Select Medical Holdings Corp

NYSE:SEM

Earnings Call Analysis

Strong Performance in Hospital Divisions Drives Growth

For the second quarter of 2024, the company saw consolidated revenue growth of 5% and adjusted EBITDA growth of 3%. The inpatient rehabilitation division performed exceptionally well, showing double-digit growth with an 11% increase in revenue and a 13% rise in adjusted EBITDA. Meanwhile, the critical illness recovery hospital division saw a 5% revenue increase and a 10% rise in adjusted EBITDA. The company's EPS for the quarter was $0.60, slightly down from $0.61 last year. Guidance for 2024 anticipates revenues between $6.9 billion and $7.1 billion, with adjusted EBITDA between $845 million and $885 million.

Strong Quarterly Performance

In the second quarter of 2024, Select Medical delivered strong financial performance. Consolidated revenue increased by 5% compared to the same quarter in the previous year, reaching an impressive total of $1.75 billion. Adjusted EBITDA also grew, albeit moderately, by 3% to $226.3 million. This solid performance was primarily driven by the exceptional results of the company's hospital divisions.

Inpatient Rehabilitation Division Shines

The Inpatient Rehabilitation Division was a standout performer during the quarter, achieving a remarkable 11% increase in revenue and a 13% rise in adjusted EBITDA compared to Q2 2023. It demonstrated robust growth with a daily census increase of 7% and a 5% rise in rate per patient day. Despite incurring $3 million in startup losses related to the opening of the Rush Specialty Hospital unit in April, the adjusted EBITDA margin for this division improved slightly to 23.1% from 22.7% in the previous year.

Challenges in Outpatient Rehabilitation

While the Outpatient Rehabilitation Division saw a 4% increase in revenue, it faced challenges in terms of adjusted EBITDA, which decreased by 12% from the prior year. The adjusted EBITDA margin dropped from 10.8% to 9.1%. The division's patient volumes increased by 4%, and the net revenue per visit remained stable at $100, supported by improvements in commercial managed care rates, offset by lower Medicare rates. The team is focused on improving patient access, productivity, and staffing to address these challenges.

Critical Illness Recovery Division's Steady Progress

The Critical Illness Recovery Hospital Division performed well, reporting a 5% increase in revenue and a 10% rise in adjusted EBITDA compared to the same quarter last year. The division incurred $3.6 million in startup losses related to new hospitals, down from $5.1 million in Q2 2023. While occupancy slightly decreased to 67% from 68%, the average daily census increased by 1%, and the rate per day improved by 4%. The adjusted EBITDA margin for this division also improved to 11.9% from 11.4% last year.

Concentra's Contribution and IPO

Concentra, Select Medical's occupational medicine subsidiary, reported a 2% increase in net revenues and a 1% rise in adjusted EBITDA compared to the same quarter in the previous year. The revenue growth was primarily driven by a 4% increase in rates, attributed to state fee schedule increases and a higher mix of workers' compensation visits. Recently, Concentra successfully completed its initial public offering (IPO), issuing 22.5 million shares at $23.50 per share. Select Medical still owns approximately 82.23% of Concentra's stock post-IPO and expects to distribute its remaining interest to shareholders within 12 months.

Debt Reduction Efforts

Select Medical has taken significant steps to reduce its debt. Proceeds from the Concentra IPO and related debt transactions were used to pay down $300 million of outstanding revolver debt and prepay $1.64 billion of its term loan. At the end of July, the consolidated debt balance stood at approximately $3.1 billion, with Select Medical's leverage around 3.2x and Concentra's leverage at approximately 3.8x. The company aims to finish the year with a consolidated leverage ratio between 3.2x and 3.3x.

Positive Outlook and Guidance

Select Medical remains optimistic about its future growth. The company expects full-year 2024 revenues to be in the range of $6.9 billion to $7.1 billion, adjusted EBITDA between $845 million and $885 million, and fully diluted earnings per share (EPS) ranging from $1.95 to $2.19. Adjusted EPS is anticipated to be between $1.96 and $2.20. Capital expenditures for the year are projected to be between $225 million and $275 million, primarily allocated towards development projects.

Expansion and Development Projects

The company continues to expand its footprint with new development projects. In the quarter, Select Medical opened a new critical illness recovery hospital with a distinct rehabilitation unit in Chicago, in partnership with Rush University. Additionally, the company is on track to open a 48-bed rehab hospital in Jacksonville, Florida, later this year. For 2025 and 2026, Select Medical has several exciting projects in the pipeline, including new hospitals in partnership with Cleveland Clinic, UPMC, and Banner Health. Overall, the company plans to add 449 new beds by 2026.

Recognition and Awards

Select Medical received significant recognition from U.S. News & World Report for its rehabilitation hospitals. Six Select Medical rehabilitation hospitals were ranked among the nation's best for 2024-2025. This recognition underscores the company's commitment to providing high-quality care and delivering exceptional patient experiences. The consistent recognition of Kessler Institute for 32 consecutive years, along with accolades for other hospitals in the network, highlights the organization's dedication to excellence.

Earnings Call Transcript 2024-Q2

[Operator]

Good morning, and thank you for joining us today for Select Medical Holdings Corporation's Earnings Conference Call to discuss the Second Quarter 2024 Results and the company's business outlook. Speaking today are the company's Executive Chairman and Co-Founder, Robert Ortenzio; and the company's Senior Executive Vice President of Strategic Finance and Operations, Martin Jackson. Management will give you an overview of the quarter and then open the call for questions.

Before we get started, we would like to remind you that this conference call may contain forward-looking statements regarding future events or the future financial performance of the company, including, without limitation, statements regarding operating results, growth opportunities and other statements that refer to Select Medical's plans, expectations, strategies, intentions and beliefs. These forward-looking statements are based on the information available to management of Select Medical today, and the company assumes no obligation to update these statements as circumstances change.

At this time, I will turn the conference over to Mr. Robert Ortenzio.

[Robert Ortenzio, executive]

Thank you, operator. Good morning, everyone. Welcome to Select Medical's Earnings Call for Second Quarter 2024. Before I address our second quarter results, I wanted to highlight a few items. First, we successfully completed Concentra's initial public offering on July 26. The extraordinary efforts of many of our Concentra's select colleagues throughout the process greatly appreciated. Concentra issued 22,500,000 shares at an IPO share price of $23.50 and now trades under the symbol CON on the New York Stock Exchange. The underwriters of the IPO transaction have a 30-day option to purchase an additional 3,375,000 shares of Concentra common stock.

Select Medical still owns 82.23% of Concentra's stock or 80.09% if the underwriters exercised their full allotment. Select expects to distribute its remaining interest in Concentra to its shareholders within 12 months of the IPO as required by the private letter ruling from the IRS. In connection with the planned separation, Concentra entered into financing arrangements, which included a new senior credit facility consisting of $850 million 7-year term loan, a $400 million 5-year revolving facility, which was undrawn at closing and $650 million of 6.875% senior notes due 2032. The majority of the net proceeds from the Concentra IPO-related debt transactions were used by Select to pay down debt.

Concentra will be holding -- hosting their first conference call later this morning at 10:30 Eastern Time where they will provide more detailed information regarding their performance and insight into their business. On another positive note, U.S. News & World Report recently issued its annual best hospitals list. I'm pleased to share with you that 6 Select Medical rehabilitation hospitals at 12 locations have been placed among the top in the nation for 2024, 2025. They are at #4, Kessler Institute for Rehabilitation; #14, Banner Rehabilitation Hospital; #20 Baylor Scott & White Institute for Rehabilitation Dallas; #23, California Rehabilitation Institute in Los Angeles; #24 Cleveland Clinic Rehabilitation Hospital; and #38 OhioHealth Rehabilitation Hospital in Columbus. This marks the 32nd consecutive year that Kessler Institute has been named among the nation's best hospitals for rehabilitation in the fourth year in a row for Baylor Scott & White Dallas and OhioHealth.

This recognition spotlights the commitment of each hospital providing the highest quality of care to patients and their families every day. It also demonstrates the dedication of every team member to our culture of delivering an exceptional patient experience. On the development front, we opened a new critical illness recovery hospital with a distinct part rehabilitation unit in Chicago with Rush University system, adding 44 critical illness and 56 rehab beds on 8 full nights. We are on target to open a 48-bed rehab hospital in Jacksonville, Florida later this year with our partner, U.S. Health Jacksonville.

The joint venture hospital and a hospital branded U.S. Health Rehabilitation Hospital North will be located in a new tower of UF Health. There are many other exciting development projects we have in the works for 2025 and 2026 in the inpatient rehabilitation division. To recap, in 2025, we're opening our fourth rehab hospital with Cleveland Clinic in Fairhill, our second hospital with UPMC in Central Pennsylvania and our 43 hub hospitals part of our joint venture with Banner in Tucson, Arizona. In 2026, we are planning to open a new 60-bed rehab hospital in Southern New Jersey, the Bacharach Institute for rehab in partnership with AtlantiCare and are scheduled to open a new freestanding 63-bed rehab hospital in Ozark, Missouri with Cox Health system.

Overall, we are very pleased with the development results in the pipeline for our specialty hospital divisions. Between the specific projects I just mentioned as well as some other smaller expansions in new distinct part units in existing hospitals. We plan to add 449 additional beds to our operations from the remainder of 2024 through 2026. The additional beds consist of 423 rehab hospital beds, which includes 54 nonconsolidating beds and 26 LTAC beds. There are also many other opportunities under evaluation that would further increase our Select specialty hospital footprint.

This quarter, our outpatient rehab division added 15 clinics via 8 de novos and 3 acquisitions a total of 7 clinics. This is offset by the closure of 5 underperforming clinics and the fold-in of 7 clinics into existing operations upon lease expiration. The pipeline for future growth remains strong, with 16 executed leases for de novo clinics scheduled to open later this year, along with 1 clinic acquisition in North Jersey.

Moving on to the second quarter results. We continue 2024 with another strong quarter. The hospital divisions continued to exceed our expectations with the inpatient rehabilitation division returning double-digit growth in both revenue and adjusted EBITDA for the second straight quarter this year. Overall, our consolidated adjusted EBITDA grew 3% and revenue grew by 5% compared to Q2 of the prior year, with all 4 divisions exceeding prior year revenue. For the quarter, total company adjusted EBITDA was $226.3 million compared to $219.5 million in the prior year. Our consolidated adjusted EBITDA margin was 12.9% for Q2 compared to 13.1% in the prior year.

Our critical illness recovery hospital division continues to perform performed well with a 5% increase in revenue and a 10% increase in adjusted EBITDA compared to same quarter prior year. Critical illness incurred $3.6 million of start-up losses related to new hospitals this quarter compared to $5.1 million in the same quarter prior year. Current quarter start-up losses primarily related to the opening of Rush Specialty hospital in April. And while our occupancy was slightly down from same quarter last year, at 67%, down from 68%, our average daily census increased 1%. Our rate per day increased by 4%. Our adjusted EBITDA margin was 11.9% for the quarter compared to 11.4% in prior year Q2. Critical illness experienced a 1% reduction in their salary wage and benefits to revenue ratio compared to prior year Q2 with a 56.1% margin.

Nursing agency utilization decreased 14% and agency rates decreased by 4% compared to same quarter prior year. Orientation hours decreased 12% to prior year -- from prior year Q2. Nursing sign-on incentive bonuses decreased 18% from prior year Q2. On the regulatory front, yesterday afternoon, CMS issued the finest LTAC rules fiscal year 2024, which will be effective October 1 of this year. The final rule includes a 2.6% increase in the federal base rate, which is higher than the proposed rule at 2.4%. The high-cost outlier threshold increased by $17,175 from $59,873 to $77,048, which was higher and the increased outlined in the proposed rule of $15,524.

The MS LTAC DRG relative weight and expected length of stay were also updated in the final rule. As previously mentioned, our inpatient rehab hospital division had a very strong quarter with 11% increase in revenue and 13% increase in adjusted EBITDA compared to Q2 prior year. Inpatient rehab incurred $3 million of startup losses this quarter primarily related to the opening of Rush Specialty Hospital unit in April compared to no start-up losses in the prior year. Average daily census increased 7% and our rate per patient day increased 5%. Our occupancy of 84% was consistent with prior year. The adjusted EBITDA margin for inpatient rehab was 23.1% for Q2, which was higher than the prior year margin of 22.7%.

This week, CMS issued the final inpatient rehab rules for fiscal 2025, which were effective October 1. The final rule includes a 1.97% increase with standard federal payment rate, which is higher than the 1.79% included in the proposed rule. The high-cost outlier threshold increased $1,620, which is slightly less than the $1,735 increase in the proposed rule. The CMG relative weights and average length of stay values were also updated in the final rule. Concentra experienced an increase of 2% in net revenues and 1% adjusted EBITDA over prior year same quarter.

The increase in revenue was driven primarily by a 4% increase in rate, which was attributed to state fee schedule increases along with a higher mix of workers' comp visit. Consistent with the first quarter, Concentra work comp volume remained strong with an increase of 2%. It was offset by a 4% decrease in employer base visits which are reimbursed at lower rates. Demand for employer-based visits have normalized compared to the COVID years where we experienced a significant churn and labor force. We expect a decrease in employer-based visits to level off in the near future.

Concentra's adjusted EBITDA margin was 21.3% for the quarter compared to 21.5% in the same quarter prior year. Outpatient rehab division experienced an increase of 4% in revenue with patient volumes increasing by 4% and net revenue per visit of $100, consistent with prior year. Our volume continues to maintain an upward trend and net revenue per visit has stabilized with improvements in commercial managed care rates, offset by a decrease in our Medicare rates. The outpatient division's adjusted EBITDA decreased 12% compared to prior year, and the adjusted EBITDA margin went from 10.8% to 9.1%. Our outpatient team is focused on improving patient access, productivity and staffing. Thus far in Q3, we have seen positive results when compared to prior year Q3 performance. Earnings per share and adjusted earnings per share were $0.60 for the second quarter compared to $0.61 per share in the same quarter prior year.

In regards to our allocation and deployment of capital, our Board of Directors declared a cash dividend of $0.125, payable on August 30 to stockholders of record as of the close of business of August 14. This past quarter, we did not repurchase shares under our Board-authorized share repurchase program and we continue to evaluate stock repurchases, reduction of debt and development opportunities.

That concludes my prepared remarks. I'll turn it over to Marty Jackson for some additional financial details before we open the call up for questions.

[Martin Jackson, executive]

Thanks, Bob, and good morning, everyone. I'll begin by providing additional detail on the progress where we continue to make regarding labor costs within the critical illness recovery hospital division. Overall, our SWB as a percentage of revenue ratio was in line with our expectations at 56.1% this quarter, which is a decrease from 56.7% in Q2 of prior year. In the second quarter of this year, we again saw a decrease in agency costs and utilization from prior year Q2.

Compared to Q2 '23, RN agency costs decreased by 16% and utilization decreased from 18% down to 16%. The agency rate for RNs also decreased by 4% from $77 to $74. Nursing sign-on incentive bonuses decreased, as Bob had mentioned, by 18%, up by 18% from Q2 of prior year and 16% from the first quarter of this year. Finally, we also saw a decrease of 12% in our orientation hours for new hires. We are very pleased with the continued progress in regards to our labor costs.

Moving on to our financials in Q2, equity and earnings of unconsolidated subsidiaries were $6.3 million. This compares to $10.5 million in the same quarter prior year. The decline in earnings was largely a result of the write-off of an impaired business we had a minority interest in. Net income attributable to noncontrolling interest was $17.2 million. This compares to $13.6 million in the same quarter prior year. This increase is due to improved performance in our consolidated joint ventures. Interest expense was $37.1 million in the second quarter. This compares to $49 million in the same quarter of prior year. The reduction in interest expense was principally due to the accelerated recognition of the gain of our interest rate hedge due to the prepayment of our term loan, which occurred in July as a result of the Concentra IPO.

At the end of the quarter, we had $3.6 billion of debt outstanding and $111.2 million of cash on the balance sheet. Our debt balance at the end of the quarter includes $2 billion in term loans, $345 million in revolving loans, $1.2 billion and 6.25% senior notes and $63.4 million of other miscellaneous debt. We ended the quarter with net leverage of our senior secured credit agreement of 4.13x. As of June 30, we had $367.4 million of availability on our revolving loans. The interest rate on the $2 billion of our term loans is capped at 1% SOFR plus 300 basis points through September 30, 2024.

At the end of July, we utilized the proceeds from the IPO that Bob had mentioned and related debt transactions to pay off $300 million that was outstanding on our revolver with the remainder allocated to prepay $1.64 billion of our term loan. At the end of July, our consolidated debt balance, which includes Concentra is approximately $3.1 billion with approximately billion residing at Concentra and $1.6 billion at Select. Our consolidated net leverage is now approximately 3.5x with Select leverage around 3.2x and Concentra approximately 3.8x. We expect to finish this year at approximately 3.2x to 3.3x leverage on a consolidated basis with Select slightly below 3x and Concentra at 3.5x to 3.6x levered.

For the second quarter, operating activities provided $278.2 million in cash flow. Our days sales outstanding, or DSO, was 56 days at June 30, 2024, compared to 52 days at June 30, '23 and 58 days at March 31, 2024, the improvement compared to Q1 is attributable to the reduction in claims processing backlog that was impacted by the changed health care cyber incident. We continue to see a reduction in our DSO in Q3 as we move on from the cyber incident. Investing activities used $54.1 million of cash in the second quarter, primarily due to $55.5 million in purchases of property, equipment and other assets, slightly offset by a sale of assets.

Financing activities used $205.5 million of cash in the second quarter. We had $165 million in net payments on our revolving lines of credit, $16.3 million in dividends on our common stock and $14.2 million in net payments on other debt. As stated previously, we did not repurchase any shares under our Board authorized repurchase program this quarter. Last year, the Board approved a 2-year extension of the share repurchase program, which remains in effect until December 31, 2025, unless further extended or earlier terminated by the Board. We are reaffirming our business outlook.

For 2024, we expect revenues to be in the range of $6.9 billion to $7.1 billion, adjusted EBITDA to be in the range of $845 million to $885 million, fully diluted earnings per share to be in the range of $1.95 to $2.19 and adjusted earnings per share to be in the range of $1.96 to $2.20. Capital expenditures are expected to be in the range of $225 million to $275 million for 2024 with the majority of those dollars towards development.

This concludes our prepared remarks. And at this time, we would like to turn it back over to the operator to open the call up for questions.

[Operator]

[Operator Instructions] And our first question comes from the line of Ben Hendrix with RBC Capital Markets.

[Benjamin Hendrix, analyst]

I just wanted to get a little more information on the LTAC margin. I appreciate the comments about the start-up costs in the quarter. Just to say, if there's any other one-timers that would create -- that would explain that sequential phasing from 1Q to 2Q, whether they're seasonal aspects or anything onetime in that sequential decline?

[Martin Jackson, executive]

Yes, Ben, there was just -- I think we're only talking about a 1% drop of occupancy on a year-over-year basis. So it's relatively the same for us. I mean, the seasonality, we didn't really see too much seasonality in there. If you're saying compared to Q1 versus Q2, we think it's really -- that's what we've been seeing during normal times. I mean Q1 is always our highest quarter. Q2, we see a drop in census.

[Robert Ortenzio, executive]

And the other thing I would add is Q1 of this year was an extraordinary year in terms of volume. We just saw ICUs at our acute care hospital referral sources to be really just exceptionally high in Q1. So that explains the sequential -- your question on the sequential differences. We expect the second quarter to be less just in terms of the pulmonary volumes.

[Operator]

Our next question comes from the line of A.J. Rice with UBS.

[Albert Rice, analyst]

Maybe just a couple of questions. On the outpatient rehab business, obviously, the revenue, the visits seem pretty standard normal trend. I just wonder on the margin side of that, it sounds like you're looking at some efficiencies, looking at things there. Is it really unique rate -- a little bit of rate lift to get back on a track where it's stable to improving margins? Or are there opportunities within the business to make adjustments that will drive that margin -- potential for margins to build an improvement over time.

[Martin Jackson, executive]

Yes, A.J., this is Marty. Certainly, rate would have a positive impact on margin but that's not really the only thing. I mean, we've got to -- we've really kind of focused on a couple of areas. One is clinical efficiencies, meaning seeing therapist see -- the number of patients a therapist sees in a day. And then also we are really focused on scheduling, making sure the scheduling is appropriate is efficient. .

[Albert Rice, analyst]

Any thought about -- go ahead, I'm sorry.

[Martin Jackson, executive]

We think that, that will probably take us. We've been working on this. We think that over the next 2 quarters, in particular, starting off into the new year, we anticipate that some things that we're doing will help such as some -- we're looking at scheduling modules that should help us improve our scheduling efficiency. And I think really, when you take a look at the new year, we expect to see some real benefit.

[Albert Rice, analyst]

Okay. I appreciate all the comments about contract labor and bonus payments and everything. I guess when you peel all that back, maybe you said this, but I didn't hear it. The underlying wage rates you're seeing with your permanent or labor cost, however you want to describe it, with your permanent staff in the critical illness hospitals, I guess, is the main focus. What is that trending at now?

[Martin Jackson, executive]

Yes. Right now, A.J., we're seeing that in the 3% to 3.5% range. .

[Albert Rice, analyst]

Okay. So that's sort of back to pre-pandemic levels that.

[Martin Jackson, executive]

It really is.

[Albert Rice, analyst]

Yes. Just the last question, trying to think through what's embedded in the guidance down to the EPS line. You mentioned that you've got a sort of reset on some of the protections you had on interest rates starting going into the fourth quarter. Are you assuming in that guidance a step-up in borrowing costs? I guess, what are you assuming for borrowing costs or interest expense and Q3 and Q4 in that guidance that you shared today.

[Martin Jackson, executive]

Yes, we are. We have included, in particular, in the fourth quarter. In essence, borrowing costs will go from the 300 basis point spread plus 1%, SOFR 4%. Today, SOFR is running in that 5.3% range. So that will certainly have a negative impact in the fourth quarter.

[Albert Rice, analyst]

Okay. All right. So that's roughly the order of magnitude of the impact on that particular tranche of debt. That makes sense. All right.

[Martin Jackson, executive]

Thank you, A.J.

[Operator]

I am showing no further questions. So with that, I hand the call back over to management for any closing remarks.

[Robert Ortenzio, executive]

Thanks, operator. And just to remind that there is a Concentra call that will be at 10:30 Eastern today. So you'll get a lot more granularity on our Concentra division. With that, I'll end the call. Thank you.

[Operator]

Ladies and gentlemen, thank you for participating. This does conclude today's program, and you may now disconnect.