Good morning. And thank you for joining us today for Select Medical Holdings Corporation's Earnings Conference Call to discuss the Second Quarter 2022 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 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 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 call over to Mr. Robert Ortenzio.

Thank you, operator. Good morning, everyone. Thanks for joining us for Select Medical earnings call for the second quarter of 2022. The past two and half years have presented numerous challenges for our company and our colleagues. As we're hopefully in the back end of the more extreme impacts of the pandemic, our focus has been on recruiting, retention and valuing the accomplishments of our employees. This quarter, we have started to experience progress as a result of our efforts, which has led to an upturn in hiring key clinical positions, namely RNs. The investment in full time staff has resulted in an increase in orientation and education costs for our new hires. We anticipate these costs will return to approximate historical trends once our utilization of agency reaches a normalized level. We have gained traction have since declined as the second quarter progressed, both in reduced agency rates and utilization. The past nine months labor costs, particularly in our critical illness recovery hospital division, have created many headwinds, but we are cautiously optimistic we will continue to see improvements, which will result in stability and predictability of our clinical labor by the end of the year. Marty Jackson will provide some more granular data supporting our optimism on the direction of our clinical labor expenses in his comments. In other news, I'm pleased to share with you that US News and World Report has released its annual best hospitals list. One of our wholly owned and three of our partner inpatient rehabilitation hospitals are ranked among the nation's best for 2022, 2023. They are at number four, Kessler Institute for Rehabilitation, number 14, Baylor Scott and White Institute for Rehabilitation in Dallas, number 26, Emory Rehabilitation in Atlanta and number 31, Ohio Health Rehabilitation Hospital in Columbus, Ohio. This…

Thanks Bob. Good morning, everyone. I would like to follow-up on several above opening comments regarding our clinical labor costs. As we mentioned, we've seen a significant sequential reduction in Q1 '22 to Q2 of '22 in agency rates, utilization and total agency expenses. The reductions we realized during this period were 22% for rates with the average rate for Q1 of $143 an hour, dropping to $111 for Q2, a 13% reduction in utilization moving from 37.5% in Q1 to 32.5% in Q2, and a 37% reduction in agency expense from $89.4 million in Q1 to $56.4 million in Q2. Even more encouraging are the reductions of these categories within the second quarter. We saw a reduction from April to June of 23% on rates from an average rate of $123 in April to $95 in June, dropping 29% in utilization from 38.2% in April to 26.9% in June, and a drop of 48% for overall agency expense from $24.4 million in April to $12.8 million in June. We have seen this trend continue for the month of July with a 5% reduction in rate to $90 an hour, 10% utilization reduction to 24.1% and a 13% reduction in total agency expense to $11.1 million. Bob also mentioned our efforts on the hiring of full time nurses. We have seen a very nice increase in the number of full time nurses hired this past quarter, growing by more than 54% sequentially from quarter one to quarter two. These new hires typically participate in seven, eight weeks of orientation and training prior to treating patients. During this time, we will continue to utilize agency but we see a pathway to continued reduction of agency throughout the balance of the year with these newly hired RNs. And other key performance indicators…

Thank you, sir . Our first question will come from Justin Bowers of DB.

Thank you for all the detailed KPIs and trends with respect to the LTAC segments. Just curious what are -- it sounds like you've made a lot of progress with hiring, and we're just really trying to get a sense of some of the initiatives that you're taking? And then what do you think the changes are, whether it's company specific or just more macro or market specific in terms of your ability to really improve the hiring? And it sounds like you guys see that continuing throughout the rest of the year. And then the second part to that would be just what are some of the dynamics you're seeing in the other modalities to like earth looks like an improvement outpatient rehab? Seems like it's still tough. Kind of what are some of the -- but improving and what are some of the dynamics there as well?

Let me make some general comments. This is Bob, and then I’ll obviously let Marty, take a little bit of that through the details. I think the big takeaway, I think, for investors that we would like to share is that the trends are very good in terms of us. Being able to replace agency with RN, and particularly I'm talking about the critical illness recovery hospitals. But I think the important thing to understand is, because of the acuity of the patients that we take in the LTAC or our Critical Illness segment, these nurses that we recruit do require a significant amount of training before they can really fully engage in patient care. And that's the thing that's going to keep all of our quality indicators high. The other thing that I think we're doing, which is an investment in the longer term is we have to continue to be focused on keeping the nurses and our retention attributes in our critical illness division rather than just recruiting. And we think that the enhanced dollars that we're spending on training is going to help us with retention down the road. So we do see good trends even though the cost data is still high for the quarter. If you really dig into the statistics that Marty gave you in his prepared comments the trends do look pretty good. So I'll let Marty supplement that and then maybe take a shot at the second half of this question, Marty.

Justin, yes, we've really seen as we indicated some significant improvement, both in terms of utilization and rate reductions. And one of the interesting stats of you took a look at the month of April, 96% of our hospitals, their agency rates were over $100. In July, that percentage is 13%. So I mean, we've really seen the rate come down pretty significantly. And as we indicated, utilization is coming down too. The other interesting thing is when you take a look at the utilization, probably about 6% to 7% of that utilization come June and July will be replaced with the new RNs coming in. So again, all the trends are pointing towards significant improvement. With regards to the IRF, I would say that the IRF was really only impacted in two specific geographical locations as far as labor was concerned, and that's Southern California and Northern Jersey. And we continue to see those rates come down but not nearly as much as the other rates have come down.

And just a quick follow-up. I missed in June, what was the utilization in June with the LTAC?

It was 26.9%.

So you're saying -- so then, in terms of that additional 6% to 7%, that would -- as this quarter progresses, that should come down to somewhere in like the low 20. Is that how we should interpret that?

Yes, that’s right.

And then on the headline rates, the market baskets that came out for IRF and LTAC, all else being equal like acuity stays constant. Are those good proxies for what you guys would realize or is there other moving parts we should take into consideration? And then what was the CMI for LTAC in the quarter?

The final rates for particularly for LTAC were better than we expected and were better than the proposed rule. So we're pleased with that, particularly on the outlier thresholds. IRF were somewhat in line but I think pretty solid. So we've obviously seen new rates that are a lot worse. So this was -- I think, Matt, internally as pretty good, pretty strong. And as to CMI?

Justin, the CMI for this past quarter is 1.29 and obviously, it came down from second quarter of '21, which is about 1.32. Bob had mentioned in his prepared remarks that some of that has to do with the reduction of inpatients, and that's what's really caused that decline. We don't think there's any long term impact or long term trend there -- in this quarter they just have to come down.

Our next question will come from Kevin Fischbeck of Bank of America.

Just to follow-up on that last point. I guess, normally, we think of patients being a bit more high acuity and maybe not tied to the ebbs and flows of hospital volumes broadly. Is there anything you would point to as to why prevent patients would be down, occupancy would be done as a result of that?

So is the question, is there anything we can point to for why the acuity or the vent population was down this quarter. Was that the question, Kevin?

Yes, exactly.

No, I don't think that there is anything that we can point to. I mean, there is -- we saw just a general softness in the ICUs at some of our -- many of our referral hospitals, that may have more to do with their scheduling of surgeries, transplants, their staffing. I mean, I really don't have a great answer for that. And sometimes there is no real answer. I mean, sometimes occasionally you'll see a soft patch in terms of ICUs and I can't give you any definitive. I can tell you that we don't see any systemic long term reduction in the acuity or the patients that are coming out of ICUs of short term acute care hospitals in this country, that's just -- any idea that there has been an outbreak of wellness, and those are not going to be continued to be highly utilized services in short term acute care hospitals really would be nonsense. So we expect that to return. We certainly will see it in the winter month and we'll probably see an increase. So I guess the short answer unfortunately is I don't have a definitive answer for you why the vent population was soft in this quarter. But it's not the first time, you see that occasionally.

I guess one of the things, a number of companies, as providers have talked about improvement in agency labor in the quarter. But generally speaking, to your point, volumes have been a little bit softer. So just trying to understand if there is some way to really disaggregate how much improvement was because volumes were a little bit lighter there but you didn't need to rely on temp staffing versus the actual progress you were making on the hiring, et cetera. Is there a reason to believe that if occupancy rises, we won't be -- back to where it was a couple quarters ago that we wouldn't be in exactly the same spot from a temp labor to deal with that?

Well, I do think there is reason to believe that. I mean, I just think that the period we’re going through with being in a post pandemic period and the softening of the economy, I think, you have a general view that the RN population of nurses out there do not believe that what they saw a year ago leading up in terms of the kind of rates in agency was sustainable, and they view it generally as a single time occurrence and they are now returning to more of a stable, permanent, working environment. So I do think that you'll see more nurses coming back into the labor pool. We do talk a lot about the nursing shortage and of course there is one. But you have to remember that that's driven in large measure by nurses that leave the workforce. It's not that they don't -- people don't exist with nursing degrees, it's that they have elected for whatever reason not to work. And they also can elect to work. And so we are starting to see them return to a more permanent positions, and what we see is that trend is continuing. And so even if there's an uptick in occupancy, I think you'll continue to see the agency drop for all providers and more nurses coming into workforce drop for all providers and more nurses coming into the workforce.

Kevin, I also think that, I mean, the increase in agency nursing that we saw was truly a function of price elasticity. To the extent that health systems were offering substantial dollars for those nurses, I mean, for every incremental $10 more they could make, you're going to have a whole bunch of more nurses going. And I think the reverse is the same way. To the extent that pricing is going down then you're going to see nurses leave the travel nursing programs and move into a full time program. The other thing that's happening is sign on bonuses are droping. Sign on bonuses were in that $20,000, $25,000 range and those are coming down. So what we're hearing is that nurses are saying, I better get a sign on bonus before there isn't any anymore.

So I think Kevin, kind of last comment on this, is what Marty are giving you is a combination of facts and opinions, particularly on my side opinion. I mean Marty has given enough detail and data that shows that as a factual matter, the environment is improving. My opinion that comes with that is that it will continue and that this crisis we had in nursing will eventually return to something that looks like trend and that's my opinion. But I obviously believe the fact support my opinion. Although, I need to acknowledge that there's still people out there that think that this nursing shortage is going to be exacerbated, it’s going to continue and agency rates are going to be high. And I've heard some of that commentary and I simply don't agree with it, but they're certainly entitled with their opinion.

I guess, can you maybe talk about margins in the LTAC business? Has anything that's happened over the last few years made you think differently about what target margins in that business should be? And maybe just remind us where you think target margins in that business should be overtime?

I mean, we still believe that 15% to 16% margins are certainly achievable in the critical illness recovery hospitals. It's interesting, Kevin, if you take a look at this past quarter, we were running at 64% SW&B as a percentage of revenue and historically, we've run in 52. I mean, there's 12 points right there. And to the extent we're in that 54% to 56% range, that's going to bring the margins back up very significantly.

Our next question will come from Ben Hendrix of RBC Capital Markets.

I was hoping we could dig a little bit deeper into specific retention efforts. And you mentioned the extensive trading and the investments you make to onboard new nurses. But where else are you focusing, whether it’d be wage increases or shift bonuses, et cetera. We're trying to get an idea of what it takes to keep a nurse and then by extension, kind of what's giving you confidence in the levers that you can pull to get back to reducing agency to normal in the next year?

Well, I think part of what you're referring to and not unexpected would be that of you that retention is going to be based on the economics, and there's just a very large portion that is not. I mean once nurses have joined on a full time basis, they stay for all manner of reasons that do not necessarily have to do with continued bonuses, state bonuses or salary increases. So we obviously have a number of programs going on that will hopefully increase job satisfaction and overall retention. The economics is another matter. I mean, that's -- Marty can speak to that. But I think we assume that if we do a good job of recruiting nurses and we're paying what is the new normal of a fair rate, market rate, that then we just have to do a better job operationally on retention. But Marty, I don't know if you have any comments on what we -- on the economic side of retention, I really focus on it, less on that once nurses are recruited. I mean, they joined for a rate that they that they obviously find as acceptable and we hope fair, and they stay for lots of other reasons.

Ben, there's really -- I mean, there's a couple of different variables that we look at, but I specifically look at two. One is what is the increase in the base rate that we're seeing. And then base rate, if you take a look at over the past two years, our base rate increases has been significantly higher than what it's been historically. I mean we've typically been in that 2% to 3% range. I mean, I think over the past few years, we've been annually about 5%. That's number one. And number two is what I just mentioned, as far as the increase in the travel rates. So it was really driven by demand of the health systems. And I think that what we heard was the first quarter of this past year. I mean, there was significant losses in many of the major health systems in the country. So I think that's going to decrease their desire to maintain those types of rates. Tates are coming down and therefore, nurses aren't going to go travel unless they can get those types of dollars.

And our next question will come from A.J. Rice of Credit Suisse.

A couple of things maybe. First of all, as you're pointing to a number of sort of green shoots that make you a little bit more optimistic about the labor dynamic in the back half the year and into '23. What are you waiting for, what are you looking for before you start to go back to giving guidance? Because the company has a lot of moving parts and the opportunity for us to get off track and modeling is pretty substantial. It would be helpful but I understand the issues around labor. What specifically, relative to what you don't have right now, are you looking for? And is there something in your mind that's a trigger that says, okay, if we have this, we'll go.

A.J., we have seen on a month-over-month basis substantial reductions. And the question is -- and it's really double digit reductions. So for us, as we start to see that level out and maintain whether it's a mid single digit rate reduction over a couple of months, I think at that point in time, that will make us more confident providing numbers. As you know A.J. what we've done is we provided revenue guidance. But because of this macroeconomic labor issue, we just didn't feel comfortable. And I think we're getting more comfortable. But at this point in time, at the end of the second quarter, we are not prepared to do that. Bob and I are always evaluating, so at the next quarter, we will make that determination at that time.

You quoted the $111 an hour is sort of where you are seeing things. I guess, that's for the second quarter, or is that as you exited the second quarter? And as contracts are rolling off, I know a lot of these contracts are -- I think, you are using some travel or three month contracts. Are you seeing the renewal rate be even lower than that $111, or is it sort of plateauing a little bit here?

A.J., what we saw in June was a rate of $95, so when we saw that drop in July to $90. So we continue to see that. Historically, we've been in the $72 to $78 range. There's probably more than half of our hospitals have rates below $90.

I guess that…

No, go ahead, ask your question.

I guess, I take this for granted. But I probably should ask you. Are most of your agency costs more what they call for the local guys, or are you using a lot of travelers?

In the fourth and the first quarter we used a lot of travelers. And we had some contracts that were 13 weeks, that's dropped down and we have also included clauses allowance to get out with two weeks notice. Our PRN percentage of total nursing hours has remained pretty consistent throughout the pandemic, we're in that 14% to 15% rate and that really hasn't changed.

One of your peers in the outpatient rehab area made the comment on their call earlier in the week that, they were starting to see some pressure on physical therapists and rates, that's first time I've heard anything like that. Are you guys seeing anything along those lines?

We're not seeing a significant issue in that to that extent. There are some geographical areas where there is a little bit of pressure, but it's not really that significant for us.

And maybe just the last question, you talked about the more favorable headline rate for the critical access hospitals, the LTAC, and you singled out not just the rate itself but the outlier impact. We can look at sort of the nominal rate and say, okay, that's probably worth this much. But when the outliers are sort of hard thing for us to adjust or when you're looking at that, or us to estimate. When you look at that, how much, I mean, on a year-to-year basis, do you think that the totality of the updated rule is worth to get, how much more is it worth in the proposed rule? Is there any way to size that?

Well, I think number one is there was a -- what was it about a 30% increase just on the market basket itself. So I think we were sitting at 2.8%, that changed to 3.8% and it reduced the overall high costs outlier percent. So yes, I think the final rule is much better for the company. We haven't put numbers, it just came out, so we haven't really put numbers to that but we know it'll be a pretty positive.

We have a question from Miles Highsmith of Deutsche Bank.

I want to just to go back and maybe clarify just a couple of things. So Marty, when we're talking about the LTAC, SW&B, historically, 51% to 52%, this quarter, 64% and you put some kind of loose targets out for end of the year and next year. Just want to make sure I'm thinking about that right. So that's all SW&B within LTAC, right? So it's agency expenses, existing bonus, sign on, education. Just want to make sure I'm thinking about that correctly. And if I am, I wanted to triangulate that with and you gave some helpful information about Q2 sequentially, rates being down, utilization being down, and then the expense on a dollar basis, I think you said went from $89 million down to somewhere in the in the mid 50s. Are those numbers just related to contracts or agency, or is that like a total SW&B number for the LTAC?

Agency numbers so those are coming down. And the reason you're not really seeing it filtered through to SW&B coming down is because offsetting that is those seven to eight weeks of training and orientation we talked about. So I mean, what you have to do is think about that in terms of during that seven to eight weeks, we're actually employing two nurses. One's going through the training and orientation, one's taking care of the patients. The ones taking care of the patients, the agency when the new nurses come on board and they're starting to treat patients will see a reduction in the agency.

So you may choose to not want to disclose it. But I was just curious if you be able or willing to disclose what that kind of incremental sequential number was for some of the double counting and the training and the upfront bonuses. Is that a number that you have?

No, I think the way you want to take a look at it Miles, is to the extent that we get back to historical trends, I would think about it as, at 64% SW&B as a percentage of revenue. If that gets back to 54% or 56%, that 8 to 10 points you just multiply it by our revenue line. So you're looking at in the neighborhood of $200 million of incremental EBITDA coming through if that's normalized.

And then just one other numbers question. Thanks for all the utilization data, I can't remember if you said it before. But can you give us a reminder of what utilization was on the contract side pre-COVID and are in more historical timeframes?

Yes, it was in that 16% to 20% range.

Thank you. And I'm seeing no further questions in the queue. I would now like to turn the conference back to Robert Ortenzio for closing remarks.

No closing remarks. Thanks everybody for joining us for the call. Have a good weekend.

This concludes today's conference call. Thank you all for participating. You may now disconnect and have a pleasant day, and enjoy your weekend.