Emeritus 10-Q 2008 Q2 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

______________________

FORM 10-Q

(Mark One)
x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
	THE SECURITIES EXCHANGE ACT 1934

For the quarterly period ended June 30, 2008

o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
	THE SECURITIES EXCHANGE ACT OF 1934

Commission file number   1-14012

EMERITUS CORPORATION

(Exact name of registrant as specified in its charter)

WASHINGTON	91-1605464
(State or other jurisdiction	(I.R.S Employer
of incorporation or organization)	Identification No.)

3131 Elliott Avenue, Suite 500

Seattle, WA 98121

(Address of principal executive offices)

(206) 298-2909

(Registrant’s telephone number, including area code)

____________________________

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. YesþNoo

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated fileroAccelerated filerþNon-accelerated fileroSmaller reporting company o

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YesoNoþ

As of July 31, 2008, there were 39,076,593 shares of the Registrant’s Common Stock, par value $0.0001, outstanding.

EMERITUS CORPORATION
Table of Contents
Part I.  Financial Information
			Page No.
Item 1.  Financial Statements (unaudited):			1
		Condensed Consolidated Balance Sheets as of June 30, 2008, and December 31, 2007	2
		Condensed Consolidated Statements of Operations for the three months and six months ended June 30, 2008 and 2007	3
		Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2008 and 2007	4
		Notes to Unaudited Condensed Consolidated Financial Statements	5
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		18
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		38
Item 4.	Controls and Procedures		38
Part II.  Other Information
Note:	Items 2, 3, and 5 of Part II are omitted because they are not applicable.
Item 1.	Legal Proceedings		39
Item 1A.	Risk Factors		39
Item 4.	Submission of Matters to a Vote of Security Holders		39
Item 6.	Exhibits		39
	Signature		41
	Index to Exhibits		42

PART I. Financial Information

Item 1.  Financial Statements (unaudited)

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1

EMERITUS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
ASSETS
	June 30,			December 31,
	2008			2007
	(unaudited)
Current Assets:
Cash and cash equivalents	$	37,205		$	67,710
Restricted cash in escrow		10,782			-
Short-term investments		2,231			2,453
Trade accounts receivable, net of allowance of $1,010 and $995		4,970			6,383
Other receivables		7,122			11,510
Tax, insurance, and maintenance escrows		21,544			18,566
Prepaid workers' compensation		19,498			18,224
Other prepaid expenses		9,099			10,744
Property held for sale		15,123			–
Total current assets		127,574			135,590
Long-term investments		6,928			4,749
Property and equipment, net of accumulated depreciation of $124,247 and $179,620		1,633,857			1,418,152
Construction in progress		17,978			12,694
Restricted deposits		18,206			19,808
Lease and contract acquisition costs, net of amortization of $56,058 and $32,463		30,707			67,227
Goodwill		71,642			70,659
Other intangible assets, net of amortization of $9,863 and $3,944		136,855			142,774
Other assets, net		24,231			13,827
Total assets	$	2,067,978		$	1,885,480
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Current portion of long-term debt	$	24,270		$	22,613
Current portion of capital lease and financing obligations		10,043			23,774
Current portion of convertible debentures		10,455			10,455
Trade accounts payable		6,222			7,844
Accrued employee compensation and benefits		41,200			35,815
Accrued interest		5,751			4,527
Accrued real estate taxes		8,843			7,715
Accrued professional and general liability		14,790			13,545
Accrued income taxes		4,480			5,377
Other accrued expenses		11,698			10,610
Deferred revenue		12,702			10,446
Unearned rental income		14,526			14,302
Total current liabilities		164,980			167,023
Long-term debt, less current portion		1,231,520			711,664
Capital lease and financing obligations, less current portion		224,269			497,039
Deferred gain on sale of communities		5,072			21,259
Deferred rent		10,461			6,231
Other long-term liabilities		20,974			23,757
Total liabilities		1,657,276			1,426,973
Commitments and contingencies
Shareholders' Equity (Deficit):
Preferred stock, $.0001 par value. Authorized 20,000,000 shares, none issued
Common stock, $.0001 par value. Authorized 100,000,000 shares; issued and outstanding
39,074,693 and 39,030,597 shares at June 30, 2008, and December 31, 2007, respectively		4			4
Additional paid-in capital		717,593			714,258
Accumulated other comprehensive income		62			–
Accumulated deficit		(306,957	)		(255,755	)
Total shareholders' equity		410,702			458,507
Total liabilities and shareholders' equity	$	2,067,978		$	1,885,480

See accompanying Notes to Unaudited Condensed Consolidated Financial Statements

2

EMERITUS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
(In thousands, except per share data)
	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2008			2007			2008			2007
Revenues:
Community revenue	$	185,705		$	107,137		$	370,442		$	213,958
Management fees		1,223			930			2,382			1,807
Total operating revenues		186,928			108,067			372,824			215,765
Expenses:
Community operations (exclusive of depreciation and amortization
and facility lease expense shown separately below)		119,526			67,094			240,612			134,972
General and administrative		14,731			11,221			29,342			21,336
Depreciation and amortization		29,451			14,294			60,355			28,624
Facility lease expense		22,313			7,317			44,629			17,450
Total operating expenses		186,021			99,926			374,938			202,382
Operating income (loss) from continuing operations		907			8,141			(2,114	)		13,383
Other income (expense):
Interest income		581			599			1,435			1,182
Interest expense		(22,741	)		(16,801	)		(43,783	)		(30,333	)
Change in fair value of interest rate swaps		972			-			135			-
Equity gains (losses) in unconsolidated joint ventures		665			7,065			(857	)		6,496
Other, net		(580	)		742			(172	)		28
Net other expense		(21,103	)		(8,395	)		(43,242	)		(22,627	)
Loss from continuing operations before income taxes		(20,196	)		(254	)		(45,356	)		(9,244	)
Provision for income taxes		(270	)		(1,044	)		(480	)		(1,320	)
Loss from continuing operations		(20,466	)		(1,298	)		(45,836	)		(10,564	)
Loss from discontinued operations		(4,768	)		(291	)		(5,366	)		(760	)
Net loss	$	(25,234	)	$	(1,589	)	$	(51,202	)	$	(11,324	)
Basic and diluted loss per common share:
Continuing operations	$	(0.53	)	$	(0.06	)	$	(1.17	)	$	(0.57	)
Discontinued operations		(0.12	)		(0.02	)		(0.14	)		(0.04	)
	$	(0.65	)	$	(0.08	)	$	(1.31	)	$	(0.61	)
Weighted average common shares outstanding: - basic and diluted		39,059			18,971			39,048			18,674

See accompanying Notes to Unaudited Condensed Consolidated Financial Statements

3

EMERITUS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(In thousands)
	Six Months Ended June 30,
	2008			2007
Cash flows from operating activities:
Net loss	$	(51,202	)	$	(11,324	)
Adjustments to reconcile net loss to net cash provided by
operating activities
Depreciation and amortization		60,355			29,195
Amortization of above/below market rents		5,048			-
Amortization of deferred gain		(1,004	)		(1,103	)
Impairment of long-lived assets and investments		4,277			-
Amortization of loan fees		1,110			591
Convertible debenture cost payable		-			1,329
Allowance for doubtful receivables		801			565
Equity investment losses and distributions		857			939
Stock option compensation		2,818			1,323
Change in fair value of interest rate swap		(135	)		-
Other		613			265
Changes in operating assets and liabilities
Deferred revenue		2,256			85
Deferred rent		4,792			317
Change in operating assets and liabilities - other		8,676			1,368
Net cash provided by operating activities		39,262			23,550
Cash flows from investing activities:
Acquisition of property and equipment		(564,090	)		(196,104	)
Acquisition deposits		(2,995	)		-
Sale of property and equipment		6,754			-
Lease and contract acquisition costs		(686	)		(972	)
Payments from affiliates and other managed communities, net		175			629
Investment in affiliates/other		(2,974	)		(359	)
Net cash used in investing activities		(563,816	)		(196,806	)
Cash flows from financing activities:
Proceeds from sale of stock, net of issuance costs		517			873
Decrease in restricted deposits		1,708			5,005
Debt issuance and other financing costs		(9,529	)		(2,981	)
Proceeds from long-term borrowings and financings		661,544			284,334
Repayment of long-term borrowings and financings		(140,031	)		(91,674	)
Cash in escrow for redemption of convertible debentures		(10,782	)		-
Repayment of capital lease and financing obligations		(9,378	)		(10,383	)
Tax benefit of stock compensation		–			557
Net cash provided by financing activities		494,049			185,731
Net increase (decrease) in cash and cash equivalents		(30,505	)		12,475
Cash and cash equivalents at the beginning of the period		67,710			14,049
Cash and cash equivalents at the end of the period	$	37,205		$	26,524
Supplemental disclosure of cash flow information -
Cash paid during the period for interest	$	41,570		$	29,453
Cash paid during the period for income taxes		1,405			36
Cash received during the period for income tax refunds		2,496			-
Non-cash financing and investing activities:
Adjustments related to purchase of leased properties:
Capital and financing lease buyouts		281,925			20,818
Deferred gains and losses		15,462			-
Lease acquisition costs in a lease buyback		13,570			-
Deferred rent		562			-
Capital lease and financing obligations		4,802			1,503
Unrealized gain on investment in marketable equity securities		62			-
Conversion of convertible debentures		-			16,120
Debt assumed in acquisitions		-			90,000

See accompanying Notes to Unaudited Condensed Consolidated Financial Statements

4

EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2008

1. Description of Business

Emeritus Corporation (Emeritus or the Company) is an assisted living and Alzheimer’s and dementia care service provider that operates residential style communities located throughout the United States.  These communities provide a residential housing alternative for senior citizens who need help with the activities of daily living, with an emphasis on assisted living and personal care services.  As of June 30, 2008, the Company owned 149 communities and leased 106 communities.  These 255 communities comprise the communities included in the consolidated financial statements.

The Company also provides management services to independent and related-party owners of assisted living communities.  At June 30, 2008, the Company managed 34 communities, of which 23 are owned by joint ventures in which the Company has a financial interest.  Management agreements typically provide for fees of from 5% to 6% of gross revenues, although a few have fees based on occupancy that approximate 5% of gross revenues.

Effective September 1, 2007, Emeritus completed a merger transaction with Summerville Senior Living, Inc. (Summerville), pursuant to which the Company acquired all of the outstanding stock of Summerville (see Note 4).  Summerville operated 81 communities comprising 7,935 units in 13 states, which provided independent living, assisted living, and Alzheimer’s and dementia-related services to senior citizens.  Financial results for periods subsequent to the merger include the combined operations of Emeritus and Summerville.

Emeritus has one reportable segment, which is assisted living and related services.

2. Summary of Significant Accounting Policies and Use of Estimates

The preparation of condensed consolidated financial statements requires Emeritus to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities.  On an ongoing basis, Emeritus evaluates its estimates, including those related to resident programs and incentives such as move-in fees, bad debts, investments, intangible assets, impairment of long-lived assets, income taxes, restructuring, long-term service contracts, contingencies, self-insured retention, insurance deductibles, health insurance, inputs to the Black-Scholes option pricing model, and litigation.  Emeritus bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.  Actual results may differ from these estimates under different assumptions or conditions.

Emeritus believes that certain critical accounting policies are most significant to the judgments and estimates used in the preparation of its condensed consolidated financial statements.  Revisions in such estimates are charged to income in the period in which the facts that give rise to the revision become known.  A detailed discussion of the Company’s significant accounting policies and use of estimates is contained in the Company’s 2007 Form 10-K filed with the Securities and Exchange Commission on March 17, 2008.

Effective September 1, 2007, the Company changed its estimate of the maximum useful life of buildings from 40 years to 50 years and applied this new policy beginning in 2007 for all acquired properties.  This change in estimate did not have a material impact on the periods presented herein.

5

EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

Basis of Presentation

The unaudited interim financial information furnished herein, in the opinion of the Company’s management, reflects all adjustments, consisting of only normally recurring adjustments, which are necessary to state fairly the financial position, results of operations, and cash flows of Emeritus as of June 30, 2008 and for all periods presented.  The results of operations for the period ended June 30, 2008, are not necessarily indicative of the operating results that may be achieved for the full year ended December 31, 2008.  The Company presumes that those reading this interim financial information have read or have access to its 2007 audited consolidated financial statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations that are contained in the Company’s 2007 Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 17, 2008.  Therefore, the Company has omitted certain footnotes and other disclosures that are disclosed in the Form 10-K.

Recent Accounting Pronouncements Not Yet Adopted

In March 2008, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 161, Disclosures about Derivative Instruments and Hedging Activities—an amendment of FASB Statement No. 133.  SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, establishes, among other things, the disclosure requirements for derivative instruments and for hedging activities.  SFAS No. 161 amends and expands the disclosure requirements of SFAS No. 133 with the intent to provide users of financial statements with an enhanced understanding of:  (a) how and why an entity uses derivative instruments; (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations; and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows.  To meet those objectives, SFAS No. 161 requires qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative agreements.  SFAS No. 161 will have no impact on the Company’s consolidated financial statements when it is adopted effective January 1, 2009.

In December 2007, the FASB issued SFAS No. 141(revised 2007), Business Combinations (SFAS No. 141R).  SFAS No. 141R replaces the existing SFAS No. 141 but retains the fundamental requirements in SFAS No. 141 that the acquisition method of accounting be used for all business combinations and for an acquirer to be identified for each business combination.  SFAS No. 141R defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control.  It also requires an acquirer to recognize the assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree at their fair values at the acquisition date.  The additional fair value measurements of SFAS No. 141R replace the cost-allocation process of SFAS No. 141, which required the cost of an acquisition to be allocated to the individual assets acquired and liabilities assumed based on their estimated fair values.  In addition, all acquisition-related costs are to be expensed and liabilities related to contingent consideration are to be remeasured to fair value each subsequent reporting period.  Costs incurred by the acquirer to effect the acquisition are not allocated to the assets acquired or liabilities assumed, but are recognized separately.  SFAS No. 141R is effective prospectively for Emeritus for business combinations consummated on or after January 1, 2009.

Reclassifications

Certain reclassifications have been made to the condensed consolidated financial statements to conform to the current period presentation.

3. Stock-Based Compensation

The Company records compensation expense based on fair value for all awards, which is estimated using the Black-Scholes option pricing model.  The Company recorded stock-based compensation expense based on the fair value of stock options and shares issued under the Company's various equity incentive plans and the Employee Stock Purchase (ESP) Plan of approximately $1.4 million and $786,000 for the three months ended June 30, 2008 and

6

EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

2007, respectively, and approximately $2.8 million and $1.3 million for the six months ended June 30, 2008 and 2007, respectively.

During the six months ended June 30, 2008, the Company granted options to purchase 10,000 shares of common stock from the 2006 equity incentive plan (the 2006 Plan) and options to purchase 52,500 shares of common stock from the non-employee director plan.

The following table summarizes the Company’s stock option activity for the six months ended June 30, 2008 and 2007:

	2008								2007
				Weighted-		Aggregate						Weighted-		Aggregate
				Average		Intrinsic						Average		Intrinsic
				Exercise		Value						Exercise		Value
	Shares			Price		$ (000)			Shares			Price		$(000)
Outstanding at beginning of year		2,166,575		$	18.76					1,510,189		$	9.09
Granted		62,500		$	20.03					-			N/A
Exercised		(21,115	)	$	10.43	$	(247	)		(106,988	)	$	5.82	$	(2,996	)
Canceled		(33,498	)	$	19.61					(9,416	)	$	-
Outstanding at June 30, 2008 and 2007		2,174,462		$	18.87	$	6,795			1,393,785		$	9.31	$	30,209
Options exercisable at June 30, 2008 and 2007		1,000,144		$	10.12	$	6,795			1,037,808		$	6.01	$	25,910
					N/A
Weighted-average fair value of options granted				$	11.25								N/A

The amount of cash received from the exercise of stock options under the Company's various equity incentive plans and stock purchased through the ESP Plan was $517,000 and $873,000 in the six months ended June 30, 2008 and 2007, respectively.  As of June 30, 2008, there were 134,384 shares available for purchase under the ESP Plan, 1,516,658 shares available for grant under the 2006 Plan, and 69,000 shares available for grant under the 1995 Stock Incentive Plan, which includes options available under the non-employee director plan.

The Company estimates the fair value of its options using the Black-Scholes option pricing model.  Option valuation models require the input of various assumptions, including the expected stock price volatility, risk-free interest rate, dividend yield, and forfeiture rate.  The Company groups its options into two main categories based on estimated life.  They are the employees and the Board of Directors.  The fair value of the stock options granted was estimated using a risk-free rate that is the five-year or seven-year U.S. Treasury yield in effect at the time of grant.  The expected life of the stock options granted (five or seven years) was estimated using the historical exercise behavior of option holders.  Expected volatility was based on historical volatility for a period equal to the stock option’s expected life, ending on the date of grant.  Forfeitures are estimated at the time of valuation and reduce expense ratably over the vesting period.  The forfeiture rate, which was estimated at 10.2% of the options awarded, is adjusted periodically based on the extent to which actual forfeitures differ, or are expected to differ, from the previous estimate.  The Company's options have characteristics significantly different from those of traded options and changes in the various input assumptions can materially affect the fair value estimates.  The fair value of options granted for the six months ended June 30, 2008 and 2007, were estimated at the date of grant using the following weighted average assumptions:

7

EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

	For Employees and Key Executives
	Six Months Ended June 30,
	2008			2007
Expected life from vest date (in years)		5		No options granted
Risk-free interest rate		2.69	%
Volatility		42.7	%
Dividend yield		-
Weighted average fair value (per share)	$	8.75

	For Directors
	Six Months Ended June 30,
	2008			2007
Expected life from vest date (in years)		7		No options granted
Risk-free interest rate		3.90	%
Volatility		54.7	%
Dividend yield		-
Weighted average fair value (per share)	$	11.73

The Company offers eligible employees the option to purchase common stock of the Company under the ESP Plan at a 15% discount from the lower of the market price on (a) the first trading date of each calendar quarter or (b) the last trading date of each quarter.  The following table shows the number of shares of common stock issued under the ESP Plan and purchase price of these shares for the first two quarters of 2008:

	2008
	Shares		Price
Quarter 1		9,360	$	17.73
Quarter 2		13,621	$	12.43

4. Acquisitions and Other Significant Transactions

2008 HCN Purchase

On June 6, 2008, the Company entered into an asset purchase agreement (the “Agreement”) with Health Care REIT, Inc. (HCN) and its affiliated entities to purchase 29 communities consisting of 2,257 units located throughout the United States for a purchase price of $299.8 million, excluding transaction costs.  The Company leased these communities from HCN (19 under a master lease dated September 30, 2003, two under individual leases, both dated February 26, 1996, and eight under a master lease dated September 30, 2004) and operated these communities as assisted living and memory care service facilities.  The Company made an earnest money deposit of approximately $3.0 million related to the Agreement.  As provided in the Agreement, the transaction will be closed in two phases.

On June 30, 2008, the Company completed the first phase of the HCN transaction discussed above.  The first phase consisted of 19 communities with a capacity of 1,564 units for a purchase price of $223.8 million, including closing

8

EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

costs and financed it through mortgage debt of approximately $163.2 million and seller-provided debt of $50.0 million (Note 5).

The Company accounted for 18 of the 19 acquired properties as capital leases.  Upon termination of the leases, the difference between the carrying amount of the capital lease assets and the capital lease obligations was recorded as an adjustment to the carrying amount of the purchased communities in the amount of approximately $19.0 million.  In addition, the Company had unamortized deferred gains on sale of approximately $15.0 million related to an earlier sale/leaseback transaction involving these communities, which was also recorded as an adjustment to the carrying amount of the purchased communities.  One of the purchased properties was treated as an operating lease with straight-line rent liability accruals of $562,000 as of the acquisition date, which we also recorded as an adjustment to the carrying value of the purchased communities.  Finally, unamortized lease acquisition costs in the amount of $7.6 million related to these communities was also recorded as an adjustment to the carrying amount of the purchased communities.  The net reduction in the cost basis of the 19 purchased assets was approximately $27.0 million as of the closing date.

The purchase of the remaining 10 communities is expected to close no later than December 31, 2008, including available extension options.  Eight of the communities in phase two of this transaction are currently subject to a cash flow sharing agreement with an entity controlled by Daniel R. Baty, the Company’s Co-CEO and a significant shareholder (Baty).  As part of this transaction, this existing cash flow sharing arrangement will be terminated for the eight communities and, thereafter, the eight communities will be held in a joint venture owned by the Company and a Baty-related entity, which will provide economic terms and conditions similar to the existing cash flow sharing agreement.

2008 NHP Purchase

On February 6, 2008, the Company entered into a purchase and sale agreement with Nationwide Health Properties, Inc. (NHP) to purchase 24 communities consisting of 1,672 units located in 13 states for a purchase price of $314.8 million, including transaction costs.  The Company leased these communities from NHP and operated the communities as assisted living and dementia care facilities.  On April 2, 2008, the Company closed on this transaction and financed it through mortgage debt of approximately $249.9 million and seller-provided debt of $30.0 million (Note 5).

We accounted for these leases as capital leases.  Upon termination of the capital leases, the difference between the carrying amount of the capital lease assets and the capital lease obligations of $25.6 million was recorded as an adjustment to the carrying amount of the purchased communities.  In addition, unamortized lease acquisition costs in the amount of $6.0 million related to these communities was also recorded as an adjustment to the carrying amount of the purchased communities.  The net reduction in the cost basis of the purchased assets was approximately $19.6 million as of the closing date.

Summerville Acquisition

On September 1, 2007, the Company acquired all of the outstanding stock of Summerville through a merger of its wholly-owned subsidiary with Summerville.  Under the terms of the merger agreement, a total of 8,392,656 shares of the Company’s common stock were issued: (i) to Apollo Real Estate Investment Funds III and IV (the Apollo Funds), two real estate funds managed by Apollo Real Estate Advisors, in satisfaction of certain loans from such entities to Summerville, (ii) to certain employees of Summerville, in satisfaction of certain incentive compensation arrangements they had with Summerville, and (iii) to the shareholders of Summerville, including the Apollo Funds.  The total purchase price for Summerville was $278.2 million.

Summerville was a San Ramon, California-based operator of 81 communities comprising 7,935 units in 13 states, which provided independent living, assisted living, and Alzheimer’s and dementia-related services to seniors.  Upon completion of the Summerville acquisition, Summerville became a wholly owned subsidiary of Emeritus.  Of the 81 communities operated by Summerville, 73 are leased from third parties and eight are owned by the Company.

9

EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

2007 HCPI Communities Purchased

In March 2007, the Company completed the purchase of seven communities consisting of 453 units located in South Carolina for approximately $28.9 million, including transaction costs.  The Company had operated these facilities pursuant to a master lease dated September 18, 2002, between Health Care Property Investors, Inc. (HCPI), and Emeritus.  The Company accounted for this master lease as an operating lease.

In August 2007, Emeritus acquired 41 additional communities from HCPI, consisting of 3,732 units located in 17 states.  The aggregate purchase price was $504.9 million, including transaction costs.  Of the 41 communities, the Company leased 33 and Summerville leased eight of the communities pursuant to leases that were assigned to the Company when it purchased these communities.  Summerville continued to operate the eight communities under existing leases until Emeritus completed its acquisition of Summerville in September 2007, at which time the leases terminated.

2007 HRT Communities Purchased

In March 2007, the Company purchased 12 communities consisting of 786 units located in five states for $100.2 million, including transaction costs.  The Company had leased four of these communities from Healthcare Realty Trust (HRT) since May 2002 and eight since May 2003.  Four of the leased communities had been accounted for as capital leases and eight as operating leases by the Company.

2007 Fretus Communities Purchased

In February 2007, the Company purchased 24 communities consisting of 1,651 units located in six states for $143.5 million, including transaction costs.  The Company had leased these communities from Fretus since October 2002 and had accounted for them as operating leases.

Fretus was a private investment joint venture between Fremont Realty Capital, which held a 65% interest, and a Baty-related entity, which held a 35% minority interest.  Mr. Baty held a 16% indirect interest in the minority entity, personally guaranteed $3.0 million of the Fretus mortgage debt covering the communities and controlled the administrative member of Fretus.  In conjunction with this transaction, the Baty-related entity provided $18.0 million in short-term financing to the Company, of which approximately $5.1 million was used to fund the balance of the purchase price and the balance was used for general business purposes.  The short-term debt was repaid in July 2007.

2007 HCN Purchase

In August 2007, the Company completed the acquisition of three Florida communities consisting of 431 units.  The purchase price was $25.0 million, including transaction costs.  The Company had leased these communities from HCN and affiliates and accounted for them as capital leases.

2007 Wegman Purchase

In August 2007, the Company completed the acquisition of nine communities that the Company previously leased, consisting of 711 units located in the State of New York, for an aggregate purchase price of $89.0 million including transaction costs.

Other 2007-2008 Community Acquisitions

On June 12, 2008, the Company purchased a 54-unit community in Granger, Indiana, for $6.9 million, including closing costs, of which $6.0 million was financed through mortgage financing with Capmark Bank (Note 5).

In January 2008, the Company entered into a long-term lease for a newly constructed 38-unit Alzheimer’s community located in Joliet, Illinois.  The lease term was 11 years, expiring in March 2019.  This community is

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EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

included in the NHP portfolio that the Company purchased in April 2008 as detailed above and this lease was terminated in connection with such purchase.

In January 2008, the Company entered into a long-term lease for a 104-unit community located in Orangevale, California.  The lease term is 15 years, expiring in January 2023, with two 10-year renewal options available.  The initial annual lease payment is approximately $901,000, with annual increases of 3.0%.

In December 2007, the Company purchased a 106-unit assisted living community located in Ohio for a price of $12.9 million.

In July 2007, the Company entered into a long-term lease for an 89-unit assisted living community in Ohio.  The lease term is 12 years, expiring in July 2019, with one ten-year renewal option available.  The initial annual lease payment is approximately $1.1 million, with annual increases based on the greater of 3% or the change in the Consumer Price Index (CPI).

Joint Ventures

The Company holds a 50.0% interest in a joint venture (Stow JV) with an affiliate of The Wegman Companies, Inc., which operates a newly constructed property in Stow, Ohio.  The community owned by the Stow JV began operations in May 2008 and is managed by the Company.  The Company recorded equity losses of approximately $130,000 and $152,000 for the three and six months ended June 30, 2008, respectively.  The Company recorded management fee income of approximately $32,000 for the three and six months ended June 30, 2008.

The Company holds a 19.0% interest in a joint venture (Blackstone JV) with Blackstone Real Estate Advisors that began operations in December 2006 and operates a portfolio of 24 properties as of June 30, 2008, 23 of which are managed by the Company.  The Company recorded equity losses of approximately $794,000 and $450,000 for the three months ended June 30, 2008 and 2007, respectively, and $705,000 and $845,000 for the six months ended June 30, 2008 and 2007, respectively.  The Company recorded management fee income of approximately $822,000 and $696,000 for the three months ended June 30, 2008 and 2007, respectively, and $1.6 million and $1.3 million for the six months ended June 30, 2008 and 2007, respectively.

5. Long-Term Debt

On June 30, 2008, in conjunction with the 2008 HCN Purchase discussed in Note 4, the Company entered into financing agreements for this first phase of the HCN transaction that consists of $163.2 million of mortgage debt at a fixed rate of 6.65% originated by KeyBank through a Freddie Mac credit facility and a $50.0 million note from HCN with a fixed rate of 8.0%, increasing on each anniversary date by 25 basis points.  The Freddie Mac credit facility has a term of 10 years, with interest-only payments for the first year and, thereafter, interest and principal payments based on a 30-year amortization schedule.  The HCN note has a term of three years, with interest-only payments over the three-year term.

On June 12, 2008, the Company purchased a 54-unit community in Granger, Indiana, for $6.9 million, including closing costs, of which $6.0 million was financed through mortgage financing with Capmark Bank (Capmark) at an annual rate based on the monthly LIBOR rate plus 250 basis points for a term of 36 months, with a floor of 5.25%, and payments beginning on August 1, 2008.

On April 30, 2008, the Company repaid the $20.0 million outstanding balance of a mortgage loan (the GMAC Mortgage) secured by five of its existing communities.  The interest rate on the GMAC Mortgage was 6.98% and the note was to mature in August 2008.

The Company refinanced the GMAC Mortgage with new credit facilities.  Three of the five communities secure notes totaling $25.4 million at a fixed rate of 6.29%, (the Fixed Rate Notes), with a term of 10 years.  The Fixed Rate Notes require payments in the first three years of interest only, and payments of principal and interest thereafter based on a 30-year amortization.  The Fixed Rate Notes were originated by KeyCorp Real Estate Capital Markets, Inc. and were purchased by Fannie Mae.  The Fixed Rate Notes may be prepaid subject to a prepayment penalty

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EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

based on a formula defined in the loan agreements.  The Fixed Rate Notes contain cross-default provisions and customary events of default, including those related to non-payment and the sale or transfer of collateral.

The remaining two communities secure variable rate notes (the Variable Rate Notes) totaling $13.3 million, of which $7.2 million was withheld at closing and is available for funding of construction projects on these two communities.  The Variable Rate Notes have terms of three years and an initial weighted average annual interest rate of 5.06% based on the LIBOR rate at closing.  KeyBank N.A. is the lender.  The maturity dates may be extended for one additional year at the Company’s option (the Extension Period) depending upon the attainment of certain debt service coverage ratios as defined in the loan agreements.  Monthly payments are interest only for three years and, if extended, include scheduled principal reductions during the Extension Period.  The Variable Rate Notes may be prepaid at any time without penalty.  The Variable Rate Notes contain various events of default, including non-payment and the maintenance of specified levels of occupancy and debt service coverage ratios.

The Company received approximately $11.2 million in cash from these refinancing transactions, which will be used for general corporate purposes.

On April 29, 2008, the Company refinanced the mortgage debt on 18 of its existing properties, which were purchased from Fretus Investors, LLC (Fretus) in February 2007 (Note 4).  The original loan of $132.0 million bore interest at a fixed annual rate of 6.5475% and was secured by 24 properties. Of the $132.0 million principal balance outstanding, $112.0 million was paid down as part of this refinancing.  The original loan agreement was amended to provide that: (i) the remaining balance of $20.0 million is secured by five properties, with one property released from the security pool and (ii) the interest rate changed from a fixed rate of 6.5475% to a variable rate equal to LIBOR plus 280 basis points (5.80% at closing), adjusted monthly, with a floor of 5.80%.  Subsequent to the close of this transaction, the Company further reduced the $20.0 million loan to $16.8 million with the proceeds from the sale of a property.

The new debt of $129.0 million has a term of 10 years at a fixed rate of 6.21%, with payments in the first three years of interest only and payments of principal and interest thereafter based on a 30-year amortization period.  Both the existing and the new mortgages were provided by Capmark and purchased by Freddie Mac.  The notes on the 18 properties contain cross-default provisions.  The new debt may be prepaid subject to a prepayment penalty based on a formula defined in the loan agreement.  The loan agreement contains customary events of default, including payment defaults.

The Company received approximately $14.4 million in net cash proceeds as a result of this transaction, which will be used for general corporate purposes.

On April 2, 2008, the Company closed on the NHP Purchase as discussed in Note 4 and financed the transaction through mortgage debt of approximately $241.9 million originated by Capmark through a Fannie Mae credit facility with an interest rate of 5.9%, and seller-provided debt of $30.0 million with an interest rate of 7.25%.  In addition, the seller agreed to a 12-month extension on an existing $21.4 million note originally maturing in March 2008, including a reduction in the interest rate from 10.0% to 8.5%.  The Company also secured the ability to borrow up to an additional $8.1 million under this Fannie Mae credit facility based on portfolio performance.  This portfolio includes a memory loss community, which was financed separately with variable interest rate mortgage debt financing of $8.0 million provided by Capmark.  Interest is based on monthly LIBOR plus 265 basis points with a floor of 5.65%.  The interest rate as of the closing date was 5.65%.

On February 8, 2008, Emeritus entered into a credit agreement with Wells Fargo Bank, National Association, which provides a $25.0 million unsecured revolving line of credit.  The credit agreement permits the Company to borrow from time to time up to $25.0 million on an unsecured basis.  The credit agreement also allows the Company to obtain letters of credit from the lender, provided that outstanding letters of credit and any borrowings outstanding do not exceed $25.0 million.  The line of credit matures on February 15, 2009.  Outstanding borrowings will bear interest at a variable rate of 0.5% below Wells Fargo’s prime rate, payable monthly.  The Company may partially or wholly repay borrowings and reborrow provided that the total outstanding borrowings may not at any time exceed $25.0 million.  Emeritus is required to pay a commitment fee of 0.25% on the average daily unused amount of the line of credit, which is payable quarterly.  In addition, the Company is required to pay fees equal to 1.0% of every

12

EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

letter of credit issued as well as the negotiation fees on each letter.  The Company must maintain a zero balance on advances for 30 consecutive days during each fiscal year, a $20.0 million minimum balance in cash, cash equivalents and/or publicly traded marketable securities, meet a fixed charge coverage ratio, and comply with customary affirmative and negative covenants.

The Company intends to use the line of credit for general corporate purposes.  There were no outstanding borrowings under this credit facility as of June 30, 2008.

Effective February 1, 2008, Emeritus entered into an interest rate swap contract that has a notional amount of $12.4 million and matures on January 1, 2010.  The swap effectively converts the interest rate on the related mortgage debt from a floating rate equal to the London Interbank Offered Rate (LIBOR) plus 225 basis points to a fixed rate of 4.965%, thus mitigating the impact of interest rate changes on future interest expense.  The Company did not designate the swap as a hedging instrument (Note 11).

6. Shareholders’ Equity

Debenture Conversion

In February 2007, the Company offered to pay a cash incentive to debenture holders if they elected to convert their debentures into common stock by March 8, 2007.  The incentive payment was equal to the amount of interest that the holders would have received if the debentures were held to the maturity date of July 1, 2008.

Of the $26.6 million principal amount of debentures outstanding when the Company made the offer, holders of $16.1 million principal amount converted their debentures into 732,725 shares of common stock at the debentures’ stated conversion rate of $22.00 per share.  Of the debentures converted into common stock, $15.8 million principal amount was owned by entities controlled by Mr. Baty.  On April 16, 2007, the Company paid the incentive fee of $1.3 million in connection with this conversion, which amount would have otherwise been paid in three installments on July 1, 2007, January 1, 2008, and July 1, 2008, if the debentures were held to maturity.  The incentive payment was expensed to “Other, net” in the condensed consolidated statement of operations in the first quarter of 2007.

At June 30, 2008, the Company had $10.5 million principal amount of debentures outstanding, which were paid off at maturity on July 1, 2008, and of which Saratoga Partners IV and related entities owned $5.0 million principal amount.

7. Loss Per Share

The capital structure of Emeritus includes convertible debentures and stock options.  Basic loss per share is computed based on the weighted average shares outstanding and excludes any potential dilution.  Diluted loss per share is computed based on the weighted average number of shares outstanding plus dilutive potential common shares.  Options are included using the “treasury stock method” to the extent they are dilutive.  Certain shares issuable upon the exercise of stock options and conversion of convertible debentures have been excluded from the computation because the effect of their inclusion would be anti-dilutive.

The following table summarizes those potential common shares that are excluded in each period because they are anti-dilutive (in thousands):

	Three Months Ended				Six Months Ended
	June 30,				June, 30,
	2008		2007		2008		2007
Convertible Debentures		475		475		475		475
Options		2,174		1,394		2,174		1,394
		2,649		1,869		2,649		1,869

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EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

8.           Comprehensive Loss

The following table summarizes the comprehensive loss for the periods indicated (in thousands):

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2008			2007			2008			2007
Net loss	$	(25,234	)	$	(1,589	)	$	(51,202	)	$	(11,324	)
Other comprehensive income (loss):
Unrealized holding gains (losses)
on available-for-sale investment securities		(202	)		–			62			–
Comprehensive loss	$	(25,436	)	$	(1,589	)	$	(51,140	)	$	(11,324	)

9. Discontinued Operations

During the first quarter of 2008, the Company determined to discontinue operations at four of its communities and put the assets and businesses up for sale.  During the second quarter of 2008, the Company decided to discontinue operations at one more community and put the assets and business up for sale.  The Company decided to sell these communities primarily because they have consistently incurred operating losses over a sustained period of time due to geographic location and local market conditions.  Two of the communities were sold in the second quarter of 2008 and the remaining three are expected to be sold in the second half of 2008.  Financial statements for the three and six months ended June 30, 2007 have been reclassified to present the operations of these communities as discontinued operations.  In 2007, the Company determined that the carrying amounts of three communities were not recoverable from expected undiscounted cash flows generated from the use of the assets and recognized an aggregate loss of $4.8 million to write down the related carrying amounts of these properties to their estimated fair values.  In the second quarter of 2008, the Company recognized an impairment loss of $4.3 million on the additional community classified in discontinued operations.  The assets of the three properties remaining to be sold, which consist of property and equipment, are presented separately under the caption “Property held for sale” in the accompanying condensed consolidated balance sheet at June 30, 2008.  The Company will continue to operate these communities until sold.

The following table shows the revenues, net loss, and net loss per common share for the discontinued operations (in thousands, except per share data):

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2008			2007			2008			2007
Total revenue	$	2,239		$	2,707		$	5,041		$	5,387
Net loss	$	4,768		$	291		$	5,366		$	760
Basic and diluted net loss per common share	$	(0.12	)	$	(0.02	)	$	(0.14	)	$	(0.04	)
Weighted average common shares outstanding: - basic and diluted		39,059			18,971			39,048			18,674

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EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

10. Liquidity

As of June 30, 2008, the Company has a working capital deficit of $37.4 million.  The Company is able to operate in the position of a working capital deficit because revenues are collected more quickly, often in advance, than obligations are required to be paid.  This can result in a low level of current assets to the extent cash has been deployed in business development opportunities or to pay down long-term liabilities.  Along those lines, the working capital deficit includes, as part of current liabilities, $27.2 million of deferred revenue and unearned rental income, which will not require a future outlay of cash.  The level of current liabilities is not expected to change from period to period in such a way as to require the use of significant cash, except for (i) convertible debentures of $10.5 million, which were paid off at maturity on July 1, 2008, (ii) the current portion of debt of $24.3 million maturing by June 30, 2009, and (iii) long-term debt maturities of $122.6 million due after June 2009 but prior to June 30, 2010, which the Company plans to refinance prior to their due dates or pay off at maturity.

The Company reported net cash from operating activities in its condensed consolidated statements of cash flows of $39.3 million and $23.6 million for the six months ended June 30, 2008 and 2007, respectively.  While the Company has reported positive cash flows from operating activities over the past three years, the cash flows have not always been sufficient to pay all of its long-term obligations and the Company has been dependent upon third-party financing or disposition of assets to fund operations.  The Company cannot guarantee that, if necessary in the future, such transactions will be readily available, or on terms attractive to the Company.

Since 2002, the Company has refinanced substantially all of its debt obligations, extending the maturities of such financings to dates in 2008 or thereafter, at which time the Company will need to refinance or otherwise repay the obligations.  Many of the Company's debt instruments and leases contain “cross-default” provisions pursuant to which a default under one obligation can cause a default under one or more other obligations.  Such cross-default provisions affect the majority of the Company’s properties, and as a result, any event of default could cause a material adverse effect on the Company's financial condition.  At June 30, 2008, the Company was in violation of one or more covenants related to rent coverage ratios or occupancy requirements in certain leases and a mortgage, but has obtained waivers from the owners/lenders related to these covenant defaults.  The waivers expire on July 1, 2009.

Management believes that the Company will be able to generate sufficient operating cash flows and will have adequate cash for all necessary operating, investing, and financing activities including required debt service and capital expenditures for at least the next twelve months.

11. Fair Value Disclosures

Investment securities available-for-sale. The carrying values of investment securities classified as available-for-sale are recorded at their fair values based on quoted market prices utilizing public information for the issuers (Note 8).

Derivative financial instruments.  The Company enters into derivative financial instruments, specifically interest rate swaps, for non-trading purposes.  The Company uses interest rate swaps to manage interest rate risk associated with floating rate debt.  As of June 30, 2008, the Company was party to two interest rate swaps with a total notional amount of $32.0 million.  The Company elected not to apply hedge accounting for these interest rate swaps even though they are economic hedges of the Company’s floating rate debt and the Company does not enter into derivatives for speculative purposes.  These derivative contracts currently have negative net fair values based on current market conditions affecting interest rates and are recorded in other long-term liabilities.

The table that follows summarizes the interest rate swap contracts outstanding at June 30, 2008 (in thousands):

	Notional		Effective	Expiration	Estimated
	Amount		Date	Date	Fair Value
Interest rate swap	$	19,640	10/1/2007	8/6/2012	$	(679	)
Interest rate swap		12,405	2/1/2008	1/1/2010		89

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EMERITUS CORPORATION

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

As of January 1, 2008, the Company adopted SFAS No. 157, Fair Value Measurements. The standard defines fair value, establishes a framework for measuring fair value, and also expands disclosures about fair value measurements.  Under this standard, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date.  SFAS No. 157 also requires the Company to consider its own credit spreads when measuring the fair value of liabilities, including derivatives.

The following table presents information about the Company’s assets and liabilities measured at fair value on a recurring basis as of June 30, 2008, and indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value (in thousands):

	Quoted Prices in		Significant
	Active Markets		Other		Significant		Balance at
	for Identical		Observable		Unobservable		June 30,
	Assets (Level 1)		Inputs (Level 2)		Inputs (Level 3)		2008
Assets
Investment securities – available-for-sale	$	3,036	$	-	$	-	$	3,036
Liabilities
Derivative financial instruments		-		590		-		590

In general, fair values determined by Level 1 inputs utilize quoted prices in active markets for identical assets or liabilities that the Company has the ability to access.  For example, the Company’s investment in available-for-sale equity securities is valued based on the quoted market price for that security.

Fair values determined by Level 2 inputs utilize inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.  Level 2 inputs include quoted prices for similar assets and liabilities in active markets, and inputs other than quoted prices that are observable for the asset or liability.  For example, the Company uses market interest rates and yield curves that are observable at commonly quoted intervals in the valuation of its interest rate swap contracts.

Level 3 inputs are unobservable inputs for the asset or liability, and include situations where there is little, if any, market activity for the asset or liability.  The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability.

At June 30, 2008, the Company believes that any unobservable inputs used to determine the fair value of its derivative financial instruments are not significant to the fair value measurement in its entirety, and therefore the Company does not consider its derivative financial instruments to be Level 3 liabilities.

For the three months and six months ended June 30, 2008, the Company recognized unrealized gains of $972,000 and $135,000, respectively, which represent the change in the fair value of the interest rate swaps.

The Company also has assets that under certain conditions are subject to measurement at fair value on a non-recurring basis.  These assets include property held for sale and those associated with acquired businesses, including goodwill and other intangible assets.  For these assets, measurement at fair value in periods subsequent to their initial recognition is applicable if one or more is determined to be impaired.  During the three months ended June 30, 2008, the Company recorded an impairment loss of $4.3 million related to property held for sale (Note 9), which is included in loss from discontinued operations.  The fair value of this property was determined based on a recent offer from a prospective purchaser (Level 2 input).

The Company also adopted SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115, as of January 1, 2008, but has not made any fair value elections with respect to any of its eligible assets or liabilities as of June 30, 2008.

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Continued

June 30, 2008

12.           Subsequent Event

On July 25, 2008, the Company entered into five Agreements for Sale of Real Estate (the “Agreements”) with Ventas Realty, LP (“Ventas”) to purchase five communities consisting of 432 units located in Ohio, Florida (2), California and Michigan.  These communities, which are operated as assisted living and memory care service facilities, are currently leased from Ventas under three master leases dated August 1, 2005, March 24, 2006, and April 20, 2006, that were originally entered into by Summerville.  Under the terms of the Agreements, the Company will pay an aggregate purchase price of $62.5 million, plus estimated closing costs of approximately $2.8 million, for the acquired communities.  The completion of this transaction is subject to customary closing conditions.  The Company has made an earnest money deposit of $250,000 related to the Agreements.

The Company is in the process of obtaining commitments for mortgage financing related to this transaction in an amount equal to approximately 75% of the purchase price.  The balance of the purchase price will be funded by seller-provided financing of $10.0 million, a refund of approximately $6.0 million of security deposits held by Ventas, and the balance from cash on hand.  The seller-provided financing is for a term of three years at an annual interest rate of 8.0%, increasing annually by 25 basis points, with monthly payments equal to accrued interest plus a $40,000 monthly principal payment.

17

Item 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Forward-Looking Statements

This report contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, as amended.  This Act provides a “safe harbor” for forward-looking statements to encourage companies to provide prospective information about themselves so long as they identify these statements as forward-looking and provide meaningful cautionary statements identifying important factors that could cause actual results to differ from the projected results.  In some cases, you can identify forward-looking statements by terminology such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “might,” “plan,” “potential,” “predict,” “should” or “will,” or the negative of those terms, or comparable terminology.  Some of the forward-looking statements included in this report and documents incorporated by reference and in some of our other public statements relate to, among other things:

· the effects of competition and economic conditions on the occupancy levels in our communities, including possible excess assisted living capacity;

· our ability under current market conditions to maintain and increase our resident charges without adversely affecting occupancy levels;

· our ability to control community operating expenses, including the management of costs largely beyond our control (such as insurance and utility costs) without adversely affecting the level of occupancy and resident charges;

· our ability to generate cash flow sufficient to service our debt and other fixed payment requirements;

· our vulnerability to defaults as a result of noncompliance with various debt and lease covenants, including the effects of cross-default provisions;

· uncertainties relating to competition, construction, licensing, environmental regulation, and other matters that affect acquisition, disposition, and development of assisted living communities;

· our ability to find sources of financing and capital on satisfactory terms to meet our cash requirements to the extent that they are not met by operations; and

· uncertainties related to professional liability claims.

Any or all of our forward-looking statements in this report and in any other public statements we make may turn out to be inaccurate.  Please review carefully Item 1A—Risk Factors of our 2007 Annual Report on Form 10-K for important factors that could cause our actual results to differ materially from the forward-looking statements included in this report and presented elsewhere by our management from time to time.  Incorrect assumptions we might make and known or unknown risks and uncertainties may affect the accuracy of our forward-looking statements.  Forward-looking statements reflect our current expectations or forecasts of future events or results and are inherently uncertain, and accordingly, you should not place undue reliance on forward-looking statements.

Although we believe that the expectations and forecasts reflected in the forward-looking statements are reasonable, we cannot guarantee future results, performance, or achievements.  Consequently, no forward-looking statement can be guaranteed and future events and actual or suggested results may differ materially.  We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events, or otherwise.  You are advised, however, to consult any further disclosures we make in our quarterly reports on Form 10-Q and current reports on Form 8-K.

Overview

During the first six months of 2008, we continued to concentrate on implementing our previously disclosed growth strategy, which focuses on increasing our revenues and cash flows through a combination of: (i) organic growth in

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

our existing operations; (ii) selected acquisitions of additional communities; and (iii) expansion of our existing communities.

In 2007, we acquired 88 communities that we previously had leased and eight communities previously leased by Summerville, leased one, and purchased one additional community, and, as a result of our acquisition of Summerville, began operating another 73 communities leased by Summerville.  So far in 2008, we acquired 43 communities we previously had leased, entered into leases for two additional communities, and purchased one other new community.  In 2007 and continuing into 2008, we have also focused more on internal growth through expansion of existing properties and construction of new communities.

The following table sets forth a summary of our property interests:

	As of June 30,		As of December 31,		As of June 30,
	2008		2007		2007
	Buildings	Units	Buildings	Units	Buildings	Units
Owned (1)	149	11,952	107	8,781	53	3,698
Leased (2 )	106	9,855	147	12,978	118	9,931
Consolidated Portfolio	255	21,807	254	21,759	171	13,629
Managed/Admin Services	11	1,265	10	1,184	9	1,084
Joint Venture/Partnership	23	1,737	23	1,737	25	1,975
Operated Portfolio	289	24,809	287	24,680	205	16,688
Percentage increase (decrease) (3)	0.7%	0.5%	41.4%	49.5%	1.0%	1.1%

(1)   Owned communities increased from June 30, 2007, due to the acquisition of three communities on August 6, 2007, 41 communities on August 15, 2007, nine communities on August 31, 2007, one community in December 2007, 24 communities on April 2, 2008, one community on June 12, 2008, and 19 communities on June 30, 2008, less two communities sold on May 15, 2008.  Of the owned communities, three are held for sale and are in discontinued operations, representing 310 units.

(2)   Of the 106 leased communities at June 30, 2008, 71 are accounted for as operating leases, in which the assets and liabilities of the communities are not included in our condensed consolidated balance sheet and 31 are accounted for as capital leases, in which a long-term asset and corresponding liability is established on our balance sheet.  The remaining four leased communities are reflected in our condensed consolidated financial statements as owned communities because of accounting requirements related to sale-leaseback accounting, notwithstanding the legal sale of the communities and their subsequent leasing by us.

(3)   The percentage increase (decrease) indicates the change from the prior year, or, in the case of June 30, 2008 and 2007, from the end of the prior fiscal year.

The total consolidated portfolio of 21,807 units at June 30, 2008, consist of the following unit types:

	Total Units
Independent Living		1,444
Assisted Living		16,844
Alzheimer's Care		2,916
Skilled Nursing Care		72
Operating Units		21,276
Held for sale (3 properties)		310
Units taken out of service		221
Designed Capacity Units		21,807

The units taken out of service represent rooms that have been converted for alternative uses, such as additional office space, and are not available for immediate occupancy, and therefore excluded from the calculation of occupancy percentage.  These units are put back into service as demand dictates.

19

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Two of the important factors affecting our financial results are the rates we charge our residents and the occupancy levels we achieve in our communities.  In evaluating the rate component, we generally rely on the average monthly revenue per occupied unit, computed by dividing the total community revenue for a particular period by the average number of occupied units for the same period.  In evaluating the occupancy component, we generally rely on an average occupancy rate, computed by dividing the average units occupied during a particular period by the average number of units available during the period.  We evaluate these and other operating components for our consolidated portfolio, which includes the communities we own and lease, and our operating portfolio, which also includes the communities we manage.

The table below shows for our consolidated portfolio the average monthly revenue per occupied unit and occupancy rate for the three and six months ended June 30, 2008 and 2007:

	Three Months ended June 30,					Six Months Ended June 30,
	2008	2007	$ D	% D		2008	2007	$ D	% D
Average monthly revenue
per occupied unit	$ 3,372	$ 3,212	$ 160	5.0%		$ 3,349	$ 3,198	$ 151	4.7%
Average occupancy rate	86.4%	86.4%		.0	ppt*	86.8%	86.6%		.2	ppt*

* percentage points

We believe that occupancy rates reflect industry-wide factors and other economic conditions, as well as our own actions and policies, including the various acquisitions and development projects we completed in 2007 and 2008.  Although occupancy rates have recently leveled off or declined slightly, we continue to evaluate the factors of rate and occupancy to find the optimum balance in each community.

Since our inception in 1993, we have incurred operating losses totaling approximately $307.0 million as of June 30, 2008.  We believe that these losses have resulted from our emphasis on expansion, financing costs arising from multiple financing and refinancing transactions related to this expansion, administrative and corporate expenses that we incurred in anticipation of further expansion and increased emphasis on risk management and financial reporting controls, the impact in the early years on many of our leases from capital and financing lease treatments, and occupancy rates remaining lower for longer periods than we anticipated.  Our current emphasis is on maximization of cash flows as we work toward improvements in occupancy and average rates, selective growth, and changes in our capital structure, such as acquisition of leased properties and refinancing of existing high-rate debt.

20

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Significant Transactions

In recent periods, and continuing into 2008, we entered into a number of transactions that affected the number of communities we own, lease, and manage; our financing arrangements; and our capital structure.  These transactions are summarized in Notes 4 and 5 to the Unaudited Condensed Consolidated Financial Statements above.

The following table shows the changes in buildings from December 31, 2006, through June 30, 2008, including those transactions previously described:

	Month	Owned			Leased			Consolidated			Managed			Total
December 31, 2006			10			161			171			32			203
Walking Horse Meadows – disposition	Jan-07		–			–			–			(1	)		(1	)
Fretus Purchase	Feb-07		24			(24	)		–			–			–
HRT Purchase	Mar-07		12			(12	)		–			–			–
HCPI Purchase	Mar-07		7			(7	)		–			–			–
March 31, 2007			53			118			171			31			202
Additional JV– management agreements	May-07		–			–			–			3			3
June 30, 2007			53			118			171			34			205
Inn at Marietta	Jul-07		–			1			1			–			1
HC REIT Purchase	Aug-07		3			(3	)		–			–			–
HCPI Purchase (including 8 Summerville communities)	Aug-07		41			(33	)		8			–			8
Wegman Purchase	Aug-07		9			(9	)		–			–			–
Isle of Ledgewood	Sep-07		–			–			–			1			1
Summerville Merger	Sep-07		–			73			73			–			73
September 30, 2007			106			147			253			35			288
Cooper George - disposition	Oct-07		–			–			–			(1	)		(1	)
Gardens at Westlake - disposition	Oct-07		–			–			–			(1	)		(1	)
Pinnacle - purchase	Dec-07		1			–			1			–			1
December 31, 2007			107			147			254			33			287
Courtyard of Loyalton - acquisition	Jan-08		–			1			1			–			1
Summerville at Hazel Creek - acquisition	Jan-08		–			1			1			–			1
March 31, 2008			107			149			256			33			289
NHP Purchase	Apr-08		24			(24	)		–			–			–
Galleria Oaks - disposition	May-08		(1	)		–			(1	)		–			(1	)
Meridian Oaks - disposition	May-08		(1	)		–			(1	)		–			(1	)
Arborwood - purchase	Jun-08		1			–			1			–			1
Emeritus at Stow - development	Jun-08		–			–			–			1			1
HCN Purchase	Jun-08		19			(19	)		–			–			–
June 30, 2008			149			106			255			34			289

21

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Results of Operations

Significant Accounting Policies and Use of Estimates

For a description of our significant accounting policies and estimates, see our Annual Report on Form 10-K for the year ended December 31, 2007.

Statements of Operations as Percentage of Revenues and Period-to-Period Percentage Change

The following table sets forth, for the periods indicated, certain items from our condensed consolidated statements of operations as a percentage of total revenues and the percentage change of the dollar amounts from period to period.

													Period-to-Period
													Percentage
													Change
	Percentage of Revenues												Fav / (Unfav)
													Three Months			Six Months
	Three Months Ended						Six Months Ended						Ended			Ended
	June 30,						June 30,						June 30,			June 30,
	2008			2007			2008			2007				2008-2007			2008-2007
Revenues:		100.0	%		100.0	%		100.0	%		100.0	%		73.0	%		72.8	%
Expenses:
Community operations*		63.9			62.1			64.6			62.5			(78.1	)		(78.3	)
General and administrative		7.9			10.4			7.9			9.9			(31.3	)		(37.5	)
Depreciation and amortization		15.8			13.2			16.1			13.3			(106.0	)		(110.9	)
Facility lease expense		11.9			6.8			12.0			8.1			(204.9	)		(155.8	)
Total operating expenses		99.5			92.5			100.6			93.8			(86.2	)		(85.3	)
Operating income (loss) from continuing operations		0.5			7.5			(0.6	)		6.2			(88.9	)		(115.8	)
Other income (expense)
Interest income		0.3			0.6			0.4			0.5			(3.0	)		21.4
Interest expense		(12.2	)		(15.5	)		(11.7	)		(14.0	)		(35.4	)		(44.3	)
Change in fair value of interest rate swaps		0.5			-			-			-			N/A			N/A
Equity gains (losses) in unconsolidated joint ventures		0.4			6.5			(0.2	)		3.0			90.6			113.2
Other, net		(0.3	)		0.6			-			-			(178.2	)		(714.3	)
Net other expense		(11.3	)		(7.8	)		(11.6	)		(10.5	)		(151.4	)		(91.1	)
Loss from continuing operations before income taxes		(10.8	)		(0.3	)		(12.2	)		(4.3	)		N/A			N/A
Provision for income taxes		(0.2	)		(0.9	)		(0.1	)		(0.6	)		74.1			63.6
Loss from continuing operations		(10.9	)		(1.2	)		(12.3	)		(4.9	)		N/A			N/A
Loss from discontinued operations		(2.6	)		(0.3	)		(1.4	)		(0.3	)		N/A			N/A
Net loss		(13.5	%)		(1.5	%)		(13.7	%)		(5.2	%)		N/A			N/A

*  exclusive of depreciation and amortization and facility lease expense shown separately.

22

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Comparison of the Three Months Ended June 30, 2008 and 2007

Total Operating Revenues:

	Three Months Ended June 30,
	2008		2007		$D		% D
	(in thousands, except percentages)
Community revenue	$	185,705	$	107,137	$	78,568		73.3	%
Management fees		1,223		930		293		31.5	%
Total operating revenues	$	186,928	$	108,067	$	78,861		73.0	%

	Three Months Ended June 30,
	2008			2007			$D		% D
Average monthly revenue per occupied unit	$	3,372		$	3,212		$	160		5.0	%
Average occupancy rate		86.4	%		86.4	%				.0	ppt*

* percentage points

Of the $78.6 million increase in community revenues for the three months ended June 30, 2008, compared to the three months ended June 30, 2007, approximately $74.3 million was due to the addition of 86 new communities, including the Summerville communities.  The remaining increase of $4.3 million was primarily due to the increase in the average monthly revenue per occupied unit.

We continue our efforts to build our occupancy through increased marketing initiatives, programs that address resident mix and a focus on property improvements and other community-level enhancements to attract additional long-term residents and increase occupancy while maintaining growth in average monthly revenue per unit.  We believe that these initiatives will continue to have a positive impact on operating performance over time.

The increase in management fee revenue was primarily due to the Blackstone joint venture (Blackstone JV) (see Note 4 to the Unaudited Condensed Consolidated Financial Statements above), from which we recorded $822,000 and $696,000 in the three-month periods ended June 30, 2008 and 2007, respectively.

Community Operations:

	Three Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Community operations	$	119,526		$	67,094		$	52,432		78.1	%
As a percent of revenue		63.9	%		62.1	%				2.1	ppt

Of the $52.4 million increase in community operations expenses, $48.1 million was due to the addition of 86 new communities, including the Summerville communities.  The remaining increase of $4.3 million was primarily related to increases in employee salaries and benefits of $2.7 million and $1.6 million in various other community operating expenses.

23

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

General and Administrative:

	Three Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
General and administrative	$	14,731		$	11,221		$	3,510		31.3	%
As a percent of revenue		7.9	%		10.4	%				(2.5	) ppt

The growth in general and administrative expenses of $3.5 million was primarily related to staffing costs for regional and corporate overhead positions, comprised of increases in the number of personnel and in average salaries, and consisted of approximately $2.2 million in salaries and benefits, including an increase of $650,000 in non-cash stock compensation expense.  Much of the increase in staffing costs relates to the addition of the 86 new communities, including the Summerville communities.  The remaining increase consisted primarily of increases in consulting and legal fees, travel, and payroll processing costs.  Included in general and administrative expenses was non-cash stock compensation expense of $1.4 million and $786,000 for the three months ended June 30, 2008 and 2007, respectively.  Ongoing stock option expense is approximately $1.4 million per quarter based on the current stock options outstanding.

General and administrative expense as a percentage of operating revenues for all communities, including managed communities, may be more meaningful for industry-wide comparisons.  General and administrative expense as a percentage of community operating revenues for all managed and consolidated communities decreased to 6.9% for the three months ended June 30, 2008 from 8.5% for the three months ended June 30, 2007.

Depreciation and Amortization:

	Three Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Depreciation and amortization	$	29,451		$	14,294		$	15,157		106.0	%
As a percent of revenue		15.8	%		13.2	%				2.6	ppt

The increase in depreciation and amortization expense of $15.2 million was primarily the result of $14.1 million in depreciation and amortization expense related to new communities we acquired and a $1.9 million increase from the acquisition of properties formerly leased, partially offset by a decrease of $862,000 in depreciation expense for the remaining communities.

Facility Lease Expense:

	Three Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Facility lease expense	$	17,435		$	7,164		$	10,271		143.4	%
Above/below market rent		2,524			–			2,524		N/A
Straight-line rent		2,354			153			2,201		N/A
Total facility lease expense	$	22,313		$	7,317		$	14,996		204.9	%
As a percent of revenue		11.9	%		6.8	%				5.1	ppt

24

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

The increase in facility lease expense of $15.0 million was primarily due to the operating lease expense increase of $20.4 million due to the addition of new leased communities, partially offset by a decrease of $6.2 million due to the acquisitions of communities we previously leased.  The remaining increase of $806,000 was primarily due to annual lease escalators on other leased communities.  We leased 71 and 38 communities under operating leases as of June 30, 2008 and 2007, respectively.  The increase in the number of leased communities was due primarily to the acquisition of Summerville, offset in part by acquisitions of communities we previously leased.

Interest Income:

	Three Months Ended June 30,
	2008			2007			$D			% D
	(in thousands, except percentages)
Interest income	$	581		$	599		$	(18	)		(3.0	%)
As a percent of revenue		0.3	%		0.6	%					(.3	) ppt

Interest income is primarily attributable to interest earned on invested cash balances, interest earned on collateral paid in advance for workers’ compensation, and interest earned on restricted deposits.

Interest Expense:

	Three Months Ended June 30,
	2008			2007			$D			% D
	(in thousands, except percentages)
Interest expense	$	(22,741	)	$	(16,801	)	$	(5,940	)		35.4	%
As a percent of revenue		(12.2	%)		(15.5	%)					3.3	ppt

The increase in interest expense of $5.9 million for the second quarter of 2008 as compared to the 2007 period was primarily due to an increase of $7.1 million in interest expense from financings on the acquisition of communities and debt assumed in the Summerville acquisition, partially offset by reductions in other interest expense of $1.0 million due to the refinancings and normal reductions on other loans and mortgages.

Change in fair value of interest rate swaps:

	Three Months Ended June 30,
	2008			2007		$D		% D
	(in thousands, except percentages)
Change in fair value of interest rate swaps	$	972		$	–	$	972		N/A
As a percent of revenue		0.5	%		–				.5	ppt

For the three months ended June 30, 2008, we had unrealized gains of $972,000, which represent the change in the fair value of the interest rate swaps.

25

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Equity Gains in Unconsolidated Joint Ventures:

	Three Months Ended June 30,
	2008			2007			$D			% D
	(in thousands, except percentages)
Equity gains in
unconsolidated joint ventures	$	665		$	7,065		$	(6,400	)		(90.6	%)
As a percent of revenue		0.4	%		6.5	%					(6.1	)ppt

The equity gains of $794,000 from the Blackstone JV for the three months ended June 30, 2008, includes $876,000 in unrealized gains from the change in the fair value of interest rate swaps and were partially offset by equity losses of $130,000 from the Stow JV.  The equity gains in unconsolidated joint ventures of $7.1 million in the three months ended June 30, 2007, primarily reflects net equity gains of $7.7 million recognized in connection with the Company’s divestiture of its investment in Senior Med, partially offset by equity operating losses in Senior Med of $113,000 and in the Blackstone JV of $450,000.  We sold our interest in Senior Med in May 2007.

Other, net:

	Three Months Ended June 30,
	2008			2007			$D			% D
	(in thousands, except percentages)
Other, net	$	(580	)	$	742		$	(1,322	)		(178.2	%)
As a percent of revenue		(0.3	%)		0.6	%					(.9	) ppt

Other, net in 2008 primarily reflects $1.1 million of expenses related to refinancing transactions, partially offset by the amortization of deferred gains of $502,000.  Other, net in the three months ended June 30, 2007, primarily reflects $549,000 of amortization of deferred gains in 2007 and an increase of $189,000 on our investment for our non-qualified compensation plan.

Income Taxes:

	Three Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Provision for income taxes	$	(270	)	$	(1,044	)	$	774		N/A
As a percent of revenue		(0.2	%)		(0.9	%)				(0.7	) ppt

The income tax provision in 2008 represents estimated state income and franchise tax liabilities.  In the 2007 period, the tax provision represents estimated taxes on the gain from the Senior Med transaction. The estimated tax benefit of excess stock compensation deductions in 2007 in the amount of $286,000 was credited to additional paid-in capital.

Net Loss and Property-Related Expense:

In comparing the net loss for the three months ended June 30, 2008 and 2007, it is important to consider our property-related expenses, which include depreciation and amortization, facility lease expense, and interest expense that are directly related to our communities, and which include capital lease accounting treatment, finance accounting treatment, or straight-line accounting treatment of rent escalators for many of our leases.  These

26

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

accounting treatments all result in greater property-related expense than actual lease payments made in the early years of the affected leases and less property-related expense than actual lease payments made in later years, as detailed in the tables below.

Detail of property-related expenses from lease accounting treatment:
	Three Months Ended June 30,
	2008			2007			$D			% D
	(in thousands, except percentages)
Total property-related expense:
Depreciation and amortization	$	29,451		$	14,294		$	15,157			106.0	%
Total facility lease expense		22,313			7,317			14,996			204.9	%
Interest expense		22,741			16,801			5,940			35.4	%
Total property-related expense	$	74,505		$	38,412		$	36,093			94.0	%
Property-related expenses from lease accounting treatment:
Depreciation and amortization	$	6,248		$	9,210		$	(2,962	)		(32.2	%)
Interest expense		6,118			9,557			(3,439	)		(36.0	%)
Straight-line lease expense		2,354			153			2,201			N/A
Operating lease expense		17,435			7,164			10,271			143.4	%
Total property-related lease expense		32,155			26,084			6,071			23.3	%
Actual lease payments		(27,149	)		(22,025	)		(5,124	)		23.3	%
Expense in excess of lease payments	$	5,006		$	4,059		$	947			23.3	%

Our property-related expense associated with our leases exceeded our actual lease payments by $5.0 million and $4.1 million for the three months ended June 30, 2008 and 2007, respectively.  The impact of lease accounting increased by $947,000 in the current year quarter from the comparable quarter last year due primarily to the Summerville acquisition, partially offset by a reduction in interest expense on the capital leases in connection with the normal paydown of the lease obligation and the termination of leases from the acquisition of the formerly leased communities.  Notwithstanding the effects of lease accounting treatment, the actual lease payments required under most of our leases will continue to increase annually and, as a result, we will need to improve our results from community operations to cover these increases.  However, in the quarter ended June 30, 2008, the actual lease payments increased from the comparable period in the prior year due to the acquisition transactions discussed in Note 4 to the Unaudited Condensed Consolidated Financial Statements.

27

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Comparison of the Six Months Ended June 30, 2008 and 2007

Total Operating Revenues:

	Six Months Ended June 30,
	2008		2007		$D		% D
	(in thousands, except percentages)
Total community revenues	$	370,442	$	213,958	$	156,484		73.1	%
Management fees		2,382		1,807		575		31.8	%
Total operating revenues	$	372,824	$	215,765	$	157,059		72.8	%

	Six Months Ended June 30,
	2008			2007			$D		% D
Average monthly revenue per occupied unit	$	3,349		$	3,198		$	151		4.7	%
Average occupancy rate		86.8	%		86.6	%				.2	ppt

Of the $156.5 million increase in community revenues for the six months ended June 30, 2008, compared to the six months ended June 30, 2007, approximately $148.3 million was due to the addition of 86 new communities, including the Summerville communities.  The remaining increase of $8.2 million was primarily due to increases in the average monthly revenue per occupied unit.

We continue our efforts to build our occupancy through increased marketing initiatives, programs that address resident mix and a focus on property improvements and other community-level enhancements to attract additional long-term residents and increase occupancy while maintaining growth in average monthly revenue per unit.  We believe that these initiatives will continue to have a positive impact on operating performance over time.

The increase in management fee revenue was primarily due to the Blackstone JV, from which we recognized $1.6 million and $1.3 million in the six-month periods ended June 30, 2008 and 2007, respectively.

Community Operations:

	Six Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Community operations	$	240,612		$	134,972		$	105,640		78.3	%
As a percent of revenue		64.6	%		62.5	%				2.1	ppt

Of the $105.6 million increase in community operating expense, $97.7 million was due to the addition of 86 new communities, including the Summerville communities.  Of the remaining increase of $7.9 million, $6.1 million was primarily due to increases in labor-related costs.  The remaining increase of $1.8 million was primarily related to increases in various other community operating expenses.  Included in this net increase was a $1.9 million decrease in professional and general liability insurance expense in 2008 based upon an actuarial valuation report compared to a similar decrease of $2.5 million in the comparable period of 2007.

28

EMERITUS CORPORATION

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

General and Administrative:

	Six Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
General and administrative	$	29,342		$	21,336		$	8,006		37.5	%
As a percent of revenue		7.9	%		9.9	%				(2.0	) ppt

The growth in general and administrative expenses of $8.0 million was primarily related to staffing costs for regional and corporate overhead positions, comprised of increases in the number of personnel and in average salaries, and consisted of approximately $5.5 million in salaries and benefits, including an increase of $1.5 million in non-cash stock compensation expense.  Much of the increase in staffing costs relates to the addition of the 86 new communities, including the Summerville communities.  The remaining increase consisted primarily of increases in consulting and legal fees, travel, payroll processing costs, telephone, and dues and subscriptions.

General and administrative expense as a percentage of operating revenues for all communities, including managed communities, may be more meaningful for industry-wide comparisons.  General and administrative expense as a percentage of community operating revenues for all managed and consolidated communities decreased to 6.9% for the six months ended June 30, 2008 from 8.1% for the six months ended June 30, 2007.

Depreciation and Amortization:

	Six Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Depreciation and amortization	$	60,355		$	28,624		$	31,731		110.9	%
As a percent of revenue		16.1	%		13.3	%				2.8	ppt

The increase in depreciation and amortization expense of $31.7 million was primarily the result of $28.2 million in depreciation and amortization expense related to new communities we acquired and a $4.8 million increase from the acquisition of properties formerly leased, partially offset by a decrease of $1.3 million in depreciation expense for the remaining communities.

Facility Lease Expense:

	Six Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Facility lease expense	$	34,789		$	17,124		$	17,665		103.2	%
Above/below market rent		5,048			–			5,048		N/A
Straight-line rent		4,792			326			4,466		N/A
Total facility lease expense	$	44,629		$	17,450		$	27,179		155.8	%
As a percent of revenue		12.0	%		8.1	%				3.9	ppt

The increase in facility lease expense of $27.2 million was primarily due to the operating lease expense increase of $40.8 million due to the addition of new leased communities, partially offset by a decrease of $14.8 million due to

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Continued

June 30, 2008

the acquisitions of communities we previously leased.  The remaining increase of $1.2 million was primarily due to annual lease escalators on other leased communities.  We leased 71 and 38 communities under operating leases as of June 30, 2008 and 2007, respectively.  The increase in the number of leased communities was due primarily to the acquisition of Summerville, offset in part by acquisitions of communities we previously leased.

Interest Income:

	Six Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Interest income	$	1,435		$	1,182		$	253		21.4	%
As a percent of revenue		0.4	%		0.5	%				(.1	) ppt

Interest income was primarily attributable to interest earned on invested cash balances, interest earned on collateral paid in advance for workers’ compensation, and interest earned on restricted deposits.

Interest Expense:

	Six Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Interest expense	$	43,783		$	30,333		$	13,450		44.3	%
As a percent of revenue		11.7	%		14.0	%				(2.3	) ppt

The increase in interest expense of $13.5 million for the first six months of 2008 as compared to the 2007 period was primarily due to an increase of $15.5 million in interest expense from financings on the acquisition of communities and debt assumed in the Summerville acquisition, partially offset by reductions of $2.0 million in other interest expense due to the refinancings and normal reductions on other loans and mortgages.

Change in fair value of interest rate swaps:

	Six Months Ended June 30,
	2008		2007		$D		% D
	(in thousands, except percentages)
Change in fair value of interest rate swaps	$	135	$	–	$	135		N/A
As a percent of revenue		–		–				0.0	ppt

For the six months ended June 30, 2008, we had unrealized gains of $135,000, which represent the change in the fair value of the interest rate swaps.

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Equity Gains (Losses) in Unconsolidated Joint Ventures:

	Six Months Ended June 30,
	2008			2007			$D			% D
	(in thousands, except percentages)
Equity gains (losses) in
unconsolidated joint ventures	$	(857	)	$	6,496		$	(7,353	)		(113.2	%)
As a percent of revenue		(0.2	%)		3.0	%					(3.2	) ppt

The equity losses for the six months ended June 30, 2008, were comprised of equity losses of $705,000 from the Blackstone JV, partially offset by an $85,000 gain relating to a change in the fair value of an interest rate swap, and equity losses of $152,000 from the Stow JV.  The equity gains in unconsolidated joint ventures of $6.5 million in 2007 primarily reflects net equity gains of $7.7 million recognized in connection with the Company’s divestiture of its investment in Senior Med, partially offset by equity operating losses in Senior Med of $113,000 and the Blackstone JV of $845,000 for the six months ended June 30, 2007.  We sold our interest in Senior Med in May 2007.

Other, net:

	Six Months Ended June 30,
	2008			2007		$D			% D
	(in thousands, except percentages)
Other, net	$	(172	)	$	28	$	(200	)		N/A
As a percent of revenue		–			–					.0	ppt

Other, net in 2008 primarily reflects $1.1 million of expenses related to refinancing transactions, partially offset by the amortization of deferred gains of $1.0 million.  The balance in 2007 primarily relates to the incentive payment of $1.3 million related to the early conversion of approximately $16.1 million of our convertible debentures into common stock, offset by $1.1 million of amortization of deferred gains.

Income Taxes:

	Six Months Ended June 30,
	2008			2007			$D		% D
	(in thousands, except percentages)
Provision for income taxes	$	(480	)	$	(1,320	)	$	840		N/A
As a percent of revenue		(0.1	%)		(0.6	%)				(0.5	) ppt

The income tax provision in 2008 represents estimated state income and franchise tax liabilities.  In the 2007 period, the tax provision represents estimated taxes on the gain from the Senior Med transaction. The estimated tax benefit of excess stock compensation deductions in 2007 in the amount of $557,000 was credited to additional paid-in capital.

Net Loss and Property-Related Expense:

In comparing the net loss for the six months ended June 30, 2008 and 2007, it is important to consider our property-related expenses, which include depreciation and amortization, facility lease expense, and interest expense that are directly related to our communities, and which include capital lease accounting treatment, finance accounting

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RESULTS OF OPERATIONS

Continued

June 30, 2008

treatment, or straight-line accounting treatment of rent escalators for many of our leases.  These accounting treatments all result in greater property-related expense than actual lease payments made in the early years of the affected leases and less property-related expense than actual lease payments made in later years, as detailed in the tables below.

Detail of property-related expenses from lease accounting treatment:
	Six Months Ended June 30,
	2008			2007			$D			% D
	(in thousands, except percentages)
Total property-related expense:
Depreciation and amortization	$	60,355		$	28,624		$	31,731			110.9	%
Total facility lease expense		44,629			17,450			27,179			155.8	%
Interest expense		43,783			30,333			13,450			44.3	%
Total property-related expense	$	148,767		$	76,407		$	72,360			94.7	%
Property-related expenses from lease accounting treatment:
Depreciation and amortization	$	15,841		$	18,753		$	(2,912	)		(15.5	%)
Interest expense		14,806			19,649			(4,843	)		(24.6	%)
Straight-line lease expense		4,792			326			4,466			N/A
Operating lease expense		34,789			17,124			17,665			103.2	%
Total property-related lease expense		70,228			55,852			14,376			25.7	%
Actual lease payments		(58,729	)		(47,442	)		(11,287	)		23.8	%
Expense in excess of lease payments	$	11,499		$	8,410		$	3,089			36.7	%

Our property-related expense associated with our leases exceeded our actual lease payments by $11.5 million and $8.4 million for the six months ended June 30, 2008 and 2007, respectively.  The impact of lease accounting increased by $3.1 million in the first two quarters of the current year from the comparable period last year due primarily to the Summerville acquisition, partially offset by a reduction in interest expense on the capital leases in connection with the normal paydown of the lease obligation and the termination of leases from the acquisition of the formerly leased communities.  Notwithstanding the effects of lease accounting treatment, the actual lease payments required under most of our leases will continue to increase annually and, as a result, we will need to improve our results from community operations to cover these increases.  However, in the six months ended June 30, 2008, the actual lease payments increased over the comparable period in the prior year due to the acquisition transactions discussed in Note 4 to the Unaudited Condensed Consolidated Financial Statements.

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

Same Community Comparison

Of our 255 communities, we have operated 169 communities continuously since January 1, 2007, which we refer to as our “same communities.”  The following table sets forth a comparison of same communities results of operations for the three months ended June 30, 2008 and 2007, respectively, excluding general and administrative expenses.

	Three Months Ended June 30,
	(In thousands)
							$D			% D
	2008			2007			Fav / (Unfav)			Fav / (Unfav)
Revenue	$	111,419		$	107,323		$	4,096			3.8	%
Community operations *		(72,838	)		(69,506	)		(3,332	)		(4.8	)
Community operating income		38,581			37,817			764			2.0
Depreciation & amortization		(15,244	)		(14,217	)		(1,027	)		(7.2	)
Facility lease expense		(1,623	)		(7,103	)		5,480			77.2
Operating income		21,714			16,497			5,217			31.6
Interest expense, net		(18,790	)		(15,945	)		(2,845	)		(17.8	)
Operating income after interest expense	$	2,924		$	552		$	2,372			429.7	%
* exclusive of depreciation and amortization and facility lease expense shown separately

These same communities represented $111.4 million or 60.0% of our total community revenue of $185.7 million for the second quarter of 2008.  The increase in same community revenues of $4.1 million was primarily due to improvements in average revenue per occupied unit.

	Three Months Ended June 30,
	2008			2007			$D		% D
Average monthly revenue per occupied unit	$	3,315		$	3,217		$	98		3.0	%
Average occupancy rate		86.2	%		86.4	%				(.2	) ppt

The increase of $3.3 million in community operations expenses for our same communities was primarily related to normal inflationary increases in employee-related expenses of $3.0 million including salaries and workers’ compensation expense.  The remainder was primarily related to increases in various other community operating expenses.

Property-related expenses (depreciation and amortization, facility lease expense, and interest expense, net of interest income) for our same communities decreased by approximately $1.6 million, which primarily reflects the effect of the termination of leases from the acquisition of communities formerly leased, which increased depreciation and amortization by $1.0 million and increased interest expense by $2.8 million, while decreasing facility lease expense by $5.5 million.

Operating income after interest expense for our same communities increased from $552,000 to $2.9 million for a total increase of $2.4 million from the comparable period of 2007, primarily as a result of an increase in operating income and of the property-related expenses discussed above.  We will continue our efforts to build our occupancy through increased marketing initiatives, programs that address resident mix and a focus on property improvements and other community-level enhancements to attract additional long-term residents and increase occupancy while maintaining growth in average monthly revenue per unit.  We believe that these initiatives will have a positive impact on operating performance over time.

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RESULTS OF OPERATIONS

Continued

June 30, 2008

Liquidity and Capital Resources

At June 30, 2008, we had cash on hand of $37.2 million compared to $67.7 million at December 31, 2007.  We had working capital deficits of $37.4 million and $31.4 million at June 30, 2008 and December 31, 2007, respectively.

We have incurred significant operating losses since our inception.  Due to the nature of our business, it is not unusual to operate in the position of a working capital deficit because revenues are collected more quickly, often in advance, than obligations are required to be paid.  The result is a very low level of current assets to the extent cash has been deployed in business development opportunities or to pay down long-term liabilities.  Along those lines, the working capital deficit at June 30, 2008, includes $27.2 million of deferred revenue and unearned rental income, which will not require a future outlay of cash.  The level of current liabilities is not expected to change from period to period in such a way as to require the use of significant cash in excess of normal requirements, except for (i) convertible debentures of $10.5 million, which were paid off at maturity on July 1, 2008, (ii) the current portion of long-term debt of $24.3 million due by June 30, 2009, and (iii) long-term debt maturities of $122.6 million due after June 2009 but prior to June 30, 2010, which the Company plans to refinance prior to their due dates or will pay them at maturity.

While we have reported positive cash flows from operating activities over the past three years, our cash flows have not always been sufficient to pay all of our long-term obligations and we have been dependent upon third-party financing or disposition of assets to fund operations.  We cannot guarantee that, if necessary in the future, such transactions will be readily available to us, or on terms attractive to us, but we believe that we will be able to sustain positive operating cash flow or have adequate cash reserves and sources of capital for all necessary investing and financing activities including required debt service and capital expenditures through at least the next 12 months.  In February 2008, we obtained a $25.0 million unsecured revolving line of credit as described below.

The following is a summary of cash flow information for the six months ended June 30, 2008 and 2007 (in thousands):

	2008			2007
Cash provided by operating activities	$	39,262		$	23,550
Cash used in investing activities		(563,816	)		(196,806	)
Cash provided by financing activities		494,049			185,731
Net increase (decrease) in cash and cash equivalents		(30,505	)		12,475
Cash and cash equivalents at the beginning of the period		67,710			14,049
Cash and cash equivalents at the end of the period	$	37,205		$	26,524

In the first six months of 2008 and in each of the previous three years, we reported positive net cash from operating activities in our consolidated statements of cash flows.  The increase in cash provided by operating activities in the first six months of 2008 compared to the prior year period is due primarily to the additional cash flow as a result of the completion of the Summerville acquisition in September 2007, the strength of the performance of the communities we operated during both periods, and fluctuations in the timing of receivables and payables.  Additionally, by purchasing the real estate underlying leased facilities, we replaced lease payments with lower levels of debt service and also avoided future scheduled lease escalators.

The increase in cash used in investing activities was primarily due to the number of current year acquisitions as compared to the prior period.  In the first two quarters of 2008, we purchased 43 communities that we previously operated under lease agreements and purchased one additional community.  As a result, cash paid for acquisitions of property and equipment amounted to $564.1 million in the first two quarters of 2008 compared to $196.1 million in the prior year period.

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RESULTS OF OPERATIONS

Continued

June 30, 2008

The increase in cash provided by financing activities was related to the increase in acquisition activity described in the previous paragraph.  As a result, proceeds from long-term borrowings, net of repayments, amounted to $512.1 million in the first six months of 2008 compared to $182.3 million in the prior year period.  This increase in net cash proceeds was offset in part by an increase in debt issuance costs ($6.6 million), cash placed in escrow for the redemption of convertible debentures in 2008 ($10.8 million) and fluctuations in restricted cash balances ($3.3 million).

At June 30, 2008, we had payment obligations for long-term debt, capital and financing leases, and convertible debentures due in the next 12 months totaling approximately $44.8 million.  In addition, for the year ending December 31, 2008, we anticipate that we will make investments of approximately $19.9 million to $24.7 million for capital expenditures, comprised of approximately $13.9 million to $14.7 million of routine capital expenditures (including corporate capital expenditures) and approximately $6.0 million to $10.0 million of net capital expenditures in connection with our community expansion and development program.  In the first six months of 2008, our capital expenditures (excluding acquisition of communities) totaled $18.9 million, of which $7.5 million was for routine capital requirements, $2.3 million for computer and related equipment to support new sales and marketing systems, and $9.1 million related to community expansion and development, including projects begun in 2007.  We had $37.2 million of available cash at June 30, 2008, to fund any 2008 payment requirements in excess of cash generated from operations.  The convertible debentures in the amount of $10.5 million were paid off at maturity on July 1, 2008, using cash classified as “Restricted cash in escrow” on the balance sheet as of June 30, 2008.

.

In April 2008, we refinanced the mortgage debt on 23 of our existing properties, which provided net cash proceeds of $25.6 million.  We also extended the term of a $21.4 million note payable due in March 2008 to March 2009.  We will need to continue our improvements in operating performance or seek other sources of cash to meet our payment obligations in future years.  The United States economy experienced a significant decline in the housing market and a related weakness in the availability and affordability of credit during 2007 and the first half of 2008.  We believe that the slowdown in the housing market and the constriction of credit are likely to continue throughout 2008.  Moreover, leading economic indicators such as employment levels and income growth predict a downward trend in the United States economy during 2008, and possibly a recession.  However, we believe that need-driven demand for our services continues to grow and remains resilient, in spite of the overall housing and economic concerns, as evidenced by the relative stability in occupancy, improvements in cash flows, and our ability to finance the acquisition of 141 properties during 2007 and 2008, including the acquisition of 24 NHP communities completed in April 2008 and the acquisition of 19 HCN communities in June 2008.

As a consequence of our property and lease transactions in 2008, our long-term debt increased from $113.0 million at December 31, 2006, to $1.3 billion at June 30, 2008, including the convertible debentures repaid on July 1, 2008.  Our obligations under operating leases have increased from $299.3 million to $841.6 million primarily due to the Summerville acquisition, and our capital lease and financing obligations decreased from $608.6 million to $234.3 million primarily as a result of the acquisition of leased properties.  Many of our debt instruments and leases contain “cross-default” provisions pursuant to which a default under one obligation can cause a default under one or more other obligations.  Such cross-default provisions affect the majority of our properties and as a result, any event of default could cause a material adverse effect on our financial condition.  Defaults can include certain financial covenants, which generally relate to lease coverage and cash flow.  In addition, we are required to maintain the leased properties in a reasonable and prudent manner.  For the six months ended June 30, 2008, we were in violation of one or more covenants related to rent coverage ratios or occupancy in certain of our leases and a mortgage, but have obtained waivers from the owners/lenders related to these lease covenant defaults.  The waivers expire on  July 1, 2009.

On February 8, 2008, we entered into a credit agreement with Wells Fargo Bank, National Association, which provides a $25.0 million unsecured revolving line of credit.  The credit agreement permits us to borrow from time to time up to $25.0 million on an unsecured basis.  The credit agreement also allows us to obtain letters of credit from the lender, provided that outstanding letters of credit and any borrowings outstanding do not exceed $25.0 million.  See Note 5, Long-Term Debt, for further details.  There were no outstanding borrowings under the line of credit as of June 30, 2008.

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

RESULTS OF OPERATIONS

Continued

June 30, 2008

The following table summarizes our contractual obligations at June 30, 2008, (in thousands):

	Principal and Lease Payments Due by Period
									After 5
Contractual Obligations	Total		1 year		2-3 years		4-5 years		years
Long-term debt, including current portion	$	1,255,790	$	24,270	$	184,309	$	195,033	$	852,178
Capital lease and financing obligations,
including current portion		234,312		10,043		23,212		29,044		172,013
Operating leases		841,609		67,610		138,195		141,383		494,421
Convertible debentures		10,455		10,455		-		-		-
	$	2,342,166	$	112,378	$	345,716	$	365,460	$	1,518,612

The following table summarizes interest on our contractual obligations at June 30, 2008, (in thousands):

	Interest Due by Period
									After 5
Contractual Obligations	Total		1 year		2-3 years		4-5 years		years
Long-term debt	$	580,901	$	80,919	$	149,106	$	120,774	$	230,102
Capital lease and financing obligations		149,729		17,402		32,690		29,180		70,457
Convertible debentures		327		327		-		-		-
	$	730,957	$	98,648	$	181,796	$	149,954	$	300,559

Recent Accounting Pronouncements

For a discussion of recently issued accounting pronouncements, see Note 2 to the Unaudited Condensed Consolidated Financial Statements included in this report.

Impact of Inflation

To date, inflation has not had a significant impact on us.  Inflation could, however, affect our cost of doing business, and consequently, our operating income due to limitations on our ability to increase monthly rates because of our dependence on the senior resident population, most of whom rely on relatively fixed incomes to pay for our services.  The monthly charges for the resident's unit and assisted living services are influenced by the location of the community and local competition.  Our ability to increase revenues in proportion to increased operating expenses may be limited.  We typically do not rely to a significant extent on governmental reimbursement programs, which accounted for approximately 8.2% of revenues for the six months ended June 30, 2008.  In pricing our services, we attempt to anticipate inflation levels, but there can be no assurance that we will be able to respond to inflationary pressures in the future.  The near-term negative economic outlook in the United States may impact our ability to raise our prices.

Non-GAAP Measures

A non-GAAP financial measure is generally defined as one that purports to measure historical or future financial performance, financial position, or cash flows, but excludes or includes amounts that would not be included in most GAAP measures.  In this report, we define and use the non-GAAP financial measure of Adjusted EBITDA/EBITDAR, as set forth below:

Definition of Adjusted EBITDA/EBITDAR:

We define Adjusted EBITDA/EBITDAR as net loss adjusted for:

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RESULTS OF OPERATIONS

Continued

June 30, 2008

· gains or losses, net of tax, in discontinued operations,

· provision or benefit for income taxes,

· equity earnings or losses in unconsolidated joint ventures,

· gains or losses on sale of assets , termination of leases, or investments,

· depreciation and amortization,

· impairment losses,

· amortization of deferred gains,

· non-cash stock option compensation expense,

· interest expense,

· interest income, and

· other non-cash unusual adjustments

Definition of Adjusted EBITDAR:

We define Adjusted EBITDAR as Adjusted EBITDA adjusted for facility lease expense.

Management's Use of Adjusted EBITDA/EBITDAR:

We use Adjusted EBITDA/EBITDAR to assess our overall financial and operating performance.  We believe these non-GAAP measures, as we have defined them, are useful in identifying trends in our day-to-day performance because it excludes items that have little or no significance to our day-to-day operations.  These measures provide an assessment of controllable expenses and afford management the ability to make decisions, which are expected to facilitate meeting current financial goals, as well as achieve optimal financial performance.  These measures also provide indicators for management to determine if adjustments to current spending levels are needed.

Adjusted EBITDA/EBITDAR provide us with measures of financial performance, independent of items that are beyond the control of management in the short-term, such as depreciation and amortization, taxation, interest expense, and lease expense associated with our capital structure.  These metrics measure our financial performance based on operational factors that management can influence in the short-term, namely the cost structure or expenses of the organization.  Adjusted EBITDA/EBITDAR are some of the metrics used by senior management to review the financial performance of the business on a monthly basis and are used by research analysts and investors to evaluate the performance and value of the companies in our industry.

Limitations of Adjusted EBITDA/EBITDAR:

Adjusted EBITDA/EBITDAR have limitations as analytical tools.  Material limitations in making the adjustments to our losses to calculate Adjusted EBITDA/EBITDAR and using this non-GAAP financial measure as compared to GAAP net loss includes:

· The items excluded from the calculation of Adjusted EBITDA/EBITDAR generally represent income or expense items that may have a significant affect on our financial results,

· Items determined to be non-recurring in nature could, nevertheless, re-occur in the future, and

· Depreciation and amortization, while not directly affecting our current cash position, does represent wear and tear and/or reduction in value of our properties.  If the cost to maintain our properties exceeds our expected routine capital expenditures, then this could affect our ability to attract and retain long-term residents at our communities.

An investor or potential investor may find this important in evaluating our performance and results of operations.  We use these non-GAAP measures to provide a more complete understanding of the factors and trends affecting our business.

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RESULTS OF OPERATIONS

Continued

June 30, 2008

Adjusted EBITDA/EBITDAR are not alternatives to net loss, loss from continuing operations, or cash flows provided by or used in operating activities as calculated and presented in accordance with GAAP.  You should not rely on Adjusted EBITDA/EBITDAR as substitutes for any such GAAP financial measure.  We strongly urge you to review the reconciliation of GAAP net loss to Adjusted EBITDA/EBITDAR presented below, along with our consolidated balance sheets, statements of operations, and cash flows.  In addition, because Adjusted EBITDA/EBITDAR are not measures of financial performance under GAAP and are susceptible to varying calculations, this measure as presented may differ from and may not be comparable to similarly titled measures used by other companies.

The table below shows the reconciliation of net loss to Adjusted EBITDA/EBITDAR for the three and six months ended June 30, 2008 and 2007:

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2008			2007			2008			2007
Net loss	$	(25,234	)	$	(1,589	)	$	(51,202	)	$	(11,324	)
Provision for income taxes		270			1,044			480			1,320
Equity losses (gains) in unconsolidated joint ventures		(665	)		(7,065	)		857			(6,496	)
Depreciation and amortization		29,451			14,294			60,355			28,624
Amortization of deferred gains		(502	)		(549	)		(1,004	)		(1,103	)
Non-cash stock option compensation expenses		1,436			786			2,818			1,323
Convertible debentures conversion costs		-			-			-			1,329
Interest expense		22,741			16,801			43,783			30,333
Change in fair value of interest rate swaps		(972	)		-			(135	)		-
Interest income		(581	)		(599	)		(1,435	)		(1,182	)
Discontinued operations		4,768			291			5,366			760
Other non-cash unusual activity:
Professional and workers' compensation liability adjustments		(1,854	)		(1,659	)		(1,854	)		(1,672	)
Adjusted EBITDA		28,858			21,755			58,029			41,912
Facility lease expense		22,313			7,317			44,629			17,450
Adjusted EBITDAR	$	51,171		$	29,072		$	102,658		$	59,362

Subsequent Event

For a discussion of subsequent event, see Note 12 to the Unaudited Condensed Consolidated Financial Statements included in this report.

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Continued

June 30, 2008

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

Our earnings are affected by changes in interest rates as a result of our short-term and long-term borrowings.  At June 30, 2008, we had approximately $130.0 million of variable rate borrowings based on the LIBOR rate.  As of June 30, 2008, our weighted average variable rate is 2.13% in excess of the LIBOR rate.  For every 1% change in the LIBOR rate, our interest expense will change by approximately $1.3 million annually.  This analysis does not consider changes in the actual level of borrowings or operating lease obligations that may occur subsequent to June 30, 2008.  This analysis also does not consider the effects of the reduced level of overall economic activity that could exist in such an environment, nor does it consider actions that management might be able to take with respect to our financial structure to mitigate the exposure to such a change.

We currently have a $19.6 million interest rate swap contract that matures in August 2012 and a $12.4 million interest rate swap contract that matures in January 2010.  A 100 basis point increase in interest rates would increase the combined fair value of these swaps by approximately $882,000 and a 100 basis point decrease in interest rates would decrease the combined fair value of these swaps by approximately $919,000.

The downturn in the United States housing market in 2007 triggered a constriction in the availability of credit that is expected to continue in 2008.  This could impact our ability to borrow money or refinance existing obligations at acceptable rates of interest.  Thus far, we have experienced no significant barriers to obtaining credit and do not expect to in the near future.  See “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources.”

Item 4.  Controls and Procedures

(a)  Evaluation of disclosure controls and procedures.

Our co-chief executive officers and our chief financial officer, after evaluating the effectiveness of our “disclosure controls and procedures” (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this quarterly report, have concluded that, as of that date, our disclosure controls and procedures were effective.

(b) Changes in internal controls

We also carried out an evaluation of the internal control over financial reporting to determine whether any changes occurred during the period covered by this report.  Based on such evaluation, there has been no change in our internal control over financial reporting that occurred during the most recently completed fiscal quarter ended June 30, 2008, that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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PART II.  OTHER INFORMATION

Items 2, 3, and 5 are not applicable.

Item 1.  Legal Proceedings

From time to time, we are subject to lawsuits and other matters in the normal course of business, including claims related to general and professional liability.  Accruals for these claims are based upon actuarial and/or estimated exposure, taking into account self-insured retention or deductibles, as applicable.  While we cannot predict the results with certainty, we do not believe that any liability from any such lawsuits or other matters will have a material effect on our financial position, results of operations, or liquidity.

Item 1A.  Risk Factors

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2007, which could materially affect our business, financial condition or future results.  The risks described in our Annual Report on Form 10-K are not the only risks facing our Company.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

Item 4.                      Submission of Matters to a Vote of Security Holders

(a) Our Annual Meeting of Shareholders was held on June 12, 2008.

(b) Not applicable.

(c) The following matters voted upon at the meeting received the number of votes set forth below:

· Election of Class I, Class II, and Class III directors

· Ratification of appointment of independent registered public accounting firm

Election of Directors:
					Abstain or
Name	For		Withhold		Broker Non-vote
Daniel R. Baty		38,107,291		78,560		871,887
Bruce L. Busby		37,476,145		709,706		871,887
Charles P. Durkin, Jr.		37,476,645		709,206		871,887
Stuart Koenig		37,476,416		718,435		862,887
Granger Cobb		38,107,087		78,764		871,887
Ratification of Independent Public Accountants:
For	Against		Abstain		Broker Non-vote
38,089,695		7,076		89,080		871,887

(d) Not applicable.

Item 6.  Exhibits

See Index to Exhibits, which is incorporated by reference.

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

Dated:  August 8, 2008	EMERITUS CORPORATION
	(Registrant)
	/s/ Raymond R. Brandstrom
	Raymond R. Brandstrom, Executive Vice President - Finance, Chief Financial Officer, and Secretary

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Index to Exhibits

			Footnote
Number	Description		Number
10.2	Amended and Restated Stock Option Plan for Nonemployee Directors (as amended through
	December 7, 2005).		(1)
10.3	Amended and Restated 1998 Employee Stock Purchase Plan (as amended and restated
	as of March 26, 2008).
10.57	Documents Relating to Purchase and Financing of Communities from Fretus Investors (24 Communities).
	10.57.07	First Amendment to Loan Agreement (Amended and Restated) dated April 25, 2008, among 23
		limited liability companies and limited partnerships, collectively as borrower, and Capmark
		Bank, as lender.	(2)
	10.57.08	Amended and Restated Promissory Note of borrower dated May 1, 2008, in the
		principal amount of $16.8 million payable to Capmark Bank.	(2)
	10.57.09	Freddie Mac Security, Assignment and Subordination Agreement For Operating Lease dated
		April 25, 2008, among Emeritus Properties-NGH, LLC, Capmark Bank, and Fretus Investors
		Chandler LLC. Representative example of 18 communities, which in total equal $129 million.	(2)
	10.57.10	Multifamily Note dated April 25, 2008, between Fretus Investors Chandler LLC and
		Capmark Bank. Representative example of 18 communities which in total equal $129 million.	(2)
10.59	Documents Relating to Purchase and Financing of Communities from Alterra Healthcare Corporation (5 Communities)
	10.59.05	Fannie Mae Multifamily Mortgage, Assignment of Rents and Security Agreement dated April
		30, 2008, between Emerikeyt Liberal Springs, LLC and and Keycorp Real Estate	(2)
		Capital Markets, Inc in the principal amount of $5.3 million.
	10.59.06	Fannie Mae Subordination, Assignment and Security Agreement dated April
		30, 2008, between Emerikeyt Palms at Loma Linda Inc and and Keycorp Real Estate
		Capital Markets, Inc in the principal amount of $14.5 million.	(2)
	10.59.07	Fannie Mae Subordination, Assignment and Security Agreement dated April
		30, 2008, between Emerikeyt Springs at Oceanside Inc. and and Keycorp Real Estate
		Capital Markets, Inc in the principal amount of $14.5 million.	(2)
	10.59.08	Fannie Mae Multifamily Note dated April 30, 2008, in the principal amount of $5.3 million
		between  Emerikeyt Liberal Springs, LLC and and Keycorp Real Estate Capital Markets, Inc	(2)
	10.59.09	Fannie Mae Multifamily Note dated April 30, 2008, in the principal amount of $14.5 million
		between  Emerikeyt Palms at Loma Linda Inc and and Keycorp Real Estate Capital Markets, Inc	(2)
	10.59.10	Fannie Mae Multifamily Note dated April 30, 2008, in the principal amount of $5.6 million
		between Emerikeyt Springs at Ocenaside Inc. and and Keycorp Real Estate Capital Markets, Inc.	(2)
	10.59.11	Loan Agreement dated April 25, 2008, by and between Emerikeyt Fairways of Augusta LLC
		and Keybank National Association for $4.1 million	(2)
	10.59.12	Loan Agreement dated April 25, 2008, by and between Emerikeyt Lo of Broadmoor LLC
		and Keybank National Association for $9,3 million	(2)
	10.59.13	Promissory Note dated April 25, 2008, Emerikeyt Fairways of Augusta LLC payable to
		and Keybank National Association for principal amount of $4.1 million	(2)
	10.59.14	Promissory Note dated April 25, 2008, Emerikeyt Lo of Broadmoor LLC payable to
		and Keybank National Association for principal amount of $9.3 million.
10.7	Documents Relating to the Purchase of communities from Nationwide Health Properties, Inc. (NHP)
	(24 communities)
	10.70.02	First Amendment to Purchase and Sale Agreement dated March 25, 2008, by and among Nationwide
		Health Properties, Inc. and its affiliated signatories and Emeritus Corporation	(1)
	10.70.03	Master Credit Facility Agreement dated April 1, 2008, by and among Borrowers signatory
		hereto and Capmark Finance, Inc.	(1)
	10.70.04	Master Promissory Note of Emeritus Corporation dated April 1, 2008, in the principal amount of $241.9 million
		payable to Capmark Bank.	(1)
	10.70.05	Promissory Note of Emeritus Corporation dated March 31, 2008, in the principal
		amount of $30.0 million payable to Nationwide Health Properties, Inc.	(1)
	10.70.06	Promissory Note of Emeritus Corporation dated April 1, 2008, in the principal

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		Footnote
Number	Description	Number

		amount of $8.0 million payable to Nationwide Health Properties, Inc.	(2)
10.71	Documents Relating to the Purchase and Financing of Communities from Health Care REIT, Inc.  (HCN)
	(29 Communities in two phasses:  Phase 1: 19 communities, Phase 2: 10 communities )
	10.71.01	Asset Purchase Agreement dated June 9, 2008, by Emeritus Corporation and Health Care REIT,
		Inc. together with the affiliates of HCN	(2)
	10.71.02	First Amendment to the Asset Purchase Agreement dated June 30, 2008, by and between Emeritus
		Corporation and Health Care REIT, Inc. together with the affiliates of HCN	(2)
	10.71.03	Freddie Mac Multifamely Mortgage, Assignment of Rents and Security Agreement effective
		June 30, 2008, between Emeritol Woods at Eddy Pond LLC and KeyCorp Real Estate Capital
		Markets, Inc. Representative example of 19 communities, which in total equal $163.2 million.	(2)
	10.71.04	Freddie Mac Multifamily Note effective June 30, 2008, Emeritol Woods at Eddy Pond
		LLC jointly and severally promises to pay Keycorp Real Estate Capital Markets, Inc.
		Representative example of 19 communities, which in total equal $163.2 million.	(2)
	10.71.05	Promissory Note of Emeritus Corporation dated June 30, 2008, in the principal amount of $50.0 million payable to
		Health Care REIT, Inc.	(2)
31.1		Certification of Periodic Reports
	31.1.1	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302
		of the Sarbanes-Oxley Act of 2002 for Daniel R. Baty dated August 8, 2008.	(2)
	31.1.2	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302
		of the Sarbanes-Oxley Act of 2002 for L. Granger Cobb dated August 8, 2008.	(2)
	31.1.3	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302
		of the Sarbanes-Oxley Act of 2002 for Raymond R. Brandstrom dated August 8, 2008.	(2)
32.1		Certification of Periodic Reports
	32.1.1	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906
		of the Sarbanes-Oxley Act of 2002 for Daniel R. Baty dated August 8, 2008.	(2)
	32.1.2	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906
		of the Sarbanes-Oxley Act of 2002 for L. Granger Cobb dated August 8, 2008.	(2)
	32.1.3	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906
		of the Sarbanes-Oxley Act of 2002 for Raymond R. Brandstrom dated August 8, 2008.	(2)

Footnotes:
(1)	Filed as the indicated exhibit to First Quarter Report on Form 10-Q filed on May 9, 2008.
(2)	Filed herewith.

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