Sonida Senior Living, Inc. Annual Report 2005

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FY2005 Annual Report · Sonida Senior Living, Inc.

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Capital Senior Living Corporation

05ANNUAL REPORT

Capital Senior Living Corporation

14160 Dallas Parkway, Suite 300

Dallas, Texas 75254

(972) 770-5600 fax (972) 770-5666

www.capitalsenior.com

TO OUR FELLOW SHAREHOLDERS:

Total Revenue
(in millions)

125

100

$105.2

$93.3

2004

2005

Operating Income
(in millions)

$11.

$6.7

2004

2005

Same Store Comparison
2004-2005 (percentage change)

16.2%

15%

12%

6.3%

1.6%

Revenue Growth

Expense Growth

Net Income Growth

The significant accomplishments of
2005 were a result of our experienced and dedicated
team continuing to successfully execute on our long-
term strategy. These accomplishments strengthened
our capital structure, resulted in improved operating
performance and provided us with greater financial
flexibility. The operating and financial improvements
we continue to achieve are converging with better
industry fundamentals, lower capitalization rates and
continued attractive interest rates to form a solid
platform for future growth. These positive factors
are contributing to an active acquisitions market,
bringing opportunities which we believe will position
the Company for sustainable improvements in
cash flow and profitability.

There were three major initiatives that created
the platform for our success in 2005 and that are
moving us forward in 2006:

Maximizing the Value of our Communities.
At the end of 2005, we had achieved 92 percent
occupancy in our stabilized communities, enabling
us to begin capitalizing on our operating leverage.
As a result, revenues at our communities under man-
agement increased 6.3 percent, and our net income
grew 16.2 percent. Moving forward, we intend to
further enhance the value of our property portfolio
through increasing the assisted living capacity at
several communities and through additional ancil-
lary and supportive services.

Sale/Leaseback Transactions. In October 2005, we
completed an approximate $85 million sale/leaseback
transaction with Ventas, Inc. of six communities
owned by our joint venture with affiliates of Black-
stone Real Estate Advisors. In early 2006, we
announced a second sale/leaseback transaction with
Ventas valued at approximately $29 million and a
nine-property sale/leaseback transaction with Health-
care Property Investors, Inc., valued at approximately
$97 million. Through these and similar transactions,
we expect to reduce our overall borrowing and fix
the remaining debt at attractive rates, resulting in
reduced interest expense and interest rate risk, as
well as generating gains for the Company.

Debt Improvement Initiative. We completed the
refinancing of four of our communities with GMAC
Commercial Mortgage in July 2005. This increased
our available cash by approximately $4.6 million,

reduced the interest rate on the new loan amount by
approximately 40 basis points and fixed it for 10 years.

We plan to complete refinancing activities for 15
additional communities in 2006 at fixed interest rates
that are about 200 basis points below current levels.

As we move into 2006, our business plan is focused
on providing significant income and asset growth
potential, maximizing our return on invested capital
and continuing to strengthen our balance sheet.
The keystones of this business plan are:

• pursue additional sale/leaseback transactions;

• continue to maximize the value of our communities;

• complete acquisitions through joint ventures as
well as REIT acquisitions and leasebacks; and

• increase revenue through management and

development fees from third parties.

We began 2006 with our January 13 announcement
of an initial acquisition of four communities through
a dynamic joint venture with GE Healthcare Financial
Services. With this transaction, Capital Senior Living
owns and/or operates 59 communities in 21 states
with a total capacity of 9,230 residents. Approximately
82 percent of these residents live independently,
approximately 16 percent require assistance with
activities of daily living and we provide skilled nursing
services for approximately 2 percent.

We believe 2006 holds great potential for Capital
Senior Living through the realization of our long-
term strategy supported by positive industry trends.
We look forward to sharing the results with you
and thank you for your ongoing support.

Sincerely,

JAMES A. STROUD
Chairman of the Board

LAWRENCE A. COHEN
Chief Executive Officer

Company Management

Board of Directors

Regional Information

LAWRENCE A. COHEN
Chief Executive Officer

JAMES A. STROUD
Chairman of the Company and Secretary

KEITH N. JOHANNESSEN
President and Chief Operating Officer

RALPH A. BEATTIE
Executive Vice President and
Chief Financial Officer

ROB L. GOODPASTER
Vice President, National Marketing

DAVID W. BEATHARD
Vice President, Operations

GLEN H. CAMPBELL
Vice President, Development

DAVID R. BRICKMAN
Vice President and General Counsel

GLORIA M. HOLLAND
Vice President, Finance

JERRY D. LEE
Corporate Controller

ROBERT F. HOLLISTER
Property Controller

Corporate Information

CORPORATE HEADQUARTERS

14160 Dallas Parkway, Suite 300

Dallas, Texas 75254

(972) 770-5600

(972) 770-5666 fax

main@capitalsenior.com

JAMES A. STROUD
Chairman of the Board
Capital Senior Living Corporation
Dallas, Texas

LAWRENCE A. COHEN
Vice Chairman of the Board
Capital Senior Living Corporation
New York, New York

KEITH N. JOHANNESSEN
President and Chief Operating Officer
Capital Senior Living Corporation
Dallas, Texas

CRAIG F. HARTBERG1,2,3
Retired First Vice President
Bank One, Texas, N.A.
Baton Rouge, Louisiana

JILL M. KRUEGER2
President and CEO
Health Resources Alliance, Inc.
Oakbrook, Illinois

JAMES A. MOORE1,2,3
President
Moore Diversified Services, Inc.
Fort Worth, Texas

VICTOR W. NEE, PH.D.1,3
Professor Emeritus
Department of Aerospace & Mechanical Engineering
University of Notre Dame
Scottsdale, Arizona

1 Member of the Board’s Compensation Committee
2 Member of the Board’s Audit Committee
3 Member of the Board’s Nominating Committee

Shareholder Information

STOCK EXCHANGE LISTING

NEW YORK OFFICE

Capital Senior Living Corporation Common

300 Park Avenue, Suite 1700

New York, New York 10022

(212) 551-1770

(212) 551-1774 fax

CORPORATE WEB SITE

www.capitalsenior.com

Stock is listed on the New York Stock

Exchange and trades under the symbol CSU.

TRANSFER AGENT AND REGISTRAR

Mellon Investor Services LLC

480 Washington Boulevard

Jersey City, New Jersey 07210

(800) 635-9270

www.melloninvestor.com

AUDITORS

KPMG LLP

717 North Harwood Street, Suite 3100

Dallas, Texas 75201

(214) 840-2000

EASTERN REGIONAL OFFICE

186 Old Stagecoach Road

Ridgefield, Connecticut 06877

(203) 894-9406

(203) 894-9407 fax

CENTRAL PLAINS REGIONAL OFFICE

2820 South 80th

Omaha, Nebraska 68124

(402) 884-1044

(402) 884-0891 fax

MIDWESTERN REGIONAL OFFICE

18 Larks Aire Place

The Woodlands, Texas 77381

(936) 273-0157

(936) 273-0166 fax

WESTERN REGIONAL OFFICE

5757 Cypress Avenue

Carmichael, California 95608

(916) 480-0634

(916) 486-4375 fax

SOUTHWESTERN REGIONAL OFFICE

14160 Dallas Parkway, Suite 300

Dallas, Texas 75254

(972) 770-5600

(972) 770-5666 fax

TEXAS REGIONAL OFFICE

2222 Walter Smith Road

Azle, Texas 76020

(817) 237-2496

(817) 237-3496 fax

Form 10-K

A copy of Capital Senior Living Corporation’s

2005 annual report to the SEC on Form 10-K

is included herein and is available without

charge upon written request to the Investor

Relations Department at corporate headquar-

ters. It can also be found on the Company’s

web site, www.capitalsenior.com.

Annual Shareholders Meeting

May 9, 2006 at 10:00 am Central Time

Bent Tree Country Club

5201 Westgrove

Dallas, Texas 75248

(972) 931-3310

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

(Mark One)

Form 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2005
Or

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from

Commission file number: 1-13445

Capital Senior Living Corporation

(Exact name of registrant as specified in its charter)

Delaware
(State or other jurisdiction of
incorporation or organization)
14160 Dallas Parkway, Suite 300
Dallas, Texas
(Address of principal executive offices)

75-2678809
(I.R.S. Employer
Identification No.)
75254
(Zip Code)

Registrant's telephone number, including area code:
(972) 770-5600

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

Title of Each Class

Name of Each Exchange on Which Registered

Common Stock, $.01 par value

New York Stock Exchange

Indicate by a check mark if the registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities

Act. Yes n

No ¥

Indicate by a check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the

Act. Yes n

No ¥

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

No n

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 statements incorporated by
reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¥

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated
filer. See definition of ""accelerated filer and large accelerated filer'' in Rule 12b-2 of the Exchange Act (Check One).
Accelerated filer ¥

Large accelerated filer n

Non-accelerated filer n

Indicate by a check mark whether the registrant is a shell Company (as defined in Rule 12b-2 of the Exchange

Act). Yes n

No ¥

The aggregate market value of the 21,457,198 shares of the Registrant's Common Stock, par value $0.01 per share
(""Common Stock''), held by nonaffiliates on December 31, 2005, based upon the closing price of the Registrant's
Common Stock as reported by the New York Stock Exchange on June 30, 2005, was approximately $152,131,534. As of
March 29, 2006, the Registrant had 26,313,883 shares of Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

The Registrant's definitive proxy statement pertaining to the 2005 Annual Meeting of Stockholders (the ""Proxy
Statement'') and filed or to be filed not later than 120 days after the end of the fiscal year pursuant to Regulation 14A is
incorporated herein by reference into Part III.

CAPITAL SENIOR LIVING CORPORATION

TABLE OF CONTENTS

PART I

Item 1.
Business ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 1A. Risk Factors ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 1B. Unresolved Staff Comments ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Properties ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 2.
Legal Proceedings ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 3.
Submission of Matters to a Vote of Security Holders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 4.

PART II

Item 5. Market for Registrant's Common Equity; Related Stockholder Matters ÏÏÏÏÏÏÏÏÏÏÏÏÏ
Selected Financial Data ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 6.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of

Operations ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 7A. Quantitative and Qualitative Disclosures About Market Risk ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Financial Statements and Supplementary Data ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 8.
Changes in and Disagreements with Accountants on Accounting and Financial
Item 9.
DisclosureÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 9A. Controls and ProceduresÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 9B. Other Information ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

PART III

Item 10. Directors and Executive Officers of the Registrant ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 11. Executive Compensation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 13. Certain Relationships and Related Transactions ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Principal Accountant Fees and Services ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Item 14.

Page
Number

2
20
26
26
26
27

27
29

30
48
50

50
50
54

54
54

54
54
54

PART IV

Item 15.
Exhibits and Financial Statement Schedules ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Signatures ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Index to Financial StatementsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Index to Exhibits ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

54
55
F-1
E-1

PART I

ITEM 1. BUSINESS

Overview

Capital Senior Living Corporation, a Delaware corporation (together with its subsidiaries, the ""Com-
pany''), is one of the largest operators of senior living communities in the United States in terms of resident
capacity. The Company and its predecessors have provided senior living services since 1990. As of
December 31, 2005, the Company operated 55 senior living communities in 20 states with an aggregate
capacity of approximately 8,900 residents, including 33 senior living communities which the Company owned
or in which the Company had an ownership interest, seven senior living communities that the Company leased
and 15 senior living communities it managed for third parties. As of December 31, 2005, the Company also
operated one home care agency. During 2005 approximately 95% of total revenues for the senior living
communities owned and managed by the Company were derived from private pay sources. As of Decem-
ber 31, 2005, the stabilized communities (defined as communities not in lease-up) that the Company
operated had an average occupancy rate of approximately 92%.

The Company's operating strategy is to provide quality senior living communities and services to its
residents, while achieving and sustaining a strong, competitive position within its chosen markets, as well as to
continue to enhance the performance of its operations. The Company provides senior living services to the
elderly, including independent living, assisted living, skilled nursing and home care services. Many of the
Company's communities offer a continuum of care to meet its residents' needs as they change over time. This
continuum of care, which integrates independent living and assisted living and is bridged by home care
through independent home care agencies or the Company's home care agency, sustains residents' autonomy
and independence based on their physical and mental abilities.

Three major initiatives formed the Company's platform for success in fiscal 2005 and will continue into
fiscal 2006. These three initiatives included maximizing the value of the Company's communities, sale/
leaseback transactions and debt improvement initiatives.

The Company's stabilized communities achieved an overall occupancy of 92% at December 31, 2005,
which has begun to allow the Company to capitalize on its operating leverage. In addition, during 2006 the
Company intends to further enhance the value of its communities through increasing assisted living capacity
at selected communities and through increasing ancillary and supportive services offered at its communities.

In October 2005, the Company completed an $85 million sale/leaseback transaction with Ventas
Healthcare Properties, Inc. (""Ventas'') of six communities previously owned by the Company's joint venture
with Blackstone Real Estate Advisors (""Blackstone''). In fiscal 2006, the Company has announced three sale/
leaseback transactions: one transaction involving one community valued at $29 million with Ventas, a second
transaction involving three communities valued at $54 million with Healthcare Property Investor, Inc.
(""HCPI'') and a third transaction involving six communities valued at $43 million with HCPI. Through these
and similar transactions the Company expects to reduce its overall borrowing and to fix the interest rates on
nearly all of its remaining debt.

During fiscal 2005, the Company completed the refinancing of four communities with GMAC
Commercial Mortgage Corporation (""GMAC'') which increased available cash by $4.6 million, reduced the
interest rate on the new debt by approximately 40 basis points and fixed the interest rate for ten years. The
Company plans to refinance 15 additional communities in fiscal 2006 at fixed interest rates that are expected
to be 200 basis points below the current interest rate on the related debt.

As the Company enters fiscal 2006, its business plan includes pursuing of additional sale/leaseback
transactions, continuing to maximize the value of its communities, pursuing additional acquisitions through
joint venture partners and REITs and increasing revenues through management and development of
communities for third parties.

In the first quarter of fiscal 2006, the Company through a joint venture agreement with GE Healthcare
Financial Services (""GE Healthcare'') finalized the acquisition of four senior living communities and expects
to close on a fifth community in the second quarter of fiscal 2006.

Website

Industry Background

The senior living industry encompasses a broad and diverse range of living accommodations and

supportive services that are provided primarily to persons 75 years of age or older.

For the elderly who require limited services, independent living residences supplemented at times by
home health care, offers a viable option. Most independent living communities typically offer community
living packaged with basic services consisting of meals, housekeeping, laundry, 24-hour staffing, transporta-
tion, social and recreational activities and health care monitoring. Independent living residents typically are
not reliant on assistance with activities of daily living (""ADL's'') although some residents may contract out
for those services.

As a senior's need for assistance increases, care in an assisted living residence is often preferable and
more cost-effective than home-based care or nursing home care. Typically, assisted living represents a
combination of housing and support services designed to aid elderly residents with ADL's such as ambulation,
bathing, dressing, eating, grooming, personal hygiene, and monitoring or assistance with medications. Certain
assisted living residences may also provide assistance to residents with low acuity medical needs, or may offer
higher levels of personal assistance for incontinent residents or residents with Alzheimer's disease or other
cognitive or physical frailties. Generally, assisted living residents require higher levels of care than residents of
independent living residences and retirement living centers, but require lower levels of care than patients in
skilled nursing facilities. For seniors who need the constant attention of a skilled nurse or medical practitioner,
a skilled nursing facility may be required.

According to the American Senior Housing Association Senior Housing Construction Report for 2005,
35% of senior housing properties in the U.S. are assisted living communities, 30% are independent living
communities, 25% are senior apartments and 10% are continuing care retirement communities.

The senior living industry is highly fragmented and characterized by numerous small operators.
Moreover, the scope of senior living services varies substantially from one operator to another. Many smaller
senior living providers do not operate purpose-built residences, do not have extensive professional training for
staff and provide only limited assistance with ADLs. The Company believes that many senior living operators
do not provide the required comprehensive range of senior living services designed to permit residents to ""age
in place'' within the community as residents develop further physical or cognitive frailties.

The Company believes that a number of demographic, regulatory, and other trends will contribute to the

continued growth in the senior living market including the following:

Consumer Preference

The Company believes that senior living communities are increasingly becoming the setting preferred by
prospective residents and their families for the care of the elderly. Senior living offers residents greater
independence and allows them to ""age in place'' in a residential setting, which the Company believes results in
a higher quality of life than that experienced in more institutional or clinical settings.

The likelihood of living alone increases with age. Most of this increase is due to an aging population in
which women outlive men. In 1993, eight out of 10 noninstitutionalized elderly who lived alone were women.
According to the United States Bureau of Census, based on 1993 data, the likelihood of women living alone
increases from 32% for 65 to 74-year-olds to 57% for those women aged 85 and older. Men show similar trends
with 13% of the 65 to 74-year-olds living alone, rising to 29% of the men aged 85 and older living alone.
Societal changes, such as high divorce rates and the growing numbers of persons choosing not to marry, have
further increased the number of Americans living alone. This growth in the number of elderly living alone has
resulted in an increased demand for services that historically have been provided by a spouse, other family
members or live-in caregivers.

Demographics

The primary market for the Company's senior living services is comprised of persons aged 75 and older.
This age group is one of the fastest growing segments of the United States population and is expected to grow
from 17.9 million in 2005 to approximately 32.6 million in 2030. The population of seniors aged 85 and over
has increased from approximately 3.1 million in 1990 to over 4.9 million in 2005. This age cohort is expected
to grow to approximately 18% to 5.8 million by 2010 and by 82% to approximately 8.9 million by 2030. As the
number of persons aged 75 and over continues to grow, the Company believes that there will be corresponding
increases in the number of persons who need assistance with ADLs. According to industry analyses,
approximately 19% of persons aged 75 to 79, approximately 24% of persons aged 80 to 84 and approximately
45% of persons aged 85 and older need assistance with ADLs.

Senior Affluence

The average net worth of senior citizens is higher than non-senior citizens, partially as a result of
accumulated equity through home ownership. The Company believes that a substantial portion of the senior
population thus has significant resources available for their retirement and long-term care needs. The
Company's target population is comprised of moderate to upper income seniors who have, either directly or
indirectly through familial support, the financial resources to pay for senior living communities, including an
assisted living alternative to traditional long-term care.

Reduced Reliance on Family Care

Historically, the family has been the primary provider of care for seniors. The Company believes that the
increase in the percentage of women in the work force, the reduction of average family size, and overall
increased mobility in society is reducing the role of the family as the traditional caregiver for aging parents.
The Company believes that these factors will make it necessary for many seniors to look outside the family for
assistance as they age.

Restricted Supply of Nursing Beds

Several states in the United States have adopted Certificate of Need (""CON'') or similar statutes
generally requiring that, prior to the addition of new skilled nursing beds, the addition of new services, or the
making of certain capital expenditures, a state agency must determine that a need exists for the new beds or
the proposed activities. The Company believes that this CON process tends to restrict the supply and
availability of licensed nursing facility beds. High construction costs, limitations on government reimburse-
ment for the full costs of construction, and start-up expenses also act to constrain growth in the supply of such
facilities. At the same time, nursing facility operators are continuing to focus on improving occupancy and
expanding services to subacute patients generally of a younger age and requiring significantly higher levels of
nursing care. As a result, the Company believes that there has been a decrease in the number of skilled nursing
beds available to patients with lower acuity levels and that this trend should increase the demand for the
Company's senior living communities, including, particularly, the Company's assisted living communities.

Cost-Containment Pressures

In response to rapidly rising health care costs, governmental and private pay sources have adopted cost
containment measures that have reduced admissions and encouraged reduced lengths of stays in hospitals and
other acute care settings. The federal government had previously acted to curtail increases in health care costs
under Medicare by limiting acute care hospital reimbursement for specific services to pre-established fixed
amounts. Private insurers have begun to limit reimbursement for medical services in general to predetermined
charges, and managed care organizations (such as health maintenance organizations) are attempting to limit
hospitalization costs by negotiating for discounted rates for hospital and acute care services and by monitoring
and reducing hospital use. In response, hospitals are discharging patients earlier and referring elderly patients,
who may be too sick or frail to manage their lives without assistance, to nursing homes and assisted living
residences where the cost of providing care is typically lower than hospital care. In addition, third-party payors
are increasingly becoming involved in determining the appropriate health care settings for their insureds or
clients, based primarily on cost and quality of care. Based on industry data, the typical day-rate in an assisted
living facility is two-thirds of the cost for comparable care in a nursing home.

Operating Strategy

The Company's operating strategy is to provide quality, senior living services at an affordable price to its
residents, while achieving and sustaining a strong, competitive position within its chosen markets, as well as
continuing to enhance the performance of its operations. The Company is implementing its operating strategy
principally through the following methods.

Provide a Broad Range of Quality Personalized Care

Central to the Company's operating strategy is its focus on providing quality care and services that are
personalized and tailored to meet the individual needs of each community resident. The Company's residences
and services are designed to provide a broad range of care that permits residents to ""age in place'' as their
needs change and as they develop further physical or cognitive frailties. By creating an environment that
maximizes resident autonomy and provides individualized service programs, the Company seeks to attract
seniors at an earlier stage, before they need the higher level of care provided in a skilled nursing facility. The
Company also maintains a comprehensive quality assurance program designed to ensure the satisfaction of its
residents and their family members. The Company conducts annual resident satisfaction surveys that allow
residents at each community to express whether they are ""very satisfied,'' ""satisfied'' or ""dissatisfied'' with all
major areas of a community, including, housekeeping, maintenance, activities and transportation, food service,
security and management. In 2005 and 2004, the Company achieved 94% and 95%, respectively, overall
approval rating from the residents' satisfaction survey.

Offer Services Across a Range of Pricing Options

The Company's range of products and services is continually expanding to meet the evolving needs of its
residents. The Company has developed a menu of products and service programs that may be further
customized to serve both the moderate and upper income markets of a particular targeted geographic area. By
offering a range of pricing options that are customized for each target market, the Company believes that it
can develop synergies, economies of scale and operating efficiencies in its efforts to serve a larger percentage of
the elderly population within a particular geographic market.

Improve Occupancy Rates

The Company continually seeks to maintain and improve occupancy rates by: (i) retaining residents as
they ""age in place'' by extending optional care and service programs; (ii) attracting new residents through the
on-site marketing programs focused on residents and family members; (iii) selecting sites in underserved
markets; (iv) aggressively seeking referrals from professional community outreach sources, including area
religious organizations, senior social service programs, civic and business networks, as well as the medical
community; and (v) continually refurbishing and renovating its communities.

Improve Operating Efficiencies

The Company seeks to improve operating efficiencies at its communities by actively monitoring and
managing operating costs. By having an established national portfolio of communities with regional manage-
ment in place, the Company believes it has established a platform to achieve operating efficiencies through
economies of scale in the purchase of bulk items, such as food, and in the spreading of fixed costs, such as
corporate overhead, over a larger revenue base, and to provide more effective management supervision and
financial controls. The Company's growth strategy includes regional clustering of new communities to achieve
further efficiencies.

Emphasize Employee Training and Retention

The Company devotes special attention to the hiring, screening, training, supervising and retention of its
employees and caregivers to ensure that quality standards are achieved. In addition to normal on-site training,
the Company conducts national management meetings and encourages sharing of expertise among managers.
The Company's commitment to the total quality management concept is emphasized throughout its training
program. This commitment to the total quality management concept means identification of the ""best
practices'' in the senior living market and communication of those ""best practices'' to the Company's
executive directors and their staff. The identification of best practices is realized by a number of means,
including: emphasis on regional and executive directors keeping up with professional trade journals; interaction
with other professionals and consultants in the senior living industry through seminars, conferences and
consultations; visits to other properties; leadership and participation at national and local trade organization
events; and information derived from marketing studies and resident satisfaction surveys. This information is
continually processed by regional managers and the executive directors and communicated to the Company's
employees as part of their training. The Company hires an executive director for each of its communities and
provides them with autonomy, responsibility and accountability. The Company's staffing of each community
with an executive director allows it to hire more professional employees at these positions, while the
Company's developed career path helps it to retain the professionals it hires. The Company believes its
commitment to and emphasis on employee training and retention differentiates the Company from many of its
competitors.

Senior Living Services

The Company provides senior living services to the elderly, including independent living, assisted living,
skilled nursing and home care services. By offering a variety of services and encouraging the active
participation of the resident and the resident's family and medical consultants, the Company is able to
customize its service plan to meet the specific needs and desires of each resident. As a result, the Company
believes that it is able to maximize customer satisfaction and avoid the high cost of delivering unnecessary
services to residents.

The Company's operating philosophy is to provide affordable, quality living communities and services to
senior citizens and deliver a continuum of care for its residents as their needs change over time. This
continuum of care, which integrates independent living and assisted living and is bridged by home care,
sustains residents' autonomy and independence based on their physical and mental abilities. As residents age,
in many of the Company's communities, they are able to obtain the additional needed services within the same
community, avoiding the disruptive and often traumatic move to a different facility.

Independent Living Services

The Company provides independent living services to seniors who typically do not yet need assistance or
support with ADLs, but who prefer the physical and psychological comfort of a residential community that
offers health care and other services. As of December 31, 2005, the Company had ownership interests in
32 communities, leased seven communities and managed 10 communities that provide independent living
services, with an aggregate capacity for 7,560 residents.

Independent living services provided by the Company include daily meals, transportation, social and
recreational activities, laundry, housekeeping, 24-hour staffing and health care monitoring. The Company also
fosters the wellness of its residents by offering health screenings (such as blood pressure checks), periodic
special services (such as influenza inoculations), dietary and similar programs, as well as ongoing exercise and
fitness classes. Classes are given by health care professionals to keep residents informed about health and
disease management. Subject to applicable government regulation, personal care and medical services are
available to independent living residents through either the community staff or through the Company's agency
or other independent home care agencies. The Company's independent living residents pay a fee ranging from
$975 to $4,330 per month, in general, depending on the specific community, program of services, size of the
unit and amenities offered. The Company's contracts with its independent living residents are generally for a
term of one year and are typically terminable by the resident upon 30 days notice.

Assisted Living Services

The Company offers a wide range of assisted living care and services, including personal care services,
24 hour staffing, support services, and supplemental services. As of December 31, 2005, the Company had
ownership interests in 11 communities, leased three communities and managed six communities that provide
assisted living services, which include communities that have independent living and other services, with an
aggregate capacity for 1,185 residents. The residents of the Company's assisted living residences generally
need help with some or all ADLs, but do not require the more acute medical care traditionally given in nursing
homes. Upon admission to the Company's assisted living communities, and in consultation with the resident,
the resident's family and medical consultants, each resident is assessed to determine his or her health status,
including functional abilities and need for personal care services. The resident also completes a lifestyles
assessment to determine the resident's preferences. From these assessments, a care plan is developed for each
resident to ensure that all staff members who render care meet the specific needs and preferences of each
resident where possible. Each resident's care plan is reviewed periodically to determine when a change in care
is needed.

The Company has adopted a philosophy of assisted living care that allows a resident to maintain a
dignified independent lifestyle. Residents and their families are encouraged to be partners in the residents'
care and to take as much responsibility for their well being as possible. The basic types of assisted living
services offered by the Company include the following:

Personal Care Services. These services include assistance with ADLs such as ambulation, bathing,

dressing, eating, grooming, personal hygiene, and monitoring or assistance with medications.

Support Services. These services include meals, assistance with social and recreational activities,

laundry services, general housekeeping, maintenance services and transportation services.

Supplemental Services. These services include extra transportation services, personal maintenance,
extra laundry services, and special care services, such as services for residents with certain forms of
dementia. Certain of these services require an extra charge in addition to the pricing levels described
below.

In pricing its services, the Company has developed the following three levels or tiers of assisted living

care:

‚ Level I typically provides for minimum levels of care and service, for which the Company generally
charges a monthly fee per resident ranging from $1,495 to $5,390, depending upon unit size and the
project design type. Typically, Level I residents need minimal assistance with ADLs.

‚ Level II provides for relatively higher levels and increased frequency of care, for which the Company
generally charges a monthly fee per resident ranging from $2,095 to $5,690, depending upon the unit
size and the project design type. Typically, Level II residents require moderate assistance with ADLs
and may need additional personal care, support and supplemental services.

‚ Level III provides for the highest level of care and service, for which the Company generally charges a
monthly fee per resident ranging from $2,395 to $6,390, depending upon the unit size and the project
design type. Typically, Level III residents are either very frail or impaired and utilize many of the
Company's services on a regular basis.

The Company maintains programs and special units at some of its assisted living communities for
residents with certain forms of dementia, which provide the attention, care and services needed to help those
residents maintain a higher quality of life. Specialized services include assistance with ADLs, behavior
management and life skills based activities programs, the goal of which is to provide a normalized environment
that supports residents' remaining functional abilities. Whenever possible, residents assist with meals, laundry
and housekeeping. Special units for residents with certain forms of dementia are located in a separate area of
the community and have their own dining facilities, resident lounge areas, and specially trained staff. The
special care areas are designed to allow residents the freedom to ambulate as they wish, while keeping them
safely contained within a secure area with a minimum of disruption to other residents. Special nutritional
programs are used to help ensure caloric intake is maintained by residents. Resident fees for these special units
are dependent on the size of the unit, the design type and the level of services provided.

Skilled Nursing Services

In its skilled nursing facilities, the Company provides traditional long-term care through 24-hour-per-day
skilled nursing care by registered nurses, licensed practical nurses and certified nursing assistants. The
Company also offers a comprehensive range of restorative nursing and rehabilitation services in its communi-
ties including, but not limited to, physical, occupational, speech and medical social services. As of
December 31, 2005, the Company had ownership interests in two facilities providing a continuum of care that
includes nursing services with an aggregate capacity for 170 residents.

Home Care Services

As of December 31, 2005, the Company provided home care services to clients at one senior living
community through the Company's home care agency and made home care services available to clients at a
majority of its senior living communities through third-party providers. The Company believes that the
provision of private pay, home care services is an attractive adjunct to its independent living services because it
allows the Company to provide more services to its residents as they age in place and increases the length of
stay in the Company's communities. In addition, the Company makes available to residents certain
customized physician, dentistry, podiatry and other health-related services that may be offered by third-party
providers.

Operating Communities

The table below sets forth certain information with respect to senior living communities owned and

managed by the Company as of December 31, 2005.

Resident Capacity(1)

Units

Total

Ownership(2)

Commencement
of Operations(3)

Community

Owned:

Canton Regency ÏÏÏ Canton, OH
Crosswood Oaks ÏÏÏ Sacramento, CA
Gramercy Hill ÏÏÏÏ Lincoln, NE
HeatherwoodÏÏÏÏÏÏ Detroit, MI
Independence

291
121
148
158

164
127
83
188

96
Ì
77
Ì

50
Ì
Ì
Ì

310
127
160
188

100%
100%
100%
100%

Village ÏÏÏÏÏÏÏÏÏ East Lansing, MI

151

162

Ì Ì

162

100%

Independence

Village ÏÏÏÏÏÏÏÏÏ Peoria, IL

158

173

Independence

Village ÏÏÏÏÏÏÏÏÏ Raleigh, NC

165

177

173

177

100%

03/91
01/92
10/98
01/92

08/00

Community

Independence

Resident Capacity(1)

Units

Total

Ownership(2)

Commencement
of Operations(3)

Village ÏÏÏÏÏÏÏÏÏ Winston-Salem, NC

Sedgwick Plaza ÏÏÏ Wichita, KS
Tesson Heights ÏÏÏÏ St. Louis, MO
Towne Centre ÏÏÏÏÏ Merrillville, IN
Veranda Club ÏÏÏÏÏ Boca Raton, FL
Waterford at

ColumbiaÏÏÏÏÏÏÏ Columbia, SC

Waterford at Deer

156
144
184
327
189

161
134
140
165
235

120

136

Park ÏÏÏÏÏÏÏÏÏÏÏ Deer Park, TX

120

136

Waterford at

Edison Lakes ÏÏÏ South Bend, IN

120

136

Waterford at

FairfieldÏÏÏÏÏÏÏÏ Fairfield, OH

120

136

Waterford at

Fort Worth ÏÏÏÏÏ Fort Worth, TX

151

174

Waterford at

Ì
35
58
60
Ì

Ì
Ì
Ì
120
Ì

161
169
198
345
235

136

174

100%
100%
100%
100%
100%

100%

Highland Colony

Jackson, MS

120

136

Ì Ì

136

100%

Waterford at

Huebner ÏÏÏÏÏÏÏ San Antonio, TX

120

136

Waterford at

Ironbridge ÏÏÏÏÏÏ Springfield, MO

119

136

100%

Waterford at

Mansfield ÏÏÏÏÏÏ Mansfield, OH

119

136

Ì Ì

136

100%

Waterford at

Mesquite ÏÏÏÏÏÏÏ Mesquite, TX

154

174

Ì Ì

174

100%

Waterford at

Pantego ÏÏÏÏÏÏÏÏ Pantego, TX

Waterford at Plano
Waterford at

Plano, TX

120
136

136
111

Ì Ì
Ì
45

ShreveportÏÏÏÏÏÏ Shreveport, LA

117

136

Waterford at

Thousand OaksÏÏ San Antonio, TX

120

136

Wellington at

136
156

136

100%
100%

100%

ArapahoÏÏÏÏÏÏÏÏ Richardson, TX

137

109

45 Ì

154

100%

Wellington at

North Richland

Hills, TXÏÏÏÏÏ Hills, TX

119

136

Wellington at

Oklahoma City ÏÏ Oklahoma City, OK

120

136

4,324

4,245

416

170

4,831

Leased:

Amberleigh ÏÏÏÏÏ Buffalo, NY
Cottonwood

Village ÏÏÏÏÏÏÏ Cottonwood, AZ

Crown Pointe ÏÏÏ Omaha, NE
Georgetowne

267

394

163
132

135
163

Place ÏÏÏÏÏÏÏÏ Fort Wayne, IN

162

247

Harrison at Eagle
Valley(4) ÏÏÏÏ

Indianapolis, IN

124

138

47
Ì

Ì
Ì

394

182
163

247

138

100%

N/A

N/A
N/A

N/A

08/00
08/00
10/98
03/91
01/92

11/00

12/00

11/00

06/00

11/00

04/99

06/01

10/00

09/99

12/00
12/00

03/99

05/00

05/02

01/02

11/00

01/92

03/91
08/00

10/05

03/91

Community

Villa

Resident Capacity(1)

Units

Total

Ownership(2)

Commencement
of Operations(3)

Santa Barbara

Santa Barbara, CA

West Shores ÏÏÏÏ Hot Springs, AR

125
137

87
135

38
32

Ì
Ì

125
167

N/A
N/A

08/00
08/00

1,110

1,299

117

Ì 1,416

Affiliates:

SHPII/CSL:

Libertyville ÏÏÏÏÏ Libertyville, IL
Naperville ÏÏÏÏÏÏ Naperville, IL
Summit ÏÏÏÏÏÏÏÏ Summit, NJ
Trumbull ÏÏÏÏÏÏÏ Trumbull, CT

Managed:

Atrium of

197
193
88
150

628

171
166
Ì
117

454

Ì
50
48 Ì
Ì
98
Ì
48

244

221
214
98
165

698

5%
5%
5%
5%

Carmichael ÏÏÏ Sacramento, CA

152

156

Ì Ì

156

N/A

Covenant Place

of Burleson ÏÏÏ Burleson, TX

Covenant Place

of Waxahachie Waxahachie, TX

Covenant Place

of Abilene ÏÏÏÏ Abilene, TX
Crescent Point ÏÏ Cedar Hill, TX
North Richland

Good Place ÏÏÏÏÏ Hills, TX
Harding PlaceÏÏÏ Searcy, AR

North Richland

Meadow Lakes ÏÏ Hills, TX
Meadow ViewÏÏÏ Arlington, TX
Mountain Creek
Saint Ann ÏÏÏÏÏÏ Oklahoma City, OK
Southern Plaza ÏÏ Bethany, OK
Sunnybrook

Grand Prairie, TX

Estates ÏÏÏÏÏÏÏ Madison, MS
Tealridge Manor
Edmond, OK
The Arbrook ÏÏÏÏ Arlington, TX

50
112

72
115

120
80
124
170
115

108
169
177

Ì
134

Ì
148

145
Ì
146
147
145

133
208
200

55 Ì

55
Ì

Ì
Ì

Ì
80
Ì Ì

Ì
80
Ì
58
Ì

Ì
Ì
Ì

Ì
Ì
Ì
Ì
Ì

Ì
Ì
Ì

55
134

80
148

145
80
146
205
145

133
208
200

N/A

N/A
N/A

N/A
N/A
N/A
N/A
N/A

N/A
N/A
N/A

1,688

1,562

408

Ì 1,970

7,750

7,560

1,185

170

8,915

03/01
01/01
11/00
09/00

01/92

08/04

08/04
08/04

08/04
08/04
08/04
08/04
08/04

08/04
08/04
08/04

(1) Independent living (IL) residences, assisted living (AL) residences and skilled nursing (SN) beds.

(2) Those communities shown as 5% owned consist of the Company's ownership of 5% of the member

interests in the SHPII/CSL (as defined below).

(3) Indicates the date on which the Company acquired or commenced operating the community. The
Company operated certain of its communities pursuant to management agreements prior to acquiring
interests in the communities.

(4) The Company's home care agency is on-site at The Harrison at Eagle Valley community.

Third-Party Management Contracts

Effective February 1, 2006, the Company entered into a series of property management agreements (the
""Midwest Agreements'') to manage four communities acquired by Midwest Portfolio Holding, Inc. (""Mid-
west''), a joint venture owned approximately 89% by GE Healthcare and approximately 11% by the Company.
The Midwest Agreements are for an initial term of five years and the agreements contain automatic one year
renewals thereafter. The Midwest Agreements generally provide for a management fee of 5% of gross
revenues.

Effective August 18, 2004, the Company acquired from the Covenant Group of Texas (""Covenant'') all
of the outstanding stock of Covenant's wholly owned subsidiary, CGI Management, Inc. (""CGIM''). This
acquisition resulted in the Company assuming the management contracts (the ""CGIM Management
Agreements'') on 14 senior living communities with a combined resident capacity of approximately 1,800
residents. The CGIM Management Agreements expire on various dates through August 2019. The CGIM
Management Agreements generally provide for management fees of 5% to 5.5% of gross revenues, subject to
certain base management fees. The Company earned $1.4 million under the terms of the CGIM Management
Agreements for the year ended December 31, 2005. In addition, the Company has the right to acquire seven of
the properties owned by Covenant (which are part of the 14 communities managed by CGIM) based on sales
prices specified in the stock purchase agreement. In the first quarter of fiscal 2006, the Company exercised its
right to acquire the seven communities owned by Covenant and the Company plans to sell six of the
communities to HCPI in a sale/leaseback transaction. The Company is marketing the seventh community
and intends to complete a sale as soon as possible.

The Company is party to a property management agreement (the ""SHPII Management Agreement''),
effective September 30, 2003, with Senior Housing Partners II, LP (""SHPII''), a fund managed by
Prudential Real Estate Investors (""Prudential''), to manage one senior living community. The SHPII
Management Agreement extends until June 2008 and provides for management fees of 5% of gross revenue
plus reimbursement for costs and expenses related to the communities. The Company earned $0.2 million
under the terms of the SHP Management Agreement for the year ended December 31, 2005.

The Company entered into a series of property management agreements (the ""SHPII/CSL Manage-
ment Agreements''), effective November 30, 2004, with four joint ventures (collectively ""SHPII/CSL'')
owned 95% by SHPII and 5% by the Company, which collectively own and operate four senior living
communities (collectively the ""Spring Meadows Communities''). The SHPII/CSL Management Agree-
ments extend until various dates through November 2014. The SHPII/CSL Management Agreements
provide for management fees of 5% of gross revenue plus reimbursement for costs and expenses related to the
communities. The Company earned $1.0 million under the terms of the SHPII/CSL Management Agree-
ments for the year ended December 31, 2005.

Prior to SHPII/CSL's acquisition of the Spring Meadows Communities on November 30, 2004, the
Company was party to a series of property management agreements (the ""Spring Meadows Agreements'')
with affiliates of Lehman Brothers (""Lehman'') to operate the Spring Meadows Communities, which were
owned by joint ventures in which Lehman and the Company were members. Three Spring Meadows
Agreements provided for a base management fee of the greater of $15,000 per month or 5% of gross revenues,
plus an incentive fee equal to 25% of the excess cash flow over budgeted amounts. The remaining Spring
Meadows Agreement provided for a base management fee of the greater of $13,321 per month or 5% of gross
revenues, plus an incentive fee equal to 25% of the excess cash flow over budgeted amounts. In addition, the
Company received an asset management fee of 0.75% of annual revenues relating to each of the four
communities.

The Company was party to a series of property management agreements (the ""BRE/CSL Management
Agreements'') with three joint ventures (collectively ""BRE/CSL'') owned 90% by an affiliate of Blackstone
Real Estate Advisors (""Blackstone'') and 10% by the Company, which collectively owned and operated six
senior living communities. The BRE/CSL Management Agreements provided for management fees of 5% of
gross revenue plus reimbursement for costs and expenses related to the communities. The Company earned

$0.9 million under the terms of the BRE/CSL Management Agreements for the year ended December 31,
2005. These six communities were sold in September 2005 and leased back by the Company.

The Company was party to a series of property management agreements (the ""Triad I Management
Agreements'') pursuant to arrangements with Triad Senior Living I, LP (""Triad I''), a partnership affiliated
with Lehman, which collectively owned and operated five senior living communities and two expansions. The
Company had an approximate 1% limited partnership interest in Triad I. The Triad I Management
Agreements provided for a base management fee of the greater of $5,000 per month or 5% of gross revenue
plus reimbursement for costs and expenses related to the communities. Under the provisions of FASB
Interpretation No. 46, Triad I operations were consolidated with the Company's operations from January 1,
2004 through November 30, 2004. Effective as of November 30, 2004, the Company acquired the partnership
interests of Triad I that it did not already own and effective with these transactions the Company wholly owns
Triad I.

During the first six months of fiscal 2003, the Company was party to a series of property management
agreements (the ""Triad Entities Agreements'') with four partnerships (Triad Senior Living II, L.P., Triad
Senior Living III, L.P., Triad Senior Living IV, L.P. and Triad Senior Living V, L.P., collectively the ""Triad
Entities'') affiliated with Triad Senior Living, Inc., which collectively owned and operated 12 senior living
communities. The Company had an approximate 1% limited partnership interest in each of the Triad Entities.
The Triad Entities Management Agreements provided for a base management fee of the greater of $5,000 per
month or 5% of gross revenue plus reimbursement for costs and expenses related to the communities. Effective
as of July 1, 2003, the Company acquired the partnership interests of the Triad Entities that it did not already
own and effective with these transactions the Company wholly owns each of the Triad Entities.

The Company was party to a property management agreement (the ""Buckner Agreement'') with
Buckner Retirement Services, Inc. (""Buckner''), a not-for-profit corporation. The Company and Buckner
entered into a Management Termination, Consulting, Licensing and Transfer Agreement (the ""Calderwoods
Termination Agreement'') effective September 30, 2001 whereby the Company and Buckner mutually agreed
to terminate the Management Agreement then in place between the parties. Under the terms of the
Calderwoods Termination Agreement, the Company continued to provide certain consulting services and earn
a consulting/licensing fee of 3.5% of the facility's gross revenues through December 31, 2001 and 3.0% of the
facility's gross revenues beginning on January 1, 2002 and continuing through May 31, 2005. In the first
quarter of fiscal 2003, the Company and Buckner entered into an agreement whereby Buckner paid the
Company $0.3 million to terminate Buckner's future consulting/licensing fee obligations under the
Calderwoods Termination Agreement.

Growth Strategies

The Company believes that the fragmented nature of the senior living industry and the limited capital
resources available to many small, private operators provide an attractive opportunity for the Company to
expand its existing base of senior living operations. The Company believes that its current operations
throughout the United States serve as the foundation on which the Company can build senior living networks
in targeted geographic markets and thereby provide a broad range of high quality care in a cost-efficient
manner.

The following are the principal elements of the Company's growth strategy:

Organic Growth

The Company intends to continue to focus on the lease-up of its non-stabilized communities and to
improve its occupancy and operating margins of its stabilized communities. The Company continually seeks to
maintain and improve occupancy rates by: (i) retaining residents as they ""age in place'' by extending optional
care and service programs; (ii) attracting new residents through the on-site marketing programs focused on
residents and family members; (iii) aggressively seeking referrals from professional community outreach
sources, including area religious organizations, senior social service programs, civic and business networks, as
well as the medical community; and (iv) continually refurbishing and renovating its communities.

Pursue Strategic Acquisitions

The Company intends to continue to pursue single or portfolio acquisitions of senior living communities.
Through strategic acquisitions, joint venture investments, or facility leases, the Company seeks to enter new
markets or acquire communities in existing markets as a means to increase market share, augment existing
clusters, strengthen its ability to provide a broad range of care, and create operating efficiencies. As the
industry continues to consolidate, the Company believes that opportunities will arise to acquire other senior
living companies. The Company believes that the current fragmented nature of the senior living industry,
combined with the Company's financial resources, national presence, and extensive contacts within the
industry, can be expected to provide it with the opportunity to evaluate a number of potential acquisition
opportunities in the future. In reviewing acquisition opportunities, the Company will consider, among other
things, geographic location, competitive climate, reputation and quality of management and communities, and
the need for renovation or improvement of the communities.

Pursue Management Agreements

The Company intends to pursue single or portfolio management opportunities for senior living communi-
ties. The Company believes that its management infrastructure and proven operating track record will allow
the Company to take advantage of increased opportunities in the senior living market for new management
contracts and other transactions.

Pursue Development Agreements for New Senior Living Communities for Third Parties

Since 1999 the Company has developed and opened 17 new senior living communities and expanded two
communities for third parties. In addition, the Company has provided pre-opening marketing services for six
communities owned by third parties. The Company intends to continue to pursue opportunities to provide
third parties development and marketing services.

Expand Referral Networks

The Company intends to continue to develop relationships with local and regional hospital systems,
managed care organizations and other referral sources to attract new residents to the Company's communities.
In certain circumstances these relationships may involve strategic alliances or joint ventures. The Company
believes that such arrangements or alliances, which could range from joint marketing arrangements to priority
transfer agreements, will enable it to be strategically positioned within the Company's markets if, as the
Company believes, senior living programs become an integral part of the evolving health care delivery system.

Operations

Centralized Management

The Company centralizes its corporate and other administrative functions so that the community-based
management and staff can focus their efforts on resident care. The Company maintains centralized
accounting, finance, human resources, training and other operational functions at its national corporate office
in Dallas, Texas. The Company also has a corporate office in New York, New York. The Company's
corporate offices are generally responsible for: (i) establishing Company-wide policies and procedures relating
to, among other things, resident care and operations; (ii) performing accounting functions; (iii) developing
employee training programs and materials; (iv) coordinating human resources; (v) coordinating marketing
functions; and (vi) providing strategic direction. In addition, financing, development, construction and
acquisition activities, including feasibility and market studies, and community design, development, and
construction management are conducted by the Company's corporate offices.

The Company seeks to control operational expenses for each of its communities through standardized
management reporting and centralized controls of capital expenditures, asset replacement tracking, and
purchasing for larger and more frequently used supplies. Community expenditures are monitored by regional

and district managers who are accountable for the resident satisfaction and financial performance of the
communities in their region.

Regional Management

The Company provides oversight and support to each of its senior living communities through
experienced regional and district managers. A district manager will oversee the marketing and operations of
three to six communities clustered in a small geographic area. A regional manager will cover a larger
geographic area consisting of seven to twelve communities. In most cases, the district and regional managers
will office out of the Company's senior living communities. Currently there are regional managers based in the
Northeast, Central Plains, Midwest, Southwest and West regions.

The executive director at each community reports to a regional or district manager. The regional and
district managers report directly to the President and Chief Operating Officer of the Company. The district
and regional managers make regular site visits to each of their communities. The site visits involve a physical
plant inspection, quality assurance review, staff training, financial and systems audits, regulatory compliance,
and team building.

Community-Based Management

An executive director manages the day-to-day operations at each senior living community, including
oversight of the quality of care, delivery of resident services, and monitoring of financial performance. The
executive director is also responsible for all personnel, including food service, maintenance, activities, security,
assisted living, housekeeping, and, where applicable, nursing. In most cases, each community also has
department managers who direct the environmental services, nursing or care services, business management
functions, dining services, activities, transportation, housekeeping, and marketing functions.

The assisted living and skilled nursing components of the senior living communities are managed by
licensed professionals, such as a nurse and/or a licensed administrator. These licensed professionals have
many of the same operational responsibilities as the Company's executive directors, but their primary
responsibility is to oversee resident care. Many of the Company's senior living communities and all of its
skilled nursing facilities are part of a campus setting, which include independent living. This campus
arrangement allows for cross-utilization of certain support personnel and services, including administrative
functions that result in greater operational efficiencies and lower costs than freestanding facilities.

The Company actively recruits personnel to maintain adequate staffing levels at its existing communities
and hires new staff for new or acquired communities prior to opening. The Company has adopted
comprehensive recruiting and screening programs for management positions that utilize corporate office team
interviews and thorough background and reference checks. The Company offers system-wide training and
orientation for all of its employees at the community level through a combination of Company-sponsored
seminars and conferences.

Quality Assurance

Quality assurance programs are coordinated and implemented by the Company's corporate and regional
staff. The Company's quality assurance is targeted to achieve maximum resident and resident family member
satisfaction with the care and services delivered by the Company. The Company's primary focus in quality
control monitoring includes routine in-service training and performance evaluations of caregivers and other
support employees. Additional quality assurance measures include:

Resident and Resident's Family Input. On a routine basis the Company provides residents and their
family members the opportunity to provide valuable input regarding the day-to-day delivery of services. On-
site management at each community has fostered and encouraged active resident councils and resident
committees who meet independently. These resident bodies meet with on-site management on a monthly basis
to offer input and suggestions as to the quality and delivery of services. Additionally, at each community the
Company conducts annual resident satisfaction surveys to further monitor the satisfaction levels of both

residents and their family members. These surveys are sent directly to the corporate headquarters for
tabulation and distribution to on-site staff and residents. For 2005 and 2004, the Company achieved a 94% and
a 95%, respectively, approval rating from its residents. For any departmental area of service scoring below a
90%, a plan of correction is developed jointly by on-site, regional and corporate staff for immediate
implementation.

Regular Community Inspections. Each community is inspected, on at least a quarterly basis, by regional
and/or corporate staff. Included as part of this inspection is the monitoring of the overall appearance and
maintenance of the community interiors and grounds. The inspection also includes monitoring staff
professionalism and departmental reviews of maintenance, housekeeping, activities, transportation, marketing,
administration and food and health care services, if applicable. The inspections also include observing of
residents in their daily activities and the community's compliance with government regulations.

Independent Service Evaluations. The Company engages the services of outside professional indepen-
dent consulting firms to evaluate various components of the community operations. These services include
mystery shops, competing community analysis, pricing recommendations and product positioning. This
provides management with valuable unbiased product and service information. A plan of action regarding any
areas requiring improvement or change is implemented based on information received. At communities where
health care is delivered, these consulting service reviews include the on-site handling of medications, record
keeping and general compliance with all governmental regulations.

Marketing

Each community is staffed by on-site sales directors and additional marketing/sales staff depending on
the community size and occupancy status. The primary focus of the on-site marketing staff is to create
awareness of the Company and its services among prospective residents and family members, professional
referral sources and other key decision makers. These efforts incorporate an aggressive marketing plan to
include monthly, quarterly and annual goals for leasing, new lead generation, prospect follow up, community
outreach and resident and family referrals. Additionally, the marketing plan includes a calendar of promo-
tional events and a comprehensive media program. On-site marketing departments perform a competing
community assessment quarterly. Corporate and regional marketing directors monitor the on-site marketing
departments' effectiveness and productivity on a monthly basis. Routine detailed marketing department audits
are performed on an annual basis or more frequently if deemed necessary. Corporate and regional personnel
assist in the development of marketing strategies for each community and produce creative media, assist in
direct mail programs and necessary marketing collateral. Ongoing sales training of on-site marketing/sales
staff is implemented by corporate and regional marketing directors.

In the case of new development, the corporate and regional staff develops a comprehensive community
outreach program that is implemented at the start of construction. A marketing pre-lease program is
developed and on-site marketing staff are hired and trained to begin the program implementation six to nine
months prior to the community opening. Extensive use of media, including radio, television, print, direct mail
and telemarketing, is implemented during this pre-lease phase.

After the community is opened and sustaining occupancy levels are attained, the on-site marketing staff
is more heavily focused on resident and resident family referrals, as well as professional referrals. A
maintenance program of print media and direct mail is then implemented.

Government Regulation

Changes in existing laws and regulations, adoption of new laws and regulations and new interpretations of
existing laws and regulations could have a material effect on the Company's operations. Failure by the
Company to comply with applicable regulatory requirements could have a material adverse effect on the
Company's business, financial condition, and results of operations. Accordingly, the Company monitors legal
and regulatory developments on local and national levels.

The health care industry is subject to extensive regulation and frequent regulatory change. At this time,
no federal laws or regulations specifically regulate assisted or independent living residences. While a number
of states have not yet enacted specific assisted living regulations, certain of the Company's assisted living
communities are subject to regulation, licensing, CON and permitting by state and local health care and social
service agencies and other regulatory authorities. While such requirements vary from state to state, they
typically relate to staffing, physical design, required services and resident characteristics. The Company
believes that such regulation will increase in the future. In addition, health care providers are receiving
increased scrutiny under anti-trust laws as integration and consolidation of health care delivery increases and
affects competition. The Company's communities are also subject to various zoning restrictions, local building
codes, and other ordinances, such as fire safety codes. Failure by the Company to comply with applicable
regulatory requirements could have a material adverse effect on the Company's business, financial condition,
and results of operations. Regulation of the assisted living industry is evolving. The Company is unable to
predict the content of new regulations and their effect on its business. There can be no assurance that the
Company's operations will not be adversely affected by regulatory developments.

The Company believes that its communities are in substantial compliance with applicable regulatory
requirements. However, in the ordinary course of business, one or more of the Company's communities could
be cited for deficiencies. In such cases, the appropriate corrective action would be taken. To the Company's
knowledge, no material regulatory actions are currently pending with respect to any of the Company's
communities.

Under the Americans with Disabilities Act of 1990, all places of public accommodation are required to
meet certain federal requirements related to access and use by disabled persons. A number of additional
federal, state and local laws exist that also may require modifications to existing and planned properties to
permit access to the properties by disabled persons. While the Company believes that its communities are
substantially in compliance with present requirements or are exempt therefrom, if required changes involve a
greater expenditure than anticipated or must be made on a more accelerated basis than anticipated, additional
costs would be incurred by the Company. Further legislation may impose additional burdens or restrictions
with respect to access by disabled persons, the costs of compliance with which could be substantial.

The Health Insurance Portability and Accountability Act of 1996 (""HIPAA''), in conjunction with the
federal regulations promulgated thereunder by the Department of Health and Human Services, has
established, among other requirements, standards governing the privacy of certain protected and individually
identifiable health information (""PHI'') that is created, received or maintained by a range of covered entities.
HIPAA has also established standards governing uniform health care transactions, the codes and identifiers to
be used by the covered entities and standards governing the security of certain electronic transactions
conducted by covered entities will go into effect. Penalties for violations can range from civil money penalties
for errors and negligent acts to criminal fines and imprisonment for knowing and intentional misconduct.
HIPAA is a complex set of regulations and many unanswered questions remain with respect to the manner in
which HIPAA applies to businesses such as those operated by the Company.

In addition, the Company is subject to various federal, state and local environmental laws and regulations.
Such laws and regulations often impose liability whether or not the owner or operator knew of, or was
responsible for, the presence of hazardous or toxic substances. The costs of any required remediation or
removal of these substances could be substantial and the liability of an owner or operator as to any property is
generally not limited under such laws and regulations and could exceed the property's value and the aggregate
assets of the owner or operator. The presence of these substances or failure to remediate such contamination
properly may also adversely affect the owner's ability to sell or rent the property, or to borrow using the
property as collateral. Under these laws and regulations, an owner, operator or an entity that arranges for the
disposal of hazardous or toxic substances, such as asbestos-containing materials, at a disposal site may also be
liable for the costs of any required remediation or removal of the hazardous or toxic substances at the disposal
site. In connection with the ownership or operation of its properties, the Company could be liable for these
costs, as well as certain other costs, including governmental fines and injuries to persons or properties. The
Company has completed Phase I environmental audits of substantially all of the communities in which the

Company owns interests, typically at the time of acquisition, and such audits have not revealed any material
environmental liabilities that exist with respect to these communities.

Under various federal, state and local environmental laws, ordinances and regulations, a current or
previous owner or operator of real estate may be required to investigate and clean up hazardous or toxic
substances or petroleum product releases at such property, and may be held liable to a governmental entity or
to third parties for property damage and for investigation and clean up costs. The Company is not aware of any
environmental liability with respect to any of its owned, leased or managed communities that the Company
believes would have a material adverse effect on its business, financial condition, or results of operations. The
Company believes that its communities are in compliance in all material respects with all federal, state and
local laws, ordinances and regulations regarding hazardous or toxic substances or petroleum products. The
Company has not been notified by any governmental authority, and is not otherwise aware of any material
non-compliance, liability, or claim relating to hazardous or toxic substances or petroleum products in
connection with any of the communities the Company currently operates.

The Company believes that the structure and composition of government and, specifically, health care
regulations will continue to change and, as a result, regularly monitors developments in the law. The Company
expects to modify its agreements and operations from time to time as the business and regulatory
environments change. While the Company believes it will be able to structure all its agreements and
operations in accordance with applicable law, there can be no assurance that its arrangements will not be
successfully challenged.

Competition

The senior living industry is highly competitive, and the Company expects that all segments of the
industry will become increasingly competitive in the future. Although there are a number of substantial
companies active in the senior living industry and in the markets in which the Company operates, the industry
continues to be very fragmented and characterized by numerous small operators. The Company primarily
competes with American Retirement Corporation, Brookdale Senior Living Inc., Emeritus Corporation, Five
Star Quality Care, Inc., Holiday Retirement Corporation and Sunrise Senior Living, Inc. The Company
believes that the primary competitive factors in the senior living industry are: (i) location; (ii) reputation for
and commitment to a high quality of service; (iii) quality of support services offered (such as food services);
(iv) price of services; and (v) physical appearance and amenities associated with the communities. The
Company competes with other companies providing independent living, assisted living, skilled nursing, home
health care, and other similar service and care alternatives, some of whom may have greater financial
resources than the Company. Because seniors tend to choose senior living communities near their homes, the
Company's principal competitors are other senior living and long-term care communities in the same
geographic areas as the Company's communities. The Company also competes with other health care
businesses with respect to attracting and retaining nurses, technicians, aides and other high quality
professional and non-professional employees and managers.

Employees

As of December 31, 2005, the Company employed 2,867 persons, of which 1,491 were full-time
employees (52 of whom are located at the Company's corporate offices) and 1,376 were part-time employees.
None of the Company's employees are currently represented by a labor union and the Company is not aware
of any union organizing activity among its employees. The Company believes that its relationship with its
employees is good.

Executive Officers and Key Employees

The following table sets forth certain information concerning each of the Company's executive officers

and key employees as of December 31, 2005:

Name

Age

Position(s) with the Company

Lawrence A. Cohen ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

James A. Stroud ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Keith N. Johannessen ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Ralph A. Beattie ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Rob L. Goodpaster ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
David W. Beathard, Sr. ÏÏÏÏÏÏÏÏÏÏÏÏÏ
David R. BrickmanÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Glen H. Campbell ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Gloria Holland ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Jerry D. Lee ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Robert F. Hollister ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

49
56

52
58
47
61
38
45
50

Chief Executive Officer and Vice Chairman of
the Board
Chairman and Secretary of the Company and
Chairman of the Board
President and Chief Operating Officer
Executive Vice President and Chief Financial
Officer
Vice President Ì National Marketing
Vice President Ì Operations
Vice President and General Counsel
Vice President Ì Development
Vice President Ì Finance
Corporate Controller
Property Controller

Lawrence A. Cohen has served as a director and Vice Chairman of the Board since November 1996. He
has served as Chief Executive Officer since May 1999 and was Chief Financial Officer from November 1996
to May 1999. From 1991 to 1996, Mr. Cohen served as President and Chief Executive Officer of Paine
Webber Properties Incorporated, which controlled a real estate portfolio having a cost basis of approximately
$3.0 billion, including senior living facilities of approximately $110.0 million. Mr. Cohen serves on the boards
of various charitable organizations, and was a founding member and is on the executive committee of the
Board of the American Seniors Housing Association. Mr. Cohen has earned a Masters in Law, is a licensed
attorney and is also a Certified Public Accountant. Mr. Cohen has had positions with businesses involved in
senior living for 21 years.

James A. Stroud has served as a director and officer of the Company and its predecessors since January
1986. He currently serves as Chairman and Secretary of the Company and Chairman of the Board. Mr. Stroud
also serves on the boards of various educational and charitable organizations, and in varying capacities with
several trade organizations, including as an Owner/Operator Advisory Group member to the National
Investment Conference and as a Founding Sponsor of The Johns Hopkins University Senior Housing and
Care Program. Mr. Stroud has served as a member of the Founder's Council and Leadership Council of the
Assisted Living Federation of America. Mr. Stroud was the past President and Member of the board of
directors of the National Association for Senior Living Industry Executives. He also was a founder of the
Texas Assisted Living Association and served as a member of its board of directors. Mr. Stroud has earned a
Masters in Law, is a licensed attorney and is also a Certified Public Accountant. Mr. Stroud has had positions
with businesses involved in senior living for 21 years.

Keith N. Johannessen has served as President of the Company and its predecessors since March 1994,
and previously served as Executive Vice President from May 1993 until February 1994. Mr. Johannessen has
served as a director and Chief Operating Officer since May 1999. From 1992 to 1993, Mr. Johannessen served
as Senior Manager in the health care practice of Ernst & Young. From 1987 to 1992, Mr. Johannessen was
Executive Vice President of Oxford Retirement Services, Inc. Mr. Johannessen has served on the State of the
Industry and Model Assisted Living Regulations Committees of the American Seniors Housing Association.
Mr. Johannessen has been active in operational aspects of senior housing for 27 years.

Ralph A. Beattie joined the Company as Executive Vice President and Chief Financial Officer in May
1999. From 1997 to 1999, he served as Executive Vice President and the Chief Financial Officer of Universal
Sports America, Inc., which was honored as the number one growth company in Dallas for 1998. For the eight

years prior to that he was Executive Vice President and Chief Financial Officer for Haggar Clothing
Company, during which time Haggar successfully completed its initial public offering. Mr. Beattie has earned
his Masters of Business Administration and is both a Certified Management Accountant and a Certified
Financial Planner.

Rob L. Goodpaster has served as Vice President Ì National Marketing of the Company and its
predecessors since December 1992. From 1990 to 1992, Mr. Goodpaster was National Director for Marketing
for Autumn America, an owner and operator of senior housing facilities. Mr. Goodpaster has been active in
professional industry associations and formerly served on the Board of Directors for the National Association
for Senior Living Industries. Mr. Goodpaster has been active in the operational, development and marketing
aspects of senior housing for 29 years.

David W. Beathard, Sr. has served as Vice President Ì Operations of the Company and its predecessors
since August 1996. From 1992 to 1996, Mr. Beathard owned and operated a consulting firm, which provided
operational, marketing, and feasibility consulting regarding senior housing facilities. Mr. Beathard has been
active in the operational, sales and marketing, and construction oversight aspects of senior housing for
32 years.

David R. Brickman has served as Vice President and General Counsel of the Company and its
predecessors since July 1992. From 1989 to 1992, Mr. Brickman served as in-house counsel with LifeCo
Travel Management Company, a corporation that provided travel services to U.S. corporations. Mr. Brickman
has also earned a Masters of Business Administration and a Masters in Health Administration. Mr. Brickman
has either practiced law or performed in-house counsel functions for 19 years.

Glen H. Campbell has served as Vice President Ì Development of the Company since September 1997.
From 1990 to 1997 Mr. Campbell served as Vice President of Development for Greenbrier Corporation, an
assisted living development and management company. From 1985 to 1990 Mr. Campbell served as Director
of Facility Management for Retirement Corporation of America. Mr. Campbell has been active in the design
and development of retirement communities for 31 years.

Gloria M. Holland has served as Vice President Ì Finance since June 2004. From 2001 to 2004,
Ms. Holland served as Assistant Treasurer and a corporate officer for Aurum Technology, Inc., a privately
held company that provided technology and outsourcing to community banks. From 1996 to 2001,
Ms. Holland held positions in Corporate Finance and Treasury at Brinker International, an owner and operator
of casual dining restaurants. From 1989 to 1996, Ms. Holland was a Vice President in the Corporate Banking
division of NationsBank and predecessor banks. Ms. Holland received a BBA in Finance from the University
of Mississippi in 1989.

Jerry D. Lee, a Certified Public Accountant, has served as Corporate Controller since April 1999. Prior to
joining the Company, Mr. Lee served as the Senior Vice President of Finance, from 1997 to 1999, for
Universal Sports America, Inc., which produced sporting events and provided sports marketing services for
collegiate conferences and universities. From 1984 to 1997, Mr. Lee held various accounting management
positions with Haggar Clothing Company. Mr. Lee is a member of the Financial Executives International, the
American Institute of Certified Public Accountants and is also a member of the Texas Society of Certified
Public Accountants.

Robert F. Hollister, a Certified Public Accountant, has served as Property Controller for the Company
and its predecessors since April 1992. From 1985 to 1992, Mr. Hollister was Chief Financial Officer and
Controller of Kavanaugh Securities, Inc., a National Association of Securities Dealers broker dealer.
Mr. Hollister is a member of the American Institute of Certified Public Accountants.

Subsidiaries

Capital Senior Living Corporation is the parent company of several direct and indirect subsidiaries.
Although Capital Senior Living Corporation and its subsidiaries are referred to for ease of reference in this
Form 10-K as the Company, these subsidiaries are separately incorporated and maintain their legal existence
separate and apart from the parent, Capital Senior Living Corporation.

New York Stock Exchange Certification

In May 2005, as required in Section 303A.12(a) of the New York Stock Exchange Listed Company
Manual, the Chief Executive Officer of the Company certified to the New York Stock Exchange that he was
not aware of any violations by the Company of New York Stock Exchange corporate governance listing
standards, except for the inadvertent omission in the Company's proxy statement last year of the procedure by
which a presiding director is chosen for each regularly scheduled executive session of the Company's non-
management directors, which the Company's corporate governance guidelines provide that the non-manage-
ment directors shall choose at each executive session a director to preside. The certifications of the Chief
Executive Officer and Chief Financial Officer required under Section 302 of the Sarbanes-Oxley Act have
been filed as Exhibits 31.1 and 31.2 of this Form 10-K annual report.

ITEM 1A. RISK FACTORS

The Company's business involves various risks. When evaluating the Company's business the following
information should be carefully considered in conjunction with the other information contained in our periodic
filings with the Securities and Exchange Commission. Additional risks and uncertainties not known to the
Company currently or that currently the Company deems to be immaterial also may impair the Company's
business operations. If the Company is unable to prevent events that have a negative effect from occurring,
then the Company's business may suffer. Negative events are likely to decrease the Company's revenue,
increase its costs, make its financial results poorer and/or decrease its financial strength, and may cause its
stock price to decline.

The Company has significant debt. The Company's failure to generate cash flow sufficient to cover
required interest and principal payments could result in defaults of the related debt.

As of December 31, 2005, the Company had mortgage and other indebtedness totaling approximately
$268.1 million. The Company cannot assure you that it will generate cash flow from operations or receive
proceeds from refinancings, other financings or the sales of assets sufficient to cover required interest,
principal and, if applicable, operating lease payments. Any payment or other default could cause the
applicable lender to foreclose upon the communities securing the indebtedness or, if applicable, in the case of
an operating lease, could terminate the lease, with a consequent loss of income and asset value to the
Company. Further, because some of the Company's mortgages contain cross-default and cross-collateraliza-
tion provisions, a payment or other default by the Company with respect to one community could affect a
significant number of the Company's other communities.

The Company's failure to comply with financial covenants contained in debt instruments could result in
the acceleration of the related debt.

There are various financial covenants and other restrictions in certain of the Company's debt instruments,

including provisions which:

‚ require the Company to meet specified financial tests at the parent company level, which include, but
are not limited to, liquidity requirements, earnings before interest, taxes and depreciation and
amortization (""EBITDA'') requirements, and tangible net worth requirements;

‚ require the Company to meet specified financial tests at the community level, which include, but are
not limited to, occupancy requirements, debt service coverage tests, cash flow tests and net operating
income requirements; and

‚ require consent for changes in control of the Company.

If the Company fails to comply with any of these requirements, then the related indebtedness could
become due and payable prior to its stated maturity date. The Company cannot assure that it could pay this
debt if it became due.

The Company will require additional financing and/or refinancings in the future.

The Company's ability to meet its long-term capital requirements, including the repayment of certain
long-term debt obligations, will depend, in part, on its ability to obtain additional financing or refinancings on
acceptable terms from available financing sources, including through the use of mortgage financing, joint
venture arrangements, by accessing the debt and/or equity markets and possibly through operating leases or
other types of financing, such as lines of credit. There can be no assurance that the financing or refinancings
will be available or that, if available, it will be on terms acceptable to the Company. Moreover, raising
additional funds through the issuance of equity securities could cause existing stockholders to experience
dilution and could adversely affect the market price of the Company's common stock. The Company's
inability to obtain additional financing or refinancings on terms acceptable to the Company could delay or
eliminate some or all of the Company's growth plans, necessitate the sales of assets at unfavorable prices or
both, and would have a material adverse effect on the Company's business, financial condition and results of
operations.

The Company's current floating rate debt, and any future floating rate debt, exposes it to rising interest
rates.

The Company currently has indebtedness with floating interest rates. Future indebtedness and, if
applicable, lease obligations may be based on floating interest rates prevailing from time to time. Therefore,
increases in prevailing interest rates would increase the Company's interest or lease payment obligations and
could have a material adverse effect on the Company's business, financial condition and results of operations.

The Company has significant operating lease obligations. The Company's failure to generate cash flows
sufficient to cover these lease obligations could result in defaults under the lease agreements.

As of December 31, 2005, the Company leases seven communities with lease obligations totaling
approximately $82.7 million over a 10 year period, with minimum lease obligations of $8.9 million in fiscal
2006. The Company cannot assure you that it will generate cash flow from operations or receive proceeds from
refinancings, other financings or the sales of assets sufficient to cover these required operating lease
obligations. Any payment or other default under the Company's leases could result in the termination of the
lease, with a consequent loss of income and asset value to the Company. Further, because all of the
Company's leases contain cross-default provisions, a payment or other default by the Company with respect to
one leased community could affect a significant number of the Company's other leased communities. Certain
of the Company's leases contain various financial and other restrictive covenants, which could limit the
Company's flexibility in operating its business. Failure to maintain compliance with the lease obligations as set
forth in the Company's lease agreements could have a material adverse impact on the Company.

The Company cannot assure that it will be able to effectively manage its growth.

The Company intends to expand its operations, directly or indirectly, through the acquisition of new
senior living communities, the expansion of some of its existing senior living communities and through the
increase in the number of communities which it manages under management agreements. The success of the
Company's growth strategy will depend, in large part, on its ability to implement these plans and to effectively
operate these communities. If the Company is unable to manage its growth effectively, its business, results of
operations and financial condition may be adversely affected.

The Company cannot assure that it will be able to acquire additional senior living communities or
expand existing senior living communities.

The acquisition of existing communities or other businesses involves a number of risks. Existing
communities available for acquisition frequently serve or target different markets than those presently served
by the Company. The Company may also determine that renovations of acquired communities and changes in
staff and operating management personnel are necessary to successfully integrate those communities or
businesses into its existing operations. The costs incurred to reposition or renovate newly acquired communi-

ties may not be recovered by the Company. In undertaking acquisitions, the Company also may be adversely
impacted by unforeseen liabilities attributable to the prior operators of those communities or businesses,
against whom it may have little or no recourse. The success of the Company's acquisition strategy will be
determined by numerous factors, including its ability to identify suitable acquisition candidates; the
competition for those acquisitions; the purchase price; the requirement to make operational or structural
changes and improvements; the financial performance of the communities or businesses after acquisition; its
ability to finance the acquisitions; and its ability to integrate effectively any acquired communities or
businesses into its management, information, and operating systems. The Company cannot assure that its
acquisition of senior living communities or other businesses will be completed at the rate currently expected, if
at all, or if completed, that any acquired communities or businesses will be successfully integrated into its
operations.

The Company's ability to successfully expand existing senior living communities will depend on a number
of factors, including, but not limited to, its ability to acquire suitable sites for expansion at reasonable prices;
its success in obtaining necessary zoning, licensing, and other required governmental permits and authoriza-
tions; and its ability to control construction costs and accurately project completion schedules. Additionally,
the Company anticipates that the expansion of existing senior living communities may involve a substantial
commitment of capital for a period of time of two years or more until the expansions are operating and
producing revenue, the consequence of which could be an adverse impact on its liquidity. The Company
cannot assure that its expansion of existing senior living communities will be completed at the rate currently
expected, if at all, or if completed, that such expansions will be profitable.

Termination of resident agreements and resident attrition could affect adversely the Company's revenues
and earnings.

State regulations governing assisted living facilities require written resident agreements with each
resident. Most of these regulations also require that each resident have the right to terminate the resident
agreement for any reason on reasonable notice. Consistent with these regulations, the resident agreements
signed by the Company allow residents to terminate their agreement on 30 days' notice. Thus, the Company
cannot contract with residents to stay for longer periods of time, unlike typical apartment leasing arrangements
that involve lease agreements with specified leasing periods of up to a year or longer. If a large number of
residents elected to terminate their resident agreements at or around the same time, then the Company's
revenues and earnings could be adversely affected. In addition, the advanced age of the Company's average
resident means that the resident turnover rate in the Company's senior living facilities may be difficult to
predict.

The Company largely relies on private pay residents. Circumstances that adversely effect the ability of
the elderly to pay for the Company's services could have a material adverse effect on the Company.

Approximately 95% of the Company's total revenues from communities that it owned and managed for
each of the years ended December 31, 2005 and 2004 were attributable to private pay sources. For each of the
same periods, approximately 5% of the Company's revenues from these communities were attributable to
reimbursements from Medicare and Medicaid. The Company expects to continue to rely primarily on the
ability of residents to pay for the Company's services from their own or familial financial resources. Inflation
or other circumstances that adversely affect the ability of the elderly to pay for the Company's services could
have a material adverse effect on the Company's business, financial condition and results of operations.

The Company is subject to some particular risks related to third-party management agreements.

The Company currently manages 15 senior living communities for third parties and eight senior living
communities for joint ventures in which it has a minority interest pursuant to multi-year management
agreements. The management agreements generally have initial terms of between five and fifteen years,
subject to certain renewal rights. Under these agreements the Company provides management services to
third party and joint venture owners to operate senior living communities and has provided, and may in the
future provide, management and consulting services to third parties on market and site selection, pre-opening

sales and marketing, start-up training and management services for facilities under development and
construction. In most cases, either party to the agreements may terminate them upon the occurrence of an
event of default caused by the other party. In addition, subject to the Company's rights to cure deficiencies,
community owners may terminate the Company as manager if any licenses or certificates necessary for
operation are revoked, or if the Company has a change of control. Also, in some instances, a community owner
may terminate the management agreement relating to a particular community if the Company is in default
under other management agreements relating to other communities owned by the same community owner or
its affiliates. In addition, in certain cases the community owner may terminate the agreement upon 30 days'
notice to the Company in the event of a sale of the community. In those agreements, which are terminable in
the event of a sale of the community, the Company has certain rights to offer to purchase the community. The
termination of a significant portion of the Company's management agreements could have a material adverse
effect on its business, financial condition and results of operations.

Performance of the Company's obligations under its joint venture arrangements could have a material
adverse effect on the Company.

The Company holds minority interests ranging from approximately 5% to 11% in several joint ventures
with affiliates of Prudential and GE Healthcare. The Company also manages the communities owned by these
joint ventures. Under the terms of the joint venture agreements with Prudential covering four properties, the
Company is obligated to meet certain cash flow targets and failure to meet these cash flow targets could result
in termination of the management agreements. Under the terms of the joint venture agreements with
GE Healthcare covering four properties, the Company is obligated to meet certain net operating income
targets and failure to meet these net operating income targets could result in termination of the management
agreements. All of the management agreements with the joint ventures contain termination and renewal
provisions. The Company does not control joint venture decisions covering termination or renewal. Perform-
ance of the above obligations or termination or non-renewal of the management agreements could have a
material adverse effect on the Company's business, financial condition and results of operations.

The senior living services industry is very competitive and some competitors have substantially greater
financial resources than the Company.

The senior living services industry is highly competitive, and the Company expects that all segments of
the industry will become increasingly competitive in the future. The Company competes with other companies
providing independent living, assisted living, skilled nursing, home health care and other similar services and
care alternatives. The Company also competes with other health care businesses with respect to attracting and
retaining nurses, technicians, aides and other high quality professional and non-professional employees and
managers. Although the Company believes there is a need for senior living communities in the markets where
it operates residences, the Company expects that competition will increase from existing competitors and new
market entrants, some of whom may have substantially greater financial resources than the Company. In
addition, some of the Company's competitors operate on a not-for-profit basis or as charitable organizations
and have the ability to finance capital expenditures on a tax-exempt basis or through the receipt of charitable
contributions, neither of which are available to the Company. Furthermore, if the development of new senior
living communities outpaces the demand for those communities in the markets in which the Company has
senior living communities, those markets may become saturated. Regulation in the independent and assisted
living industry, which represents a substantial portion of the Company's senior living services, is not
substantial. Consequently, development of new senior living communities could outpace demand. An
oversupply of those communities in the Company's markets could cause the Company to experience decreased
occupancy, reduced operating margins and lower profitability.

The Company relies on the services of key executive officers and the loss of these officers or their
services could have a material adverse effect on the Company.

The Company depends on the services of its executive officers for its management. The loss of some of
the Company's executive officers and the inability to attract and retain qualified management personnel could

affect its ability to manage its business and could adversely effect its business, financial condition and results
of operations.

A significant increase in the Company's labor costs could have a material adverse effect on the
Company.

The Company competes with other providers of senior living services with respect to attracting and
retaining qualified management personnel responsible for the day-to-day operations of each of its communities
and skilled personnel responsible for providing resident care. A shortage of nurses or trained personnel may
require the Company to enhance its wage and benefits package in order to compete in the hiring and retention
of these personnel or to hire more expensive temporary personnel. The Company also will be dependent on the
available labor pool of semi-skilled and unskilled employees in each of the markets in which it operates. No
assurance can be given that the Company's labor costs will not increase, or that, if they do increase, they can
be matched by corresponding increases in rates charged to residents. Any significant failure by the Company
to control its labor costs or to pass on any increased labor costs to residents through rate increases could have a
material adverse effect on its business, financial condition and results of operations.

There is an inherent risk of liability in the provision of personal and health care services, not all of
which may be covered by insurance.

The provision of personal and health care services in the long-term care industry entails an inherent risk
of liability. In recent years, participants in the long-term care industry have become subject to an increasing
number of lawsuits alleging negligence or related legal theories, many of which involve large claims and result
in the incurrence of significant defense costs. Moreover, senior living communities offer residents a greater
degree of independence in their daily living. This increased level of independence may subject the resident
and, therefore, the Company to risks that would be reduced in more institutionalized settings. The Company
currently maintains insurance in amounts it believes are comparable to that maintained by other senior living
companies based on the nature of the risks, the Company's historical experience and industry standards, and
the Company believes that this insurance coverage is adequate. However, the Company may become subject
to claims in excess of its insurance or claims not covered by its insurance, such as claims for punitive damages,
terrorism and natural disasters. A claim against the Company not covered by, or in excess of, its insurance
could have a material adverse effect upon the Company.

In addition, the Company's insurance policies must be renewed annually. Based upon poor loss
experience, insurers for the long-term care industry have become increasingly wary of liability exposure. A
number of insurance carriers have stopped writing coverage to this market, and those remaining have
increased premiums and deductibles substantially. Therefore, the Company cannot assure that it will be able
to obtain liability insurance in the future or that, if that insurance is available, it will be available on acceptable
economic terms.

The Company is subject to government regulations and compliance, some of which are burdensome and
some of which may change to the Company's detriment in the future.

Federal and state governments regulate various aspects of the Company's business. The development and
operation of senior living communities and the provision of health care services are subject to federal, state and
local licensure, certification and inspection laws that regulate, among other matters, the number of licensed
beds, the provision of services, the distribution of pharmaceuticals, billing practices and policies, equipment,
staffing (including professional licensing), operating policies and procedures, fire prevention measures,
environmental matters and compliance with building and safety codes. Failure to comply with these laws and
regulations could result in the denial of reimbursement, the imposition of fines, temporary suspension of
admission of new residents, suspension or decertification from the Medicare program, restrictions on the
ability to acquire new communities or expand existing communities and, in extreme cases, the revocation of a
community's license or closure of a community. The Company believes that such regulation will increase in
the future and the Company is unable to predict the content of new regulations or their effect on its business,
any of which could materially adversely affect the Company.

Various states, including several of the states in which the Company currently operates, control the
supply of licensed skilled nursing beds, assisted living communities and home health care agencies through
(CON) or other programs. In those states, approval is required for the construction of new health care
communities, the addition of licensed beds and some capital expenditures at those communities, as well as the
opening of a home health care agency. To the extent that a CON or other similar approval is required for the
acquisition or construction of new communities, the expansion of the number of licensed beds, services, or
existing communities, or the opening of a home health care agency, the Company could be adversely affected
by its failure or inability to obtain that approval, changes in the standards applicable for that approval, and
possible delays and expenses associated with obtaining that approval. In addition, in most states, the reduction
of the number of licensed beds or the closure of a community requires the approval of the appropriate state
regulatory agency and, if the Company were to seek to reduce the number of licensed beds at, or to close, a
community, the Company could be adversely affected by a failure to obtain or a delay in obtaining that
approval.

Federal and state anti-remuneration laws, such as ""anti-kickback'' laws, govern some financial arrange-
ments among health care providers and others who may be in a position to refer or recommend patients to
those providers. These laws prohibit, among other things, some direct and indirect payments that are intended
to induce the referral of patients to, the arranging for services by, or the recommending of, a particular
provider of health care items or services. Federal anti-kickback laws have been broadly interpreted to apply to
some contractual relationships between health care providers and sources of patient referral. Similar state laws
vary, are sometimes vague, and seldom have been interpreted by courts or regulatory agencies. Violation of
these laws can result in loss of licensure, civil and criminal penalties, and exclusion of health care providers or
suppliers from participation in Medicare and Medicaid programs. There can be no assurance that those laws
will be interpreted in a manner consistent with the Company's practices.

Under the Americans with Disabilities Act of 1990, all places of public accommodation are required to
meet federal requirements related to access and use by disabled persons. A number of additional federal, state
and local laws exist that also may require modifications to existing and planned communities to create access
to the properties by disabled persons. Although the Company believes that its communities are substantially in
compliance with present requirements or are exempt therefrom, if required changes involve a greater
expenditure than anticipated or must be made on a more accelerated basis than anticipated, additional costs
would be incurred by the Company. Further legislation may impose additional burdens or restrictions with
respect to access by disabled persons, the costs of compliance with which could be substantial.

The Health Insurance Portability and Accountability Act of 1996, in conjunction with the federal
regulations promulgated thereunder by the Department of Health and Human Services, has established,
among other requirements, standards governing the privacy of certain protected and individually identifiable
health information that is created, received or maintained by a range of covered entities. HIPAA has also
established standards governing uniform health care transactions, the codes and identifiers to be used by the
covered entities and standards governing the security of certain electronic transactions conducted by covered
entities. Penalties for violations can range from civil money penalties for errors and negligent acts to criminal
fines and imprisonment for knowing and intentional misconduct. HIPAA is a complex set of regulations and
many unanswered questions remain with respect to the manner in which HIPAA applies to businesses such as
those operated by the Company.

The Company may be subject to liability for environmental damages.

Under various federal, state and local environmental laws, ordinances and regulations, a current or
previous owner or operator of real estate may be required to investigate and clean up hazardous or toxic
substances or petroleum product releases at the property, and may be held liable to a governmental entity or to
third parties for property damage and for investigation and clean up costs incurred by those parties in
connection with the contamination. These laws typically impose clean-up responsibility and liability without
regard to whether the owner knew of or caused the presence of the contaminants, and liability under these laws
has been interpreted to be joint and several unless the harm is divisible and there is a reasonable basis for
allocation of responsibility. The costs of investigation, remediation or removal of the substances may be

substantial, and the presence of the substances, or the failure to properly remediate the property, may
adversely affect the owner's ability to sell or lease the property or to borrow using the property as collateral. In
addition, some environmental laws create a lien on the contaminated site in favor of the government for
damages and costs it incurs in connection with the contamination. Persons who arrange for the disposal or
treatment of hazardous or toxic substances also may be liable for the costs of removal or remediation of the
substances at the disposal or treatment facility, whether or not the facility is owned or operated by the person.
Finally, the owner of a site may be subject to common law claims by third parties based on damages and costs
resulting from environmental contamination emanating from a site. If the Company becomes subject to any of
these claims the costs involved could be significant and could have a material adverse effect on its business,
financial condition and results of operations.

ITEM 1B. UNRESOLVED STAFF COMMENTS

Not applicable.

ITEM 2. PROPERTIES

The executive and administrative offices of the Company are located at 14160 Dallas Parkway, Suite 300,
Dallas, Texas 75254, and consist of approximately 22,000 square feet. The lease on the premises extends
through February 2008. The Company believes that its corporate office facilities are adequate to meet its
requirements through at least fiscal 2006 and that suitable additional space will be available, as needed, to
accommodate further physical expansion of corporate operations. The Company also leases executive office
space in New York, New York pursuant to an annual lease agreement.

As of December 31, 2005, the Company owned, leased and/or managed the senior living communities

referred to in Item 1 above under the caption ""Operating Communities.''

ITEM 3. LEGAL PROCEEDINGS

In the fourth quarter of 2002, the Company (and two of its management subsidiaries), Buckner and a
related Buckner entity, and other unrelated entities were named as defendants in a lawsuit in district court in
Fort Bend County, Texas brought by the heir of a former resident who obtained nursing home services at
Parkway Place from September 1998 to March 2001. The Company managed Parkway Place for Buckner
through December 31, 2001. The Company and its subsidiaries denied any wrongdoing. On March 16, 2004,
the Court granted the Company's Motion to Dismiss.

In February 2004, the Company and certain subsidiaries, along with numerous other senior living
companies in California, were named as defendants in a lawsuit in the superior court in Los Angeles,
California. This lawsuit was brought by two public interest groups on behalf of seniors in California residing at
the California facilities of the defendants. The plaintiffs alleged that pre-admission fees charged by the
defendants' facilities were actually security deposits that must be refunded in accordance with California law.
On November 30, 2004, the court approved a settlement involving the Company's independent living
communities. Under the terms of the settlement, (a) all non-refundable fees collected at the independent
living facilities since January 1, 2003 will be treated as a refundable security deposits and (b) the attorney for
the plaintiffs received nominal attorney fees. There were no other settlement costs to the Company or its
affiliates and the Company's assisted living community in California was not named.

In April 2005, the Company filed a claim before the American Arbitration Association in Dallas, Texas
against a former brokerage consultant and her company (collectively, ""Respondents'') for (1) a declaratory
judgment that it has fulfilled certain obligations to Respondents under contracts the parties had signed related
to the Covenant transaction, (2) for damages resulting from alleged breach of a confidentiality provision, and
(3) for damages for unpaid referral fees. Respondent has filed a counterclaim for causes of action including
breach of contract, duress, and undue infliction of emotional distress. The counterclaim seeks damages of ""up
to $1,291,500 (or more)''. Respondent also seeks to recover unspecified amounts of additional damages if the
Company acquires any of the Covenant owned properties on which she claims to be entitled to recover

brokerage fees. The proceeding is in the discovery phase. The Company's management believes strongly that
its position has merit and intends to vigorously defend the counterclaim.

On January 11, 2006, the Company received a demand letter from the Texas Property and Casualty
Insurance Guaranty Association (""TPCIGA'') for repayment of $199,737.45 in worker's compensation
payments allegedly made by TPCIGA on behalf of Company employees. The Company has also received
other correspondence for repayment of $45,357.82. TPCIGA's letter states that it has assumed responsibility
for insureds of Reliance Insurance Company (""Reliance'') which was declared insolvent and ordered into
liquidation in October of 2001 by the Commonwealth Court of Pennsylvania. Reliance had been the
Company's worker's compensation carrier. TPCIGA's demand letter states that under the Texas Insurance
Code, TPCIGA is entitled to seek reimbursement from an insured for sums paid on its behalf if the insured's
net worth exceeds $50 million at the end of the year immediately proceeding the impaired insurer's insolvency.
TPCIGA states that it pursues reimbursement of these payments from the Company pursuant to this ""net
worth'' provision. The Company has requested additional information from TPCIGA to verify that the
Company was indeed the employer of the individuals on whose behalf the TPCIGA has paid claims. The
TPCIGA has not provided sufficient documentation at this time for the Company to be able to fully evaluate
all of these claims.

The Company has other pending claims not mentioned above (""Other Claims'') incurred in the course of
its business. Most of these Other Claims are believed by management to be covered by insurance, subject to
normal reservations of rights by the insurance companies and possibly subject to certain exclusions in the
applicable insurance policies. Whether or not covered by insurance, these Other Claims, in the opinion of
management, based on advice of legal counsel, should not have a material effect on the consolidated financial
statements of the Company if determined adversely to the Company.

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

There were no matters submitted to a vote of the Company's security holders during the fourth quarter

ended December 31, 2005.

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDERS

MATTERS

(a) Market for Common Stock; Dividends; Equity Compensation Plan Information.

Market for Common Stock

The Company's shares of common stock are listed for trading on the New York Stock Exchange
(""NYSE'') under the symbol ""CSU''. The following table sets forth, for the periods indicated, the high and
low sales prices for the Company's common stock, as reported on the NYSE. At March 10, 2006 there were
approximately 114 stockholders of record of the Company's common stock.

Year

2005

First QuarterÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Second Quarter ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Third Quarter ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Fourth Quarter ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

2004

High

Low

$6.00
7.25
8.50
10.88

$7.28
6.65
5.03
5.75

$5.05
5.40
6.95
7.50

$5.78
4.55
3.65
4.75

Dividends

It is the policy of the Company's Board of Directors to retain all future earnings to finance the operation
and expansion of the Company's business. Accordingly, the Company has not and does not anticipate
declaring or paying cash dividends on the Common Stock in the foreseeable future. The payment of cash
dividends in the future will be at the sole discretion of the Company's Board of Directors and will depend on,
among other things, the Company's earnings, operations, capital requirements, financial condition, restrictions
in then existing financing agreements, and other factors deemed relevant by the Board of Directors.

Equity Compensation Plan Information

The following table presents information relating to the Company's equity compensation plans as of

December 31, 2005:

Number of Securities to
be Issued Upon
Exercise of Outstanding
Options, Warrants and
Rights

Weighted-Average
Exercise Price of the
Outstanding
Options, Warrants
and Rights

Number of Securities
Remaining Available for
Future Issuance Under
Equity Compensation Plans
(Excluding Securities
Reflected in First Column )

Plan Category

Equity compensation plans
approved by security
holders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Equity compensation plans
not approved by security
holders ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

1,109,225

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

1,109,225

$4.69

642,974

(b) Recent Sales of Unregistered Securities; Use of Proceeds from Registered Securities. Not

Applicable.

ITEM 6. SELECTED FINANCIAL DATA

The following table sets forth selected financial data of the Company. The selected financial data for the
years ended December 31, 2005, 2004, 2003, 2002 and 2001 are derived from the audited consolidated
financial statements of the Company except as noted in footnote 2 below.

2005

At and for the Year Ended December 31,
2003
(In thousands, except per share data)

2002

2004

2001

Statements of Operations Data:

Revenues:

Resident and health care revenue ÏÏÏÏÏÏÏ
Rental and lease income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Unaffiliated management services

revenue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Affiliated management services revenueÏÏ
Affiliated development fees ÏÏÏÏÏÏÏÏÏÏÏÏ

$101,770
Ì

$ 90,544
Ì

$ 62,564
Ì

$ 57,574
37

$ 62,807
3,619

1,626
1,834
Ì

726
1,992
Ì

336
3,236
189

1,069
2,062
740

1,971
1,743
403

Total revenues ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

105,230

93,262

66,325

61,482

70,543

Expenses:

Operating expenses (exclusive of

depreciation and amortization shown
below)(2) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

General and administrative expenses(2)
Provision for bad debtsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Facility lease expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Depreciation and amortizationÏÏÏÏÏÏÏÏÏÏ

Total expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Income from operations ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other income (expense):

Interest income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Interest expenseÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Gain (loss) on sale of propertiesÏÏÏÏÏÏÏÏ
Debt restructuring/derivative costs:

Write-off of deferred loan cost ÏÏÏÏÏÏÏ
Gain on interest rate swap agreement
Loss on interest rate lock agreement ÏÏ
Other income (expense)(1) ÏÏÏÏÏÏÏÏÏÏÏ

(Loss) income before income taxes, and

minority interest in consolidated
partnership ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Benefit (provision) for income taxes ÏÏÏÏÏÏ

(Loss) income before minority interest in

consolidated partnership ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Minority interest in consolidated partnership

68,707
10,187
258
2,070
13,046

94,268

10,962

64,772
9,552
198
Ì
12,009

86,531

6,731

44,637
7,914
168
Ì
7,791

60,510

5,815

37,179
7,229
267
Ì
5,846

50,521

10,961

41,985
7,231
967
Ì
7,088

57,271

13,272

133

(18,595)
104

572
(15,769)
(37)

4,278
(12,481)
6,751

5,968
(10,749)
1,876

5,914
(14,888)
2,550

(25)
Ì
(641)
416

(824)
1,435
(1,356)
182

Ì
Ì
Ì
3,616

Ì
Ì
Ì
69

Ì
Ì
Ì
(885)

(7,646)
2,273

(9,066)
2,270

7,979
(3,098)

8,125
(3,015)

5,963
(1,777)

Net (loss) income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (5,354)

$ (6,758)

Per share data:

Basic (loss) earnings per share ÏÏÏÏÏÏÏÏÏ

Diluted (loss) earnings per share ÏÏÏÏÏÏÏ

(0.21)

$ (0.27)

(0.21)

(0.27)

(5,373)
19

(6,796)
38

4,881
109

4,990

0.25

5,110
(428)

4,682

0.24

4,186
(1,430)

2,756

0.14

Weighted average shares outstanding:

Basic ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

25,827

25,213

19,784

19,975

19,726

19,917

19,717

19,734

2005

At and for the Year Ended December 31,
2003
(In thousands, except per share data)

2002

2004

2001

Balance Sheet Data:

Cash and cash equivalents ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Working capital (deficit) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Total assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Long-term debt, excluding current portion
Shareholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ 21,831
10,860
434,051
252,733
145,415

$ 19,515
(22,289)
431,175
219,526
149,547

6,594
$
(12,835)
421,333
255,549
124,367

$ 11,768
4,349
278,251
140,385
118,281

9,975
(6,441)
308,082
156,755
113,544

(1) Other income in fiscal 2003 includes the recognition of deferred income of $3.4 million related to the
liquidation of the HealthCare Properties, L.P. (""HCP'') partnership. In fiscal 2001, the Company
recognized a loss on foreclosure of $0.4 million. The charge resulted from a loan foreclosure on HCP's
McCurdy property.

(2) Certain community level expenses were reclassed from general and administrative expense to operating
expense in order to conform to industry practices. The amounts reclassed were $6,971; $4,429; $4,328;
$4,771 for fiscal 2004, 2003, 2002 and 2001, respectively.

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

RESULTS OF OPERATIONS

Certain information contained in this report constitutes ""Forward-Looking Statements'' within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended, which can be identified by the use of forward-looking terminology such as ""may,''
""will,'' ""expect,'' ""anticipate,'' ""estimate'' or ""continue'' or the negative thereof or other variations thereon or
comparable terminology. The Company cautions readers that forward-looking statements, including, without
limitation, those relating to the Company's future business prospects, revenues, working capital, liquidity,
capital needs, interest costs, and income, are subject to certain risks and uncertainties that could cause actual
results to differ materially from those indicated in the forward-looking statements, due to several important
factors herein identified, among others, and other risks and factors identified from time to time in the
Company's reports filed with the SEC.

Overview

The following discussion and analysis addresses the Company's results of operations on a historical
consolidated basis for the years ended December 31, 2005, 2004 and 2003. The following should be read in
conjunction with the Company's historical consolidated financial statements and the selected financial data
contained elsewhere in this report.

The Company is one of the largest operators of senior living communities in the United States in terms of
resident capacity. The Company's operating strategy is to provide quality senior living services at an affordable
price to its residents, while achieving and sustaining a strong, competitive position within its chosen markets,
as well as to continue to enhance the performance of its operations. The Company provides senior living
services to the elderly, including independent living, assisted living, skilled nursing and home care services.

As of December 31, 2005, the Company operated 55 senior living communities in 20 states with an
aggregate capacity of approximately 8,900 residents, including 33 senior living communities which the
Company owned or in which the Company had an ownership interest, seven senior living communities the
Company leased and 15 senior living communities it managed for third parties. As of December 31, 2005, the
Company also operated one home care agency.

The Company generates revenue from a variety of sources. For the year ended December 31, 2005, the
Company's revenues were derived as follows: 96.7% from the operation of 36 owned and leased communities;
3.3% from management fees arising from management services provided for 10 affiliate-owned senior living

communities (six of which the Company now operates under lease arrangements with Ventas) and 15 third-
party owned senior living communities.

Management Agreements

The Company managed and operated the 36 communities it wholly owned or leased, four communities
owned by joint ventures in which the Company has a minority interest and 15 communities owned by third
parties as of December 31, 2005. For communities owned by joint ventures and third parties the Company
typically receives a management fee of 5% of gross revenues. In addition, certain of the contracts provide for
supplemental incentive fees that vary by contract based upon the financial performance of the managed
community.

The Company believes that the factors affecting the financial performance of communities managed
under contracts with third parties do not vary substantially from the factors affecting the performance of
owned and leased communities, although there are different business risks associated with these activities.

The Company's third-party management fees are primarily based on a percentage of gross revenues. As a
result, the cash flow and profitability of such contracts to the Company are more dependent on the revenues
generated by such communities and less dependent on net cash flow than for owned communities. Further, the
Company is not responsible for capital investments in managed communities. The management contracts are
generally terminable only for cause and upon the sale of a community, subject to the Company's rights to offer
to purchase such community.

Ventas Transactions

Effective as of June 30, 2005, BRE/CSL entered into a Purchase and Sale Agreement (the ""Ventas
Purchase Agreement'') with Ventas to sell the six communities owned by BRE/CSL to Ventas for
$84.6 million. In addition, Ventas and the Company entered into Master Lease Agreements (the ""Ventas
Lease Agreements'') whereby the Company would lease the six communities from Ventas. Effective
September 30, 2005, Ventas completed the purchase of the six BRE/CSL communities and the Company
began consolidating the operations of the six communities in its consolidated statement of operations under
the terms of the Ventas Lease Agreements. The Ventas Lease Agreements each have an initial term of ten
years, with two five year renewal extensions available at the Company's option. The initial lease rate under the
Ventas Lease Agreements is 8% and is subject to certain conditional escalation clauses. The Company
incurred $1.3 million in lease acquisition costs related to the Ventas Lease Agreements. These deferred lease
acquisition costs are being amortized over the initial 10 year lease term and are included in facility lease
expense in the Company's statement of operations. The Company has accounted for each of the Ventas Lease
Agreements as operating leases. The sale of the six BRE/CSL communities to Ventas resulted in the
Company recording a gain of approximately $4.2 million, which has been deferred and is being recognized in
the Company's statement of operations over the initial 10 year lease term.

On October 18, 2005, the Company entered into an agreement with Ventas to lease a senior living
community (""Georgetowne Place'') which Ventas acquired for approximately $19.5 million. Georgetowne
Place is located in Fort Wayne, Indiana and is a 162 unit senior living community with a capacity of
247 residents. The lease which the Company executed with Ventas has an initial term of ten years, with two
five year renewal extensions available at the Company's option. The Company incurred $0.2 million in lease
acquisition costs related to the Georgetowne Place lease. These deferred lease acquisition costs are being
amortized over the initial 10 year lease term and are included in facility lease expense in the Company's
statement of operations. The initial lease rate is 8% and is subject to conditional escalation provisions. The
Company has accounted for the Georgetowne Place lease as an operating lease.

Triad Entities and Triad I Transactions

Effective as of July 1, 2003, the Company acquired the partnership interest of the general partners and
the other third party limited partners' interests in the Triad Entities for $1.3 million in cash, $0.4 million in
notes payable and the assumption of all outstanding debt and liabilities. The total purchase price was

$194.4 million and the acquisition was treated as a purchase of property. This acquisition resulted in the
Company acquiring the 12 senior living communities owned by the Triad Entities with a combined resident
capacity of approximately 1,670 residents. Subsequent to the end of the Company's third quarter of 2003, the
Company repaid the $0.4 million in notes payable related to this acquisition. Prior to this acquisition, the
Company owned 1% of the limited partnership interests and managed the Triad Entities under a series of long-
term management contracts.

Effective as of November 30, 2004, the Company acquired Lehman's approximate 81% limited
partnership interest in Triad I for $4.0 million in cash and the issuance of a note with a net present value of
$2.8 million. The Lehman note bears no interest and is deemed to be paid in full under any of the following
three conditions: 1) the Company makes a payment of $3.5 million before November 29, 2008; 2) the
Company makes a payment of $4.3 million before November 29, 2009; or 3) the Company makes a payment
of $5.0 million before November 29, 2010. The Company expects to repay the note on or before
November 29, 2008 and therefore recorded the note at $2.8 million (face amount $3.5 million discounted at
5.7%). In addition, the Company acquired the general partner's interest in Triad I by assuming a $3.6 million
note payable from the general partner to a subsidiary of the Company. The acquisition was recorded as a
purchase of property. The purchase price of $10.4 million was recorded as a step-up in basis of $9.3 million
and in addition the Company recorded a deferred tax asset of $1.1 million as Triad I had been previously
consolidated under FASB Interpretation No. 46, revised December 2003, (""FIN 46''), as of December 31,
2003. These transactions resulted in the Company wholly owning Triad I. Triad I owned five Waterford senior
living communities and two expansions. The two expansions were subsequently deeded to a subsidiary of the
Company in order for the two expansions to be consolidated with their primary community. Prior to acquiring
the remaining interests of the general partner and the other third party limited partner in Triad I, the
Company had an approximate 1% limited partner's interest in Triad I and has accounted for these investments
under the equity method of accounting based on the provisions of the Triad I partnership agreement until
December 31, 2003.

In 2003, the Financial Accounting Standards Board (""FASB'') issued FIN. 46, ""Consolidation of
Variable Interest Entities'', an interpretation of ARB No. 51, effective immediately for variable interest
entities created after January 31, 2003 and effective as of December 31, 2003, for variable interest entities that
existed prior to February 1, 2003. The Company adopted the provisions of this interpretation, as of
December 31, 2003, which resulted in the Company consolidating Triad I's financial position as of
December 31, 2003 and consolidating Triad I's results of operations beginning January 1, 2004. The
consolidation of Triad I under the provisions of FIN 46 as of December 31, 2003 resulted in an increase in
property and equipment of $62.5 million.

CGIM Transaction

Effective August 18, 2004, the Company acquired from Covenant all of the outstanding stock of
Covenant's wholly owned subsidiary, CGIM. The Company paid approximately $2.3 million in cash
(including closing costs of approximately $0.1 million) and issued a non-interest bearing note with a fair value
of approximately $1.1 million (face amount $1.4 million discounted at 5.7%), subject to various adjustments
set forth in the purchase agreement, to acquire all of the outstanding stock of CGIM. The note is due in three
installments of approximately $0.3 million, $0.4 million and $0.7 million due on the first, third and fifth
anniversaries of the closing, respectively, subject to reduction if the management fees earned from the third
party owned communities with various terms are terminated and not replaced by substitute agreements during
the period, and certain other adjustments. This acquisition resulted in the Company assuming the manage-
ment contracts on 14 senior living communities with a combined resident capacity of approximately 1,800
residents. The acquisition was accounted for as a purchase and the entire purchase price of $3.5 million was
allocated to management contract rights. In addition, the Company recorded a deferred tax liability of
$2.1 million related to the acquisition of these management contract rights. The Company's first installment
payment under the Covenant note was reduced by $0.2 million under the terms of the stock purchase
agreement and the $0.2 million installment reduction was recorded as an adjustment to the purchase price. In
addition, the Company has the right to acquire seven of the properties owned by Covenant (which are part of

the 14 communities managed by CGIM) based on sales prices specified in the stock purchase agreement. In
the first quarter of fiscal 2006, the Company exercised its right to acquire the seven communities owned by
Covenant and the Company plans to sell six of the communities to HCPI in a sale/leaseback transaction. The
Company is marketing the seventh community and intends to complete a sale as soon as possible.

SHPII/CSL and SHPII Transactions

Effective as of November 30, 2004, the Company acquired Lehman's approximate 81% interest in the
Spring Meadows Communities and simultaneously sold the Spring Meadows Communities to SHPII/CSL,
which is owned 95% by SHPII and 5% by the Company. As a result these transactions, the Company paid
$1.1 million for Lehman's interest in the joint ventures, received net current assets of $0.9 million and wrote-
off the remainder totaling $0.2 million. In addition, the Company contributed $1.3 million to SHPII/CSL for
its 5% interest. The Company manages the communities for SHPII/CSL under long-term management
contracts.

Prior to SHPII/CSL's acquisition of the Spring Meadows Communities, the Company, in December
2002, acquired from affiliates of LCOR Incorporated (""LCOR'') its approximate 19% member interests in
the four joint ventures, that owned the Spring Meadows Communities as well as loans made by LCOR to the
joint ventures for $0.9 million in addition to funding $0.4 million to the venture for working capital and
anticipated negative cash requirements of the communities. The Company's interests in the joint ventures that
owned the Spring Meadows Communities included interests in certain loans to the ventures and an
approximate 19% member interest in each venture. The Company recorded its initial advances of $1.3 million
to the ventures as notes receivable as the amount assigned for the 19% member interests was nominal. The
Company accounted for its investment in the Spring Meadows Communities under the equity method of
accounting based on the provisions of the partnership agreements. The Company managed the Spring
Meadows Communities since the opening of each community in late 2000 and early 2001 and continued to
manage the communities under long-term management contracts until November 2004 when the joint
ventures were sold. In addition, the Company received an asset management fee relating to each of the four
communities. The Company had the obligation to fund certain future operating deficits of the Spring
Meadows Communities to the extent of its 19% member interest. No amounts were funded by the Company
under this obligation.

In September 2003, the Company sold its Carmichael community to SHPII for $11.7 million before
closing costs of $0.6 million. Carmichael is an independent living community located in Sacramento,
California with a resident capacity of 156. As a result of the sale the Company retired $7.4 million in debt and
received $3.6 million in cash and recognized a gain of $3.1 million. The Company manages the Carmichael
community for SHPII under a long-term management contract.

BRE/CSL Transactions

The Company formed BRE/CSL with Blackstone in December 2001, and the joint ventures are owned
90% by Blackstone and 10% by the Company. Pursuant to the terms of the joint ventures, each of the
Company and Blackstone must approve any acquisitions made by BRE/CSL. Each party must also contribute
its pro rata portion of the costs of any acquisition.

In December 2001, BRE/CSL acquired Amberleigh, a 394 resident capacity independent living facility.
In connection with the acquisition of Amberleigh by BRE/CSL, the Company contributed $1.8 million to
BRE/CSL. During the second quarter of 2002, BRE/CSL obtained permanent financing for the Amberleigh
community and the Company recovered $1.4 million of its contribution to BRE/CSL.

On June 13, 2002, the Company contributed to BRE/CSL four of its senior living communities with a
capacity of approximately 600 residents. As a result of the contribution, the Company repaid $29.1 million of
long-term debt to GMAC, received $7.3 million in cash from BRE/CSL, had a 10% equity interest in the
venture of $1.2 million and wrote-off $0.5 million in deferred loan costs.

Effective September 30, 2005, the six BRE/CSL communities were sold to Ventas for approximately
$84.6 million and the Company subsequently leased the six communities from Ventas. The Company had
guaranteed 25%, or $1.9 million of the debt on one community owned by BRE/CSL. The Company made this
guarantee to induce Bank One to allow the debt to be assumed by BRE/CSL. The Company estimated the
carrying value of its obligation under this guarantee as nominal. The debt on this community was repaid upon
the sale of the six BRE/CSL communities to Ventas and as a result the Company was released from this debt
guarantee.

HCP Partnerships

The Company owned 57% of the HCP partnership and the assets, liabilities, minority interest, and the
results of operations of HCP have been consolidated in the Company's financial statements. During 2003,
HCP sold its remaining community and subsequently has been dissolved with its remaining assets transferred
to a liquidating trust. In connection therewith, the Company recognized deferred revenue of $3.4 million in the
fourth quarter of 2003 due to the liquidation.

Community Refinancing

In July 2005, the Company refinanced the debt on four senior housing communities with GMAC. The
total loan facility of $39.2 million refinanced $34.3 million of debt that was scheduled to mature in September
2005. The new loans include ten-year terms with the interest rates fixed at 5.46% and amortization of principal
and interest payments over 25 years. The Company incurred $0.7 million in deferred financing costs related to
these loans, which is being amortized over ten years.

Recent Events

On January 13, 2006, the Company announced the formation of a joint venture (""Midwest'') with
GE Healthcare to acquire five senior housing communities from a third party. Midwest agreed to pay
approximately $46.9 million for the five communities. The five communities comprise 293 assisted living units
with a resident capacity of 389. Effective February 1, 2006, Midwest acquired four of the five communities
and expects to close on the fifth community during the second quarter of fiscal 2006. The Company has an
approximate 11% interest in Midwest and manages the four communities already acquired under long-term
management agreements with Midwest.

On February 1, 2006, the Company announced that it had entered into an agreement to sell the
Company's Towne Centre community to Ventas in a sale/leaseback transaction valued at approximately
$29.0 million. The lease agreement will have an initial term of ten years, with two five year renewal extensions
available at the Company's option. The initial lease rate under the Towne Centre lease agreement will be 8%
and will be subject to certain conditional escalation clauses. The Company expects to account for this lease as
an operating lease. The sale of the Towne Centre community to Ventas is expected to result in the Company
recording a gain of approximately $14.5 million, which will be deferred and recognized in the Company's
statement of operations over the initial 10 year lease term. The Towne Centre sale/leaseback transaction is
expected to close in the Company's first quarter of fiscal 2006.

On March 8, 2006, the Company announced that it had entered into an agreement to sale three
communities owned by the Company to HCPI in a sale/leaseback transaction valued at approximately

$54.0 million. The lease agreements will have an initial term of ten years. The initial lease rate under the lease
agreements will be 8% and will be subject to certain conditional escalation clauses. The Company expects to
account for this lease as an operating lease. The sale of the three communities to HCPI is expected to result in
the Company recording a gain of approximately $13.0 million, which will be deferred and recognized in the
Company's statement of operations over the initial 10 year lease term.

On March 13, 2006, The Company announced that it had exercised its option to acquire the seven
communities owned by Covenant and upon completion of the acquisitions, will immediately sell six of the
seven communities to HCPI in a sale/leaseback transaction valued at approximately $43.0 million. The
Company is currently marketing the seventh community and intends to complete a sale as soon as possible.
The Company expects the transaction to result in the recognition of a gain between $3.0 and $4.0 million and
the gain will be recognized over the initial 10 year lease term. The initial lease rate under the lease agreements
will be 8% and will be subject to certain conditional escalation clauses. The Company expects to account for
this lease as an operating lease.

Critical Accounting Policies

The preparation of financial statements in conformity with accounting principles generally accepted in
the United States requires management to make estimates and assumptions that affect the amounts reported
in the accompanying financial statements and related notes. Management bases its estimates and assumptions
on historical experience, observance of industry trends and various other sources of information and factors,
the results of which form the basis for making judgments about the carrying value of assets and liabilities that
are not readily apparent from other sources. Actual results could differ from these estimates. Critical
accounting policies are defined as those that are reflective of significant judgments and uncertainties, and
potentially could result in materially different results under different assumptions and conditions. The
Company believes the following critical accounting policies require management's most difficult, subjective
and complex judgments.

Revenue Recognition

Resident and health care revenue is recognized at estimated net realizable amounts, based on historical

experiences, due from residents in the period to which the rental and other services are provided.

Revenues from the Medicare and Medicaid programs accounted for approximately 7%, 8% and 9% of the
Company's net revenues in fiscal 2005, 2004 and 2003, respectively. Under the Medicare program, payments
are determined based on established rates that differ from private pay rates. Revenue from the Medicare
program is recorded at the reimbursement rates established by the federal government. Under the Medicaid
program, communities are entitled to reimbursement at established rates that are lower than private pay rates.
Patient service revenue for Medicaid patients is recorded at the reimbursement rates as the rates are set
prospectively by the state upon the filing of an annual cost report.

Laws and regulations governing the Medicare and Medicaid programs are complex and subject to
interpretation. The Company believes that it is in compliance with all applicable laws and regulations.
Regulatory inquiries occur in the ordinary course of business and compliance with such laws and regulations
can be subject to future government review and interpretation as well as significant regulatory action including
fines, penalties, and exclusion from the Medicare and Medicaid programs.

Management services revenue and development fees are recognized when earned. Management services
revenue relates to providing certain management and administrative support services under management
contracts. The Company's management contracts include contingent management services revenue, usually
based on exceeding certain gross revenue targets. These contingent revenues are recognized based on actual
results according to the calculations specified in the various management agreements.

Investments in Partnerships and Amounts Due from Affiliates

SHPII/CSL: The Company has formed SHPII/CSL with SHPII, in November 2004, and the joint
ventures are owned 95% by SHPII and 5% by the Company. The Company accounts for its investment in
SHPII/CSL under the equity method of accounting. The Company recorded its investment at cost and will
adjust its investment for its share of earnings and losses of SHPII/CSL. The Company defers 5% of its
management fee income earned from SHPII/CSL. Deferred management fee income is being amortized into
income over the term of the Company's management contracts. As of December 31, 2005, the Company had
deferred income of approximately $48,000 relating to SHPII/CSL.

Prior to SHPII/CSL's acquisition of the Spring Meadows Communities, the Company, in December
2002, acquired LCOR's approximate 19% member interests in the four joint ventures that owned the Spring
Meadows Communities from LCOR as well as loans made by LCOR to the joint ventures for $0.9 million in
addition to funding $0.4 million to the venture for working capital and anticipated negative cash requirements
of the communities. The Company's interests in the joint ventures that owned the Spring Meadows
Communities included interests in certain loans to the ventures and an approximate 19% member interest in
each venture. The Company recorded its initial advances of $1.3 million to the ventures as notes receivable as
the amount assigned for the 19% member interests was nominal. The Company accounted for its investment
in the Spring Meadows Communities under the equity method of accounting based on the provisions of the
partnership agreements. The Company managed the Spring Meadows Communities since the opening of each
community in late 2000 and early 2001 and continued to manage the communities under long-term
management contracts until November 2004 when the joint ventures were sold. In addition, the Company
received an asset management fee relating to each of the four communities. The Company had the obligation
to fund certain future operating deficits of the Spring Meadows Communities to the extent of its 19% member
interest. No amounts were funded by the Company under this obligation.

BRE/CSL: The Company formed BRE/CSL with Blackstone, and the joint ventures are owned 90% by
Blackstone and 10% by the Company. The Company accounted for its investment in BRE/CSL under the
equity method of accounting. The Company recorded its investment at cost and adjusted its investment for its
share of earnings and losses of BRE/CSL. The Company deferred 10% of its management fee income earned
from BRE/CSL. Deferred management fee income was amortized into income over the term of the
Company's management contract. Effective September 30, 2005, Ventas acquired the six communities owned
by BRE/CSL and the Company entered into the Ventas Lease Agreements whereby the Company leases the
six communities from Ventas.

Triad Entities: Effective as of July 1, 2003, the Company acquired the partnership interest of the
general partners and the other third party limited partners' interests in the Triad Entities for $1.3 million in
cash, $0.4 million in notes payable and the assumption of all outstanding debt and liabilities. The total
purchase price was $194.4 million and the acquisition was treated as a purchase of property. This acquisition
resulted in the Company acquiring 12 senior living communities owned by the Triad Entities with a combined
resident capacity of approximately 1,670 residents. Subsequent to the end of the Company's third quarter of
2003, the Company repaid the $0.4 million in notes payable related to this acquisition. Prior to this acquisition,
the Company owned 1% of the limited partnership interests and managed the Triad Entities under a series of
long-term management contracts.

Triad I: Effective as of November 30, 2004, the Company acquired Lehman's approximate 81% limited
partnership interest in Triad I for $4.0 million in cash and the issuance of a note with a net present value of
$2.8 million. In addition, the Company acquired the general partner's interest in Triad I by assuming a
$3.6 million note payable from the general partner to a subsidiary of the Company. The acquisition was
recorded as a purchase of property. The purchase price of $10.4 million was recorded as a step-up in basis of
$9.3 million and in addition the Company recorded a deferred tax asset of $1.1 million as Triad I had been
previously consolidated under FIN 46 as of December 31, 2003. These transactions resulted in the Company
wholly owning Triad I. Triad I owned five Waterford senior living communities and two expansions. The two
expansions were subsequently deeded to a subsidiary of the Company in order for the two expansions to be
consolidated with their primary community.

Prior to acquiring the remaining interests of the general partner and the other third party limited partner,
the Company had an approximate 1% limited partner's interests in Triad I and had accounted for this
investment under the equity method of accounting based on the provisions of the Triad I partnership
agreement until December 31, 2003.

In 2003, the Financial Accounting Standards Board (""FASB'') issued FASB Interpretation No. 46,
revised December 2003, (""FIN 46'') ""Consolidation of Variable Interest Entities'', an interpretation of ARB
No. 51, effective immediately for variable interest entities created after January 31, 2003 and effective as of
December 31, 2003, for variable interest entities that existed prior to February 1, 2003. The Company adopted
the provisions of this interpretation, as of December 31, 2003, which resulted in the Company consolidating
Triad I's financial position as of December 31, 2003 and consolidating Triad I's results of operations beginning
January 1, 2004. The consolidation of Triad I under the provisions of FIN 46 as of December 31, 2003
resulted in an increase in property and equipment of $62.5 million.

Assets Held for Sale

The Company determines the fair value, net of costs of disposal, of an asset on the date the asset is
categorized as held for sale, and the asset is recorded at the lower of its fair value, net of cost of disposal, or
carrying value on that date. The Company periodically reevaluates assets held for sale to determine if the
assets are still recorded at the lower of fair value, net of cost of disposal, or carrying value. The Company has
four parcels of land held for sale at December 31, 2005. The fair value of these properties is generally
determined based on market rates, industry trends and recent comparable sales transactions. The actual sales
price of these assets could differ significantly from the Company's estimates.

Lease Accounting

The Company determines whether to account for its leases as either operating, capital or financing leases
depending on the underlying terms of the lease agreement. This determination of classification is complex and
requires significant judgment relating to certain information including the estimated fair value and remaining
economic life of the community, the Company's cost of funds, minimum lease payments and other lease
terms. As of December 31, 2005, the Company leased seven communities and classified each of these leases
as an operating lease. Facility lease expense in the Company's statement of operations includes the actual rent
paid plus amortization expense relating to leasehold acquisition costs.

At December 31, 2005, the Company had $1.5 million in deferred leasehold acquisition costs. These costs
are being amortized on a straight-line basis over the initial term of the lease agreements. Accumulated
amortization, at December 31, 2005, was $37,000.

Long-Lived Assets

Property and equipment are stated at cost and depreciated on a straight-line basis over the estimated
useful lives of the assets. The estimated useful lives are 10 to 40 years for buildings and building
improvements, 3 to 10 years for leasehold improvements, 5 to 20 years for land improvements and 5 to
10 years for furniture, equipment and automobiles.

At each balance sheet date, the Company reviews the carrying value of its property and equipment to
determine if facts and circumstances suggest that they may be impaired or that the depreciation period may
need to be changed. The Company considers external factors relating to each asset, including contract
changes, local market developments, and other publicly available information. The carrying value of a long-
lived asset is considered impaired when the anticipated undiscounted cash flows from such asset is separately
identifiable and is less than its carrying value. In that event, a loss is recognized based on the amount the
carrying value exceeds the fair market value, generally based on discounted cash flows, of the long-lived asset.
The Company analyzed certain long-lived assets with operating losses, under the undiscounted cash flow
method, for impairment. The Company does not believe there are any indicators that would require and the
cash flow analysis did not require an adjustment to the carrying value of the property and equipment or their
remaining useful lives as of December 31, 2005 and 2004.

New Accounting Standards

On December 16, 2004, the Financial Accounting Standards Board issued FASB Statement No. 123,
revised 2004 (""Statement 123(R)''), Share-Based Payment, which is a revision of FASB Statement 123,
Accounting for Stock-Based Compensation. Statement 123(R) supersedes APB Opinion No. 25 Accounting
for Stock Issued to Employees, and amends FASB Statement No. 95, Statement of Cash Flows. Generally
the approach in Statement 123(R) is similar to the approach described in Statement 123. However,
Statement 123(R) requires all share based payments to employees, including grants of employee stock
options, to be recognized in the income statement based on their fair values. Pro forma disclosure is no longer
an alternative. Statement 123(R) is effective for public entities in the first annual reporting period beginning
after June 15, 2005.

Statement 123(R) permits public companies to adopt its requirements using one of two methods:

1. A ""modified prospective'' method in which compensation cost is recognized beginning with the
effective date (a) based on the requirements of Statement 123(R) for all share-based payments granted
after the effective date and (b) based on the requirements of Statement 123 for all awards granted to
employees prior to the effective date of Statement 123(R) that remain unvested on the effective date.

2. A ""modified retrospective'' method which includes the requirements of the modified prospective
method described above, but also permits entities to restate based on the amounts previously recognized
under Statement 123 for purposes of pro forma disclosures either (a) all prior periods presented or
(b) prior interim periods of the year of adoption.

Effective July 1, 2005, the Company early adopted Statement 123(R). The Company adopted
Statement 123(R) using the modified prospective method. Under the modified prospective method the
Company recognized compensation expense for new share-based awards and recognized compensation
expense for the remaining vesting period of awards that had been included in pro-forma disclosures in prior
periods. The Company has not adjusted prior period financial statements under the modified prospective
method. The impact of expensing stock awards resulted in stock compensation expense of $0.2 million
($0.2 million after tax) in fiscal 2005.

Under APB No. 25, pro forma expense for stock awards with pro-rata vesting was calculated on a straight
line basis over the awards vesting period which typically ranges from one to five years. Upon the adoption of
Statement 123(R), the Company records stock compensation expense on a straight line basis over the awards
vesting period, which ranges from one to five years.

In March 2005, the FASB issued FASB Interpretation No. 47 (""FIN 47''), Accounting for Conditional
Asset Retirement Obligations, to clarify the requirement to record liabilities stemming from a legal obligation
to perform an asset retirement activity in which the timing or method of settlement is conditional on a future
event. The Company adopted FIN 47 on December 31, 2005. No conditional retirement obligations were
recognized and, accordingly, the adoption of FIN 47 had no effect on the Company's financial statements.

Results of Operations

The following tables set forth, for the periods indicated, selected historical consolidated statements of

income data in thousands of dollars and expressed as a percentage of total revenues.

2005

Year Ended December 31,
2004

2003

Revenues:

Resident and healthcare revenue ÏÏ
Unaffiliated management services

revenue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Affiliated management services

revenue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Affiliated development feesÏÏÏÏÏÏÏ

$ 101,770

96.7% $ 90,544

97.1% $ 62,564

94.3%

1,626

1,834
Ì

1.6%

1.7%
Ì%

726

1,992
Ì

0.8%

2.1%
Ì%

336

0.5%

3,236
189

4.9%
0.3%

Total revenues ÏÏÏÏÏÏÏÏÏÏÏÏÏ

105,230

100.0%

93,262

100.0%

66,325

100.0%

Expenses:

Operating expenses (exclusive of
depreciation and amortization
shown below) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

General and administrative

expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Provision for bad debts ÏÏÏÏÏÏÏÏÏÏ
Facility lease expense ÏÏÏÏÏÏÏÏÏÏÏ
Depreciation and amortization ÏÏÏÏ

Total expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏ

Income from operations ÏÏÏÏÏÏÏÏÏÏÏ
Other income (expense):

Interest incomeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Interest expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Gain (loss) on sale of properties ÏÏ
Debt restructuring/derivative costs:
Write-off of deferred loan cost ÏÏ
Gain on interest rate swap

agreement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Loss on interest rate lock

agreement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other income (expense) ÏÏÏÏÏÏÏÏÏ

(Loss) income before income taxes

and minority interest in
consolidated partnership ÏÏÏÏÏÏÏÏÏ

Benefit (provision) for income taxes

(Loss) Income before minority

68,707

65.3%

64,772

69.5%

44,637

67.3%

10,187
258
2,070
13,046

94,268

10,962

9.7%
0.2%
2.0%
12.4%

89.6%

10.4%

9,552
198
Ì
12,009

86,531

6,731

10.2%
0.2%
Ì%
12.9%

92.8%

7.2%

7,914
168
Ì
7,791

60,510

5,815

11.9%
0.3%
Ì%
11.7%

91.2%

8.8%

133

0.1%

572

0.6%

4,278

(18,595)
104

(17.6)% (15,769)
(37)

0.1%

(16.9)% (12,481)
6,751
(0.0)%

6.5%
(18.8)%
10.2%

(25)

(0.0)%

(824)

(0.9)%

Ì%

1,435

1.5%

(641)
416

(0.6)%
0.4%

(1,356)
182

(1.5)%
0.2%

Ì
3,616

Ì%

Ì%
5.5%

(7,646)
2,273

(7.3)%
2.2%

(9,066)
2,270

(9.7)%
2.4%

7,979
(3,098)

12.0%
(4.7)%

interest in consolidated partnership

(5,373)

(5.1)%

(6,796)

(7.3)%

4,881

7.4%

Minority interest in consolidated

partnership ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

0.0%

109

Net (loss) income ÏÏÏÏÏÏÏÏÏÏÏÏ

(5,354)

(5.1)% $ (6,758)

(7.2)% $

4,990

0.2%

7.5%

Year Ended December 31, 2005 Compared to the Year Ended December 31, 2004

Revenues. Total revenues increased $12.0 million or 12.8% to $105.2 million in 2005 compared to
$93.3 million in 2004. Resident and health care revenue increased $11.2 million or 12.4% to $101.8 million in
2005 compared to $90.5 million in the prior year. The increase in resident and healthcare revenue reflects an
increase of $5.4 million from the consolidation of the six communities, previously owned by BRE/CSL, that
were sold to Ventas and leased back by the Company on September 30, 2005, $0.8 million from the
consolidation of Georgetowne Place which the Company leased from Ventas on October 19, 2005 and an
increase resident and healthcare revenue at the Company's other communities of $5.0 million as a result of
higher occupancy and rental rates in the current fiscal year. Unaffiliated management services revenue
increased $0.9 million in fiscal 2005 primarily due to a full year of management fees earned on 15 third party
senior living communities compared to management fees earned on the same 15 senior living communities in
fiscal 2004, 14 of which were assumed on August 18, 2004 as a result of the Company's acquisition of CGIM.
Affiliated management services revenue in both fiscal 2005 and 2004 results from the management of 10
affiliate owned communities, six of which were sold to Ventas and leased back by the Company on
September 30, 2005.

Expenses. Total expenses increased $7.7 million or 8.9% to $94.3 million in 2005 compared to
$86.5 million in 2004. This increase in expense primarily results from a $3.9 million increase in operating
expenses, a $0.6 million increase in general and administrative expenses, a $2.1 million increase in facility
lease expenses, a $0.1 million increase in bad debt expenses and a $1.0 million increase in depreciation and
amortization expense. Operating expenses increased to $68.7 million compared to $64.8 million in the prior
year. This 6.1% increase in operating expenses primarily results from $3.4 million in operating expenses related
to the six communities leased from Ventas on September 30, 2005, $0.6 million in operating expenses from
the operations of Georgetowne Place community which was leased from Ventas on October 19, 2005,
$0.3 million in costs associated with hurricane damage at two of the Company's communities offset by an
overall decrease in operating expenses at the Company's other communities of $0.4 million. General and
administrative expenses increased to $10.2 million in 2005 compared to $9.6 million in the prior year. This
6.6% increase in general and administrative expenses primarily results from a $0.6 million increase in
employee compensation and benefit costs, $0.2 million in stock compensation expense, and an increase of
$0.2 million in insurance costs offset by a decrease in professional fees of $0.3 million and a decrease in other
corporate overhead costs of $0.1 million. Bad debt expense increase to $0.3 million in fiscal 2005 compared to
$0.2 million in fiscal 2004. Facility lease expense represents actual rent paid plus amortization expense relating
to lease acquisition cost on the seven communities leased from Ventas. Depreciation and amortization expense
increased to $13.0 million in 2005 compared to $12.0 million in 2004, primarily from the amortization of the
CGIM management contracts and additional depreciation expense resulting from the Company's acquisition
of Triad I.

Other income and expenses.

Interest income decreased $0.5 million to $0.1 million in fiscal 2005
compared to $0.6 million in fiscal 2004. This 76.7% decrease in interest income primarily results from the
consolidation of Triad I. Prior to consolidating Triad I the Company recognized interest income on certain
notes receivable from Triad I. Interest expense increased $2.8 million to $18.6 million in 2005 compared to
$15.8 million in 2004. This 17.9% increase in interest expense is primarily the result higher interest rates on
the Company's variable rate notes in the current fiscal year. Gain on sale of assets in fiscal 2005 represents the
recognition of deferred gains associated with the sale/leaseback of the six BRE/CSL communities. As a result
of this sale/leaseback transaction, the Company deferred $4.2 million in gains that are being recognized into
income over the initial 10 year lease term. In fiscal 2004, the Company sold one parcel of land, which resulted
in the recognition of a gain of $0.2 million and net proceeds of $0.5 million. In addition, in 2004 the Company
acquired the four joint ventures that owned the Spring Meadows Communities and simultaneously sold the
Spring Meadows Communities to SHPII/CSL resulting in a net loss of $0.2 million and net proceeds to the
Company of $0.8 million. The Company recognized a loss of $0.6 million during fiscal 2005 relating to the
interest rate lock agreements. The loss represents the change in the fair value of the interest rate lock
agreements. As a result of refinancing certain debt related to the Company's interest rate lock agreements with
Key Bank and settling the Company's swap agreements with Key Bank, during fiscal 2004, the Company

recognized a loss on the interest rate interest rate lock agreements of $1.4 million and a gain on the interest
rate swap agreements of $1.4 million. Subsequent to the end of fiscal 2005, the Company settled its interest
rate lock liability with Key Bank by paying $1.8 million in cash and converting the remaining balance of
$5.7 million to a five-year note. The note bears interest at LIBOR plus 250 basis points with principal
amortized on a straight-line basis over a seven year term. Due to refinancing certain debt during fiscal 2005
and 2004, the Company wrote-off unamortized deferred loan cost of $25,000 and $0.8 million, respectively.
Other income in fiscal 2005 relates to the Company's equity in the earnings of affiliates, which represents the
Company's share of the earnings on its investments in BRE/CSL and SHPII/CSL. Equity in the earnings of
affiliates in fiscal 2004 represents the Company's share of the earnings and losses on its investments in BRE/
CSL, SHPII/CSL and the Spring Meadows Communities.

Provision for income taxes. Benefit for income taxes in 2005 was $2.3 million or 29.8% effective tax rate
compared to a provision for income taxes in 2004 of $2.3 million or 25.1% effective tax rate. The effective tax
rates for 2005 and 2004 differ from the statutory tax rates because of state income taxes and permanent tax
differences. The permanent tax differences in the fiscal 2004 include $2.7 million in net losses incurred by
Triad I, which was consolidated under the provisions of FIN 46 for the first eleven months of fiscal 2004 prior
to the Company's acquisition of Triad I on November 30, 2004.

Minority interest. Minority interest for both 2005 and 2004 represents the minority holders' share of the

losses incurred by HCP.

Net income. As a result of the foregoing factors, net loss decreased $1.4 million to a net loss of

$5.4 million for 2005, as compared to a net loss of $6.8 million for 2004.

Year Ended December 31, 2004 Compared to the Year Ended December 31, 2003

Revenues. Total revenues increased $27.0 million or 40.6% to $93.3 million in 2004 compared to
$66.3 million in 2003. Resident and health care revenue increased $27.9 million or 44.7% to $90.5 million in
2004 compared to $62.6 million in the prior year. The increase in resident and healthcare revenue reflects an
increase of $14.8 million from the acquisition of the Triad Entities (12 communities), an increase of
$15.0 million from the consolidation of Triad I (five communities and two expansions), and an increase at the
Company's other communities of $2.3 million offset by a decrease in resident and healthcare revenue of
$4.2 million relating to two communities that were sold at the end of the second and third quarters of fiscal
2003. Unaffiliated management services revenue in fiscal 2004 was derived from the management of 15 third
party communities, 14 of which were assumed during the third quarter of 2004 as a result of the Company's
acquisition of CGIM. Unaffiliated management services revenue in fiscal 2003 resulted primarily from the
management of one third-party community in the fourth quarter of 2003 and the settlement of a management
contract with Buckner. Affiliated management services revenue decreased $1.2 million primarily as a result of
the Company's acquisition/consolidation of the Triad Entities and Triad I. Affiliated development fees in
fiscal 2003 represent the recognition of deferred development fees related to the Triad Entities and Triad I.

Expenses. Total expenses increased $26.0 million or 43.0% to $86.5 million in 2004 compared to
$60.5 million in 2003. This increase in expense primarily results from a $20.1 million increase in operating
expenses, a $1.6 million increase in general and administrative expenses and a $4.2 million increase in
depreciation and amortization expense. Operating expenses increased to $64.8 million compared to $44.6 mil-
lion in the prior year. This 45.3% increase in operating expenses primarily results from $10.4 million related to
the Company's acquisition of the Triad Entities and $12.5 million due to the acquisition/consolidation of
Triad I, offset by a $0.5 million decrease in operating expenses at the Company's other communities and a
decrease of $2.9 million relating to the two communities that were sold during fiscal 2003. General and
administrative expenses increased to $9.6 million in 2004 compared to $7.9 million in the prior year. This
21.5% increase in general and administrative expenses primarily results from an increase in salary and benefits
of $0.7 million, an increase in professional fees of $0.6 million, primarily related to compliance with the
Sarbanes-Oxley Act, an increase in insurance expense of $0.1 million and an increase of $0.3 million in other
corporate overhead. Bad debt expense in both fiscal 2004 and 2003 was $0.2 million. Depreciation and
amortization expense increased to $12.0 million in 2004 compared to $7.8 million in 2003. This 54.1% increase

primarily results from $2.5 million related to the Company's acquisition of the Triad Entities, $2.0 million due
to the acquisition/consolidation of Triad I offset by a decrease of $0.3 million relating to the two communities
that were sold during 2003.

Other income and expenses.

Interest income decreased $3.7 million to $0.6 million in fiscal 2004
compared to $4.3 million in fiscal 2003. This 86.6% decrease in interest income primarily results from the
acquisition/consolidation of the Triad Entities and Triad I. Interest expense increased $3.3 million to
$15.8 million in 2004 compared to $12.5 million in 2003. This 26.3% increase in interest expense is primarily
the result of higher debt outstanding in 2004 compared to the same period of fiscal 2003 due to the assumption
of $109.6 million of debt related to the acquisition of the Triad Entities in July 2003 and due to $47.6 million
of debt consolidated in December 2003 related to Triad I offset by $14.9 million of debt repaid related to the
two communities sold during 2003 and $19.0 million of debt retired during the fiscal 2004. Gain (loss) on sale
of assets decreased by $6.8 million to a net loss of $37,000 in fiscal 2004 compared to a net gain of $6.8 million
in fiscal 2003. In 2004, the Company sold one parcel of land, which resulted in the recognition of a gain of
$0.2 million and net proceeds of $0.5 million. In addition, in 2004 the Company acquired the four joint
ventures that owned the Spring Meadows Communities and simultaneously sold the Spring Meadows
Communities to SHPII/CSL resulting in a net loss of $0.2 million and net proceeds to the Company of
$0.8 million. In 2003, the Company sold two communities and two parcels of land, which resulted in the
recognition of a gain of $3.4 million and net proceeds to the Company of $5.6 million. In addition, in 2003 the
Company contributed a community to BRE/CSL, and as a result, the Company repaid $7.4 million of long-
term debt, received $3.1 million in cash and has a 10% equity interest in the venture, resulting in the
recognition of a gain of $3.4 million. Other income decreased to $0.2 million in fiscal 2004 compared to
$3.6 million in the prior fiscal year. Other income in 2004 results from the Company's net equity in the
earnings of affiliates of $0.2 million. Other income in fiscal 2003 results from the Company's equity in the
earnings of affiliates of $0.2 million along with the recognition of deferred income of $3.4 million related to the
liquidation of the HCP partnership. In December 2004, the Company refinanced 14 senior housing
communities with GMAC. The total loan facility of $128.4 million refinanced eight properties previously
financed by GMAC and six properties previously financed under three separate loan agreements with Key
Corporate Capital, Compass Bank and Bank of America, which have been repaid. The new loans with GMAC
have a term of three years with two one-year extension options. The loans have an initial interest rate of
LIBOR plus 350 basis point and the loan agreements provide for reduced rates once certain debt service
coverage ratios are achieved. The Company incurred $1.1 million in deferred financing costs related to these
loans, which is being amortized over the three year loan term. During fiscal 2004, the Company wrote-off
$0.8 million in deferred financing costs related to the loans that were repaid. As a result of refinancing certain
debt related to the Company's interest rate lock agreements with Key Bank and settling the Company's swap
agreements with Key Bank the Company recognized a loss on the interest rate interest rate lock agreements of
$1.4 million and a gain on the interest rate swap agreements of $1.4 million.

Provision for income taxes. Benefit for income taxes in 2004 was $2.3 million or 25.1% effective tax rate
compared to a provision for income taxes in 2003 of $3.1 million or 38.3% effective tax rate. The effective tax
rates for 2004 and 2003 differ from the statutory tax rates because of state income taxes and permanent tax
differences. The permanent tax differences in the fiscal 2004 include $2.7 million in net losses incurred by
Triad I, which was consolidated under the provisions of FIN 46 for the first eleven months of fiscal 2004 prior
to the Company's acquisition of Triad I on November 30, 2004.

Minority interest. Minority interest for both 2004 and 2003 represents the minority holders' share of the
losses incurred by HCP. During 2003, HCP sold its remaining community and transferred its remaining assets
to a liquidating trust.

Net income. As a result of the foregoing factors, net income decreased $11.8 million to a net loss of

$6.8 million for 2004, as compared to a net income of $5.0 million for 2003.

Quarterly Results

The following table presents certain unaudited quarterly financial information for the four quarters ended
December 31, 2005 and 2004. This information has been prepared on the same basis as the audited
Consolidated Financial Statements of the Company appearing elsewhere in this report and include, in the
opinion of management, all adjustments (consisting of normal recurring adjustments) necessary to present
fairly the quarterly results when read in conjunction with the audited Consolidated Financial Statements of
the Company and the related notes thereto.

2005 Calendar Quarters

First

Second

Third

Fourth

(In thousands, except per share amounts)

Total revenues ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Income from operations ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net loss ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net loss per share, basic ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net loss per share, diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Weighted average shares outstanding, basic ÏÏÏÏÏÏÏÏÏ
Weighted average shares outstanding, fully diluted ÏÏÏ

$24,238
2,655
(758)
$ (0.03)
$ (0.03)
25,754
25,754

$24,436
2,613
(2,181)
$ (0.08)
$ (0.08)
25,776
25,776

$25,084
2,969
(588)
$ (0.02)
$ (0.02)
25,858
25,858

$31,472
2,725
(1,827)
$ (0.07)
$ (0.07)
25,917
25,917

2004 Calendar Quarters

First

Second

Third

Fourth

(In thousands, except per share amounts)

$22,626
1,107
(2,046)
$ (0.09)
$ (0.09)
23,698
23,698

$23,017
1,575
(1,596)
$ (0.06)
$ (0.06)
25,668
25,668

$23,696
2,059
(1,356)
$ (0.05)
$ (0.05)
25,733
25,733

$23,923
1,990
(1,760)
$ (0.07)
$ (0.07)
25,744
25,744

Liquidity and Capital Resources

In addition to approximately $21.8 million of cash balances on hand as of December 31, 2005, the
Company's principal sources of liquidity are expected to be cash flows from operations, proceeds from the sale
of assets and cash flows from SHPII/CSL and Midwest. Of the $21.8 million in cash balances, $0.6 million
relates to cash held by HCP. The Company expects its available cash and cash flows from operations,
proceeds from the sale of assets and cash flows from SHPII/CSL and Midwest to be sufficient to fund its
short-term working capital requirements. The Company's ability to meet its long-term capital requirements,
including the repayment of certain long-term debt obligations, will depend, in part, on its ability to obtain
additional financing or refinancings on acceptable terms from available financing sources, including mortgage
financing, joint venture arrangements, by accessing the debt and/or equity markets and possibly through
operating leases or other types of financing, such as lines of credit. There can be no assurance that the
financing or refinancings will be available or that, if available, it will be on terms acceptable to the Company.

The Company had net cash provided by operating activities of $2.0 million in fiscal 2005 compared to
$4.2 million and $2.5 million in fiscal 2004 and 2003, respectively. In fiscal 2005, net cash provided by
operating activities was primarily derived from net non-cash charges of $12.4 million, a decrease in federal and
state income tax receivable of $0.7 million, an increase in accounts payable and accrued expenses of
$3.1 million and an increase in customer deposit of $0.6 million offset by a net loss of $5.4 million, an increase
in property tax and insurance deposits of $2.3 million, an increase in other assets of $7.1 million. In fiscal 2004,
net cash provided by operating activities was primarily derived from net non-cash charges of $13.6 million, a
decrease in prepaid and other expenses of $0.3 million, a decrease in other assets of $0.5 million, a increase in

accounts payable and accrued expenses of $0.3 million and a decrease in customer deposit of $0.1 million
offset by a net loss of $6.8 million, an increase in accounts receivable of $1.5 million, an increase in property
tax and insurance deposits of $0.9 million and an increase in income taxes receivable of $1.4 million. In fiscal
2003, net cash provided by operating activities was primarily derived from net income of $5.0 million, a
decrease in other assets of $1.1 million, and a decrease in income taxes payable of $0.2 million offset by net
non-cash benefit of $0.1 million, an increase in account receivable of $0.3 million, an increase in prepaid
expenses and other assets of $0.8 million, a decrease in accounts payable of $0.9 million, a decrease in accrued
liabilities of $1.2 million, and a increase in deposits of $0.5 million.

The Company had net cash provided by investing activities of $3.1 million and $0.7 million in fiscal 2005
and 2003, respectively, compared to net cash used in investing activities of $7.6 million in fiscal 2004. In fiscal
2005, the Company had net cash provided by investing activities primarily results from distributions from
limited partnerships of $6.4 million offset by capital expenditures of $3.2 million. In fiscal 2004, the
Company's net cash used in investing activities was primarily the result of capital expenditures of $2.4 million,
net cash paid for the acquisition of Triad I of $4.0 million, net cash paid for the acquisition of CGIM of
$2.3 million and advances to affiliates of $0.4 million offset by net cash acquired from the acquisition of the
four Spring Meadows joint ventures of $0.8 million, proceeds from the sale of one parcel of land of
$0.5 million, net of selling costs, and distributions from limited partnerships of $0.2 million. In fiscal 2003, the
Company's net cash provided by investing activities was primarily the result of proceeds from the sale of two
communities and two parcels of land for $5.5 million net of selling costs, proceeds from the contribution of one
community to BRE/CSL of $3.1 million, net cash acquired from the acquisition of the Triad Entities of
$0.1 million, net cash from the consolidation of Triad I of $0.8 million and distributions from limited
partnerships of $0.2 million offset by advances to Triad I and the Triad Entities of $7.4 million and capital
expenditures of $1.6 million.

The Company had net cash used in financing activities of $2.8 million and $8.4 million in fiscal 2005 and
2003, respectively compared to net cash provided by financing activities of $16.3 million in fiscal 2004. In
fiscal 2005, net cash used in financing activities primarily results from net payments on notes payable of
$1.0 million, cash restricted under certain debt agreements of $1.0 million, distributions to minority partners of
$0.2 million and deferred loan cost paid of $1.5 million offset by proceeds from the exercise of stock options of
$0.7 million and excess tax benefits on stock options exercised of $0.2 million. In fiscal 2004, net cash
provided by financing activities was primarily derived from proceeds from the Company's common stock
offering of $32.2 million, proceeds from the exercise of stock options of $0.3 million, the release of restricted
cash of $7.2 million offset by net note repayments of $21.8 million, cash paid to settle interest rate swap
agreements of $0.5 million and cash used in financing activities of $1.1 million. For fiscal 2003 the net cash
used in financing activities primarily results from repayments of notes payable of $18.5 million, distributions to
minority partners of $0.3 million, deferred loan charges paid of $0.2 million offset by proceeds from the
issuance of notes payable of $5.1 million, proceeds from the release of restricted cash of $5.2 million and
proceeds from the exercise of common stock options of $0.3 million

The Company derives the benefits and bears the risks related to the communities it owns. The cash flows
and profitability of owned communities depends on the operating results of such communities and are subject
to certain risks of ownership, including the need for capital expenditures, financing and other risks such as
those relating to environmental matters.

$1.1 million for Lehman's interests in the joint ventures, received net assets of $0.9 million and wrote-off the
remainder totaling $0.2 million. In addition, the Company contributed $1.3 million to SHPII/CSL for its 5%
interest. The Company manages the communities for SHPII/CSL under long-term management contracts.

In September 2003, the Company sold its Carmichael community to SHPII, for $11.7 million before
closing costs of $0.6 million. Carmichael is an independent living community located in Sacramento,
California with a resident capacity of 156. As a result of the sale the Company retired $7.4 million in debt and
received $3.6 million in cash and recognized a gain of $3.1 million. The Company manages the Carmichael
community for SHPII under a long-term management contract.

On June 13, 2002, the Company contributed to BRE/CSL four of its senior living communities with a
capacity of approximately 600 residents. As a result of the contribution, the Company repaid $29.1 million of
long-term debt to GMAC, received $7.3 million in cash from BRE/CSL, has a 10% equity interest in the
venture of $1.2 million and wrote-off $0.5 million in deferred loan costs.

Effective September 30, 2005, the six BRE/CSL communities were sold to Ventas for approximately

$84.6 million.

$73.2 million debt due to the Company, and $9.9 million net working capital liabilities). The total purchase
price was $194.4 million and the acquisition was treated as a purchase of property and the Company wholly
owns each of the Triad Entities. This acquisition resulted in the Company acquiring ownership of 12 senior
living communities with a combined resident capacity of approximately 1,670 residents. Subsequent to the end
of the Company's third quarter of 2003, the Company repaid the $0.4 million in notes payable related to this
acquisition.

The purchase price was allocated as follows (in thousands):

Net cash acquired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Fair value of tangible assets acquired, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Property and equipment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

122
10,584
183,737

Total purchase price ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$194,443

Set forth below is information relating to the construction/permanent loan facilities the Company

assumed as a result of the acquisition of the Triad Entities at July 1, 2003 (dollars in thousands):

Entity

Triad II ÏÏÏÏÏÏÏÏÏÏÏÏ

Triad III ÏÏÏÏÏÏÏÏÏÏÏ
Triad IVÏÏÏÏÏÏÏÏÏÏÏÏ
Triad V ÏÏÏÏÏÏÏÏÏÏÏÏ

TotalÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Number of
Communities

Commitment

Loan Facilities to Triad Entities
Amount
Outstanding

Type

Lender

6
2
1

$26,900

$ 26,003

mini-perm Key Corporate

$56,300
$18,600
$ 8,903

$ 56,270
$ 18,627
8,698
$

$109,598

Capital, Inc.

mini-perm Guaranty Bank
mini-perm Compass Bank
mini-perm Bank of America

The following unaudited pro forma financial information combines the results of the Company and the
Triad Entities as if the transaction had taken place at the beginning of fiscal 2003. The pro forma financial
information is presented for informational purposes only and does not reflect the results of operations of the
Company, which would have actually resulted if the purchase occurred as of the dates indicated, or future
results of operations of the Company (in thousands).

Net revenues ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income per share Ì basic ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income per share Ì diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Year Ended
December 31,
2003

$75,449
778
$
0.04
$
0.04
$

Effective as of November 30, 2004, the Company acquired Lehman's approximate 81% limited partner's
interest in Triad I for $4.0 million in cash and the issuance of a note with a net present value of $2.8 million. In
addition, the Company acquired the general partner's interest in Triad I by assuming a $3.6 million note
payable from the general partner to a subsidiary of the Company. The acquisition was recorded as a purchase
of property. The entire purchase price of $10.4 million was recorded as a step-up in basis of $9.3 million and in
addition the Company recorded a deferred tax asset of $1.1 million as Triad I had been previously
consolidated under FIN 46 as of December 31, 2003. These transactions resulted in the Company wholly
owning Triad I. Triad I owned five Waterford senior living communities and two expansions. The two
expansions were subsequently deeded to a subsidiary of the Company in order for the two expansions to be
consolidated with their primary community.

In 2003, the Financial Accounting Standards Board issued FASB Interpretation No. 46 (Revised
December 2003) ""Consolidation of Variable Interest Entities'' an interpretation of ARB No. 51, effective
immediately for variable interest entities created after January 31, 2003 and effective as of December 31, 2003

for variable interest entities that existed prior to February 1, 2003. The Company adopted the provisions of this
interpretation at December 31, 2003, and its adoption resulted in the Company consolidating the financial
position of Triad I at December 31, 2003 and consolidating the operations of Triad I beginning in the
Company's first quarter of 2004. The consolidation of Triad I under the provisions of FIN 46 as of
December 31, 2003 resulted in an increase in property and equipment of $62.5 million.

The following unaudited pro forma financial information combines the results of the Company and Triad
I as if the provisions of FASB Interpretation No. 46 had been applied at the beginning of fiscal 2003. The pro
forma financial information is presented for informational purposes only and does not reflect the results of
operations of the Company, which would have actually resulted if Triad I had been consolidated as of the
dates indicated, or future results of operations of the Company (in thousands):

Net revenue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income per share Ì basic ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income per share Ì diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Year Ended
December 31,
2003

$80,320
$ 1,601
0.08
$
0.08
$

Prior to consolidation/acquisition the Company had a 1% limited partners' interest in Triad I and the
Triad Entities and accounted for Triad I and the Triad Entities under the equity method of accounting based
on the provisions of the partnership agreements. The Company recognized losses in Triad I and the Triad
Entities of $0.1 million as of December 31, 2003. The recognition of losses reduced the Company's
investments in Triad I and the Triad Entities to zero and additional losses of $0.5 million were recorded as a
reduction to the Company's notes receivable from the Triad Entities.

Deferred interest income was being amortized into income over the life of the loan commitment that the
Company had with Triad I and the Triad Entities. Deferred development and management fee income was
being amortized into income over the expected remaining life of Triad I and Triad Entities' partnership. All
deferred items were eliminated upon consolidation/acquisition.

Effective August 18, 2004, the Company acquired from Covenant all of the outstanding stock of
Covenant's wholly owned subsidiary, CGIM. The Company paid approximately $2.3 million in cash
(including closing cost of approximately $0.1 million) and issued a note with a fair value of approximately
$1.1 million, subject to various adjustments set forth in the purchase agreement, to acquire all of the
outstanding stock of CGIM. The note is due in three installments of approximately $0.3 million, $0.4 million
and $0.7 million due on the first, third and fifth anniversaries of the closing, respectively, subject to reduction
if the management fees earned from the third party owned communities with various terms are terminated and
not replaced by substitute agreements during the period, and certain other adjustments. The total purchase
price was $3.5 million and the acquisition was treated as a purchase of property. The $3.5 million purchase
price was allocated to management contracts. In addition, the Company recorded a deferred tax liability of
$2.1 million related to the acquisition of these management contract rights. The Company's first installment
payment under the Covenant note was reduced by $0.2 million under the terms of the stock purchase
agreement and the $0.2 million installment reduction was recorded as an adjustment to the purchase price.
This acquisition resulted in the Company assuming the management contracts on 14 senior living communi-
ties with a combined resident capacity of approximately 1,800 residents. In addition, the Company has the
right to acquire seven of the properties owned by Covenant (which are part of the 14 communities managed by
CGIM) based on sales prices specified in the stock purchase agreement.

The Company owned 57% of the HCP partnership and the assets, liabilities, minority interest, and the
results of operations of HCP have been consolidated in the Company's financial statements. In 2003, HCP
sold its remaining community for $1.1 million, which resulted in the recognition of a gain of $48,000 and net
proceeds of $1.0 million. Subsequent to the sale of this community, HCP has been dissolved with its
remaining assets transferred to a liquidating trust. In connection therewith, the Company recognized deferred
revenue of $3.4 million in the fourth quarter of 2003 due to the liquidation.

Disclosures About Contractual Obligations

The following table provides the amounts due under specified contractual obligations (including interest

expense) for the periods indicated as of December 31, 2005 (in thousands):

Less Than
One Year

One to
Three Years

Four to
Five Years

More Than
Five Years

Long-term debt ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Operating leases ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Interest rate lock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$26,326
8,924
2,912

$203,602
17,278
2,218

$42,334
16,731
1,991

$42,982
39,768
1,716

Total

$315,244
82,701
8,837

Total contractual cash ObligationsÏÏ

$38,162

$223,098

$61,056

$84,466

$406,782

Long-term debt relates to the aggregate maturities of the Company's notes payable. The Company leases
its corporate headquarters, an executive office in New York, seven senior living communities and certain
equipment used at the Company's communities.

Impact of Inflation

To date, inflation has not had a significant impact on the Company. However, inflation could affect the
Company's future revenues and results of operations because of, among other things, the Company's
dependence on senior residents, many of whom rely primarily on fixed incomes to pay for the Company's
services. As a result, during inflationary periods, the Company may not be able to increase resident service fees
to account fully for increased operating expenses. In structuring its fees, the Company attempts to anticipate
inflation levels, but there can be no assurance that the Company will be able to anticipate fully or otherwise
respond to any future inflationary pressures.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

The Company's primary market risk is exposure to changes in interest rates on debt instruments. As of
December 31, 2005, the Company had $260.5 million in outstanding debt comprised of various fixed and
variable rate debt instruments of $86.4 million and $174.1 million, respectively.

Changes in interest rates would affect the fair market value of the Company's fixed rate debt instruments
but would not have an impact on the Company's earnings or cash flows. Fluctuations in interest rates on the
Company's variable rate debt instruments, which are tied to either LIBOR or the prime rate, would affect the
Company's earnings and cash flows but would not affect the fair market value of the variable rate debt. Each
percentage point change in interest rates would increase the Company's annual interest expense by
approximately $1.7 million based on the Company's outstanding variable debt as of December 31, 2005.

The following table summarizes information on the Company's debt instruments outstanding as of
December 31, 2005. The table presents the principal due and weighted average interest rates by expected

maturity date for the Company's various debt instruments by fiscal year. Weighted average variable interest
rates are based on the Company's floating rate as of December 31, 2005.

Principal Amount and Average Interest Rate by Expected Maturity Date at December 31, 2005 ($ in

thousands):

Long-term debt:

Fixed rate debtÏÏÏÏÏÏÏÏÏÏ
Average interest rate ÏÏÏ
Variable rate debt ÏÏÏÏÏÏÏ
Average interest rate ÏÏÏ
Interest rate lock ÏÏÏÏÏÏÏÏ

Total Debt ÏÏÏÏÏÏÏÏÏ

2006

2007

2008

2009

2010

Thereafter

Total

Fair Value

$3,407

$ 2,145

9,869

$33,841

$2,444

$34,656

$ 86,362

$ 81,051

5.4%

5.9%

6.9%

4,394

47,056

122,722

7.0%

2,573

6.5%
818

7.8%
818

7.9%
Ì
Ì
818

6.5%
Ì
Ì
818

5.5%
Ì
Ì
1,705

174,172

7,550

$268,084

$262,773

Effective January 31, 2005, the Company entered into interest rate cap agreements with two commercial
banks to reduce the impact of increases in interest rates on the Company's variable rate loans. One interest
rate cap agreement effectively limited the interest rate exposure on a $50 million notional amount to a
maximum LIBOR rate of 5% and expired on January 31, 2006. The second interest rate cap agreement
effectively limits the interest rate exposure on $100 million notional amount to a maximum LIBOR rate of
5%, as long as one-month LIBOR is less than 7%. If one-month LIBOR is greater than 7%, the agreement
effectively limits the interest rate on the same $100 million notional amount to a maximum LIBOR rate of
7%. This second agreement expires on January 31, 2008. The Company paid $0.4 million for the interest rate
caps and the costs of these agreements are being amortized to interest expense over the life of the agreements.

The Company used interest rate lock and interest rate swap agreements for purposes other than trading.
The Company is party to interest rate lock agreements, which were used to hedge the risk that the costs of
future issuance of debt may be adversely affected by changes in interest rates. Under the interest rate lock
agreements, the Company agrees to pay or receive an amount equal to the difference between the net present
value of the cash flows for a notional principal amount of indebtedness based on the locked rate at the date
when the agreement was established and the yield of a United States Government 10-Year Treasury Note on
the settlement date of January 3, 2006. The notional amounts of the agreements were not exchanged. These
interest rate lock agreements were entered into with a major financial institution in order to minimize
counterparty credit risk. The locked rates range from 7.5% to 9.1%. On December 30, 2004, the Company
refinanced the underlying debt and this refinancing resulted in the interest rate lock agreements no longer
qualifying as an interest rate hedge. The Company reflects the interest rate lock agreements at fair value in the
Company's consolidated balance sheet (Other long-term liabilities, net of current portion of $2.6 million) and
related gains and losses are recognized in the consolidated statements of operations. The Company recognized
a loss of $0.6 million and $1.4 million during fiscal 2005 and 2004, respectively, relating to the interest rate
lock agreements. The Company settled the interest rate lock liability on January 3, 2006 by paying
$1.8 million in cash and converting the remaining balance of $5.7 million to a five-year note. The note bears
interest at LIBOR plus 250 with principal amortized over a seven year term. Prior to refinancing the
underlying debt, the interest rate lock agreements were reflected at fair value in the Company's consolidated
balance sheets (Other long-term liabilities) and the related gains or losses on these agreements were deferred
in stockholders' equity (as a component of other comprehensive income).

In addition, the Company was party to interest rate swap agreements in fiscal 2004 and 2003 that were
used to modify variable rate obligations to fixed rate obligations, thereby reducing the Company's exposure to
market rate fluctuations. On December 30, 2004, the Company settled its interest rate swap agreements by
paying its lender $0.5 million. The differential paid or received as rates changed was accounted for under the
accrual method of accounting and the amount payable to or receivable from counterparties was included as an
adjustment to accrued interest. The interest rate swap agreements resulted in the recognition of an additional
$0.9 million and $1.0 million in interest expense during fiscal 2004 and 2003, respectively.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The financial statements are included under Item 15 of this Annual Report.

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

FINANCIAL DISCLOSURES

The Company had no disagreements on accounting or financial disclosure matters with its independent

accountants to report under this Item 9.

ITEM 9A. CONTROLS AND PROCEDURES

(a) Evaluation of Disclosure Controls and Procedures

The Company's management, with the participation of the Company's Chief Executive Officer
(""CEO'') and Chief Financial Officer (""CFO''), has evaluated the effectiveness of the Company's disclosure
controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act)
as of the end of the period covered by this report. The Company's disclosure controls and procedures are
designed to ensure that information required to be disclosed by the Company in the reports that it files or
submits under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and
reported within the time periods specified in the Securities and Exchange Commission's rules and forms.
Disclosure controls and procedures are also designed to ensure that such information is accumulated and
communicated to the Company's management, including the CEO and CFO, as appropriate to allow timely
decisions regarding required disclosure. Based upon the evaluation described above, the Company's CEO and
CFO concluded that the Company's disclosure controls and procedures were ineffective as of December 31,
2005 due to a material weakness in internal control over financial reporting related to accounting for income
taxes as described below in Item 9A(b).

As a consequence of the material weakness noted above, the Company has applied other procedures
designed to improve the reliability of its accounting for income taxes. Based on these other procedures,
management (i) believes that the consolidated financial statements included in this report, as well as the
Company's consolidated financial statements for each quarter in 2005, as previously reported, are fairly stated
in all material respects, and (ii) does not believe the material weakness will result in any adjustments to
previously released financial statements.

(b) Management's Report on Internal Control Over Financial Reporting

Management of the Company, including the CEO and the CFO, is responsible for establishing and
maintaining adequate internal control over financial reporting, as defined in Rules 13a-15(f) and 15a-15(f)
under the Securities Exchange Act of 1934. The Company's internal control system is a process designed by,
or under the supervision of, the issuer's principal executive and principal financial officers, or persons
performing similar functions, and effected by the issuer's board of directors, management and other personnel,
to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial
statements for external purposes in accordance with U.S. generally accepted accounting principles
(U.S. GAAP).

The Company's internal control over financial reporting includes policies and procedures that: pertain to
the maintenance of records that, in reasonable detail, accurately and fairly reflect transactions and dispositions
of assets; provide reasonable assurance that transactions are recorded as necessary to permit preparation of
financial statements in accordance with U.S. GAAP, and that receipts and expenditures are being made only
in accordance with the authorization of its management and directors; and provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition use or disposition of the Company's assets
that could have a material effect on its consolidated financial statements.

controls may become inadequate because of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.

Management assessed the effectiveness of the Company's internal control over financial reporting as of
December 31, 2005. In making this assessment, management used the criteria framework set forth by the
Committee of Sponsoring Organizations of the Treadway Commission (""COSO'') published in its report
entitled Internal Control Ì Integrated Framework. As a result of its assessment, management identified a
material weakness in the Company's internal control over financial reporting.

As a result of its assessment, the Company has identified the following material weakness in internal

control over financial reporting relative to accounting for income taxes as of December 31, 2005:

The Company each year retains tax consultants and third-party income tax advisors to assist in the
calculation of the income tax provision and in the analysis of deferred tax assets and liabilities, along
with the impact of income taxes on purchase accounting. The Company's policies and procedures,
and allocation of resources, did not provide for an effective review of the Company's accounting for
income taxes, which was prepared by such consultants and advisors. As a result of this deficiency,
the Company's preliminary accounting for income taxes included errors. The deficiency also results
in more than a remote likelihood that a material misstatement of the Company's interim or annual
consolidated financial statements would not be prevented or detected.

Based on the material weakness described above, management concluded that the Company's internal

control over financial reporting was not effective as of December 31, 2005.

The independent registered public accounting firm that audited the Company's consolidated financial
statements has issued an audit report on management's assessment of the Company's internal control over
financial reporting as of December 31, 2005. This report appears in Item 9A (d).

There have not been any changes in the Company's internal control over financial reporting (as such term
is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this
report relates that have materially affected, or are reasonably likely to materially affect, the Company's
internal control over financial reporting.

Subsequent to December 31, 2005, the Company has taken and will take various corrective actions to

remediate the material weakness noted above. These remedial actions are as follows:

‚ the Company will replace its third-party income tax advisors and tax consultants and will ensure that
the third-party tax service providers have the required expertise for the more complex areas of the
Company's income tax accounting; and

‚ the Company has increased the formality and rigor of controls and procedures over accounting for
income taxes, including the allocation of additional internal resources to the income tax accounting
process.

Notwithstanding the existence of the material weakness noted above, management believes that the
accompanying consolidated financial statements fairly present, in all material respects, the financial condition,
results of operations and cash flows for the fiscal years presented in this report on Form 10-K.

(d) Report of Independent Registered Public Accounting Firm

Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders Capital Senior Living Corporation:

We have audited management's assessment, included in the accompanying Management's Report on
Internal Control Over Financial Reporting (Item 9A(b)), that Capital Senior Living Corporation (the
Company) did not maintain effective internal control over financial reporting as of December 31, 2005,
because of the effect of the material weakness identified in management's assessment, based on criteria
established in Internal Control Ì Integrated Framework issued by the Committee of Sponsoring Organiza-
tions of the Treadway Commission (COSO). The Company's management is responsible for maintaining
effective internal control over financial reporting and for its assessment of the effectiveness of internal control
over financial reporting. Our responsibility is to express an opinion on management's assessment and an
opinion on the effectiveness of Capital Senior Living Corporation's internal control over financial reporting
based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether effective internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating
management's assessment, testing and evaluating the design and operating effectiveness of internal control,
and performing such other procedures as we considered necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinion.

A company's internal control over financial reporting is a process designed to provide reasonable
assurance regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles. A company's internal control
over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records
that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation
of financial statements in accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance with authorizations of management and
directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the
financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect
misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.

A material weakness is a control deficiency, or combination of control deficiencies, that results in more
than a remote likelihood that a material misstatement of the annual or interim financial statements will not be
prevented or detected. The following material weakness has been identified and included in management's
assessment. The Company's policies and procedures, and allocation of resources, did not provide for an
effective review of the Company's accounting for income taxes, which was prepared by tax consultants and
third party advisors. As a result of this deficiency, the Company's preliminary accounting for income taxes
included errors. The deficiency also results in more than a remote likelihood that a material misstatement of
the Company's interim or annual consolidated financial statements would not be prevented or detected.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the consolidated balance sheet of Capital Senior Living Corporation as of Decem-
ber 31, 2005, and the related consolidated statements of operations, shareholders' equity, and cash flows for
the year then ended. This material weakness was considered in determining the nature, timing, and extent of

audit tests applied in our audit of the 2005 consolidated financial statements, and this report does not affect
our report dated March 31, 2006, which expressed an unqualified opinion on those consolidated financial
statements.

In our opinion, management's assessment that Capital Senior Living Corporation did not maintain
effective internal control over financial reporting as of December 31, 2005, is fairly stated, in all material
respects, based on criteria established in Internal Control Ì Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, because of the
effect of the material weakness described above on the achievement of the objectives of the control criteria,
Capital Senior Living Corporation has not maintained effective internal control over financial reporting as of
December 31, 2005, based on criteria established in Internal Control Ì Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO).

Dallas, Texas
March 31, 2006

/s/ KPMG LLP

ITEM 9B. OTHER INFORMATION.

Not Applicable.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Information contained under the caption ""Election of Directors'' in the Proxy Statement is incorporated
herein by reference in response to this Item 10. See also the information in Item 1 under the heading
""Executive Officers and Key Employees.''

ITEM 11. EXECUTIVE COMPENSATION

Information contained under the captions ""Executive Compensation'' and ""Election of Directors'' in the

Proxy Statement is incorporated herein by reference in response to this Item 11.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

AND RELATED STOCKHOLDER MATTERS

Information contained under the caption ""Principal Stockholders and Stock Ownership of Management''

in the Proxy Statement is incorporated herein by reference in response to this Item 12.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information contained under the caption ""Certain Relationships and Related Transactions'' in the Proxy

Statement is incorporated herein by reference in response to this Item 13.

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

Information contained under the caption ""Fees Paid to Independent Auditors'' in the Proxy Statement is

incorporated herein by reference in response to this Item 14.

PART IV

ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

The following documents are filed as part of this Report:

(1) Financial Statements:

The response to this portion of Item 15 is submitted as a separate section of this Report. See Index

to Financial Statements at page F-1.

(2) Financial Statement Schedules:

All schedules have been omitted as the required information is inapplicable or the information is

presented in the financial statements or related notes.

(3) Exhibits:

The exhibits listed on the accompanying Index To Exhibits at page E-1 are filed as part of this Report.

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the undersigned, hereunto duly authorized,
on March 31, 2006.

SIGNATURES

CAPITAL SENIOR LIVING CORPORATION

By:

/s/ LAWRENCE A. COHEN

Lawrence A. Cohen
Vice Chairman of the Board
and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the
following persons on behalf of the Registrant and in the capacities and on the dates indicated. Each person
whose signature to this report appears below hereby appoints Lawrence A. Cohen and James A. Stroud and
each of them, any one of whom may act without the joinder of the other, as his or her attorney-in-fact to sign
on his behalf, individually and in each capacity stated below, and to file all amendments to this report, which
amendment or amendments may make such changes in and additions to the report as any such attorney-in-
fact may deem necessary or appropriate.

Signature

Title

Date

/s/ LAWRENCE A. COHEN

Lawrence A. Cohen

Chief Executive Officer and Vice
Chairman of the Board (Principal
Executive Officer)

March 31, 2006

/s/

JAMES A. STROUD
James A. Stroud

Chairman of the Company and
Chairman of the Board

March 31, 2006

/s/ KEITH N. JOHANNESSEN

President and Chief Operating Officer March 31, 2006

Keith N. Johannessen

/s/ RALPH A. BEATTIE

Ralph A. Beattie

/s/ CRAIG F. HARTBERG

Craig F. Hartberg

/s/

JILL M. KRUEGER
Jill M. Krueger

JAMES A. MOORE
James A. Moore

/s/ VICTOR W. NEE
Dr. Victor W. Nee

and Director

Executive Vice President and Chief
Financial Officer (Principal Financial
and Accounting Officer)

March 31, 2006

Director

March 31, 2006

Director

March 31, 2006

Director

March 31, 2006

Director

March 31, 2006

INDEX TO FINANCIAL STATEMENTS

Consolidated Financial Statements of Capital Senior Living Corporation
Report of Independent Registered Public Accounting Firm ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ F-2
Report of Independent Registered Public Accounting Firm ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ F-3
Consolidated Balance Sheets Ì December 31, 2005 and 2004 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ F-4
Consolidated Statements of Operations Ì For the years ended December 31, 2005, 2004 and 2003ÏÏ F-5
Consolidated Statements of Shareholders' Equity Ì For the years ended December 31, 2005, 2004

and 2003ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ F-6
Consolidated Statements of Cash Flows Ì For the years ended December 31, 2005, 2004 and 2003
F-7
Notes to Consolidated Financial Statements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ F-8

Page

F-1

Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders
Capital Senior Living Corporation:

We have audited the accompanying consolidated balance sheet of Capital Senior Living Corporation as
of December 31, 2005, and the related consolidated statements of operations, shareholders' equity, and cash
flows for the year then ended. These consolidated financial statements are the responsibility of Capital Senior
Living Corporation's management. Our responsibility is to express an opinion on these consolidated financial
statements based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that our audit provides a reasonable basis for our
opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material
respects, the financial position of Capital Senior Living Corporation as of December 31, 2005, and the results
of its operations and its cash flows for the year then ended, in conformity with U.S. generally accepted
accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the effectiveness of Capital Senior Living Corporation's internal control over financial
reporting as of December 31, 2005, based on criteria established in Internal Control Ì Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report
dated March, 31, 2006 expressed an unqualified opinion on management's assessment of, and an adverse
opinion on the effective operation of, internal control over financial reporting.

Dallas, TX
March 31, 2006

KPMG LLP

F-2

Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders
Capital Senior Living Corporation

We have audited the accompanying consolidated balance sheet of Capital Senior Living Corporation as
of December 31, 2004 and the related consolidated statements of operations, shareholders' equity, and cash
flows for each of the two years in the period ended December 31, 2004. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an opinion on these financial
statements based on our audits.

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

In our opinion, the financial statements referred to above present fairly, in all material respects, the
consolidated financial position of Capital Senior Living Corporation at December 31, 2004, and the
consolidated results of their operations and their cash flows for each of the two years in the period ended
December 31, 2004 in conformity with U.S. generally accepted accounting principles.

Dallas, Texas
March 8, 2005

Ernst & Young LLP

F-3

CAPITAL SENIOR LIVING CORPORATION

CONSOLIDATED BALANCE SHEETS

December 31,

2005

2004

(In thousands)

Current assets:

ASSETS

Cash and cash equivalents ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Restricted cash ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accounts receivable, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accounts receivable from affiliates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Federal and state income taxes receivable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Assets held for sale ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Property tax and insurance depositsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Prepaid expenses and otherÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Total current assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Property and equipment, netÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Investments in limited partnerships ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Assets held for sale ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other assets, netÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ 21,831
973
2,586
432
1,840
591
2,034
5,081
2,729
38,097
373,007
8,217
1,401
Ì
13,329

$ 19,515
Ì
2,073
1,220
2,572
642
1,008
2,731
2,766
32,527
381,051
7,011
3,202
1,026
6,358

Total assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$434,051

$431,175

LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities:

Accounts payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accounts payable to affiliates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accrued expensesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Current portion of notes payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Current portion of interest rate lock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Current portion of deferred income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Customer deposits ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Total current liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred incomeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred income from affiliates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other long-term liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Notes payable, net of current portion ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Minority interest in consolidated partnership ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Commitments and contingencies
Shareholders' equity:

Preferred stock, $.01 par value:

2,834
119
10,057
7,801
2,573
1,370
2,483

27,237
3,641
48
4,977
252,733
Ì

2,162
318
7,478
42,242
Ì
680
1,936

54,816
Ì
125
6,909
219,526
252

Authorized shares Ì 15,000; no shares issued or outstanding ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Common stock, $.01 par value:

Authorized shares Ì 65,000 Issued and outstanding shares Ì 26,290 and

25,751 in 2005 and 2004, respectively ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Additional paid-in capital ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Retained earningsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

263
126,180
18,972

Total shareholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

145,415

258
124,963
24,326

149,547

Total liabilities and shareholders' equity ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$434,051

$431,175

See accompanying notes to consolidated financial statements.

F-4

CAPITAL SENIOR LIVING CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

Year Ended December 31,
2004
(In thousands, except per share data)

2003

2005

Revenues:

Resident and health care revenue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Unaffiliated management services revenue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Affiliated management services revenueÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Affiliated development fees ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$101,770
1,626
1,834
Ì

$90,544
726
1,992
Ì

$62,564
336
3,236
189

Total revenues ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

105,230

93,262

66,325

Expenses:

Operating expenses (exclusive of depreciation and amortization shown

below) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
General and administrative expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Provision for bad debtsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Facility lease expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Depreciation and amortizationÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Total expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Income from operations ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other income (expense):

Interest income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Interest expenseÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Gain (loss) on sale of propertiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Debt restructuring/derivative costs:

Write-off of deferred loan costsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Gain on interest rate swap agreement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Loss on interest rate lock agreement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other incomeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

(Loss) income before income taxes and minority interest in consolidated
partnership ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Benefit (provision) for income taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

(Loss) income before minority interest in consolidated partnership ÏÏÏÏÏÏ
Minority interest in consolidated partnershipÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

68,707
10,187
258
2,070
13,046

94,268

10,962

64,772
9,552
198
Ì
12,009

86,531

6,731

44,637
7,914
168
Ì
7,791

60,510

5,815

133
(18,595)

104

572
(15,769)
(37)

4,278
(12,481)
6,751

(25)
Ì
(641)
416

(7,646)
2,273

(5,373)
19

(824)
1,435
(1,356)
182

(9,066)
2,270

(6,796)
38

Ì
Ì
Ì
3,616

7,979
(3,098)

4,881
109

Net (loss) income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (5,354)

$(6,758)

$ 4,990

Per share data:

Basic (loss) earnings per share ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Diluted (loss) earnings per share ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

(0.21)

$ (0.27)

(0.21)

$ (0.27)

0.25

Weighted average shares outstanding Ì basicÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

25,827

25,213

19,784

Weighted average shares outstanding Ì diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

25,827

25,213

19,975

See accompanying notes to consolidated financial statements.

F-5

CAPITAL SENIOR LIVING CORPORATION

CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

Balance at January 1, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Exercise of stock options ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other comprehensive income:

Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Unrealized gain on interest rate lock ÏÏÏÏÏÏÏÏÏ

Total other comprehensive income ÏÏÏÏÏÏÏÏÏÏÏÏÏ

Balance at December 31, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Exercise of stock options ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Secondary stock offering, net of offering costs of

Common Stock

Amount

Additional
Paid-In
Capital

Retained
Earnings

Total

(In thousands)

19,737
110

$197
1

$ 91,990
346

$26,094
Ì

$118,281
347

Ì
Ì

4,990
749

5,739

4,990
749

5,739

19,847
154

$198
2

$ 92,336
528

$31,833
Ì

$124,367
530

$2.3 million ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

5,750

Other comprehensive loss:

Net loss ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Unrealized loss on interest rate lock ÏÏÏÏÏÏÏÏÏÏ

Total other comprehensive loss ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Ì
Ì

Balance at December 31, 2004 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Exercise of stock options ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Restricted stock awards ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Stock-based compensation ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net loss ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

25,751
182
357
Ì
Ì

Balance at December 31, 2005 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

26,290

Ì
Ì

$258
2
3
Ì
Ì

$263

32,099

32,157

Ì
Ì

(6,758)
(749)

(7,507)

$124,963
972
Ì
245
Ì

$24,326
Ì
Ì
Ì
(5,354)

$149,547
974
3
245
(5,354)

$126,180

$18,972

$145,415

See accompanying notes to consolidated financial statements.

F-6

CAPITAL SENIOR LIVING CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

2005

Year Ended December 31,
2004
(In thousands)

2003

Operating Activities
Net (loss) incomeÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ (5,354) $
Adjustments to reconcile net (loss) income to net cash provided by operating activities:

(6,758) $ 4,990

DepreciationÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Amortization ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Amortization of deferred financing charges ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Minority interest in consolidated partnership ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred income from affiliatesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred income from liquidation of HCP partnershipÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred income taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Equity in the earnings of affiliates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
(Gain) loss on sale of propertiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
(Gain) loss on interest rate swap and interest rate lock agreements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Provision for bad debts ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Write-off of deferred loan costsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Stock compensation expense ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Changes in operating assets and liabilities, net of acquisitions:

Accounts receivable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accounts receivable from affiliates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Property tax and insurance deposits ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Prepaid expenses and other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accounts payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accrued expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Federal and state income taxes receivable/payableÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Customer deposits ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net cash provided by operating activitiesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

12,338
708
747
(19)
(77)
274
Ì

(2,213)
(416)
(104)
641
258
25
245

(771)
788
(2,350)

(7,110)
473
2,579
732
547
1,978

(3,236)
Ì
Ì
Ì
Ì
Ì
Ì
Ì
6,378
3,142

Investing Activities
Capital expenditures ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net cash acquired in acquisition of Spring Meadows joint venturesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net cash acquired in acquisition of the Triad Entities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net cash upon the purchase in 2004/consolidation in 2003 of Triad I ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net cash paid in the acquisition of CGIM ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Proceeds from sale of assetsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Proceeds from sale of assets to BRE/CSL ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Distributions from (advances to) affiliatesÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Investments in limited partnershipsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net cash provided by (used in) investing activities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Financing Activities
Proceeds from notes payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Repayments of notes payableÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Restricted cash ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Cash proceeds from the exercise of stock options ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Cash proceeds from the issuance of common stock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Excess tax benefits on stock options exercised ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Cash paid to settle interest rate swap agreement ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
(Distributions to) refund from minority partners ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred financing charges paid ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net cash provided by (used in) financing activities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Increase (decrease) in cash and cash equivalentsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Cash and cash equivalents at beginning of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Cash and cash equivalents at end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 21,831 $

43,417
(44,467)
(973)
718
3
256
Ì
(233)
(1,525)
(2,804)
2,316
19,515

11,865
144
903
(38)
23
568
Ì
(714)
(182)
37
(79)
198
824
Ì

(881)
(616)
(876)
312
542
116
170
(1,416)

81
4,223

(2,391)
838
Ì

(4,000)
(2,317)
516
Ì
(391)
149
(7,596)

7,791
Ì
1,080
(109)
(340)
96

(3,406)
1,605
(210)
(6,751)

Ì
168
Ì
Ì

(364)
47
(380)
(785)
1,122
(917)
(1,152)
170
(114)
2,541

(1,591)
Ì
122
832
Ì
5,458
3,088
(7,381)
197
725

132,005
(153,813) (18,480)

5,114

7,187
368
32,157
Ì
(497)
9

5,169
256
Ì
Ì
Ì
(296)
(203)
(1,122)
(8,440)
16,294
(5,174)
12,921
11,768
6,594
19,515 $ 6,594

Supplemental Disclosures
Cash paid during the year for:

Interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $ 16,666 $

15,223 $ 11,503

Income taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ $

889 $

942 $ 1,748

See accompanying notes to consolidated financial statements.

F-7

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005

1. Organization

Capital Senior Living Corporation, a Delaware corporation (together with its subsidiaries, the ""Com-
pany''), is one of the largest operators of senior living communities in the United States in terms of resident
capacity. The Company owns, operates, develops and manages senior living communities throughout the
United States. As of December 31, 2005, the Company operated 55 senior living communities in 20 states
with an aggregate capacity of approximately 8,900 residents, including 33 senior living communities which the
Company owned or in which the Company had an ownership interest, seven senior living communities that the
Company leased and 15 senior living communities it managed for third parties. As of December 31, 2005, the
Company also operated one home care agency. The accompanying consolidated financial statements include
the financial statements of Capital Senior Living Corporation and its subsidiaries. All material intercompany
balances and transactions have been eliminated in consolidation.

2. Summary of Significant Accounting Policies

Cash and Cash Equivalents and Restricted Cash

The Company considers all highly liquid investments with original maturities of three months or less at
the date of acquisition to be cash equivalents. The Company has deposits in banks that exceed Federal Deposit
Insurance Corporation insurance limits. Management believes that credit risk related to these deposits is
minimal. Cash and cash equivalents, at December 31, 2005 and 2004, includes the cash and cash equivalents
of the HealthCare Properties, L.P. (""HCP'') of $0.6 million in both fiscal years. Restricted cash represented
amounts held in deposits that were required as collateral under the terms of certain loan agreements.

Long-Lived Assets

Assets Held for Sale

F-8

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

determined based on market rates, industry trends and recent comparable sales transactions. The actual sales
price of these assets could differ significantly from the Company's estimates.

The Company estimates the four parcels of land that were held for sale at December 31, 2005, have an
aggregate fair value, net of costs of disposal, that exceeds the carrying value of $2.0 million. The amounts the
Company will ultimately realize could differ materially from this estimate.

During 2004, the Company sold one parcel of land that was held for sale. During 2003, the Company sold

one parcel of land and one community that were held for sale.

Investments in Partnerships and Joint Ventures

Spring Meadow Communities: The Company formed four joint ventures (collectively ""SHPII/CSL'')
with Senior Housing Partners II, LP (""SHPII''), in November 2004, and the joint ventures are owned 95% by
SHPII and 5% by the Company. The Company accounts for its investment in SHPII/CSL under the equity
method of accounting. The Company recorded its investment at cost and adjusts its investment for its share of
earnings and losses of SHPII/CSL. The Company defers 5% of its management fee income earned from
SHPII/CSL. Deferred management fee income is being amortized into income over the term of the
Company's management contracts. As of December 31, 2005, the Company had deferred income of
approximately $48,000 relating to SHPII/CSL.

Prior to SHPII/CSL's acquisition of the Spring Meadows Communities, the Company, in December
2002, acquired from affiliates of LCOR Incorporated (""LCOR'') its approximate 19% member interests in
the four joint ventures that owned the Spring Meadows Communities as well as loans made by LCOR to the
joint ventures for $0.9 million in addition to funding $0.4 million to the venture for working capital and
anticipated negative cash requirements of the communities. The Company's interests in the joint ventures that
owned the Spring Meadows Communities included interests in certain loans to the ventures and an
approximate 19% member interest in each venture. The Company recorded its initial advances of $1.3 million
to the ventures as notes receivable as the amount assigned for the 19% member interests was nominal. The
Company accounted for its investment in the Spring Meadows Communities under the equity method of
accounting based on the provisions of the partnership agreements. The Company managed the Spring
Meadows Communities since the opening of each community in late 2000 and early 2001 and continued to
manage the communities under long-term management contracts until November 2004 when the joint
ventures were sold. In addition, the Company received an asset management fee relating to each of the four
communities. The Company had the obligation to fund certain future operating deficits of the Spring
Meadows Communities to the extent of its 19% member interest. No amounts were funded by the Company
under this obligation.

BRE/CSL: The Company formed three joint ventures (collectively ""BRE/CSL'') with an affiliate of
Blackstone Real Estate Advisors (""Blackstone''), and the joint ventures are owned 90% by Blackstone and
10% by the Company. The Company accounted for its investment in BRE/CSL under the equity method of
accounting. The Company recorded its investment at cost and adjusted its investment for its share of earnings
and losses of BRE/CSL. The Company deferred 10% of its management fee income earned from BRE/CSL.
Deferred management fee income was amortized into income over the term of the Company's management
contract. Effective September 30, 2005, Ventas Healthcare Properties, Inc. (""Ventas'') acquired the six
communities owned by BRE/CSL and the Company entered into a series of lease agreements (the ""Ventas
Lease Agreements'') whereby the Company leases the six communities from Ventas.

Triad Entities: Effective as of July 1, 2003, the Company acquired the partnership interest of the
general partners and the other third party limited partners' interests in four partnerships (Triad Senior
Living II, LP, Triad Senior Living III, LP, Triad Senior Living IV, LP and Triad Senior Living V, LP,
collectively the ""Triad Entities'') for $1.3 million in cash, $0.4 million in notes payable and the assumption of

F-9

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

all outstanding debt and liabilities. The total purchase price was $194.4 million and the acquisition was treated
as a purchase of property. This acquisition resulted in the Company acquiring 12 senior living communities
owned by the Triad Entities with a combined resident capacity of approximately 1,670 residents. Subsequent
to the end of the Company's third quarter of 2003, the Company repaid the $0.4 million in notes payable
related to this acquisition. Prior to this acquisition, the Company had an approximate 1% of the limited
partners' interests in the Triad Entities and had accounted for these investments under the equity method of
accounting based on the provisions of the Triad Entities partnership agreements. In addition, prior to acquiring
the Triad Entities, the Company managed the communities owned by the Triad Entities under a series of
long-term management contracts.

Triad I: Effective as of November 30, 2004, the Company acquired from affiliates of Lehman Brothers
(""Lehman'') its approximate 81% limited partnership interest in Triad Senior Living I, LP (""Triad I'') for
$4.0 million in cash and the issuance of a note with a net present value of $2.8 million. In addition, the
Company acquired the general partner's interest in Triad I by assuming a $3.6 million note payable from the
general partner to a subsidiary of the Company. The acquisition was recorded as a purchase of property. The
purchase price of $10.4 million was recorded as a step-up in basis of $9.3 million and in addition the Company
recorded a deferred tax asset of $1.1 million as Triad I had been previously consolidated under FASB
Interpretation No. 46, revised December 2003, (""FIN 46''), as of December 31, 2003. These transactions
resulted in the Company wholly owning Triad I. Triad I owned five Waterford senior living communities and
two expansions. The two expansions were subsequently deeded to a subsidiary of the Company in order for the
two expansions to be consolidated with their primary community. Prior to acquiring the remaining interests of
the general partner and the other third party limited partner the Company had an approximate 1% limited
partner's interests in Triad I and had accounted for these investments under the equity method of accounting
based on the provisions of the Triad I partnership agreement until December 31, 2003. In addition, prior to
acquiring the Triad I, the Company managed the communities owned by the Triad I under a series of long-
term management contracts.

In 2003, the Financial Accounting Standards Board (""FASB'') issued FIN 46 ""Consolidation of
Variable Interest Entities'', an interpretation of ARB No. 51, effective immediately for variable interest
entities created after January 31, 2003 and effective as of December 31, 2003, for variable interest entities that
existed prior to February 1, 2003. The Company adopted the provisions of this interpretation, as of
December 31, 2003, which resulted in the Company consolidating Triad I's financial position as of
December 31, 2003 and consolidating Triad I's results of operations beginning January 1, 2004. The
consolidation of Triad I under the provisions of FIN 46 as of December 31, 2003 resulted in an increase in
property and equipment of $62.5 million.

Income Taxes

The Company accounts for income taxes under the liability method. Deferred income taxes reflect the
net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. Management regularly evaluates the future
realization of deferred tax assets and provides a valuation allowance, if considered necessary, based on such
evaluation.

Revenue Recognition

Resident and health care revenue is recognized at estimated net realizable amounts, based on historical

experiences, due from residents in the period to which the rental and other services are provided.

Revenues from the Medicare and Medicaid programs accounted for 7%, 8%, and 9% in 2005, 2004 and
2003, respectively of the Company's net revenues. One community is a provider of services under the
Medicaid program. Accordingly, the community is entitled to reimbursement under the foregoing program at

F-10

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

established rates that are lower than private pay rates. Patient service revenue for Medicaid patients is
recorded at the reimbursement rates as the rates are set prospectively by the state upon the filing of an annual
cost report. Two communities are providers of services under the Medicare program and are entitled to
payment under the foregoing programs in amounts determined based rates established by the federal
government.

Laws and regulations governing the Medicare and Medicaid programs are complex and subject to
interpretation. The Company believes that it is in compliance with all applicable laws and regulations and is
not aware of any pending or threatened investigations involving allegations of potential wrongdoing. While no
such regulatory inquiries have been made, compliance with such laws and regulations can be subject to future
government review and interpretation as well as significant regulatory action including fines, penalties, and
exclusion from the Medicare and Medicaid programs.

Management services revenue, resident and healthcare revenue and development fees are recognized
when earned. Management services revenue relates to providing certain management and administrative
support services under management contracts, which have terms expiring through 2019. Management services
revenue is shown net of reimbursed expenses. The reimbursed expenses from affiliates were $10.5 million,
$12.3 million and $21.5 million, for the years ended December 31, 2005, 2004 and 2003, respectively.
Reimbursed expenses from unaffiliated parties were $9.9 million, $3.4 million, and $0.3 million, for the years
ended December 31, 2005, 2004 and 2003, respectively.

The Company's management contracts include contingent management services revenue, usually based
on exceeding certain gross revenue targets. These contingent revenues are recognized based on actual results
according to the calculations specified in the various management agreements.

Leases Accounting

The Company determines whether to account for its leases as either operating, capital or financing leases
depending on the underlying terms of the lease agreement. This determination of classification is complex and
requires significant judgment relating to certain information including the estimated fair value and remaining
economic life of the community, the Company's cost of funds, minimum lease payments and other lease
terms. As of December 31, 2005, the Company leased seven communities and classified each of the leases as
an operating lease. Facility lease expense in the Company's statement of operations includes the actual rent
paid plus amortization expense relating to leasehold acquisition costs.

At December 30, 2005, the Company had $1.5 million in deferred leasehold acquisition costs. These costs
are being amortized on a straight-line basis over the initial term of the lease agreements. Accumulated
amortization, at December 30, 2005, was $37,000. Amortization expense for fiscal 2005 was $37,000.

Financial Instruments

The Company is party to interest rate lock agreements, which were used to hedge the risk that the costs
of future issuance of debt may be adversely affected by changes in interest rates. Under the interest rate lock

F-11

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

agreements, the Company agrees to pay or receive an amount equal to the difference between the net present
value of the cash flows for a notional principal amount of indebtedness based on the locked rate at the date
when the agreement was established and the yield of a United States Government 10-Year Treasury Note on
the settlement date of January 3, 2006. The notional amounts of the agreements were not exchanged. These
interest rate lock agreements were entered into with a major financial institution in order to minimize
counterparty credit risk. The locked rates range from 7.5% to 9.1%. On December 30, 2004, the Company
refinanced the underlying debt and this refinancing resulted in the interest rate lock agreements no longer
qualifying as an interest rate hedge. The Company reflects the interest rate lock agreements at fair value in the
Company's consolidated balance sheet (Other long-term liabilities, net of current portion of $2.6 million) and
related gains and losses are recognized in the consolidated statements of operations. The Company recognized
a loss of $0.6 million and $1.4 million during fiscal 2005 and 2004, respectively, relating to the interest rate
lock agreements. The Company settled the interest rate lock liability on January 3, 2006 by paying
$1.8 million in cash and converting the remaining balance of $5.7 million to a five-year note. The note bears
interest at LIBOR plus 250 basis points with principal amortized on a straight-line basis over a seven year
term. Prior to refinancing the underlying debt, the interest rate lock agreements were reflected at fair value in
the Company's consolidated balance sheets (Other long-term liabilities) and the related gains or losses on
these agreements were deferred in stockholders' equity (as a component of other comprehensive income).

Credit Risk

The Company's resident receivables are generally due within 30 days. Credit losses on resident
receivables have been within management's expectations, and management believes that the allowance for
doubtful accounts adequately provides for any expected losses.

Advertising

Advertising is expensed as incurred. Advertising expenses for the years ended December 31, 2005, 2004

and 2003 were $4.8 million, $5.1 million and $3.6 million, respectively.

Net (Loss) Income Per Share

Basic net (loss) income per share is calculated by dividing net (loss) income by the weighted average
number of common shares outstanding during the period. Diluted net (loss) income per share considers the
dilutive effect of outstanding options calculated using the treasury stock method. The average daily price of
the stock during 2005, 2004 and 2003 was $7.20, $5.46 and $3.73, respectively, per share. Due to net losses in
fiscal 2005 and 2004 no common stock equivalents were considered in the calculation of diluted earnings per
share. The diluted earnings per share calculation for fiscal 2003 excluded 0.6 million common stock
equivalents from the calculation as their effect would have been anti-dilutive.

F-12

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

The following table set forth the computation of basic and diluted net (loss) income per share (in

thousands, except for per share amounts):

Year Ended December 31,
2004

2003

2005

Net (loss) income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$(5,354)

$(6,758)

$ 4,990

Weighted average shares outstanding Ì basicÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Effect of dilutive securities:

25,827

25,213

19,784

Employee stock options ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

191

Weighted average shares outstanding Ì diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

25,827

25,213

19,975

Basic (loss) earnings per share ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (0.21)

$ (0.27)

Diluted (loss) earnings per share ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (0.21)

$ (0.27)

0.25

Stock-Based Compensation

On December 16, 2004, the Financial Accounting Standards Board issued FASB Statement No. 123,
revised 2004 (""Statement 123(R)''), Share-Based Payment, which is a revision of FASB Statement 123,
Accounting for Stock-Based Compensation. Statement 123(R) supersedes APB Opinion No. 25 Accounting
for Stock Issued to Employees, and amends FASB Statement No. 95, Statement of Cash Flows. Generally
the approach in Statement 123(R) is similar to the approach described in Statement 123. However,
Statement 123(R) requires all share based payments to employees, including grants of employee stock
options, to be recognized in the income statement based on their fair values. Pro forma disclosure is no longer
an alternative. Statement 123(R) is effective for public entities in the first interim or annual reporting period
beginning after June 15, 2005.

Statement 123(R) permits public companies to adopt its requirements using one of two methods:

3. A ""modified retrospective'' method which includes the requirements of the modified prospective
method described above, but also permits entities to restate based on the amounts previously recognized
under Statement 123 for purposes of pro forma disclosures either (a) all prior periods presented or
(b) prior interim periods of the year of adoption.

F-13

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

The following table shows the effect on net income and earnings per share as if the fair value method had
been applied to all outstanding awards in fiscal 2005, 2004 and 2003.

Year Ended December 31,
2004

2003

2005

Net (loss) income as reported ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Add: Stock-based employee compensation expense included in

$(5,354)

$(6,758)

$ 4,990

reported net income, net of related tax effects ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

160

Deduct: Total stock-based employee compensation expense

determined under the fair value method for all awards, net of
related tax effects ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

(776)

(696)

(438)

Pro forma net lossÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

(5,970)

(7,454)

4,552

Net (loss) income per share Ì basic

As reported ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (0.21)

$ (0.27)

Pro formaÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (0.23)

$ (0.30)

Net (loss) income per share Ì diluted

As reported ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (0.21)

$ (0.27)

Pro formaÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (0.23)

$ (0.30)

0.25

0.23

0.25

0.23

Prior to adopting Statement 123(R), the Company used the Black-Scholes option pricing model to
estimate the grant date fair value of its stock awards and the Company elected to continue to use the Black-
Scholes option pricing model to estimate the grant date fair value of its stock awards, subsequent to the
adoption of Statement 123(R).

The Black-Scholes model requires the input of certain assumptions including expected volatility,
expected dividend yield, expected life of the option and the risk free interest rate. The expected volatility used
by the Company is based primarily on an analysis of historical prices of the Company's common stock. The
expected term of options granted is based primarily on historical exercise patterns on the Company's
outstanding stock options. The risk free rate is based on zero-coupon U.S. Treasury yields in effect at the date
of grant with the same period as the expected option life. The Company does not expect to pay dividends on its
common stock and therefore has used a dividend yield of zero in determining the fair value of its awards. The
option forfeiture rate assumption used by the Company, which affects the expense recognized as opposed to
the fair value of the award, is based on the Company's historical option forfeiture patterns.

The following table presents the Company's assumptions utilized to estimate the grant date fair value of

stock options:

Year Ended
December 31,
2004

2005

2003

Expected volatility ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Expected dividend yield ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Expected term in years ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Risk free rateÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Expected forfeiture rate ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

53% 54% 58%
0%
0%
0%

7.5

7.5
7.5
4.3% 4.6% 4.6%
8.0% Ì

On February 10, 2005, the Company's Compensation Committee of the Board of Directors accelerated
the vesting on 151,976 unvested stock options, with an option price of $6.30, awarded to officers and

F-14

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

employees. These options were originally scheduled to vest in December 2005. The market price of the
Company's common stock at the close of business on February 10, 2005 was $5.61. The Compensation
Committee's decision to accelerate the vesting of these options was in response to the FASB's issuance of
Statement 123(R). By accelerating the vesting of these options, the Company was not required to recognize
any compensation expense related to these options in its statement of operations.

Recently Issued Accounting Standards

Segment Information

The Company evaluates the performance and allocates resources of its senior living facilities based on
current operations and market assessments on a property-by-property basis. The Company does not have a
concentration of operations geographically or by product or service as its management functions are integrated
at the property level. As such, the Company operates in one segment.

Reclassifications

Certain reclassifications have been made to prior year amounts to conform to current year presentation.
During fiscal 2005, the Company reclassified certain property level expenses from general and administrative
expense to operating expense. This reclassification results in the Company's general and administrative
expenses being classified similar to other public companies in the senior housing industry.

Use of Estimates and Critical Accounting Policies

The preparation of financial statements in conformity with U.S. generally accepted accounting principles
requires management to make estimates and assumptions that affect the amounts reported in the accompany-
ing financial statements and related footnotes. Management bases its estimates and assumptions on historical
experience, observance of industry trends and various other sources of information and factors, the results of
which form the basis for making judgments about the carrying value of assets and liabilities that are not
readily apparent from other sources. Actual results could differ from these estimates. Critical accounting
policies are defined as those that are reflective of significant judgments and uncertainties, and potentially
could result in materially different results under different assumptions and conditions. The Company believes
revenue recognition, investments in limited partnerships, leases, long-lived assets and assets held for sale are
its most critical accounting policies and require management's most difficult, subjective and complex
judgments.

3. Transactions with Affiliates

BRE/CSL: The Company formed BRE/CSL with Blackstone in December 2001. BRE/CSL is owned
90% by Blackstone and 10% by the Company. Pursuant to the terms of the joint ventures, each of the
Company and Blackstone must approve any acquisitions made by BRE/CSL. Each party must also contribute
its pro rata portion of the costs of any acquisition.

F-15

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

BRE/CSL. During the second quarter of 2002, BRE/CSL obtained permanent financing for the Amberleigh
community and the Company recovered $1.4 million of its contribution to BRE/CSL.

On June 13, 2002, the Company contributed to BRE/CSL four of its senior living communities with a
capacity of approximately 600 residents. As a result of the contribution, the Company repaid $29.1 million of
long-term debt to GMAC Commercial Mortgage Corporation (""GMAC''), received $7.3 million in cash
from BRE/CSL, has a 10% equity interest in the venture of $1.2 million and wrote-off $0.5 million in deferred
loan costs.

In addition, on June 30, 2003, the Company contributed to BRE/CSL one of its senior living
communities with a capacity of 182 residents. As a result of the contribution the Company repaid $7.4 million
of long-term debt, received $3.1 million in cash from BRE/CSL, and has a 10% equity interest in BRE/CSL
of $0.4 million resulting in the recognition of a gain of $3.4 million. As part of the contribution to BRE/CSL,
the Company guaranteed 25%, or $1.9 million, of BRE/CSL's debt with Bank One. The Company made this
guarantee to induce Bank One to allow the debt to be assumed by BRE/CSL. The Company estimated the
carrying value of its obligation under this guarantee as nominal.

The Company managed the six communities owned by BRE/CSL under long-term management
contracts. The Company accounted for the BRE/CSL investment under the equity method of accounting and
the Company recognized earnings in the equity of BRE/CSL of $0.2 million, $0.3 million and $0.3 million for
the year ended December 31, 2005, 2004 and 2003, respectively. Effective September 30, 2005, the six BRE/
CSL communities were sold to Ventas for approximately $84.6 million.

Spring Meadows:

In December 2002, the Company acquired from affiliates of LCOR its approximate
19% member interests in the four joint ventures, which owned the Spring Meadows Communities as well as
loans made by LCOR to the joint ventures for $0.9 million in addition to funding $0.4 million for working
capital and anticipated negative cash requirements of the communities. The Company's interests in the four
joint ventures that owned the Spring Meadows Communities included interests in certain loans to the ventures
and an approximate 19% member interest in each venture. The Company recorded its initial advances of
$1.3 million to the ventures as notes receivable as the amount assigned for the 19% member interests was
nominal. The Company accounted for its investment in the Spring Meadows Communities under the equity
method of accounting based on the provisions of the partnership agreements. The Company had the obligation
to fund certain future operating deficits of the Spring Meadows Communities to the extent of its 19% member
interest. No amount were funded by the Company under this obligation.

In November 2004, the Company formed SHPII/CSL with Prudential Real Estate Investors
(""Prudential''). Effective as of November 30, 2004, the Company acquired Lehman's interest in four joint
ventures that owned the Spring Meadows Communities and simultaneously sold the Spring Meadows
Communities to SHPII/CSL, which is owned 95% by SHPII and 5% by the Company. As a result these
transactions, the Company paid $1.1 million for Lehman's interest in the joint ventures, received $0.9 million
in net assets and wrote-off the remainder totaling $0.2 million. In addition, the Company contributed
$1.3 million to SHPII/CSL for its 5% interest. The Company accounts for its investment in SHPII/CSL
under the equity method of accounting and the Company recognized earnings in the equity of SHPII/CSL of
$0.2 million and $13,000 for the years ended December 31, 2005 and 2004, respectively. The Company defers
5% of its management fee income earned from SHPII/CSL. Deferred management fee income is being
amortized into income over the term of the Company's management contract. As of December 31, 2005, the
Company had deferred income of approximately $48,000 relating to SHPII/CSL.

F-16

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

in the Company wholly owning Triad I. Triad I owned five Waterford senior living communities and two
expansions. The two expansions were subsequently deeded to a subsidiary of the Company in order for the two
expansions to be consolidated with their primary community. Prior to the acquisition of the Triad I the
Company accounted for its investments in the Triad I under the equity method of accounting.

Triad Entities: Effective as of July 1, 2003, the Company acquired the partnership interest of the
general partners and the other third party limited partners' interests in the Triad Entities for $1.3 million in
cash, $0.4 million in notes payable and the assumption of all outstanding debt and liabilities. The total
purchase price was $194.4 million and the acquisition was treated as a purchase of property. The Company
wholly owns each of the Triad Entities. This acquisition resulted in the Company acquiring the 12 senior living
communities owned by the Triad Entities with a combined resident capacity of approximately 1,670 residents.
Subsequent to the end of the Company's third quarter of 2003, the Company repaid the $0.4 million in notes
payable related to this acquisition. Prior to the acquisition of the Triad Entities the Company accounted for its
investments in the Triad Entities under the equity method of accounting.

4. Ventas Transactions

Effective as of June 30, 2005, BRE/CSL entered into a Purchase and Sale Agreement (the ""Ventas
Purchase Agreement'') with Ventas Healthcare Properties, Inc. (""Ventas'') to sell the six communities
owned by BRE/CSL to Ventas for $84.6 million. In addition, Ventas and the Company enter into Master
Lease Agreements (the ""Ventas Lease Agreements'') whereby the Company would lease the six communities
from Ventas. Effective September 30, 2005, Ventas completed the purchase of the six BRE/CSL communi-
ties and the Company began consolidating the operations of the six communities in its consolidated statement
of operations under the terms of the Ventas Lease Agreements. The Ventas Lease Agreements each have an
initial term of ten years, with two five year renewal extensions available at the Company's option. The initial
lease rate under the Ventas Lease Agreements is 8% and is subject to certain conditional escalation clauses.
The Company incurred $1.3 million in lease acquisition costs related to the Ventas Lease Agreements. These
deferred lease acquisition costs are being amortized over the initial 10 year lease term and are included in
facility lease expense in the Company's statement of operations. The Company has accounted for each of the
Ventas Lease Agreements as operating leases. The sale of the six BRE/CSL communities to Ventas resulted
in the Company recording a gain of approximately $4.2 million, which has been deferred and is being
recognized in the Company's statement of operations over the initial 10 year lease term.

On October 18, 2005, the Company entered into an agreement with Ventas to lease a senior living
community (""Georgetowne Place'') which Ventas acquired for approximately $19.5 million. Georgetowne
Place is located in Fort Wayne, Indiana and is a 162 unit senior living community with a capacity of 247
residents. The lease which the Company executed with Ventas has an initial term of ten years, with two 5 year
renewal extensions available at the Company's option. The initial lease rate is 8% and is subject to conditional
escalation provisions. The Company incurred $0.2 million in lease acquisition costs related to the Georgetowne
Place lease. These deferred lease acquisition costs are being amortized over the initial 10 year lease term and
are included in facility lease expense in the Company's statement of operations. The Company has accounted
for the Georgetowne Place lease as an operating lease.

5. Acquisitions

Triad I: Effective as of November 30, 2004, the Company acquired Lehman's approximate 81% limited
partner's interest in Triad I for $4.0 million in cash and the issuance of a note with a net present value of
$2.8 million. In addition, the Company acquired the general partner's interest in Triad I by assuming a
$3.6 million note payable from the general partner to a subsidiary of the Company. The acquisition was
recorded as a purchase of property. The entire purchase price of $10.4 million was recorded as a step-up in
basis of $9.3 million and in addition the Company recorded a deferred tax asset of $1.1 million as Triad I had

F-17

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

been previously consolidated under FIN 46 as of December 31, 2003. These transactions resulted in the
Company wholly owning Triad I. Triad I owned five Waterford senior living communities and two expansions.
The two expansions were subsequently deeded to a subsidiary of the Company in order for the two expansions
to be consolidated with their primary community.

In 2003, the Financial Accounting Standards Board issued FASB Interpretation No. 46 revised
December 2003 ""Consolidation of Variable Interest Entities'' an interpretation of ARB No. 51, effective
immediately for variable interest entities created after January 31, 2003 and effective as of December 31, 2003
for variable interest entities that existed prior to February 1, 2003. The Company adopted the provisions of this
interpretation at December 31, 2003, and its adoption resulted in the Company consolidating the financial
position of Triad I at December 31, 2003 and consolidating the operations of Triad I beginning in the
Company first quarter of 2004. The consolidation of Triad I under the provisions of FIN 46 as of
December 31, 2003 resulted in an increase in property and equipment of $62.5 million.

Year Ended
December 31,
2003

Net revenue ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income per share Ì basic ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net income per share Ì diluted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$80,320
$ 1,601
0.08
$
0.08
$

Triad Entities: Effective as of July 1, 2003, the Company acquired the partnership interest of the
general partners and the other third party limited partners' interests in the Triad Entities for $1.3 million in
cash, $0.4 million in notes payable and the assumption of all outstanding debt and liabilities ($109.6 million
bank debts, $73.2 million debt due to the Company, and $9.9 million net working capital liabilities). The total
purchase price was $194.4 million and the acquisition was treated as a purchase of property. The Company
wholly owns each of the Triad Entities. This acquisition resulted in the Company acquiring ownership of 12
senior living communities with a combined resident capacity of approximately 1,670 residents. Subsequent to
the end of the Company's third quarter of 2003, the Company repaid the $0.4 million in notes payable related
to this acquisition.

The purchase price was allocated as follows:

Net cash acquired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Fair value of tangible assets acquired, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Property and equipment ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

122
10,584
183,737

Total purchase price ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$194,443

F-18

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

Set forth below is information relating to the construction/permanent loan facilities the Company

assumed as a result of the acquisition of the Triad Entities at July 1, 2003 (dollars in thousands):

Entity

Triad II ÏÏÏÏÏÏÏÏÏÏÏÏÏ

Triad III ÏÏÏÏÏÏÏÏÏÏÏÏ
Triad IV ÏÏÏÏÏÏÏÏÏÏÏÏ
Triad V ÏÏÏÏÏÏÏÏÏÏÏÏÏ

Total ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Number of
Communities

Commitment

Loan Facilities to Triad Entities
Amount
Outstanding

Type

Lender

6
2
1

$26,900

$ 26,003 mini-perm Key Corporate

Capital, Inc.

$56,300
$18,600
$ 8,903

$ 56,270 mini-perm Guaranty Bank
$ 18,627 mini-perm Compass Bank
$

8,698 mini-perm Bank of America

$109,598

Year Ended
December 31,
2003

$75,449
778
$
0.04
$
0.04
$

CGIM: Effective August 18, 2004, the Company acquired from Covenant Group of Texas
(""Covenant'') all of the outstanding stock of Covenant's wholly owned subsidiary, CGI Management, Inc.
(""CGIM''). The Company paid approximately $2.3 million in cash (including closing cost of approximately
$0.1 million) and issued a note with a fair value of approximately $1.1 million, subject to various adjustments
set forth in the purchase agreement, to acquire all of the outstanding stock of CGIM. The note is due in three
installments of approximately $0.3 million, $0.4 million and $0.7 million due on the first, third and fifth
anniversaries of the closing, respectively, subject to reduction if the management fees earned from the third
party owned communities with various terms are terminated and not replaced by substitute agreements during
the period, and certain other adjustments. The total purchase price was $3.5 million and the acquisition was
treated as a purchase. The Company's first installment payment under the Covenant note was reduced by
$0.2 million under the terms of the stock purchase agreement and the $0.2 million installment reduction was
recorded as an adjustment to the purchase price. This acquisition resulted in the Company assuming the

F-19

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

management contracts on 14 senior living communities with a combined resident capacity of approximately
1,800 residents. In addition, the Company has the right to acquire seven of the properties owned by Covenant
(which are part of the 14 communities managed by CGIM) based on sales prices specified in the stock
purchase agreement.

The purchase price of $3.5 million was allocated to management contracts. In addition, the Company
recorded a deferred tax liability of $2.1 million related to the acquisition of these management contract rights.
Management contract rights are included in other assets on the consolidated balance sheet. The Company is
amortizing the management contract rights over the remaining life of the management contracts acquired and
accumulated amortization was $0.9 million and $0.1 million at December 31, 2005 and 2004, respectively.
Future amortization of contract rights for the next fives years will be $0.6 million per year.

6. Property and Equipment

Property and equipment consists of the following (in thousands):

Land ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Land improvements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Buildings and building improvements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Furniture and equipmentÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Automobiles ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Leasehold improvements ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Construction in progress ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Less accumulated depreciationÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

December 31,

2005

2004

$ 24,063
816
380,034
13,267
485
383
147

419,195
46,188

$ 24,063
653
377,188
12,448
451
98
Ì

414,901
33,850

Property and equipment, netÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$373,007

$381,051

Effective as of November 30, 2004, the Company acquired the partnership interest owned by non-
Company parties in Triad I. The acquisition was treated as a purchase of property. The purchase price of
$10.4 million was recorded as a step up in basis of $9.3 million and in addition the Company recorded a
deferred tax asset of $1.1 million. Prior to acquiring the remaining partnership interests the Company
consolidated Triad I under the provisions of FASB Interpretation No. 46, effective December 31, 2003, which,
resulted in an increase in property and equipment of $62.5 million. During 2004, the Company sold one parcel
of land for $0.5 million, which resulted in the recognition of a gain of $0.2 million and net proceeds of
$0.5 million.

7. Accrued Expenses

Accrued expenses consists of the following (in thousands):

Accrued salaries, bonuses and related expenses ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accrued property taxes ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accrued interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Accrued health claimsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ 2,953
3,644
1,598
921
941

$2,009
3,360
628
882
599

$10,057

$7,478

December 31,

2005

2004

F-20

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

8. Notes Payable

Notes payable consists of the following:

Prudential mortgage loans, bearing interest ranging from 7.08% to 7.69%,

payable in monthly installments of principal and interest of
$0.1 million, maturing on various dates thru January 2010, secured by a
certain property with a net book value of $9.3 million at December 31,
2005ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Lehman mortgage loan, bearing interest at 8.20%, payable in monthly
installments of principal and interest of $0.3 million, maturing on
September 2009, secured by certain properties with a net book value of
$47.6 million at December 31, 2005 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Insurance premium financings, bearing interest ranging from 4.9%, to
5.1% payable in monthly installments of principal and interest of
$0.4 million, maturing on various dates through May 2006 ÏÏÏÏÏÏÏÏÏÏÏ

GMAC mortgage loans, bearing interest at LIBOR plus 350 (7.79% and

5.92% at December 31, 2005 and 2004, respectively), payable in
monthly installments of principal and interest of $1.0 million, maturing
in January 2008, secured by certain properties with a net book value of
$188.3 million at December 31, 2005 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

GMAC mortgage loans, bearing interest at 5.46% at December 31, 2005

payable in monthly installments of principal and interest of
$0.3 million, maturing in August 2015 secured by certain properties
with a net book value of $47.6 million at December 31, 2005 ÏÏÏÏÏÏÏÏÏ

GMAC mortgage loans, bearing interest at LIBOR plus 240 (4.69%) at

December 31,

2005

2004

(In thousands)

7,193

7,388

34,694

35,370

1,700

1,894

126,544

128,409

38,915

December 31, 2004 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

34,585

Guaranty mortgage loans, bearing interest at LIBOR, plus 225 basis

points (6.47% and 4.64% at December 31, 2005 and 2004,
respectively), payable in monthly installments of principal and interest
of $0.5 million, maturing in January 2007, secured by certain properties
with a net book value of $78.2 million at December 31, 2005 ÏÏÏÏÏÏÏÏÏ

Covenant Group of Texas, Inc. acquisition financing bearing no interest
(face amount $1.4 million, discounted 5.7%) and payable in three
installment of $0.3 million, $0.5 million and $0.7 million on August 18,
2005, 2007 and 2009, respectively ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Lehman Brothers acquisition financing bearing no interest (discounted

5.7%). The note will be deemed paid in full under any of the following
three conditions: 1) the Company makes a payment of $3.5 million
before November 29, 2008; 2) the Company makes a payment of
$4.3 million before November 29, 2009; or 3) the Company makes a
payment of $5.0 million before November 29, 2010 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Less current portionÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

47,628

50,186

894

1,134

2,966

2,802

260,534
7,801

261,768
42,242

$252,733

$219,526

F-21

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

The aggregate maturities of notes payable at December 31, 2005, are as follows (in thousands):

2006 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
2007 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
2008 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
2009 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
2010 ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Thereafter ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

7,801
49,201
132,591
33,841
2,444
34,656

$260,534

In July 2005, the Company refinanced the debt on four senior housing communities with GMAC. The
total loan facility of 39.2 million refinanced $34.3 million of debt that was schedule to mature in September
2005. The new loans include ten-year terms with the interest rates fixed at 5.46% and amortization of principal
and interest payments over 25 years. The Company incurred $0.7 million in deferred financing costs related to
these loans, which is being amortized over ten years.

Effective January 31, 2005, the Company entered into interest rate cap agreements with two commercial
banks to reduce the impact of increases in interest rates on the Company's variable rate loans. One interest cap
agreement effectively limits the interest rate exposure on a $50 million notional amount to a maximum
LIBOR rate of 5% and expired on January 31, 2006. The second interest rate cap agreement effectively limits
the interest rate exposure on $100 million notional amount to a maximum LIBOR rate of 5%, as long as one-
month LIBOR is less than 7%. If one-month LIBOR is greater than 7%, the agreement effectively limits the
interest rate on the same $100 million notional amount to a maximum LIBOR rate of 7%. This second
agreement matures on January 31, 2008.

Effective December 29, 2004, the Company refinanced the debt of 14 senior housing communities with
GMAC. The total loan facility of $128.4 million refinanced eight properties previously financed by GMAC
and six properties previously financed under three separate loan agreements with Key Corporate Capital,
Compass Bank and Bank of America, which have been repaid. The new loans with GMAC have a term of
three years with two one-year extension options. The loans have an initial interest rate of LIBOR plus
350 basis points and the loan agreements provide for reduced rates once certain debt service coverage ratios
are achieved. The Company incurred $1.1 million in deferred financing costs related to these loans, which is
being amortized over three years.

In connection with the Company's loan commitments above the Company incurred $1.5 million and
$1.1 million in fiscal 2005 and 2004, respectively, in financing charges that were deferred and amortized over
the life of the notes. Accumulated amortization was $1.0 million and $1.3 million at December 31, 2005 and
2004, respectively. In connection with the refinancings and the repayment of notes, the Company wrote-off
$25,000 and $0.8 million in deferred loan cost in fiscal 2005 and 2004, respectively.

The Company must maintain certain levels of tangible net worth and comply with other restrictive
covenants under the terms of the notes. The Company was in compliance with or obtained waivers for all of its
debt covenants at December 31, 2005 and 2004.

9. Equity

The Company is authorized to issue preferred stock in series and to fix and state the voting powers and
such designations, preferences and relative participating, optional or other special rights of the shares of each
such series and the qualifications, limitations and restrictions thereof. Such action may be taken by the Board
without stockholder approval. The rights, preferences and privileges of holders of common stock are subject to
the rights of the holders of preferred stock.

F-22

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

In December 2003, the Company filed a shelf registration statement with the SEC to offer up to
$50.0 million in the aggregate of common stock. In the first quarter of fiscal 2004, the Company sold
5,750,000 shares of common stock at a price of $6.00 per share. The net proceeds to the Company after
commissions and expenses were approximately $32.2 million. The Company used $13.7 million of the net
proceeds to retire debt that was scheduled to mature in October 2004 and which had a current interest rate of
9.0% and the remaining amount was used for general corporate purposes.

10. Stock-Based Compensation

The Company adopted a stock incentive plan in 1997 (the ""1997 Plan''), providing for the grant of
nonqualified stock options, restricted stock and other stock-based awards to employees and directors. The
1997 Plan, as amended, provides for 2.6 million shares and 1.8 million shares of common stock are reserved for
future issuance under the 1997 Plan.

Shares available for the granting of nonqualified stock options, restricted stock and other stock-based

awards at December 31, 2005, 2004 and 2003, were 642,974; 985,124; and 413,054, respectively.

During fiscal 2005, the Company expensed $0.2 million ($0.2 million after tax) in compensation expense

related to awards of restricted stock and stock options.

Restricted Stock

On July 1, 2005, the Company awarded 320,750 shares of restricted stock to certain employees of the
Company. The market value of the common stock on the date of grant was $7.00. These restricted shares vest
ratably over a three and one half year period for 298,750 shares and over a four year period for 22,000 shares.

On October 19, 2005, the Company awarded 26,000 shares of restricted stock to certain employees of the
Company. The market value of the common stock on the date of grant was $7.75. These restricted shares vest
ratably over a four year period.

On December 15, 2005, the Company awarded 12,000 shares of restricted stock to certain employees of
the Company. The market value of the common stock on the date of grant was $10.11. These restricted shares
vest ratably over a four year period.

Stock Options

The option exercise price and vesting provisions of options are fixed when the options are granted. The
options expire four to ten years from the date of grant and vest from one to five years. The option exercise
price is the fair market value of a share of common stock on the date the option is granted.

F-23

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

A summary of the Company's stock option activity and related information for the years ended

December 31, 2005, 2004 and 2003 is presented below:

Outstanding at January 1, 2003ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Granted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Exercised ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Forfeited ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Expired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Outstanding at December 31, 2003ÏÏÏÏÏÏÏÏÏÏÏÏ
Granted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Exercised ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Forfeited ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Expired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Outstanding at December 31, 2004ÏÏÏÏÏÏÏÏÏÏÏÏ
Granted ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Exercised ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Forfeited ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Expired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

1,602,312
529,030
109,853
563,886
Ì

1,457,603
50,000
154,257
47,070
Ì

1,306,276
12,000
182,451
26,600
Ì

Outstanding at December 31, 2005ÏÏÏÏÏÏÏÏÏÏÏÏ

1,109,225

Exercisable at December 31, 2005 ÏÏÏÏÏÏÏÏÏÏÏÏ

1,047,725

Exercisable at December 31, 2004 ÏÏÏÏÏÏÏÏÏÏÏÏ

1,024,050

Exercisable at December 31, 2003 ÏÏÏÏÏÏÏÏÏÏÏÏ

967,623

Weighted Average
Exercise Price

Option Price per
Share

4.83
5.90
2.33
7.72
Ì

$4.29
5.11
2.26
3.78
Ì

$4.57
5.90
3.95
4.51
Ì

$4.69

$4.71

$4.42

$3.91

$1.80 to $13.50
$ 2.73 to $6.30
$ 1.80 to $4.14
$1.80 to $13.50
Ì

$1.80 to $10.50
$ 4.50 to $6.63
$ 1.80 to $4.14
$ 1.80 to $6.30
Ì

$1.80 to $10.50
$
5.90
$ 1.80 to $6.30
$ 2.20 to $6.63
Ì

$1.80 to $10.50

The weighted average fair values of stock options granted during the year ended 2005, 2004 and 2003 was

$5.90, $5.11 and $5.90 per option granted, respectively.

The following table summarizes information relating to the Company's options outstanding and options

exercisable as of December 31, 2005.

Number
Outstanding at
12/31/05

Options Outstanding
Weighted Average
Remaining
Contractual Life

Options Exercisable

Number

Weighted Average
Exercise Price

Exercisable at Weighted Average

12/31/05

Exercise Price

Range of Exercise Prices

$1.80 to $2.73ÏÏÏÏÏÏÏÏ
$3.02 to $4.85ÏÏÏÏÏÏÏÏ
$5.30 to $10.50ÏÏÏÏÏÏÏ

265,199
311,483
532,543

$1.80 to $10.50ÏÏÏÏÏÏÏ

1,109,225

5.79
4.95
6.77

6.02

$1.86
$3.72
$6.66

$4.69

251,199
284,983
511,543

1,047,725

$1.83
$3.69
$6.69

$4.71

On February 10, 2005, the Company's Compensation Committee of the Board of Directors accelerated
the vesting on 151,976 unvested stock options, with an option price of $6.30, awarded to certain officers and
employees of the Company. These options were originally scheduled to vest in December 2005. The market
price of the Company's common stock at the close of business on February 10, 2005 was $5.61. The
Compensation Committee's decision to accelerate the vesting of these options was in response to the FASB's

F-24

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

issuance of Statement 123(R). By accelerating the vesting of these options, the Company was not required to
recognize any compensation expense related to these options.

In May 2003, certain employees of the Company elected to forfeit 452,500 options originally priced at

$7.06. These options were added back to the pool of options available to grant in May 2003.

11.

Income Taxes

The (benefit) provision for income taxes consists of the following (in thousands):

Year Ended December 31,
2004

2005

2003

Current:

Federal ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
State ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ (178)
513

$(2,720)
(264)

$1,243
249

Deferred:

(2,547)
(61)

561
153

1,341
265

$(2,273)

$(2,270)

$3,098

The provision for income taxes differed from the amounts computed by applying the U.S. federal income tax
rate to income before provision for income taxes as a result of the following (in thousands):

Year Ended December 31,
2004

2005

2003

Tax expense at federal statutory rates ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
State income tax expense, net of federal benefitÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Losses not deductible for federal income tax purposesÏÏÏÏÏÏÏÏÏÏÏ
Prior period federal and state income tax true-ups ÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$(2,593)
(426)
Ì
526
220

$(3,069)
(179)
933
Ì
45

$2,750
336
Ì
Ì
12

$(2,273)

$(2,270)

$3,098

A summary of the Company's deferred tax assets and liabilities, are as follows (in thousands):

December 31,

2005

2004

Deferred tax assets:

Tax basis in excess of book basis on assets acquired ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Net operating loss carryforward (expiring 2024) ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Fair value of treasury interest rate locks ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred gain on sales/leaseback transaction ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Investment in Partnership ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ Ì $4,788
1,638
Ì
Ì
Ì
3,166

4,273
2,881
1,548
1,807
3,296

Total deferred tax assets ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Deferred tax liabilities ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

13,805
4,997

9,592
1,939

Total deferred tax assets, net ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ 8,808

$7,653

F-25

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts
of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.
Management regularly evaluates the future realization of deferred tax assets and provides a valuation
allowance, if considered necessary, based on such evaluation. The ultimate realization of deferred tax assets is
dependent on the generation of future taxable income during the periods in which those temporary differences
become deductible. Management has considered its possible sources of future taxable income, including
various tax planning strategies that it believes are both prudent and feasible and that utilize net built-in gains
on the Company's appreciated assets. Based on its overall evaluation, management believes that it is more
likely than not that it will generate sufficient taxable income to realize the net deferred tax assets.

The Company has $11.2 million in net operating losses, which are being carried forward and expire in

2024.

12. Employee Benefit Plans

The Company has a 401(k) salary deferral plan (the ""Plan'') in which all employees of the Company
meeting minimum service and age requirements are eligible to participate. Contributions to the Plan are in the
form of employee salary deferrals, which are subject to employer matching contributions of up to 2% of the
employee's annual salary. The Company's contributions are funded semi-monthly to the Plan administrator.
Matching contributions of $0.3 million, $0.2 million and $0.2 million were contributed to the Plan in 2005,
2004 and 2003, respectively. The Company incurred administrative expenses related to the Plan of $10,000,
$21,000 and $17,000 in 2005, 2004 and 2003, respectively.

13. Contingencies

In the fourth quarter of 2002, the Company (and two of its management subsidiaries), Buckner
Retirement Services, Inc. (""Buckner''), and a related Buckner entity, and other unrelated entities were named
as defendants in a lawsuit in district court in Fort Bend County, Texas brought by the heir of a former resident
who obtained nursing home services at Parkway Place from September 1998 to March 2001. The Company
managed Parkway Place for Buckner through December 31, 2001. The Company and its subsidiaries denied
any wrongdoing. On March 16, 2004, the Court granted the Company's Motion to Dismiss.

F-26

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

brokerage fees. The proceeding is in the discovery phase. The Company's management believes strongly that
its position has merit and intends to vigorously defend the counterclaim.

14. Fair Value of Financial Instruments

The carrying amounts and fair values of financial instruments at December 31, 2005 and 2004 are as

follows (in thousands):

Cash and cash equivalentsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Restricted cash ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Interest Rate Lock ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Notes payable ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

2005

2004

Carrying
Amount

$21,831
973
7,550
260,534

Fair Value

$21,831
973
7,550
255,223

Carrying
Amount

$19,515
Ì
6,909
261,768

Fair Value

$19,515
Ì
6,909
264,591

The following methods and assumptions were used in estimating its fair value disclosures for financial

instruments:

Cash and cash equivalents and restricted cash: The carrying amounts reported in the balance sheet for

cash and cash equivalents approximate fair value.

Interest Rate Lock: The interest rate lock is adjusted to fair value with gains or losses recorded in the

Company's Statement of Operations.

Notes payable: The fair value of notes payable is estimated using discounted cash flow analysis, based

on current incremental borrowing rates for similar types of borrowing arrangements.

F-27

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

15.

Investments in Limited Partnerships

The investments in limited partnerships balance consists of the following (in thousands):

December 31,

2005

2004

BRE/CSL limited partnership interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
SHPII/CSL limited partnership interest ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

Ì
1,401

1,892
1,310

$1,401

$3,202

BRE/CSL: The Company formed BRE/CSL with an affiliate of Blackstone in December 2001 and
BRE/CSL is owned 90% by Blackstone and 10% by the Company. The Company accounted for its investment
in this joint venture under the equity method of accounting. The Company recorded its investment at cost and
adjusted its investment for its share of earnings and losses of BRE/CSL. The Company deferred 10% of its
management fee income earned from BRE/CSL. Deferred management fee income was being amortized into
income over the term of the Company's management contract. On September 30, 2005, BRE/CSL sold its six
communities to Ventas and the Company entered into the Ventas Lease Agreements whereby the Company
would lease the six communities from Ventas for an initial term of 10 years. As a result of this sale/leaseback
the Company received net proceeds of $6.1 million and recorded a gain of $4.2 million which has been
deferred and is being amortized into income over the initial 10 year lease term.

Spring Meadows/SHPII/CSL:

In December 2002, the Company acquired from affiliates of LCOR its
approximate 19% member interests in the four joint ventures which owned the Spring Meadows Communities
as well as loans made by LCOR to the joint ventures for $0.9 million in addition to funding $0.4 million for
working capital and anticipated negative cash requirements of the communities. The Company's interests in
the four joint ventures that owned the Spring Meadows Communities included interests in certain loans to the
ventures and an approximate 19% member interest in each venture. The Company recorded its initial
advances of $1.3 million to the ventures as notes receivable as the amount assigned for the 19% member
interests was nominal. The Company accounted for its investment in the Spring Meadows Communities under
the equity method of accounting based on the provisions of the partnership agreements and the Company
recognized a loss in the equity of the Spring Meadows Communities of $0.1 million for the year ended
December 31, 2004. The Company had the obligation to fund certain future operating deficits of the Spring
Meadows Communities to the extent of its 19% member interest. No amounts were funded by the Company
under this obligation.

In November 2004, the Company formed SHPII/CSL with Prudential. Effective as of November 30,
2004, SHPII/CSL acquired the Spring Meadows Communities which have a combined capacity of 698
residents. In connection with this acquisition the Company contributed $1.3 million for to SHPII/CSL for its
5% interest. The Company has managed the Spring Meadows Communities since the opening of each
community in late 2000 and early 2001 and continues to manage the communities under long-term
management contracts with SHPII/CSL. The Company accounts for its investment in SHPII/CSL under
the equity method of accounting and recorded its investment at cost and will adjust its investment for its share
of earnings and losses of SHPII/CSL. The Company defers 5% of its management fee income earned from
SHPII/CSL. Deferred management fee income is being amortized into income over the term of the
Company's management contract. As of December 31, 2005, the Company had deferred income of
approximately $48,000 relating to SHPII/CSL.

HCP: HCP is consolidated in the accompanying consolidated financial statements. At December 31,
2005, 2004 and 2003, the Company owned approximately 57% of HCP's limited partner units. HCP was
dissolved during 2003 and the net assets of HCP have been transferred to a liquidating trust.

F-28

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

16. Allowance for Doubtful Accounts

The components of the allowance for doubtful accounts and notes receivable are as follows (in

thousands):

Balance at beginning of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Provision for bad debtsÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Write-offs and other ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ
Recoveries ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

December 31,
2004

2003

$ 648
198
(193)
64

$1,343
168
(847)
(16)

2005

$ 717
258
(209)
3

Balance at end of year ÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏÏ

$ 769

$ 717

$ 648

17. Leases

The Company leases its corporate headquarters, an office in New York City and seven senior living
facilities under operating lease agreements. Additionally, the Company's senior living communities have
entered into various contracts for services for duration of 5 years or less and are on a fee basis as services are
rendered. The lease on the Company headquarters expires in February 2008. The Ventas Lease Agreements,
which cover the seven leased senior living facilities, each have an initial term of ten years, with two five year
renewal extensions available at the Company's option. The initial lease rate under the Ventas Lease
Agreements is 8% and is subject to certain conditional escalation clauses which will be recognized when
estimatable or incurred. The initial term on each of the leases expires in October 2015. The Company incurred
$1.5 million in lease acquisition costs related to the Ventas Lease Agreements. These deferred lease
acquisition costs are being amortized over the initial 10 year lease term and are included in facility lease
expense in the Company's statement of operations. The Company has accounted for each of the Ventas Lease
Agreements as operating leases. Rent expense under these leases was $2.6 million, $0.6 million and
$0.6 million for 2005, 2004 and 2003, respectively. Future commitments are as follows (in thousands):

$ 8,924
8,823
8,455
8,370
8,361
39,768

$82,701

18. Subsequent Events

On January 13, 2006, the Company announced the formation of a joint venture, Midwest Portfolio
Holdings, Inc. (""Midwest'') with GE Healthcare Financial Services (""GE Healthcare'') to acquire five
senior housing communities from a third party. Midwest agreed to pay approximately $46.9 million for the five
communities. The five communities comprise 293 assisted living units with a resident capacity of 389.
Effective February 1, 2006, Midwest acquired four of the five communities and expects to close on the fifth
community during the second quarter of fiscal 2006. The Company has an approximate 11% interest in
Midwest and manages the four communities already acquired under long-term management agreements with
Midwest.

F-29

CAPITAL SENIOR LIVING CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)

On March 6, 2005, the Company awarded 18,000 shares of restricted stock to certain employees of the
Company. The market value of the common stock on the date of grant was $10.40. These restricted shares
vest ratably over a four year period.

On March 8, 2006, the Company announced that it had entered into an agreement to sale three
communities owned by the Company to Healthcare Property Investor, Inc. (""HCPI'') in a sale/leaseback
transaction valued at approximately $54.0 million. The lease agreements will have an initial term of ten years.
The initial lease rate under the lease agreements will be 8% and will be subject to certain conditional
escalation clauses. The Company expects to account for this lease as an operating lease. The sale of the three
communities to HCPI is expected to result in the Company recording a gain of approximately $13.0 million,
which will be deferred and recognized in the Company's statement of operations over the initial 10 year lease
term.

F-30

INDEX TO EXHIBITS

The following documents are filed as a part of this report. Those exhibits previously filed and incorporated

herein by reference are identified below. Exhibits not required for this report have been omitted.

Exhibit
Number

Description

*3.1 Ì Amended and Restated Certificate of Incorporation of the Registrant (Exhibit 3.1)

(i)3.1.1 Ì Amendment to Amended and Restated Certificate of Incorporation of the Registrant

(Exhibit 3.1)

*3.2 Ì Amended and Restated Bylaws of the Registrant

(i)3.2.1 Ì Amendments to Amended and Restated Bylaws of the Registrant (Exhibit 3.2)

(v)3.2.2 Ì Amendment No. 2 to Amended and Restated Bylaws of the Registrant (Exhibit 3.2.2)

(aa)4.1 Ì Rights Agreement, dated as of March 9, 2000, between Capital Senior Living Corporation and
ChaseMellon Shareholder Services, L.L.C., which includes the form of Certificate of
Designation of Series A Junior Participating Preferred Stock, $.01 par value, as Exhibit A, the
form of Right Certificate as Exhibit B, and the Summary of Rights as Exhibit C (Exhibit 4.1)
4.2 Ì Form of Certificate of Designation of Series A Junior Participating Preferred Stock, $.01 par
value (included as Exhibit A to the Rights Agreement, which is Exhibit 4.1 hereto)

4.3 Ì Form of Right Certificate (included as Exhibit B to the Rights Agreement, which is

Exhibit 4.1 hereto)

4.4 Ì Form of Summary of Rights (included as Exhibit C to the Rights Agreement, which is

Exhibit 4.1 hereto)

4.5 Ì Specimen of legend to be placed, pursuant to Section 3(c) of the Rights Agreement, on all
new Common Stock certificates issued after March 20, 2000 and prior to the Distribution
Date upon transfer, exchange or new issuance (included in Section 3(c) of the Rights
Agreement, which is Exhibit 4.1 hereto)

(m)10.1 Ì 1997 Omnibus Stock and Incentive Plan for Capital Senior Living Corporation, as amended

(Exhibit 4.1)

(m)10.1.1 Ì Form of Stock Option Agreement (Exhibit 4.2)

*10.2 Ì Amended and Restated Employment Agreement, dated as of May 7, 1997, by and between

Capital Senior Living, Inc. and James A. Stroud (Exhibit 10.10)

*10.3 Ì Employment Agreement, dated as of November 1, 1996, by and between Capital Senior

Living Corporation and Lawrence A. Cohen (Exhibit 10.11)

*10.4 Ì Employment Agreement, dated as of November 26, 1996, by and between Capital Senior

Living, Inc. and David R. Brickman (Exhibit 10.12)

*10.5 Ì Employment Agreement, dated as of November 26, 1996, by and between Capital Senior

Living, Inc. and Keith N. Johannessen (Exhibit 10.13)

*10.6 Ì Engagement Letter, dated as of June 30, 1997, by and between Lehman Brothers Holdings
Inc. d/b/a Lehman Capital, A Division of Lehman Brothers Holdings Inc. and Capital Senior
Living Corporation (Exhibit 10.14)

*10.7 Ì Lease Agreement, dated as of June 1, 1997, by and between G&L Gardens, LLC, as lessor,

and Capital Senior Management 1, Inc., as lessee (Exhibit 10.15)

(a)10.8 Ì Amended and Restated Loan Agreement, dated as of December 10, 1997, by and between

Bank One, Texas, N.A. and Capital Senior Living Properties, Inc. (Exhibit 10.33)

(a)10.9 Ì Alliance Agreement, dated as of December 10, 1997, by and between LCOR Incorporated

and Capital Senior Living Corporation (Exhibit 10.34)

(b)10.10 ÌDraw Promissory Note, dated April 1, 1998, of Triad Senior Living I, L.P. in favor of Capital

Senior Living Properties, Inc. (Exhibit 10.39)

E-1

Exhibit
Number

Description

Capital Senior Living Properties, Inc. (Exhibit 10.1)

(d)10.12 ÌLoan Agreement, dated as of September 30, 1998, by and between Capital Senior Living
Properties 2-NHPCT, Inc. and Lehman Brothers Holdings Inc. d/b/a Lehman Capital, a
division of Lehman Brothers Holdings Inc. (Exhibit 2.3)

(e)10.13 ÌMultifamily Note, dated December 4, 1997, of Gramercy Hill Enterprises in favor of

Washington Mortgage Financial Group, Ltd. (Exhibit 2.5)

(e)10.14 ÌMultifamily Deed of Trust, dated December 4, 1997, among Gramercy Hill Enterprises, Ticor

Title Insurance Company and Washington Mortgage Financial Group, Inc. (Exhibit 2.5)

(e)10.15 ÌMultifamily Note, dated October 28, 1998, of Capital Senior Living Properties 2-Gramercy,

Inc. in favor of WMF Washington Mortgage Corp. (Exhibit 2.7)

(e)10.16 ÌMultifamily Deed of Trust, Assignment of Rents and Security Agreement, dated October 28,
1998, among Capital Senior Living Properties 2-Gramercy, Inc., Chicago Title Insurance
Company and WMF Washington Mortgage Corp. (Exhibit 2.8)

(f)10.17 ÌEmployment Agreement, dated as of December 10, 1996, by and between Capital Senior

Living, Inc. and Rob L. Goodpaster (Exhibit 10.50)

(f)10.18 ÌDraw Promissory Note dated November 1, 1998 of Triad Senior Living III, L.P., in favor of

Capital Senior Living Properties, Inc. (Exhibit 10.51)

(f)10.19 ÌDraw Promissory Note dated December 30, 1998 of Triad Senior Living IV, L.P., in favor of

Capital Senior Living Properties, Inc. (Exhibit 10.52)

(f)10.20 ÌForm of Development and Turnkey Services Agreement by and between Capital Senior

Development, Inc. and applicable Triad Entity (Exhibit 10.53)

(f)10.21 ÌForm of Development Agreement by and between Capital Senior Development, Inc. and

applicable Triad Entity (Exhibit 10.54)

(f)10.22 ÌForm of Management Agreement by and between Capital Senior Living, Inc. and applicable

Triad Entity (Exhibit 10.55)

(f)10.23 ÌAgreement of Limited Partnership of Triad Senior Living I, L.P. dated April 1, 1998

(Exhibit 10.56)

(f)10.24 ÌAgreement of Limited Partnership of Triad Senior Living II, L.P. dated September 23, 1998

(Exhibit 10.57)

(f)10.25 ÌAgreement of Limited Partnership of Triad Senior Living III, L.P. dated November 10, 1998

(Exhibit 10.58

(f)10.26 ÌAgreement of Limited Partnership of Triad Senior Living IV, L.P. dated December 22, 1998

(Exhibit 10.59)

(g)10.27 Ì1999 Amended and Restated Loan Agreement, dated as of April 8, 1999, by and among
Capital Senior Living Properties, Inc., Bank One, Texas, N.A. and the other Lenders signatory
thereto. (Exhibit 10.11)

(g)10.28 ÌAmended and Restated Draw Promissory note, dated March 31, 1999, of Triad Senior
Living I, L.P., in favor of Capital Senior Living Properties, Inc. (Exhibit 10.21)

(g)10.29 ÌAmended and Restated Draw Promissory Note (Fairfield), dated January 15, 1999, of Triad

Senior Living II, L.P., in favor of Capital Senior Living Properties, Inc. (Exhibit 10.3)

(g)10.30 ÌAmended and Restated Draw Promissory Note (Baton Rouge), dated January 15, 1999, of
Triad Senior Living II, L.P., in favor of Capital Senior Living Properties, Inc. (Exhibit 10.1)

(g)10.31 ÌAmended and Restated Draw Promissory Note (Oklahoma City), dated January 15, 1999, of
Triad Senior Living II, L.P., in favor of Capital Senior Living Properties, Inc. (Exhibit 10.51)

(h)10.32 ÌAmended and Restated Draw Promissory Note dated June 30, 1999 of Triad Senior Living I,

L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.1)

E-2

Exhibit
Number

Description

(h)10.33 ÌAmended and Restated Draw Promissory Note (Plano, Texas) dated January 15, 1999 of
Triad Senior Living II, L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.2)

(h)10.34 ÌLetter Agreement dated July 28, 1999 among the Company and ILM Senior Living, Inc. and

ILM II Senior Living, Inc. (Exhibit 10.3)

(i)10.35 ÌDraw Promissory Note dated July 1, 1999 of Triad Senior Living V, L.P. in favor of Capital

Senior Living Properties, Inc. (Exhibit 10.1)

(i)10.36 ÌFirst Amendment to Amended and Restated Employment Agreement of James A. Stroud,
dated March 22, 1999, by and between James A. Stroud and Capital Senior Living
Corporation (Exhibit 10.2)

(i)10.37 ÌSecond Amendment to Amended and Restated Employment Agreement of James A. Stroud,
dated May 31, 1999, by and between James A. Stroud and Capital Senior Living Corporation
(Exhibit 10.3)

(i)10.38 ÌEmployment Agreement, dated May 26, 1999, by and between Lawrence A. Cohen and

Capital Senior Living Corporation (Exhibit 10.4)

(j)10.39 ÌAgreement and Plan of Merger, dated February 7, 1999, by and among Capital Senior Living
Corporation, Capital Senior Living Acquisition, LLC, Capital Senior Living Trust I and ILM
Senior Living, Inc. (Exhibit 10.1)

(k)10.40 ÌAgreement and Plan of Merger, dated February 7, 1999, by and among Capital Senior Living
Corporation, Capital Senior Living Acquisition, LLC, Capital Senior Living Trust I and
ILM II Senior Living, Inc. (Exhibit 10.1)

(l)10.41 ÌAmended and Restated Agreement and Plan of Merger, dated October 19, 1999, by and
among Capital Senior Living Corporation, Capital Senior Living Acquisition, LLC and ILM
Senior Living, Inc. (Exhibit 10.1)

(m)10.42 ÌAmended and Restated Agreement and Plan of Merger, dated October 19, 1999, by and
among Capital Senior Living Corporation, Capital Senior Living Acquisition, LLC and ILM
II Senior Living, Inc. (Exhibit 10.1)

(o)10.43 ÌEmployment Agreement, dated May 25, 1999, by and between Ralph A. Beattie and Capital

Senior Living Corporation (Exhibit 10.76)

(o)10.44 ÌConsulting/Severance Agreement, dated May 20, 1999, by and between Jeffrey L. Beck and

Capital Senior Living Corporation (Exhibit 10.77)

(o)10.45 ÌSecond Amended and Restated Agreement of Limited Partnership of Triad Senior Living I,

L.P. (Exhibit 10.78)

(u)10.45.1 ÌAmendment No. 1 to Second Amended and Restated Agreement of Limited Partnership of

Triad Senior Living I, LP. (Exhibit 10.105)

(p)10.46 ÌForm of GMAC Loan Agreement, Promissory Note and Exceptions to Nonrecourse Guaranty

(Exhibit 10.1)

(p)10.47 ÌNewman Pool B Loan Agreement, Promissory Note and Guaranty (Exhibit 10.2)

(p)10.48 ÌNewman Pool C Loan Agreement, Promissory Note and Guaranty (Exhibit 10.3)

(p)10.49 ÌFirst Amendment to Triad II Partnership Agreement (Exhibit 10.4)

(p)10.50 ÌSecond Modification Agreement to the Bank One Loan Agreement (Exhibit 10.5)

(p)10.51 ÌAssignment of Note, Liens and Other Loan Documents between Fleet National Bank and

CSLI (Exhibit 10.6)

(q)10.52 Ì Second Amendment to Amended and Restated Agreement and Plan of Merger, dated

November 28, 2000 (Exhibit 10.1)

(q)10.53 Ì First Amendment to Agreement, dated November 28, 2000 (Exhibit 10.2)

E-3

Exhibit
Number

Description

(r)10.54 Ì Assignment of Partnership Interest, dated as of October 1, 2000, by and between Capital
Senior Living Properties, Inc., a Texas corporation, and Triad Senior Living, Inc., a Texas
limited partnership (Exhibit 82)

(r)10.55 Ì Assignment of Partnership Interest, dated as of October 1, 2000, by and between Capital
Senior Living Properties, Inc., a Texas corporation, and Triad Senior Living II, L.P., a Texas
limited partnership (Exhibit 88)

(r)10.56 Ì Assignment of Partnership Interest, dated as of October 1, 2000, by and between Capital
Senior Living Properties, Inc., a Texas corporation, and Triad Senior Living III, L.P., a Texas
limited partnership (Exhibit 89)

(r)10.57 Ì Assignment of Partnership Interest, dated as of October 1, 2000, by and between Capital
Senior Living Properties, Inc., a Texas corporation, and Triad Senior Living IV, L.P., a Texas
limited partnership (Exhibit 90)

(r)10.58 Ì Assignment of Partnership Interest, dated as of October 1, 2000, by and between Capital
Senior Living Properties, Inc., a Texas corporation, and Triad Senior Living V, L.P., a Texas
limited partnership (Exhibit 91)

(s)10.59 Ì BRE/CSL LLC Agreement (Exhibit 92)

(s)10.60 Ì BRE/CSL Management Agreement (Amberleigh) (Exhibit 93)

(s)10.61 Ì Third Modification Agreement to the Bank One Loan Agreement (Exhibit 94)

(s)10.62 Ì Fourth Modification Agreement to the Bank One Loan Agreement (Exhibit 95)

(s)10.63 Ì Third Amendment to Amended and Restated Employment Agreement of James A. Stroud,
dated May 31, 1999, by and between James A. Stroud and Capital Senior Living Corporation
(Exhibit 96)

(t)10.64 Ì Amendment to Amended and Restated Limited Liability Company Agreement of BRE/CSL
Portfolio L.L.C., dated as of June 13, 2002 among BRE/CSL Holdings L.L.C., Capital Senior
Living A, Inc. and Capital Senior Living Properties, Inc. (Exhibit 10.97)

(t)10.65 Ì Contribution Agreement dated December 31, 2001 between Capital Senior Living A, Inc. and

BRE/CSL Holdings L.L.C. (Exhibit 10.98)

(u)10.66 Ì Third Amendment to Promissory Note and Loan Agreement dated October 15, 2002 by and
between Capital Senior Living ILM Ì B, Inc. and Newman Financial Services, Inc. (New-
man Pool B loan) (Exhibit 10.99)

(u)10.67 Ì Third Amendment to Promissory Note and Loan Agreement dated October 15, 2002 by and
between Capital Senior Living ILM Ì C, Inc. and Newman Financial Services, Inc. (New-
man Pool C loan) (Exhibit 10.100)

(u)10.68 Ì Omnibus Modification Agreement dated September 25, 2002 by and between Capital Senior

Living Properties, Inc. and Bank One N.A. (Exhibit 10.101)

(u)10.69 Ì Support Agreement dated as of September 11, 2002 by and between Capital Senior Living,

Inc., Triad I, Triad II, Triad III, Triad IV and Triad V. (Exhibit 10.102)

(u)10.70 Ì Form of Amendments to Loan Agreement, Promissory Note, Mortgage and Guaranty
between GMAC and Capital entities owning Sedgwick, Canton Regency, and Towne Centre
property. (Exhibit 10.103)

(u)10.71 Ì Amended and Restated Account Control Agreement with GMAC Relating to the Sedgwick

property. (Exhibit 10.104)

(v)10.72 Ì Fourth Amendment to Amended and Restated Employment Agreement of James A. Stroud,
dated January 17, 2003 by and between James A. Stroud and Capital Senior Living
Corporation (Exhibit 10.105)

(v)10.73 Ì Second Amendment to the Employment Agreement of Lawrence A. Cohen, dated Janu-
ary 27, 2003 by and between Lawrence A. Cohen and Capital Senior Living Corporation
(Exhibit 10.106)

E-4

Exhibit
Number

Description

(v)10.74 Ì First Amendment to the Employment Agreement of Keith N. Johannessen, dated January 17,
2003 by and between Keith N. Johannessen and Capital Senior Living Corporation (Ex-
hibit 10.107)

(v)10.75 Ì First Amendment to the Employment Agreement of Ralph A. Beattie, dated January 21, 2003

by and between Ralph A. Beattie and Capital Senior Living Corporation (Exhibit 10.108)

(v)10.76 Ì Second Amendment to the Employment Agreement of David R. Brickman, dated January 27,
2003 by and between David R. Brickman and Capital Senior Living Corporation (Ex-
hibit 10.109)

(v)10.77 Ì Amended and Restated Draw Promissory Note, dated February 1, 2003, of Triad Senior
Living I, L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.110)

(v)10.78.1Ì Amended and Restated Draw Promissory Note (Fairfield), dated February 1, 2003, of Triad

Senior Living II, L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.111.1)

(v)10.78.2Ì Amended and Restated Draw Promissory Note (Oklahoma City), dated February 1, 2003, of
Triad Senior Living II, L.P. in favor of Capital Senior Living Properties, Inc. (Ex-
hibit 10.111.2)

(v)10.78.3Ì Amended and Restated Draw Promissory Note (Plano), dated February 1, 2003, of Triad

Senior Living II, L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.111.3)

(v)10.79 Ì Amended and Restated Draw Promissory Note, dated February 1, 2003, of Triad Senior

Living III, L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.112)

(v)10.80 Ì Amended and Restated Draw Promissory Note, dated February 1, 2003, of Triad Senior

Living IV, L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.113)

(v)10.81 Ì Amended and Restated Draw Promissory Note, dated February 1, 2003, of Triad Senior

Living V, L.P. in favor of Capital Senior Living Properties, Inc. (Exhibit 10.114)

(v)10.82 Ì Form of Partnership Interest Purchase Agreements, dated as of March 25, 2003, between
Capital Senior Living Properties, Inc. and the Triad Entities (with the exception of Triad I),
regarding the exercise of the Company's options to purchase the partnership interests in the
Triad Entities (with the exception of Triad I) owned by non-Company parties. (Ex-
hibit 10.115)

(v)10.83 Ì Assignment and Assumption Agreement, dated as of December 20, 2002, among LCOR
entities, Capital Senior Living Properties 4, Inc. and owners, regarding 4 Spring Meadows
Properties (Exhibit 10.116)

(v)10.84 Ì Form of Fourth Amended and Restated Limited Liability Company Agreement, dated as of
December 20, 2002, between Capital Senior Living Properties 4, Inc. and PAMI Senior
Living Inc. for each of the 4 Spring Meadows properties. (Exhibit 10.117)

(v)10.85 Ì Form of First Amended and Restated Management and Marketing Agreement, dated as of
December 20, 2002, between Capital Senior Living Inc. and owner for each of the 4 Spring
Meadows properties. (Exhibit 10.118)

(w)10.86 Ì Contribution Agreement dated June 30, 2003 between Capital Senior Living Properties, Inc.

and BRE/CSL Holdings II, L.L.C. (Exhibit 10.11)

(w)10.87 Ì BRE/CSL II L.L.C. Limited Liability Company Agreement. (Exhibit 10.2)

(y)10.88 Ì Third Amendment to the Employment Agreement of Lawrence A. Cohen. (Exhibit 10.1)

(z)10.89 Ì Stock Purchase Agreement dated July 30, 2004, by and between Capital Senior Manage-

ment 1, Inc. and the Covenant Group of Texas, Inc. (Exhibit 10.1)

(bb)10.90 Ì Amendment to Stock Purchase Agreement, dated August 17, 2004, by and between Covenant
Group of Texas, Inc. and Capital Senior Management 1, Inc. (Exhibit 10.1)

(bb)10.91 Ì Promissory Note, dated August 18, 2004, by Capital Senior Management 1, Inc. in favor of

Covenant Group of Texas, Inc. (Exhibit 10.2)

E-5

Exhibit
Number

Description

(bb)10.92 Ì Security Agreement, dated as of August 18, 2004, by and between Covenant Group of Texas,

Inc. and Capital Senior Management 1, Inc. (Exhibit 10.3)

(bb)10.93.1Ì Right of First Refusal Agreement, dated August 18, 2004, by and between Covenant Place of
Abilene, Inc. and Capital Senior Living Acquisition, LLC (Exhibit 10.4.1)

(bb)10.93.2Ì Schedule identifying substantially identical agreements to Exhibit 10.93.1 (Exhibit 10.4.2)

(bb)10.94.1Ì Option to Purchase, dated as of August 18, 2004, by and between Covenant Place of Abilene,

Inc. and Capital Senior Living Acquisition, LLC (Exhibit 10.5.1)

(bb)10.94.2Ì Schedule identifying substantially identical agreements to Exhibit 10.94.1 (Exhibit 10.5.2)

(cc)10.95 Ì Form of Restricted Stock Award Under the 1997 Omnibus Stock and Incentive Plan for

Capital Senior Living Corporation (Exhibit 10.1)

(dd)10.96 Ì Loan Agreement, dated as of December 29, 2004, by and between Triad Senior Living I, L.P.,
Triad Senior Living II, L.P., Triad Senior Living IV, L.P., Triad Senior Living V, L.P.,
Capital Senior Living A, Inc., Capital Senior Living ILM-B, Inc., and GMAC Commercial
Mortgage Corporation (Exhibit 10.96)

(dd)10.97 Ì Assignment, dated November 30, 2004, by and between LB Triad Inc. and Capital Senior

Living Properties, Inc. (Exhibit 10.97)

(dd)10.98 Ì Assignment of Partnership Interest, dated November 30, 2004, by Triad Senior Living, Inc. in

favor of Capital Senior Living Properties 5, Inc. (Exhibit 10.98)

(dd)10.99 Ì Termination and Mutual Release Agreement, dated as of November 30, 2004, by and between
Lehman Brothers Holdings Inc., d/b/a Lehman Capital, a division of Lehman Brothers
Holdings Inc., LB Triad Inc. and Capital Senior Living Corporation, Capital Senior Living
Properties, Inc. and Triad Senior Living I, L.P. (Exhibit 10.99)

(ee)10.100 Ì Master Lease Agreement, dated June 30, 2005, between Ventas Amberleigh, LLC and

Capital Senior Management 2, Inc. (Exhibit 10.1)

(ee)10.101 Ì Schedule identifying substantially identical agreements to Exhibit 10.100 (Exhibit 10.2)

(ff)10.102 Ì Loan Agreement, dated July 18, 2005, by Capital Senior Living Peoria, LLC and GMAC

Commercial Mortgage Bank (Exhibit 10.1)

(ff)10.103 Ì Schedule identifying substantially identical agreements to Exhibit 10.102 (Exhibit 10.2)

(gg)10.104 Ì Master Lease Agreement, dated October 18, 2005, between Ventas Georgetowne, LLC and

Capital Senior Management 2, Inc. (Exhibit 10.1)

(hh)10.105 Ì Contract of Acquisition, dated as of March 7, 2006, between Health Care Property Investors,
Inc. and Capital Senior Living Properties 2 Ì Crosswood Oaks, Inc., Capital Senior Living
Properties 2 Ì Tesson Heights, Inc. and Capital Senior Living Properties 2 Ì Veranda Club,
Inc. (Exhibit 10.1)

(hh)10.106 Ì Contract of Acquisition, dated as of March 7, 2006, between Texas HCP Holding, L.P. and

Capital Senior Living Acquisition, LLC (Exhibit 10.2)

(hh)10.107 Ì Agreement of Purchase and Sale of Real Property, dated March 10, 2006, by and between
Covenant Place of Abilene, Inc. and Capital Senior Living Acquisition, LLC (Exhibit 10.3)

(hh)10.108

Schedule identifying substantially identical agreements to Exhibit 10.107 (Exhibit 10.4)

(ii)21.1 Ì Subsidiaries of the Company

(ii)23.1 Ì Consent of KPMG LLP

(ii)23.2 Ì Consent of Ernst & Young LLP

(ii)31.1 Ì Certification of Chief Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a)
(ii)31.2 Ì Certification of Chief Financial Officer required by Rule 13a-14(a) or Rule 15d-14(a)

(ii)32.1 Ì Certification of Lawrence A. Cohen pursuant to Section 906 of the Sarbanes-Oxley Act of

2002.

E-6

Exhibit
Number

Description

(ii)32.2 Ì Certification of Ralph A. Beattie pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

Incorporated by reference to exhibit from the Registration Statement No. 333-33379 on Form S-1 filed
by the Company with the Securities and Exchange Commission.

(a)

Incorporated by reference to exhibit from the Company's Annual Report on Form 10-K for the year
ended December 31, 1997, filed by the Company with the Securities and Exchange Commission.

(b) Incorporated by reference to the exhibit from the Company's Quarterly Report on Form 10-Q for the
quarterly period ended March 31, 1998, filed by the Company with the Securities and Exchange
Commission.

(c)

Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended September 30, 1998, filed by the Company with the
Securities and Exchange Commission.

(d) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated September 30, 1998, filed by the Company with the Securities and Exchange
Commission.

(e)

(f)

(g)

Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated October 28, 1998, filed by the Company with the Securities and Exchange
Commission.

Incorporated by reference to the exhibit shown in parentheses from the Company's Annual Report on
Form 10-K for the year ended December 31, 1998, filed by the Company with the Securities and
Exchange Commission.

Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended March 31, 1999, filed by the Company with the Securities
and Exchange Commission.

(h) Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 1999, filed by the Company with the Securities and
Exchange Commission.

(i)

(j)

Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended September 30, 1999, filed by the Company with the
Securities and Exchange Commission.

Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated February 7, 1999, filed by the Company with the Securities and Exchange
Commission.

(k) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated February 7, 1999, filed by the Company with the Securities and Exchange
Commission.

(l)

Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated October 19, 1999, filed by the Company with the Securities and Exchange
Commission.

(m) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated October 19, 1999, filed by the Company with the Securities and Exchange
Commission.

(n) Incorporated by reference to the exhibit shown in parentheses from the Company's Registration
Statement on Form S-8, filed on December 3, 1999, by the Company with Securities and Exchange
Commission.

E-7

(o)

Incorporated by reference to the exhibit shown in parenthesis from the Company's Annual Report on
Form 10-K, dated March 30, 2000, filed by the Company with the Securities and Exchange
Commission.

(p) Incorporated by reference to the exhibit shown in parenthesis from the Company's Current Report on
Form 8-K, dated August 15, 2000, filed by the Company with the Securities and Exchange
Commission.

(q)

(r)

(s)

(t)

Incorporated by reference to the exhibit shown in parenthesis from the Company's Current Report on
Form 8-K, dated November 28, 2000, filed by the Company with the Securities and Exchange
Commission.

Incorporated by reference to the exhibit shown in parenthesis from the Company's Annual Report on
Form 10-K, dated March 20, 2001, filed by the Company with the Securities and Exchange
Commission.

Incorporated by reference to the exhibit shown in parenthesis from the Company's Annual Report on
Form 10-K, dated March 26, 2002, filed by the Company with the Securities and Exchange
Commission.

Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 2002, filed by the Company with the Securities and
Exchange Commission.

(u) Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended September 30, 2002, filed by the Company with the
Securities and Exchange Commission.

(v)

Incorporated by reference to the exhibit shown in parenthesis from the Company's Annual Report on
Form 10-K, dated March 26, 2003, filed by the Company with the Securities and Exchange
Commission.

(w) Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 2003, filed by the Company with the Securities and
Exchange Commission.

(x)

(y)

(z)

Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended September 30, 2003, filed by the Company with the
Securities and Exchange Commission.

Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended March 31, 2004, filed by the Company with the Securities
and Exchange Commission.

Incorporated by reference to the exhibit shown in parentheses from the Company's Quarterly Report on
Form 10-Q for the quarterly period ended June 30, 2004, filed by the Company with the Securities and
Exchange Commission.

(aa) Incorporated by reference to the exhibit of corresponding number from the Company's Current Report
on Form 8-K, dated March 9, 2000, filed by the Company with the Securities and Exchange
Commission

(bb) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated August 23, 2004, filed by the Company with the Securities and Exchange Commission

(cc) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated February 10, 2005, filed by the Company with the Securities and Exchange
Commission

(dd) Incorporated by reference to the exhibit shown in parentheses from the Company's Annual Report on
Form 10-K for the year ended December 31, 2004, filed with the Securities and Exchange Commission.

(ee) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K/A, dated June 30, 2005, filed by the Company with the Securities and Exchange
Commission on July 11, 2005.

E-8

(ff) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K/A, dated July 18, 2005, filed by the Company with the Securities and Exchange
Commission.

(gg) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K/A, dated October 18, 2005, filed by the Company with the Securities and Exchange
Commission.

(hh) Incorporated by reference to the exhibit shown in parentheses from the Company's Current Report on
Form 8-K, dated March 7, 2006, filed by the Company with the Securities and Exchange Commission.

(ii) Filed herewith.

E-9

TO OUR FELLOW SHAREHOLDERS:

Total Revenue

(in millions)

The significant accomplishments of

reduced the interest rate on the new loan amount by

2005 were a result of our experienced and dedicated

approximately 40 basis points and fixed it for 10 years.

$105.2

$93.3

team continuing to successfully execute on our long-

term strategy. These accomplishments strengthened

our capital structure, resulted in improved operating

performance and provided us with greater financial

We plan to complete refinancing activities for 15

additional communities in 2006 at fixed interest rates

that are about 200 basis points below current levels.

flexibility. The operating and financial improvements

As we move into 2006, our business plan is focused

we continue to achieve are converging with better

on providing significant income and asset growth

2004

2005

Operating Income

(in millions)

$11.

$6.7

industry fundamentals, lower capitalization rates and

continued attractive interest rates to form a solid

platform for future growth. These positive factors

are contributing to an active acquisitions market,

bringing opportunities which we believe will position

the Company for sustainable improvements in

cash flow and profitability.

There were three major initiatives that created

the platform for our success in 2005 and that are

moving us forward in 2006:

Maximizing the Value of our Communities.

At the end of 2005, we had achieved 92 percent

occupancy in our stabilized communities, enabling

us to begin capitalizing on our operating leverage.

As a result, revenues at our communities under man-

agement increased 6.3 percent, and our net income

grew 16.2 percent. Moving forward, we intend to

further enhance the value of our property portfolio

through increasing the assisted living capacity at

several communities and through additional ancil-

Sale/Leaseback Transactions. In October 2005, we

completed an approximate $85 million sale/leaseback

transaction with Ventas, Inc. of six communities

potential, maximizing our return on invested capital

and continuing to strengthen our balance sheet.

The keystones of this business plan are:

• pursue additional sale/leaseback transactions;

• continue to maximize the value of our communities;

• complete acquisitions through joint ventures as

well as REIT acquisitions and leasebacks; and

• increase revenue through management and

development fees from third parties.

We began 2006 with our January 13 announcement

of an initial acquisition of four communities through

a dynamic joint venture with GE Healthcare Financial

Services. With this transaction, Capital Senior Living

owns and/or operates 59 communities in 21 states

with a total capacity of 9,230 residents. Approximately

82 percent of these residents live independently,

approximately 16 percent require assistance with

activities of daily living and we provide skilled nursing

services for approximately 2 percent.

We believe 2006 holds great potential for Capital

Senior Living through the realization of our long-

term strategy supported by positive industry trends.

We look forward to sharing the results with you

and thank you for your ongoing support.

2004

2005

lary and supportive services.

Same Store Comparison

owned by our joint venture with affiliates of Black-

2004-2005 (percentage change)

stone Real Estate Advisors. In early 2006, we

16.2%

announced a second sale/leaseback transaction with

Ventas valued at approximately $29 million and a

Sincerely,

nine-property sale/leaseback transaction with Health-

care Property Investors, Inc., valued at approximately

$97 million. Through these and similar transactions,

we expect to reduce our overall borrowing and fix

the remaining debt at attractive rates, resulting in

well as generating gains for the Company.

Debt Improvement Initiative. We completed the

refinancing of four of our communities with GMAC

reduced interest expense and interest rate risk, as

Chairman of the Board

JAMES A. STROUD

Commercial Mortgage in July 2005. This increased

LAWRENCE A. COHEN

our available cash by approximately $4.6 million,

Chief Executive Officer