PACIFIC REHABILITATION & SPORTS MEDICINE INC, S-3/A, 1996-07-24

PACIFIC REHABILITATION & SPORTS MEDICINE INC
S-3/A, 1996-07-24
HOME HEALTH CARE SERVICES

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<PAGE>

As filed with the Securities and Exchange Commission on July 24, 1996

Registration No. 333-306
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- --------------------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------

AMENDMENT NO. 3

TO
FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
----------------

PACIFIC REHABILITATION &
SPORTS MEDICINE, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN CHARTER)

DELAWARE 93-1072052
(STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NUMBER)

8100 N.E. PARKWAY DRIVE, SUITE 190
VANCOUVER, WASHINGTON 98662
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
TELEPHONE NUMBER: (360) 260-8130
----------------

WILLIAM A. NORRIS
EXECUTIVE VICE PRESIDENT - FINANCE & ADMINISTRATION
8100 N.E. PARKWAY DRIVE, SUITE 190
VANCOUVER, WASHINGTON 98662
(NAME AND ADDRESS OF AGENT FOR SERVICE)
TELEPHONE NUMBER: (360) 260-8130

APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO PUBLIC: From time to
time after this Registration Statement becomes effective.

If the only securities being registered on this form are being offered
pursuant to dividend or interest reinvestment plans, please check the following
box: / /

If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, other than securities offered only in connection with dividend or interest
reinvestment plans, please check the following box: /X/

If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / /
------------

If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /
--------------

If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following
box. / /

<PAGE>

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CALCULATION OF REGISTRATION FEE
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PROPOSED MAXIMUM PROPOSED
TITLE OF EACH CLASS OF SECURITIES AMOUNT TO BE OFFERING PRICE PER MAXIMUM AMOUNT OF
TO BE REGISTERED REGISTERED SHARE () AGGREGATE REGISTRATION FEE
OFFERING
PRICE
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<S> <C> <C> <C> <C>
Common Stock, $0.01 par value 1,057,238 $8.1875(1) $8,656,136(1) $2,985(3)
- --------------------------------------------------------------------------------------------------------------
Common Stock, $0.01 par value 39,473 $4.10(2) $161,840(2) $56(3)
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Common Stock, $0.01 par value 149,354 $3.875(4) 578,747(4) 200.00(3)
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- --------------------------------------------------------------------------------------------------------------

</TABLE>

(1) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(c) of the Securities Act of 1933, as amended
(the "Securities Act") on the basis of the average of the high and
low prices of the Registrant's common stock as reported on the Nasdaq
Stock Market on January 11, 1996.

(2) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(c) of the Securities Act on the basis of the
average of the high and low prices of the Registrant's common stock
as reported on the NASDAQ Stock Market on April 30, 1996.

(3) $2,985.00 of the registration fee was paid upon filing of the
Registration Statement on January 16, 1996 and $56.00 was paid on
May 3, 1996 and $200.00 is paid herewith.

(4) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(c) of the Securities Act on the basis of the
average of the high and low prices ($4.125 and $3.625 respectively)
of the Registrant's common stock as reported on the NASSDAQ Stock
Market on July 22, 1996

----------------------

THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.

<PAGE>

----------------------

PACIFIC REHABILITATION & SPORTS MEDICINE, INC.

----------------------

ITEM NUMBER AND HEADING IN
FORM S-3 REGISTRATION STATEMENT LOCATION OR CAPTION IN PROSPECTUS
- ------------------------------- ---------------------------------
1. Forepart of Registration
Statement and Outside Front Forepart of Registration Statement;
Cover Page of Prospectus . . . . Outside Front Cover Page
2. Inside Front and Outside Back Inside Front and Outside Back Cover
Cover Pages of Prospectus. . . . Pages
3. Summary Information, Risk
Factors, and Ratio of Earnings Prospectus Summary; Risk Factors; The
to Fixed Charges . . . . . . . . Company
4. Use of Proceeds. . . . . . . . . Not Applicable
5. Determination of Offering Price. Not Applicable
6. Dilution . . . . . . . . . . . . Not Applicable
7. Selling Security Holders . . . . Selling Stockholders
8. Plan of Distribution . . . . . . Outside and Inside Front cover Page
9. Description of Securities to be
Registered . . . . . . . . . . . Not Applicable
10. Interests of Named Experts and
Counsel. . . . . . . . . . . . . Not Applicable
11. Material Changes . . . . . . . . Material Changes Since Year-End
12. Incorporation of Certain Incorporation of Certain Information By
Information By Reference . . . . Reference
13. Disclosure of Commission Position
on Indemnification for Securities
Act Liabilities. . . . . . . . . Not Applicable

<PAGE>

PROSPECTUS

1,246,062 SHARES

PACIFIC REHABILITATION
& SPORTS MEDICINE, INC.

COMMON STOCK ($0.01 PAR VALUE)

This Prospectus relates to 1,246,062 shares of Common Stock (the "Shares")
of Pacific Rehabilitation & Sports Medicine, Inc. (the "Company") to be offered
from time to time by certain shareholders of the Company named in this
Prospectus (the "Selling Shareholders"). All of the Shares offered hereunder
are to be sold on behalf of the Selling Shareholders. The shares covered hereby
include 279,199 shares of Common Stock held by certain Selling Shareholders
issuable upon conversion of promissory notes held by such persons prior to the
offering made by this Prospectus. This Prospectus does not cover such
promissory notes; only the shares of Common Stock issuable upon exercise thereof
are registered hereunder. The Company has been advised that the Selling
Shareholders expect to offer the Shares in the over-the-counter market on the
Nasdaq Stock Market, through negotiated transactions or otherwise, at market
prices prevailing at the time of sale, at prices related to such prevailing
market prices, or at prices otherwise negotiated. The aggregate proceeds to the
Selling Shareholders from the sale of the Shares will be the purchase price of
the Shares sold less the aggregate brokers' commissions, if any. By agreement,
the Company will pay all of the expenses incident to the registration of the
Shares. See "Selling Shareholders" and "Plan of Distribution."

THE PURCHASE OF THE SHARES INVOLVE CERTAIN MATERIAL RISKS. SEE "RISK
FACTORS."

<PAGE>

The Shares were or will be issued by the Company to the Selling Shareholders
in connection with certain acquisitions of clinics pursuant to (1) the stock
purchase agreement with Stephen B. Tollefson, P.S., dba Seattle ProSports
Therapy, Stephen B. Tollefson and Jim Whitesel, dated June 1, 1995; (2) the
stock purchase agreement with Northwest Evaluations for the Injured, Inc., and
Edward J. Frye, dated June 1, 1995; (3) the asset purchase agreement with Gary
McFarland, R.P.T., dated June 7, 1995; (4) the stock purchase agreement with
United Therapists, Inc., P.S., Daniel R. Coleman, P.T., and Ingrid P. Coleman,
P.T., dated June 8, 1995; (5) the asset purchase agreement with Michael C.
Gibbons, P.T., dated June 22, 1995; (6) the stock purchase agreement with
Northwest Physical Therapy Clinic, Inc., Robert E. Burles and Vinton R. Mougey,
dated July 18, 1995; (7) the stock purchase agreement with Roger J. Miller
Enterprises, Inc., dba Lake Oswego Physical Therapy, Roger J. Miller, Roger J.
Miller Charitable Remainder Unitrust and Diane Shiffer, dated July 18, 1995; (8)
the stock purchase agreement with Oregon City Physical Therapy, Inc., Paul
Winklesky, Nancy Winklesky, and The Paul and Nancy Winklesky Charitable
Remainder Trust, U/A/D June _____, 1995, dated July 18, 1995; (9) the stock
purchase agreement with Newberg Physical Therapy, Inc., Roger Giles and Diane
Giles, dated July 19, 1995; (10) the stock purchase agreement with Eischen
Physical Therapy, Inc., and C. George Eischen, dated July 20, 1995; (11) the
asset purchase agreement with James R. Weggenman, dba Willamette Physical
Therapy, dated July 25, 1995; (12) the stock purchase agreement with Longview
Physicians' Physical Therapy Services, P.S., Dennis Pittelko, P.T., and Bruce
Peterson, P.T., dated July 25, 1995; (13) the asset purchase agreement with John
Phillipe and Wayne Crinklaw, dba Hillsboro Physical Therapy Clinic, dated July
28, 1995; (14) the asset purchase agreement with Shaik M. Saheb, M.D., Inc.
dated March 1, 1995; (15) the Settlement and Release Agreement with Dennis
Pittelko, P.T. and Bruce Peterson, P.T., dated June 21, 1996; (16) the
Settlement and Release Agreement with Michael C. Gibbons dated July 16, 1996;
(17) the Settlement and Release Agreement with Robert G. Burles dated July
16, 1996; (18) the Settlement and Release Agreement with Paul and Nancy
Winklesky and The Paul and Nancy Winklesky Charitable Remainder Trust, U/A/D
June __, 1995, dated July 18, 1996; (19) the Settlement and Release Agreement
with Roger J. Miller Enterprises, Inc., dba Lake Oswego Physical Therapy,
Roger J. Miller, Roger J. Miller Charitable Remainder Unitrust and Diane
Shiffer dated July 22, 1996; (20) the Settlement and Release Agreement with
C. George Eischen dated July 18, 1996; (21) the Settlement and Release
Agreement with Vinton R. Mouget dated July 22, 1996; (22) the Settlement and
Release Agreement with Roger Giles, dated July 22, 1996; (23) the
Settlement and Release Agreement with James R. Weggenman dated July 22, 1996;
and (24) the Settlement and Release Agreement with Steven B. Tolleffson
dated July 23, 1996.

The Common Stock of the Company is traded on the over-the-counter Nasdaq
Stock Market under the symbol "PRHB." On July 22, 1996, the last reported sale
price for the Common Stock of the Company as reported on the Nasdaq Stock Market
was $4.00 per share.

THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR
ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY
OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.

THE DATE OF THIS PROSPECTUS IS JULY 23, 1996.

<PAGE>

TABLE OF CONTENTS

Available Information .........................................................4
Incorporation of Certain Information by Reference..............................5
Summary........................................................................7
Forward Looking Statements.....................................................7
Risk Factors...................................................................8
The Company...................................................................16
Selling Shareholders..........................................................23
Plan of Distribution..........................................................24
Legal Matters.................................................................24
Experts.......................................................................25
Pro Forma Condensed Combined Financial Information ......................... P-1

<PAGE>

AVAILABLE INFORMATION

The Company is subject to the informational and reporting requirements of
the Securities and Exchange Act of 1934, as amended (the "Exchange Act") and has
filed with the Securities and Exchange Commission a Registration Statement on
Form S-3 under the Securities Act with respect to the Shares offered hereby.
This Prospectus, which constitutes a part of the Registration Statement, does
not contain all of the information set forth in the Registration Statement and
the exhibits and schedules thereto. For further information with respect to the
Company and the Shares, reference is hereby made to such Registration Statement
and exhibits and schedules filed as a part thereof. The statements contained in
this Prospectus are not necessarily complete and, in each instance, reference is
made to the copy of such document filed as an exhibit to the Registration
Statement. Each such statement is qualified in all respects by such reference.
The Registration Statement and the exhibits and schedules forming a part thereof
may be inspected without charge at the public reference facilities maintained by
the Commission at Room 1024, Judiciary Plaza, 450 Fifth Street, N.W.,
Washington, D.C. 20549, and at the regional offices of the Commission located at
7 World Trade Center, New York, New York 10048 and at 500 West Madison Street,
Suite 1400, Chicago, Illinois 60661. Copies of such material may also be
obtained from the public reference facilities of the Commission, upon payment of
prescribed fees.

The Company's Common Stock is traded on the over-the-counter market on the
Nasdaq Stock Market. Reports and other information concerning the Company may
be inspected at the offices of the National Association of Securities Dealers,
Inc., at 1735 K Street, N.W., Washington, D.C. 20006. The Company furnishes its
shareholders with annual reports containing financial statements audited by its
independent auditors and makes available upon request quarterly reports
containing unaudited financial information for each of the first three quarters
of each fiscal year.

<PAGE>

INCORPORATION OF CERTAIN INFORMATION BY REFERENCE

The following documents filed by the Company (File No. 0-23472) with the
Commission are incorporated by reference in this Prospectus:

1. The Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1995, filed April 1, 1996 (as amended by Amendment No. 2
on Form 10-K/A filed July 11, 1996);

2. The Company's Quarterly Report on Form 10-Q for the quarterly period
ended March 31, 1996, filed May 15, 1996;

3. The Company's Current Reports on Form 8-K dated (i) April 2, 1996
(filed April 5, 1996); (ii) April 15, 1996 (filed April 16, 1996);
(iii) January 31, 1995 (filed February 15, 1995) (as amended by
Amendment No. 1 on Form 8-K/A filed April 17, 1995); (iv) March 6, 1995
(filed March 22, 1995) (as amended by Amendment No. 1 on Form 8-K/A
filed May 19, 1995); (v) April 28, 1995 (filed May 9, 1995) (as amended
by Amendment No. 1 on Form 8-K/A filed July 12, 1995); (vi) June 6,
1995 (filed June 21, 1995) (as amended by Amendment No. 1 on Form 8-K/A
filed August 21, 1995 and Amendment No. 2 on Form 8-K/A filed March 25,
1996); (vii) June 13, 1995 (filed July 19, 1995) (as amended by
Amendment No. 1 on Form 8-K/A filed September 18, 1995 and Amendment
No. 2 on Form 8-K/A filed March 25, 1996);(viii) July 21, 1995 (filed
August 7, 1995) (as amended by Amendment No. 1 on Form 8-K/A filed
October 6, 1995 and Amendment No. 2 on Form 8-K/A filed March 25,
1996); (ix) July 1, 1996, filed July 5, 1996; and (x) July 17, 1996,
filed July 19, 1996;

4. Amendment No. 1 on Form 10-K/A to the Company's Annual Report on Form
10-K for the period ended December 31, 1994, filed March 25, 1996;

5. Amendment No. 1 on Form 10-Q/A to the Company's Quarterly Report on
Form 10-Q for the quarterly period ended September 30, 1995, filed
March 25, 1996;

6. Amendment No. 2 on Form 8-K/A to the Company's Current Report on Form
8-K dated May 14, 1994, filed March 25, 1996;

7. Amendment No. 2 on Form 8-K/A to the Company's Current Report on Form
8-K dated June 27, 1994, filed March 25, 1996; and

8. The Company's Registration Statement on Form 8-A dated February 22,
1994 (filed February 24, 1994).

All documents and any definitive proxy statements filed by the Company
pursuant to Sections 13(a), 13(c), 14 or 15(d) of the Exchange Act subsequent to
the date of this Prospectus and prior to the termination of the offering of the
Shares offered hereby shall be deemed to be incorporated by reference into this
Prospectus and to be a part hereof.

<PAGE>

Any statement contained in a document incorporated by reference herein shall
be deemed to be modified or superseded for purposes of the Registration
Statement and this Prospectus to the extent that a statement contained in the
Registration Statement and this Prospectus or any other subsequently filed
document which also is or is deemed to be incorporated herein by reference
modifies or supersedes such statement. Any statement so modified or superseded
shall not be deemed, except as so modified or superseded, to constitute a part
of this Prospectus.

The Company hereby undertakes to provide, without charge to each person to
whom this Prospectus has been delivered, upon the written or oral request of any
such person, a copy of any or all of the foregoing documents incorporated herein
by reference (not including exhibits to such documents unless such exhibits are
specifically incorporated by reference into the information that this Prospectus
incorporates by reference). Requests should be directed to William A. Norris,
Executive Vice President - Finance & Administration, Pacific Rehabilitation &
Sports Medicine, Inc., 8100 N.E. Parkway Drive, Suite 190, Vancouver, Washington
98662; (360) 260-8130.

No dealer, salesman or any other person has been authorized to give any
information or to make any representation not contained in this Prospectus, and,
if given or made, such information and representation must not be relied upon as
having been authorized by the Company. This Prospectus does not constitute an
offer to sell or a solicitation of an offer to buy any of the securities offered
hereby in any state to any person to whom it is unlawful to make such offer in
such state. Neither the delivery of this Prospectus nor any sales made
hereunder shall, under any circumstances, create any implication that there has
been no change in the affairs of the Company since the date hereof or that any
information contained herein is correct as to any time subsequent to its date.

<PAGE>

SUMMARY

The Company provides physical therapy services to persons suffering from
work, sports and accident related injuries. In March 1994, the Company merged
with Pacific Rehab, Inc., an Oregon corporation. By way of closings on April
21, 1994 and May 9, 1994, the Company concluded an initial public offering of
2,760,000 shares of common stock (of which the Company sold 2,560,000 shares) at
$6.00 per share. At December 31, 1994, the Company owned and operated a total
of 39 clinics located in the states of Hawaii, California, Nevada, Arizona,
Texas, Mississippi, Florida and Maryland. Through December 1995, the Company
acquired 32 additional clinics, opened two new clinics and consolidated two
clinics. As of June 30, 1996, in Hawaii the Company completed the closure
of two clinics and related operations. As of the date hereof, the Company owns
and operates a total of 70 clinics in the states of Oregon, Washington,
California, Nevada, Hawaii, Arizona, Texas, Mississippi, Florida and Maryland.

All Shares offered hereunder were issued (or will be issued in the case of
convertible promissory notes to acquire shares of Common Stock) by the Company
in acquisitions consummated prior to the date hereof and are to be sold on
behalf of the Selling Shareholders. The Company has been advised that the
Selling Shareholders expect to offer the Shares in the over-the-counter market
on the Nasdaq Stock Market, through negotiated transactions or otherwise, at
market prices prevailing at the time of sale, at prices related to such
prevailing market prices, or at prices otherwise negotiated. The aggregate
proceeds to the Selling Shareholders from the sale of the Shares will be the
purchase price of the Shares sold less the aggregate brokers' commissions, if
any. By agreement, the Company will pay all of the expenses incident to the
registration of the Shares.

FORWARD LOOKING STATEMENTS

This Prospectus contains certain forward looking statements concerning the
Company, including, among others, that the Company intends to continue to
expand its operations through internal growth and through a limited number of
acquisitions, and cash, cash generated from operations, amounts available under
current and future credit facilities and future debt and equity offerings will
be sufficient to meet the Company's short and long term cash needs. Investors
are cautioned that all forward-looking statements involve risks and
uncertainties and several factors could cause actual results to differ
materially from these forward-looking statements.

These forward-looking statements are based upon certain assumptions and are
subject to a number of risks and uncertainties. Actual results could differ
materially from these forward-looking statements. In addition to other risks
described elsewhere in this Prospectus, important factors to consider, many of
which are beyond the Company's control, in evaluating such forward-looking
statements include the assumptions that (i) the Company will not experience
unanticipated working capital or other cash requirements; (ii) the outpatient
rehabilitation market will continue to grow and consolidate and the Company will
be able to consummate a limited number of strategic acquisitions on favorable
terms; (iii) managed care organizations will continue to grow and control more
patient referrals, such organizations will continue to demand that providers of
outpatient rehabilitation services have a regional presence, and the Company
will

<PAGE>

continue to be able to retain existing contracts and obtain new contracts with
managed care organizations; (iv) changes in federal and state legislation will
not further adversely impact the ability of physicians to refer patients to the
Company's clinics; (v) reimbursement and utilization rates for the Company's
therapy services will not be significantly reduced; (vi) the Company's marketing
efforts are successful; (vii) the Company will be able to extend or replace its
existing line of credit on favorable terms and conditions; and (viii) if needed,
additional debt or equity capital will be available and on terms acceptable to
the Company.

RISK FACTORS

In addition to the material contained, or incorporated by reference
elsewhere, in this Prospectus, Selling Shareholders and the persons acquiring
Shares hereunder should carefully consider the following factors.

LIMITED LIQUIDITY AND CAPITAL RESOURCES. The Company's operations and
acquisitions of clinics have been financed primarily by a private placement of
common stock in 1992, its initial public offering of common stock in 1994, bank
borrowings and cash generated from operations. The Company's current bank
borrowings are pursuant to a line of credit facility with Bank of America
Oregon. As of the date hereof, the maximum amount which could be borrowed was
approximately $12.1 million and borrowings were approximately $11.7 million.
The Line of Credit expires on August 1, 1996. There can be no assurance that
the Company will be successful in obtaining a renewal or replacement for the
Line of Credit, in which case, the Company may not be able to pay its debts and
other obligations in the ordinary course and the Company may have to
restructure the debt and obligations again and raise additional debt or equity
capital, the costs or effects of which may be to reduce or dilute earnings.

The Line of Credit contains three covenants, each of which must be satisfied
at all times. Failure to satisfy these conditions could result in the Company
being declared in default by the bank. The Company previously reported that, as
of September 30, 1995, it was not in compliance with one of these covenants.
The Company's failure to meet this condition was the result of lower earnings
and increases in the current portion of long-term obligations. In the agreement
to modify the Line of Credit, the bank waived this condition. The Company and
the bank entered into an agreement that retroactively revised the covenants for
the Line of Credit. The Company was in compliance with these covenants as of
December 31, 1995 and March 31, 1996. As a result of a one-time charge
for expenses, estimated in the aggregate to total approximately $975,000,
arising from the termination of the proposed merger with Horizon/CMS
Healthcare Corporation, a one-time charge for expenses, estimated, in the
aggregate, to total approximately $3.5 million, arising from the closure of
clinics and related operations in Hawaii, and projected lower earnings, the
Company anticipates not being in compliance with at least one of these
covenants as of the June 30, 1996 measurement date. The Company has notified
the bank of this possibility and the bank and the Company are in negotiations
regarding revisions to the covenants. The bank and the Company have agreed to
extend the expiration date until August 1, 1996. If the Company is unable to
comply with these covenants and is unable to reach agreement with the bank,
the bank may declare the Company in default under the Line of Credit
agreement, in which case the bank could demand immediate payment of all
amounts outstanding under the Line of Credit agreement or, in light of the
expiration of the Line of Credit agreement on August 1, 1996, could decline
to renew the Line of Credit agreement on terms acceptable to the bank and the
Company.

<PAGE>

During December 1995, the Company restructured the repayment terms with the
holders of approximately $3,200,000 of its debt and obligations previously
incurred in connection with acquisitions (the "Acquisition Debt"). In exchange
for deferring payment of principal until 1997, the Company agreed to pay such
holders interest of up to 9 percent per annum, except in one case where the
applicable interest rate increased on March 31, 1996 from 9 percent to 12
percent per annum. Due dates for debt and obligations in the following amounts
were amended to become due in 1997 as compared to the original due date that
occurred in the following quarters: first quarter 1996, $1,900,000; second
quarter 1996, $500,000; and third quarter 1996, $800,000. There can be no
assurance that the Company will be able to pay the deferred Acquisition Debt and
its other debts and obligations in the ordinary course, in which case the
Company may have to restructure the debt and obligations again and raise
additional debt or equity capital, the costs or effects of which may be to
reduce or dilute earnings.

The Company's ability to finance its activities from cash generated from
operations may be adversely impacted by certain factors described elsewhere in
this Prospectus, including adverse impacts on earnings from goodwill impairment,
declines in patient referrals, difficulties in managing the Company's growth,
reduction in reimbursement and utilization rates, impacts from governmental
regulations and health care reform efforts, the loss of the services of key
management personal, the inability to effectively compete with larger national
and regional healthcare companies, and seasonal and quarterly variability in
revenues and earnings in certain geographical markets. Because the Company's
ability to borrow funds under its current Line of Credit is limited at this
time, the Company's liquidity could be adversely impacted should any one or more
of these risks materialize in a material manner. A material decline in cash
generated from operations could cause the Company to be unable to pay its debts
and other obligations in the ordinary course, in which case the Company may have
to restructure the debt and obligations again and raise additional debt or
equity capital, the costs or effects of which may be to reduce or dilute
earnings.

IMPACT ON EARNINGS FROM POSSIBLE GOODWILL IMPAIRMENT. The excess of total
acquisition costs over the fair market value of net assets acquired (goodwill)
represented approximately 72% of the Company's assets as of March 31, 1996. The
Company amortizes goodwill over a period of 40 years. The Company reviews the
expected undiscounted cash flow from clinics in a geographical area on a
quarterly basis or more frequently when events or changes in circumstances
indicate that the carrying amount of the goodwill may not be recoverable. If,
in connection with such review, the Company determines that such cash flows are
less than the amount of the goodwill associated with such clinics, the
Company would have to reduce the goodwill to a fair value determined from
expected discounted cash flows. Such a reduction could result in a material
charge against earnings for the applicable period.

POSSIBLE LOSS OF REFERRALS. The Company has acquired and may, on a
selective basis in the future, acquire certain of its clinics from health care
professionals, such as physicians, who are the primary patient referral source
for such clinics. Upon consummation of an acquisition, the Company seeks to
broaden the clinic's referral base by expanding its marketing efforts to other
physicians, insurance companies, managed care organizations, lawyers and
employers. Initially, however, many of the clinics continue to derive a
significant amount of their revenue from their existing referral sources where
permitted by applicable law. After the Company acquires such

<PAGE>

a clinic, the incentive for the former owners to refer patients could be
diminished. Under current and proposed federal and state legislation, depending
on the type of consideration paid by the Company and the nature of any other
financial relationships between the Company and the sellers, the seller or other
referral sources may be prohibited from referring patients to the clinic. In
connection with the acquisition of clinics from physicians, the Company
typically enters into noncompetition agreements with the sellers (although such
sellers are not restricted from referring patients to other clinics). There can
be no assurance, however, that such contracts will be enforced according to
their terms and that the sellers will not begin competing with the Company.

The Company also has acquired and may, on a selective basis in the future,
acquire certain of its clinics from physical therapists. The Company believes
that the referral base for such clinics is dependent, in part, on the reputation
of the physical therapists at the clinic and their personal relationships with
referring physicians, insurance companies, managed care organizations, lawyers
and employers. The failure of these therapists to continue working at the
clinic could jeopardize the relationship between such referral sources and the
clinics. Accordingly, in such acquisitions, the Company attempts to enter into
a management contract with the seller to continue working at the clinic for at
least a transition period during which the Company attempts to develop
independent relationships with the referral sources.

The loss of referral sources has had and any such losses in the future may
have a material adverse effect on the Company's clinics and operating results.
In order to maintain revenues, the Company must provide services in a manner
that continues to be attractive to referral sources without providing any form
of prohibited remunerations as an inducement for referrals and, in most
instances, develop additional referral sources. There can be no assurance the
Company will be successful in maintaining and building a referral base for each
of its clinics.

POTENTIAL DIFFICULTIES IN MANAGING GROWTH. The Company's growth strategy
will require expanded patient services and support, increased personnel
throughout the Company, and expanded operational, financial and information
systems to better produce, collect, analyze and report statistical data used to
monitor and manage the Company's patient care delivery activities. There can be
no assurance that the Company will be able to continue to manage expanded
operations effectively. Failure to continue to implement such operational and
financial systems and to continue to add such resources could have a material
adverse impact on the Company's results of operations and financial condition.

<PAGE>

Rapidly growing businesses frequently encounter unforeseen expenses and
delays in completing acquisitions, as well as difficulties and complications in
integrating the acquired operations without disturbing the clinic's
profitability, referral base or professional staff. Unforeseen expenses,
delays, difficulties and complications could have a material adverse impact on
the Company's results of operations and financial condition.

REDUCTION IN REIMBURSEMENT AND UTILIZATION RATES. The health care industry
is generally experiencing a trend toward cost containment as private and
governmental payors seek to respond to escalating health care costs. One type
of response has been to place limitations on reimbursement rates by capping or
lowering fees or restricting the number of treatments which will be reimbursed
for any given condition. All of the states in which the Company currently
conducts business have fee schedules which limit the reimbursement rates under
workers' compensation programs and, in some cases, for physical injuries
incurred in automobile and other accidents. The Company expects that
legislation limiting the reimbursement of fees for various outpatient services,
including physical therapy services, will become more prevalent.

The Company's financial results from operations have been materially and
adversely impacted as a result of legislation in Hawaii, which became effective
in July 1995. Regulations promulgated under this legislation reduce
reimbursement rates and significantly reduce the number of permitted patient
visits, which may further adversely impact the Company. Additional legislation
may be adopted in Hawaii or in other states which also may adversely impact the
Company.

Reimbursement for the Company's services may also be limited by third-party
payors, such as insurers and managed care organizations. Such payors often
limit the amount of fees per visit, regardless of the number or type of
therapies applied to the patient or otherwise limit by the terms of the managed
care contract the amount of fees which may be charged. The Company expects the
trend toward third-party payor limiting of reimbursement levels for various
outpatient services, including outpatient rehabilitation services, will
continue. As a consequence, there can be no assurance that reimbursement for
the Company's rehabilitation services will remain at current levels. The
reduction or limits upon reimbursement levels for the Company's services would
adversely affect the profitability of or demand for the Company's services and
could have an adverse impact on the Company's financial condition and liquidity.
In addition, such payors are expected to continue to develop programs designed
to control or reduce the cost of health care services which may adversely affect
the profitability of or demand for the Company's services.

PROHIBITIONS ON REFERRALS DUE TO GOVERNMENTAL REGULATIONS. As a health care
provider, the Company is subject to extensive and changing federal, state and
local regulations governing licensure, conduct of operations at its facilities,
purchase or lease of its facilities, financial relationships with referral
sources, and direct employment of physical therapists and other licensed
professionals by a business corporation.

<PAGE>

Certain states have enacted legislation or regulations, or have interpreted
existing physical therapy licensing laws, to prohibit or restrict business
corporations, such as the Company, from practicing physical therapy through the
direct employment of physical therapists. In other states, including states in
which the Company currently operates, the courts or state officials have issued
rulings or opinions stating or suggesting that health care professionals may not
lawfully provide services as employees of business corporations such as the
Company. To the Company's knowledge, these rulings and opinions have not been
enforced to date. There can be no assurance, however, that these rulings or
opinions, or subsequently issued similar or more restrictive rulings, opinions,
legislation or regulations will not be issued, enacted or enforced in the future
or, if enforced, that the Company can adapt its operations to comply with such
rulings, opinions, legislation or regulations.

The Social Security Act prohibits providers and others from soliciting,
offering, receiving or paying, directly or indirectly any remuneration to induce
either making a referral for a Medicare or Medicaid-covered service or item or
ordering any covered service or item. Each violation of these antifraud and
abuse laws may be punished by a fine of up to $25,000 or imprisonment for up to
five years, or both, and may also be treated as violations of other criminal
statutes with more severe penalties. In addition, the Medicare and Medicaid
Patient and Program Protection Act of 1987 imposes civil sanctions for violation
of these prohibitions, punishable by monetary fines, which can be substantial,
and exclusion from the Medicare and Medicaid programs. Because these antifraud
and abuse laws are quite broad in scope and have been expansively interpreted,
they limit the manner in which the Company can pursue acquisitions from, market
its services to, and contract for services with, physicians and other health
care providers. Some interpretations of the antifraud and abuse laws would, as
to clinics owned by the Company which serve Medicare or Medicaid patients,
subject to scrutiny the ownership of debt or equity securities of the Company by
referring physicians, including those from whom the Company has purchased
physical therapy clinics. Further, representatives of the Office of the
Inspector General of the U.S. Department of Social and Health Services ("OIG"),
the agency with civil enforcement responsibility, have indicated their view
that, under certain circumstances, a payment for goodwill in the context of a
practice sale is contrary to such antifraud and abuse laws. Various state laws
and regulations also prohibit "fee-splitting," rebating and/or the giving and
accepting of referral fees or other consideration as compensation or inducement
for patient referrals.

<PAGE>

"compensation arrangements" between physicians and such providers. The statute
provides that an "ownership or investment interest" may be through "debt, equity
or other means." Penalties for violation of the statute include denial of
Medicare or Medicaid payment, as the case may be. In addition, civil monetary
penalties ($15,000 for each service, $100,000 for a scheme in violation of the
statute, or $10,000 per day for false reporting) and program exclusion may be
imposed under certain circumstances.

A number of the Company's clinics derive a portion of their revenue from the
Medicare or Medicaid programs. As to these clinics, any parties from whom the
clinics were acquired on terms which establish a "financial relationship," or
with whom the Company otherwise maintains a financial relationship not
specifically permitted by Stark II, do not refer patients to the clinics and,
therefore, management of the Company believes are not referral sources for
purposes of Stark II and the anti-fraud and abuse laws. Conversely, patients at
clinics acquired from referring physicians on terms which would otherwise
establish a "financial relationship" under Stark II are either: (1) not covered
by the Medicare or Medicaid programs or (2) treated without charge, i.e.,
neither the public health care programs nor the patient are billed for the
services. Less than 10 percent of the Company's total net revenues are derived
from Medicare and Medicaid programs.

States in which the Company operates have enacted laws and/or adopted
regulations, generally similar to Stark II, which restrict or prohibit health
care practitioners (including physicians) from referring patients to health care
facilities in which the practitioner has an ownership or other financial
interest or with which the practitioner has some other form of financial
relationship, subject to certain specific exceptions. These laws may apply
regardless of whether the source of payment for the services involved is a
public program, a private insurer, or some other payor.

It is also possible that the prohibitions under the antifraud and abuse laws
may be extended to all payors at the national level and apply regardless of
whether the source of payment is the Medicare or Medicaid programs or some other
public or private source of payment. If such legislation were enacted, or
similar legislation were enacted in additional states, the Company may be
required to restructure its relationships with certain of its referring
physicians, which may adversely affect the Company's financial condition or
operations.

POTENTIAL ADVERSE IMPACTS ON RESULTS FROM OPERATIONS DUE TO HEALTH CARE
REFORM. During 1995, various Congressional legislators introduced reform
proposals intended to control health care costs, improve access to medical
services for uninsured individuals and to balance the federal budget by the year
2002. These proposals included reduced rates of growth in the Medicare and
Medicaid programs and proposals to block grant funds to the states to administer
the Medicaid program. Certain of these budgetary proposals have been passed by
both Houses of Congress, including passage of the resultant committee bills.
These proposals were included in the 1995 budget reconciliation act, which the
President of the United States vetoed. Significant changes in reimbursement
levels under Medicare and changes in applicable governmental regulations could
significantly affect the future results of operations of the Company. There can
be no assurance that future legislation, health care or budgetary, or other
changes in the administration or interpretation of governmental health care
programs will not have an adverse effect on the results of operations of the
Company.

<PAGE>

DEPENDENCE UPON MANAGEMENT AND CLINICAL PERSONNEL. The Company believes
that its success in acquiring clinics and managing its operations effectively
will continue to depend substantially upon the continued services of certain key
management personnel. The loss of the services of any one or more of such
persons could have a material adverse effect on the Company's business and
prospects.

The Company's operations are also dependent upon attracting and retaining
highly-qualified physical therapists. It is generally recognized that the
demand for physical therapists exceeds the available supply. As a result, the
Company may experience difficulty recruiting and maintaining adequate staff.
Certain of the Company's competitors are larger and have greater financial
resources, which may provide such competitors with an advantage in attracting
and retaining physical therapists.

NEED TO EFFECTIVELY COMPETE WITH NATIONAL AND REGIONAL COMPANIES. The
physical therapy rehabilitation industry is highly competitive and is subject to
changes in the manner in which services are delivered and in which providers are
selected. The Company competes for patients with the outpatient rehabilitation
operations of acute care hospitals, managed care organizations and other
outpatient physical therapy clinics, including those owned by large national or
regional companies which have significantly greater financial resources than the
Company. The success of the Company and its clinics depends upon its ability to
maintain and establish satisfactory relationships with sources of patient
referrals.

The Company expects competition to intensify in certain markets, including
the Pacific Northwest, as the larger national companies acquire or attempt to
acquire clinics in market areas where such companies have not traditionally had
a significant presence.

SEASONALITY AND QUARTERLY VARIABILITY IN REVENUES AND EARNINGS. The Company
generally experiences a decrease in revenues in some markets in the summer
months of the third quarter and in certain markets in the fourth quarter of each
year as the number of patient visits tends to decline during the holiday
periods. In addition, the Company has grown and expects to continue to grow
through a limited number of acquisitions. The timing, number and integration of
the Company's acquisitions may cause financial results of operations to vary on
a quarterly basis.

<PAGE>

The Company also may experience decreases in revenues as a result of
inclement weather. For example, the Company experienced a higher than usual
summer seasonal decrease in revenue in the Baltimore market in the third quarter
of 1995 as unusually dry weather resulted in fewer personal injuries from
automobile accidents, and in the first quarter of 1996 as severe snowfall
prevented or discouraged patient attendance and caused the Company to close many
of its clinics in this market for a number of days. Other unusual weather
conditions, which prevent or discourage patients from attending their physical
therapy sessions, also may adversely impact revenues in certain markets.

On April 2, 1996, the Company announced that it had terminated its merger
agreement with Horizon/CMS Healthcare Corporation ("Horizon") on that date. In
connection with the proposed merger, the Company incurred certain expenses,
including those payable to its counsels, accountants, investment bankers and
consultants, which the Company estimates will total, in the aggregate,
approximately $975,000. These expenses will be paid in the ordinary course of
business and will be accounted for as a one-time non-recurring charge to
earnings in the second quarter of 1996.

From time to time, the Company also may consolidate or close clinics, reduce
personnel or take other actions in connection with which it will incur certain
expenses. These expenses usually will be paid in the ordinary course of
business and may be accounted for as a one-time charge to earnings in the
periods in which the action occurs.

As of June 30, 1996, in Hawaii the Company completed the closure of two
clinics and related operations and terminated 11 persons. The actions will
result in a one-time charge to expense, in an amount estimated to be
approximately $3.5 million, in the second quarter of 1996. These actions
were taken by the Company in response to reduced revenues in the Hawaii
market resulting from legislation enacted in Hawaii in 1995. That
legislation has reduced reimbursement rates and led to a reduction in patient
vists of approximately 50%. Of the total charge to be taken in the second
quarter, an amount estimated to be approximately $115,000 represents expenses
and charges associated with the closure of facilities, including the
termination of clinic leases and disposal of fixed assets, an amount
estimated to be approximately $30,000 represents employee severance
payments, benefits and associated taxes, an amount estimated to be
approximately $453,000 represents the write-off of net accounts receivable
which the Company believes may be uncollectible as a result of the closure of
the clinics and related operations, and an amount estimated to be
approximately $2.9 million represents a reduction in goodwill and other
intangibles associated with the closure of the clinics and related
operations. The Company is unable to predict whether these actions will lead
to improved results in 1996. The Company also is unable to predict whether
additional actions will be taken in Hawaii in the future and, if taken, what
impact such actions will have on the Company's operations and financial
results. As a result of the closure of these two clinics and related
operations, the Company now has five clinics in Hawaii.

POTENTIAL ANTI-TAKEOVER EFFECTS OF DELAWARE LAW; POSSIBLE ISSUANCES OF
PREFERRED STOCK. The Company is subject to the provisions of Section 203 of the
General Corporation Law of Delaware. In general, Section 203 prohibits a
publicly-held Delaware corporation from engaging in a "business combination"
with an "interested stockholder" for a period of three years after the date of
the transaction in which the person becomes an interested stockholder, unless
the business combination is approved in a prescribed manner or unless the
interested stockholder acquires at least 85 percent of the corporation's voting
stock (excluding shares held by certain designated stockholders) in the
transaction in which it becomes an interested stockholder. A "business
combination" includes mergers, asset sales and other transactions resulting in a
financial benefit to the interested stockholder. Subject to certain exceptions,
an "interested stockholder" is a person who, together with affiliates and
associates, owns, or within the previous three years did own, 15 percent or more
of the corporation's voting stock. This provision of the Delaware law could
delay and make more difficult a business combination even if the business
combination could be beneficial, in the short term, to the interests of the
stockholders. This provision of the Delaware law also could limit the price
certain investors might be willing to pay in the future for shares of the
Company's Common Stock.

<PAGE>

In addition, shares of preferred stock may be issued by the Board of
Directors without stockholder approval on such terms as the Board may determine.
The rights of the holders of Common Stock will be subject to, and may be
adversely affected by, the rights of the holders of any preferred stock that may
be issued in the future. Although the ability to issue preferred stock may
provide flexibility in connection with possible acquisitions and other corporate
purposes, such issuance may make it more difficult for a third party to acquire,
or may discourage a third party from acquiring, a majority of the voting stock
of the Company. The Company has no current plans to issue any shares of
preferred stock.

THE COMPANY

INTRODUCTION

During the year ended December 31, 1994, the Company, directly and through
subsidiaries, acquired 19 additional clinics in 12 transactions and opened two
new clinics. At December 31, 1994, the Company owned and operated a total of 39
clinics located in eight states.

In the first quarter of 1995, the Company acquired eight clinics in six
different transactions. One of the acquisitions occurred in Tacoma, Washington
and represented a new market for the Company. The remaining five acquisitions
strengthened the Company's presence in the Southern California, Miami, Florida,
and Baltimore, Maryland markets.

The Company continued its acquisition activity in the second quarter of
1995. During this period, it acquired ten additional clinics in seven
transactions and opened two new clinics. In April, the Company increased its
presence in the Las Vegas, Nevada area when it acquired a practice with two
clinics. In June, the Company substantially increased its presence in Western
Washington when it acquired practices with clinics located in Silverdale,
Tumwater, Chehalis, Kirkland, and Seattle, Washington. As of the end of the
second quarter, the Company owned and operated 59 clinics.

In the third quarter of 1995, the Company acquired fourteen additional
clinics, including thirteen in the new market area of Portland, Oregon. The
Company opened a new clinic in the Baltimore, Maryland area during the same time
period. As of the end of the third quarter, the Company owned and operated a
total of 74 clinics. During the fourth quarter, the Company closed and
consolidated two clinics in Hawaii. As of June 30, 1996, in Hawaii the
Company completed the closure of two clinics and related operations. As
of the date hereof, the Company owns and operates a total of 70 clinics located
in the states of Oregon, Washington, California, Nevada, Hawaii, Arizona, Texas,
Mississippi, Florida, and Maryland.

<PAGE>

The Company intends to continue to expand its operations through internal
growth, including opening new satellite clinics in existing markets, where
appropriate, to provide geographic coverage and to meet market demand for
services which cannot be reasonably satisfied at existing clinics, and through a
limited number of acquisitions.

INDUSTRY BACKGROUND

Rehabilitation is the process of restoring individuals disabled by injuries
and recovering from surgery to their optimum level of physical capabilities.
Rehabilitation services are provided on an inpatient and outpatient basis. On
an outpatient basis, rehabilitation services are provided by physicians and
licensed physical therapists in hospitals, managed care organizations and other
outpatient physical therapy clinics, including those owned by large national or
regional companies. Substantially all of the Company's services are provided on
an outpatient basis.

The Company believes the outpatient rehabilitation market will continue to
grow primarily as the result of (i) the recognition of the cost-effectiveness of
rehabilitation, (ii) the increased acceptance of rehabilitation by the health
care industry, (iii) increasing emphasis on physical fitness and the treatment
and prevention of sports injuries, (iv) the aging of the population and (v)
earlier discharge from acute care hospitals to alternate sites. The Company
also believes the outpatient rehabilitation market will continue to consolidate
due to the highly fragmented nature of the market, growing legislative and payor
pressure to prohibit or limit referrals by physicians to entities in which they
have a financial interest, and the preference of managed care organizations and
other third-party payors to contract with providers offering comprehensive,
cost-effective outpatient rehabilitation programs on a regional or national
basis.

SERVICES

The goals of physical therapy are to improve a patient's physical strength
and range of motion, reduce pain, help prevent reinjury and restore the ability
to perform basic activities. The primary services provided collectively at the
Company's clinics are:

PHYSICAL THERAPY MODALITIES AND THERAPEUTIC EXERCISES. Each patient
receives an initial evaluation by a licensed physical therapist upon which is
based an individual rehabilitation program tailored for that patient. Treatment
typically begins with acute pain relief through the use of therapy modalities
such as ice packs, massage, ultrasound, heat, traction and electrical
stimulation, and later includes such components as stretching, cardiovascular,
and neuromuscular strengthening exercises.

WORK HARDENING. Work hardening is a rehabilitation program that simulates
the specific job activities of an injured worker in order to prepare the worker
to return to work while addressing the issues of productivity, safety, physical
tolerances and worker behavior. The goal is to prepare the patient to work a
complete workday safely and without reinjury.

<PAGE>

FUNCTIONAL CAPACITY ASSESSMENT. Functional capacity assessments are used to
evaluate the physical condition and endurance of a current or prospective
employee to meet the requirements of employment. The assessment may be used by
employers, insurers and other payors to estimate the extent of rehabilitation
treatment needed or as an objective method of evaluating specific work capacity.

PREVENTIVE SERVICES. The Company also provides services designed to prevent
or avoid injuries in the work place. These preventive services, which may be
performed at an employer's work site, include programs to teach employees proper
body mechanics and techniques and detailed analysis of specific job activities,
such as lifting, with the goal of changing how a job is performed to prevent
injuries to employees.

MARKETING

The Company is continuing to implement a three-tier marketing program at the
local clinic, regional and corporate levels directed at physicians, insurance
companies, managed-care organizations, lawyers and employers.

At the local clinic level, the physical therapists are expected to maintain
relationships with existing referral sources and to establish relationships with
new referral sources, typically physicians, in the clinic's geographic area.

The Company has at least one full-time marketing position for each of eight
of its nine regions, and expects that a marketing position will be added to
additional regions when necessary. Regional marketing personnel provide support
to clinical personnel in their marketing efforts and are responsible for
developing and expanding business relationships with all referral sources such
as insurance companies, managed care organizations, lawyers and employers, as
well as the physicians targeted by the clinical personnel.

At the corporate level, the regional presidents concentrate on establishing
contracts with multi-regional managed care organizations, insurance companies
and employers. In addition, the regional presidents are expected to work with
and support the efforts of the regional marketing personnel.

The Company is aware of the growing importance of managed care organizations
in controlling patient referrals and their demand for high quality, cost-
effective care from service providers with a regional presence. Accordingly,
both its corporate and regional marketing personnel devote substantial efforts
to building relationships with these organizations. The Company has been able
to secure contracts and establish relationships with such organizations in the
past and believes that its sales and marketing efforts will allow it to acquire
additional contracts from and establish additional relationships with managed
care organizations in the future.

<PAGE>

SEASONALITY AND QUARTERLY VARIABILITY

The Company generally experiences a decrease in revenues in some markets in
the summer months of the third quarter and in certain markets in the fourth
quarter of each year as the number of patient visits tends to decline during the
holiday periods. In addition, the Company has grown and expects to continue to
grow through a limited number of acquisitions. The timing, number and
integration of the Company's acquisitions may cause financial results of
operations to vary on a quarterly basis.

COMPETITION

The physical therapy rehabilitation industry is highly competitive and
subject to changes in the manner in which services are delivered and in which
providers are selected. The Company competes for patients with the outpatient
rehabilitation operations of acute care hospitals, managed care organizations
and with other outpatient physical therapy clinics, including those owned by
large national companies such as HEALTHSOUTH Rehabilitation Corp. (including the
former operations of Caremark International, Inc.), Horizon/CMS Healthcare
Corporation, Living Centers of America, Inc. (including the former operations of
Rehability Corporation), and NovaCare, Inc. (including the former operations of
RehabClinics, Inc.).

<PAGE>

The Company also competes with other healthcare companies in acquiring
clinics. Several larger national companies with substantially greater financial
resources than the Company, such as those named above, have been actively
acquiring outpatient rehabilitation clinics. SEE RISK FACTORS--NEED TO
EFFECTIVELY COMPETE WITH NATIONAL AND REGIONAL COMPANIES.

GOVERNMENTAL REGULATIONS

The Federal Medicare/Medicaid Anti-Fraud and Abuse Amendments of 1977 to the
Social Security Act (the "Anti-Kickback Law") make it a criminal felony offense
knowingly and willfully to offer, pay, solicit or receive remuneration in order
to induce business for which reimbursement is provided under the Medicare or
Medicaid programs. In addition to criminal penalties, including fines up to
$25,000 and five years imprisonment, violations of the Anti-Kickback Law can
lead to civil monetary penalties and exclusion from the Medicare and Medicaid
programs. The scope of prohibited payments in the Anti-Kickback Law is broad
and includes economic arrangements involving hospitals, physicians and other
health care providers, including joint ventures, space and equipment rentals,
purchases of physician practices and management and personal services contracts.
Federal regulations describe certain arrangements that will not be deemed to
constitute violations of the Anti-Kickback Law. These "safe harbor" regulations
define certain practices that will be exempted from prosecution or other
enforcement action regarding inducements for referrals. Activities that fall
outside of the safe harbor rules include a wide range of activities frequently
engaged in between physicians, other providers and others. The application of
the safe harbor regulations could lead to a conclusion that certain arrangements
outside the safe harbors are subject to investigation and/or prosecution.
Failure to comply, however, does not mean that a health care provider will be
prosecuted for violation, or even that the activity is a violation of the law.
Because the regulations describe safe harbors and do not purport to describe
comprehensively all lawful or unlawful economic arrangements or other
relationships between health care providers and referral sources having these
arrangements or relationships may not be required to alter them in order to
ensure compliance with the Anti-Kickback Law.

In addition, under Section 1877 of the Social Security Act (known as "Stark
II"), effective January 1, 1995, physicians are prohibited from referring
Medicare or Medicaid patients for physical therapy and other "designated health
services" to an entity with which the physician has a "financial relationship."
Referrals are permitted only if the financial relationship falls within a
specific exception under the law. Certain provisions of Stark II are ambiguous
and the scope of the prohibition in the law is broad, in part because "financial
interest" is defined to include both "ownership of investment interests" of
physicians in the entity providing services and "compensation arrangements"
between physicians and such providers. The statute provides that an "ownership
of investment interest" may be through "debt, equity or other means." Penalties
for violation of the statute include denial of Medicare or Medicaid payment, as
the case may be. In addition, civil monetary penalties ($15,000 for each
service, $100,000 for a scheme in violation of the statute, or $10,000 per day
for false reporting) and program exclusion may be imposed under certain
circumstances.

<PAGE>

Aside from federal law, certain states in which the Company operates have
enacted laws and/or adopted regulations, generally similar to the federal
anti-referral laws, which restrict or prohibit health care practitioners
(including physicians) from referring patients to health care facilities in
which the practitioner has an ownership or other financial interest or with
which the practitioner has some other form of financial relationship, subject to
certain specific exceptions. Various state laws and regulations also prohibit
"fee-splitting," rebating and/or the giving and accepting of referral fees or
other consideration as compensation or inducement for patient referrals. These
laws may apply regardless of whether the source of payment for the services
involved is a public program, a private insurer, or some other payor.

Because these anti-fraud and abuse laws are quite broad in scope and have
been expansively interpreted, they limit the manner in which the Company can
pursue acquisitions from, market its services to, and contract for services
with, physicians and other health care providers. For example, representatives
of the Office of Inspector General, Department of Health and Human Services, the
agency with civil enforcement responsibility, have indicated their view that,
under certain circumstances, a payment for goodwill in the context of a practice
sale is contrary to such anti-fraud and abuse laws.

The Company complies with state anti-referral laws by attempting to ensure
that its financial arrangements with referring physicians fall within an
exception to the referral prohibition or by refraining from entering into
financial relationships with referring physicians. In particular, where state
laws similar to Stark II contain prohibitions generally similar to Stark II
which are applicable regardless of the payment source for the services which the
Company provides, any parties from whom the clinics were acquired on terms which
establish a "financial relationship," or with whom the Company otherwise
maintains a financial relationship not permitted under state law, do not refer
patients to the clinics involved.

<PAGE>

It is possible that the prohibitions under the federal anti-referral laws
may be extended to all payers at the national level and apply regardless of
whether the source of payment is the Medicare or Medicaid programs or some other
public or private source of payment. If such legislation were enacted, or
similar legislation were enacted in additional states, the Company may be
required to restructure its relationships with certain of its referring
physicians, which may adversely affect the Company's financial condition or
operations.

EMPLOYEES

At June 28, 1996, the Company had 611 employees. None of the Company's
employees are represented by a labor union. Management believes its relations
with its employees are good.

PROPERTIES

The Company leases all of the properties used for its rehabilitation clinics
and executive offices, with lease terms ranging from month to month to seven
years. The Company believes that replacement premises will be available on
favorable terms in the event one or more of its leases are terminated. The
Company intends to continue to lease the premises in which new centers are
located.

LEGAL PROCEEDINGS

In the ordinary course of its business, the Company may be subject from time
to time to claims and legal actions. The Company has no history of material
claims and no material actions are currently pending against the Company.

The Company maintains professional malpractice liability coverage on its
physical therapy and technical employees in the amount of $2,000,000 per
occurrence and $4,000,000 in the aggregate as well as $1,000,000 of general
premises liability insurance inclusive of rehabilitation centers and its
executive offices. In addition, the Company maintains a $10,000,000 umbrella
over the general liability insurance. The Company believes its insurance
policies to be sufficient in amount and coverage for its current operations.

<PAGE>

SELLING SHAREHOLDERS

The following table provides certain information with respect to the Shares
beneficially held and to be offered under this Prospectus from time to time by
each Selling Shareholder. Because the Selling Shareholders may sell all or part
of their Shares pursuant to this Prospectus, and this Offering is not being
underwritten, no estimate can be given as to the number of and percentage of
Shares that will be held by the Selling Shareholders upon termination of this
Offering. If all the Shares listed below are sold, the Selling Shareholders
will not hold any outstanding shares of Common Stock upon termination of this
Offering; however, certain Selling Shareholders hold options, warrants or
convertible notes to purchase Company Stock of the Company.

NUMBER OF SHARES TO
BE ACQUIRED UPON
NUMBER OF CONVERSION
SHAREHOLDER SHARES HELD OF PROMISSORY NOTE TOTAL
----------- ----------- ------------------ -----
Shaik M. Saheb, M.D. 66,414 66,414
Stephen B. Tollefson 40,259 40,259
James Whitesel 20,833 20,833
Gary McFarland, R.P.T. 30,556 30,556
Daniel R. Coleman, P.T. and 35,000 35,000
Ingrid P. Coleman, P.T.
Edward L. Frye 72,088 72,088
Medical Dental Development
Services, Inc. 5,690 5,690
Michael C. Gibbons, P.T. (A) 285,714 285,714
Robert E. Burles 21,429 14,286 35,715
Vinton R. Mougey 21,429 14,286 35,715
Roger J. Miller Charitable 64,286 64,286
Remainder Unitrust
Paul Winklesky and 34,286 34,286
Nancy Winklesky
The Paul and Nancy Winklesky 28,571 28,571
Charitable Remainder Trust,
U/A/D 6-__-95
Roger Giles and Diane Giles 66,000 66,000
C. George Eischen 125,504 125,504
James R. Weggenman 25,715 34,286 60,001
Dennis Pittelko, P.T. 40,163 40,163
Bruce Peterson, P.T. 17,212 50,625 67,837
John Phillipe 65,715 65,715
Wayne Crinklaw 65,715 65,715
---------- ------ -------

TOTAL (B) 966,863 279,199 1,246,062
---------- ---------- ----------
---------- ---------- ----------

(A) Figures do not include options held by Michael Gibbons to acquire 15,000
shares of the Company's Common Stock under the Company's 1993 Amended and
Restated Combination Stock Option Plan, as amended.

(B) Figures do not include options to acquire 15,000 shares of the Company's
Common Stock under the Company's 1993 Amended and Restated Combination Stock
Option Plan, as amended

<PAGE>

PLAN OF DISTRIBUTION

The Shares may be sold from time to time by the Selling Shareholders
directly or through brokers, agents or dealers who may receive compensation in
the form of commissions. The Shares may be sold in the over-the-counter market
on the Nasdaq Stock Market, through negotiated transactions or otherwise, at
market prices prevailing at the time of sale, at prices related to such
prevailing market prices, or at prices otherwise negotiated. Any such brokers,
agents or dealers who effect a sale of the Shares may be deemed to be
"underwriters" within the meaning of the Securities Act. The Company reserves
the right to suspend transfers of the Shares if, in its reasonable judgment,
such suspension is necessary to ensure that all material information about the
Company has been properly disseminated to the public.

The Company has advised each Selling Shareholder that he or she and any
such brokers, dealers or agents who effect a sale of the Shares are subject to
the prospectus delivery requirements under the Securities Act. The Company also
had advised each Selling Shareholder that in the event of a "distribution" of
his Shares, such Selling Shareholder and any broker, dealer or agent who
participates in such distribution may be subject to applicable provisions of the
Exchange Act and the rules and regulations thereunder, including without
limitation Rule 10b-6.

The Company will pay substantially all of the expenses incident to the
registration of the Shares, estimated to be approximately $16,041, as generally
required pursuant to the agreements referred to elsewhere herein setting forth
the Company's obligations to register the respective Shares owned by the Selling
Shareholders.

The Company's Common Stock is traded over-the-counter on the Nasdaq Stock
Market. The last reported sale of the Company's Common Stock on July 22, 1996
was $4.00 per share. Prospective purchasers should obtain current information
regarding the trading price of the Common Stock.

LEGAL MATTERS

The legality of the securities offered hereby is being passed upon for the
Company by Garvey, Schubert & Barer, Portland, Oregon.

<PAGE>

EXPERTS

The consolidated financial statements of Pacific Rehabilitation & Sports
Medicine, Inc. as of December 31, 1995 and 1994 and for the two years in the
period ended December 31, 1995 incorporated by reference into this Prospectus
and Registration Statement have been so incorporated in reliance on the report
of Price Waterhouse LLP, independent accountants, given on the authority of said
firm as experts in auditing and accounting.

The combined financial statements incorporated in this Prospectus by
reference to the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in
Exhibit A, dated July 21, 1995 (filed August 7, 1995) (as amended by Amendment
No. 1 on Form 8-K/A filed October 6, 1995 and Amendment No. 2 on Form 8-K/A
filed March 25, 1996) of Physical Therapy Clinic of Tualatin, Inc.; Roger J.
Miller Enterprises, Inc. dba Lake Oswego Physical Therapy; John Phillipe and
Wayne Crinklaw dba Hillsboro Physical Therapy Clinic; Northwest Physical Therapy
Clinic, Inc.; Eischen Physical Therapy Inc.; and Longview Physicians' Physical
Therapy Services, P.S. as of December 31, 1994 and for the year ended December
31, 1994 and Oregon City Physical Therapy, Inc. as of October 31, 1994 and for
the year ended October 31, 1994 have been so included in reliance on the report
of Price Waterhouse LLP, independent accountants, given on the authority of said
firm as experts in auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit B, dated
July 21, 1995 (filed August 7, 1995) (as amended by Amendment No. 1 on Form 8-
K/A filed October 6, 1995 and Amendment No. 2 on Form 8-K/A filed March 25,
1996) of Samuel H. Esterson, P.T. as of December 31, 1994 and for the year ended
December 31, 1994 have been so included in reliance on the report of Price
Waterhouse LLP, independent accountants, given on the authority of said firm as
experts in auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit A, dated
June 13, 1995 (filed July 19, 1995) (as amended by Amendment No. 1 on Form 8-K/A
filed September 18, 1995 and Amendment No. 2 on Form 8-K/A filed March 25, 1996)
of Michael C. Gibbons, P.T. dba Tigard Physical Therapy as of December 31, 1994
and for the year ended December 31, 1994 have been so included in reliance on
the report of Price Waterhouse LLP, independent accountants, given on the
authority of said firm as experts in auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit A, dated
June 6, 1995 (filed June 21, 1995) (as amended by Amendment No. 1 on Form 8-K/A
filed August 21, 1995 and Amendment No. 2 on Form 8-K/A filed March 25, 1996) of
Northwest Evaluation for the Injured, Inc. as of December 31, 1994 and for the
year ended December 31, 1994 has been so included in reliance on the report of
Price Waterhouse LLP, independent accountants, given on the authority of said
firm as experts in auditing and accounting.

<PAGE>

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit A, dated
April 28, 1995 (filed May 9, 1995) (as amended by Amendment No. 1 on Form 8-K/A
filed July 12, 1995) of Arthritis, Trauma & Sports Physical Therapy, Inc. as of
December 31, 1994 and for the year ended December 31, 1994 have been so included
in reliance on the report of Price Waterhouse LLP, independent accountants,
given on the authority of said firm as experts in auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit A, filed
March 6, 1995 (filed March 22, 1995) (as amended by Amendment No. 1 on Form 8-
K/A dated May 19, 1995) of Center for Industrial Medicine, Inc. as of December
31, 1994 and for the year ended December 31, 1994 have been so included in
reliance on the report of Price Waterhouse LLP, independent accountants, given
on the authority of said firm as experts in auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit A, dated
January 31, 1995 (filed February 15, 1995) (as amended by Amendment No. 1 on
Form 8-K/A filed April 17, 1995) of NW Center for Sports Medicine and Physical
Therapy, Inc. as of December 31, 1994 and for the year ended December 31, 1994
have been so included in reliance on the report of Price Waterhouse LLP,
independent accountants, given on the authority of said firm as experts in
auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit A,
dated May 14, 1994 (filed May 27, 1994) (as amended by Amendment No. 1 on
Form 8-K/A filed July 29, 1994 and Amendment No. 2 on Form 8-K/A filed March
25, 1996) of Professional Athletic Rehabilitation, Inc. as of December 31,
1993 and for the year ended December 31, 1993 have been so included in
reliance on the report of Price Waterhouse LLP, independent accountants,
given on the authority of said firm as experts in auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form K-8 in Exhibit B,
dated May 14, 1994 (filed May 27, 1994 (as amended by Amendment No. 1 on Form
8-K/A filed July 29, 1994 and Amendment No. 2 on Form 8-K/A filed March 25,
1996) of Michael D. Mericle, P.T. as of December 31, 1993 and for the year
ended December 31, 1993 have been so included in reliance on the report of
Price Waterhouse LLP, independent accountants, given on the authority of said
firm as experts in auditing and accounting.

<PAGE>

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8/K in Exhibit C,
dated May 14, 1994 (filed May 27, 1994) (as amended by Amendment No. 1 on
Form 8-K/A filed July 29, 1994 and Amendment No. 2 on Form 8-K/A filed March
25, 1996) of Care Concepts, Inc., dba Pacific Physical Therapy as of December
31 ,1993 and for the year ended December 31, 1993 have been so included in
reliance on the report of Price Waterhouse LLP, independent accountants,
given on the authority of said firm as experts in auditing and accounting.

The financial statements incorporated in this Prospectus by reference to
the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K in Exhibit A, dated
June 27, 1994 (filed July 5, 1994) (as amended by Amendment No. 1 on Form 8-K/A
filed September 12, 1994 and Amendment No. 2 on Form 8-K/A filed March 25, 1996)
of Advance Rehabilitation Technologies, Inc. as of December 31, 1993 and for the
year ended December 31, 1993 have been so included in reliance on the report of
Price Waterhouse LLP, independent accountants, given on the authority of said
firm as experts in auditing and accounting.

The consolidated financial statements and schedule of Pacific
Rehabilitation & Sports Medicine, Inc. and subsidiaries for the year ended
December 31, 1993, incorporated by reference herein or in the Registration
Statement have been so incorporated in reliance on the report of Grant Thornton
LLP, independent accountants, given upon the authority of said firm as experts
in auditing and accounting.

PRO FORMA CONDENSED COMBINED FINANCIAL INFORMATION

The attached pro forma condensed combined statement of operations gives
effect to the Company's acquisitions of businesses during 1995 as if each such
business had been acquired on January 1, 1995. The statement does not purport
to be indicative of the results which would have actually been obtained had the
acquisitions occurred as of January 1, 1995, or which may be obtained in the
future. The statement should be read in conjunction with (a) the historical
financial information of the acquired businesses and (b) the Company's Annual
Report on Form 10-K for the period ended December 31, 1995, as amended by
Amendment No. 2 on Form 10-K/A, filed July 11, 1996.

<PAGE>

PACIFIC REHABILITATION & SPORTS MEDICINE, INC. AND SUBSIDIARIES

INDEX TO UNAUDITED PRO FORMA FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------

Page
Introduction to Unaudited Pro Forma Financial Statements.....................P-2

Pacific Rehabilitation & Sports Medicine, Inc. and
Subsidiaries Unaudited Pro Forma Statement of
Operations for the Year Ended December 31, 1995............................P-3

Notes to Unaudited Pro Forma Financial Statements............................P-4

P-1

<PAGE>

PACIFIC REHABILITATION & SPORTS MEDICINE, INC. AND SUBSIDIARIES

INTRODUCTION TO UNAUDITED PRO FORMA FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------

The Company's unaudited pro forma statement of operations for the year ended
December 31, 1995 (on page P-3) give effect to acquisitions effected during the
periods, as if all such transactions effected during the periods had occurred on
January 1, 1995. The unaudited pro forma statements of operations for the year
ended December 31, 1995 include historical results of operations of Pacific
Rehab for its fiscal year ended December 31, 1995 and the results of operations
of the acquisitions for varying fiscal periods to the extent not already
included in the historical amounts of Pacific Rehab as more fully described in
the accompanying notes to the unaudited pro forma financial statements. The
historical amounts have been adjusted by giving effect to the assumptions and
adjustments included in the accompanying notes to the unaudited pro forma
financial statements.

The following pro forma financial information may not necessarily reflect the
financial condition or results of operations of Pacific Rehab or of the
companies on a combined basis, which would have actually resulted had the
transactions referred to above occurred as of the date and for the periods
indicated or reflect the future earnings of Pacific Rehab or of the companies on
a combined basis. The pro forma financial information should be read in
conjunction with the accompanying notes to the unaudited pro forma financial
statements and the financial statements of Pacific Rehab and other acquisitions
included or incorporated by reference herein.

P-2

<PAGE>

PACIFIC REHABILITATION & SPORTS MEDICINE, INC. AND SUBSIDIARIES
UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1995
- --------------------------------------------------------------------------------

Historical Acquisitions Pro forma
Pacific Acqui- after
Rehab sitions(1) adjustments(2)(3) acquisitions
------- ---------- ----------------- ------------
(in thousands, except per share amounts)

Net revenues $ 35,073 $ 7,603 $ - $ 42,676
Cost of revenues 20,223 4,465 - 24,688
-------- -------- --------- --------

Gross profit 14,850 3,138 - 17,988
-------- -------- --------- --------

Operating expenses:
Selling, general and
administrative
expenses 8,993 1,248 - 10,241
Depreciation and
amortization 1,923 112 224 2,259
-------- -------- --------- --------

10,916 1,360 (224) 12,500
-------- -------- --------- --------

Operating income 3,934 1,778 (224) 5,488
-------- -------- --------- --------

Nonoperating (expense)
income:
Interest expense (1,153) - (240) (1,393)
Interest income 14 - - 14
-------- -------- --------- --------
(1,139) - (240) (1,379)
-------- -------- --------- --------
Earnings before
income taxes 2,795 1,778 (464) 4,109

Income taxes 1,202 - 568 1,770
-------- -------- --------- --------

Earnings from
continuing operations $ 1,593 $ 1,778 $ (1,032) $ 2,339
-------- -------- --------- --------
-------- -------- --------- --------

Earnings from continuing
operations per common
and common equivalent
share $ 0.20 $ 0.27
-------- --------
-------- --------

Weighted average shares
outstanding:
Primary 7,894 8,716
-------- --------
-------- --------

P-3

<PAGE>

PACIFIC REHABILITATION & SPORTS MEDICINE, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED PRO FORMA FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
- --------------------------------------------------------------------------------

I. Explanation of Pro Forma Adjustments

(1) Pro Forma Statements of Operations

The Company's unaudited pro forma statements of operations for the year
ended December 31, 1995 include: (i) the historical results of operations
of the Company for the year ended December 31, 1995, (ii) the historical
results of operations of the Company's individually significant
acquisitions accounted for under the purchase method of accounting for the
period from January 1, 1995 through the dates of acquisition which occurred
throughout the year ended December 31, 1995, and (iii) the historical
results of operations of the Company's immaterial acquisitions accounted
for under the purchase method of accounting for periods from January 1,
1995 through the date of acquisition, which occurred throughout the year
ended December 31, 1995. The following table presents the historical
results of operations for the Company's individually significant
acquisitions, presented separately, and the Company's individually
immaterial, presented in the aggregate:

Arthritis Longview
Trauma & Physicians
Center for Sports Physical Hillsboro Tigard Clem G. Total
Industrial Physical Therapy Physical Physical Eischen, Immaterial Company
Medicine Therapy Services, P.S. Therapy Therapy P.C. Acquisitions Acquisitions
Historical Historical Historical Historical Historical Historical Historical Historical
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues $ 348 $ 324 $ 838 $ 306 $ 597 $ 567 $ 4,623 $ 7,603
Cost of revenues 139 109 420 101 301 382 3,013 4,465
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Gross profit 209 215 418 205 296 185 1,610 3,138
Operating expenses:
Selling, general and
administrative expenses 92 76 63 38 51 42 886 1,248
Depreciation and
amortization 2 1 - (5) 12 9 93 112
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
94 77 63 33 63 51 979 1,360
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Operating income 115 138 355 172 233 134 631 1,778
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------

Nonoperating income (expense):
Interest expense - - - - - - - -
Interest income - - - - - - - -

---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
- - - - - - - -
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------

Earnings before income taxes $ 115 $ 138 355 172 233 134 $ 631 $ 1,778
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------

</TABLE>

P-4

<PAGE>

(2) The Company's Individually Significant and Individually Immaterial
Acquisition Adjustments for the Year Ended December 31, 1995:

The following table presents the pro forma adjustments for: (i) the
Company's individually significant acquisitions, presented separately, and
the Company's immaterial acquisitions, presented in the aggregate, to
reflect the results of operations of all these acquisitions to the extent
not included in the Company's historical results of operations for the year
ended December 31, 1995 as if such acquisitions had occurred as of January
1, 1995:

Net revenues $ - $ - $ - $ - $ - $ - $ - $ -
Cost of revenues - - - - - - - -
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Gross profit - - - - - - - -
Operating expenses:
Selling, general and
administrative expenses - - - - - - - -
Depreciation and
amortization 5 13 15 30 24 15 122 224
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
(5) (13) (15) (30) (24) (15) (122) (224)
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Operating income (5) (13) (15) (30) (24) (15) (122) (224)
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Nonoperating income (expense):
Interest expense (13) (23) (54) (47) - - (103) (240)
Interest income - - - - - - - -
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
(13) (23) (54) (47) - - (103) (240)
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------

Earnings before income taxes $ (18) $ (36) (69) (77) (24) (15) $ (225) $(464)
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------

</TABLE>

The aggregate purchase price of the Company's individually significant and
individually immaterial acquisitions for the year ended December 31, 1995
approximated $27,803, consisting of the payment of cash, issuance of the
Company's common stock and the issuance of debt. The Company's adjustments
for the year ended December 31, 1995 consist of the following:

(a) Adjustments for the year ended December 31, 1995 have been
recorded to reflect additional depreciation and amortization
expense in connection with the above acquisitions, respectively.
These amounts are comprised of: (i) additional depreciation
expense on property and equipment recorded as a result of the
allocation of the purchase price based on an average depreciable
life of 7 years and (ii) additional amortization expense on
goodwill recorded as a result of the allocation of the purchase
price to goodwill based on an amortization period of 40 years.

P-5

<PAGE>

(b) Adjustments for the year ended December 31, 1995 have been
recorded to reflect additional interest expense in connection
with the above acquisitions. These amounts are comprised of
additional interest expense in connection with additional debt
incurred to fund the acquisitions. These amounts were computed
based on: (i) additional debt incurred, (ii) stated interest
rates on the additional debt and (iii) prorated for the period
from January 1, 1995 through the date of acquisition.

(3) Income Taxes:

An effective tax rate of 40% has been applied to all acquisitions for all
periods, except with respect to the Company on an historical basis, for
which the actual historical effective tax rate has been maintained.

P-6

<PAGE>

PART II
INFORMATION NOT REQUIRED IN PROSPECTUS

ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.

The expenses relating to the registration of the Shares will be borne by
the Company. Such expenses are estimated to be as follows:

SEC Registration Fee $ 3,041.00

Accountant's fees* $ 4,000.00

Printing fees* $ 1,000.00

Legal fees* $15,000.00

Total* $23,041.00

*Estimated

ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS.

Under Section 145 of the General Corporation Law of the State of Delaware,
as amended, the Company has the power to indemnify directors and officers under
certain prescribed circumstances and subject to certain limitations against
certain costs and expenses, including attorneys' fees actually and reasonably
incurred in connection with any action, suit or proceeding, whether civil,
criminal, administrative or investigative, to which any of them is a party by
reason of his or her being a director or officer of the Company if it is
determined that he or she acted in accordance with the applicable standard of
conduct set forth in such statutory provision.

Article VI of the Company's Amended and Restated Bylaws provides
indemnification to directors and officers of the Company against all expenses,
liability and loss incurred as a result of such persons being a party to, or
threatened to be made a party to, any action, suit or proceeding by reason of
the fact that he or she is or was a director, officer, employee or agent of the
Company if the person acted in good faith and in a manner which he or she
reasonably believed to be in or not opposed to the best interests of the Company
and, with respect to any criminal act or proceeding, that the person had no
reasonable cause to believe his or her conduct was unlawful.

The Company also has entered into indemnification agreements with its
officers and directors and has purchased directors' and officers' liability
insurance.

<PAGE>

ITEM 16. LIST OF EXHIBITS.

Exhibit Number Description
- -------------- -----------
5 Opinion of Garvey, Schubert & Barer

23.1 Consent of Price Waterhouse LLP

23.2 Consent of Grant Thornton LLP

23.3 Consent of Garvey, Schubert & Barer
(included in Exhibit 5)

24.1* Power of Attorney of Frank Jungers

24.2* Power of Attorney of John Elorriaga

*Filed previously

<PAGE>

ITEM 17. UNDERTAKINGS.

(a) The undersigned registrant hereby undertakes:

(1) To file, during any period in which offers or sales are being
made, a post-effective amendment to this registration statement:

(i) To include any prospectus required by Section 10(a)(3) of
the Securities Act of 1933;

(ii) To reflect in the prospectus any facts or events
arising after the effective date of the registration
statement (or most recent post-effective amendment
thereof) which individually or in the aggregate,
represent a fundamental change in the information set
forth in the registration statement;

(iii) To include any material information with respect to the
plan of distribution not previously discussed in the
registration statement or any material change to such
information in the registration statement.

PROVIDED, HOWEVER, that paragraphs (a)(1)(i) an d(a)(1)(ii)
do not apply if the information required to be included in a
post-effective amendment by those paragraphs is contained in
periodic reports filed by registrant pursuant to Sections 13
or 15(d) of the Securities Exchange Act of 1934 that are
incorporated by reference in the registration statement.

(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall
be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities
at that time shall be deemed to be the initial bona fide offering
thereof.

(3) To remove from registration, by means of a post-effective
amendment, any of the securities being registered which remain
unsold at the termination of the offering.

(b) The undersigned registrant hereby undertakes that, for purposes of
determining any liability under the Securities Act of 1933, each
filing of the registrant's annual report pursuant to Section 13(a) or
15(d) of the Securities Exchange Act of 1934 (and, where applicable,
each filing of an employee benefit plan's annual report pursuant to
Section 15(d) of the Securities Exchange Act of 1934) that is
incorporated by reference in the registration statement shall be
deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.

<PAGE>

(h) Insofar as indemnification for liabilities under the Securities Act of
1933 may be permitted to directors, officers and controlling persons
of the registrant pursuant to the foregoing provisions, or otherwise,
the registrant has been advised that in the opinion of the Securities
and Exchange Commission such indemnification is against public policy
as expressed in the Act and is, therefore, unenforceable. In the
event that a claim for indemnification against such liabilities (other
than the payment by the registrant of expenses incurred or paid by a
director, officer or controlling person of the registrant in the
successful defense of any action, suit or proceeding) is asserted by
such director, officer or controlling person in connection with the
securities being registered, the registrant will, unless in the
opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question
of whether such indemnification by it is against public policy as
expressed in the Act and will be governed by the final adjudication of
such issue.

<PAGE>

SIGNATURES

Pursuant to the requirements of the Securities Act of 1933, the Registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing on Form S-3 and has duly caused this Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Vancouver, State of Washington, on July 23, 1996.

Registrant: Pacific Rehabilitation & Sports
Medicine, Inc.

By: /s/ Bill Barancik
----------------------------------------
Bill Barancik
President and Chief Executive Officer

Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed below by the following persons in the
capacities and on the dates indicated.

Signature Title Date
--------- ----- ----

/s/ Bill Barancik President and Chief July 23, 1996
- ------------------------- Executive Officer
Bill Barancik (Principal Executive Officer)

/s/ William A. Norris Executive Vice President July 23, 1996
- ------------------------- - Finance and Administration
William A. Norris (Principal Financial and
Accounting Officer)

/John A. Elorriaga/* Director July 23, 1996
- -------------------------
John A. Elorriaga

/Frank Jungers/* Director July 23, 1996
- -------------------------
Frank Jungers

* By /s/ William A. Norris July 23, 1996
----------------------
William A. Norris
Attorney-In-Fact

<PAGE>

EXHIBIT INDEX

Exhibit Number Description
- -------------- -----------
5 Opinion of Garvey, Schubert & Barer

23.1 Consent of Price Waterhouse LLP

23.2 Consent of Grant Thornton LLP

23.3 Consent of Garvey, Schubert & Barer (included in Exhibit 5)

24.1* Power of Attorney of Frank Jungers

24.2* Power of Attorney of John A. Elorriaga

* Filed previously

w<PAGE>

EXHIBIT 5

July 23, 1996

Pacific Rehabilitation
& Sports Medicine, Inc.
8100 N.E. Parkway Drive, Suite 190
Vancouver, Washington 98662

Gentlemen:

We have acted as counsel for Pacific Rehabilitation & Sports Medicine, Inc.
(the "Company") in connection with the filing of a registration statement on
Form S-3 (the "Registration Statement") under the Securities Act of 1933, as
amended, covering 1,246,062 shares of common stock (the "Shares") of the Company
to be sold from time to time by certain existing shareholders of the Company
(the "Selling Shareholders").

We have reviewed those documents, corporate records, and other instruments
we deemed necessary for the purposes of this opinion. As to matters of fact
which have not been independently established, we have relied upon
representations of officers of the Company.

Based on the foregoing, it is our opinion that, under the corporate laws of
the State of Delaware, the Shares to be offered and sold by the Selling
Shareholders have been duly authorized under the Amended and Restated
Certificate of Incorporation of the Company and, when issued by the Company and
sold by the Selling Shareholders, will be validly issued, fully paid and
nonassessable securities of the Company.

This opinion is dated as of the date hereof.

We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement and to the reference to this opinion under Item 5 in the
Registration Statement.

Sincerely,

GARVEY, SCHUBERT & BARER

/s/ Garvey, Schubert & Barer

<PAGE>

Exhibit 23.1

Consent of Independent Public Accountants

We hereby consent to the incorporation by reference in the Prospectus
constituting part of Amendment No. 3 to this Registration Statement on Form S-3
of our report dated March 14, 1996 appearing on page F-2 of Pacific
Rehabilitation & Sports Medicine, Inc.'s Annual Report on Form 10-K for the year
ended December 31, 1995 (as amended by Amendment No. 2 on Form 10-K/A, filed
July 11, 1996) (the "Form 10-K").

We also consent to incorporation by reference in the Prospectus of our report
dated February 11, 1995, except as to the March 1995 acquisitions described in
the last four paragraphs of Note 15, which is as of March 21, 1995, and as to
subsequent financing activities and the merger agreement described in Note 16,
which is as of December 21, 1995, appearing on Page F-2 of the Pacific
Rehabilitation & Sports Medicine, Inc. Annual Report on Form 10-K for the year
ended December 31, 1994 (as amended by Amendment No. 1 of the Form 10-K/A, filed
March 25, 1996). We also consent to the incorporation by reference of our
report on the Financial Statement Schedules, which appears on page S-1 of the
Form 10-K.

We also consent to the incorporation by reference in this Prospectus of our
report dated September 29, 1995, relating to the combined financial statements
of Physical Therapy Clinic of Tualatin; Roger J. Miller Enterprises, Inc., dba
Lake Oswego Physical Therapy; John Phillipe and Wayne Crinklaw dba Hillsboro
Physical Therapy Clinic; Northwest Physical Therapy Clinic, Inc.; Eischen
Physical Therapy Clinic, Inc.; Longview Physicians' Physical Therapy Services,
P.S.; and Oregon City Physical Therapy which is included as Exhibit A in the
Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K dated July 21, 1995
(filed August 7, 1995) (as amended by Amendment No. 1 on Form 8-K/A filed
October 6, 1995 and Amendment No. 2 on Form 8-K/A filed March 25, 1996); our
report dated September 15, 1995 relating to the financial statements of Samuel
H. Esterson, P.T., which is included as Exhibit B in the Pacific Rehabilitation
& Sports Medicine, Inc. Form 8-K dated July 21, 1995 (filed August 7, 1995) (as
amended by Amendment No. 1 on Form 8-K/A filed October 6, 1995 and Amendment No.
2 on Form 8-K/A filed March 25, 1996); our report dated September 1, 1995
relating to the financial statements of Michael C. Gibbons, P.T., dba Tigard
Physical Therapy, which is included as Exhibit A in the Pacific Rehabilitation &
Sports Medicine, Inc. Form 8-K dated June 13, 1995 (filed July 19, 1995) (as
amended by Amendment No. 1 on Form 8-K/A filed September 18, 1995 and Amendment
No. 2 on Form 8-K/A filed March 25, 1996); our report dated August 4, 1995
relating to the financial statements of Northwest Evaluation for the Injured,
Inc., which is included as Exhibit A in the Pacific Rehabilitation & Sports
Medicine, Inc. Form 8-K dated June 6, 1995 (filed June 21, 1995) (as amended by
Amendment No. 1 on Form 8-K/A filed August 21, 1995 and Amendment No. 2 on Form
8-K/A filed March 25, 1996); our report dated June 30, 1995 relating to the
financial statement of Arthritis, Trauma & Sports Physical Therapy, Inc., which
is included as Exhibit A in the Pacific Rehabilitation & Sports Medicine, Inc.
Form 8-K dated April 28, 1995 (filed May 9, 1995) (as amended by Amendment No. 1
on Form 8-K/A filed July 12, 1995); our report dated May 12, 1995 relating to
the financial statements of Center for Industrial Medicine, Inc., which is
included as Exhibit A in the Pacific Rehabilitation &

<PAGE>

Sports Medicine, Inc. Form 8-K dated March 6, 1995 (filed March 22, 1995) (as
amended by Amendment No. 1 on Form 8-K/A filed May 19, 1995); our report dated
April 7, 1995 relating to the financial statements of NW Center for Sports
Medicine and Physical Therapy, Inc., which is included as Exhibit A in the
Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K dated January 31, 1995
(filed February 15, 1995) (as amended by Amendment No. 1 on Form 8-K/A filed
April 17, 1995); our report dated July 1, 1994 relating to the financial
statements of Professional Athletic Rehabilitation, Inc., which is included in
Exhibit A in the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K dated
May 14, 1994 (filed May 27, 1994) (as amended by Amendment No. 1 on Form 8-K/A
filed July 29, 1994 and Amendment No. 2 on Form 8-K/A filed March 25, 1996); our
report dated July 19, 1994 relating to the financial statements of Michael D.
Mericle, P.T., which is included in Exhibit B in the Pacific Rehabilitation &
Sports Medicine, Inc. Form 8-K dated May 14, 1994 (filed May 27, 1994) (as
amended by Amendment No. 1 on Form 8-K/A filed July 29, 1994 and Amendment No. 2
on Form 8-K/A filed March 25, 1996); our report dated July 9, 1994 relating to
the financial statements of Care Concepts, Inc., dba Pacific Physical Therapy,
which is included in Exhibit C in the Pacific Rehabilitation & Sports Medicine,
Inc. Form 8-K dated May 14, 1994 (filed May 27, 1994) (as amended by Amendment
No. 1 on Form 8-K/A filed July 29, 1994 and Amendment No. 2 on Form 8-K/A filed
March 25, 1996); and our report dated August 19, 1994 relating to the financial
statements of Advanced Rehabilitation Technologies, Inc., which is included in
Exhibit A in the Pacific Rehabilitation & Sports Medicine, Inc. Form 8-K dated
June 27, 1994 (filed July 5, 1994) (as amended by Amendment No. 1 on Form 8-K/A
filed September 12, 1994 and Amendment No. 2 on Form 8-K/A filed March 25,
1996).

We also consent to the references to us under the headings "Experts" in such
Prospectus.

/S/ PRICE WATERHOUSE LLP

Price Waterhouse LLP
Portland, Oregon

July 23, 1996

<PAGE>

Exhibit 23.2

Consent of Independent Public Accountants

We have issued our report dated February 4, 1994 accompanying the consolidated
financial statements and schedule of Pacific Rehabilitation & Sports Medicine,
Inc. and Subsidiaries appearing in the 1995 Annual Report of the Company on Form
10-K for the year ended December 31, 1995 (as amended by Amendment No. 2 on
Form 10-K/A filed July 11, 1996) which are incorporated by reference in this
Amendment No. 3 to the Registration Statement on Form S-3. We consent to the
incorporation by reference in the Registration Statement of the aforementioned
report and to the use of our name under the caption "Experts."

GRANT THORNTON LLP

/S/ GRANT THORNTON LLP

Portland, Oregon

July 23, 1996