See accompanying notes to condensed consolidated financial statements.

     The condensed consolidated balance sheets as of June 30, 2002 and December 31, 2001, the condensed consolidated statements of operations for the three and six months ended June 30, 2002 and 2001, and the condensed consolidated statements of cash flows for the six months ended June 30, 2002 and 2001 contained in this Quarterly Report on Form 10-Q include the accounts of Alterra Healthcare Corporation ("Alterra" or the "Company") and our affiliates which are under our common financial control. All significant intercompany accounts have been eliminated in consolidation. In our opinion, all adjustments (consisting only of normal recurring items) necessary for a fair presentation of these condensed consolidated financial statements have been included. The results of operations for the three and six months ended June 30, 2002 are not necessarily indicative of the results to be expected for the full fiscal year.

     The condensed consolidated financial statements do not include all information and notes necessary for a complete presentation of financial position, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America. The accompanying condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2001, as amended.

     In February 2001 our overall cash position had declined to a level which we believed to be insufficient to operate the Company. Accordingly, in February 2001 we retained financial advisors and special reorganization counsel to assist us in evaluating alternatives to restore financial viability. To conserve cash and protect the financial integrity of our operations, beginning in March 2001 we elected not to make selected scheduled debt service and lease payments, of which $5.6 million remains unpaid as of June 30, 2002. As a result, we are in default under several major loan and lease facilities. Our operating cash flow has improved due to overhead reductions that have been implemented and increases in monthly rents that we charge to our residents which were effective in 2002. Nevertheless, we believe that our operations will not produce sufficient cash flow to satisfy all of our obligations until the conclusion of our restructuring activities, which have commenced.

     In March of 2001 we began to implement a restructuring plan ("Restructuring Plan"), the principal objectives of which are:

Portfolio Rationalization. The Restructuring Plan calls for the disposition of a substantial number of our residences (collectively, the "Disposition Assets") that we have determined to be non-strategic for one of a variety of reasons. The disposition of the residences included in the Disposition Assets are expected to be accomplished primarily by actively working with the lenders and lessors to identify new operators and selling assets through an organized sales process.

     Beginning in April 2001, we started to market the Disposition Assets. Potential buyers, brokers and lenders were provided various information related to the Disposition Assets and confidentiality agreements have been executed with a number of interested parties. During the six months ended June 30, 2002, we recognized a gain on disposal of $11.5 million relating to the sale of 14 residences, two land parcels and two lease terminations. In addition, we are discussing a number of alternatives with our lenders and lessors to address any potential cash shortfalls that may result from the dispositions. A condition to our disposing of the Disposition Assets will be obtaining the consent of the applicable lender or lessor and, in certain cases, the consent of the applicable joint venture partner. As of June 30, 2002, 81 residences representing 3,791 resident capacity have either been sold or transferred to a new lessee. In addition, we sold 12 land parcels. As of June 30, 200 2, approximately $114.7 million is reserved for losses relating to future asset sales or lease terminations.

Restructuring of Our Senior Indebtedness and Leases. In addition to active efforts to effect the sale or other disposition of the Disposition Assets, we have commenced discussions with many of our secured lenders and lessors to restructure certain of our debt and lease obligations.

      The Company has a complex senior capital structure, comprised of at least 15 significant multi-residence secured credit facilities and five significant portfolios of operating residences that are leased from real estate investment trusts (REITs). Many of our secured credit facilities are structured to incorporate various so-called "bankruptcy-remote" features (i.e., structures designed to improve the applicable lender's rights and leverage in the event of a bankruptcy of the parent company, Alterra), including structuring the credit facility such that the fee owner of the mortgaged residences and the borrower under the credit facility is a newly formed subsidiary of Alterra whose sole activity is to own and operate the residences financed under that credit facility. The structure of certain of these credit facilities serves to limit the Company's ability to restructure these facilities through a bankruptcy, making it generally preferable for the Company to negotiate consensual restructurings with each group of lenders providing secured financing to the Company.

      The Company commenced negotiations with its secured lenders and lessors during 2001. Each separate negotiation is unique and is based on the characteristics of the underlying credit facility, including the credit facility's collateral, terms and structure. Accordingly, our restructuring needs and objectives vary from one credit facility to the next. Depending on the particular credit facility, we are attempting to reset maturities, address any deficiencies, reset covenants, obtain waivers of default interest and penalties, and secure consent from the lenders and lessors for sales of residences included in their collateral or lease portfolio.

Secured Lender Negotiations. Management is actively seeking to restructure secured loan facilities that, in management's view, would generate significant deficiency claims (i.e., claims in excess of the value of the applicable mortgage portfolio) in the event the applicable lenders sought to call the loan and foreclose on their collateral. Management believes that four credit facilities representing $289.8 million in aggregate financing (secured by mortgages on 64 residences with a capacity of 3,826 beds) appear to represent significant potential deficiency claims in the range of $82.5 million to $112.1 million. In these negotiations, we are seeking to limit or eliminate these potential deficiency claims against the Company in exchange for our agreement to cooperate with the applicable lenders to facilitate an orderly transition of ownership (and, in certain cases, management) of the mortgaged residences to the lenders or their designees (through deed-in-lieu of foreclosure transactions or so-ca lled friendly foreclosures). In transitioning ownership of the mortgaged residences to the lenders, we are offering to provide interim or long-term management services to the lenders with respect to the mortgaged residences. During the first two quarters of 2002, we executed definitive agreements of this type with two different lender groups with regard to two of these "impaired" credit facilities representing $76.6 million of financing secured by 22 residences with an aggregate capacity of 1,029 beds.

      In May 2002, one of our "impaired" lender groups that provided $171.0 million in aggregate financing (secured by mortgages on 27 residences with a capacity of 2,154 beds) caused title to all of the stock of our subsidiary that operated these mortgaged residences to be transferred to a third party. Accordingly, we no longer own these residences, although we do manage these residences for this lender group and are actively negotiating with the lender group seeking to limit or eliminate any deficiency claim arising under our guaranty of this financing. As a result of the stock transfer, these residences are no longer consolidated and operations related to these residences through May 31, 2002 are reported as discontinued operations. We have recorded $54.7 million related to our estimated liability associated with our guaranty (including payment of the termination fee due upon full payment of the mortgage obligations). The liability associated with our guaranty obligation was calculated as the difference bet ween the fair market value of the assets and the underlying mortgage obligations. Also included in discontinued operations is a loss of approximately $24.0 million, which represents the write off of the net assets of our former subsidiary at the time of the transfer of the stock of the subsidiary.

      For comparative purposes, the reconciliation between the December 31, 2001 and June 30, 2002 balance sheet to record the stock transfer of this former subsidiary, AHC Tenant, Inc., is as follows:

      We are currently negotiating and seeking to finalize definitive agreements with respect to the restructuring of the remaining "impaired" mortgage loan facility. We are unable to provide any assurances at to whether these ongoing negotiations with respect to these two impaired credit facilities will result in restructuring terms acceptable to the Company providing for the elimination or substantial reduction of these large potential deficiency claims.

      In addition to these impaired credit facilities, we are also seeking to negotiate amendments and modifications with the applicable lenders with respect to our other principal secured credit facilities in order to, depending on the specific case, reset covenants, obtain consent to sell certain mortgaged residences, secure waivers of prior defaults and, in certain cases, to extend scheduled maturities. These credit facilities represent $382.2 million of financing secured by an aggregate of 137 residences with a capacity of 6,135 beds. Discussions with certain (but not all) of these lenders have commenced, but none have yet resulted in definitive binding restructuring agreements.

REIT Lessor Negotiations. We currently have five multi-residence portfolios leased from various REITs. These portfolios include an aggregate of 196 residences with a capacity of 8,501 beds. We have completed the restructuring of four of our leased portfolios (aggregate of 161 residences with 7,087 beds). These restructurings included the amendment of certain lease covenants and terms and, in three lease facilities, the conversion of individual leases into single master leases. The cash rent due under one lease facility was modified through the application of various deposits held by the landlord to satisfy a portion of the cash rent obligation in the early years of the restructured master lease.

      Restructuring negotiations are currently underway with respect to our one remaining REIT-leased portfolio. In these restructuring negotiations, we are seeking to extend lease terms, revise covenants as necessary, and obtain additional funding for capital expenditures. In consideration for these modifications, the applicable REIT lessor is requesting that we convert individual leases into a multi-residence master lease.

Restructuring of Junior Capital Structure. As of June 30, 2002, the Company's junior capital structure is comprised of approximately $427.9 million of unsecured debt and equity capitalization comprised of $5.8 million aggregate principal amount of 9.75% Series A Cumulative Convertible Preferred Stock due May 30, 2007 (the "Series A Stock") and 22.2 million shares of Common Stock. The principal components of the Company's unsecured indebtedness as of June 30, 2002 (amounts exclude accrued but unpaid interest) include:

      The outstanding 5.25% Debentures, 7.00% Debentures and 6.75% Debentures (collectively, the "Original Debentures") are subordinated to all other "senior indebtedness" of the Company (as defined in the applicable indenture governing such debentures), and the PIK Debentures are subordinated to all "senior indebtedness" of the Company (as defined in the applicable indentures governing such debentures), other than the Original Debentures. Although defined somewhat differently in the several indentures governing the Original Debentures and the PIK Debentures (collectively, the "Subordinated Debentures"), "senior indebtedness" is defined to generally include indebtedness for borrowed money and other similar obligations of Alterra (other than the other series of Original Debentures).

      All of our Subordinated Debentures are currently in default due to our failure to make coupon payments on the Original Debentures and due to cross default provisions triggered by payment defaults on our secured debt.

     As a result of several notices of default received by the Company with respect to secured indebtedness that by its terms may be accelerated by the applicable lenders, neither we nor the applicable indenture trustees for the Subordinated Debentures are permitted by the subordination provisions of the indentures governing the respective Subordinated Debentures to make any payment or distribution on account of the Subordinated Debentures (other than the payment of PIK coupons on the PIK Debentures). As a result, we did not make cash interest payments on the Original Debentures in 2001 and 2002 of $5.5 million and $11.0 million, respectively. In the event that the Company is dissolved, liquidated or reorganized, all amounts due in payment of the Company's "senior indebtedness" must be paid or provided for before any payment may be made on account of the Subordinated Debentures. Accordingly, unless and until we are able to restructure our "senior indebtedness&quo t; obligations (including, without limitation, our several secured credit facilities) and resolve all pending defaults related to this indebtedness, we will not be permitted to make any interest or other payments to the holders of the Subordinated Debentures (other than the payment of PIK coupons on the PIK Debentures) or to restructure the Subordinated Debentures.

     To the extent that the Company is not able to restructure its capital structure and is forced to liquidate, applicable principles of corporate law (specifically, the liquidation priority of debt over equity and the priority of preferred stock over common stock) and the subordination provisions governing the Subordinated Debentures would dictate that:

     In seeking to restructure our junior capital structure, the relative rights in liquidation of our various junior capital constituencies will be a significant factor in determining the extent to which the claims and interests of these various constituencies will need to be modified or exchanged as the Company is restructured.

     In light of the subordination provisions governing the Subordinated Debentures, we are currently prohibited from restructuring the Subordinated Debentures, the largest component of our junior capital structure. If we are able to successfully complete the restructuring of our secured credit facilities, we anticipate that we will seek to exchange an equity or equity-linked security of the Company for all or a portion of the outstanding Subordinated Debentures. The extent to which all of the Subordinated Debentures will be permitted to participate in this exchange offer, and the value and rights associated with this new equity or equity-linked security to be offered to the holders of the PIK Debentures and Original Debentures, respectively, will be contingent upon the value of the restructured Alterra and will be impacted by the subordination provision operative with respect to the various series of Subordinated Debentures.

     We may seek to effect a restructuring of certain of the Subordinated Debentures by an exchange offer to the holders of such debentures. However, to successfully restructure the Subordinated Debentures we will need the consent of substantially all of the holders of these debentures to the terms of our exchange offer. In the alternative, the Company may seek to restructure certain components of its junior capital structure (most likely the Subordinated Debentures and the Company's equity capitalization) by reorganizing the Company pursuant to a filing of a largely pre-arranged restructuring plan under Chapter 11 of the United States Bankruptcy Code ("Chapter 11"). In a case commenced under Chapter 11, the Company can successfully restructure without the need of obtaining the active consent of substantially all of the holders of the Subordinated Debentures because Chapter 11 provides specific voting requirements and other mechanisms for completing a restructuring un der court supervision.

     Given the uncertainty as to the outcome of our many ongoing restructuring negotiations with senior capital structure constituencies, and given the impact of operative subordination provisions and corporate law doctrines governing the relative rights of holders of debt and equity interests in the Company, it is very difficult for us to predict what value, if any, various junior capital structure constituencies will receive in the restructured Alterra. While it is management's intention, to the extent practicable, to seek to restore value to our junior capital structure, no assurances may be given as to what value, if any, various junior capital structure constituencies will have in the restructured Company.

Joint Venture Arrangements. The Restructuring Plan calls for us to seek to acquire joint venture interests in certain of our residences in order to simplify our capital structure. In many cases, our acquisition of these joint venture interests (or termination of the applicable joint venture's interest in our residences) is necessary for us to satisfy restructuring requirements established by our senior lenders and lessors.

     We are engaged in buy-out or settlement negotiations with investor groups who currently have joint venture interests in 45 residences in the aggregate. No assurance may be given as to whether these negotiations will result in an agreement as to the Company acquiring 100% of these joint venture entities. If these negotiations fail, the Company's ability to restructure certain of its senior capital financing facilities may be adversely affected. If lenders or lessors providing financing to the Company with respect to residences operated by joint ventures seek to foreclose on their mortgages or to terminate their leases, and as a result joint venture entities have their right to operate such residences impaired, Alterra may be forced to defend damage claims asserted by certain of its joint venture partners.

Efforts to Secure New Equity. As we continue to restructure the Company, we may find it necessary to seek new equity investment in the Company to be funded upon completion of the restructuring in order to achieve financial stability, fund certain deferred expenditures, normalize our professional and general liability insurance programs, and fund certain non-recurring costs of the restructuring. This investment would likely be contingent on a successful restructuring of the Company and, accordingly, would not be funded until negotiations, settlements and restructurings with our lenders, lessors, Subordinated Debenture and equity holders and joint venture partners have concluded. Any additional equity investment in the Company, if it can be arranged, may significantly dilute the equity interests of all parties holding (or receiving in the restructuring) equity or equity-linked securities in the restructured Alterra.

     In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets," having a required effective date for fiscal years beginning after December 15, 2001. Under SFAS No. 142, goodwill and other intangible assets deemed to have indefinite lives are no longer amortized but will be subject to annual impairment tests in accordance with the Statement. Other intangible assets will continue to be amortized over their useful lives. The Company adopted SFAS No. 142 effective January 1, 2002 and as a result, is no longer amortizing $104.9 million of goodwill as of that date.

     Under the transitional provisions of SFAS No. 142, the Company identified its reporting units and performed impairment tests on the net goodwill associated with each of these reporting units. The fair value of the owned reporting units was determined by estimating the terminal value of the future cash flows. The fair value of the leased reporting units was determined by estimating the present value of the cash flows for the life of the lease. Based on this impairment testing, the Company recorded an impairment loss of $54.7 million in the first quarter of 2002. The impairment loss has been recorded as a cumulative effect of change in accounting principle in the accompanying condensed consolidated statements of operations for the six months ended June 30, 2002.

     In accordance with SFAS No. 142, the effect of this accounting change is applied prospectively. Supplemental comparative disclosure as if the change had been retroactively applied to the prior period is as follows (in thousands, except per share amounts):

     In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations (SFAS No. 143)." SFAS No. 143 requires the Company to record the fair value of an asset retirement obligation as a liability in the period in which it incurs a legal obligation associated with the retirement of tangible long-lived assets that result from the acquisition, construction, development and/or normal use of the assets. The Company also records a corresponding asset which is depreciated over the life of the asset. Subsequent to the initial measurement of the asset retirement obligation, the obligation will be adjusted at the end of each period to reflect the passage of time and changes in the estimated future cash flows underlying the obligation. The Company is required to adopt SFAS No. 143 on January 1, 2003.

     In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lives Assets," which supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of." The Company adopted SFAS No. 144 beginning on January 1, 2002. As a result of the adoption of SFAS No. 144, during the six months ended June 30, 2002, the Company reclassified to discontinued operations the revenues and expenses of 10 residences with a capacity of 486 beds that were part of two executed deed in lieu restructuring agreements, 6 leased residences with a capacity of 308 beds which are pending sale and 27 residences with a capacity of 2,154 beds formerly operated by a wholly-owned subsidiary, the ownership of which subsidiary was transferred to a third party by the lender group in May 2002. For comparative purposes and in accordance with SFAS No. 144, the March 31, 2001 and June 30, 2001 condensed consoli dated statements of operation have been restated to reflect this classification for comparative purposes. Those assets classified as held for sale at December 31, 2001 continue to be accounted for in accordance with SFAS No. 121.

     As part of our Restructuring Plan, our Board of Directors has adopted an asset disposition plan to dispose or terminate leases on 135 residences with an aggregate capacity of 6,095 residents and 33 parcels of land. Residences included in the disposition plan were identified based on an assessment of a variety of factors including geographic location, residence size, operating performance, and lender negotiations. As of June 30, 2002, 81 residences representing 3,791 resident capacity, including 19 residences sold as part of joint venture terminations with Manor Care, Inc. and Pioneer Development Company, have either been sold or transferred to a new lessee. In addition, the Company sold 12 land parcels.

     In accordance with SFAS No. 121 and SFAS No. 144, we have recorded an impairment loss on our properties to be held for sale whenever their carrying value cannot be fully recovered through the estimated cashflows including net sale proceeds. The amount of the impairment loss to be recognized is the difference between the residence's carrying value and the residence's estimated fair value less costs to sell. Our policy is to consider a residence to be held for sale or disposition when we have committed to a plan to sell such residence and active marketing activity has commenced or it is expected to commence in the near term. In accordance with SFAS No. 144, during the six months ended June 30, 2002 we recognized an impairment loss of $13.1 million and reclassified as held for sale 10 residences included as part of executed deed in lieu restructuring agreements and 6 leased residences with pending sales. Also in accordance with SFAS No. 144, the impairment loss and revenues and expenses of these residences have been recorded as discontinued operations for the three and six months ended June 30, 2002. Assets held for sale is principally comprised of net property and equipment, goodwill and the corresponding mortgage liability. We expect to sell these residences and land parcels in the next six to twelve months. As of June 30, 2002, approximately $114.7 million is reserved for losses relating to future asset sales or lease terminations.

     There are a number of factors that may affect the timing of a sale and the sale price that will ultimately be achieved for these residences, including, among other things, the following: potential increased competition from any other assisted living residences in the area, the relative attractiveness of assisted living residences for investment purposes, interest rates, the actual operations of the residence, the ability to retain existing residents and attract new residents at the residence and a buyout of joint venture interests. As a result, there is no assurance as to what price will ultimately be obtained upon a sale of these residences or the timing of such a sale. The value of the assets held for sale, net of reserves, is reflected in current assets and the outstanding debt related to the assets held for sale is reflected in current liabilities on our balance sheet.

     During the six months ended June 30, 2002, we sold or terminated leases on 16 residences (773 resident capacity) and two land parcels. The sale or lease termination of these assets resulted in the retirement of approximately $35.1 million of debt and lease obligations and a gain on disposal of $11.5 million.

     The following table represents condensed operating information for the six months ended June 30, 2002 and 2001, respectively, as related to the 90 operating residences which have been sold, are held for sale, or had leases terminated as of June 30, 2002, and are included in the loss from continuing operations of the Consolidated Statements of Operations. In some cases, based on the timing of the asset disposal or lease termination, results may not be comparable (in thousands).

     The following table summarizes the computation of basic and diluted net loss per share amounts presented in the accompanying consolidated statements of operations (in thousands, except per share data):

     Shares issuable upon the conversion of convertible subordinated debentures and employee stock options have been excluded from the computation because the effect of their inclusion would be anti-dilutive.

Reclassifications have been made in the 2001 financial statements to conform with the 2002 financial statement presentation.

Overview

     We are a national assisted living company operating assisted living residences and providing assisted living services in 24 states. Our recent restructuring activities have had a significant impact on our results of operations and are important factors in explaining the changes in our results between 2002 and 2001. As of June 30, 2002 and 2001, we operated or managed 408 and 453 residences with aggregate capacity of 19,187 and 21,358 residents, respectively. As of June 30, 2002, 45 of our residences were operated in joint venture arrangements with third parties.

      In light of pending payment and covenant defaults under many of our senior credit facilities and all of our outstanding series of convertible debentures, we are seeking to implement a Restructuring Plan that contemplates the disposition of a significant portion of our residences and the restructuring of our secured indebtedness, leases (operating and capital), convertible debentures, joint venture arrangements and equity capitalization. The pending Restructuring Plan, and recent developments impacting our liquidity and operating results, are summarized in Footnote 2 to the financial statements included in Item 1 of Part I hereof, and are incorporated in this Item 2 by reference.

     In response to the Securities and Exchange Commission's Release Numbers 33-8040, Cautionary Advice Regarding Disclosure About Critical Accounting Policies, and 33-8056, Commission Statement about Management's Discussion and Analysis of Financial Condition and Results of Operations, we have identified the following critical accounting policies that affect our more significant judgments and estimates used in the preparation of our consolidated financial statements. The preparation of our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities.

     On an ongoing basis, we evaluate our estimates, including those related to revenue recognition and the allowance for doubtful accounts receivable and asset impairment. We state these accounting policies in the notes to our consolidated financial statements and in relevant sections in this discussion and analysis. Our estimates are based on information that is currently available to us and on various other assumptions that we believe are reasonable under the circumstances. Actual results could vary from those estimates and those estimates could be different under different assumptions or conditions.

     The consolidated financial statements include the accounts of the Alterra Healthcare Corporation and its majority-owned subsidiaries. Results of operations of the majority-owned subsidiaries are included from the date of acquisition. All significant inter-company balances and transactions with such subsidiaries have been eliminated in the consolidation. Investments in other affiliated companies in which we have a minority ownership position are accounted for on the equity method.

     Property and equipment are stated at cost, net of accumulated depreciation. Property and equipment under capital leases are stated at the present value of minimum lease payments. Depreciation is computed over the estimated lives of the assets using the straight-line method. Buildings and improvements are depreciated over 20 to 40 years, and furniture, fixtures, and equipment are depreciated over three to seven years. Maintenance and repairs are expensed as incurred.

     Goodwill represents the costs of acquired net assets in excess of their fair market values. In accordance with (SFAS) No. 142, we evaluate goodwill for impairment based on expectations of discontinued cash flows in relation to the net capital investment in the entity.

     We apply Statement of Financial Accounting Standards (SFAS) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, to recognize and measure impairment of long-lived assets. We review each long-lived asset for impairment whenever events or circumstances indicate that the carrying value of a real estate investment may not be recoverable. The review of recoverability is based on an estimate of the future undiscounted cash flows, excluding interest charges, expected to result from the real estate investment's use and eventual disposition. These cash flows consider factors such as expected future operating income, trends and prospects, as well as the effects of leasing demand, competition and other factors. If impairment exists due to the inability to recover the carrying value of a real estate investment, an impairment loss is recorded to the extent that the carrying value exceeds estimated fair market value.

     Assets held for sale are carried at the lower of carrying amount or fair value, less costs to sell. Depreciation and amortization are suspended during the period held for sale. We are required to make subjective assessments as to whether there are impairments in the value of our real estate properties. These assessments have a direct impact on our net income, because taking an impairment loss results in an immediate negative adjustment to net income.

     We are seeking to negotiate restructurings of several of our principal secured debt and lease obligations and, upon completing these negotiations, will seek to restructure our principal unsecured debt obligations, comprised primarily of the outstanding convertible debentures. Furthermore, at June 30, 2002, we were in violation of certain debt covenants. The consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability, classification or amounts of assets and liabilities that may result from the outcome of lenders or lessors taking action to foreclose on their collateral under their secured credit agreements as a result of these defaults.

     Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the expected future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

     Residence Service Fees. Residence service fees for the three months ended June 30, 2002 were $103.6 million, representing a decrease of $3.6 million from the $107.2 million for the comparable 2001 period. This decrease resulted primarily from a decrease in the number of residences operated in the 2002 period together with a decline in occupancy rates offset by rate increases instituted during the past 12 months. The Company operated 45 fewer residences (aggregate resident capacity of 2,171 beds) in the 2002 period than the 2001 period as a result of asset sales. Average rates were $2,817 and $2,658 for the quarters ended June 30, 2002 and 2001, respectively. Company-wide occupancy was 83.5% and 84.4% for the quarters ended June 30, 2002 and 2001, respectively.

     Other Revenues. Other revenues for the three months ended June 30, 2002 were $736,000, a decrease of $964,000 from the $1.7 million of other revenue for the three months ended June 30, 2001. The decrease is attributable to reduced development and franchise activity and a reduction in management fees on residences which were either managed for third parties or for entities in which we held a minority ownership position. Management fees include charges for transitional services to recruit and train staff, initial and recurring fees for use of our name and branding, initial and recurring fees for use of our methodologies, services for assisting with finance processing, and ongoing management services provided to operate the residence.

      Residence Operating Expenses. Residence operating expenses for the three months ended June 30, 2002 decreased to $69.1 million from $73.0 million in the three-month period ended June 30, 2001. Operating expenses as a percentage of resident service fees for the three months ended June 30, 2002 and 2001 were 66.7% and 68.0%, respectively. This decrease resulted primarily from ongoing cost reduction strategies instituted during the past 12 months, as well as, the Company operating 45 fewer residences (aggregate resident capacity of 2,171 beds) in the 2002 period than the 2001 period as a result of asset sales.

     Lease Expense. Lease expense for the three months ended June 30, 2002 was $14.8 million, compared to $15.2 million in the comparable period in 2001. This decrease is the result of the termination of 22 residence leases over the last twelve months.

     Gain on Lease Termination. The $6.2 million gain on lease termination consists of deferred gains recognized due to a new master lease completed during the three months ended June 30, 2002.

      General and Administrative Expense. For the three months ended June 30, 2002, general and administrative expenses were $9.8 million, before $3.1 million in restructuring costs, compared to $10.2 million before $1.5 million in restructuring costs for the comparable period in 2001. General and administrative expenses were 9.5% of operating revenue for both comparable periods.

      Loss on Disposal. The Company's Board of Directors adopted a plan to dispose of 135 residences with aggregate capacity of 6,095 residents and 33 parcels of land. During the three months ended June 30, 2001, in accordance with SFAS 121, "Accounting for Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed Of," we recorded a loss on disposal of $163.5 million, which includes losses to reflect the Disposition Assets at their lower of carrying value or estimated fair value less costs to sell and to write off the carrying value of assets associated with terminated residence leases.

      During the three months ended June 30, 2002, we sold or terminated leases on nine residences and two land parcels (421 resident capacity) resulting in a gain on disposal of $9.5 million.

      Depreciation and Amortization. Depreciation and amortization for the three months ended June 30, 2002, was $6.5 million representing a decrease of $2.6 million, or 28.6%, from the $9.1 million of depreciation and amortization for the 2001 period. This decrease resulted primarily from the adoption of FASB Statement 142 which eliminates ongoing depreciation of goodwill and other intangible assets and the sale of 44 assets during the past 12 months.

      Interest Expense, Net. Interest expense, net of interest income, was $13.3 million for the three months ended June 30, 2002, prior to $204,000 of bank penalties paid in the quarter compared to $15.1 million of net interest expense for the comparable 2001 period, prior to $2.0 of bank penalties paid in the quarter. Gross interest expense (before interest capitalization and income) for the 2002 period was $13.2 million prior to the bank penalties paid compared to $15.9 million prior to bank penalties paid for the 2001 period. As a result of our decision to reduce development and construction activity beginning in 2001, as of June 30, 2002, all construction activity has stopped and no capitalized interest was recorded for the quarter. For the three months ended June 30, 2001, we capitalized $156,000 of interest expense relating to an average construction in progress balance of $12.9 million. Interest income for the 2002 period, net of a $323,000 adjustment, was $261,000 as compared to $1.0 million for the 2001 period. This decrease was due primarily to lower restricted cash balances in place in the 2002 period related primarily to lease financing transactions.

     PIK Interest, Net. "Pay-In-Kind" (PIK) interest for the three months ended June 30, 2002 and 2001 was $6.5 million and $5.8 million, respectively, and includes interest expense on the PIK Debentures which were issued in May and August 2000.

     As of June 30, 2002 and 2001, we do not have a deferred tax asset. In accordance with SFAS No. 109, we are required to continuously evaluate the recoverability of the deferred tax assets based on the criteria that it is "more likely than not" that the deferred taxes will be recoverable through future taxable income. This evaluation is made based on our internal projections which are routinely updated to reflect more recent operating trends. Based on our current financial projections, we are uncertain that we will recover these net deferred tax assets through future taxable income. In addition, the utilization of our $365.7 million Net Operating Loss carryforward could be subject to limitations based on the change of control provisions in the Internal Revenue Code. Accordingly, we have established a valuation allowance against the entire deferred tax assets. As of June 30, 2002 and 2001, this valuation allowance was $211.0 million and $138.5 million, respective ly.

     In May 2002, one lender group transferred to a third party title to all of the outstanding common stock of our then subsidiary which operated 27 residences serving as collateral for $171.0 million of indebtedness. Accordingly, we no longer operate these residences, although we do manage these residences for the lender group. As a result of the stock transfer, these residences are no longer consolidated and operations related to these residences through May 31, 2002 are reported as discontinued operations. We have recorded a reserve of $54.7 million related to our estimated liability associated with our guaranty (including payment of the termination fee due upon full payment of the mortgage obligations). The liability associated with our guaranty obligation was calculated as the difference between the approximate fair market value of the assets and the underlying mortgage obligations. Also included in discontinued operations is a loss of approximately $24.0 million, which represents the write off of the net assets of our former subsidiary at the time of the transfer of the stock of the subsidiary.

     For comparative purposes and in accordance with SFAS No. 144, the June 30, 2001 financial statements have been reclassified for the comparable residences to reflect the above reclassifications.

     Other Revenues. Other revenues for the six months ended June 30, 2002 were $1.9 million, a decrease of $1.6 million from the $3.5 million of other revenue for the six months ended June 30, 2001. The decrease is attributable to reduced development and franchise activity and a reduction in management fees on residences which were either managed for third parties or for entities in which we held a minority ownership position.

     Residence Operating Expenses. Residence operating expenses for the six months ended June 30, 2002 decreased to $137.5 million from $146.2 million in the six month period ended June 30, 2001. Operating expenses as a percentage of resident service fees for the six months ended June 30, 2002 and 2001 were 66.0% and 67.5%, respectively. This decrease resulted primarily from ongoing cost reduction strategies instituted during the past 12 months. In addition, the Company operated 45 fewer residences (aggregate resident capacity of 2,171 beds) in the 2002 period than the 2001 period as a result of asset sales.

     Lease Expense. Lease expense for the six months ended June 30, 2002 was $29.1 million, compared to $32.0 million in the comparable period in 2001. This decrease is the result of the termination of 22 residence leases over the last twelve months.

     Gain on Lease Termination. The $6.2 million gain on lease termination consists of deferred gains recognized due to a new master lease completed during the three months ended June 30, 2002.

     General and Administrative Expense. For the six months ended June 30, 2002, general and administrative expenses were $18.9 million, before $4.5 million in restructuring costs, compared to $20.4 million before $2.7 million in restructuring costs for the comparable period in 2001, representing a decrease as a percentage of operating revenue to 9.0% in the 2002 period compared to 9.4% in the 2001 period. The $1.5 million decrease in on-going expenses in the 2002 period was primarily attributable to cost reductions which we have implemented to improve corporate efficiencies.

     Loss on Disposal. The Company's Board of Directors adopted a plan to dispose of 135 residences with aggregate capacity of 6,095 residents and 33 parcels of land. During the six months ended June 30, 2001, in accordance with SFAS 121, "Accounting for Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed Of," we recorded a loss on disposal of $175.5 million, which includes losses to reflect the Disposition Assets at their lower of carrying value or estimated fair value less costs to sell and to write off the carrying value of assets associated with terminated residence leases.

     During the six months ended June 30, 2002, we sold or terminated leases on 16 residences and 2 land parcels (773 resident capacity) resulting in a gain on disposal of $11.5 million.

      Depreciation and Amortization. Depreciation and amortization for the six months ended June 30, 2002, was $12.7 million representing a decrease of $4.5 million, or 26.3%, from the $17.2 million of depreciation and amortization for the 2001 period. This decrease resulted primarily from the adoption of FASB Statement 142 which eliminates ongoing depreciation of goodwill and other intangible assets and the sale of 44 assets during the past 12 months.

     PIK Interest, Net. "Pay-In-Kind" (PIK) interest for the six months ended June 30, 2002 and 2001 was $12.7 million and $12.2 million, respectively, and includes interest expense on the PIK Debentures which were issued in May and August 2000.

     As of June 30, 2002 and 2001, we do not have a deferred tax asset. In accordance with SFAS No. 109, we are required to continuously evaluate the recoverability of the deferred tax assets based on the criteria that it is "more likely than not" that the deferred taxes will be recoverable through future taxable income. This evaluation is made based on our internal projections which are routinely updated to reflect more recent operating trends. Based on our current financial projections, we are uncertain that we will recover these net deferred tax assets through future taxable income. In addition, the utilization of our $365.7 million Net Operating Loss carryforward could be subject to limitations based on the change of control provisions in the Internal Revenue Code. Accordingly, we have established a valuation allowance against the entire deferred tax assets. As of June 30, 2002 and 2001, this valuation allowance was $211.0 million and $138.5 million, respective ly.

     In May 2002, one lender group transferred to a third party title to all of the outstanding common stock of our then subsidiary which operated 27 residences serving as collateral for $171.0 million of indebtedness. Accordingly, we no longer operate these residences, although we do manage these residences for the lender group. As a result of the stock transfer, these residences are no longer consolidated and operations related to these residences through May 31, 2002 are reported as discontinued operations. We have recorded a reserve of $54.7 million related to our estimated liability associated with our guaranty (including payment of the termination fee due upon full payment of the mortgage obligations). The liability associated with our guaranty obligation was calculated as the difference between the approximate fair market value of the assets and the underlying mortgage obligations. Also included in discontinued operations is a loss of approximately $24.0 million, which represents the write off of the net assets of our former subsidiary at the time of the transfer of the stock of the subsidiary.

     For comparative purposes and in accordance with SFAS No. 144, the June 30, 2001 financial statements have been reclassified for the comparable residences to reflect the above reclassifications.

     For the six months ended June 30, 2002, the operating cash flow was $8.3 million compared to the operating cash flow of $27.8 million for the six months ended June 30, 2001. The case flow of 2001 reflects our decision to defer debt service and lease payments to selected secured lenders and lessors.

     During the six months ended June 30, 2002 we completed a sale/leaseback transaction accounted for as a financing of three residences with one of our REITs for an aggregate purchase price of $11.8 million. The proceeds of this refinancing were used principally to retire mortgage loan and accrued interest obligations. During the six months ended June 30, 2002, we also entered into a settlement agreement with two lender groups with respect to defaulted "impaired" secured indebtedness aggregating approximately $76.6 million (plus $4.3 million of accrued and unpaid interest and late fees and approximately $4.0 million due under an interest rate cap agreement that was terminated March 2001) under credit facilities secured by mortgages on 22 residences. These settlements are structured to immediately shift the economics of ownership and control over the disposition of the mortgaged residences to the lenders. Subsequent to executing the applicable settlement agreement, we exercised refinancing options on three residences and now operate those residences pursuant to a sale-leaseback agreement. In exchange, we received the lenders' binding commitment to execute and deliver a waiver of any deficiency claims (including accrued interest and obligations related to the terminated interest rate cap agreement) and release of our guaranty with respect to this indebtedness upon satisfaction of certain conditions. We have estimated the prospective deficiency claims related to these credit facilities to be in the range of $19.8 million to $27.8 million. Until March 31, 2003 (as to 11 residences) and June 30, 2003 (as to 12 residences), or such earlier time as the lenders sell a residence or replace the Company as manager, we are obligated to manage the residences for a management fee currently equal to six percent of facility revenue for the first six months after the closing date of the applicable settlement agreement and seven percent thereafter. Any net operating income from the residences is paid to the lenders as debt service.

     In an effort to retain sufficient cash to fund operations of all our residences and address our short-term liquidity needs, in March 2001 we obtained a $7.5 million bridge loan provided by certain of our principal stock and convertible debenture holders (the "Bridge Loan") and elected not to fund certain of our debt service and lease payment obligations. As a result, we are currently in default under many of our credit and sale/leaseback facilities.

     Historically, we financed our operations and growth through a combination of various forms of real estate financing (mortgage and sale/leaseback financing), capital contributions from joint venture partners and the sale of our securities (Common Stock, preferred stock and Subordinated Debentures) and, to a lesser extent, cash from operations. At June 30, 2002, we had $1.0 billion of outstanding debt principally consisting of $427.9 million of Subordinated Debentures having a weighted average interest rate of 8.07%, $108.1 million of fixed rate debt having a weighted average interest rate of 7.35%, capitalized and financing lease obligations of $48.9 million having a weighted average interest rate of 10.82%, $414.9 million of variable rate debt having a weighted average interest rate of 6.65%, and $14.4 million and $10.0 million of notes payable and short-term borrowings, respectively. Through June 30, 2002, we have also entered into approximately $547.9 million of sale/leas eback financings.

     Our principal credit and financing agreements, including our Subordinated Debentures and our lease agreements, include cross-default provisions that provide that a material default under our other credit facilities constitutes a default under that credit or financing agreement. Accordingly, any material default arising under one of our credit or financing agreements could result (and, as discussed below, has resulted) in many of our other major credit and financing arrangements being in default. In addition, our principal credit and financing agreements include various financial covenants and other restrictions, including: (i) fixed charge coverage requirements, typically measured on a trailing four quarter basis and which generally increase over the term of the applicable credit agreement; (ii) maximum leverage ratios which limit our aggregate senior indebtedness to total capitalization; (iii) various minimum net worth or tangible net worth requirements; (iv) in some cases , property specific debt service coverage requirements and similar financial covenants of the type referenced above applicable to individual properties or to the pool of residences financed by the applicable lender; and (v) the maintenance of operating and other reserves for the benefit of the residences serving as collateral for the applicable lender. We are currently not in compliance with certain of these covenants, although we have negotiated limited in time waivers with certain lenders and lessors. Additionally, under some of our credit and sale/leaseback facilities we are required to secure lender or lessor consent prior to engaging in mergers, business combinations or change in control transactions.

     We elected not to fund certain debt service and lease payment obligations due in 2001 and 2002 without the consent of the applicable lender or lessor. Through additional payments, prepayments associated with asset sales and application of escrowed amounts, as of June 30, 2002, we had $5.6 million of delinquent outstanding scheduled debt service to lenders who hold mortgages on 74 residences in the aggregate (2,972 resident capacity). We have received a written notice of acceleration from lenders with respect to indebtedness aggregating $149.1 million. In addition, indebtedness of approximately $96.9 million has fully matured as of June 30, 2002 and is past due. Many of our other credit and lease facilities are in technical default as a result of these payment defaults associated with other loan and lease facilities, but several of these lenders and lessors have executed limited in time waivers. We have received written notices of default from most of these lenders or les sors, three lessors have terminated leases for 17 residences (940 resident capacity) and other lenders have elected to apply deposits and reserve funds of ours held by such lenders against the past due payments. Five lenders have activated or are in the process of activating "cash traps" of bank accounts relating to the operation of residences mortgaged to such lenders, either pursuant to arrangements set forth in the applicable loan documents or as negotiated with the Company. We are also in litigation with a former lessor with respect to their damage claim associated with the early termination of their 11 residence lease portfolio. As noted above, in May 2002, one lender group transferred to a third party title to all of the outstanding common stock of our then subsidiary which operated 27 residences serving as collateral for $171.0 million of indebtedness. Accordingly, we no longer operate these residences, although we do manage these residences for the lender group and are seeking to negoti ate a release of any deficiency claims against the Company arising under the Company's guaranty of this indebtedness.

     Our operations will require significant additional capital resources in the future in order to fund: (i) the professional fees and other related costs associated with our Restructuring Plan; (ii) our ongoing debt service and lease obligations, including maturities of our long-term debt and refinancing of short term debt; (iii) deferred capital expenditures, (iv) normalizing our professional and general liability insurance programs, and (v) general working capital needs. Since July 1, 2001, due to our limited cash resources and a general lack of availability of traditional professional and general liability insurance products, we have maintained lower levels of liability insurance than would be desirable given actuarial estimates. Accordingly, our Restructuring Plan contemplates higher cash requirements for insurance in the future than we have incurred in the recent past. Additionally, growth in residence operating cash flow has been slower than projected as a result of ( i) increased operating costs, including labor, utilities and liability insurance and, (ii) to a lesser extent, slower fill rates in our pre-stabilized residences and reduction in occupancy levels in certain of our stabilized residences. As a result of ongoing operating losses and these upcoming capital needs, we expect that our projected cash needs during 2002 will exceed our projected identified cash resources. To satisfy these cash shortfalls and to preserve the integrity of our operations, we are pursuing a Restructuring Plan which seeks, among other things, to dispose of a significant number of our residences which operate with cash shortfalls and to defer some of our debt service obligations until those disposition and negotiated restructurings of our principal debt and lease obligations can occur. See note 2 to the financial statements.

     Management is actively seeking to restructure secured loan facilities that, in management's view, would generate significant deficiency claims (i.e., claims in excess of the value of the applicable mortgage portfolio) in the event the applicable lenders sought to call the loan and foreclose on their collateral. Management believes that four credit facilities representing $289.8 million in aggregate financing (secured by mortgages on 64 residences with a capacity of 3,826 beds) appear to represent significant potential deficiency claims in the range of $82.5 million to $112.1 million. In these negotiations, we are seeking to obtain a release of these potential deficiency claims against the Company in exchange for our agreement to cooperate with the applicable lenders to facilitate an orderly transition of ownership (and, in certain cases, management) of the mortgaged residences to the lenders or their designees (through deed-in-lieu of foreclosure transactions or so-called f riendly foreclosures). In transitioning ownership of the mortgaged residences to the lenders, we are offering to provide interim or long-term management services to the lenders with respect to the mortgaged residences. As noted above, during the six months ended June 30, 2002, we executed definitive agreements of this type with two different lender groups with regards to two of these "impaired" credit facilities representing $76.6 million of financing secured by 22 residences with an aggregate capacity of 1,029 beds.

     In May 2002, one of our "impaired" lender groups that provided $171.0 million in aggregate financing (secured by mortgages on 27 residences with a capacity of 2,154 beds) caused title to all of the stock of our subsidiary that operated these mortgaged residences to be transferred to a third party. Accordingly, we no longer operate these residences, although we do manage these residences for this lender group and are actively negotiating with the lender group seeking to limit or eliminate any deficiency claim arising under our guaranty of this financing. As a result of the stock transfer, these residences are no longer consolidated and operations related to these residences through May 31, 2002 are reported as discontinued operations. We have recorded $54.7 million related to our estimated liability associated with our guaranty (including payment of the termination fee due upon full payment of the mortgage obligations). The liability associated with our guaranty obligation was calculated as the difference between the approximate fair market value of the assets and the underlying mortgage obligations. Also included in discontinued operations is a loss of approximately $24.0 million, which represents the write off of the net assets of our former subsidiary at the time of the transfer of the stock of the subsidiary.

     We also are currently negotiating and seeking to finalize definitive agreements with respect to the restructuring of the other "impaired" mortgage loan facility. We are unable to provide any assurances at to whether these ongoing negotiations with respect to these two impaired credit facilities will result in restructuring terms acceptable to the Company providing for the elimination or substantial reduction of these large potential deficiency claims.

     In addition to these impaired credit facilities, we are also seeking to negotiate amendments and modifications with the applicable lenders with respect to our other principal secured credit facilities in order to, depending on the specific case, reset covenants, obtain consent to sell certain mortgaged residences, secure waivers of prior defaults and, in certain cases, to extend scheduled maturities. These credit facilities represent $382.2 million of financing secured by an aggregate of 137 residences with a capacity of 6,135 beds. Discussions with certain (but not all) of these lenders have commenced, but none have yet resulted in definitive binding restructuring agreements.

     We currently have five multi-residence portfolios leased from various REITs. These portfolios include an aggregate of 196 residences with a capacity of 8,501 beds. We have completed the restructuring of four of our leased portfolios (aggregate of 161 residences with 7,087 beds). These restructurings included the amendment of certain lease covenants and terms and, in three lease facilities, the conversion of individual leases into single master leases. The cash rent due under one lease facility was modified through the application of various deposits held by the landlord to satisfy a portion of the cash rent obligation in the early years of the restructured master lease.

     Restructuring negotiations are currently underway with respect to our one remaining REIT-leased portfolio. In these restructuring negotiations, we are seeking to extend lease terms, revise covenants as necessary, and obtain additional funding for capital expenditures. In consideration for these modifications, the applicable REIT lessor is requesting that we convert individual leases into a multi-residence master lease.

     As of June 30, 2002, we have the following series of redeemable preferred stock and Subordinated Debentures outstanding:

·

     The outstanding Original Debentures, comprised of the 5.25% Debentures, 7.00% Debentures and 6.75% Debentures, are subordinated to all other "senior indebtedness" of the Company (as defined in the applicable indenture governing such debentures), and the PIK Debentures are subordinated to all "senior indebtedness" of the Company (as defined in the applicable indentures governing such debentures), other than the Original Debentures. Although defined somewhat differently in the several indentures governing the Original Debentures and the PIK Debentures (collectively, the "Subordinated Debentures"), "senior indebtedness" is defined to generally include indebtedness for borrowed money and other similar obligations of Alterra (other than the other series of Original Debentures).

     As a result of several notices of default received by the Company with respect to secured indebtedness that by its terms may be accelerated by the applicable lenders, neither we nor the applicable indenture trustees for the Subordinated Debentures are permitted by the subordination provisions of the indentures governing the respective Subordinated Debentures to make any payment or distribution on account of the Subordinated Debentures (other than the payment of PIK coupons on the PIK Debentures). As a result, we did not make cash interest payments on the Original Debentures of $5.5 million in each of June 2001, January 2002 and June 2002. In the event that the Company is dissolved, liquidated or reorganized, all amounts due in payment of the Company's "senior indebtedness" must be paid or provided for before any payment may be made on account of the Subordinated Debentures. Accordingly, unless and until we are able to restructure our "senior indebtedness&quo t; obligations (including, without limitation, our several secured credit facilities) and resolve all pending defaults related to this indebtedness, we will not be permitted to make any interest or other payments to the holders of the Subordinated Debentures (other than the payment of PIK coupons on the PIK Debentures) or to restructure the Subordinated Debentures.

     As of June 30, 2002, our current portion of long-term debt and short-term notes payable totaled $930.5 million. These current maturities include $492.6 million of debt and lease obligations, $427.9 million of PIK Debentures and other Subordinated Debentures that are in default or pursuant to cross-default provisions may be declared in default and may be accelerated at the lender's election, and $10.0 million of short-term notes payable and borrowings. In 2002 our scheduled debt maturities include $226.3 million of secured debt and our 5.25% Debentures, which have an outstanding balance of $112.0 million at June 30, 2002 and mature in December 2002.

     We are obligated under our existing joint venture arrangements to purchase the equity interests of our joint venture partners at fair market value upon the election of our partners (the "Put"). We may also exercise options to purchase these same joint venture interests either at uncapped fair market value in the case of certain joint venture arrangements (the "FMV Call") or at an agreed upon return on investment in the case of other arrangements (the "Formula Call"). For the two joint ventures with the FMV Put and Call, we estimate that the amount required as of June 30, 2002 to acquire these joint venture interests would have been approximately $2.5 million. With respect to joint ventures that include Formula Calls, we estimate the put and call prices to be approximately $15 million and $55.0 million respectively, as of June 30, 2002.

     To address our long-term liquidity and capital needs, including our upcoming debt maturities, we intend to (i) continue our negotiations with our lenders, lessors, joint venture partners, and to seek to implement the Restructuring Plan (ii) continue to implement operating initiatives focused on overall rate and occupancy improvement and salary expense and overhead reductions, (iii) dispose of under-performing and non-strategic residences in order to reduce associated financing costs, operating expenses and to generate cash, and (iv) seek to identify additional equity or equity-linked capital to be funded contingent upon the substantial completion of our restructuring. As our Restructuring Plan is largely dependent upon our ability to implement negotiated consensual restructuring arrangements with our various capital structure constituencies, no assurances may be given as to whether we will be able to restructure the Company or to restore value to various of our capital struc ture constituencies.

     To date inflation has not had a significant impact on us. Inflation could, however, affect our results of operations due to our dependence on our senior resident population who generally rely on liquid assets and relatively fixed incomes to pay for our services. As a result, we may not be able to increase residence service fees to account fully for increased operating expenses. In structuring our fees we attempt to anticipate inflation levels, but there can be no assurance that we will be able to anticipate fully or otherwise respond to any future inflationary pressures.

     The statements in this quarterly report relating to matters that are not historical facts are forward-looking statements based on management's belief and assumptions using currently available information. Although we believe that the expectations reflected in these forward-looking statements are reasonable, we cannot give any assurances that these expectations will prove to be correct. These statements involve a number of risks and uncertainties, including, but not limited to, uncertainty regarding the consequences of the restructuring, risks associated with continuing defaults under loan, lease and subordinated debenture obligations, risks associated with the continuing shortfall in our liquidity and implementation of our Restructuring Plan, risks associated with the disposition of assets and the termination of leases, substantial debt and operating lease payment obligations and current and pending maturities, operating losses associated with new residences, our need for a dditional financing and liquidity risks associated with our risks associated with liability claims and insurance, competition, governmental regulation and other risks and uncertainties detailed in the reports filed by us with the Securities and Exchange Commission. Should one or more of these risks materialize (or the consequences of a development worsen), or should the underlying assumptions prove incorrect, actual results could differ materially from those forecasted or expected. We assume no duty to publicly update these statements.

     Market risk represents the risk of changes in value of a financial instrument, derivative or non-derivative, caused by fluctuations in interest rates, foreign exchange rates and equity prices. Changes in these factors may cause fluctuations in the Company's earnings and cash flows.

     We performed a sensitivity analysis which presents the hypothetical change in fair value of those financial instruments held by us at June 30, 2002, which are sensitive to changes in interest rates. Market risk is estimated as the potential change in fair value resulting from an immediate hypothetical one-percentage point parallel shift in the yield curve. The fair value of the debt included in the analysis is $414.9 million. Although not expected, a one-percentage point change in the interest rates would have caused our annual interest expense to change by approximately $4.1 million. Accordingly, a significant increase in LIBOR based interest rates could have a material adverse effect on our earnings.

     We do not presently use financial derivative instruments to manage interest costs. We do not use foreign currency exchange rate forward contracts or commodity contracts and do not have foreign currency exposure as of June 30, 2002.

     From time to time, we are involved in various legal proceedings relating to claims arising in the ordinary course of our business. Neither we nor any of our subsidiaries is a party to any legal proceeding, the outcome of which, individually or in the aggregate, is expected to have a material adverse affect on our financial condition or results of operations, with the possible exception of the matters described below.

     We elected not to fund certain debt service and lease payment obligations due during 2001 and 2002 without the consent of the applicable lender or lessor. Through additional payments, prepayments associated with asset sales and application of escrowed amounts, as of June 30, 2002, we had $5.6 million of delinquent outstanding scheduled debt service to lenders or lessors who hold mortgages on, or from whom we lease, 74 residences in the aggregate (2,972 resident capacity). We have received a written notice of acceleration from lenders with respect to indebtedness aggregating $149.1 million. In addition, indebtedness of approximately $96.9 million has fully matured and is past due. Many of our other credit and lease facilities are in technical default as a result of these payment defaults associated with other loan and lease facilities, but several of these lenders and lessors have executed limited in time waivers. We are also in default under various financial and other c ovenants contained in certain of our credit and lease arrangements. We have received written notices of default from most of these lenders or lessors, three lessors have terminated leases for 17 residences (940 resident capacity) and other lenders have elected to apply deposits and reserve funds of ours held by such lenders against the past due payments. Five lenders have activated or are in the process of activating "cash traps" of bank accounts relating to the operation of residences mortgaged to such lenders, either pursuant to arrangements set forth in the applicable loan documents or as subsequently negotiated with the Company. We are also in litigation commenced in 2001 in the Chancery Court of Davidson County, Tennessee, with a former lessor who has asserted a damage claim arising out of the early termination of its 11 residence lease portfolio. As noted above, in May 2002, one lender group transferred to a third party title to all of the outstanding common stock of our then subsidiary w hich operated 27 residences serving as collateral for $171.0 million of indebtedness. Accordingly, we no longer operate these residences, although we do manage these residences for the lender group and are seeking to negotiate with the lender group to limit or eliminate any deficiency claims against the Company arising under the Company's guaranty of this indebtedness.

     The Company's Subordinated Debentures include subordination provisions that prohibit the Company from making interest payments to the debenture holders (other than payment-in-kind coupon payments) after the occurrence of payment defaults on the Company's senior indebtedness. As such, we defaulted in making coupon payments on our 5.25%, 6.75% and 7.00% Debentures aggregating approximately $5.5 million in each of July 2001 and January and July of 2002.

     We are seeking to address all of our pending defaults of our senior and junior capital structure obligations through our Restructuring Plan. However, our Restructuring Plan is largely dependent upon our ability to negotiate consensual modifications and waivers with our various capital structure constituents. Absent an agreed upon resolution with these third parties, our lenders, lessors, and debenture holders may begin exercising remedies under their applicable financing agreements that could substantially hinder or disrupt our efforts to restructure the Company and result in a liquidation of the Company.

      We are also subject to various professional and liability claims. Since July 1, 2001, due to our limited cash resources and a general lack of availability of tradtional professional and general liability insurance products, we have maintained lower levels of liability insurance than would be desirable given actuarial estimates. See "Management's Discussion and Analysis of Financial Condition and Result of Operations - Liquidity and Capital Resources" for further discussion.

     The Company is a defendant in a criminal negligence action commenced in May 2001 involving one of the Company's residences and pending in Hennepin County, Minnesota. It is possible that if convicted of a crime, the Company's ability to obtain and renew certain of its licenses and to participate in certain government payor programs could be materially and adversely affected.

     In order to maintain sufficient operating liquidity, we elected not to fund certain 2001 and 2002 debt service and lease payment obligations. Specifically, without the consent of the applicable lender, we failed to pay debt service to lenders who hold mortgages on 74 residences in the aggregate (2,972 resident capacity). We have received a written notice of acceleration from lenders with respect to indebtedness aggregating $149.1 million. In addition, indebtedness of approximately $96.9 million has fully matured and is past due. Many of our other credit and lease facilities are in technical default as a result of these payment defaults associated with other loan and lease facilities, but several of these lenders and lessors have executed limited in time waivers. We have received written notices of default from most of these lenders or lessors, three lessors have terminated leases for 17 residences (940 beds) and other lenders or lessors have elected to apply our depos its and reserve funds held by such lenders and lessors against past due payments. Five lenders have activated or are in the process of activating "cash traps" of bank accounts relating to the operation of residences mortgaged to such lenders.

     We are also in litigation with a former lessor with respect to their damage claim associated with the early termination of their 11 residence lease portfolio. As noted above, in May 2002, one lender group transferred to a third party title to all of the outstanding common stock of our then subsidiary which operated 27 residences serving as collateral for $171.0 million of indebtedness. Accordingly, we no longer operate these residences, although we do manage these residences for the lender group and are seeking to negotiate with the lender group to limit or eliminate any deficiency claims against the Company arising under the Company's guaranty of this indebtedness.

     We expect that absent an agreed upon resolution, other lenders and lessors may also begin exercising remedies under their loan and lease documents. We are not aware of any further steps taken by these lenders to exercise their remedies subsequent to the acceleration or maturity of the debt and we are currently working with these lenders to extend maturities and to enter into forbearance agreements as we seek to implement our Restructuring Plan.

     The indentures pursuant to which the $427.9 million of outstanding Subordinated Debentures were issued include as an event of default the acceleration of any other indebtedness of the Company of a specified amount (ranging from $1.0 million to $10.0 million). Accordingly, as a result of notices of acceleration that we received with respect to $149.1 million of mortgage indebtedness, we are in default with respect to our $427.9 million of Subordinated Debentures.

     We sought forbearance agreements from certain of our lenders and lessors with respect to debt service and lease payments due in 2001 and 2002, but did not have written agreements in place with most of our lenders and lessors at the time these payments were due. As we did not make certain loan and lease payments during 2001 and 2002, we are now in default with respect to these obligations. Management believes that, despite the pendency of these defaults, during the near term the majority of these lenders and lessors will continue to participate in restructuring discussions with us. No assurances may be given, however, that this will be the case. As our principal credit, lease and other financing facilities are cross defaulted to a material default occurring under other credit, lease or financing facilities, a payment default under one such facility results in our being in default under many other such facilities, which could adversely affect our ability to restructure without reorganization proceedings.

     The annual meeting of stockholders of the Company was held on May 30, 2002, and the following matters were voted on at that meeting:

     Consideration was given to a proposed amendment to the Company's Restated Certificate of Incorporation to reduce the size of the Board of Directors from nine to seven members. Approval of the proposed amendment required the affirmative vote of the holders of a majority of the outstanding shares of Series A Stock, voting separately as a class, and the vote of a majority of the shares of the outstanding Series A Stock and Common Stock, voting together as a class. The results were as follows: all shares of Series A Stock voted in favor of the proposal; with respect to the vote of the holders of the Common Stock and Series A Stock, voting together as a class: For, 5,524,111; Against, 437,508; and Abstentions, 23,196. Accordingly, the proposed amendment was not approved as it did not receive the affirmative vote of the holders of a majority of the outstanding shares of the Series A Stock and Common Stock, voting together as a single class (11,770,646 share s).

     Action was taken to elect a board of nine directors of the Company, five of whom were elected by the holders of the Common Stock (the "At-Large Directors") and four of whom were elected by the holders of the Series A Stock (the "Preferred Directors"). The results were as follows:

     Diluted: Not included as convertible debentures are antidilutive.

CERTIFICATION OF CHIEF EXECUTIVE OFFICER
OF ALTERRA HEALTHCARE CORPORATION

This certification is provided pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. § 1350, and accompanies the quarterly report on Form 10-Q (the "Form 10-Q") for the quarter ended June 30, 2002 of Alterra Healthcare Corporation (the "Issuer").

I, Patrick F. Kennedy, the Chief Executive Officer of Issuer, certify that, to the best of my knowledge:

Dated:  August 14, 2002

CERTIFICATION OF CHIEF FINANCIAL OFFICER

OF ALTERRA HEALTHCARE CORPORATION

This certification is provided pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. § 1350, and accompanies the quarterly report on Form 10-Q (the "Form 10-Q") for the quarter ended June 30, 2002 of Alterra Healthcare Corporation (the "Issuer").

I, Mark W. Ohlendorf, the Chief Financial Officer of Issuer, certify that, to the best of my knowledge:

Dated:August 14, 2002