ALTERRA HEALTHCARE CORPORATION AND SUBSIDIARIES
(Debtor-in-Possession)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

      These interim unaudited Consolidated Financial Statements have been prepared on a going concern basis, which assumes continuity of operations and realization of assets and satisfaction of liabilities in the ordinary course of business, and in accordance with SOP 90-7, "Financial Reporting by Entities in Reorganization under the Bankruptcy Code" ("SOP 90-7"). Accordingly, all pre-petition liabilities subject to compromise are segregated in the unaudited Consolidated Balance Sheets and classified as liabilities subject to compromise and are reported on the basis of the expected amount of the allowed claims in accordance with Statement of Financial Accounting Standards ("SFAS") No. 5, "Accounting for Contingencies." Liabilities not subject to compromise (such as secured liabilities and post petition liabilities) are separately classified as current and non-current. Revenues, expenses, realized gains and losses, interest income and provisions for losses resulting from the reorganization are reported separately as Reorganization items, net, except for those required to be reported as discontinued operations in conformity with SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS No 144"). Cash used for reorganization items is disclosed separately in the Consolidated Statements of Cash Flows. Additionally, interest expense accrued subsequent to the bankruptcy filing that is deemed to be impaired and unlikely to be paid is excluded from the financial statements.

      These interim unaudited Consolidated Financial Statements include the accounts of Alterra Healthcare Corporation ("Alterra" or the "Company") and our majority owned subsidiaries. All significant intercompany accounts have been eliminated in consolidation. In our opinion, all adjustments (consisting only of normal recurring items) necessary for a fair presentation of these Consolidated Financial Statements have been included. The results of operations for the three and nine months ended September 30, 2003 are not necessarily indicative of the results to be expected for the full fiscal year. As the accompanying Consolidated Financial Statements do not include all information and notes necessary for a complete presentation of financial position, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America, they should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K, for the year ended December 31, 2002, as amended.

      In February 2001 our overall cash position had declined to a level which we believed to be insufficient to operate the Company. Accordingly, in February 2001 we retained financial advisors and special reorganization counsel to assist us in evaluating alternatives to restore financial viability. To conserve cash and protect the financial integrity of our operations, beginning in March 2001 we elected not to make selected scheduled debt service and lease payments, of which $2.8 million remains unpaid as of September 30, 2003. As a result, we are in default under several of our principal credit facilities.

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

      The principal components of our Restructuring Plan are the disposition of selected assets and the restructuring of our capital structure, including our "senior capital" constituencies comprised principally of our secured indebtedness and leases (operating and capital), our "junior capital" constituencies comprised principally of our convertible pay-in-kind (PIK) debentures, our other convertible subordinated debentures and our equity capitalization, and our remaining joint venture relationships. Discussions with various senior capital structure constituencies commenced in the spring of 2001, and have resulted in a number of restructuring agreements with lenders and lessors with respect to individual credit and lease facilities.

      On January 22, 2003 (the "Petition Date"), we filed a voluntary petition with the Bankruptcy Court to reorganize under Chapter 11 of the Bankruptcy Code (the "Bankruptcy" or the "Bankruptcy Case") under case number 03-10254 (the "Chapter 11 Filing"). None of our subsidiaries or affiliates are included in the Chapter 11 Filing. We believe that our Chapter 11 Filing is an appropriate and necessary step to conclude the reorganization initiatives commenced in 2001. The focus of our restructuring efforts in 2001 and 2002 has been portfolio rationalization and the restructuring of our senior financing obligations with our secured lenders and lessors. We believe the Bankruptcy will allow us to complete the restructuring of our senior financing obligations and to commence and complete the restructuring of our junior capital structure, which includes unsecured obligations and claims, our convertible subordinated debentures and our preferred and common stock.

      At "first day" Bankruptcy hearings held on January 24, 2003, the Bankruptcy Court entered orders granting us authority, among other things, to pay pre-petition and post-petition employee wages, salaries, benefits and other employee obligations, pay pre-petition claims of certain vendors critical to the ongoing operations of the Company, pay pre-petition refunds to residents and continue the existing resident program. We remain in possession of our assets and properties and continue to operate our business as a "debtor-in-possession" under the jurisdiction of the Bankruptcy Court and in accordance with the applicable provisions of the Bankruptcy Code and the orders of the Bankruptcy Court.

      In conjunction with our Chapter 11 Filing, we secured a $15.0 million debtor-in-possession ("DIP") credit facility from affiliates of certain principal holders of the Company's pay-in-kind securities issued in the summer of 2000. The Bankruptcy Court issued an order approving our borrowing up to $6.5 million under the DIP credit facility on an interim basis on January 24, 2003. On April 9, 2003, the Court issued final approval authorizing the Company to borrow up to the entire $15.0 million of DIP financing, of which $13.7 million has been borrowed as of September 30, 2003. We have incurred $4.3 and $10.8 million in reorganization costs for the three and nine months ended September 30, 2003. These reorganization costs include legal, financial advisory, other professional fees and key employee retention program (the "KERP") and executive bonus accruals incurred in relation to the reorganization.

      Under the Bankruptcy Code, actions to collect pre-petition indebtedness, as well as most other pending litigation, are stayed and other contractual pre-petition obligations against the Company generally may not be enforced. Unless otherwise addressed during the pendency of the Bankruptcy Case, substantially all pre-petition liabilities are expected to be discharged and/or treated pursuant to the terms of our plan of reorganization, which will need to be voted upon by appropriate creditor constituencies and approved by the Bankruptcy Court.

      Under the Bankruptcy Code, we may assume or reject executory contracts and unexpired leases, subject to the approval of the Bankruptcy Court and our satisfaction of certain other requirements. In the event we choose to reject an executory contract or unexpired lease, parties affected by these rejections may file claims as prescribed by the Bankruptcy Code and/or orders of the Bankruptcy Court. Unless otherwise agreed, the assumption of an executory contract or unexpired lease will require the Company to cure all prior monetary defaults under such executory contract or lease, including all pre-petition liabilities. In this regard, we expect that liabilities that will be classified as "subject to compromise" through the Chapter 11 process may arise in the future as a result of the rejection of additional executory contracts and/or unexpired leases, and from the determination of the Bankruptcy

      On February 4, 2003, the Office of the U.S. Trustee for the District of Delaware appointed an official committee of unsecured creditors in our Bankruptcy Case. This committee often takes positions on matters that come before the Court, and is a party with whom the Company has discussed the terms of our plan of reorganization. There can be no assurance that this committee will support the Company's positions in the bankruptcy proceedings or the Company's plan of reorganization. In addition, delays regarding both the progress of the case and confirmation of any plan of reorganization may occur based upon issues that could be raised by any of the various creditor constituencies in the case.

      On March 18, 2003 we filed with the Bankruptcy Court schedules of assets and liabilities and statement of financial affairs setting forth, among other things, the assets and liabilities as shown by our books and records at that date, subject to the assumptions contained in certain notes filed in connection therewith. All of the schedules and the statements of financial affairs are subject to further amendment and modification. Pursuant to an order of the Court, we mailed notices to all known creditors identifying the deadline to file proofs of claim with the court-appointed claims agent, Bankruptcy Services, LLC, as July 8, 2003. An estimated 3,700 claims were filed as of July 8, 2003 in response to the approximately 210,000 notices sent. Differences between amounts scheduled by the Company and claims by creditors will be investigated and resolved in connection with our claims resolution process. The ultimate number and amount of allowed claims is not presently known, and because the treatment of such allowed claims will be subject to the terms of a confirmed plan of reorganization, the ultimate distribution with respect to allowed claims is not presently ascertainable.

      On March 27, 2003, we filed with the Bankruptcy Court a Plan of Reorganization (as amended, the "Plan") and a Disclosure Statement Accompanying Plan of Reorganization (the "Disclosure Statement"). Immediately prior to the filing of our Plan and Disclosure Statement, we also filed a motion (the "Bidding Procedures Motion") with the Bankruptcy Court seeking approval of bidding procedures with respect to the solicitation and selection of a transaction contemplating either (i) the sale of capital stock of the reorganized Alterra to be effective and funded upon the confirmation and effectiveness of our Plan (an "Exit Equity Transaction") or (ii) the sale, as a going concern, of all or substantially all of the assets of Alterra to be effective and funded upon the confirmation and effectiveness of our Plan (an "Asset Sale Transaction," together with an Exit Equity Transaction, referred to herein as a "Liquidity Transaction"). The Bankruptcy Court approved our bidding procedures on April 10, 2003.

      On July 17, 2003, we conducted an auction to identify the highest and best transaction available to provide for the liquidity needs of the Company as it emerges from Chapter 11, and to maximize the recovery to the Company's creditors. FEBC-ALT Investors Inc. (together with its assignee, FEBC-ALT Investors LLC, "FEBC") was the winning bidder, proposing a merger transaction pursuant to which FEBC will acquire all of the equity interests in Alterra (the "Merger"). We understand that FEBC will be capitalized with $78.0 million (subject to increase based upon FEBC's aggregate transaction costs), including (i) a $15.0 million senior loan to FEBC from an affiliate of Fortress Investment Trust II LLC ("Fortress"), a private equity fund, and (ii) $63.0 of aggregate equity contributions. Fortress will provide approximately 78% of the equity investment to FEBC and will be entitled to appoint a majority of the directors of reorganized Alterra. Emeritus Corporation and NW Select LLC will provide the remaining equity capital to FEBC and will each be entitled to appoint one Alterra director.

      On July 22, 2003, we executed an Agreement and Plan of Merger ("Merger Agreement") with FEBC, pursuant to which FEBC will acquire 100% of the common stock of the Company upon emergence from the Chapter 11 bankruptcy proceeding. Pursuant to the Merger Agreement, FEBC will pay the Company $76.0 million of merger consideration, which may be adjusted downward in certain circumstances. The merger consideration will be used (i) to fund costs of the Company's bankruptcy and reorganization and to provide for the working capital and other cash needs of the restructured Company and (ii) to fund a distribution to the Company's unsecured creditors. The consummation of the Merger is subject to the satisfaction of numerous conditions, including without limitation confirmation of the Company's Chapter 11 plan of reorganization by the Bankruptcy Court, receipt of consents and approvals from certain of the Company's secured lenders and lessors and compliance with applicable state and local

      On July 23, 2003, we presented FEBC's Merger proposal as the winning bid at a Bankruptcy Court hearing in accordance with the court-approved bidding procedures. Following the hearing, the Bankruptcy Court entered an order authorizing the Company to execute the Merger Agreement and approving the proposed Merger as the highest and best bid at the auction conducted by the Company on July 17, 2003.

      We have filed an amended plan of reorganization and an amended disclosure statement with the Bankruptcy Court to incorporate the terms and conditions of the Merger. The amended disclosure statement, voting procedures, solicitation package and ballot forms were approved by the Bankruptcy Court on September 15, 2003. Ballots were mailed Saturday, September 20, 2003, to those eligible to vote on the amended plan of reorganization. The deadline to return ballots was October 17, 2003, although the Company has requested permission from the Bankruptcy Court to accept ballots and changed ballots submitted subsequent to the original voting deadline. There can be no assurance that our Plan will be confirmed by the Court or consummated. If our Plan is not accepted by the required number of creditors and equity holders, and the Court either terminates or refuses to extend the Company's exclusive right to file and prosecute a Chapter 11 plan, any party in interest may subsequently file its own plan of reorganization. A plan of reorganization must be confirmed by the Bankruptcy Court, upon certain findings being made by the Bankruptcy Court as required by the Bankruptcy Code. The Bankruptcy Court may confirm a plan notwithstanding the non-acceptance of the plan by an impaired class of creditors or equity holders if certain requirements of the Bankruptcy Code are met.

      A confirmed plan of reorganization could materially change the amounts reported in the financial statements, which do not give effect to all adjustments of the carrying value of assets or liabilities that might be necessary as a consequence of a plan of reorganization. At this time, it is not possible to predict the effect of the Chapter 11 reorganization on our business, various creditors and security holders or when we will be able to emerge from the Bankruptcy Case.

      The principal components of our restructuring efforts to date and the further restructuring contemplated by our Plan are summarized below.

      Portfolio Rationalization. The Restructuring Plan called for the disposition of 143 of our residences (collectively, the "Disposition Assets") that we determined to be non-strategic for one or more of a variety of reasons, of which 119 residences representing 5,338 resident capacity have either been sold or transferred to a new lessee as of September 30, 2003. In addition, we sold 21 land parcels and transitioned ownership of 12 residences through deed-in-lieu of foreclosure transactions. The disposition of the residences included in the Disposition Assets has been accomplished primarily by actively working with the lenders and lessors to identify new operators and selling assets through an organized sales process. During the nine months ended September 30, 2003 we recognized a loss on disposal of $35.0 million, including a loss of $9.0 million in continuing operations and a loss of $26.0 million in discontinued operations, relating to the disposition of 23 residences and the sale leaseback of 25 residences. Additionally, an impairment loss of $5.2 million, which represents the difference between seven residences' carrying value and the residences' estimated fair value less cost to sell, is included in discontinued operations for the nine months ended September 30, 2003. As of September 30, 2003, approximately $46.0 million is reserved for losses relating to future asset sales, lease terminations and joint venture settlements. A condition to our disposing of the remaining Disposition Assets will be obtaining the consent of the applicable lender or lessor and, in certain cases, the consent of the applicable joint venture partner.

      Restructuring of Our Senior Indebtedness and Leases. The Company has a complex senior capital structure, comprised of more than ten significant multi-residence secured credit facilities and six significant portfolios of operating residences that are leased from real estate investment trusts (REITs). Many of our secured credit facilities are structured to incorporate various so-called "bankruptcy-remote" features (i.e., structures designed to improve the applicable lender's rights and leverage in the event of a bankruptcy of the parent company, Alterra),

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

      Secured Lender Negotiations. At the outset of our restructuring, management sought to restructure secured loan facilities that, in management's view, would generate significant deficiency claims (i.e., claims in excess of the value of the applicable mortgage portfolio) in the event the applicable lenders sought to call the loan and foreclose on their collateral. Five credit facilities, representing $221.8 million in aggregate financing at September 30, 2003 (secured by mortgages on 35 residences with an aggregate capacity of 2,702 beds) represent, in our view, significant potential deficiency claims in the range of $76.8 million to $99.1 million. In these negotiations, we sought to limit or eliminate these potential deficiency claims against the Company in exchange for our agreement to cooperate with the applicable lenders to facilitate an orderly transition of ownership (and, in certain cases, management) of the mortgaged residences to the lenders or their designees (through deed-in-lieu of foreclosure transactions or so-called friendly foreclosures). In transitioning ownership of the mortgaged residences to the lenders, we offered to provide interim management services to the lenders with respect to the mortgaged residences. During 2002, we executed definitive agreements of this type with three different lender groups with regard to three "impaired" credit facilities, originally representing $104.2 million of financing secured by 31 residences with an aggregate capacity of 1,520 beds. As a result of refinancings, asset sales and foreclosures during 2002 and 2003, $6.8 million of this indebtedness secured by mortgages on two residences is remaining at September 30, 2003. Additionally, $19.0 million of indebtedness associated with assets previously disposed of as part of the three executed definitive agreements, but which are pending final release from the applicable lender, is also remaining at September 30, 2003.

      In May 2002, one significantly "impaired" lender group that provided $171.0 million in aggregate financing (secured by mortgages on 26 residences with an aggregate capacity of 2,154 beds) caused title to all of the stock of our subsidiary that operated these mortgaged residences to be transferred to a third party. Accordingly, we no longer own these residences, although we do currently serve as interim manager for this lender group. As a result of the stock transfer, these residences are no longer consolidated and operations related to these residences through May 31, 2002 are reported as discontinued operations. We have accrued $58.5 million related to our estimated liability associated with our guaranty (including payment of the termination fee due upon full payment of the mortgage obligations). Such liability is included in liabilities subject to compromise at September 30, 2003. The liability associated with our guaranty obligation was calculated as the difference between the fair market value of the assets and the underlying mortgage obligations.

      In January 2003, we entered into agreements with this lender group pursuant to which: (i) we have agreed to manage these 26 residences on an interim basis without a management fee, and to cooperate in transitioning management to any successor manager appointed by the credit participants, and (ii) the Company is entitled to be released of its guaranty and other principal obligations (with the exception of certain environmental indemnities) under this financing structure upon the satisfaction of certain conditions, including the payment of $5.7 million of fees to the credit participants on or prior to the confirmation of a plan of reorganization in our Bankruptcy Case. In filings made with the Bankruptcy Court, representatives of these credit participants have alleged that the aggregate obligation of Alterra to obtain the release of this deficiency claim is approximately $10.3 million, not $5.7 million. We dispute this interpretation of the settlement agreement. If we are unable to enforce the terms of the settlement agreement in the manner that we believe the parties intended and are otherwise unable to resolve this dispute, we do not intend to assume this settlement agreement in connection with the completion of our Bankruptcy Case. If this settlement agreement is not given effect, the credit participants for this lender group will have a large unsecured deficiency claim, which could substantially reduce the funds available for distribution to other unsecured creditors pursuant to our Plan.

      In addition to these impaired credit facilities, we are continuing to seek to negotiate amendments and waivers with the applicable lenders with respect to our other principal secured credit facilities in order to, depending on the specific case, reset covenants, obtain consent to sell certain mortgaged residences, secure waivers of prior defaults and, in certain cases, to extend scheduled maturities. These credit facilities represent $279.9 million of financing secured by an aggregate of 87 residences with an aggregate capacity of 4,243 beds as of September 30, 2003. Discussions with certain of these lenders have commenced, and as of September 30, 2003 we have executed definitive binding agreements with lenders with respect to $101.3 million of indebtedness secured by 36 residences with an aggregate capacity of 1,689 beds, providing for, among other things, extensions of debt maturities, waivers of prior defaults and amendments of certain covenants. In February 2003 we sold 25 residences with an aggregate capacity of 894 beds, extinguished the related debt, and leased back the facilities under an operating lease agreement. We also refinanced $6.9 million of debt secured by 6 residences with a capacity of 182 beds. As a result of this debt extinguishment and refinancing, we recognized a gain on debt extinguishment of $12.7 million during the quarter ended March 31, 2003.

      In July 2003, we negotiated settlement agreements with one lender group, holding $23.3 million of indebtedness secured by mortgages on seven residences with an aggregate capacity of 350 beds. Pursuant to these agreements, we agreed to cooperate with the lender to facilitate an orderly transition of ownership and management of the mortgaged residences to the lender or their designee through a deed-in-lieu of foreclosure transaction. In transitioning ownership of the mortgaged residences to the lender, we offered to provide interim management services to the lender with respect to the mortgaged residences through August 2003. In exchange for our cooperation and management services, the lender has agreed to release any potential deficiency claims. As of July 31, 2003, all seven residences have been transitioned to a new operator, with a corresponding loss of $24.1 million recognized in discontinued operations pending final debt release. In the period in which final debt release is obtained, we will recognize a gain on debt extinguishment of $24.1 million.

      We anticipate that we will need to negotiate restructuring agreements and to secure waivers and amendments with certain of our secured lenders as a condition to confirming our Plan and consummating the Merger.

     REIT Lessor Negotiations. At September 30, 2003, we had six multi-residence portfolios leased from various REITs, including those assets refinanced in February 2003. These portfolios include an aggregate of 225 residences with an aggregate capacity of 9,609 beds. We have entered into restructuring agreements with respect to all of the five multi-residence lease portfolios existing prior to February 2003. These restructurings included the amendment of certain lease covenants and terms and, in three lease facilities, the conversion of individual leases into single master leases. The cash rent due under one lease facility was modified through the application of various deposits held by the landlord to satisfy a portion of the cash rent obligation in the early years of the restructured master lease.

      Restructuring of Junior Capital Structure. As of September 30, 2003, the Company's junior capital structure is comprised of unsecured debt of approximately $458.1 million and equity capitalization consisting of $6.2 million aggregate principal amount of 9.75% Series A Cumulative Convertible Preferred Stock due May 30, 2007 (the "Series A Stock") and 22.2 million shares of Common Stock. The principal components of the Company's unsecured indebtedness as of September 30, 2003 (amounts exclude accrued but unpaid interest) include:

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

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

     As a result of several notices of default received by the Company with respect to secured indebtedness that by its terms may be accelerated by the applicable lenders, neither we nor the applicable indenture trustees for the Subordinated Debentures are permitted by the subordination provisions of the indentures governing the respective Subordinated Debentures to make any payment or distribution on account of the Subordinated Debentures (other than the payment of PIK coupons on the PIK Debentures). As a result, we did not make cash interest payments on the Original Debentures in 2001, 2002 and 2003 of $5.5 million, $11.0 million and $11.0 million, respectively. In the event that the Company is dissolved, liquidated or reorganized, all amounts due in payment of the Company's "senior indebtedness" must be paid or provided for before any payment may be made on account of the Subordinated Debentures.

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

• All obligations relating to the PIK Debentures ($253.9 million including accrued and unpaid PIK dividends at September 30, 2003) would be required to be paid in full before any liquidation proceeds are distributed to the holders of our Original Debentures;