’s liability hereunder shall not exceed One Million Dollars ($1,000,000.00) in the aggregate and provided, further, that Gordon shall not be liable to the Indemnified Parties for punitive damages or consequential damages.  Notwithstanding anything to the contrary in this Agreement, Gordon shall have no liability to indemnify any of the Indemnified Parties for the first Five Thousand ($5,000.00) Dollars of Purchaser Claims.  No Purchaser Claims may be asserted, and no action based thereon may be commenced, after the first (1^st) anniversary of the Closing.  An Indemnified Party shall promptly give notice to Gordon after becoming aware of any claim which might give rise to a claim for indemnification hereunder (“Indemnification Claim”) containing a description of the facts giving rise to the Indemnification Claim, together with such documentation as the Indemnified Party may have with respect to the Indemnification Claim.  If the Indemnification Claim arises from the claim of a third party, Gordon shall be permitted to assume the defense of any such claim and any litigation or other proceeding resulting therefrom with counsel reasonably acceptable to the applicable Seller Indemnified Party.  In no event may Gordon settle or compromise any third party claim without the consent of the Indemnified Parties, which consent shall not be unreasonably withheld or delayed.

6.4.“As Is”.  Except as otherwise expressly provided in this Agreement or any documents to be delivered to the Purchaser at the Closing, the Sellers have not made and the Purchaser has not relied upon, any information, promise, representation or warranty, express or implied, regarding the Properties, whether made by any Seller, on any Seller’s behalf or otherwise, including, without limitation, the physical condition of the Properties, title to or the boundaries of the Properties, pest control matters, soil conditions, the presence, existence or absence of hazardous wastes, toxic substances or other environmental matters, compliance with building, health, safety, land use and zoning laws, regulations and orders, structural and other engineering characteristics, traffic patterns, market data, economic conditions or projections, and any other information pertaining to the Properties or the market and physical environments in which they are located.  The Purchaser acknowledges that, except as otherwise expressly provided in

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this Agreement or any documents to be delivered to the Purchaser hereunder, it (i) has entered into this Agreement with the intention of making and relying upon its own investigation or that of third parties with respect to the physical, environmental, economic and legal condition of the Properties and (ii) is not relying upon any statements, representations or warranties of any kind, other than those specifically set forth in this Agreement or in any document to be delivered to the Purchaser at the Closing, made (or purported to be made) by any Seller or anyone acting or claiming to act on any Seller’s behalf.

SECTION VII.  REPRESENTATIONS AND WARRANTIES OF THE PURCHASER

7.1.Representations of the Purchaser.  To induce the Seller to enter in this Agreement, the Purchaser represents and warrants to the Sellers as follows:

(a)Status and Authority of the Purchaser.  The Purchaser is a corporation, duly organized, validly existing and in good standing under the laws of the State of Maryland, and has all requisite trust power and authority under the laws of the State of Maryland its charter documents to enter into and perform its obligations under this Agreement and to consummate the transactions contemplated hereby.

(b)Action of the Purchaser.  The Purchaser has taken all necessary action to authorize the execution, delivery and performance of this Agreement, and upon the execution and delivery of any document to be delivered by the Purchaser on or prior to the Closing Date, this Agreement and such document shall constitute the valid and binding obligation and agreement of the Purchaser, enforceable against the Purchaser in accordance with its terms, except as such enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws of general application affecting the rights and remedies of creditors.

(c)No Violations of Agreements.  Neither the execution, delivery or performance of this Agreement by the Purchaser, nor compliance with the terms and provisions hereof, will result in any breach of the terms, conditions or provisions of, or conflict with or constitute a default under, or result in the creation of any lien, charge or encumbrance upon any property or assets of the Purchaser pursuant to the terms of any indenture, mortgage, deed of trust, note, evidence of indebtedness or any other agreement or instrument by which the Purchaser is bound.

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(d)Litigation.  No investigation, action or proceeding is pending and, to the Purchaser’s knowledge, no action or proceeding is threatened and no investigation looking toward such an action or proceeding has begun, which questions the validity of this Agreement or any action taken or to be taken pursuant hereto.

7.2.Survival, Etc.  The representations and warranties made in this Agreement by the Purchaser shall be continuing and shall be deemed remade by the Purchaser as of the Closing Date with the same force and effect as if made on, and as of, such date.  All representations and warranties made in this Agreement by the Purchaser shall survive the Closing, provided no action based thereon shall be commenced after the first (1^st) anniversary of the Closing.

SECTION VIII.  COVENANTS OF THE SELLERS

The Sellers hereby covenant with the Purchaser between the date of this Agreement and the Closing Date as follows:

8.1.Compliance with Laws, Etc.  To comply in all material respects with (a) all laws, regulations and other requirements from time to time applicable of every governmental body having jurisdiction over any Seller or any Property or the use or occupancy thereof and (b) all material terms, covenants and conditions of all agreements affecting any Seller or any Property.

8.2.Approval of Agreements.  Not to enter into, modify, amend or terminate any of the Contracts, Leases, Resident Agreements or any other agreement with respect to any Property or to which any Seller is a party, without in each instance obtaining the prior written consent of the Purchaser.

8.3.Compliance with Agreements.  To comply with each and every material term, covenant and condition contained in the Contracts, the Leases, the Resident Agreements and any other material document or agreement affecting any Property or to which any Seller is a party and to monitor compliance thereunder consistent with past practices.

8.4.Notice of Material Changes or Untrue Representations.  Upon learning of any material change in any condition with respect to any Property or of any event or circumstance which makes any representation or warranty of any Seller under this Agreement untrue or misleading, to promptly notify the Purchaser thereof.

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8.5.Operation of Property.  To continue to operate each Property in a good and businesslike fashion consistent with the Sellers’ current practices and to maintain each Property in good working order and condition in a manner consistent with the Sellers’ current practices.

8.6.Insurance.  To maintain “all risk” property insurance on a replacement cost basis with respect to all of the Improvements.

8.7.Employees.

(a)Immediately prior to the Closing, each Seller will terminate the employment of each employee of such Seller (each a “Seller Employee” and, collectively, the “Seller Employees”) and immediately after the Closing, the Purchaser will offer each of the Seller Employees the opportunity to continue his/her employment, as an “at will” employee, with base compensation equal to that provided to the Seller Employees immediately prior to the Closing and with bonus opportunities, incentive compensation and pension and health and welfare benefits comparable to those provided to similarly situated employees of the Purchaser immediately prior to the Closing.  Notwithstanding the foregoing, the Purchaser shall have the right, in the exercise of it managerial discretion, to modify compensation, bonus programs, incentive compensation and pension and health and welfare benefits from time to time and to terminate the employment of any Person.  Nothing in this Agreement shall be construed as granting any Person any rights of continuing employment, compensation or benefits other than as provided by contract.

(b)Immediately prior to the Closing, upon the written request of the Purchaser, each Seller shall take all action necessary to cause each Seller Employee Benefit Plan and each Seller Benefit Arrangement identified in such notice to be transferred to the Purchaser.  Such actions may include, but shall not be limited to, such actions as are necessary to permit the Purchaser to either assume sponsorship of the Sellers’ tax-qualified retirement plan/tax-qualified 401(k) plan or to consummate a plan-to-plan transfer of the assets of such plan to a qualified plan that the Purchaser sponsors that will offer comparable benefits to the Seller Employees.

(c)For purposes of all plans, programs or arrangements, maintained, sponsored or contributed to by the Purchaser in which any Seller Employee shall be eligible to participate (i) each such plan, program or arrangement will

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treat the prior service of each Seller Employee with each Seller (or predecessor employers to the extent such Seller provides past service credit) as service rendered to the Purchaser for purposes of eligibility and vesting (but not for purposes of benefit accruals under any defined benefit pension plan), except to the extent such treatment would result in the duplication of benefits with respect to the same period of service or to the extent such service was not recognized under the applicable Seller Benefit Arrangement or Seller Employee Benefit Plan, and (ii) the Purchaser shall cause any pre-existing conditions or limitations and eligibility waiting periods under any such plans to be waived with respect to the Seller Employees and their eligible dependents to the same extent waived under the applicable Seller Benefit Arrangement or Seller Employee Benefit Plan and give each Seller Employee credit for the plan year in which the transition from the Seller Benefit Arrangements and the Seller Employee Benefit Plans to the Purchaser’s plans occurs, for amounts paid towards applicable deductibles and annual out-of-pocket limits for expenses incurred prior to the Closing (or such later transition date).

(d)Except to the extent set forth in Section 8.7(b) above, the Sellers shall have full responsibility for, and the Purchaser shall not assume or otherwise have any liability, obligation or expense with respect to, (i) any wages, severance or employment related obligations with respect to any employee of any Seller or (ii) any bonus, pension, profit sharing, 401(k), stock option, deferred compensation, hospitalization, medical, vision or dental, post-retirement medical, sickness, accident, severance pay, vacation pay, disability, death benefits, insurance and other plans, programs, funds, contracts or arrangements providing benefits to the employees, former employees or their dependents sponsored or maintained by any Seller or any predecessor of any Seller or to which any Seller contributes or is obligated to make contributions.

8.8.Cooperation.  Each Seller shall use reasonable efforts to cooperate with Purchaser and to take such actions as may be reasonably necessary in order to consummate the transactions contemplated by this Agreement.  Without limiting the foregoing, each Seller shall use reasonable efforts to terminate or assign any Contracts to which it is a party as the Purchaser may indicate should be terminated or assigned after the expiration of the due diligence period.  In addition, each Seller shall cooperate with the Purchaser to ensure that all motor vehicles which are acquired by the Purchaser hereunder are properly

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transferred to the Purchaser.  The Sellers’ obligations under this Section 8.8 shall survive the Closing.

8.9.Licensing Approval.  Without limiting the Sellers’ obligations under Section 8.8, each Seller shall use best efforts to assist the Purchaser in obtaining appropriate licenses from the applicable licensing authorities which authorize the Purchaser to operate the Properties and the Facilities in the same manner and with the same number of units and beds as they are currently being operated.  Without limiting the foregoing, each Seller shall provide the licensing authorities which such information as they may require in connection with the issuance of the new licenses to the Purchaser and such Seller shall sign any applications or other documents required by the applicable licensing authorities in connection with the issuance of such licenses.  The Sellers’ obligations under this Section 8.9 shall survive the Closing.

8.10.Bulk Sales.  The Sellers covenant with the Purchaser as follows: the Sellers shall hold Purchaser harmless and indemnified against any unpaid taxes related to periods prior to Closing which are owed the Commonwealth of Pennsylvania for which the Purchaser becomes liable under Section 1403 of the Pennsylvania Fiscal Code, as amended.

SECTION IX.  APPORTIONMENTS AND OTHER ADJUSTMENTS

9.1.Real Property Apportionments and Other Adjustments. 

(a)The following items shall be apportioned at the Closing as of 11:59 p.m. local time at the Properties on the day immediately preceding the Closing Date:

(i)all other items of income and expense normally apportioned in sales of property in similar situations;

(ii)annual rents, common area maintenance charges and other fixed charges payable under the Contracts, Leases and Resident Agreements;

(iii)percentage rents and other unfixed charges payable under the Contracts, Leases and Resident Agreements;

(iv)fuel, electric, water and other utility costs;

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(v)municipal assessments and governmental license and permit fees;

(vi)real estate taxes and assessments other than special assessments, based on the rates and assessed valuation applicable in the fiscal year for which assessed;

(vii)water rates and charges; and

(viii)sewer and vault taxes and rents.

If any of the foregoing cannot be apportioned at the Closing because of the unavailability of the amounts which are to be apportioned, such items shall be apportioned on the basis of a good faith estimate by the parties and reconciled as soon as practicable after the Closing Date but, in any event, no later than one (1) year after the Closing Date.

(b)If there are water, gas or electric meters located at the Property, the Sellers shall obtain readings thereof to a date not more than thirty (30) days prior to the Closing Date and the unfixed water rates and charges, sewer taxes and rents and gas and electricity charges, if any, based thereon for the intervening time shall be apportioned on the basis of such last readings.  If such readings are not obtainable by the Closing Date, then, at the Closing, any water rates and charges, sewer taxes and rents and gas and electricity charges which are based on such readings shall be prorated based upon the per diem charges obtained by using the most recent period for which such readings shall then be available.  Upon the taking of subsequent actual readings, the apportionment of such charges shall be recalculated and the Sellers or the Purchaser, as the case may be, promptly shall make a payment to the other based upon such recalculations.  The parties agree to make such final recalculations without sixty (60) days after the Closing Date.

(c)If any refunds of real property taxes or assessments, water rates and charges or sewer taxes and rents shall be made after the Closing, the same shall be held in trust by the Sellers or the Purchaser, as the case may be, and shall first be applied to the unreimbursed costs incurred in obtaining the same, then to any required refunds to Tenants and Residents, and the balance, if any, shall be paid to the Sellers (for the period prior to the Closing Date) and to the Purchaser (for the period commencing with the Closing Date).

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(d)If, on the Closing Date, any Property shall be or shall have been affected by any special or general assessment or assessments or real property taxes payable as a lump sum or which are or may become payable in installments of which the first installment is then a charge or lien and has become payable, the Sellers shall pay or cause to be paid at the Closing the unpaid installments of such assessments, including those which are to become due and payable after the Closing Date.

(e)No insurance policies of the Sellers are to be transferred to the Purchaser, and no apportionment of the premiums therefor shall be made.

(f)At the Closing, the Sellers, on the one hand, and the Purchaser, on the other hand, shall each be responsible for one-half (1/2) of the costs associated with the purchase and installment of new carpet for the Facility commonly known as Overlook Green, which costs are expected to be approximately $60,000.

(g)At the Closing, the Sellers shall transfer to the Purchaser the amount of all unapplied Resident Deposits or other unapplied security deposits held pursuant to the terms of the Leases or the Resident Agreements.

(h)If a net amount is owed by the Sellers to the Purchaser pursuant to this Section 9.1, such amount shall be credited against the Purchase Price.  If a net amount is owed by the Purchaser to the Sellers pursuant to this Section 9.1, such amount shall be paid together with the Purchase Price.

The provisions of this Section 9.1 shall survive the Closing.

9.2.Closing Costs.

(a)The Sellers shall pay (i) one-half (1/2) of all charges for the Title Commitment, the Title Policy (including any endorsements requested by the Purchaser); (ii) one-half (1/2) of all excise, sale, use, value added, registration, stamp, recording, documentary, conveyance, franchise, transfer, gains and similar taxes and impositions incurred in connection with the transactions contemplated by this Agreement; (iii) one-half (1/2) of all recording charges for the Deeds; and (iv) all recording charges for instruments removing liens or otherwise curing title and survey matters.

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(b)The Purchaser shall pay (i) one-half (1/2) of all charges for the Title Commitment, the Title Policy (including any endorsements requested by the Purchaser); (ii) one-half (1/2) of all excise, sale, use, value added, registration, stamp, recording, documentary, conveyance, franchise, transfer, gains and similar taxes and impositions incurred in connection with the transactions contemplated by this Agreement; (iii) one-half (1/2) of all recording charges for the Deeds; and (iv) all other costs incurred by the Purchaser in connection with this Agreement.

(c)Each party shall pay the fees and expenses of its attorneys and other consultants.  Any charges and expenses incurred by Escrow Agent in effecting Closing shall be shared equally by the parties unless due to the fault of one of them (in which case the party at fault shall pay for all such charges).

9.3.Receivables and Payables.

(a)On the date that is two (2) Business Days prior to the Closing Date, the Sellers shall provide the Purchaser with a schedule which identifies all of the accounts receivable related to goods or services provided at the Properties by the Sellers or their agents with respect to periods prior to the Closing which are then outstanding, the face amount thereof, the amount of time such receivables have been outstanding, and the value of such receivable as calculated pursuant to this Section 9.3(a).  The Sellers shall certify to the Purchaser that the schedule is true and correct and shall provide Purchaser with appropriate backup documentation evidencing such receivables (including, without limitation, copies of any applicable invoices).  The schedule provided under this Section 9.3(a) shall replace Schedule 6.1(t).  The Purchase Price shall be increased by an amount equal to the value of the accounts receivable reflected on the Schedule provided under this Section 9.3(a) as follows:  Receivables which have been outstanding for thirty (30) or fewer days shall be valued at one hundred percent (100%) of their face value (as the same may be prorated to relate only to periods prior to the Closing Date); receivables which have been outstanding for between thirty-one (31) and sixty (60) days shall be valued at seventy-five percent (75%) of their face value (as the same may be prorated to relate only to periods prior to the Closing Date); receivables which have been outstanding for between sixty-one (61) and ninety (90) days shall be valued at fifty percent (50%) of their face value (as the same may be prorated to relate only to periods prior to the

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Closing Date); and receivables which have been outstanding for more than ninety (90) days shall have no value.

(b)On the date that is two (2) Business Days prior to the Closing Date, the Sellers shall provide the Purchaser with a schedule which identifies all Trade Payables which are then outstanding, the face amount thereof and the amount of time such payables have been outstanding.  The Sellers shall certify to the Purchaser that the schedule is true and correct and shall provide Purchaser with appropriate backup documentation evidencing such payables (including, without limitation, copies of any applicable invoices).  The schedule provided under this Section 9.3(b) shall replace Schedule 6.1(u).  The Purchase Price shall be reduced by an amount equal to one hundred ten percent (110%) of the total of the accounts payable identified in the schedule provided under this Section 9.3(b) (the “Payable Holdback Amount”) in order to provide for the payment of all such accounts payable and may be applied to any other accounts payable related to the period prior to the Closing Date.  The Purchaser shall pay all Trade Payables referred to in the schedule provided under this Section 9.3(b) in a timely fashion in accordance with the Purchaser’s usual and customary practices.  On the date that is ninety (90) days after the Closing Date, the Purchaser shall provide the Sellers with an accounting which identifies all such Trade Payables which have been paid by the Purchaser, and specifies when such accounts payable were paid, together with appropriate backup documentation evidencing such payment (including, without limitation, copies of any applicable checks).  To the extent that any portion of the Payable Holdback Amount has not been applied to any such accounts payable, the Purchaser shall remit such portion of the Payable Holdback Amount to the Sellers together with such accounting.

SECTION X.  DAMAGE TO OR CONDEMNATION OF PROPERTY

10.1.Casualty.  If, prior to the Closing, all or any part of any Property is destroyed or damaged by fire or other casualty, the Sellers shall promptly notify the Purchaser of such fact.  If any such casualty shall damage all or any material portion of such Property, then the Purchaser shall have the right to terminate this Agreement in its entirety or with respect to such affected Property by giving notice thereof to the Sellers not later than ten (10) days after the date on which the Purchaser receives the Sellers’ notice as aforesaid (and, if necessary, the Closing Date shall be extended until two (2) Business Days after the expiration of such ten-day period).  If the Purchaser elects to terminate this Agreement in its entirety

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as aforesaid, then the Escrow Agent shall return the Deposit to the Purchaser, and, upon the Purchaser’s receipt of the Deposit, this Agreement shall terminate and be of no further force and effect and neither party shall have any liability to the other hereunder.  If the Purchaser elects to terminate this Agreement only with respect to the affected Property as aforesaid, then the Escrow Agent shall retain the entire Deposit (subject to the terms of this Agreement), the Sellers and the Purchaser shall reasonably agree upon the portion of the Purchase Price allocated to the affected Property and this Agreement shall terminate with respect to the affected Property only and all other terms and conditions of this Agreement shall remain in full force and effect, except that the Purchase Price hereunder shall be reduced by the portion of the Purchase Price allocated to the affected Property.  If any such casualty shall damage less than a material portion of any Property or if the Purchaser shall not elect to terminate this Agreement as aforesaid, then there shall be no abatement of the Purchase Price and the applicable Seller shall assign to the Purchaser at the Closing all of such Seller’s rights to the insurance proceeds, if any, under such Seller’s insurance policies covering the Property with respect to such damage or destruction and there shall be credited against the Purchase Price following:  (a) the amounts of any applicable insurance deductibles; (b) the amounts of any proceeds previously received by such Seller; and (c) the amounts of any deficiency of proceeds.

10.2.Condemnation.  If, prior to the Closing, all or any part of any Property is taken by eminent domain (or is the subject of a pending taking which has not yet been consummated), the Sellers shall promptly notify the Purchaser of such fact.  If such taking affects all or any material portion of such Property (including any access or parking), then the Purchaser shall have the right to terminate this Agreement in its entirety or with respect to such affected Property by giving notice thereof to the Sellers not later than ten (10) days after the date on which the Purchaser receives the Sellers’ notice as aforesaid (and, if necessary, the Closing Date shall be extended until two (2) Business Days after the expiration of such ten-day period).  If the Purchaser elects to terminate this Agreement in its entirety as aforesaid, then the Deposit shall be returned to the Purchaser, and, upon the Purchaser’s receipt of the Deposit, this Agreement shall terminate and be of no further force and effect and neither party shall have any liability to the other hereunder.  If the Purchaser elects to terminate this Agreement only with respect to the affected Property as aforesaid, then the Escrow Agent shall retain the entire Deposit (subject to the

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terms of this Agreement), the Sellers and the Purchaser shall reasonably agree upon the portion of the Purchase Price allocated to the affected Property and this Agreement shall terminate with respect to the affected Property only and all other terms and conditions of this Agreement shall remain in full force and effect, except that the Purchase Price hereunder shall be reduced by the portion of the Purchase Price allocated to the affected Property.  If less than a material portion of the Property shall be affected by a taking or if the Purchaser shall not elect to terminate this Agreement as aforesaid, the sale of the Property shall be consummated as herein provided without any adjustment to the Purchase Price (except to the extent of any condemnation award received by the Seller prior to the Closing) and the applicable Seller shall assign to the Purchaser at the Closing all of such Seller’s right, title and interest in and to all awards, if any, for the taking, and the Purchaser shall be entitled to receive and keep all awards for the taking of the Property or portion thereof.

10.3Survival.  The parties’ obligations, if any, under this Article 10 shall survive the Closing.

SECTION XI.  DEFAULT

11.1.Default by the Seller.  If any Seller shall have made any representation or warranty herein which shall be untrue or misleading in any material respect, or if any Seller shall fail to perform any of the material covenants and agreements contained herein to be performed by such Seller, then the Purchaser, as its sole and exclusive remedy, may elect to either (a) terminate this Agreement and receive a refund of the Deposit and receive from the Seller reimbursement for the Purchaser’s out-of-pocket expenses incurred in connection with this Agreement or (b) pursue a suit for specific performance; provided, however, if the Purchaser is unsuccessful in its suit for specific performance it shall nevertheless be entitled to the remedies provided in clause (a) above.  Nothing contained in this Section 11.1 shall preclude the Purchaser from availing itself of any remedy available to it at law or in equity with respect to any breach of representation or warranty or any failure to perform any covenant or agreement required to be performed by any Seller which occurs or is discovered after the Closing.

11.2.Default by the Purchaser.  If the Purchaser shall have made any representation or warranty herein which shall be untrue or misleading in any material respect, or if the Purchaser shall fail to perform any of the covenants and

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agreements contained herein to be performed by it, the Seller, as its sole and exclusive remedy prior to Closing, may terminate this Agreement and retain the Deposit, as liquidated damages and not as a penalty.  Nothing contained in this Section 11.2 shall preclude the Sellers from availing themselves of any remedy available to it at law or in equity with respect to any breach of representation or warranty or any failure to perform any covenant or agreement required to be performed by the Purchaser which occurs or is discovered after the Closing.

SECTION XII.  MISCELLANEOUS

12.1.Allocation of Liability.  It is expressly understood and agreed that the Sellers shall be liable to third parties for any and all obligations, claims, losses, damages, liabilities and expenses arising out of events, contractual obligations, acts, or omissions of the Sellers that occurred in connection with the ownership or operation of the Properties prior to the Closing and the Purchaser shall be liable to third parties for any and all obligations, claims, losses, damages, liabilities and expenses arising out of events, contractual obligations, acts, or omissions of the Purchaser that occur in connection with the ownership or operation of the Properties after the Closing.  The provisions of this Section 12.1 shall survive the Closing.

12.2.Brokers.  Each of the parties hereto represents to the other parties that it dealt with no broker, finder or like agent in connection with this Agreement or the transactions contemplated hereby other than the Broker, payment to such broker being the sole responsibility of the Seller.  Each party shall indemnify and hold harmless the other and its respective legal representatives, heirs, successors and assigns from and against any loss, liability or expense, including, reasonable attorneys’ fees, arising out of any claim or claims for commissions or other compensation for bringing about this Agreement or the transactions contemplated hereby made by any other broker, finder or like agent, if such claim or claims are based in whole or in part on dealings with the indemnifying party.

12.3.Publicity.  The parties agree that, except as required by law or the rules of the American Stock Exchange applicable to Purchaser, no party shall, with respect to this Agreement and the transactions contemplated hereby, make any public pronouncements, issue press releases or otherwise furnish information regarding this Agreement or the transactions contemplated to any third party without the consent of the other party, which consent

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shall not be unreasonably withheld.  No Seller shall trade in the securities of the Purchaser until a public announcement of the transactions contemplated by this Agreement has been made.  No party shall record this Agreement or any notice thereof.

12.4.Financials.  The Sellers shall provide the Purchaser with access to the books and records of the Seller for the purpose of preparing audited financial statements for the Property with respect to the 2002, 2003, 2004 calendar years and the stub 2005 period, such financial statements to be prepared at the Purchaser’s sole cost and expense.  The Sellers shall provide the Purchaser and its accountants with such certifications with respect to such financials as they shall from time to time reasonably require.  The provisions of this Section 12.4 shall survive the Closing hereunder.

12.5.Notices.

(a)Any and all notices, demands, consents, approvals, offers, elections and other communications required or permitted under this Agreement may be given by the attorneys of the parties and shall be deemed adequately given if in writing and the same shall be delivered either in hand, by telecopier with electronic confirmation of receipt, or by mail or Federal Express or similar expedited commercial carrier, addressed to the recipient of the notice, postpaid and registered or certified with return receipt requested (if by mail), or with all freight charges prepaid (if by Federal Express or similar carrier).

(b)All notices required or permitted to be sent hereunder shall be deemed to have been given for all purposes of this Agreement upon the date of the electronic confirmation of receipt, in the case of a notice by telecopier, and, in all other cases, upon the date of receipt or refusal, except that whenever under this Agreement a notice is either received on a day which is not a Business Day or is required to be delivered on or before a specific day which is not a Business Day, the day of receipt or required delivery shall automatically be extended to the next Business Day.  Any notice which shall be delivered by telecopier to Donna J. Naab shall be deemed to have been simultaneously delivered by telecopier to the Sellers.

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(c)All such notices shall be addressed,

if to the Sellers or Gordon, to:

c/o Scott W. Gordon

510 Fifth Avenue (PH)

Beaver Falls, PA 15010

with a copy to:

Fox Rothschild LLP

625 Liberty Avenue, 29^th Floor

Pittsburgh, Pennsylvania 15222-3115

Attn:  Donna J. Naab, Esq.

Telecopier No.:  (412) 391-6984

If to the Purchaser, to:

c/o Five Star Quality Care, Inc.

400 Centre Street

Newton, Massachusetts  02158

Attn:  Mr. Evrett W. Benton

Telecopier No.:  (617) 796-8385

with a copy to:

Sullivan & Worcester LLP

One Post Office Square

Boston, Massachusetts  02109

Attn:  John M. Steiner, Esq.

Telecopier No. (617) 338-2880

(d)by notice given as herein provided, the parties hereto and their respective successor and assigns shall have the right from time to time and at any time during the term of this Agreement to change their respective addresses effective upon receipt by the other parties of such notice and each shall have the right to specify as its address any other address within the United States of America.

12.6.Waivers, Etc.  Any waiver of any term or condition of this Agreement, or of the breach of any covenant, representation or warranty contained herein, in any one instance, shall not operate as or be deemed to be or construed as a further or continuing waiver of any other breach of such term, condition, covenant, representation or warranty or any other term, condition, covenant, representation or warranty, nor shall any failure at any time or times to enforce or require

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performance of any provision hereof operate as a waiver of or affect in any manner such party’s right at a later time to enforce or require performance of such provision or any other provision hereof.  This Agreement may not be amended, nor shall any waiver, change, modification, consent or discharge be effected, except by an instrument in writing executed by or on behalf of the party against whom enforcement of any amendment, waiver, change, modification, consent or discharge is sought.

12.7.Assignment; Successors and Assigns.  This Agreement and all rights and obligations hereunder shall not be assignable by any party without the written consent of the other, except that the Purchaser may assign this Agreement, in whole or in part, to any entity wholly owned, directly or indirectly, by the Purchaser. If the Purchaser shall assign this Agreement to any entity wholly owned, directly or indirectly, by the Purchaser, the Purchaser named herein shall remain liable for the obligations of the “Purchaser” hereunder.  In addition, the Purchaser shall have the right, by notice given to the Sellers at least two (2) Business Days prior to the Closing Date, to direct the Sellers to deliver all or any portion of the Property (including, without limitation, the Land, the Improvements and the FF&E) to Senior Housing Properties Trust or its affiliate, in which case the Sellers shall execute and deliver such documents as are described in Section 4.1 as may be appropriate directly to Senior Housing Properties Trust (or its affiliate) and Senior Housing Properties Trust (or its affiliate) shall be entitled to rely upon the representations and warranties made by Seller in connection with such Property.  This Agreement shall be binding upon and shall inure to the benefit of the parties hereto and their respective legal representatives, successors and permitted assigns.  This Agreement is not intended and shall not be construed to create any rights in or to be enforceable in any part by any other persons.

12.8.Severability.  If any provision of this Agreement shall be held or deemed to be, or shall in fact be, invalid, inoperative or unenforceable as applied to any particular case in any jurisdiction or jurisdictions, or in all jurisdictions or in all cases, because of the conflict of any provision with any constitution or statute or rule of public policy or for any other reason, such circumstance shall not have the effect of rendering the provision or provisions in question invalid, inoperative or unenforceable in any other jurisdiction or in any other case or circumstance or of rendering any other provision or provisions herein contained invalid, inoperative or unenforceable to the extent that such other provisions are not

39

themselves actually in conflict with such constitution, statute or rule of public policy, but this Agreement shall be reformed and construed in any such jurisdiction or case as if such invalid, inoperative or unenforceable provision had never been contained herein and such provision reformed so that it would be valid, operative and enforceable to the maximum extent permitted in such jurisdiction or in such case.

12.9.Counterparts, Etc.  This Agreement may be executed in two (2) or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument.  Any such counterparts may be delivered by facsimile.  This Agreement constitutes the entire agreement of the parties hereto with respect to the subject matter hereof and shall supersede and take the place of any other instruments purporting to be an agreement of the parties hereto relating to the subject matter hereof.

12.10.Performance on Business Days.  In the event the date on which performance or payment of any obligation of a party required hereunder is other than a Business Day, the time for payment or performance shall automatically be extended to the first (1^st) Business Day following such date.

12.11.Attorneys Fees.  Notwithstanding anything contained herein to the contrary, if any lawsuit or arbitration or other legal proceeding arises in connection with the interpretation or enforcement of this Agreement, the prevailing party therein shall be entitled to receive from the other party the prevailing party’s costs and expenses, including reasonable attorneys’ fees incurred in connection therewith, in preparation therefor and on appeal therefrom, which amounts shall be included in any judgment therein.

12.12.Section and Other Headings.  The headings contained in this Agreement are for reference purposes only and shall not in any way affect the meaning or interpretation of this Agreement.

12.13.Time of Essence.  Time shall be of the essence with respect to the performance of each and every covenant and obligation, and the giving of all notices, under this Agreement.

12.14.GOVERNING LAW.  THIS AGREEMENT IS TO BE CONSTRUED AND ENFORCED IN ACCORDANCE WITH, AND THE RIGHTS OF THE PARTIES SHALL BE GOVERNED BY, THE LAW OF THE COMMONWEALTH OF MASSACHUSETTS (WITHOUT GIVING EFFECT TO ANY LAWS OR RULES RELATING TO CONFLICTS OF LAWS THAT WOULD CAUSE THE APPLICATION

40

OF THE LAWS OF ANY JURISDICTION OTHER THAN THE COMMONWEALTH OF MASSACHUSETTS). TO THE EXTENT PERMITTED BY APPLICABLE LAW, THE PARTIES HEREBY ABSOLUTELY AND IRREVOCABLY CONSENT AND SUBMIT TO THE NON-EXCLUSIVE JURISDICTION OF THE COURTS OF THE COMMONWEALTH OF MASSACHUSETTS AND THE COURTS OF THE COMMONWEALTH OF PENNSYLVANIA AND OF ANY FEDERAL COURT LOCATED IN SAID JURISDICTIONS IN CONNECTION WITH ANY ACTIONS OR PROCEEDINGS BROUGHT AGAINST ANY OF THEM BY ANY HOLDER ARISING OUT OF OR RELATING TO ANY OF THE TRANSACTION DOCUMENTS AND HEREBY IRREVOCABLY AGREE THAT ALL CLAIMS IN RESPECT OF ANY SUCH ACTION OR PROCEEDING MAY BE HEARD AND DETERMINED IN ANY SUCH COURT.  EACH PARTY HEREBY WAIVES AND AGREES NOT TO ASSERT IN ANY SUCH ACTION OR PROCEEDING, IN EACH CASE, TO THE FULLEST EXTENT PERMITTED BY APPLICABLE LAW, ANY CLAIM THAT (A) IT IS NOT PERSONALLY SUBJECT TO THE JURISDICTION OF ANY SUCH COURT, (B) IT IS IMMUNE FROM ANY LEGAL PROCESS (WHETHER THROUGH SERVICE OR NOTICE, ATTACHMENT PRIOR TO JUDGMENT, ATTACHMENT IN AID OF EXECUTION, EXECUTION OR OTHERWISE) WITH RESPECT TO IT OR ITS PROPERTY, (C) ANY SUCH SUIT, ACTION OR PROCEEDING IS BROUGHT IN AN INCONVENIENT FORUM, OR (D) SUCH TRANSACTION DOCUMENT MAY NOT BE ENFORCED IN OR BY ANY SUCH COURT.  IN ANY SUCH ACTION OR PROCEEDING, TO THE FULLEST EXTENT PERMITTED BY APPLICABLE LAW,  THE PARTIES HEREBY ABSOLUTELY AND IRREVOCABLY WAIVE TRIAL BY JURY AND PERSONAL IN HAND SERVICE OF ANY SUMMONS, COMPLAINT, DECLARATION OR OTHER PROCESS AND HEREBY ABSOLUTELY AND IRREVOCABLY AGREE THAT THE SERVICE MAY BE MADE BY CERTIFIED OR REGISTERED MAIL, RETURN RECEIPT REQUESTED, DIRECTED TO IT AT ITS ADDRESS SET FORTH IN OR FURNISHED PURSUANT TO THE PROVISIONS OF THIS AGREEMENT, OR BY ANY OTHER MANNER PROVIDED BY LAW.

41

IN WITNESS WHEREOF, the parties have caused this Agreement to be executed as a sealed instrument as of the date first above written.

SELLERS:
FRANCISCAN MANOR ASSOCIATES, LLC, a
Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:	/s/ Scott W. Gordon
		Scott W. Gordon
		Chief Operating Officer
MUIRFIELD ASSOCIATES, LLC, a Pennsylvania
limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:	/s/ Scott W. Gordon
		Scott W. Gordon
		Chief Operating Officer
PRESTWICKE ASSOCIATES, LLC, a
Pennsylvania lmited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:	/s/ Scott W. Gordon
		Scott W. Gordon
		Chief Operating Officer
ROYAL ABERDEEN ASSOCIATES, LLC, a
Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:	/s/ Scott W. Gordon
		Scott W. Gordon
		Chief Operating Officer

42

TROON ASSOCIATES, LLC, a Pennsylvania
limited liability company
By:		Gordon Health Ventures, LLC,
		its member
		By:	/s/ Scott W. Gordon
			Scott W. Gordon
			Chief Operating Officer
TURNBERRY ASSOCIATES, LLC, a Pennsylvania
limited liability company
By:		Gordon Health Ventures, LLC,
		its member
		By:	/s/ Scott W. Gordon
			Scott W. Gordon
			Chief Operating Officer
PURCHASER:
FIVE STAR QUALITY CARE, INC.,
a Maryland corporation
By:	/s/ Evrett W. Benton
	Evrett W. Benton
	President

THE UNDERSIGNED HEREBY ACKNOWLEDGES AND

AGREES TO BE BOUND BY THE PROVISIONS OF

SECTION 2.4 OF THE FOREGOING AGREEMENT.

LAWYERS TITLE INSURANCE CORPORATION

By:	/s/ Kathryn Andriko
	Name: Kathryn Andriko
	Its: Vice President

43

THE UNDERSIGNED HEREBY ACKNOWLEDGES AND

AGREES TO BE BOUND BY THE PROVISIONS OF

SECTION 6.3 OF THE FOREGOING AGREEMENT.

/s/ Scott W. Gordon

Scott W. Gordon

44

[The following schedules and exhibits have been omitted and will be supplementally furnished to the Securities and Exchange Commission upon request:]

SCHEDULE 1.22	THE LAND
SCHEDULE 2.3(a)(ii)	PURCHASE PRICE ALLOCATION
SCHEDULE 6.1(d)	LITIGATION
SCHEDULE 6.1(g)	LEASES AND RESIDENT AGREEMENTS
SCHEDULE 6.1(h)	CONTRACTS
SCHEDULE 6.1(i)	FF&E AND OTHER PERSONAL PROPERTY
SCHEDULE 6.1(m)	TAXES
SCHEDULE 6.1(o)	INSURANCE
SCHEDULE 6.1(p)-1	EMPLOYMENT CONTRACTS AND CONSULTING CONTRACTS
SCHEDULE 6.1(p)-2	EMPLOYEES
SCHEDULE 6.1(q)	INTELLECTUAL PROPERTY
SCHEDULE 6.1(s)	SELLER EMPLOYEE BENEFIT PLANS AND SELLER EMPLOYEE BENEFIT ARRANGEMENTS
SCHEDULE 6.1(t)	ACCOUNTS RECEIVABLE
SCHEDULE 6.1(u)	ACCOUNTS PAYABLE
EXHIBIT A	FORM OF DEED

EXHIBIT B

FORM OF ASSIGNMENT AND ASSUMPTION AGREEMENT

[See attached copy.]

ASSIGNMENT AND ASSUMPTION AGREEMENT

THIS ASSIGNMENT AND ASSUMPTION AGREEMENT (this “Agreement”) is made and entered into as of [                   , 2005], by and between               , a                                (the “Assignor”), and                     , a                       (the “Assignee”).

WITNESSETH:

WHEREAS, the Assignor and the Assignee are parties to that certain Purchase and Sale Agreement, dated as of [               ], (the “Purchase Agreement”), pursuant to which the Assignor has agreed to sell, and the Assignee has agreed to purchase, certain land and other property, including, without limitation, the real property described on Exhibit A attached hereto (the “Property”);

WHEREAS, in connection with the closing of the sale contemplated by the Purchase Agreement, the Assignor has agreed to assign, and the Assignee has agreed to assume, among other things the Assigned Assets (as hereinafter defined), subject to and upon the terms and conditions hereinafter set forth.

NOW, THEREFORE, for good and valuable consideration, the receipt and sufficiency of which is hereby mutually acknowledged, the Assignor and the Assignee agree as follows:

1.             Capitalized terms used and not otherwise defined herein shall have the meanings ascribed thereto in the Purchase Agreement.

2.             The Assignor hereby assigns to the Assignee all of the Assignor’s right, title and interest in and to the following (collectively, the “Assigned Assets”):

(a)        all Contracts related to the Property and described on Exhibit B attached hereto;

(b)       all Leases and Resident Agreement related to the property and described on Exhibit C attached hereto;

(c)        all of the Resident Deposits and other forms of security related to the Resident Agreements and the Leases described on Exhibit C;

(d)       all of the Intangible Property related to the Property;

(e)        all of the Intellectual Property related to the Property;

(f)        all of the Licenses and Permits related to the Property; and

(g)       all of the Warranties related to the Propery.

3.             The Assignor hereby indemnifies the Assignee and agrees to hold harmless the Assignee from and against all of the obligations, liabilities, claims and expenses arising under the Assigned Assets prior to the date hereof.

4.             The Assignee hereby indemnifies the Assignor and agrees to hold the Assignor harmless from and against all of the obligations, liabilities, claims and expenses arising under the Assigned Assets from and after the date hereof.

5.             This Assignment shall be binding on, and inure to the benefit of, the parties hereto, their respective successors in interest, and their respective assigns.

6.             This Assignment shall be governed by, and construed in accordance with, the laws of The Commonwealth of Pennsylvania.

7.             This Assignment may be executed in two or more counterparts, all of which shall be construed together as a single instrument.

[Signature page follows]

B-2

IN WITNESS WHEREOF, Assignor and Assignee have executed this Assignment as a sealed instrument as of the day and year first hereinabove written.

ASSIGNOR:
			,
a
By:			,
		Name:
		Title:
ASSIGNEE:
			,
a
By:			,
	Name:
	Title:

[INSERT APPROPRIATE NOTARY BLOCKS]

B-3

EXHIBIT A

LAND

[To be attached.]

EXHIBIT C

FORM OF BILL OF SALE

[See attached copy.]

BILL OF SALE

                           , a                          (the “Seller”), for good and valuable consideration paid by                              , a                                 (the “Purchaser”), the receipt and sufficiency of which is hereby acknowledged, by these presents does  BARGAIN, SELL, ASSIGN AND DELIVER unto Purchaser all of Seller’s right, title and interest in and to the following (collectively, the “Personal Property”):

(a)           all fixtures, furniture, equipment, machinery, systems and other items of personal property owned by the Seller and attached or appurtenant to, located on or used in connection with the ownership, use, operation or maintenance of the real property and improvements thereon located at the personal care home located at [INSERT STREET ADDRESS] (the “Facility”);

(b)           [INSERT DESCRIPTION OF MOTOR VEHICLES AND VINS IF APPLICABLE];

(c)           all books, records, files, and papers, whether in hard copy or computer format, used in connection with the operation of the Facility, including without limitation, sales, marketing and advertising materials, lists of present suppliers and personnel and employment records;

(d)           any consummables, inventories, stocks, supplies and other related items owned by the Seller and used in connection with the operation or maintenance of the Facility or the provision of services to the Residents of the Facility; and

(e)           all of the other personal property which is owned by the Seller and used in connection with the ownership, use, operation or maintenance of the Facility.

THE SELLER HEREBY WARRANTS TO THE PURCHASER THAT THE SELLER IS THE LAWFUL OWNER OF THE PERSONAL PROPERTY AND THE PERSONAL PROPERTY IS FREE FROM THE RIGHTS AND CLAIMS OF OTHERS, BUT MAKES NO OTHER REPRESENTATION OR WARRANTY WITH RESPECT TO THE PERSONAL PROPERTY, EXCEPT TO THE EXTENT SET FORTH IN THAT CERTAIN PURCHASE AND SALE AGREEMENT BETWEEN THE SELLER AND THE PURCHASER DATED AS OF                                (THE “AGREEMENT”).  THE SELLER MAKES NO WARRANTY OF MERCHANTABILITY OR FITNESS FOR ANY PURPOSE WITH RESPECT TO THE PERSONAL PROPERTY, AND THE SAME IS SOLD IN AN “AS IS, WHERE IS” CONDITION, WITH ALL FAULTS AND THAT

THERE ARE NO REPRESENTATIONS OR WARRANTIES, EXPRESSED OR IMPLIED, EXCEPT TO THE EXTENT SET FORTH IN THE AGREEMENT.

TO HAVE AND TO HOLD the Personal Property unto the Purchaser, its successors and assigns forever.

This instrument shall be governed by, and construed in accordance with, the laws of the Commonwealth of Pennsylvania.

C-2

IN WITNESS WHEREOF, this Bill of Sale has been duly executed as a sealed instrument effective as of the          day of                      , 2005.

		,
a
By:		,
	Name:
	Title:

C-3

EXHIBIT D

FORM OF NONCOMPETITION AGREEMENT

[See attached copy.]

NON-COMPETITION AGREEMENT

(Scott Gordon)

THIS NON-COMPETITION AGREEMENT (this “Agreement”) is made and entered into as of January          , 2005, by and between FIVE STAR QUALITY CARE, INC., a Maryland corporation, on behalf of itself and its wholly-owned subsidiaries it may designate to acquire or part of the properties pursuant to the Purchase Agreement referred to below (collectively, the “Purchaser”) and SCOTT GORDON, a person of the age of majority residing in                        ,                      (“Gordon”).

WITNESSETH:

WHEREAS, Five Star Quality Care, Inc. and [                       ] (the “Seller”) have entered into that certain Purchase and Sale Agreement, dated as of January      , 2005 (the “Purchase Agreement”), pursuant to which, among other things, the Seller has agreed to sell, and the Purchaser has agreed to purchase, the Properties (as such term is defined in the Purchase Agreement);

WHEREAS, Gordon has been involved in the management and operation of the Properties;

WHEREAS, it is a condition of the Purchaser’s obligations to consummate the transactions contemplated by the Purchase Agreement that Gordon enter into this Agreement; and

WHEREAS, Gordon owns [the equity interest in the Seller] and the consummation of the transaction contemplated by the Purchase Agreement will result in a direct, material benefit to Gordon;

NOW, THEREFORE, in consideration of the Purchaser’s consummation of the transactions contemplated by the Purchase Agreement and other good and valuable consideration, the receipt, adequacy and sufficiency of which are hereby acknowledged, the parties hereto, intending to be legally bound, do covenant and agree as follows:

Section 1.               Definitions.  Terms used in this Agreement which are not defined herein but which are defined in the Purchase Agreement shall have the respective meanings so defined in the Purchase Agreement.

“Affiliate” shall mean, when used with respect to any Person, (a) any other Person at the time directly or indirectly

controlling, controlled by or under direct or indirect common control with such Person, (b) any other Person of which such Person at the time owns, or has the right to acquire, directly or indirectly, five percent (5%) or more on a consolidated basis of the equity or beneficial interest, (c) any other Person which at the time owns, or has the right to acquire, directly or indirectly, five percent (5%) or more of any class of the capital stock or beneficial interest of such Person, (d) any executive officer or director of such Person, and (e) when used with respect to an individual, shall include a spouse, any ancestor or descendant, or any other relative (by blood, adoption or marriage), within the third degree of such individual any member of such individual’s Immediate Family. A Person shall be deemed to be “controlled by” any other Person if such other Person possesses, directly or indirectly, power to direct or cause the direction of the management or policies of such Person or the disposition of its assets or properties, whether by stock, equity or other ownership, by contract, arrangement or understanding, or otherwise.  Notwithstanding the foregoing, in no event shall the term “Affiliate” be deemed to refer to Health Care REIT, Inc.

“Covered Territory” shall mean all areas that are within the following counties in the Commonwealth of Pennsylvania: Allegheny County, Beaver County and Washington County.

“Entity” shall mean any corporation, firm, unincorporated organization, limited liability company, association, partnership, a trust (inter vivos or testamentary), an estate of a deceased, insane or incompetent individual, business trust, joint stock company, joint venture or other organization, entity or business, whether acting in an individual, fiduciary or other capacity, or any governmental authority.

“Immediate Family” shall mean spouses, children and parents, whether related by blood or by marriage.  Notwithstanding the foregoing, in no event shall the term “Immediate Family” include Gordon’s spouse, Jennifer Gordon.

“Legal Action” shall mean, with respect to any Person, any litigation or legal or other actions, arbitrations, investigations, proceedings or suits, at law or in arbitration, equity or admiralty (whether or not purported to be brought on behalf of such Person) affecting such Person or any of its business or property or assets.

“Person” shall mean any natural individual or any Entity.

D-2

“Proscribed Activity” shall mean any and all activities related to the ownership, operation, leasing, construction or management of nursing homes, assisted living facilities, Alzheimer’s care centers.  The Proscribed Activity shall include soliciting employment from any Seller Employees.

“Restricted Period” shall mean a period ending on the third (3^rd) anniversary of the date hereof.

Section 2.               Restriction. Gordon agrees that during the Restricted Period:

(a)           Neither he nor any member of his Immediate Family will be interested, directly or indirectly, as an investor in any other Entity, business or enterprise within the Covered Territory, which is engaged in any Proscribed Activity (except as an investor in securities listed on a national securities exchange or actively traded over the counter so long as such investments are in amounts not significant as compared to his total investments and do not exceed one percent (1%) of the outstanding securities of the issuer of the same class or issue);

(b)           He will not, directly or indirectly, for his own account or as employee, officer, director, partner, trustee, principal, member, joint venturer, agent, adviser, consultant or otherwise, engage within the Covered Territory, in any phase of any Proscribed Activity; and

(c)           He will not, directly or indirectly, solicit business for a Proscribed Activity within the Covered Territory from any Person, business or enterprise which is, or proposes to be, a tenant of the Purchaser or any of its Affiliates within the Covered Territory, or induce any such Person, business or enterprise not to undertake, or to curtail or cancel business with the Purchaser or any of its Affiliates, or induce or attempt to induce any employee of the Purchaser, any Affiliate of the Purchaser or any of their respective successors or assigns to terminate his employment therewith.

Gordon and the Purchaser are of the belief that the Restricted Period, the Proscribed Activity and the Covered Territory herein specified are reasonable, in light of the circumstances as they exist on the date upon which this Agreement has been executed, including without limitation the nature of the business in which the Purchaser is engaged.  However, if such period, activity or area should be adjudged unreasonable in any Legal Action, whether at law or in equity,

D-3

then the Restricted Period shall be reduced by such period of time, the Proscribed Activity shall be reduced by such activities, or the Covered Territory shall be reduced by such area, or any combination thereof, as are deemed unreasonable, so that this covenant may be enforced in such area, with respect to such activities and during such period of time as is adjudged to be reasonable.

Section 3.               Miscellaneous Provisions.

(a)           Assignment; Successors and Assigns.  In the event that the Purchaser shall be merged with, or consolidated into, any other Entity, or in the event that it shall sell and transfer substantially all of its assets to another Entity, the terms of this Agreement shall inure to the benefit of, and be assumed by, the Entity resulting from such merger or consolidation, or to which the Purchaser’s assets shall be sold and transferred.  This Agreement shall not be assignable by Gordon, but it shall be binding upon Gordon’s heirs, executors, administrators and legal representatives to the extent they constitute members of his Immediate Family.  Nothing in this Agreement expressed or implied is intended to and shall not be construed to confer upon or create in any person (other than the parties hereto and their permitted successors and assigns) any rights or remedies under or by reason of this Agreement.

(b)           Specific Performance; Other Rights and Remedies.  Gordon recognizes and agrees that the Purchaser’s remedy at law for any breach of the provisions of this Agreement, including without limitation Section 2 would be inadequate, and he agrees that for breach of such provisions, the Purchaser shall, in addition to such other remedies as may be available to it at law or in equity or as provided in this Agreement, be entitled to seek and obtain injunctive relief and to enforce its rights by an action for specific performance to the extent permitted by applicable law.  The parties agree, in pursuing any other remedies available to it or him for such breach or threatened breach, not to seek recovery of any damages other than actual damages.

(c)           Entire Agreement.  This Agreement constitutes the entire agreement between the Purchaser and Gordon with respect to the subject matter hereof, and supersedes all prior agreements, arrangements, covenants, promises, conditions, understandings, inducements, representations and negotiations, expressed or implied, oral or written, among them as to such subject matter.

D-4

(d)           Waivers; Amendments. Any provision of this Agreement to the contrary notwithstanding, changes in or additions to this Agreement may be made, or compliance with any term, covenant, agreement, condition or provision set forth herein may be omitted or waived (either generally or in a particular instance and either retroactively or prospectively) with, but only with, the consent in writing of the parties hereto.  Any consent may be given subject to satisfaction of conditions stated therein.  The failure to insist upon the strict provisions of any covenant, term, condition or other provision of this Agreement or to exercise any right or remedy thereunder shall not constitute a waiver of any such covenant, term, condition or other provision thereof or default in connection therewith.  The waiver of any covenant, term, condition or other provision thereof or default thereunder shall not affect or alter this Agreement in any other respect, and each and every covenant, term, condition or other provision of this Agreement shall, in such event, continue in full force and effect, except as so waived, and shall be operative with respect to any other then existing or subsequent default in connection therewith.

(e)           Notices.  All notices and other communications which by any provision of this Agreement are required or permitted to be given shall be given in writing and shall be (i) mailed by first-class or express mail, postage prepaid, (ii) sent by facsimile with electronic confirmation of receipt, or (iii) personally delivered to the receiving party (which if other than an individual shall be an officer or other responsible party of the receiving party).  All such notices and communications shall be mailed, sent or delivered as follows:

To Purchaser:	c/o Five Star Quality Care, Inc.
	400 Centre Street
	Newton, Massachusetts  02458
	Attn:  Evrett W. Benton, President
	Tel. No.:  (617) 796-8387
	Telecopier No.:  (617) 796-8385
with a copy to (which shall not constitute notice) to:
	Sullivan & Worcester LLP
	One Post Office Square
	Boston, Massachusetts  02109
	Attn.:  John M. Steiner, Esq.
	Tel. No.:  (617) 338-2800
	Telecopier No.:  (617) 338-2880

D-5

To Gordon:	Scott W. Gordon
	510 Fifth Avenue (PH)
	Beaver Falls, Pennsylvania 15010
with a copy (which shall not constitute notice) to:
	Fox Rothschild LLP
	625 Liberty Avenue, 29th Floor
	Pittsburgh, Pennsylvania 15222-3115
	Attn:  Donna J. Naab, Esq.
	Telecopier No.:  (412) 391-6984

and/or to such other person(s), addresses or facsimile number(s) as the party to receive any such communication or notice may have designated by written notice to the other parties.

(f)            Severability.  If any provision of this Agreement shall be held or deemed to be, or shall in fact be, invalid, inoperative, illegal or unenforceable as applied to any particular case in any jurisdiction or jurisdictions, or in all jurisdictions or in all cases, because of the conflicting of any provision with any constitution or statute or rule of public policy or for any other reason, such circumstance shall not have the effect of rendering the provision or provisions in question invalid, inoperative, illegal or unenforceable in any other jurisdiction or in any other case or circumstance or of rendering any other provision or provisions herein contained invalid, inoperative, illegal or unenforceable to the extent that such other provisions are not themselves actually in conflict with such constitution, statute or rule of public policy, but this Agreement shall be reformed and construed in any such jurisdiction or case as if such invalid, inoperative, illegal or unenforceable provision had never been contained herein and such provision reformed so that it would be valid, operative and enforceable to the maximum extent permitted in such jurisdiction or in such case, except when such reformation and construction could operate as an undue hardship on either party, or constitute a substantial deviation from the general intent and purpose of such party as reflected in this Agreement.  The parties shall endeavor in good faith negotiations to replace the invalid, inoperative, illegal or unenforceable provisions with valid, operative, legal and enforceable provisions the economic effect of which comes as close as possible to that of the invalid, inoperative, illegal or unenforceable provisions.

(g)           Counterparts.  This Agreement may be executed in several counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same

D-6

instrument, binding upon all the parties hereto.  In pleading or proving any provision of this Agreement, it shall not be necessary to produce more than one of such counterparts.

(h)           Section Headings.  The headings contained in this Agreement are for reference purposes only and shall not in any way affect the meaning or interpretation of this Agreement.

(i)            Governing Law.  The validity, interpretation, construction and performance of this Agreement shall be governed by the applicable laws of the United States of America and the domestic substantive laws of the Commonwealth of Massachusetts without giving effect to any choice or conflict of laws provision or rule that would cause the application of domestic substantive laws of any other jurisdiction.  Anything in this Agreement to the contrary notwithstanding, in the event of any dispute between the parties which results in a Legal Action, the prevailing party shall be entitled to receive from the non-prevailing party reimbursement for reasonable legal fees and expenses incurred by such prevailing party in such Legal Action.

(j)            Further Acts.  Each party agrees that at any time, and from time to time, before and after the consummation of the transactions contemplated by this Agreement, it will do all such things and execute and deliver all such agreements, assignments, instruments, other documents and assurances, as any other party or its counsel reasonably deems necessary or desirable in order to carry out the terms and conditions of this Agreement and the transactions contemplated hereby or to facilitate the enjoyment of any of the rights created hereby or to be created hereunder.

(k)           Gender.  Whenever used herein the singular number shall include the plural, the plural shall include the singular, and the use of any gender shall include all genders.

(l)            Consultation with Counsel; No Representations.  Gordon agrees and acknowledges that he has had a full and complete opportunity to consult with counsel of his own choosing concerning the terms, enforceability and implications of this Agreement, and that the Purchaser has made no representations or warranties to him concerning the terms, enforceability or implications of this Agreement other than as are reflected in this Agreement.

D-7

IN WITNESS WHEREOF, the parties hereto have executed this Agreement, all pursuant to authority heretofore granted, as of the date and year first above written.

PURCHASER:
FIVE STAR QUALITY CARE, INC.,
a Maryland corporation
By:
	Name:
	Its:
GORDON:
Scott Gordon

D-8

EX-2.9

Exhibit 2.9

FIRST AMENDMENT TO
PURCHASE AND SALE AGREEMENT

THIS FIRST AMENDMENT TO PURCHASE AND SALE AGREEMENT (this “Amendment”) is made and entered into as of February 3, 2005, by and among FIVE STAR QUALITY CARE, INC., a Maryland corporation (the “Purchaser”), and each of the Pennsylvania limited liability companies identified as a “Seller” on the signature page hereof (each, a “Seller” and, collectively, the “Sellers”).

WITNESSETH:

WHEREAS, the Purchaser and the Sellers are parties to a Purchase and Sale Agreement, dated as of January 21, 2005 (the “Agreement”); and

WHEREAS, the Sellers and the Purchaser agree that the Purchaser’s diligence pursuant to Article III of the Agreement cannot be satisfactorily completed prior to the expiration of the Inspection Period (as defined therein); and

WHEREAS, the parties have agreed to extend the Inspection Period and the rights of the Purchaser under Article III of the Agreement subject to and upon the terms and conditions of this Amendment;

NOW, THEREFORE, in consideration of the mutual covenants herein contained and other good and valuable consideration, the mutual receipt and legal sufficiency of which are hereby acknowledged, the Purchaser and the Sellers, intending to be legally bound, hereby agree as follows:

1.Definitions.  Capitalized terms used and not otherwise defined in this Amendment shall have the meanings given therefor in the Agreement.

2.Inspection Period.  The definition of the term “Inspection Period” set forth in Section 1.23 of the Agreement is deleted in its entirety and the following substituted therefor:

“Inspection Period” shall mean the period expiring at 8:00 p.m., local time at the Property, on May 13, 2005.

3.Diligence Inspections.Section 3.1 of the Agreement is hereby amended by the addition of the following:

In connection with the Purchaser’s diligence, the Sellers

will engage Ernst & Young LLP and Grossman Yanak & Ford LLP (collectively, the “Accountants”)to perform audits of the results of operations of each of the Sellers for such period(s) and on such terms and conditions as the Accountants shall reasonably agree (the “Audits”)and shall provide copies of the Accountants reports to the Purchaser prior to the expiration of the Inspection Period. The Sellers shall bear all costs and expenses of the Accountants in connection with the Audits.

4.Closing Documents.  Section 4.1 of the Agreement is hereby amended to include the following Section 4.1(k):

(k)The Purchaser shall have received the Accountants reports referred to in Section 3.1 and such reports shall be satisfactory in form and substance to Purchaser in its sole and absolute discretion.

5.Reimbursement of Diligence Costs.  The Sellers will reimburse the Purchaser for all costs and expenses incurred by the Purchaser in connection with the negotiation of this Agreement and its diligence to the date of this Amendment, which costs and expenses are agreed to aggregate $200,000 (the “Purchaser Costs”), and shall make payment of the Purchaser Costs by wire transfer of immediately available funds, to the account described in Exhibit A to this Amendment, on or before February 10, 2005; provided if the Closing occurs, the Purchaser shall repay the Sellers the Purchaser Costs.

6.No Other Amendments.  As amended herein, the Agreement and the parties rights and obligations thereunder remain unmodified and in full force and effect.

7.Counterparts.  This Amendment may be executed in any number of counterparts, each of which shall be deemed an original, but such counterparts shall together constitute one and the same agreement.  Any such counterpart may be delivered by facsimile or e-mail (in .pdf format).

[Signatures follow on the next page.]

2

IN WITNESS WHEREOF, the parties have caused this Amendment to be executed as a sealed instrument as of the date first written above.

SELLERS:
FRANCISCAN MANOR ASSOCIATES, LLC, a Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:		/s/ Scott W. Gordon
			Scott W. Gordon
			Chief Operating Officer
MUIRFIELD ASSOCIATES, LLC, a Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:		/s/ Scott W. Gordon
			Scott W. Gordon
			Chief Operating Officer
PRESTWICKE ASSOCIATES, LLC, a Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:		/s/ Scott W. Gordon
			Scott W. Gordon
			Chief Operating Officer
ROYAL ABERDEEN ASSOCIATES, LLC, a Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:	/s/ Scott W. Gordon
		Scott W. Gordon
		Chief Operating Officer

3

TROON ASSOCIATES, LLC, a Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:	/s/ Scott W. Gordon
		Scott W. Gordon
		Chief Operating Officer
TURNBERRY ASSOCIATES, LLC, a Pennsylvania limited liability company
By:	Gordon Health Ventures, LLC,
	its member
	By:	/s/ Scott W. Gordon
		Scott W. Gordon
		Chief Operating Officer
PURCHASER:
FIVE STAR QUALITY CARE, INC.,
a Maryland corporation
By:	/s/ Evrett W. Benton
	Evrett W. Benton
	President

The undersigned hereby acknowledges receipt of a copy of this Amendment and agrees to its terms.

/s/ Scott W. Gordon

 Scott W. Gordon

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EXHIBIT A

[The following exhibit has been omitted and will be supplementally furnished to the Securities and Exchange Commission upon request.]

EX-12.1

Exhibit 12.1

FIVE STAR QUALITY CARE, INC.

COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES

(in thousands except ratios)

	Year ended December 31,
	2004			2003			2002			2001
Consolidated earnings (loss)	$	4,461		$	(6,500	)	$	(12,925	)	$	527
Consolidated fixed charges	1,170			1,439			249			—
Ratio of consolidated earnings to fixed charges	3.8		x	N/M			N/M			N/M
Deficiency	—			9,378			13,423			N/A
Calculation of fixed charges:
Interest expense	$	880		$	1,164		$	198		—
Interest expense capitalized	—			—			—			—
Interest component of capitalized lease expense	—			—			—			—
Amortization of debt discounts	—			—			—			—
Amortization of capitalized deferred finance costs	290			275			51			—
Fixed charges	$	1,170		$	1,439		$	249		—
Calculation of consolidated earnings (loss):
Consolidated net income	$	3,291		$	(7,939	)	$	(13,174	)	$	527
Consolidated fixed charges	1,170			1,439			249			—
Consolidated earnings (loss)	$	4,461		$	(6,500	)	$	(12,925	)	$	527

	Integrated Health Services, Inc. (A predecessor)			Mariner Post Acute Network, Inc. (A predecessor)
	Year ended December 31, 2000			Year ended December 31, 2000
Consolidated earnings (loss)	$	(23,199	)	$	(7,300	)
Consolidated fixed charges	2,053			121
Ratio of consolidated earnings to fixed charges	N/M			N/M
Deficiency	27,305			7,542
Calculation of fixed charges:
Interest expense	$	2,053		$	121
Interest expense capitalized	—			—
Interest component of capitalized lease expense	—			—
Amortization of debt discounts	—			—
Amortization of capitalized deferred finance costs	—			—
Fixed charges	$	2,053		$	121
Calculation of consolidated earnings (loss):
Consolidated net income	$	(25,252	)	$	(7,421	)
Consolidated fixed charges	2,053			121
Consolidated earnings (loss)	$	(23,199	)	$	(7,300	)

EX-21.1

Exhibit 21.1

Five Star Quality Care, Inc.

Subsidiaries of the Registrant

Affiliates Insurers Limited (Bermuda)

Alliance Pharmacy Services, LLC (Delaware)

CCC Boynton Beach, Inc. (Delaware)

Five Star Advertising, Inc. (Delaware)

Five Star Insurance, Inc. (Maryland)

Five Star MD Homes LLC (Delaware)

Five Star Procurement Group Trust (Maryland)

Five Star Quality Care Trust (Maryland)

Five Star Quality Care-Ainsworth, LLC (Delaware)

Five Star Quality Care-Ashland, LLC (Delaware)

Five Star Quality Care-AZ, LLC (Delaware)

Five Star Quality Care-Blue Hill, LLC (Delaware)

Five Star Quality Care-CA II, INC. (Maryland)

Five Star Quality Care-CA II, LLC (Delaware)

Five Star Quality Care-CA, Inc. (Delaware)

Five Star Quality Care-CA, LLC (Delaware)

Five Star Quality Care-Central City, LLC (Delaware)

Five Star Quality Care-CO, Inc. (Maryland)

Five Star Quality Care-Colorado, LLC (Delaware)

Five Star Quality Care-Columbus, LLC (Delaware)

Five Star Quality Care-CT, LLC (Delaware)

Five Star Quality Care-Edgar, LLC (Delaware)

Five Star Quality Care-Exeter, LLC (Delaware)

Five Star Quality Care-Farmington, LLC (Delaware)

Five Star Quality Care-FL, LLC (Delaware)

Five Star Quality Care-GA, Inc. (Delaware)

Five Star Quality Care-GA, LLC (Delaware)

Five Star Quality Care-GHV, LLC (Maryland)

Five Star Quality Care-Grand Island, LLC (Delaware)

Five Star Quality Care-Gretna, LLC (Delaware)

Five Star Quality Care-Howell, LLC (Delaware)

Five Star Quality Care-IA, Inc. (Delaware)

Five Star Quality Care-IA, LLC (Delaware)

Five Star Quality Care-KS, LLC (Delaware)

Five Star Quality Care-Lyons, LLC (Delaware)

Five Star Quality Care-MD, LLC (Delaware)

Five Star Quality Care-MI, Inc. (Delaware)

Five Star Quality Care-MI, LLC (Delaware)

Five Star Quality Care-Milford, LLC (Delaware)

Five Star Quality Care-MO, LLC (Delaware)

Five Star Quality Care-NC, LLC (Delaware)

Five Star Quality Care-NE, Inc. (Delaware)

Five Star Quality Care-NE, LLC (Delaware)

Five Star Quality Care-Sutherland, LLC (Delaware)

Five Star Quality Care-Utica, LLC (Delaware)

Five Star Quality Care-VA, LLC (Delaware)

Five Star Quality Care-Waverly, LLC (Delaware)

Five Star Quality Care-WI, Inc. (Delaware)

Five Star Quality Care-WI, LLC (Delaware)

Five Star Quality Care-WY, LLC (Delaware)

Five Star Seabury LLC (Delaware)

FS Lafayette Tenant Trust (Maryland)

FS Leisure Park Tenant Trust (Maryland)

FS Lexington Tenant Trust (Maryland)

FS Tenant Holding Company Trust (Maryland)

FS Tenant Pool I Trust (Maryland)

FS Tenant Pool II Trust (Maryland)

FS Tenant Pool III Trust (Maryland)

FS Tenant Pool IV Trust (Maryland)

FSQ Crown Villa Business Trust (Maryland)

FSQ Overland Park Place Business Trust (Maryland)

FSQ Pharmacy Holdings, LLC (Delaware)

FSQ Rio Las Palmas Business Trust (Maryland)

FSQ The Palms at Fort Myers Business Trust (Maryland)

FSQ Villa at Riverwood Business Trust (Maryland)

FSQ, Inc. (Delaware)

FSQ/LTA Holdings Inc. (Delaware)

FSQC Funding Co., LLC (Delaware)

FVEST.JOE, Inc. (Delaware)

LifeTrust America, Inc. (Tennessee)

LifeTrust Properties, LLC (Delaware)

LTA Management Services of Florida, LLC (Delaware)

LTA Management Services, LLC (Delaware)

Morningside Holdings of Concord, LLC (Delaware)

Morningside Holdings of Gastonia, LLC (Delaware)

Morningside Holdings of Greensboro, LLC (Delaware)

Morningside Holdings of Raleigh, LLC (Delaware)

Morningside Holdings of Williamsburg, LLC (Delaware)

Morningside of Alabama, L.P. (Delaware)

Morningside of Anderson, L.P. (Delaware)

Morningside of Athens, Limited Partnership (Delaware)

Morningside of Beaufort, LLC (Delaware)

Morningside of Bellgrade, Richmond, LLC (Delaware)

Morningside of Belmont, LLC (Delaware)

Morningside of Bowling Green, LLC (Delaware)

Morningside of Camden, LLC (Delaware)

Morningside of Charlottesville, LLC  (Delaware)

Morningside of Cleveland, LLC (Delaware)

Morningside of Columbus, L.P. (Delaware)

Morningside of Concord, LLC (Delaware)

Morningside of Conyers, LLC (Delaware)

Morningside of Cookeville, LLC (Delaware)

Morningside of Cullman, LLC (Delaware)

Morningside of Dalton, Limited Partnership (Delaware)

Morningside of Decatur, L.P. (Delaware)

Morningside of Evans, Limited Partnership (Delaware)

Morningside of Fayette, L.P. (Delaware)

Morningside of Franklin, LLC (Delaware)

Morningside of Gainesville, LLC (Delaware)

Morningside of Gallatin, LLC (Delaware)

Morningside of Gastonia, LLC (Delaware)

Morningside of Georgia, L.P. (Delaware)

Morningside of Greensboro, LLC (Delaware)

Morningside of Greenwood, L.P. (Delaware)

Morningside of Hartsville, LLC (Delaware)

Morningside of Hopkinsville, Limited Partnership (Delaware)

Morningside of Jackson, LLC  (Delaware)

Morningside of Kentucky, Limited Partnership  (Delaware)

Morningside of Knoxville, LLC  (Delaware)

Morningside of Lexington, LLC  (Delaware)

Morningside of Macon, LLC  (Delaware)

Morningside of Madison, LLC  (Delaware)

Morningside of Newport News, LLC  (Delaware)

Morningside of Orangeburg, LLC  (Delaware)

Morningside of Paducah, LLC  (Delaware)

Morningside of Paris, L.P.  (Delaware)

Morningside of Raleigh, LLC  (Delaware)

Morningside of Seneca, L.P.  (Delaware)

Morningside of Sheffield, LLC  (Delaware)

Morningside of Skipwith-Richmond, LLC  (Delaware)

Morningside of South Carolina, L.P.  (Delaware)

Morningside of Springfield, LLC  (Delaware)

Morningside of Tennessee, LLC  (Delaware)

Morningside of Williamsburg, LLC  (Delaware)

National LTC Pharmacy Services LLC (Delaware)

Senior Living of Boynton Beach Limited Partnership (Delaware)

The Heartlands Retirement Community – Ellicott City I, Inc. (Maryland)

The Heartlands Retirement Community – Ellicott City II, Inc. (Maryland)

EX-23.1

Exhibit 23.1

Consent of Independent Registered Public Accounting Firm

We consent to the incorporation by reference in the Registration Statement (Form S-3 No. 333-121910) of Five Star Quality Care, Inc. and in the related Prospectus of our report dated March 21, 2005, with respect to the consolidated financial statements of Five Star Quality Care, Inc. included in this Annual Report (Form 10-K) for the year ended December 31, 2004.

/s/ Ernst & Young LLP

Boston, Massachusetts

March 28, 2005

EX-31.1

Exhibit 31.1

CERTIFICATION PURSUANT TO EXCHANGE ACT RULES 13A-14(A) AND 15(D)-14(A)

I, Evrett W. Benton, certify that:

1.I have reviewed this Annual Report on Form 10-K of Five Star Quality Care, Inc.;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date:  March 29, 2005	/s/ Evrett W. Benton
	Evrett W. Benton
	President and Chief Executive Officer

EX-31.2

Exhibit 31.2

CERTIFICATION PURSUANT TO EXCHANGE ACT RULES 13A-14(A) AND 15(D)-14(A)

I, Bruce J. Mackey Jr., certify that:

1.I have reviewed this Annual Report on Form 10-K of Five Star Quality Care, Inc.;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a.Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c.Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date:     March 29, 2005	/s/ Bruce J. Mackey Jr.
	Bruce J. Mackey Jr.
	Treasurer and Chief Financial Officer

EX-32.1

Exhibit 32.1

Certification Pursuant to 18 U.S.C. Sec. 1350

(Section 906 of the Sarbanes – Oxley Act of 2002)

In connection with the filing by Five Star Quality Care, Inc. (the “Company”) of the Annual Report on Form 10-K for the year ending December 31, 2004 (the “Report”), each of the undersigned hereby certifies, to the best of his knowledge:

1.The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

2.The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

/s/ Evrett W. Benton

Evrett W. Benton

President and Chief Executive Officer

/s/ Bruce J. Mackey Jr.

Bruce J. Mackey Jr.

Treasurer and Chief Financial Officer

EX-99.1

EXHIBIT 99.1

FIVE STAR QUALITY CARE, INC.

GOVERNANCE GUIDELINES

Adopted March 10, 2004

As amended January 19, 2005

The following Governance Guidelines (the “Guidelines”) have been adopted by the Board of Directors (the “Board”) of Five Star Quality Care, Inc. (the “Company”), with the recommendation of the Nominating and Governance Committee of the Board, to assist the Board in the exercise of its responsibilities.  These Guidelines reflect the Board’s commitment to monitor the effectiveness of policy and decision making both at the Board and management level.  These Guidelines are in addition to and are not intended to change or interpret any Federal or state law or regulation, the articles of incorporation or Bylaws of the Company.  The Guidelines are subject to modification by the Board.

I. GENERAL QUALIFICATIONS STANDARDS FOR THE BOARD

Size of the Board.

The size and composition of the Board should be appropriate for effective deliberation of issues relevant to the Company’s businesses and related interests, and shall be determined in accordance with the Company’s Bylaws and applicable law.

Nomination and Selection of Directors.

The Board as a whole will be responsible for developing and approving criteria for candidates for Board membership.  The Nominating and Governance Committee will be responsible for seeking candidates to become Board members, consistent with criteria approved by the Board, and for recommending candidates to the entire Board for selection for nomination as Board members.  The Board as a whole will be responsible for nominating individuals for election to the Board by the shareholders and for filling vacancies on the Board that may occur between annual meetings of the shareholders, but may not nominate any individual who has not been recommended by the Nominating and Governance Committee.

Nominees for director will be selected on the basis of their integrity, experience, achievements, judgment, intelligence, personal character, ability to make independent analytical inquiries, willingness to devote adequate time to Board duties, and likelihood that they will be able to serve on the Board for a sustained period.  In connection with the selection of nominees for director, due consideration will be given to the Board’s overall balance of diversity of perspectives, backgrounds and experiences.  The Nominating and Governance Committee will consider any suggestions offered by other directors or shareholders (if made in accordance with the Nominating and Governance Committee Charter and the Bylaws) with respect to potential directors.

Independence.

A majority of the directors shall meet the American Stock Exchange listing standards for independence.  The full Board will make affirmative determinations of the independence of each director.  Such determinations shall be made using the standards and processes approved and adopted from time to time by the full Board.

Limit on the Number of Other Board Memberships.

Directors are expected to devote sufficient time to fulfill their responsibilities as directors of the Company.  Accordingly, directors may serve on the Board of other public companies, but shall limit such service to that reasonable number of companies which would not conflict with his or her responsibilities as a director of the Company.

Director Term Limits.

The Board does not favor term limits, due to the valuable expertise and knowledge that experienced Board members can bring to the Company, but the Board believes that it is important to monitor overall Board performance.

II. DIRECTOR RESPONSIBILITIES

The Board is elected by and accountable to the shareholders and is responsible for the strategic direction, oversight and control of the Company.  In carrying out its responsibilities, the Board will exercise sound, informed and independent business judgment.  The Board recognizes that to do so requires individual preparation by each director and group deliberation by the Board.  The Board’s responsibilities include both decision-making and oversight.

Among other things, the Board’s decision-making responsibilities include:

•review and approval of the Company’s mission, strategies, objectives and policies, as developed by management;

•the selection of nominees for Board membership;

•the selection and evaluation of the Company’s Chief Executive Officer (through the Compensation Committee);

•the approval of material investments or divestitures, strategic transactions, and other significant transactions that are not in the ordinary course of the Company’s business; and

•the evaluation of the performance of the Board.

Among other things, the Board’s oversight responsibilities include monitoring:

•the Company’s compliance with legal requirements and ethical standards;

•the performance of the Company;

•the development of leaders and sound succession plans;

•the performance and effectiveness of the Company’s officers and its shared services provider (to the extent not overseen by the Compensation Committee); and

•the Company’s financial reporting and disclosure processes and internal controls.

Among other things, the Board expects each director to:

•understand the Company’s business;

•regularly attend meetings of the Board and of the applicable committees and the Company’s annual meeting of shareholders;

•review and understand the materials provided in advance of meetings and any other materials provided to the Board from time to time;

•actively, objectively and constructively participate in meetings and the strategic decision-making process;

•share his or her perspective, background, experience, knowledge and insights as they relate to the matters before the Board and its committees; and

•be reasonably available when requested to advise management on specific issues not requiring the attention of the full Board but where an individual director’s insights might be helpful to management.

2

III. BOARD MEETINGS AND COMMUNICATIONS

Meetings.

The Board generally meets at least four times a year, on dates selected and upon notice as provided by the Bylaws.

Agenda.

The Managing Directors shall set the agenda for Board meetings.  Committee Chairs shall set the agenda for committee meetings.  Directors and committee members may suggest agenda items and may raise other matters at meetings.  Whenever reasonably possible, agenda and other information and materials that are important to the Board’s understanding of the business to be conducted at a Board or committee meeting should be distributed to the directors prior to the meeting, in order to provide ample time for review beforehand.

Executive Sessions of Non-Management Directors.

The non-management directors (within the meaning of the rules of the AMEX) generally should meet at least once a year in regularly scheduled executive sessions.  In the event the non-management directors include any director which is not an independent director (within the meaning of rules of the AMEX), the independent directors will, in addition, meet at least once in each year in an executive session.  The presiding director for purposes of leading non-management directors sessions or independent directors sessions will be the Chair of the Audit Committee unless the non-management directors or independent directors, as applicable, determine otherwise.

Communications with Board.

Security holders or other interested parties may communicate to the non-management directors, the Board or individual directors via submissions through the Company’s website or toll-free hot-line or written submissions.  Any communications addressed to the Board, individual directors or other committees of the Board shall be received by the director of internal audit, then delivered by the director of internal audit to the appropriate party or parties promptly following the receipt of such communications, and such communications shall not be screened prior to review by the appropriate party.  The director of internal audit shall provide a copy of any written communications to the Audit Committee.

IV. BOARD COMMITTEES

Quality of Care, Audit, Nominating and Governance and Compensation Committees.

The Board shall at all times have a Quality of Care Committee, an Audit Committee, a Nominating and Governance Committee and a Compensation Committee.  The Audit, Nominating and Governance and Compensation Committees shall be composed entirely of independent directors.  The duties and responsibilities for each of these committees shall be outlined in committee charters which shall be approved by the Board.  Each of these committees shall operate in accordance with applicable law, its charter, and the applicable rules of the Securities and Exchange Commission and the American Stock Exchange.  Normally, each of these standing committees will report on its meetings and activities at the next regularly scheduled meeting of the full Board.

Other Committees.

The Board may also establish such other committees as it deems appropriate and delegate to those committees any authority permitted by applicable law and the Company’s Bylaws as the Board sees fit, other than the responsibilities delegated to the existing committees in their charters or reserved to the full Board.  All standing Board committees shall be chaired by independent directors.  Ad hoc pricing

3

committees of the Board established in connection with offerings of securities will ordinarily consist of the Company’s managing directors.

Assignment and Rotation of Committee Members.

The Board shall be responsible for the assignment of Board members to various standing committees.  The Board shall be responsible for appointing the members to the standing committees on an annual basis.  The Board may elect the chair for each committee or may delegate such election to the committee.  The Board shall annually review the responsibilities and membership for each standing committee.  Standing committee chairs should be rotated if rotation is likely to increase committee performance or facilitate committee work.

V. DIRECTOR ACCESS TO MANAGEMENT AND INDEPENDENT ADVISORS

Access to the Company’s Management.

Each director shall have complete access to the Company’s management.  The Company’s management will make itself available to answer the directors’ questions about the Company between meetings at reasonable times.

Independent Advisors.

The Board and Board committees may engage and consult with financial, legal, or other independent advisors as they may deem necessary, at the Company’s expense, without consulting or obtaining the approval of any officer of the Company in advance.

VI. DIRECTOR COMPENSATION

Each year the Board shall review the compensation paid to the members of the Board and determine both the amount of director compensation that should be paid and the allocation of that compensation between equity-based awards and cash.  Directors who are employees of the Company or any of its subsidiaries or affiliates or the Company’s shared services provider shall not receive any compensation for their services as directors, other than share grants.

The Board believes it is important to align the interests of directors with those of the shareholders and for directors to hold equity ownership positions in the Company.  Accordingly, the Board believes that a portion of each independent director’s compensation should be paid in shares or other forms of compensation that correlate with the market value of the Company.  In determining the amount and composition of the compensation of the Company’s directors, the compensation of directors of other comparable enterprises, both with respect to size and industry, will be considered.

VII. DIRECTOR ORIENTATION AND CONTINUING EDUCATION

Director Orientation.

Materials and briefings are provided to new directors, on an individual basis, to permit them to become familiar with the Company’s business, industry and governance practices.

Continuing Education.

Each director is expected to maintain the necessary level of expertise to perform his or her responsibilities as a director.

4

VIII. MANAGEMENT AND ADVISOR EVALUATION

Compensation.

The Compensation Committee shall annually review and approve the compensation of the Chief Executive Officer and the shared services provider.  The Compensation Committee shall also consult with the Chief Executive Officer with respect to the Chief Executive Officer’s recommendation to the Board for approval of the compensation of all other officers and annual extension of the Company’s advisory agreement with the shared services provider.

IX.  RELATED PARTY TRANSACTIONS.

Neither the Company nor any of its subsidiaries shall enter into any transaction in which any managing director or executive officer, or any member of the immediate family of any managing director or executive officer, has or will have a direct or indirect material interest, unless that transaction has been disclosed or made known to the Board and the Board authorizes, approves, or ratifies the transaction by the affirmative vote of a majority of the disinterested directors, even if the disinterested directors constitute less than a quorum.

X. ANNUAL PERFORMANCE EVALUATION OF THE BOARD

Self-Evaluation by the Board.

Each year, the Board will conduct a self-evaluation to determine whether it and its committees are functioning effectively.  The Nominating and Governance Committee shall be responsible for overseeing the process for such evaluation.  The full Board will discuss the evaluation report to determine what, if any, action could improve Board and committee performance.

Evaluation of the Governance Guidelines.

The Board recognizes that these Guidelines must continue to evolve to meet the changing needs of the Company and its shareholders and changing requirements.  The Board, upon the recommendations of the Nominating and Governance Committee, after reviewing and reassessing the adequacy of these Guidelines, will determine whether any changes are appropriate.

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