Robert Ortenzio - Executive Chairman and Co-Founder Marty Jackson - EVP and CFO

Frank Morgan - RBC Capital Markets Frank Gilroy - Susquehanna Financial Group Gary Lieberman - Wells Fargo Dana Nentin - Deutsche Bank A.J. Rice - UBS Financial Services Bernie Casey - Fort Washington Investment Advisors, Inc.

Good morning and thank you for joining us today for Select Medical Holdings Corporation Earnings Conference Call to discuss the Second Quarter 2015 Results and the Company's Business Outlook. Speaking today are the Company's Executive Chairman and Co-Founder, Robert Ortenzio; and the Company's Executive Vice President and Chief Financial Officer, Martin Jackson. Management will give you an overview of the quarter highlights and then open the call for questions. Before we get started, we'd 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'll turn the conference call over to Mr. Robert Ortenzio. Please proceed, sir.

Thank you, operator. Good morning, everyone and thanks for joining us for our second quarter earnings conference call for 2015. For our prepared remarks, I'll provide some overall highlights for the Company and our operating divisions. And then turn it over Marty Jackson, our Chief Financial Officer, to provide some additional financial details before open the call up for questions. As most you are aware on June 1, Select in partnership with Welsh, Carson, Anderson & Stowe completed the acquisition of Concentra, largest provider of occupational medicine services in United States with operations and locations in 43 states. Effective June 1, Concentra's results were consolidated and reported with Select. Net revenues for the second quarter increased 14.8% to $887.1 million compared to $772.8 million in the same quarter last year. During the quarter, we generated approximately 67% of our revenues from our specialty hospital segment, which includes both our long-term acute care and inpatient rehab hospitals. 23% from outpatient rehab segment, which includes both our outpatient rehab clinics and our contract therapy services and 10% from our Concentra segment. Revenue on our speciality hospitals for the second quarter increased 6.2% to $592.3 million compared to $557.8 million in the same quarter last year. The growth in net revenue in our speciality hospitals attributable to both an increase in patient days and net revenue per patient day. Our patient days in the second quarter increased 4% to 343,000 patient days compared to 330,000 patient days, the same quarter last year. Our net revenue per patient day increased 1.8% to $1,590 per day in the second quarter compared to $1,562 per patient day in the same quarter last year, and was driven by increases in both our Medicare and non-Medicare net revenue per patient day. We generated approximately 81% of our specialty hospital revenue from our long-term acute care hospitals and 19% in our inpatient rehabilitation operations during the second quarter. Net revenue in our outpatient rehabilitation segment for the second quarter declined to $207.8 million compared to $214.8 million in the same quarter last year. The decrease is related to a reduction in revenue from our contract therapy business, which was offset by increases in our outpatient clinics. Net revenue in our outpatient clinic based business increased 3.6% to $167.2 million compared to the same quarter last year. For our owned clinics, patient visits increased 3.6% to over 1.33 million visits compared to the same quarter last year. Our net revenue per visit was a $103 in the both the second quarter of this year and last year. Net revenue in our contract therapy business in the second quarter decreased to $40.6 million compared to $53.5 million in the same quarter last year. And resulted primarily from a large contract termination, due to the sale of health facilities to company that provides their own therapy services. Net revenue in our Concentra segment for the second quarter which includes operating results beginning on June 1, was $86.8 million. Net revenues generated in the Concentra centers was $76 million for the second quarter. For the centers, patient visits were almost 674,000 and net revenues per visit was $112 in the second quarter. Concentra also generated $10.8 million net revenue from its onsite clinics and community based outpatient clinic. Overall adjusted EBITDA for the second quarter was $114.9 million compared to $101.4 million in the same quarter last year. With overall adjusted EBITDA margins at 13% for the second quarter, compared to 13.1% for same quarter last year. Speciality hospital adjusted EBITDA for the second quarter was $91.4 million compared to $88.7 million in the same quarter last year. Speciality hospital adjusted EBITDA margin was 15.4% compared to 15.9% in the same quarter last year. Adjusted EBITDA results in the second quarter included start-up losses related to new specialty hospitals of $3.3 million. Outpatient rehabilitation adjusted EBITDA for the second quarter was $28.7 million compared to $30.4 million in the same quarter last year. Adjusted EBITDA margin for the outpatient segment was 13.8% in the second quarter compared to 14.2% in the same quarter last year. For the outpatient clinic portion of our business, adjusted EBITDA increased $26 million for the second quarter compared to $25.5 million in the same quarter last year. The increase was attributable to our volume growth and corresponding revenue. For our contract services, adjusted EBITDA decreased to $2.7 million in the second quarter compared to $4.9 million in the same quarter last year, primarily as a result of contract terminations. Concentra adjusted EBITDA for June was $11.2 million and adjusted EBITDA margin was 12.9%. Adjusted EBITDA for Concentra excludes $4.7 million in Concentra acquisition cost. Reported earnings per fully diluted share was $0.28 in the second quarter of this year compared to $0.27 in the same quarter last year. Finally, I want to provide a couple updates since our last earnings call in May. As I mentioned, we completed the acquisition of Concentra on June 1. We are excited and pleased to have partnered with Welsh, Carson again and we've brought in senior leadership at Concentra at the board and company level, all of whom had previous experience with the operations at Concentra. In addition, on June 19, 2015 the government made a decision not to intervene in ongoing Qui Tam lawsuit related to our Evansville hospital dating back to 2012. We're very pleased with the government's decision and we will continue to fight these types of allegations. I also wanted to give you an update on our development activities. In late June, we announced a joint venture partnership with the Ochsner Health Systems in New Orleans to develop a 60-bed inpatient rehabilitation hospital. We expect to begin construction early next year and open the new facility sometime in 2016. Construction is also continuing on three previously announced joint ventures with the Cleveland Clinic, UCLA, and Cedar Sinai and Trihealth. We expect to open hospitals in Cleveland and Los Angeles sometime in late fourth quarter or early next year and in Cincinnati sometime in the second quarter next year. During the second quarter, we closed two of our LTAC hospitals both in markets, where we had additional LTACs and in addition, we opened on new LTAC in Daytona Beach, Florida. Finally on July 31, CMS released the final rules for 2016 for LTACs and rehab hospitals. The standard payment rates for both were increased approximately 1.8% and the pertinent details of the final rules were outlined in our 10-Q, which was filed yesterday. The LTAC rule solidified the details around the industries long awaited patient criteria. Patient criteria becomes effective for each hospital based on their cost reporting year end. Our hospitals have varying cost reporting years and currently, we have 18 hospitals scheduled to begin under criteria sometime in the fourth quarter of this year. At this point, I'll turn it over to Marty Jackson to cover some additional financial highlights for the quarter in the year, before we open it up for questions.

Thanks Bob. Good morning. For the second quarter, our operation expenses which include our cost of services general and administrative expenses and bad debt, increased 15.9% to $780.2 million compared to the same quarter last year. As a percentage of our net revenue, operating expenses for the second quarter increased to 88% compared to 87.2% in the same quarter last year. The increase as a percent of net revenue is due to a 70 basis point increase in our cost of services and a 20 basis point increase in our G&A, which are offset by 10 basis point reduction of bad debt. Cost of services increased 15.7% to $743.9 million for the second quarter compared to the same quarter last year. As a percent of net revenue, cost of services increased 70 basis points to 83.9% in the second quarter compared to 83.2% in the same quarter last year. The increase in cost of services as a percent of net revenue was due to an increase relative cost of service in both our speciality hospitals and our outpatient rehabilitation segment and the incremental impact of our Concentra segment beginning on June, 1. G&A expense was $24 million in the second quarter, which is a percent of net revenue is 2.7% compared to $19.4 million or 2.5% of net revenues for the same quarter last year. The increase in G&A as a percent of net revenue resulted from $4.7 million of Concentra acquisition cost in the second quarter of this year. Excluding those cost G&A would have been 2.2%. Bad debt as a percentage of net revenue was 1.4% for the second quarter compared to 1.5% for the same quarter last year. The decrease was the result of lower relative bad debt expense in our Concentra segment. Total adjusted EBITDA was $114.9 million and adjusted EBITDA margin was 13% for the second quarter. This compares to adjusted EBITDA of $101.4 million and adjusted EBITDA margin of 13.1% in the same quarter last year. The increase in adjusted EBITDA is primarily attributable to the addition of the Concentra segment, which as we previously mentioned contribute $11.2 million and adjusted EBITDA in June. Depreciation and amortization expense was $21.8 million in the second quarter compared to $17.2 million in the same quarter last year. The increase resulted primarily from an incremental $4.2 million of depreciation and amortization expense in our Concentra segment. We generated $3.8 million in equity and earnings of unconsolidated subsidiaries during the second quarter compared to $1.2 million in the same quarter last year. These increases are mainly the result of contributions from our speciality hospital joint venture partnerships and operating improvements in start-up companies, where we have a minority position. Interest expense was $25.3 million in the second quarter compared to $21.7 million in the same quarter, last year. The increase in interest expense in the quarter is the result of additional borrowings to finance the Concentra acquisition including Select's equity contribution in debt at the Concentra subsidiary. The company recorded income tax expense of $23.5 million in the second quarter. The effective tax rate for the quarter was 37% compared to the effective tax rate of 38.5% in the second quarter of last year. Net income attributable to Select Medical Holdings was $36.9 million in the second quarter and fully diluted earnings per share was $0.28 compared to fully diluted earnings per share of $0.27 in the same quarter last year. Concentra had the effect of diluting earnings per share by $0.01 in the quarter. We ended the quarter with $2.45 billion of debt outstanding and $25.2 million of cash in the balance sheet. Our debt balances at the end of the quarter included, close to $750 million in Select term loans which include the original issued discounts, $711.4 million in our 6.38% senior notes, which include issuance premium, $646.9 million in Concentra term loans, which include the original issue discounts, $320 million in revolving loans, with the balance of $20.7 million consisting of other miscellaneous debt. During the second quarter, in connection with the acquisition of Concentra. We entered into new credit agreement at Concentra. This includes $450 million First Lien Term Loan and then $200 million Second Lien Term Loan and a $50 million revolving facility. The outstanding debt at Concentra is non-recourse to both Select and Welsh, Carson. Operating activities provided $37.5 million cash flow in the second quarter. The provision of operating cash flow primarily resulted from net income and non-cash expense items and increase in accounts payable, which was offset part by decrease and accrued expenses in taxes and an increase in our accounts receivable. Day sales outstanding, our DSO was 55 days at June 30, 2015. This compares to 56 days at March 31, 2015 and 53 days at June 30, 2014. Investing activities used $1.1 billion of cash flow for the second quarter. The use of cash was related to the $1.45 billion, that we paid for the acquisition of Concentra and $41.1 million in purchases of property and equipment during the quarter. Financing activities provided $1.1 billion of cash during the quarter, the provision of cash was primarily related to the debt and equity contributions for the acquisition of Concentra. Additionally, I would like to outline our revised financial guidance for the calendar year 2015, that was provided in our earnings release. This includes net revenue in the range of $3.675 billion to $3.75 billion. Adjusted EBITDA in the $430 million to $445 million and fully diluted earnings per share to be in the range of $0.90 to $0.96. This guidance assumes about $550 million of revenue and $55 million of adjusted EBITDA and a $0.01 earnings per share contribution coming from Concentra. This concludes our prepared remarks and at this time, we'd like to turn it back to the operator to open up the call for questions.

[Operator Instructions] your first question comes from the line of Frank Morgan from RBC Capital Markets. Please proceed. Frank Morgan, you're now live in the call, please proceed.

Can you hear me now?

Yes, now we can. Thank you.

Okay, thank you. Good morning. I noticed, Bob made some comments in the prepared remarks and I think I saw a filing last week. Just wanted to get some clarification, is there been a change in the reporting years, it looks like there is been a recent change back. But just any color on that and any background on, if that is the case?

Thanks, Frank. Good morning. Yes, it's a good question. I'm glad you asked, that because I think there is been some confusion on that. So let me give some clarification on that, maybe with some background. First of all, the new LTAC criteria's as most people know goes into a fact, the early went to - effective is Q4 of this year and then throughout next year 2016, based on your cost report year. So, Select has cost reports that end, beginning in the fourth quarter and throughout next year. So last year in one of the conferences, we had heard that there were some providers, who were successful getting their cost reports changed to push them to the backend of the criteria rollout period. So we looked at the issue and the concern that we had was putting at our hospitals at a competitive disadvantage. And by that, I mean if you have various LTAC hospitals in markets that go onto the criteria different times. It's going to be confusion to the referral sources at best and at worst, it puts the hospitals that go in sooner, at a disadvantage because they obviously go to referral sources and there is a limit on a kind of patient's that they can take, just those patients with new criteria. So with that information and understanding that others have done it, we talk to our fiscal intermediary and requested a change of our cost reports to push them all to join, the ones that we had in the latter part of next year. The FI approved the change, notified us of that in writing and then we immediately put that announcement out. Recently, we received information from our FI that said that, CMS had instructed them to rescind the approval the change the cost report year. So our cost report years have now gone back to their original time. We thought, the FI had authority to make the change. CMS instructed them to rescind it, they did. So now we've gone back to the original roll-in period. We also understand that and we know that some other providers have received letters rescinding their changes in their cost report years. But the point was is that, we're prepared to go, we've plans to implement criteria in our hospitals that go in, in the fourth quarter. As we did before we made the change, and we'll continue to make those preparations. And our only reason for changing was from a competitive standpoint and so at this time. We're going to be, we filed the 8-K that went back to the original schedule.

I got you and do you have enough color around your competitors in some of your key markets that worth. Will this advantage exists or do you think, they'll also be having their cost reporting years reverting back original days and what you would consider, your key markets?

Well, I don't want to get into market specific, Frank. I mean, we obviously just have anecdotal information about other providers that have given us a call and stated they got letters, changing their cost reports back. And we haven't really looked at, well we have looked at market-by-market. But we feel in the fourth quarter, those 18 that are going in and then in the next year, the only different between those that will go earlier and those that could go the latest, there is only go to be two quarters. So I don't think we're concerned about the impact.

Okay, thank you. And two other earnings calls, we had competitors [technical difficulty] you said it popped up, one was sort of move from traditional fee-for-service Medicare business into managed Medicaid and that was attributed to sort of a dual eligible shift, that was only LTAC side and another call on the RF side. A growth in Medicaid business was just attributed some incremental volume, there were seeing [technical difficulty] JV. So I'm just curious, if you do it maybe [technical difficulty] do you see any those kind of issues or any other color around that and I'll hop. Thank you.

Yes, Frank. We have not seen a significant increase in the Medicaid. We have heard again anecdotally, that some others have, but we have not seen that. We have seen a continued growth in our Medicare advantage population and we continue to work with our commercial providers to address the needs of those patients.

Okay, thanks.

Thank you. Your next question comes from Chris Rigg from Susquehanna Financial Group. Please proceed.

Hi, this is Frank on for Chris. Thanks for taking my question. Margin looks good in the hospital business. It seems like there was some pressure related to newly opened facilities. Can you just help size the impact of immature facilities as well as start-up cost in the quarter?

Frank, there was actually two items that was going on. One was, when you take a look at a start-up. There was obviously start-up losses, which we've talked about. The other area is that, when you take a look at Q2, 2014 versus Q2, 2015. We actually have closed about six hospitals during that timeframe, that also had an impact. So if you take a look at the 50 basis point differential between Q2, 2014 to Q2, 2015 about 30 basis point to that 50 is really associated with the closures. So if you took a look at - if you backed out start-ups and closures. The margin, that you would have seen, the EBITDA margin you would have seen in Q2, 2014 been about 16.8% versus 16.6% in Q2, 2015. The 20 basis point differential left over. We've seen an uptick in some of our supplies and pharma cost and we anticipate that, that's going to continue to happen as we see equity continue to increase.

This is Bob. Those six hospital closures, I think is also consistent with what Marty and I have been saying for the past year. That as we move closer into criteria. We're looking at all of our markets, where we feel we're going to have a good opportunity for success, we look at the profile of those hospitals. And we said that you could see as many as 10 hospitals closed and at this point in time going into third quarter, where we closed six and without any write-offs associated with the six. So you really haven't seen separate announcement or pulled those out. So I think it's important to factor those in when you look at when you look at the margin year-over-year.

Okay, that's helpful thanks and then if I can. I know you're required to buy the stub portion of Concentra over time just for modeling purposes. How should I think about that impact? What are the key dates to think about for the buyout?

The key dates associated with Concentra. It's the third-year anniversary of the acquisition at that point in time WCAS could ask for a valuation. And if they're happy with that valuation, they could exercise an option of a third of their ownerships. So it would be a third, in the third-year anniversary of third and fourth-year anniversary in the balance of the end of the fifth year. So I would anticipate, you're probably looking at four to six months after the anniversary just given the timing on one valuation.

Okay, thanks a lot.

Sure.

Thank you Your next question comes from Gary Lieberman from Wells Fargo. Please proceed.

Good morning, thanks for taking the question. I think a quarter or two ago, you had called out higher pharmaceutical costs for employees due to a new drug, can you update us on that?

With regards to I think there were two new drugs that we were talking about Gary. One was the HEP C drug.

Right.

And one was some speciality topical items we've seen the Hep C drug really the cost of that come down quite significantly. And then also we've seen a significant reduction in speciality topical drug. We are actually comfortable, as we look at second and third quarter with our health care expenses right now.

Got it, okay. Thanks. And then as you head into the fourth quarter with the change that will impact the 18 hospitals now. Can you share with us any of your assumptions just in terms of what the impact is and how that impacted your guidance?

It is incorporated into our guidance. I know that what we had put out the guidance in the beginning of the year. We had incorporated, it did have a little bit of a negative impact in the fourth quarter going into to those 18 hospitals, I think it was 17 at the time. But eighteen hospitals and then you saw that we had requested changing year end, which was approved and then subsequently revoked. We had never made a modification to the guidance, based on the change year end cost report dates. So consequently, it really hasn't changed at all, Gary.

Okay, if I look at the one month of Concentra at the $11 million and then sort of annualize that would be closer to I guess $77 million and you said you increase the guidance by you know roughly $55 million. So there's not a doubt, there that would be due to baking in the impact of the patient criteria.

The dollars you are talk about is, Concentra, right?

Correct.

Yes, so there's really no patient criteria associated with Concentra. With the Concentra business, Gary there is seasonality.

Okay, so the difference between the one month in and the one month for June and the $55 million, that's all seasonality.

That's correct.

Okay, all right thanks so much.

Sure.

Thank you. Your next question comes from Dana Nentin from Deutsche Bank. Please proceed.

Hi, good morning. Thanks for taking the call. Just on the patient criteria. I guess as we approach the season, what levers do you think or do you have that you think you could pull to offset any of the potential pressures resulting from that?

I'm sorry - clarify the question. Is your question is what are they?

May be from an expense standpoint.

From an expense standpoint?

Yes, what you could do to offset any reimbursement or admissions pressures from maybe [indiscernible]?

Yes, the way we've approached, I'll let Marty, expand this. The way we've looked at each one of our hospitals that are going into criteria, once we look at the profile of that hospital in terms of their compliant patients, their current patient that would be compliant on new criteria, a non-compliant patients and what's available in the market. We've developed a plan, that it is or obviously what we want to do is replace all the patients that we lose because they're non-compliant, with compliant patients. The extent that we cannot do that completely, then we do have plans to be able to flex the variable expense in order, to maintain margins. So it's a two-pronged attack, you can either approach it by replacing the volume or kind of right-sizing the operations. And by the way the compliant patients that we have, do tend to be our higher margin patients. So it wouldn't necessarily be a one for one replacement of non-compliant patient with compliant patients. I don't know, if Marty and I want to make sure that's responsive to question.

That's helpful. Thank you. And then I guess just on the Concentra business. Is there any color you could provide in terms of your longer term outlook for volume growth and pricing there and you know maybe how you're thinking about synergies this year in your guidance?

Sure. First let me say that, what we have seen with Concentra over the month of June has been very encouraging and we're very excited about the prospects of growth there. You know with regards to synergies with Concentra, we're very comfortable in our expectation is we will, synergies will exceed $40 million for that business. And for the most part the majority of that will be achieved in 2016.

Great. Thank you.

Sure.

Thank you. The next question is from A.J. Rice from UBS. Please proceed. A.J. Rice: Hi, everybody. Maybe, just on Concentra. I know you updated, for the income statement impact to that. Any comments on the cash flow and CapEx impact that have at Concentra for the back half of the year?

A.J. The back half of the year for that will probably be in the neighborhood of $25 million to $30 million. Now as you probably remember there was a lot of IT that Concentra was going through, a lot of IT development and that continues, those projects should be coming to an end in the next 12 months, but that's really a good portion of that cost. A.J. Rice: Okay, so that's the number you gave me is cash flow in fact, are they CapEx?

No, that's the CapEx number. A.J. Rice: And then how much just in, I mean, I'm sure it's positively contributing or is it boosting the free cash flow of the company for the back half of the year or?

Yes, it is. A.J. Rice: Can you care to let us know an order of magnitude?

Right, now A.J, we're working through that but we're very comfortable. I mean, June was a terrific month, cash flow was very, very positive very good there. A.J. Rice: Okay and then just on the labor side. Obviously, you've had a little bit of a strengthening in the economy seeing some of the staffing companies, see some tightening demand for certain areas. I haven't heard that say that much about rehab specifically. But what are you guys seeing out there in terms of recruiting of therapists and so forth, is there any change or is it pretty steady state?

Well, it's been steady. We do have a tightening labor market and we're starting to see the nursing a little bit and it's always been tight in therapy. But I would say that, I've noticed for the first time in probably five, six, seven years that we're starting to get a little tighter on nurse recruiting and Marty, do you have any comment on that.

No, I think that's actually right. Bob, we have seen a bit of an increase on that side. A.J. Rice: That you're planning for wage increase and things like that. It's more or less, pretty similar.

Yes, I think that's, I think that's accurate. A.J. Rice: Okay, all right, thanks a lot.

Thank you. Your next question comes from Bernie Casey from Fort Washington. Please proceed.

Hi, I'm just curious, as you approach patient criteria, what percentage of your patients are non-compliant currently?

We don't - we haven't and don't and won't be giving those specific changes all the time and it varies by hospital, by hospital. So it's not going really be an instructive data point. If you look at across the whole company.

Now, I think when CMS published their I guess savings, estimates for criteria. I think they had a number and I don't - I think they thought that maybe the non-compliant volume overall for the whole space was, I want to say 40%. I'm just curious, if you can just guide us. Are you higher or lower than the average?

Yes, I'll let Marty comment on that. But, there have been some estimates out there by CMS on savings, when the bill was scored and also the AAJ have given some estimates of some non-compliant. I think the one thing that we have said previously is that. Our compliant volume is higher than the industry average, but we haven't been more specific than that. Marty?

Yes, as far as AAJ is concerned, it was about 47% non-compliant and as Bob said, actually Bob talked about our compliant patient population. So if you take the reverse of that, you're 53% compliant, our compliant patient population is much higher than that.

What we've said overall about the criteria, is that. We think, we supported it, we think it's going to be in the long-term, it's going to be good for the industry. It'll make sure, that only the most highly acute patients are in LTACs, which is good. I think there will be savings as a result of it. I think, it's going to be a big industry change or over the longer term and a first for Select. We think, they we're well positioned, it will be choppy, along the way.

Thanks.

Thank you. You have no further questions. I would now like to turn the call over to Robert Ortenzio for closing remarks.

Yes, thanks everybody for joining us. We think, we had a solid quarter and we're - feel pretty well positioned going into the back half of the year and we look forward to updating you in, after the third quarter.

Thank you for joining today's conference. This concludes the presentation. You may now disconnect. Good day.