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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Form 10-K

Commission file number: 1-9550

BEVERLY ENTERPRISES, INC.

One Thousand Beverly Way

Registrant’s telephone number, including area code: (479) 201-2000

Registrant’s website: www.beverlycares.com

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

Securities registered Pursuant to Section 12(g) of the Act: NONE

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

      Indicate by check mark if Registrant is an accelerated filer as of June 30, 2002 (as defined in Exchange Act Rule 12b-2).     Yes     þ    No o

      The aggregate market value of the voting stock held by nonaffiliates of Registrant was $790,263,327 as of June 28, 2002.

104,716,012

(Number of shares of common stock outstanding, net of treasury shares, as of February 28, 2003)

      Part III is incorporated by reference from the Proxy Statement for the Annual Stockholders Meeting to be held on May 22, 2003.

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FORWARD-LOOKING STATEMENTS

      References throughout this document to the Company include Beverly Enterprises, Inc. and its wholly owned subsidiaries. In accordance with the Securities and Exchange Commission’s “Plain English” guidelines, this Annual Report on Form 10-K has been written in the first person. In this document, the words “we”, “our”, “ours” and “us” refer only to Beverly Enterprises, Inc. and its wholly owned subsidiaries and not any other person. The Company’s website — www.beverlycares.com — provides access to the Company’s Securities and Exchange Commission reports within 24 hours of filing.

      This Annual Report on Form 10-K, and other information we provide from time to time, contains certain “forward-looking” statements as that term is defined by the Private Securities Litigation Reform Act of 1995. All statements regarding our expected future financial position, results of operations or cash flows, continued performance improvements, ability to service, refinance and comply with our debt obligations, ability to finance growth opportunities, ability to control our patient care liability costs, ability to respond to changes in government regulations, ability to execute our three-year strategic plan and similar statements including, without limitation, those containing words such as “believes,” “anticipates,” “expects,” “intends,” “estimates,” “plans,” and other similar expressions are forward-looking statements.

      Forward-looking statements involve known and unknown risks and uncertainties that may cause our actual results in future periods to differ materially from those projected or contemplated in the forward-looking statements as a result of, but not limited to, the following factors:

	•	national and local economic conditions, including their effect on the availability and cost of labor, utilities and materials;
	•	the effect of government regulations and changes in regulations governing the healthcare industry, including our compliance with such regulations;
	•	changes in Medicare and Medicaid payment levels and methodologies and the application of such methodologies by the government and its fiscal intermediaries;
	•	the effects of adopting new accounting standards;
	•	liabilities and other claims asserted against the Company, including patient care liabilities, as well as the resolution of lawsuits brought about by the announcement or settlement of federal government investigations and the announcement of increases in reserves for patient care liabilities (see Item 3. Legal Proceedings);
	•	our ability to predict future reserve levels for patient care liabilities;
	•	our ability to execute strategic divestitures in a timely manner at fair value;
	•	our ability to improve our fundamental business processes and reduce costs throughout the organization;
	•	our ability to attract and retain qualified personnel;
	•	the availability and terms of capital to fund acquisitions, capital improvements and ongoing operations;
	•	the competitive environment in which we operate;
	•	our ability to maintain and increase census levels; and
	•	demographic changes.

      See Item 1. Business for a discussion of various governmental regulations and other operating factors relating to the healthcare industry and the related risk factors. You should carefully consider the risks described herein before making any investment decisions in the Company. These risks and uncertainties are not the only ones facing the Company. There may be additional risks that we do not presently know of or that we currently deem immaterial. If any of these risks actually occur, our business, financial condition, results of operations or cash flows could be materially and adversely affected. In that case, the trading price of our Common Stock could decline, and you may lose all or part of your investment. Given these risks and uncertainties, we can give no assurances that these forward-looking statements will, in fact, transpire and, therefore, we caution investors not to place undue reliance on them.

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PART I

ITEM 1. BUSINESS.

General

      Our business consists principally of providing healthcare services, including the operation of nursing facilities, assisted living centers, hospice and home care centers, outpatient clinics and rehabilitation therapy services. We are one of the largest operators of nursing facilities in the United States. On December 31, 2002, we operated 452 nursing facilities with 49,667 licensed beds. Our nursing facilities are located in 26 states and the District of Columbia, and range in capacity from 20 to 355 licensed beds. On December 31, 2002, we also operated 29 assisted living centers containing 841 units, 151 outpatient clinics, and 49 hospice and home care centers. (See Item 2. Properties.) Our nursing facilities had average occupancy, based on operational beds, of 87.9%, 86.9% and 87.0% during the years ended December 31, 2002, 2001, and 2000, respectively.

Operations

      In the first quarter of 2002, we reorganized our operations into four primary operating segments, which include:

	•	Nursing facilities, which provide long-term healthcare through the operation of nursing homes and assisted living centers. Our nursing facilities provide residents with routine long-term care services, including daily nursing, dietary, social and recreational services and a full range of pharmacy services and medical supplies. Our skilled staff also provides complex and intensive medical services to residents with higher acuity disorders outside the traditional acute care hospital setting. In addition, certain of our nursing facilities provide assisted living services. Approximately 95% of our net operating revenues are derived from services provided by our Nursing Facilities segment;
	•	AEGIS, which provides rehabilitation therapy services under contract to Beverly and non-Beverly facilities. Approximately 2% of our net operating revenues are derived from services provided by our AEGIS segment;
	•	Home Care, which provides home health, hospice and home medical equipment services. Approximately 3% of our net operating revenues are derived from services provided by our Home Care segment. A portion of this segment, MK Medical, was held for sale as of December 31, 2002, and as such its operations are included in discontinued operations in the accompanying consolidated statements of operations; and
	•	Matrix, which operates outpatient therapy and other clinics and a managed care network. This segment was held for sale as of December 31, 2002, and as such its operations are included in discontinued operations in the accompanying consolidated statements of operations. We sold the outpatient rehabilitation therapy clinic operations and the managed care network of Matrix in January 2003.

      Business in each operating segment is conducted by one or more corporations. The corporations comprising each of the four operating segments also have separate boards of directors. See Item 8 — Note 13 for segment information.

We Rely on Reimbursement from Governmental Programs for a Majority of Our Revenues.

      As a provider of healthcare services, we are subject to various federal, state and local healthcare statutes and regulations. We must comply with state licensing requirements in order to operate healthcare facilities and to participate in government-sponsored healthcare funding programs, such as Medicaid and Medicare. Medicaid is a medical assistance program for the indigent, operated by individual states with the financial participation of the federal government. Medicare is a health insurance program for the elderly and certain other chronically disabled individuals, operated by the federal government. These programs are increasingly seeking to control healthcare costs and to reduce or limit increases in reimbursement rates for healthcare services. Changes in the reimbursement policies of these funding programs as a result of budget cuts by federal

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      We receive payments for services provided to patients from:

	•	each of the states in which our facilities are located under the applicable Medicaid program;
	•	the federal government under the Medicare program and the Department of Veterans Affairs; and
	•	private payors, including commercial insurers and managed care payors.

      The following table sets forth for the periods indicated:

	•	nursing facility patient days derived from the indicated sources of payment as a percentage of total nursing facility patient days; and
	•	revenues derived from the indicated sources of payment as a percentage of total net operating revenues.

      Changes in the mix of our patient population among the Medicaid, Medicare and private categories can significantly affect our revenues and profitability. In most states, private patient care is the most profitable, and Medicaid patient care is the least profitable. We receive ancillary revenues by providing occupational, physical, speech, respiratory and intravenous therapy, as well as sales of pharmaceuticals and other services.

      Medicaid programs currently exist in all of the 26 states, and the District of Columbia, in which we operate nursing facilities. These programs differ in certain respects from state to state, but they are all subject to federal-imposed requirements. At least 50% of the funds available under these programs is provided by the federal government under a matching program.

      Currently, many state Medicaid programs use a cost-based reimbursement system. This means that a facility is reimbursed for the reasonable direct and indirect allowable costs it incurs in providing routine patient care services (as defined by the programs). In addition, certain states provide for efficiency incentives or a return on equity, subject to certain cost ceilings. These costs normally include allowances for administrative and general costs, as well as the costs of property and equipment (e.g. depreciation and interest, fair rental allowance or rental expense).

      State Medicaid reimbursement programs vary as to the level of allowable costs which are reimbursed to operators. In some states, cost-based reimbursement is subject to retrospective adjustment through cost report settlement. In other states, reimbursements made to a facility that are subsequently determined to be less than or in excess of allowable costs may be adjusted through future reimbursements to the facility and to other facilities owned by the same operator. Still other states reimburse facilities based upon costs from a prior base year, adjusted for inflation. Several states in which we currently operate have enacted reimbursement programs which are based on patient acuity versus traditional cost-based methodologies. Many other states are actively developing reimbursement systems based on patient acuity or that follow a methodology similar to Medicare’s prospective payment system (see below). We are unable to estimate the ultimate impact of any changes in state reimbursement programs on our future consolidated financial position, results of operations, or cash flows.

      While federal regulations do not provide states with grounds to curtail funding of their Medicaid cost reimbursement programs due to state budget deficiencies, states have done so in the past. No assurance can be given that states will not do so in the future or that the future funding of Medicaid programs will remain at levels comparable to the present levels. In August 1997, the Balanced Budget Act of 1997 (the “1997 Act”)

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      Under the Nursing Home Resident Protection Amendments of 1999, a nursing facility is required to continue providing care to Medicaid residents, as well as current non-Medicaid residents who may qualify for Medicaid in the future, even if the facility decides to withdraw from the Medicaid program.

      Healthcare system reform and concerns over rising Medicare and Medicaid costs have been priorities for both the federal and state governments. The 1997 Act included numerous program changes directed at balancing the federal budget. The legislation changed Medicare and Medicaid policy in a number of ways, including the phase-in of the Medicare prospective payment system (“PPS”) for skilled nursing facilities. PPS reimburses a skilled nursing facility based upon the acuity level of Medicare patients. Acuity level is determined by classifying a patient into one of 44 Resource Utilization Grouping (“RUG”) categories, based on the nature of the patient’s condition and services needed.

      In 1999 and 2000, certain refinements were made to the 1997 Act. These refinements restored substantial Medicare funding to skilled nursing facilities and other healthcare providers originally eliminated by the 1997 Act. Certain of these refinements were eliminated effective September 30, 2002, including, among other things:

	•	a 16.66% add-on to the nursing component of all 44 RUG categories; and
	•	a 4% overall increase in the adjusted rates for all 44 RUG categories.

      Our net operating revenues were reduced in 2002 by approximately $14.0 million as a result of the elimination of these add-ons in the fourth quarter. Assuming a similar volume and mix of Medicare patients in 2003, we anticipate our net operating revenues will decline an additional $42.0 million from 2002, for an annual impact of $56.0 million. While it is possible that the federal government may restore some or all of these payments in the future, we can give no assurances that will occur, or if it should occur, when it might happen and whether it will be retroactive.

      Certain of the refinements made in 1999 and 2000 remain in place today including, among other things:

	•	a 20% add-on for the high acuity non-therapy RUG categories; and
	•	a 6.7% add-on for all rehabilitation RUG categories.

      In addition, the 1999 and 2000 refinements to the 1997 Act included a three year moratorium on the two $1,500 Part B therapy caps. This moratorium expired on December 31, 2002. However, on February 7, 2003, the Centers for Medicare and Medicaid Services (“CMS”), formerly known as the Health Care Financing Administration (“HCFA”) of the Department of Health and Human Services (“HHS”), announced that the Part B therapy caps will be implemented on July 1, 2003. Implementation will be on a prospective basis only. Based on the current volume of Part B therapy in our nursing homes, the decrease in our annual net operating revenues is anticipated to be approximately $16.0 million. Our AEGIS outside therapy contract business will likely be further impacted in terms of revenue and may be required to adjust therapy staffing levels to offset a portion of this revenue impact.

      The 20% add-on for high acuity non-therapy RUG categories and the 6.7% add-on for all rehabilitation RUG categories will expire when CMS releases their refinements to the current RUG payment system. We generate approximately $38.6 million in annual net operating revenues related to these add-ons. We cannot currently predict when CMS will release their refinements nor can we predict what their ultimate impact will be on our operating results or cash flows.

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      On February 10, 2003, CMS published a proposed rule to reduce by 30 percent the amount that Medicare reimburses skilled nursing facilities and other non-hospital providers for bad debts arising from uncollectible Medicare coinsurance and deductibles. The proposal is to phase in the reduction over a three-year period at 10 percent per year beginning October 1, 2003. Based on our current volume of Medicare bad debts, the proposed change would reduce our net operating revenues for the fourth quarter of 2003 by approximately $425,000 (calculated at the 10% reduction level). The annual impact of this proposed change at the 30% reduction level would be approximately $5.1 million.

Our Industry is Heavily Regulated by the Government which Requires Our Compliance with a Variety of Laws.

      The operation of our facilities and the services we provide are subject to periodic inspection by governmental authorities to ensure that we are complying with standards established for continued licensure under state law and certification for participation under the Medicare and Medicaid programs. Additionally, in certain states, certificates of need or other similar approvals are required for expansion of our operations. We could be adversely affected if we are unable to obtain these approvals, if the standards applicable to approvals or the interpretation of those standards change, and by possible delays and expenses associated with obtaining approvals. Our failure to obtain, retain or renew any required regulatory approvals, licenses or certificates could prevent us from being reimbursed for certain of our services.

      CMS published survey, certification and enforcement guidelines in July 1999 and December 1999 to implement the Medicare and Medicaid provisions of the Omnibus Budget Reconciliation Act of 1987 (“OBRA 1987”). OBRA 1987 authorized CMS to develop regulations governing survey, certification and enforcement of the requirements for participation by skilled nursing facilities under Medicare and nursing facilities under Medicaid. Among the provisions that CMS adopted were requirements that:

	•	surveys focus on residents’ outcomes;
	•	all deviations from the participation requirements will be considered deficiencies, but all deficiencies will not constitute noncompliance; and
	•	penalties will result for certain types of deficiencies.

      The regulations also identify remedies, as alternatives to termination from participation, and specify the categories of deficiencies for which these remedies will be applied. These remedies include:

	•	installation of temporary management;
	•	denial of payment for new admissions;
	•	denial of payment for all patients;
	•	civil monetary penalties of $50 to $3,000 per day;
	•	closure of facility and/or transfer of patients in emergencies;
	•	directed plans of correction; and
	•	directed in-service training.

      CMS’s most recent enforcement guidelines established criteria that:

	•	mandate the immediate application of remedies before the provider has an opportunity to correct the deficiency;
	•	impose a “per instance” civil monetary penalty up to $10,000 per day; and
	•	allow termination in as few as two days.

      We could be adversely affected if a substantial portion of our programs or facilities were eventually determined not to be in compliance with the CMS regulations.

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      In the ordinary course of our business, we receive notices of deficiencies for failure to comply with various regulatory requirements. We review all such notices and take timely and appropriate corrective action. In most cases, the facility and the reviewing agency will agree upon the steps to be taken to bring the facility into compliance with regulatory requirements. In some cases or upon repeat violations, the reviewing agency may take a number of adverse actions against a facility. These adverse actions include:

	•	the imposition of fines;
	•	temporary suspension of admission of new patients to the facility;
	•	decertification from participation in the Medicaid or Medicare programs; or
	•	in extreme circumstances, revocation of a facility’s license.

      We have been subject to certain of these adverse actions in the past and could be subject to adverse actions in the future which could result in significant penalties, as well as adverse publicity.

      We utilize a program called the “Beverly Quality System” to help ensure quality care is provided in all of our facilities. The program is comprised of four elements: facility-based Quality Assurance and Assessment Committees; Quality Councils; facility performance assessments and a performance improvement model. All elements of the Beverly Quality System are addressed by a multi-disciplinary team which includes regional and district level business leaders and clinical consultants. Additional consultative support is provided by designated Quality Management Directors within the organization.

      During 2002, CMS conducted a pilot project in five states, Colorado, Maryland, Ohio, Rhode Island and Washington, where it publicly reported on the performance of each nursing home in those states in terms of quality of care. This reporting used a set of quality indicators calculated from the minimum data set assessments prepared by the nursing homes on each resident. This project was extended to all facilities nationwide in November 2002, and is expected to assist consumers in evaluating nursing homes, and to assist CMS in working with the nursing home industry to develop quality improvement programs where needed.

      The Social Security Act and regulations of HHS state that providers and related persons who have been convicted of a criminal offense related to the delivery of an item or service under the Medicare or Medicaid program or who have been convicted, under state or federal law, of a criminal offense relating to neglect or abuse of residents in connection with the delivery of a healthcare item or service cannot participate in the Medicare and Medicaid programs. Furthermore, providers and related persons who have been convicted of fraud, who have had their licenses revoked or suspended, or who have failed to provide services of adequate quality may be excluded from the Medicare and Medicaid programs.

      In February 2000, as part of the settlement of an investigation by the federal government into our allocation of certain costs to the Medicare program, we entered into a Corporate Integrity Agreement with the Office of Inspector General (the “OIG”) of HHS. This agreement requires that we monitor, on an ongoing basis, our compliance with the requirements of the federal healthcare programs. This agreement addresses our obligations to ensure that we comply with the requirements for participation in the federal healthcare programs. It also includes our functional and training obligations, audit and review requirements, recordkeeping and reporting requirements, as well as penalties for breach/noncompliance of the agreement. We believe that we are generally in compliance with the requirements of the Corporate Integrity Agreement and file annual reports with the OIG documenting our compliance.

      There are “fraud and abuse” anti-kickback provisions in the Social Security Act (the “Antifraud Amendments”) which make it a criminal felony offense to knowingly and willfully offer, pay, solicit or receive payment in order to induce business for which reimbursement is provided under government health programs, including Medicare and Medicaid. In addition, violators can be subject to civil penalties, as well as exclusion from future participation in government health programs. The Antifraud Amendments have been broadly interpreted to make payment of any kind, including many types of business and financial arrangements among providers and between providers and beneficiaries, potentially illegal if any purpose of the payment or financial arrangement is to induce a referral. Accordingly, joint ventures, space and equipment rentals, management

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      From time to time, HHS puts into effect regulations describing, or clarifying, certain arrangements that are not subject to enforcement action under the Antifraud Amendments (the “Safe Harbors”). The Safe Harbors described in the regulations are narrow, leaving a wide range of economic relationships, which many hospitals, physicians and other healthcare providers consider to be legitimate business arrangements, possibly subject to enforcement action under the Antifraud Amendments. The regulations do not intend to comprehensively describe all lawful relationships between healthcare providers and referral sources. The regulations clearly state that just because an arrangement does not qualify for Safe Harbor protection does not mean it violates the Antifraud Amendments. However, it may subject a particular arrangement or relationship to increased regulatory scrutiny.

      In addition to the Antifraud Amendments, Section 1877 of the Social Security Act (known as the “Stark Law”) imposes restrictions on financial relationships between physicians and certain entities. The Stark Law provides that if a physician (or an immediate family member of a physician) has a financial relationship with an entity that provides certain designated health services, the physician may not refer a Medicare or Medicaid patient to the entity. In addition, the entity may not bill for services provided by that physician unless an exception to the financial relationship exists. Designated health services include physical therapy, occupational therapy, prescription drugs and home health. The types of financial relationships that can trigger the referral and billing prohibitions include ownership or investment interests, as well as compensation arrangements. Penalties for violating the law are severe, and include:

	•	denial of payment for services provided;
	•	civil monetary penalties of $15,000 for each service claimed;
	•	refunds of any amounts collected;
	•	assessments of up to twice the amount claimed for each service;
	•	civil monetary penalties up to $100,000 for each arrangement or scheme designed to circumvent the Stark Law’s prohibitions; and
	•	exclusion from the Medicare and Medicaid programs.

      Many states where we operate have laws similar to the Antifraud Amendments and the Stark Law, but with broader effect since they apply regardless of the source of payment for care. These laws typically provide criminal and civil penalties, as well as loss of licensure. The scope of these state laws is broad and little precedent exists for their interpretation or enforcement.

      The Health Insurance Portability and Accountability Act of 1996 (“HIPAA”) includes comprehensive revisions or supplements to the Antifraud Amendments. Under HIPAA, it is a federal criminal offense to commit healthcare fraud. Healthcare fraud is defined as knowingly and willfully executing or attempting to execute a “scheme or device” to defraud any healthcare benefit program. In addition, for the first time, federal enforcement officials have the ability to exclude from the Medicare and Medicaid programs any investors, officers and managing employees associated with business entities that have committed healthcare fraud, even if the investor, officer or employee had no actual knowledge of the fraud. HIPAA established that it is a violation to pay a Medicare or Medicaid beneficiary so as to influence such beneficiary to order or receive services from a particular provider or practitioner. Many of the HIPAA provisions became effective January 1, 1997.

      The 1997 Act also contained a significant number of new fraud and abuse provisions. For example, civil monetary penalties may also be imposed for violations of the Antifraud Amendments (previously, exclusion or criminal prosecution were the only actions under the Antifraud Amendments), as well as for contracting with an individual or entity that a provider knows or should know is excluded from a federal healthcare program. The 1997 Act provides for civil monetary penalties of $50,000 and damages of not more than three times the amount of payment received from the prohibited activity.

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      In 1976, Congress established the OIG at HHS to identify and eliminate fraud, abuse and waste in HHS programs and to promote efficiency and economy in HHS departmental operations. The OIG carries out this mission through a nationwide program of audits, investigations and inspections. In order to provide guidance to healthcare providers on ways to engage in legitimate business practices and avoid scrutiny under the fraud and abuse statutes, the OIG has from time to time issued “fraud alerts” identifying segments of the healthcare industry and particular practices that are vulnerable to abuse. The fraud alerts encourage persons having information about potentially abusive practices or transactions to report such information to the OIG. The OIG has issued three fraud alerts targeting the skilled nursing industry:

	•	an August 1995 alert which relates to the providing of medical supplies to nursing facilities, the fraudulent billing for medical supplies and equipment and fraudulent supplier transactions;
	•	a May 1996 alert which focuses on the providing of fraudulent professional services to nursing facility residents; and
	•	a March 1998 alert which addresses the interrelationship between hospice services and the nursing home industry, and potentially illegal practices and arrangements.

      In addition to laws addressing referral relationships, several federal laws impose criminal and civil sanctions for fraudulent and abusive billing practices. The federal False Claims Act imposes sanctions, consisting of monetary penalties of up to $11,000 for each claim and three times the amount of damages, on entities and persons who knowingly present or cause to be presented to the federal government a false or fraudulent claim for payment. The Social Security Act prohibits the knowing and willful making of a false statement or misrepresentation of a material fact with respect to the submission of a claim for payment under government health programs (including the Medicare and Medicaid programs). Violations of this provision are a felony offense punishable by fines and imprisonment. The HIPAA provisions establish criminal penalties for fraud, theft, embezzlement, and the making of false statements with respect to healthcare benefit programs (which includes private, as well as government programs). Government prosecutors are increasing their use of the federal False Claims Act to prosecute quality of care deficiencies in healthcare facilities. Their theory behind this is that the submission of a claim for services provided in a manner which falls short of quality of care standards can constitute the submission of a false claim. Under federal law, private parties may bring qui tam whistle-blower lawsuits alleging false claims. Some states have adopted similar whistle-blower and false claims provisions.

      In addition to increasing the resources devoted to investigating allegations of fraud and abuse in the Medicare and Medicaid programs, federal and state regulatory and law enforcement authorities are taking an increasingly strict view of the requirements imposed on healthcare providers by the Social Security Act and Medicare and Medicaid regulations. From time to time, the Company, like other healthcare providers, is required to provide records to state or federal agencies to aid in such investigations. It is possible that these entities could initiate investigations in the future at facilities we operate and that such investigations could result in significant penalties, as well as adverse publicity.

      A joint federal/state initiative, Operation Restore Trust, was created in 1995 to focus audit and law enforcement efforts on geographic areas and provider types receiving large concentrations of Medicare and Medicaid funds. Under Operation Restore Trust, the OIG and CMS have undertaken a variety of activities to address fraud and abuse by nursing homes, home health providers and medical equipment suppliers. These activities include financial audits, creation of a Fraud and Waste Report Hotline, and increased investigations and enforcement activity.

      In addition to its antifraud provisions, HIPAA also requires improved efficiency in healthcare delivery by standardizing electronic data interchange and by protecting the confidentiality and security of health data. More specifically, HIPAA calls for:

	•	standardization of electronic patient health, administrative and financial data;
	•	unique health identifiers for individuals, employers, health plans and healthcare providers; and

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	•	privacy and security standards protecting the confidentiality and integrity of individually identifiable health information.

      In August 2000, final regulations establishing standards for electronic data transactions and code sets, as required under HIPAA, were released. These standards will allow entities within the healthcare system to exchange medical, billing and other information and to process transactions in a more timely and cost effective manner. These new transactions and code sets standards were required to be implemented by October 2002, unless a covered entity applied for, and was granted, an extension of up to one year. We have updated our systems and are compliant with the new standards for electronic transactions and code sets. However, we applied for and were granted an extension until October 2003, primarily because several of our trading partners, including some state Medicaid agencies, were not prepared to implement the new transactions and code sets.

      In December 2000, HIPAA privacy standards were released, and were then further revised in August 2002. Most covered entities under HIPAA must implement the privacy standards by April 2003. The privacy standards are designed to protect the privacy of certain individually identifiable health information. The privacy standards have required us to make certain updates to our policies and procedures and we are conducting training for our associates surrounding these standards. We expect to be in full compliance with the privacy standards by April 2003.

      On February 20, 2003, CMS issued final regulations with respect to HIPAA’s security standards and modifications to the electronic data transactions and code sets. Most covered entities must comply with the security standards by April 14, 2005. The regulations governing electronic data transaction standards, which are effective on March 24, 2003, will not delay our October 2003 compliance deadline. All standards are required to be fully implemented within two years of final issuance, with civil and criminal penalties established for noncompliance.

      HHS has estimated that implementation of the electronic transactions and code sets, the privacy standards and the security standards will cost the healthcare industry between $1.8 billion and $6.3 billion over a five year period. We continue to evaluate and update our processes and procedures to meet the requirements of the new standards; however, we do not believe their ongoing implementation will have a material impact on our consolidated financial position, results of operations or cash flows.

We are Subject to Increasingly Expensive and Unpredictable Patient Care Liability Costs and the Risk of Insolvency of Our Insurance Carriers.

      General liability and professional liability costs for the long-term care industry have become increasingly expensive and difficult to estimate. We have experienced substantial increases in both the number of claims and lawsuits, as well as the size of the typical claim and lawsuit. This was most evident for us in the state of Florida, where well-intended patient rights’ statutes tend to be exploited by plaintiffs’ attorneys. This growth in patient care liability claims and lawsuits in Florida reached a level where it was not possible for us to continue to operate profitably in the state and precipitated the disposition of our Florida operations in December 2001. However, there are other states where the laws have, and will continue to attract plaintiffs’ attorneys for similar reasons.

      Primarily as a result of these issues, insurance companies are ceasing to insure long-term care companies, or severely limiting their capacity to write long-term care general and professional liability insurance. In addition, in the wake of the September 11, 2001 events, the insurance environment in general has become unstable, making it increasingly difficult to obtain coverage for patient care liabilities and other risks. When insurance coverage is available, insurance carriers are typically requiring companies to significantly increase their liability retention levels and/or pay substantially higher premiums for reduced coverage. We are experiencing higher premiums and retention levels.

      We have purchased insurance for property, casualty and other risks from numerous insurance companies. In many cases, the policies provide coverage for events occurring in specific time frames that may only be determined in later years. We exercise care in selecting companies from which we purchase insurance

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Our Failure to Attract and Retain Qualified Personnel Could Harm Our Business.

      At December 31, 2002, we had approximately 55,000 associates. We are subject to both federal minimum wage and applicable federal and state wage and hour laws. In addition, we maintain various employee benefit plans.

      In recent years, we have experienced periodic difficulty attracting and retaining nursing assistants, certified nurses’ aides and other facility-based personnel. In addition, there has been a growing shortage of registered and licensed nurses in this country. We continue to address these challenges through recruiting, orientation, retention and training initiatives. In the past year, we have experienced a leveling off of the growth in our weighted average wage rate and a decline in our use of contract nursing personnel. Our inability to control labor availability and cost could have a material adverse affect on our future operating results.

      Approximately 7% of our associates, employed in approximately 100 of our nursing facilities, are represented by various labor unions. Certain labor unions have publicly stated that they are concentrating their organizing efforts within the long-term healthcare industry. Being one of the largest employers within the long-term healthcare industry, we have been the target of a “corporate campaign” by two AFL-CIO affiliated unions attempting to organize certain of our facilities. Although our facilities have never experienced any material work stoppages and we believe that our relations with associates and labor organizations are generally good, we cannot predict the effect continued union representation or organizational activities will have on our future operations.

      Excessive litigation is a tactic common to “corporate campaigns” and one that is being employed against us. There are several proceedings before the National Labor Relations Board and the appellate courts which consolidate individual cases from separate facilities. We are vigorously defending these proceedings and do not believe that the ultimate resolution of these cases will have a material adverse affect on our consolidated financial position, results of operations, or cash flows.

Certain Trends in the Healthcare Industry are Putting Pressure on Our Ability to Maintain Nursing Facility Census.

      Over the past decade a number of trends have developed that impact our census (volume and payor mix of patients). These trends include:

	•	overbuilding of nursing facilities in states that have eliminated the certificate of need process for new construction;
	•	creation of nursing facilities by acute care hospitals to keep discharged patients within their complex;
	•	rapid growth of assisted living facilities, which sometimes are more attractive to less medically complex patients; and
	•	the availability of eldercare services delivered to the home.

      The negative impact of these trends on nursing facility census varies from facility to facility, from community to community and from state to state.

Our Substantial Indebtedness Could Adversely Affect Our Financial Condition.

      We have a significant amount of indebtedness and other obligations. At December 31, 2002, our consolidated balance sheet reflected approximately $630.2 million of outstanding indebtedness and approxi-

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	•	require us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow to fund working capital, capital expenditures and other general corporate activities;
	•	limit our flexibility in planning for, or reacting to, changes in our business and industry;
	•	place us at a competitive disadvantage compared to other less leveraged competitors;
	•	increase our vulnerability to general adverse economic and industry conditions; or
	•	limit our ability to pursue business opportunities that may be in our interest.

      During 2002, we reduced our balance sheet indebtedness by $111.5 million, our amounts owed to the federal government under the civil settlement agreement by $11.0 million and our off-balance sheet financing by $42.9 million. However, if we add new indebtedness to our existing debt levels, it could increase the related risks that we face.

If We are Unable to Generate Sufficient Cash Flow to Service Our Indebtedness, Our Business and Financial Results Could Suffer.

      Our ability to make payments on our indebtedness and to fund planned expenditures depends on our ability to generate cash flow in the future. This, to some extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. In addition, our ability to borrow funds under our secured revolving credit facility depends on our satisfying various covenants. These covenants, among other things:

	•	limit our ability, and the ability of our subsidiaries, to borrow and place liens on our assets;
	•	require us to comply with certain debt service coverage ratio tests;
	•	require us to maintain a minimum consolidated net worth;
	•	limit our ability to merge with other parties or sell all or substantially all of our assets; and
	•	limit our, and our subsidiaries’, ability to make investments.

      In February 2003, we executed an amendment to our Credit Facility (see Item 8 — Note 8) and our off-balance sheet lease arrangement (collectively, the “2003 Amendments”). The 2003 Amendments provide for:

	•	modification of certain financial covenant levels;
	•	changes in the interest rates on our borrowings;
	•	the pledging of additional assets as collateral for certain of the lenders;
	•	use of a portion of the proceeds from the sales of assets to repay obligations or reduce available borrowings;
	•	reduced availability under the Credit Facility;
	•	accelerated maturity for the lease arrangement to the same date as our Credit Facility and various other items.

      We believe we will be able to comply with the amended covenants throughout 2003 and the availability under our Credit Facility, if required, is expected to be adequate to supplement any liquidity needs in 2003.

      We cannot assure you that our business will generate cash flow from operations or that future borrowings will be available to us under our Credit Facility in an amount sufficient to enable us to pay our indebtedness or

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There May Be Volatility in Our Stock and Publicly Traded Debt Prices.

      The market price of our common stock is based in large part on professional securities analysts’ expectations that our business will continue to grow and that we will achieve certain profit levels. If our financial performance in a particular quarter does not meet the expectations of securities analysts, this may adversely affect the views of those securities analysts concerning our growth potential and future financial performance. If the rating agencies lower their ratings or outlook on the Company, or if the securities analysts who regularly follow our stock lower their ratings or projections of our future growth and financial performance, the market price of our common stock and of our publicly traded senior notes could be impacted.

Executive Officers

      Each executive officer is elected or appointed by the Board of Directors. The executive officers as of February 28, 2003, are as follows:

      Mr. Floyd joined the Company in April 2000 as President and Chief Operating Officer. He was elected Chief Executive Officer in February 2001 and Chairman of the Board in December 2001. From 1996 to 1998, he was Chief Executive Officer of Choice Hotels International, and from 1995 to 1996, he was Chief Operating Officer of Taco Bell Corporation. He has been a director of the Company since July 2000.

      Mr. Babb joined the Company in April 2000 as Executive Vice President, General Counsel and Secretary. He was named head of Government Relations in January 2001 and Chief Administrative and Legal Officer in October 2002. Mr. Babb was Senior Vice President and Chief of Staff for Burlington Northern Santa Fe Corporation (“BNSF”) from 1995 to 1997 and Senior Vice President — Merchandise Business Unit for BNSF from 1997 to 1999.

      Mr. Devereaux joined the Company in August 1998 as Senior Vice President — Operations for the Specialty Services Division of the Nursing Facilities segment. He was elected President of the corporations

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      Mr. Freimark joined the Company in January 2002 as Executive Vice President and Chief Financial Officer. He became head of Information Technology in October 2002. From May 2001 to January 4, 2002 he was Senior Executive Vice President and Chief Financial Officer of OfficeMax, Inc. From March 1997 to May 2001 he was with The Grand Union Company where he held positions as Executive Vice President, Chief Financial Officer and President and Chief Executive Officer.

      Ms. Acosta joined the Company in October 1996 as Vice President — Risk Management. She was elected Senior Vice President — Professional Services in January 2001. From January 1995 to September 1996, Ms. Acosta was Vice President — Risk Management at Regency Health Services.

      Ms. Daniels joined the Company in May 1988 as Audit Coordinator. She was elected Vice President, Controller and Chief Accounting Officer in October 1996 and Senior Vice President in December 1999.

      Mr. Griffith joined the Company in November 1995 as Senior Vice President — Investor Relations and Corporate Communications.

      Ms. Kolling joined the Company in February 1989 as a rehabilitation consultant. She was elected Vice President — Rehabilitation in 1994, Vice President — PPS in 1998 and Vice President — Medicare Programs in 2000. She was elected Senior Vice President — Compliance in October 2002.

      Mr. Mercadante joined the Company in 2002 as Senior Vice President — Marketing and New Business Innovation. From 1999 to 2002, he was President of Blazing Insights Group and from 1996 to 1999 he was Executive Vice President — Marketing at Universal Studios.

      Mr. Price joined the Company in August 2002 as Senior Vice President — Sales and Business Development. Prior to that, he worked with Beverly on a consulting basis for 18 months. Before becoming a consultant, he was Vice President — Strategic Relations and Business Development for SelfCare, Inc. from 1999 to 2000. For the 17 years prior, he held various positions with Nova Care, Inc. ultimately as Senior Vice President — Sales and Marketing.

      Mr. Skelly joined the Company in April 2002 as Senior Vice President and Treasurer. From September 2001 to March 2002, he served as Senior Vice President and Treasurer of OfficeMax, Inc. From June 1997 to August 2001, he held various positions with The Grand Union Company, including Acting Chief Financial Officer and Treasurer.

      Ms. Wright joined the Company in April 2001 as Senior Vice President — Human Resources. From May 1994 to March 2001 she was Vice President — Human Resources of CONDEA Vista Company, predecessor to SASOL North America.

      Mr. Roussos joined the Company in August 2001 as a management designee of Matrix Rehabilitation. He was elected President of Matrix Rehabilitation in February 2002 and President of CERES Strategies in October 2002. From 2000 to 2001 he was Division General Manager of American Homestar and from 1996 to 2000 he was General Manager of Fleetwood Enterprises.

      Ms. Susienka joined the Company in June 1998 as President — AEGIS Therapies. From 1987 to 1998 she held various positions at NovaCare, Inc., including Regional Vice President.

ITEM 2. PROPERTIES.

      On December 31, 2002, we operated 452 nursing facilities, 29 assisted living centers, 151 outpatient clinics and 49 hospice and home care centers in 32 states and the District of Columbia. Most of our 136 leased nursing facilities are subject to “net” leases which require us to pay all taxes, insurance and maintenance costs. Most of these leases have original terms from ten to fifteen years and contain at least one renewal option. Renewal options typically extend the original terms of the leases by five to fifteen years. Many of these leases also contain purchase options. We consider our physical properties to be in good operating condition and suitable for the purposes for which they are being used. Certain of our nursing facilities and assisted living

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      The following is a summary of our nursing facilities, assisted living centers, outpatient clinics and hospice and home care centers at December 31, 2002:

(1)	As of December 31, 2002, the outpatient clinics were held for sale. We disposed of 141 of these clinics in January 2003, retaining 10 locations in North Carolina that continue to be held for sale.
(2)	As of December 31, 2002, MK Medical, a durable medical equipment business with 7 units in California and one in Nevada, was held for sale.

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ITEM 3. LEGAL PROCEEDINGS.

      (a) As previously reported, on October 2, 1998, a purported class action lawsuit was filed in the United States District Court for the Eastern District of Arkansas by Jack Kushner against the Company and certain of its officers (the “Class Action”). Plaintiffs filed a second amended complaint on September 9, 1999, which asserted claims under Section 10(b) (including Rule 10b-5 promulgated thereunder) and under Section 20 of the Securities Exchange Act of 1934 arising from practices that were the subject of the Allocation Investigations. (See Item 8 — Note 9.) The defendants filed a motion to dismiss that complaint on October 8, 1999. Oral argument on this motion was held on April 6, 2000. By order and judgment dated October 17, 2001, defendants’ motion to dismiss was granted, and the complaint was dismissed with prejudice. Plaintiffs appealed this decision to the Eighth Circuit Court of Appeals (Case No. 01-3677). On January 23, 2003, the Eighth Circuit entered an order affirming the district court’s order dismissing the case with prejudice. The plaintiffs appealed the order of the Eighth Circuit en banc, but, on February 27, 2003, the Eighth Circuit denied the petition. The Eighth Circuit is obligated to issue a mandate within seven days of the date of the order denying the petition, thereby ordering the district court to enforce its ruling and dismiss the case. If the plaintiffs decide to petition for a writ of certiorari to the United States Supreme Court within 90 days, plaintiffs may move to stay the mandate pending the filing of this petition.

      (b) On October 31, 2002, a shareholder derivative action entitled Paul Dunne and Helene Dunne, derivatively on behalf of nominal defendant Beverly Enterprises, Inc. v. Beryl F. Anthony, Jr., et al. was filed in the Circuit Court of Sebastian County, Arkansas, Fort Smith Division (No. CIV-2002-1241). This case is purportedly brought derivatively on behalf of the Company against various current and former officers and directors. We learned of this case when it was served on one defendant on January 22, 2003. The complaint alleges causes of action for breach of fiduciary duty against the defendants based on: (1) allegations that defendants failed to establish and maintain adequate accounting controls such that the Company failed to record adequate reserves for patient care liability costs; and (2) allegations that certain defendants sold Company stock while purportedly in possession of material non-public information. While this case is in its preliminary stages, we do not believe there is any merit to this lawsuit.

      (c) Effective October 15, 2002, we entered into a Settlement Agreement with CMS. The Settlement Agreement resolved reimbursement issues relating to all Medicare cost reporting periods ending on or before December 31, 2000, including all outstanding issues from the February 2000 settlement of the federal government’s investigation of our allocation to the Medicare program of certain nursing labor costs in our skilled nursing facilities. Under the terms of the Settlement Agreement, we paid CMS $35.0 million in November 2002. This cash payment was included in the fourth quarter 2001 estimated pre-tax charge related to this matter of $77.5 million. The Settlement Agreement did not result in any increase to the fourth quarter 2001 estimated charge.

      (d) As previously disclosed, we notified federal and California healthcare regulatory authorities (CMS, OIG, the California Attorney General’s office and the California Department of Health) of our intent to conduct an internal investigation of past billing practices relating to MK Medical, our medical equipment business unit based in Fresno, California. An independent accounting firm has reviewed MK Medical’s government payor billings since October 1, 1998, the date Beverly acquired the unit. Deficiencies identified by the accounting firm primarily relate to inadequate documentation supporting Medicare and Medi-Cal claims for reimbursement for drugs, wheelchairs, and other durable medical equipment distributed by MK Medical. Specifically, the review identified instances of missing or incomplete certificates of medical necessity, treatment authorization requests, prescriptions, and other documentation MK Medical is required to maintain in order to be entitled to reimbursement from government payors. Based on the results of the accounting firm’s review, we have estimated our potential overpayment from government payors to be approximately $18.0 million for the period from October 1, 1998 to 2002. We have reduced MK Medical’s operating revenues, through discontinued operations on the 2002 consolidated statement of operations, and have established a reserve, included in “Other accrued liabilities” on the 2002 consolidated balance sheet, for this amount. We have advised regulatory authorities of the accounting firm’s results. Our liability with respect to this matter could exceed the reserved amount. We can give no assurance of the final outcome of this matter or its impact on our financial position, results of operations and cash flows.

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      (e) On August 16, 2002, August 26, 2002, and September 26, 2002, respectively, Ernest Baer v. Beverly Enterprises, Inc., et. al. (CIV. No. 02-2190) (the “Baer Case”), Stanley V. Kensic v. Beverly Enterprises, Inc., et. al. (CIV. No. 02-2193) (the “Kensic Case”) and Charles Krebs v. Beverly Enterprises, Inc., et. al. (CIV. No. 02-2222) (the “Krebs Case) were filed in the United States District Court, Western District of Arkansas, Fort Smith Division. The Baer Case, the Kensic Case and the Krebs Case were filed as purported securities fraud class actions under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder.

      Each of the Baer Case, the Kensic Case and the Krebs Case separately named Beverly Enterprises, Inc. as a defendant along with various current officers and our independent auditors. In all three cases, the purported class period runs from October 16, 2000 to and including July 19, 2002. Plaintiffs claim that the defendants, during the purported class period, made multiple false and misleading statements. Due to the preliminary state of the Baer Case, the Kensic Case and the Krebs Case and the fact that none of these cases alleges damages with any specificity, we are unable at this time to assess the probable outcome of the cases. We believe that plaintiffs’ allegations that the defendants acted unlawfully are without merit and the defendants will vigorously defend the Baer Case, the Kensic Case and the Krebs Case. However, we can give no assurances of the ultimate impact on our consolidated financial position, results of operations or cash flows as a result of these proceedings.

      (f) On August 1, 2002, the Company and the State of California reached an agreement on the settlement of an investigation by the Attorney General’s office and the District Attorney of Santa Barbara County of patient care issues in several California nursing facilities. In accordance with the terms of the settlement agreement, Beverly Enterprises — California, Inc. has entered a plea of nolo contendere to two felony charges under California’s Elder Abuse statute and during July 2002, paid a fine of $54,000 related to the plea. In addition, Beverly Enterprises — California, Inc. reimbursed the Attorney General and the Santa Barbara County District Attorney $533,000 for the costs of their investigations and will pay a $2.0 million civil penalty in four equal, quarterly installments of $500,000, which began in the third quarter of 2002.

      In addition, a Permanent Injunction (“Permanent Injunction”) was entered requiring nursing facilities in California, operated by subsidiaries of the Company, to comply with all applicable laws and regulations and to conduct certain training and education programs. The Company recorded a pre-tax charge against earnings of $6.3 million during the second quarter of 2002 to reflect the terms of the settlement and related costs, and we expect to incur additional annual costs for implementation of the Permanent Injunction. Certain revisions were made to our Corporate Integrity Agreement (“CIA”) in conjunction with the Permanent Injunction requiring:

	•	additional training for clinical associates, contractors and agents who perform services in our California nursing facilities; and
	•	hiring an independent quality monitor to assess the effectiveness, reliability and thoroughness of our quality care systems and our response to quality of care issues in our nursing facilities in California, Arizona, Hawaii and Washington.

      (g) As previously reported, the following derivative lawsuits have been filed in the state courts of Arkansas and Delaware, as well as the federal district court in Arkansas, assertedly on behalf of the Company (collectively, the “Derivative Actions”):

	•	Norman M. Lyons v. David R. Banks, et al., Case No. OT99-4041, was filed in the Chancery Court of Pulaski County, Arkansas (4th Division) on or about July 29, 1999, and the parties filed an Agreed Motion to Stay the proceedings on January 17, 2000;
	•	James L. Laurita v. David R. Banks, et al., Case No. 17348NC, was filed in the Delaware Chancery Court on or about August 2, 1999;
	•	Kenneth Abbey v. David R. Banks, et al., Case No. 17352NC, was filed in the Delaware Chancery Court on or about August 4, 1999;

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	•	Alan Friedman v. David R. Banks, et al., Case No. 17355NC, was filed in the Delaware Chancery Court on or about August 9, 1999;
	•	Elles Trading Company v. David R. Banks, et al, was filed in the Superior Court for San Francisco County, California on or about August 4, 1999, was removed to federal district court and was dismissed February 3, 2000;
	•	Kushner v. David R. Banks, et al., Case No. LR-C-98-646, was filed in the United States District Court for the Eastern District of Arkansas (Western Division) on September 30, 1999 and was appealed to the Eighth Circuit Court of Appeals on November 5, 2001; and
	•	Richardson v. David R. Banks, et al., Case No. LR-C-99-826, was filed in the United States District Court for the Eastern District of Arkansas (Western Division) on November 4, 1999.

      The Laurita, Abbey and Friedman actions were subsequently consolidated by order of the Delaware Chancery Court. On or about October 1, 1999, the defendants moved to dismiss the Laurita, Abbey and Friedman actions. In February 2002, the Delaware Chancery Court entered a stipulation of dismissal without prejudice. The Kushner and Richardson actions were ordered to be consolidated as In Re Beverly Enterprises, Inc. Derivative Litigation and by agreed motion, plaintiffs filed an amended, consolidated complaint on April 21, 2000. Defendants filed a motion to dismiss the consolidated derivative complaint and a motion to strike portions thereof on July 21, 2000. The parties have agreed to stay the consolidated action pending the outcome of the motion to dismiss in the Class Action. See paragraph (a) above for a description of the status of the Class Action.

      The Derivative Actions each name the Company’s directors as defendants, as well as the Company as a nominal defendant. The Lyons action also names as defendants certain of the Company’s current and former officers. The Derivative Actions each allege breach of fiduciary duties to the Company and its stockholders as a result of alleged conduct giving rise to the Class Action. The Lyons and Richardson actions also assert claims for abuse of control and constructive fraud arising from the same allegations and the Richardson action also claims unjust enrichment.

      Due to the preliminary state of the Derivative Actions and the fact the complaints do not allege damages with any specificity, we are unable at this time to assess the probable outcome of the Derivative Actions or the materiality of the risk of loss. We believe that plaintiffs’ allegations that the defendants acted unlawfully are without merit and the defendants will vigorously defend the Derivative Actions. However, we can give no assurances of the ultimate impact on our consolidated financial position, results of operations or cash flows as a result of these proceedings.

      (h) We are party to various legal matters relating to patient care, including claims that our services have resulted in injury or death to residents of our facilities. We have experienced an increasing trend in the number and severity of the claims asserted against us. We believe that there has been, and will continue to be, an increase in governmental investigations of long-term care providers. Adverse determinations in legal proceedings or governmental investigations, whether currently asserted or arising in the future, could have a material adverse effect on us.

      (i) There are various other lawsuits and regulatory actions pending against the Company arising in the normal course of business, some of which seek punitive damages that are generally not covered by insurance. We do not believe that the ultimate resolution of such other matters will have a material adverse effect on our consolidated financial position, results of operations or cash flows.

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

      There were no matters submitted to a vote of our security holders during the last quarter of our fiscal year ended December 31, 2002.

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PART II

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

      We are subject to certain restrictions under our long-term debt agreements related to the payment of cash dividends on, and the repurchase of, our Common Stock. During 2002 and 2001, we did not pay any cash dividends on, or repurchase any of, our Common Stock and no future dividends are currently planned.

      On February 28, 2003, there were 4,992 record holders of our Common Stock.

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ITEM 6. SELECTED FINANCIAL DATA.

      The following table of selected financial data should be read along with our consolidated financial statements and related notes thereto for 2002, 2001 and 2000 included in Item 8.

(1)	The operations of Matrix and MK Medical have been reclassified as discontinued operations for all periods presented since they met the criteria under SFAS No. 144 as assets held for sale at December 31, 2002. In accordance with SFAS No. 145, the extraordinary loss on the early extinguishment of debt of $2,717 in 1998 has been reclassified as asset impairments, workforce reductions and other unusual items, and its related tax benefit, in the amount of $1,057, has been reclassified as provision for (benefit from) income taxes.
(2)	Includes the operations of American Transitional Hospitals, Inc. through June 30, 1998.
(3)	Includes a $77,171 goodwill impairment charge relating to the 2002 adoption of SFAS No. 142 and a $4,415 charge in 1998 relating to the adoption of SOP 98-5 which changed the accounting for start-up costs.
(4)	Certain amounts will not add due to rounding.
(5)	Calculated by dividing actual patient days by available patient days. Available patient days are calculated by multiplying total calendar days by the number of beds that are operationally ready for use.

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Critical Accounting Policies

      The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States. The accounting policies discussed below are considered by management to be critical to an understanding of our financial statements because their application requires significant judgment and reliance on estimations of matters that are inherently uncertain. Specific risks related to these critical accounting policies are described in the following paragraphs.

      Our revenues are derived primarily from providing long-term healthcare services. Approximately 80% of our current net operating revenues is derived from funds provided under federal and state medical assistance programs. As discussed more fully in Item 8 — Note 1, we record our revenues at standard charges when services are provided, adjusted to amounts estimated to be received under governmental programs or other third-party contractual arrangements. These revenues are subject to audit and retroactive adjustment by governmental and third-party agencies. Due to the complexity of the laws and regulations governing the federal and state medical assistance programs, there is at least a possibility that recorded estimates may change by a material amount in the near term. Consistent with health care industry accounting practices, changes to these third-party revenue estimates are recorded in the year the change or adjustment becomes known.

      We record bad debt expense monthly using a percentage of revenue approach that reflects our historical experience. Each quarter we adjust the reserves for bad debts according to the aging of the receivables. These adjustments are based on our weighted average experience by payor type, and recognize the relative risk depending on the source of the payment. Private pay accounts usually represent our highest collectibility risk. In addition, specific accounts that are determined to be uncollectible (due to bankruptcy, insufficient documentation, lack of third party coverage or financial resources and the like) are fully reserved when such determinations are made. If circumstances change (including, but not limited to: economic downturn; higher than expected defaults or denials; reduced collections; and changes in our payor mix), our estimates of the recoverability of our receivables could be reduced by a material amount. Our provision for bad debts represented 2.3%, 1.7% and 2.9% of net operating revenues in 2002, 2001 and 2000, respectively. Our allowance for doubtful accounts represented 20% and 17% of patient accounts receivable at December 31, 2002 and 2001, respectively.

      General and professional liability costs for the long-term care industry have become increasingly expensive and difficult to estimate. In addition, insurance coverage for patient care liability and other risks, for nursing facilities specifically and companies in general, has become increasingly difficult to obtain. When obtained, insurance carriers are often requiring companies to significantly increase their liability retention levels and/or pay substantially higher premiums for reduced coverage. The Company’s retained liabilities have increased in recent years.

      We have purchased insurance for property, casualty and other risks from numerous insurance companies. In many cases, the policies provide coverage for events occurring in specific time frames that may only be determined in later years. We exercise care in selecting companies from which we purchase insurance including review of published ratings by recognized rating agencies, advice from national brokers and consultants, and review of trade information sources. There exists a risk that any of these insurance companies may become insolvent and unable to fulfill its obligation to defend, pay or reimburse us when that obligation becomes due. Although we believe the companies we have purchased insurance from are solvent, in light of the dramatic changes occurring in the insurance industry in recent years, we cannot be assured that they will remain solvent and able to fulfill their obligations.

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      As described more fully in Item 8 — Note 1, we believe adequate provision has been made in the financial statements for liabilities that may arise out of patient care and other services. These provisions are made based primarily upon the results of independent actuarial valuations, prepared by actuaries with long-term care industry experience. This provision also includes accruals for insurance premiums for the coverage period and our estimate of any experience adjustments to premiums. The actuarial valuations are prepared twice a year using the most recent trends of claims, settlements and other relevant data.

      The majority of our auto liability and workers’ compensation risks are insured through loss-sensitive insurance policies with affiliated and unaffiliated insurance companies. For our general and professional liabilities, we are responsible for the first dollar of each claim, up to a self-insurance limit determined by the individual policies, subject to aggregate limits in certain prior policy years. The Company’s retained liabilities are estimated by our independent actuaries. On an undiscounted basis, these liabilities totaled approximately $208.0 million at December 31, 2002. On our financial statements, these liabilities are discounted at 10% to their present value using expected loss payment timing patterns. The discount rate is based upon our best estimate of the incremental borrowing rate that would be required to fund these liabilities with uncollateralized debt. A reduction in the discount rate by one-half of a percentage point would have resulted in an additional pre-tax charge for 2002 of $1.4 million. Our independent actuaries estimate our range of discounted exposure for these liabilities to be $168.6 million to $185.2 million. Our recorded reserves for these liabilities totaled $174.0 million at December 31, 2002.

      We have two off-balance sheet financing arrangements which totaled approximately $139.5 million at December 31, 2002, including:

	•	$70.0 million of Medium-Term Notes due March 2005 (the “Medium-Term Notes”); and
	•	$69.5 million under an off-balance sheet lease arrangement expiring in April 2004.

      The Medium-Term Notes are obligations of a non-consolidated bankruptcy remote, qualifying special purpose entity, Beverly Funding Corporation (“BFC”). BFC’s sole purpose is to acquire, own, hold, and otherwise administer certain patient accounts receivable originated and sold to it by certain of the Company’s operating subsidiaries and to issue beneficial interests in those receivables. Under the terms of the arrangement, certain wholly owned operating subsidiaries of the Company (groups of nursing facilities within each state that the Company operates, referred to as the “Selling Subsidiaries”), which are separate legal entities, sell Medicaid and Veterans Administration patient accounts receivable at their net realizable value to Beverly Health and Rehabilitation Services, Inc. (“BHRS”), a wholly owned operating subsidiary of the Company. BFC then purchases these receivables under a revolving sales structure from BHRS at a discount of 1%. BFC receives its funding from: 1) the issuance of debt to third-party investors; and 2) investments made in BFC by Beverly Enterprises, Inc. (the parent company and a non-transferor). At December 31, 2002 and 2001, BFC had approximately $101.4 million and $101.9 million, respectively, of net receivables.

      The Medium-Term Notes were issued in June and July 1999 to third-party investors. The proceeds were used to redeem $50.0 million of then outstanding medium-term notes issued by BFC in 1994 that were nearing maturity and to purchase additional eligible receivables from BHRS. Beverly Enterprises, Inc. also increased its investment in BFC allowing BFC to purchase additional eligible receivables to serve as excess collateral for the new Medium-Term Notes. Under the terms of the arrangement, BFC is required to maintain receivables in excess of the outstanding balance of the Medium-Term Notes based on a calculated formula included in the Master Sales and Servicing Agreement.

      The Medium-Term Notes mature in 2005; however, according to the provisions of the notes, principal payments on these obligations, calculated based on quarterly collections of the underlying receivables, begin during the second quarter of 2004. Based on current collection trends, it is expected that these obligations will be paid off by the third quarter of 2004.

      BHRS recognizes a loss at the time the receivables are sold to BFC equal to the 1% discount and this loss is included in “Other operating and administrative costs and expenses” and in “Net cash provided by

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      Prior to June 1999, BFC’s assets, liabilities and operating results were consolidated with the Company. However, in June 1999 in connection with the redemption of previously issued medium-term notes, and issuance of the Medium-Term Notes in June and July 1999, the Master Sale and Servicing Agreement was amended so that BFC met the definition of a qualifying special purpose entity as defined in Statement of Financial Accounting Standards No. 125, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities (“SFAS No. 125”). Specifically, BFC was no longer permitted to hold or purchase receivables that originated prior to January 1, 1997 (a condition that prevented it from becoming a qualifying special purpose entity prior to June 1999). The Company continually evaluates the organizational structure and operations of BFC to ensure that it remains legally isolated from the Company and each of its operating subsidiaries and that it maintains its status as a qualifying special purpose entity and, thereby, remains deconsolidated.

      The Company’s investment in BFC has been recorded as a non-current asset in the accompanying consolidated balance sheets, which is subject to periodic collectibility review. The primary factor in the collectibility review is the determination of the net realizable value of the excess receivables serving as collateral for the Medium-Term Notes. The net realizable value is determined through a collectibility analysis of the receivables purchased and held by BFC. This collectibility analysis considers historical collection experience and is adjusted according to the aging of the receivables. Once the net realizable value of the excess receivables is determined, we compare it to the carrying value of the asset and adjust the asset downward when the analysis indicates that it will not be recovered.

      At December 31, 2002 and 2001, the Company’s investment of approximately $31.0 million and $33.0 million, respectively, was included in “Other assets” on the consolidated balance sheets. At December 31, 2002 and 2001, BFC had excess receivables of approximately $31.0 million and $33.0 million, respectively. Our total investments in BFC have been adjusted from their initial value of $35.0 million due to cumulative credit losses incurred by BFC associated with the purchased receivables since June 1999. We believe our asset will be realized upon the maturity and repayment of the Medium-Term Notes and collection of the excess receivables and is expected to approximate the Company’s recorded asset.

      At December 31, 2002, the Company leased five nursing facilities, one assisted living center and its corporate headquarters under an off-balance sheet lease arrangement. The special purpose entity lessor financed the construction of these properties and we lease the properties under a master operating lease agreement, which matures in April 2004. (See Item 8 — Note 8 for a discussion of the 2003 Amendments and their impact on this financing arrangement.) There is a third-party entity at risk under this arrangement for 3% of the original commitment. Of the remaining 97% original commitment, 17% is secured by first mortgages on the related properties and 83% (or approximately $56.0 million at December 31, 2002) is guaranteed by the Company and secured by second mortgages on the related properties.

      We monitor these off-balance sheet obligations throughout the year and believe the obligations and any related assets should not be included in our consolidated financial statements under current generally accepted accounting principles. In January 2003, the Financial Accounting Standards Board issued FASB Interpretation No. 46, Consolidation of Variable Interest Entities (“FIN 46”), which is effective for us in the third quarter of 2003. Under this interpretation, we do not currently anticipate that our accounting for BFC will be affected. However, based on our initial evaluation of FIN 46, it is possible that the special purpose entity lessor in the lease arrangement may need to be consolidated with the Company beginning in the third quarter of 2003. We are continuing to evaluate the consolidation and transition rules under FIN 46, however, if the special purpose entity lessor needs to be consolidated, the leased assets will be consolidated at their depreciated cost and recorded as capital leased assets, with the difference between the historical and the depreciated cost on the date of consolidation being recorded as the cumulative effect of an accounting change. The remaining obligation as of July 1, 2003 ($69.5 million as of December 31, 2002 and expected to be $52.7 million as of July 1, 2003) would be recorded as a capital lease obligation on the Company’s

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      In addition, we have off-balance sheet debt guarantees of approximately $31.5 million that primarily arose from our sale of nursing facilities. We also guarantee certain third-party operating leases. Those guarantees arose from our dispositions of leased facilities and the underlying leases have approximately $13.3 million of minimum rental commitments remaining through the initial lease terms. In addition, we guarantee an officer’s bank loan of approximately $200,000, which is collateralized by shares of our common stock pledged by the officer. See Item 8 — Note 9 for a more complete description of each of these items. Each of these guarantees will be subject to FASB Interpretation No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees Including Indirect Guarantees of Indebtedness of Others (“FIN 45”), issued in November 2002. See New Accounting Standards below.

      We recorded pre-tax asset impairment charges of $71.6 million, $171.1 million and $9.7 million for the years ended December 31, 2002, 2001 and 2000, respectively. We also recorded additional impairments of goodwill of $77.2 million in 2002 as the cumulative effect of an accounting change. We evaluate our long-lived assets for impairment whenever indicators of impairment exist, in accordance with Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”). These indicators of impairment can include, but are not limited to, the following:

	•	a history of operating losses, with expected future losses;
	•	changes in the regulatory environment affecting reimbursement;
	•	decrease in cash flows or cash flow deficiencies;
	•	changes in the way an asset is used in the business; and
	•	commitment to a plan to sell or otherwise dispose of an asset.

      During 2002, changes in the regulatory environment affecting Medicare reimbursement led to a long-lived asset impairment analysis on our Nursing Facilities segment. During 2001, continuing operating losses in several of our lines of business, including certain Matrix clinics, our managed care contracting entity, certain Home Care businesses and a few of our nursing facilities, led to impairment analyses on these assets. During 2000, operating losses at certain Matrix clinics and management’s determination to dispose of, or terminate the leases on, six nursing facilities led to impairment analyses to be calculated on these assets.

      These impairment analyses included:

	•	estimating the undiscounted cash flows to be generated by each clinic, unit, facility or property, primarily over the remaining life of the primary asset; and
	•	reducing the carrying value of the asset to the estimated fair value when the total estimated undiscounted cash flows was less than the current book value of the clinic, unit, facility or property.

      In estimating the undiscounted cash flows for our nursing facilities, we primarily used our internally prepared budgets and forecast information, with certain probability adjustments, including, but not limited to, the following items: Medicare and Medicaid funding; overhead costs; capital expenditures; and patient care liability costs. In order to estimate the fair values of the nursing facilities, we used a discounted cash flow approach, supplemented by public resource information on valuations of nursing facility sales transactions, by region of the country. Where the estimated undiscounted cash flows were negative, we estimated the fair values based on discounted public resource information, sales values or estimated salvage value. For other lines of business that lack significant property investments, we discounted the next five years of expected cash flows. A substantial change in the estimated future cash flows for these facilities or businesses could materially change the estimated fair values of these assets, possibly resulting in an additional impairment.

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      In July 2001, Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (“SFAS No. 142”) was issued, which established new rules on the accounting for goodwill and other intangible assets. In accordance with this standard, we performed the initial screening for potential impairments of our indefinite lived intangible assets by reporting unit as of January 1, 2002. We determined the estimated fair values of each reporting unit using discounted cash flow analyses, along with independent source data related to recent transactions. Based on this determination, we identified potential goodwill impairments at our Matrix segment and at Care Focus, a reporting unit within our Home Care segment. We engaged a qualified, independent valuation group to determine the estimated fair values of each of these reporting units. Their analysis was completed in the fourth quarter of 2002, and led to the recording of goodwill impairment charges as the cumulative effect of an accounting change of $77.2 million as of January 1, 2002, including $70.6 million for Matrix and $6.6 million for Care Focus. Based on our annual October 1, 2002 assessment of all reporting units, no additional impairment of goodwill was required.

      During 2001, management initiated a formal plan to dispose of all of our nursing facility operations in Florida. Accordingly, these assets were written down to their estimated sales value less selling costs. We ultimately leased these assets to a third party in the fourth quarter of 2001, with the real estate transaction closing in January 2002. See Item 8 — Note 4 for a more detailed discussion of this transaction, including related exit and other costs, and other impairments we have recorded. Under accounting standards in effect in 2001, our Florida assets were not considered discontinued operations.

Operating Results

      We reported a net loss from continuing operations for the year ended December 31, 2002 of $32.1 million, compared to a net loss from continuing operations of $237.4 million for the year ended December 31, 2001. The net loss from continuing operations for 2002 included pre-tax charges totaling approximately $98.6 million, including:

	•	$79.5 million for asset impairments, workforce reductions and other unusual items;
	•	$22.2 million for the Florida insurance reserve adjustment;
	•	$6.3 million for the California investigation settlement and related costs; and
	•	partially offset by a $9.4 million adjustment to reduce estimated reserves no longer needed, related to settlements of federal government investigations.

      The $79.5 million for asset impairments, workforce reductions and other unusual items includes the following:

	•	$74.6 million write-down of property and equipment on certain nursing facilities whose book value exceeded fair value when tested for impairment as a result of the reduction in Medicare funding effective October 1, 2002. These assets were included in the total assets of the Nursing Facilities operating segment in 2002;
	•	$8.5 million of workforce reductions (see below); and
	•	$3.0 million adjustment to asset impairments and $600,000 reversal of workforce reduction charges recorded in 2001, which were no longer needed.

      We recorded a pre-tax charge of $8.5 million during 2002 for workforce reductions which were primarily the result of a continuing operational reorganization required to support the implementation of our three year strategic plan. During 2002, we notified 133 associates that their positions would be eliminated. The charge included the following:

	•	$8.0 million of cash expenses, approximately $4.1 million of which was paid during the year ended December 31, 2002; and

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	•	non-cash expenses of $500,000 related to the issuance of 124,212 shares under our Stock Grant Plan (as defined herein).

      We estimate the annual cost savings of this operational reorganization to be approximately $11.2 million.

      The following table summarizes activity in our estimated workforce reduction and exit costs for the years ended December 31 (in thousands):