The nursing home market is highly fragmented, and according to the American Health Care Association, comprises approximately 16,000 facilities with approximately 1.7 million licensed beds as of June 2006. As of December 31, 2005, the five largest long-term healthcare companies combined controlled approximately 10% of these facilities.

It is believed that demand for long-term healthcare services will continue to grow due to an aging population and increased life expectancies. According to the U.S. Census Bureau, the number of Americans aged 65 or older is expected to increase from approximately 37 million in 2005 to approximately 40 million in 2010 and to approximately 47 million in 2015, representing average annual growth from 2005 of 1.9% and 2.5%, respectively. The number of Americans aged 85 and over is forecasted to more than double from 4.2 million in 2000 to 9.6 million by 2030.

According to the AARP Public Policy Institute, the 65 or older population in California and Texas is expected to grow from 2002 to 2020 by 79.5% and 74.6%, respectively, compared to the national average growth of 58.4% over this same period. It is expected that this growth in the elderly population will result in increased demand for services provided by long-term healthcare facilities in the United States, including skilled nursing facilities, assisted living facilities and in-patient rehabilitation facilities.

Despite this projected growth in demand for long-term healthcare services, there has been a decline in the number of nursing facility beds. According to the American Health Care Association, the total number of nursing facility beds in the United States has declined from approximately 1.8 million in December 2001 to approximately 1.7 million in June 2006.

The Company has two reportable operating segments — long-term care services, which includes the operation of skilled nursing and assisted living facilities and is the most significant portion of its business, and ancillary services — which includes its integrated and third party rehabilitation therapy and hospice businesses.

As of June 30, 2006, the Company provided skilled nursing care at 60 regionally clustered facilities, having 7,426 licensed beds, in California, Texas, Kansas, Missouri and Nevada. The Company has developed programs for and actively markets its services to high-acuity patients, who are typically admitted to its facilities as they recover from strokes, other neurological conditions, cardiovascular and respiratory ailments, single joint replacements and other muscular or skeletal disorders.

In December 2004, the Company introduced its Express Recovery program, which uses a dedicated unit within a skilled nursing facility to deliver a comprehensive rehabilitation regimen to high-acuity patients. Each Express Recovery unit is staffed separately from the rest of the skilled nursing facility and can typically be entered without using the main facility entrance, permitting residents to bypass portions of the facility dedicated to the traditional nursing home patient. Each Express Recovery unit typically has 12 to 36 beds and provides skilled nursing care and rehabilitation therapy for patients recovering from conditions such as joint replacement surgery, and cardiac and respiratory ailments.

As of June 30, 2006, the Company provided physical, occupational and speech therapy services to each of its 60 skilled nursing facilities and to approximately 93 third-party facilities through its Hallmark Rehabilitation subsidiary. The Company provides rehabilitation therapy services at its skilled nursing facilities as part of an integrated service offering in connection with its skilled nursing care.

The Company provides hospice services in California and Texas through its Hospice Care of the West business. Hospice services focus on the physical, spiritual and psychosocial needs of both terminally ill individuals and their families and consist of palliative and clinical care, education and counseling.

Operating expenses increased by $24.2 million, or 14.5%, to $190.7 million in the six months ended June 30, 2006 from $166.5 million in the six months ended June 30, 2005.

Depreciation and amortization increased by $2.2 million, or 45.9%, to $7.2 million in the six months ended June 30, 2006 from $5.0 million in the six months ended June 30, 2005.

Interest expense, net of interest income and other, increased by $11.4 million, or 106.4%, to $22.2 million in the six months ended June 30, 2006 from $10.8 million in the six months ended June 30, 2005.

Net income decreased by $25.0 million, or 76.1%, to $7.8 million for the six months ended June 30, 2006 from $32.8 million for the six months ended June 30, 2005.