##### Table of Contents



SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
  þ
    
    Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934
 For the Quarter Ended September 30, 2006
 o
    
    Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
 For the Period From  to .
 Commission File Number: 000-32499
 SELECT MEDICAL CORPORATION
  Delaware
(State or other jurisdiction of 
incorporation or organization)
    
    23-2872718
(I.R.S. employer identification
number)
 4716 Old Gettysburg Road, P.O. Box 2034, Mechanicsburg, Pennsylvania 17055
 
  þ o
  o o þ
  o þ




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##### 



TABLE OF CONTENTS
 PART I
    
    FINANCIAL INFORMATION
    
    
    3ITEM 1.
    
    CONSOLIDATED FINANCIAL STATEMENTSConsolidated balance sheets
    
    
    3Consolidated statements of operations
    
    
    4Consolidated statement of changes in stockholders equity and comprehensive income
    
    
    6Consolidated statements of cash flows
    
    
    7Notes to consolidated financial statements
    
    
    8ITEM 2.
    
    MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
    
    
    25ITEM 3.
    
    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
    
    
    44ITEM 4.
    
    CONTROLS AND PROCEDURES
    
    
    44PART II
    
    OTHER INFORMATION
    
    
    45ITEM 1.
    
    LEGAL PROCEEDINGS
    
    
    45ITEM 1A.
    
    RISK FACTORS
    
    
    46ITEM 2.
    
    UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
    
    
    46ITEM 3.
    
    DEFAULTS UPON SENIOR SECURITIES
    
    
    46ITEM 4.
    
    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
    
    
    46ITEM 5.
    
    OTHER INFORMATION
    
    
    46ITEM 6.
    
    EXHIBITS
    
    
    46SIGNATURES
    
    
    47Office Lease Agreement dated August 25, 2006Certification of Chief Executive OfficerCertification of Senior Vice President and Chief Financial OfficerCertification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350Certification of Senior Vice President and Chief Financial Officer pursuant to 18 U.S.C. Section 1350
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PART I FINANCIAL INFORMATION
 
 ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
 Select Medical Corporation
 
 Consolidated Balance Sheets
 (unaudited)
 (in thousands, except share and per share amounts)
 December 31,
    
    
    September 30,2005
    
    
    2006ASSETSCurrent Assets:Cash and cash equivalents
    
    $
    35,861
    
    
    $
    5,040Restricted cash
    
    
    6,345
    
    
    
    5,247Accounts receivable, net of allowance for doubtful accounts
of $74,891 and $60,531 in 2005 and 2006, respectively
    
    
    256,798
    
    
    
    247,972Prepaid income taxes
    
    
    4,110
    
    
    
    Current deferred tax asset
    
    
    59,135
    
    
    
    57,892Current assets held for sale
    
    
    13,876
    
    
    
    Other current assets
    
    
    19,725
    
    
    
    16,847Total Current Assets
    
    
    395,850
    
    
    
    332,998Property and equipment, net
    
    
    248,541
    
    
    
    330,106Goodwill
    
    
    1,305,210
    
    
    
    1,319,018Other identifiable intangibles
    
    
    86,789
    
    
    
    81,456Other assets held for sale
    
    
    61,388
    
    
    
    Other assets
    
    
    65,591
    
    
    
    62,518Total Assets
    
    $
    2,163,369
    
    
    $
    2,126,096LIABILITIES AND STOCKHOLDERS EQUITYCurrent Liabilities:Bank overdrafts
    
    $
    19,355
    
    
    $
    7,531Current portion of long-term debt and notes payable
    
    
    6,516
    
    
    
    6,309Accounts payable
    
    
    60,528
    
    
    
    64,973Accrued payroll
    
    
    61,531
    
    
    
    54,515Accrued vacation
    
    
    26,983
    
    
    
    27,039Accrued interest
    
    
    25,230
    
    
    
    12,704Accrued professional liability
    
    
    21,527
    
    
    
    23,128Accrued restructuring
    
    
    390
    
    
    
    252Accrued other
    
    
    69,046
    
    
    
    65,140Income taxes payable
    
    
    
    
    
    
    22,346Due to third party payors
    
    
    12,175
    
    
    
    9,006Current liabilities held for sale
    
    
    4,215
    
    
    
    Total Current Liabilities
    
    
    307,496
    
    
    
    292,943Long-term debt, net of current portion
    
    
    1,315,764
    
    
    
    1,231,039Non-current deferred tax liability
    
    
    25,771
    
    
    
    39,198Non-current liabilities held for sale
    
    
    3,817
    
    
    
    Total Liabilities
    
    
    1,652,848
    
    
    
    1,563,180Commitments and ContingenciesMinority interest in consolidated subsidiary companies
    
    
    4,356
    
    
    
    2,285Stockholders Equity:Common stock, $0.01par value, 100 shares issued and outstanding
    
    
    
    
    
    
    Capital in excess of par
    
    
    440,799
    
    
    
    443,635Retained earnings
    
    
    61,134
    
    
    
    114,055Accumulated other comprehensive income
    
    
    4,232
    
    
    
    2,941Total Stockholders Equity
    
    
    506,165
    
    
    
    560,631Total Liabilities and Stockholders Equity
    
    $
    2,163,369
    
    
    $
    2,126,096
 The accompanying notes are an integral part of this statement.
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Select Medical Corporation
 
 Consolidated Statements of Operations
 (unaudited)
 (in thousands)
 For the Quarter Ended September 30,2005
    
    
    2006Net operating revenues
    
    $
    460,658
    
    
    $
    443,872Costs and expenses:Cost of services
    
    
    363,480
    
    
    
    362,070General and administrative
    
    
    27,221
    
    
    
    9,762Bad debt expense
    
    
    4,378
    
    
    
    5,333Depreciation and amortization
    
    
    11,828
    
    
    
    12,394Total costs and expenses
    
    
    406,907
    
    
    
    389,559Income from operations
    
    
    53,751
    
    
    
    54,313Other income and expense:Other income (expense)
    
    
    247
    
    
    
    (3,124
    )Interest income
    
    
    241
    
    
    
    319Interest expense
    
    
    (25,467
    )
    
    
    (24,348
    )Income from continuing operations before
minority interests and income taxes
    
    
    28,772
    
    
    
    27,160Minority interest in consolidated subsidiary companies
    
    
    494
    
    
    
    369Income from continuing operations before income taxes
    
    
    28,278
    
    
    
    26,791Income tax expense
    
    
    11,523
    
    
    
    10,652Income from continuing operations
    
    
    16,755
    
    
    
    16,139Income from discontinued operations, net of tax
    
    
    1,061
    
    
    
    Net income
    
    $
    17,816
    
    
    $
    16,139
 The accompanying notes are an integral part of this statement.
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Select Medical Corporation
Consolidated Statements of Operations
(unaudited)
(in thousands)
 Predecessor
    
    
    
    SuccessorPeriod from
    
    
    
    Period fromJanuary 1
    
    
    
    February 25
    
    
    For the Ninethrough
    
    
    
    through
    
    
    Months EndedFebruary 24,
    
    
    
    September 30,
    
    
    September 30,2005
    
    
    
    2005
    
    
    2006Net operating revenues
    
    $
    277,736
    
    
    
    $
    1,122,748
    
    
    $
    1,405,756Costs and expenses:Cost of services
    
    
    244,321
    
    
    
    
    875,566
    
    
    
    1,119,767General and administrative
    
    
    122,509
    
    
    
    
    48,960
    
    
    
    33,511Bad debt expense
    
    
    6,588
    
    
    
    
    14,244
    
    
    
    18,766Depreciation and amortization
    
    
    5,933
    
    
    
    
    28,110
    
    
    
    34,955Total costs and expenses
    
    
    379,351
    
    
    
    
    966,880
    
    
    
    1,206,999Income (loss) from operations
    
    
    (101,615
    )
    
    
    
    155,868
    
    
    
    198,757Other income and expense:Loss on early retirement of debt
    
    
    (42,736
    )
    
    
    
    
    
    
    
    Merger related charges
    
    
    (12,025
    )
    
    
    
    
    
    
    
    Other income
    
    
    267
    
    
    
    
    658
    
    
    
    918Interest income
    
    
    523
    
    
    
    
    511
    
    
    
    738Interest expense
    
    
    (4,651
    )
    
    
    
    (60,121
    )
    
    
    (72,615
    )Income (loss) from continuing operations before
minority interests and income taxes
    
    
    (160,237
    )
    
    
    
    96,916
    
    
    
    127,798Minority interest in consolidated subsidiary companies
    
    
    330
    
    
    
    
    1,350
    
    
    
    1,095Income (loss) from continuing operations before income taxes
    
    
    (160,567
    )
    
    
    
    95,566
    
    
    
    126,703Income tax expense (benefit)
    
    
    (59,794
    )
    
    
    
    38,623
    
    
    
    51,278Income (loss) from continuing operations
    
    
    (100,773
    )
    
    
    
    56,943
    
    
    
    75,425Income from discontinued operations, net of tax (includes
pre-tax gain of $13,950 in 2006)
    
    
    522
    
    
    
    
    3,367
    
    
    
    10,018Net income (loss)
    
    $
    (100,251
    )
    
    
    $
    60,310
    
    
    $
    85,443
 The accompanying notes are an integral part of this statement.
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Select Medical Corporation
 
 Consolidated Statement of Changes in Stockholders Equity and Comprehensive Income
 (unaudited)
 (in thousands)
 AccumulatedCommon
    
    
    Common
    
    
    Capital in
    
    
    
    
    
    
    OtherStock
    
    
    Stock Par
    
    
    Excess of
    
    
    Retained
    
    
    Comprehensive
    
    
    ComprehensiveIssued
    
    
    Value
    
    
    Par
    
    
    Earnings
    
    
    Income
    
    
    IncomeBalance at December 31, 2005
    
    
    
    
    
    $
    
    
    
    $
    440,799
    
    
    $
    61,134
    
    
    $
    4,232Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    85,443
    
    
    
    
    
    
    $
    85,443Unrealized gain on interest rate swap, net of tax
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    527
    
    
    
    527Changes in foreign currency translation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,013
    
    
    
    1,013Sale of foreign subsidiary
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,831
    )
    
    
    (2,831
    )Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    84,152Dividends to Holdings
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (32,522
    )Contribution related to restricted stock award issuances by Holdings
    
    
    
    
    
    
    
    
    
    
    2,836Balance at September 30, 2006
    
    
    
    
    
    $
    
    
    
    $
    443,635
    
    
    $
    114,055
    
    
    $
    2,941
 The accompanying notes are an integral part of this statement.
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Select
Medical Corporation
 
 Consolidated Statements of Cash Flows
(unaudited)
 (in thousands)
 Predecessor
    
    
    
    SuccessorPeriod from
    
    
    For the NinePeriod from
    
    
    
    February 25
    
    
    Months EndedJanuary 1 through
    
    
    
    through September
    
    
    September 30,February 24, 2005
    
    
    
    30, 2005
    
    
    2006Operating activitiesNet income (loss)
    
    $
    (100,251
    )
    
    
    $
    60,310
    
    
    $
    85,443Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:Depreciation and amortization
    
    
    6,177
    
    
    
    
    28,898
    
    
    
    35,131Provision for bad debts
    
    
    6,661
    
    
    
    
    14,425
    
    
    
    18,853Gain from sale of business
    
    
    
    
    
    
    
    
    
    
    
    (13,950
    )Non-cash income from hedge
    
    
    
    
    
    
    
    
    
    
    
    (918
    )Loss on early retirement of debt (non-cash)
    
    
    7,977
    
    
    
    
    
    
    
    
    Non-cash stock compensation expense
    
    
    
    
    
    
    
    7,567
    
    
    
    2,837Minority interests
    
    
    469
    
    
    
    
    2,335
    
    
    
    1,435Loss on disposal of assets
    
    
    
    
    
    
    
    715
    
    
    
    1,418Changes in operating assets and liabilities, net of
effects from acquisition of businesses:Accounts receivable
    
    
    (48,976
    )
    
    
    
    (23,516
    )
    
    
    (10,811
    )Other current assets
    
    
    1,816
    
    
    
    
    (1,250
    )
    
    
    2,494Other assets
    
    
    (622
    )
    
    
    
    1,163
    
    
    
    3,539Accounts payable
    
    
    5,250
    
    
    
    
    2,484
    
    
    
    4,300Due to third-party payors
    
    
    667
    
    
    
    
    (2,598
    )
    
    
    (3,169
    )Accrued interest
    
    
    (4,839
    )
    
    
    
    11,563
    
    
    
    (12,526
    )Accrued expenses
    
    
    204,748
    
    
    
    
    (190,801
    )
    
    
    (9,991
    )Income taxes and deferred taxes
    
    
    (60,021
    )
    
    
    
    31,441
    
    
    
    33,562Net cash provided by (used in) operating activities
    
    
    19,056
    
    
    
    
    (57,264
    )
    
    
    137,647Investing activitiesPurchases of property and equipment
    
    
    (2,586
    )
    
    
    
    (70,459
    )
    
    
    (112,132
    )Earnout payments
    
    
    
    
    
    
    
    
    
    
    
    (100
    )Proceeds from sale of business
    
    
    
    
    
    
    
    
    
    
    
    76,806Restricted cash
    
    
    108
    
    
    
    
    217
    
    
    
    1,098Acquisition of businesses, net of cash acquired
    
    
    (108,279
    )
    
    
    
    (2,747
    )
    
    
    (3,261
    )Net cash used in investing activities
    
    
    (110,757
    )
    
    
    
    (72,989
    )
    
    
    (37,589
    )Financing activitiesEquity investment by Holdings
    
    
    
    
    
    
    
    724,042
    
    
    
    Proceeds from credit facility
    
    
    
    
    
    
    
    780,000
    
    
    
    Proceeds from senior subordinated notes
    
    
    
    
    
    
    
    660,000
    
    
    
    Repayment of senior subordinated notes
    
    
    
    
    
    
    
    (350,000
    )
    
    
    Payment of deferred financing costs
    
    
    
    
    
    
    
    (57,198
    )
    
    
    Costs associated with equity investment of Holdings
    
    
    
    
    
    
    
    (8,686
    )
    
    
    Net repayments on credit facility debt
    
    
    
    
    
    
    
    (62,900
    )
    
    
    (84,350
    )Principal payments on seller and other debt
    
    
    (528
    )
    
    
    
    (4,004
    )
    
    
    (614
    )Dividends to Holdings
    
    
    
    
    
    
    
    (9,396
    )
    
    
    (32,522
    )Repurchases of common stock and options
    
    
    
    
    
    
    
    (1,687,994
    )
    
    
    Proceeds from issuance of common stock
    
    
    1,023
    
    
    
    
    
    
    
    
    Borrowing (repayment) of bank overdrafts
    
    
    
    
    
    
    
    689
    
    
    
    (11,824
    )Distributions to minority interests
    
    
    (401
    )
    
    
    
    (1,240
    )
    
    
    (1,604
    )Net cash provided by (used in) financing activities
    
    
    94
    
    
    
    
    (16,687
    )
    
    
    (130,914
    )Effect of exchange rate changes on cash
and cash equivalents
    
    
    (149
    )
    
    
    
    584
    
    
    
    35Net decrease in cash and cash equivalents
    
    
    (91,756
    )
    
    
    
    (146,356
    )
    
    
    (30,821
    )Cash and cash equivalents at beginning of period
    
    
    247,476
    
    
    
    
    155,720
    
    
    
    35,861Cash and cash equivalents at end of period
    
    $
    155,720
    
    
    
    $
    9,364
    
    
    $
    5,040Supplemental Cash Flow InformationCash paid for interest
    
    $
    10,630
    
    
    
    $
    41,803
    
    
    $
    81,139Cash paid for taxes
    
    $
    1,502
    
    
    
    $
    8,931
    
    
    $
    21,840
 The accompanying notes are an integral part of this statement.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
 Basis of Presentation
    2. Accounting Policies
 Use of Estimates
  Reclassifications
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Recent Accounting Pronouncements
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3. Intangible Assets
  SuccessorAs of September 30, 2006Gross Carrying
    
    
    AccumulatedAmount
    
    
    Amortization(in thousands)Amortized intangible assetsContract therapy relationships
    
    $
    20,456
    
    
    $
    (6,478
    )Non-compete agreements
    
    
    20,809
    
    
    
    (5,889
    )Total
    
    $
    41,265
    
    
    $
    (12,367
    )Indefinite-lived intangible assetsGoodwill
    
    $
    1,319,018Trademarks
    
    
    47,058Certificates of need
    
    
    3,608Accreditations
    
    
    1,892Total
    
    $
    1,371,576
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Successor
    
    Predecessor
    
    SuccessorPeriodThree
    
    Three
    
    Period from
    
    from
    
    NineMonths
    
    Months
    
    January 1
    
    February
    
    MonthsEnded
    
    Ended
    
    through
    
    25 through
    
    EndedSeptember
    
    September
    
    February 24,
    
    September
    
    September30, 2005
    
    30, 2006
    
    2005
    
    30, 2005
    
    30, 2006(in thousands)Amortization expense
    
    $
    2,580
    
    
    $
    1,953
    
    
    $
    576
    
    
    $
    6,019
    
    
    $
    5,858
   Specialty
    
    OutpatientHospitals
    
    Rehabilitation
    
    Total(in thousands)Balance as of December 31, 2005
    
    $
    1,221,776
    
    
    $
    83,434
    
    
    $
    1,305,210Tax adjustments related to
Merger
    
    
    112
    
    
    
    10,800
    
    
    
    10,912Goodwill acquired during year
    
    
    299
    
    
    
    1,201
    
    
    
    1,500Earnouts
    
    
    
    
    
    
    100
    
    
    
    100Other
    
    
    
    
    
    
    1,296
    
    
    
    1,296Balance as of September 30,
2006
    
    $
    1,222,187
    
    
    $
    96,831
    
    
    $
    1,319,018
  4. Accumulated Other Comprehensive Income
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##### Table of Contents



5. Segment Information
   SuccessorThree Months Ended September 30, 2005Specialty
    
    OutpatientHospitals
    
    Rehabilitation
    
    All Other
    
    Total(in thousands)Net operating revenue
    
    $
    341,835
    
    
    $
    118,263
    
    
    $
    560
    
    
    $
    460,658Adjusted EBITDA
    
    
    77,571
    
    
    
    15,302
    
    
    
    (11,417
    )
    
    
    81,456Total assets
    
    
    1,589,460
    
    
    
    516,697
    
    
    
    33,235
    
    
    
    2,139,392Capital expenditures
    
    
    13,814
    
    
    
    324
    
    
    
    113
    
    
    
    14,251
 SuccessorThree Months Ended September 30, 2006Specialty
    
    OutpatientHospitals
    
    Rehabilitation
    
    All Other
    
    Total(in thousands)Net operating revenue
    
    $
    329,324
    
    
    $
    114,043
    
    
    $
    505
    
    
    $
    443,872Adjusted EBITDA
    
    
    60,812
    
    
    
    15,737
    
    
    
    (8,896
    )
    
    
    67,653Total assets
    
    
    1,773,586
    
    
    
    254,865
    
    
    
    97,645
    
    
    
    2,126,096Capital expenditures
    
    
    38,671
    
    
    
    876
    
    
    
    771
    
    
    
    40,318
 PredecessorPeriod from January 1 through February 24, 2005Specialty
    
    OutpatientHospitals
    
    Rehabilitation
    
    All Other
    
    Total(in thousands)Net revenue
    
    $
    202,781
    
    
    $
    73,344
    
    
    $
    1,611
    
    
    $
    277,736Adjusted EBITDA
    
    
    44,384
    
    
    
    9,848
    
    
    
    (7,701
    )
    
    
    46,531Total assets
    
    
    904,754
    
    
    
    239,019
    
    
    
    87,640
    
    
    
    1,231,413Capital expenditures
    
    
    1,165
    
    
    
    408
    
    
    
    1,013
    
    
    
    2,586
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SuccessorPeriod from February 25 through September 30, 2005Specialty
    
    OutpatientHospitals
    
    Rehabilitation
    
    All Other
    
    Total(in thousands)Net revenue
    
    $
    828,606
    
    
    $
    291,019
    
    
    $
    3,123
    
    
    $
    1,122,748Adjusted EBITDA
    
    
    190,927
    
    
    
    42,566
    
    
    
    (27,495
    )
    
    
    205,998Total assets
    
    
    1,589,460
    
    
    
    516,697
    
    
    
    33,235
    
    
    
    2,139,392Capital expenditures
    
    
    66,943
    
    
    
    937
    
    
    
    2,579
    
    
    
    70,459SuccessorNine Months Ended September 30, 2006Specialty
    
    OutpatientHospitals
    
    Rehabilitation
    
    All Other
    
    Total(in thousands)Net revenue
    
    $
    1,049,768
    
    
    $
    353,974
    
    
    $
    2,014
    
    
    $
    1,405,756Adjusted EBITDA
    
    
    218,203
    
    
    
    48,920
    
    
    
    (30,574
    )
    
    
    236,549Total assets
    
    
    1,773,586
    
    
    
    254,865
    
    
    
    97,645
    
    
    
    2,126,096Capital expenditures
    
    
    107,001
    
    
    
    3,827
    
    
    
    1,304
    
    
    
    112,132
 13




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##### Table of Contents



Successor
    
    
    Predecessor
    
    
    SuccessorThree
    
    
    Three
    
    
    Period from
    
    
    Period from
    
    
    NineMonths
    
    
    Months
    
    
    January 1
    
    
    February 25
    
    
    MonthsEnded
    
    
    Ended
    
    
    through
    
    
    through
    
    
    EndedSeptember
    
    
    September
    
    
    February
    
    
    September
    
    
    September30, 2005
    
    
    30, 2006
    
    
    24, 2005
    
    
    30, 2005
    
    
    30, 2006(in thousands)Net income (loss)
    
    $
    17,816
    
    
    $
    16,139
    
    
    $
    (100,251
    )
    
    $
    60,310
    
    
    $
    85,443Income from
discontinued
operations, net of
tax
    
    
    (1,061
    )
    
    
    
    
    
    
    (522
    )
    
    
    (3,367
    )
    
    
    (10,018
    )Income tax expense
(benefit)
    
    
    11,523
    
    
    
    10,652
    
    
    
    (59,794
    )
    
    
    38,623
    
    
    
    51,278Minority interest
    
    
    494
    
    
    
    369
    
    
    
    330
    
    
    
    1,350
    
    
    
    1,095Interest expense, net
    
    
    25,226
    
    
    
    24,029
    
    
    
    4,128
    
    
    
    59,610
    
    
    
    71,877Other expense (income)
    
    
    (247
    )
    
    
    3,124
    
    
    
    (267
    )
    
    
    (658
    )
    
    
    (918
    )Merger related charges
    
    
    
    
    
    
    
    
    
    
    12,025
    
    
    
    
    
    
    
    Loss on early
retirement of debt
    
    
    
    
    
    
    
    
    
    
    42,736
    
    
    
    
    
    
    
    Depreciation and
amortization
    
    
    11,828
    
    
    
    12,394
    
    
    
    5,933
    
    
    
    28,110
    
    
    
    34,955Stock compensation
expense:Included in
general and
administrative
    
    
    1,366
    
    
    
    888
    
    
    
    115,025
    
    
    
    7,438
    
    
    
    2,663Included in cost
of services
    
    
    58
    
    
    
    58
    
    
    
    27,188
    
    
    
    129
    
    
    
    174Long-term incentive
compensation (1)
    
    
    14,453
    
    
    
    
    
    
    
    
    
    
    
    14,453
    
    
    
    Adjusted EBITDA
    
    $
    81,456
    
    
    $
    67,653
    
    
    $
    46,531
    
    
    $
    205,998
    
    
    $
    236,549
 
 1)
    
    For the three months ended September 30, 2005 and for the period from February 25
through September 30, 2005, $14.5 million of long-term compensation expense was included
in general administrative expense on the Companys consolidated statement of operations. 14




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##### Table of Contents



6. Discontinued Operations
  Successor
    
    
    Predecessor
    
    
    SuccessorPeriod from
    
    
    Period from
    
    
    For the TwoThree Months
    
    
    January 1
    
    
    February 25
    
    
    MonthsEnded
    
    
    through
    
    
    through
    
    
    EndedSeptember 30,
    
    
    February 24,
    
    
    September
    
    
    February 28,2005
    
    
    2005
    
    
    30, 2005
    

    2006 (1)(in thousands)Net revenue
    
    $
    17,040
    
    
    $
    10,051
    
    
    $
    41,702
    
    
    $
    12,902Income from
discontinued
operations before
income tax expense
    
    
    1,708
    
    
    
    950
    
    
    
    5,563
    
    
    
    15,547Income tax expense
    
    
    647
    
    
    
    428
    
    
    
    2,196
    
    
    
    5,529Income from
discontinued
operations, net of
tax
    
    $
    1,061
    
    
    $
    522
    
    
    $
    3,367
    
    
    $
    10,018
 
 (1)
    
    The income from discontinued operations before income taxes includes a gain on sale of
approximately $14.0 million. 7. Commitments and Contingencies
 Litigation
   15




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##### Table of Contents



Other
  16




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##### Table of Contents



8. Financial Information for Subsidiary Guarantors and Non-Guarantor Subsidiaries
 5 8 5 8
    Caritas Rehab Services, LLC
    
    North Andover Physical Therapy, Inc.Cupertino Medical Center, P.C.
    
    Ocala Regional Physical Therapy Center, Ltd.Elizabethtown Physical Therapy
    
    OccuMed East, P.C.Jeff Ayres, PT Therapy Center, Inc.
    
    Ohio Occupational Health, P.C., Inc.Jeffersontown Physical Therapy, LLC
    
    Partners in Physical Therapy, PLLCKentucky Orthopedic Rehabilitation, LLC
    
    Philadelphia Occupational Health, P.C.Kessler Core PT, OT and Speech Therapy at
New York, LLC
    
    Rehabilitation Physician Services, P.C.
Robinson & Associates, P.C.Langhorne, P.C.
    
    Select Specialty Hospital  Central Pennsylvania, L.P.Lester OSM, P.C.
    
    Select Specialty Hospital  Houston, L.P.Louisville Physical Therapy, P.S.C.
    
    Select Specialty Hospital  Gulf Coast, Inc.Medical Information Management Systems, LLC
    
    Therex, P.C.Metropolitan West Physical Therapy and
Sports 
      Medicine Services Inc.
    
    TJ Corporation I, LLC
U.S. Regional Occupational Health II, P.C.MKJ Physical Therapy, Inc.
    
    U.S. Regional Occupational Health II of New Jersey, P.C.New York Physician Services, P.C.
 17




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##### Table of Contents



Select Medical CorporationCondensed Consolidating Balance SheetSeptember 30, 2006(unaudited)SuccessorSelect MedicalCorporation (Parent
    
    
    Subsidiary
    
    
    Non-GuarantorCompany Only)
    
    
    Guarantors
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    Consolidated( in thousands)AssetsCurrent Assets:Cash and cash equivalents
    
    $
    751
    
    
    $
    3,036
    
    
    $
    1,253
    
    
    $
    
    
    
    $
    5,040Restricted cash
    
    
    5,247
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,247Accounts receivable, net
    
    
    (264
    )
    
    
    230,745
    
    
    
    17,491
    
    
    
    
    
    
    
    247,972Current deferred tax asset
    
    
    25,315
    
    
    
    29,965
    
    
    
    2,612
    
    
    
    
    
    
    
    57,892Other current assets
    
    
    1,150
    
    
    
    14,096
    
    
    
    1,601
    
    
    
    
    
    
    
    16,847Total Current Assets
    
    
    32,199
    
    
    
    277,842
    
    
    
    22,957
    
    
    
    
    
    
    
    332,998Property and equipment, net
    
    
    10,104
    
    
    
    290,891
    
    
    
    29,111
    
    
    
    
    
    
    
    330,106Investment in affiliates
    
    
    1,736,608
    
    
    
    63,624
    
    
    
    
    
    
    
    (1,800,232
    ) (a)
    
    
    Goodwill
    
    
    
    
    
    
    1,319,018
    
    
    
    
    
    
    
    
    
    
    
    1,319,018Other identifiable intangibles
    
    
    
    
    
    
    81,456
    
    
    
    
    
    
    
    
    
    
    
    81,456Other assets
    
    
    58,426
    
    
    
    3,545
    
    
    
    547
    
    
    
    
    
    
    
    62,518Total Assets
    
    $
    1,837,337
    
    
    $
    2,036,376
    
    
    $
    52,615
    
    
    $
    (1,800,232
    )
    
    $
    2,126,096Liabilities and Stockholders EquityCurrent Liabilities:Bank overdrafts
    
    $
    7,531
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    7,531Current portion of long-term debt and
notes payable
    
    
    5,920
    
    
    
    389
    
    
    
    
    
    
    
    
    
    
    
    6,309Accounts payable
    
    
    3,449
    
    
    
    57,789
    
    
    
    3,735
    
    
    
    
    
    
    
    64,973Intercompany accounts
    
    
    272,910
    
    
    
    (239,777
    )
    
    
    (33,133
    )
    
    
    
    
    
    
    Accrued payroll
    
    
    1,322
    
    
    
    53,020
    
    
    
    173
    
    
    
    
    
    
    
    54,515Accrued vacation
    
    
    2,870
    
    
    
    22,014
    
    
    
    2,155
    
    
    
    
    
    
    
    27,039Accrued interest
    
    
    12,704
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    12,704Accrued professional liability
    
    
    23,128
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    23,128Accrued restructuring
    
    
    
    
    
    
    252
    
    
    
    
    
    
    
    
    
    
    
    252Accrued other
    
    
    42,466
    
    
    
    20,636
    
    
    
    2,038
    
    
    
    
    
    
    
    65,140Due to third party payors
    
    
    
    
    
    
    8,730
    
    
    
    276
    
    
    
    
    
    
    
    9,006Income taxes
    
    
    (15,616
    )
    
    
    38,859
    
    
    
    (897
    )
    
    
    
    
    
    
    22,346Total Current Liabilities
    
    
    356,684
    
    
    
    (38,088
    )
    
    
    (25,653
    )
    
    
    
    
    
    
    292,943Long-term debt, net of current portion
    
    
    913,361
    
    
    
    291,426
    
    
    
    26,252
    
    
    
    
    
    
    
    1,231,039Noncurrent deferred tax liability
    
    
    6,661
    
    
    
    31,467
    
    
    
    1,070
    
    
    
    
    
    
    
    39,198Total Liabilities
    
    
    1,276,706
    
    
    
    284,805
    
    
    
    1,669
    
    
    
    
    
    
    
    1,563,180Commitments and ContingenciesMinority interest in consolidated
subsidiary companies
    
    
    
    
    
    
    
    
    
    
    2,285
    
    
    
    
    
    
    
    2,285Stockholders Equity:Common stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Capital in excess of par
    
    
    443,635
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    443,635Retained earnings
    
    
    114,055
    
    
    
    177,267
    
    
    
    30,088
    
    
    
    (207,355
    ) (b)
    
    
    114,055Subsidiary investment
    
    
    
    
    
    
    1,574,304
    
    
    
    18,573
    
    
    
    (1,592,877
    ) (a)(b)
    
    
    Accumulated other comprehensive income
    
    
    2,941
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,941Total Stockholders Equity
    
    
    560,631
    
    
    
    1,751,571
    
    
    
    48,661
    
    
    
    (1,800,232
    )
    
    
    560,631Total Liabilities and Stockholders Equity
    
    $
    1,837,337
    
    
    $
    2,036,376
    
    
    $
    52,615
    
    
    $
    (1,800,232
    )
    
    $
    2,126,096
 
 (a)
    
    Elimination of investments in subsidiaries.(b)
    
    Elimination of investments in subsidiaries earnings. 18




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##### Table of Contents



Select Medical CorporationCondensed Consolidating Statement of OperationsFor the Nine Months Ended September 30, 2006(unaudited)SuccessorSelect Medical
    
    
    
    
    
    
    Non-Corporation (Parent
    
    
    Subsidiary
    
    
    GuarantorCompany Only)
    
    
    Guarantors
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    Consolidated(in thousands)Net operating revenues
    
    $
    474
    
    
    $
    1,288,351
    
    
    $
    116,931
    
    
    $
    
    
    
    $
    1,405,756Costs and expenses:Cost of services
    
    
    174
    
    
    
    1,022,233
    
    
    
    97,360
    
    
    
    
    
    
    
    1,119,767General and administrative
    
    
    33,342
    
    
    
    169
    
    
    
    
    
    
    
    
    
    
    
    33,511Bad debt expense
    
    
    
    
    
    
    17,736
    
    
    
    1,030
    
    
    
    
    
    
    
    18,766Depreciation and amortization
    
    
    1,841
    
    
    
    30,688
    
    
    
    2,426
    
    
    
    
    
    
    
    34,955Total costs and expenses
    
    
    35,357
    
    
    
    1,070,826
    
    
    
    100,816
    
    
    
    
    
    
    
    1,206,999Income (loss) from operations
    
    
    (34,883
    )
    
    
    217,525
    
    
    
    16,115
    
    
    
    
    
    
    
    198,757Other income and expense:Intercompany interest and royalty fees
    
    
    (46,508
    )
    
    
    46,212
    
    
    
    296
    
    
    
    
    
    
    
    Intercompany management fees
    
    
    124,023
    
    
    
    (120,852
    )
    
    
    (3,171
    )
    
    
    
    
    
    
    Other income
    
    
    918
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    918Interest income
    
    
    700
    
    
    
    38
    
    
    
    
    
    
    
    
    
    
    
    738Interest expense
    
    
    (55,340
    )
    
    
    (16,180
    )
    
    
    (1,095
    )
    
    
    
    
    
    
    (72,615
    )Income (loss) before minority interests and income taxes
    
    
    (11,090
    )
    
    
    126,743
    
    
    
    12,145
    
    
    
    
    
    
    
    127,798Minority interest in consolidated subsidiary companies
    
    
    
    
    
    
    
    
    
    
    1,095
    
    
    
    
    
    
    
    1,095Income (loss) from continuing operations before income taxes
    
    
    (11,090
    )
    
    
    126,743
    
    
    
    11,050
    
    
    
    
    
    
    
    126,703Income tax expense (benefit)
    
    
    (264
    )
    
    
    50,574
    
    
    
    968
    
    
    
    
    
    
    
    51,278Income (loss) from continuing operations
    
    
    (10,826
    )
    
    
    76,169
    
    
    
    10,082
    
    
    
    
    
    
    
    75,425Income from discontinued operations, net of tax
    
    
    9,068
    
    
    
    
    
    
    
    950
    
    
    
    
    
    
    
    10,018Equity in earnings of subsidiaries
    
    
    87,201
    
    
    
    10,082
    
    
    
    
    
    
    
    (97,283
    )
    
    
    Net income
    
    $
    85,443
    
    
    $
    86,251
    
    
    $
    11,032
    
    
    $
    (97,283
    )
    
    $
    85,443
 -19-




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##### Table of Contents



Select Medical CorporationCondensed Consolidating Statement of Cash FlowsFor the Nine Months Ended September 30, 2006SuccessorSelect Medical
    
    
    
    
    
    
    Non-Corporation (Parent
    
    
    Subsidiary
    
    
    GuarantorCompany Only)
    
    
    Guarantors
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    Consolidated(in thousands)Operating activitiesNet income
    
    $
    85,443
    
    
    $
    86,251
    
    
    $
    11,032
    
    
    $
    (97,283
    )  (a)
    
    $
    85,443Adjustments to reconcile net income to net cash
provided by (used in) operating activities:Depreciation and amortization
    
    
    1,841
    
    
    
    30,688
    
    
    
    2,602
    
    
    
    
    
    
    
    35,131Provision for bad debts
    
    
    
    
    
    
    17,736
    
    
    
    1,117
    
    
    
    
    
    
    
    18,853Gain from sale of business
    
    
    (13,950
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (13,950
    )Non cash income from hedge
    
    
    (918
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (918
    )Non-cash compensation expense
    
    
    2,837
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2,837Minority interests
    
    
    
    
    
    
    
    
    
    
    1,435
    
    
    
    
    
    
    
    1,435Loss on disposal of assets
    
    
    232
    
    
    
    1,132
    
    
    
    54
    
    
    
    
    
    
    
    1,418Changes in operating assets and liabilities, net of
effects from acquisition of businesses:Equity in earnings of subsidiaries
    
    
    (87,201
    )
    
    
    (10,082
    )
    
    
    
    
    
    
    97,283
    (a)
    
    
    Intercompany
    
    
    41,724
    
    
    
    (6,275
    )
    
    
    (35,449
    )
    
    
    
    
    
    
    Accounts receivable
    
    
    264
    
    
    
    (15,596
    )
    
    
    4,521
    
    
    
    
    
    
    
    (10,811
    )Other current assets
    
    
    761
    
    
    
    (1,456
    )
    
    
    3,189
    
    
    
    
    
    
    
    2,494Other assets
    
    
    (1,037
    )
    
    
    3,312
    
    
    
    1,264
    
    
    
    
    
    
    
    3,539Accounts payable
    
    
    1,458
    
    
    
    6,810
    
    
    
    (3,968
    )
    
    
    
    
    
    
    4,300Due to third-party payors
    
    
    (6,099
    )
    
    
    (5,423
    )
    
    
    8,353
    
    
    
    
    
    
    
    (3,169
    )Accrued interest
    
    
    (12,526
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (12,526
    )Accrued expenses
    
    
    3,522
    
    
    
    (12,206
    )
    
    
    (1,307
    )
    
    
    
    
    
    
    (9,991
    )Income taxes
    
    
    33,562
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    33,562Net cash provided by (used in) operating activities
    
    
    49,913
    
    
    
    94,891
    
    
    
    (7,157
    )
    
    
    
    
    
    
    137,647Investing activitiesPurchases of property and equipment
    
    
    (1,094
    )
    
    
    (98,879
    )
    
    
    (12,159
    )
    
    
    
    
    
    
    (112,132
    )Proceeds from sale of business
    
    
    76,806
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    76,806Earnout payments
    
    
    
    
    
    
    (100
    )
    
    
    
    
    
    
    
    
    
    
    (100
    )Restricted cash
    
    
    1,098
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,098Acquisition of businesses, net of cash acquired
    
    
    
    
    
    
    (1,239
    )
    
    
    (2,022
    )
    
    
    
    
    
    
    (3,261
    )Net cash provided by (used in) investing activities
    
    
    76,810
    
    
    
    (100,218
    )
    
    
    (14,181
    )
    
    
    
    
    
    
    (37,589
    )Financing activitiesNet repayments on credit facility
    
    
    (84,350
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (84,350
    )Dividends to Holdings
    
    
    (32,522
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (32,522
    )Intercompany debt reallocation
    
    
    (14,049
    )
    
    
    5,309
    
    
    
    8,740
    
    
    
    
    
    
    
    Principal payments on seller and other debt
    
    
    
    
    
    
    (577
    )
    
    
    (37
    )
    
    
    
    
    
    
    (614
    )Payment of bank overdrafts
    
    
    (11,824
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (11,824
    )Distributions to minority interests
    
    
    
    
    
    
    
    
    
    
    (1,604
    )
    
    
    
    
    
    
    (1,604
    )Net cash provided by (used in) financing activities
    
    
    (142,745
    )
    
    
    4,732
    
    
    
    7,099
    
    
    
    
    
    
    
    (130,914
    )Effect of exchange rate changes on cash
and cash equivalents
    
    
    35
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    35Net decrease in cash and cash equivalents
    
    
    (15,987
    )
    
    
    (595
    )
    
    
    (14,239
    )
    
    
    
    
    
    
    (30,821
    )Cash and cash equivalents at beginning of period
    
    
    16,738
    
    
    
    3,631
    
    
    
    15,492
    
    
    
    
    
    
    
    35,861Cash and cash equivalents at end of period
    
    $
    751
    
    
    $
    3,036
    
    
    $
    1,253
    
    
    $
    
    
    
    $
    5,040
 
 (a)
    
    Elimination of equity in earnings of subsidiary. -20-




---



##### Table of Contents



Select Medical CorporationCondensed Consolidating Statement of OperationsFor the Period January 1 through February 24, 2005(unaudited)PredecessorSelect Medical
    
    
    
    
    
    
    Non-Corporation (Parent
    
    
    Subsidiary
    
    
    GuarantorCompany Only)
    
    
    Guarantors
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    Consolidated(in thousands)Net operating revenues
    
    $
    28
    
    
    $
    248,857
    
    
    $
    28,851
    
    
    $
    
    
    
    $
    277,736Costs and expenses:Cost of services
    
    
    27,188
    
    
    
    193,323
    
    
    
    23,810
    
    
    
    
    
    
    
    244,321General and administrative
    
    
    121,956
    
    
    
    553
    
    
    
    
    
    
    
    
    
    
    
    122,509Bad debt expense
    
    
    
    
    
    
    6,223
    
    
    
    365
    
    
    
    
    
    
    
    6,588Depreciation and amortization
    
    
    371
    
    
    
    5,025
    
    
    
    537
    
    
    
    
    
    
    
    5,933Total costs and expenses
    
    
    149,515
    
    
    
    205,124
    
    
    
    24,712
    
    
    
    
    
    
    
    379,351Income (loss) from operations
    
    
    (149,487
    )
    
    
    43,733
    
    
    
    4,139
    
    
    
    
    
    
    
    (101,615
    )Other income and expense:Intercompany interest and royalty fees
    
    
    (6,261
    )
    
    
    6,221
    
    
    
    40
    
    
    
    
    
    
    
    Intercompany management fees
    
    
    213,822
    
    
    
    (213,436
    )
    
    
    (386
    )
    
    
    
    
    
    
    Loss on early retirement of debt
    
    
    (42,736
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (42,736
    )Merger related charges
    
    
    (12,025
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (12,025
    )Other income
    
    
    267
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    267Interest income
    
    
    294
    
    
    
    229
    
    
    
    
    
    
    
    
    
    
    
    523Interest expense
    
    
    (1,433
    )
    
    
    (2,953
    )
    
    
    (265
    )
    
    
    
    
    
    
    (4,651
    )Income (loss) before minority interests and income taxes
    
    
    2,441
    
    
    
    (166,206
    )
    
    
    3,528
    
    
    
    
    
    
    
    (160,237
    )Minority interest in consolidated subsidiary companies
    
    
    
    
    
    
    7
    
    
    
    323
    
    
    
    
    
    
    
    330Income (loss) from continuing operations before income taxes
    
    
    2,441
    
    
    
    (166,213
    )
    
    
    3,205
    
    
    
    
    
    
    
    (160,567
    )Income tax expense (benefit)
    
    
    130
    
    
    
    (59,937
    )
    
    
    13
    
    
    
    
    
    
    
    (59,794
    )Income (loss) from continuing operations
    
    
    2,311
    
    
    
    (106,276
    )
    
    
    3,192
    
    
    
    
    
    
    
    (100,773
    )Income from discontinued operations, net of tax
    
    
    
    
    
    
    
    
    
    
    522
    
    
    
    
    
    
    
    522Equity in earnings of subsidiaries
    
    
    (102,562
    )
    
    
    3,192
    
    
    
    
    
    
    
    99,370
    (a)
    
    
    Net income (loss)
    
    $
    (100,251
    )
    
    $
    (103,084
    )
    
    $
    3,714
    
    
    $
    99,370
    
    
    $
    (100,251
    )
 
 (a)
    
    Elimination of equity in net income (loss) from consolidated subsidiaries. -21-




---



##### Table of Contents



Select Medical CorporationCondensed Consolidating Statement of OperationsFor the Period February 25 through September 30, 2005SuccessorSelect Medical
    
    
    
    
    
    
    Non-Corporation (Parent
    
    
    Subsidiary
    
    
    GuarantorCompany Only)
    
    
    Guarantors
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    Consolidated(in thousands)Net operating revenues
    
    $
    10
    
    
    $
    1,017,218
    
    
    $
    105,520
    
    
    $
    
    
    
    $
    1,122,748Costs and expenses:Cost of services
    
    
    129
    
    
    
    789,232
    
    
    
    86,205
    
    
    
    
    
    
    
    875,566General and administrative
    
    
    46,950
    
    
    
    2,010
    
    
    
    
    
    
    
    
    
    
    
    48,960Bad debt expense
    
    
    
    
    
    
    13,264
    
    
    
    980
    
    
    
    
    
    
    
    14,244Depreciation and amortization
    
    
    5,299
    
    
    
    20,790
    
    
    
    2,021
    
    
    
    
    
    
    
    28,110Total costs and expenses
    
    
    52,378
    
    
    
    825,296
    
    
    
    89,206
    
    
    
    
    
    
    
    966,880Income (loss) from operations
    
    
    (52,368
    )
    
    
    191,922
    
    
    
    16,314
    
    
    
    
    
    
    
    155,868Other income and expense:Intercompany interest and royalty fees
    
    
    (18,387
    )
    
    
    18,210
    
    
    
    177
    
    
    
    
    
    
    
    Intercompany management fees
    
    
    112,202
    
    
    
    (109,833
    )
    
    
    (2,369
    )
    
    
    
    
    
    
    Other income
    
    
    658
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    658Interest income
    
    
    446
    
    
    
    65
    
    
    
    
    
    
    
    
    
    
    
    511Interest expense
    
    
    (48,007
    )
    
    
    (11,326
    )
    
    
    (788
    )
    
    
    
    
    
    
    (60,121
    )Income (loss) before minority interests and income taxes
    
    
    (5,456
    )
    
    
    89,038
    
    
    
    13,334
    
    
    
    
    
    
    
    96,916Minority interest in consolidated subsidiary companies
    
    
    
    
    
    
    121
    
    
    
    1,229
    
    
    
    
    
    
    
    1,350Income (loss) before income taxes
    
    
    (5,456
    )
    
    
    88,917
    
    
    
    12,105
    
    
    
    
    
    
    
    95,566Income tax expense
    
    
    25,296
    
    
    
    12,734
    
    
    
    593
    
    
    
    
    
    
    
    38,623Income (loss) from continuing operations
    
    
    (30,752
    )
    
    
    76,183
    
    
    
    11,512
    
    
    
    
    
    
    
    56,943Income from discontinued operations, net of tax
    
    
    
    
    
    
    
    
    
    
    3,367
    
    
    
    
    
    
    
    3,367Equity in earnings of subsidiaries
    
    
    91,062
    
    
    
    11,512
    
    
    
    
    
    
    
    (102,574
    )  (a)
    
    
    Net income
    
    $
    60,310
    
    
    $
    87,695
    
    
    $
    14,879
    
    
    $
    (102,574
    )
    
    $
    60,310
 
 (a)
    
    Elimination of equity in net income (loss) from consolidated subsidiaries. -22-




---



##### Table of Contents



Select Medical CorporationCondensed Consolidating Statement of Cash FlowsFor the Period January 1 through February 24, 2005(unaudited)PredecessorSelect MedicalCorporation (Parent
    
    
    Subsidiary
    
    
    Non-GuarantorCompany Only)
    
    
    Guarantors
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    Consolidated(in thousands)Operating activitiesNet income (loss)
    
    $
    (100,251
    )
    
    $
    (103,084
    )
    
    $
    3,714
    
    
    $
    99,370
    (a)
    
    $
    (100,251
    )Adjustments to reconcile net income (loss) to net
cash
provided by (used in) operating activities:Depreciation and amortization
    
    
    371
    
    
    
    5,025
    
    
    
    781
    
    
    
    
    
    
    
    6,177Provision for bad debts
    
    
    
    
    
    
    6,223
    
    
    
    438
    
    
    
    
    
    
    
    6,661Loss on early retirement of debt (non-cash)
    
    
    7,977
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7,977Minority interests
    
    
    
    
    
    
    7
    
    
    
    462
    
    
    
    
    
    
    
    469Changes in operating assets and liabilities,
net of
effects from acquisition of businesses:Equity in earnings of subsidiaries
    
    
    102,562
    
    
    
    (3,192
    )
    
    
    
    
    
    
    (99,370
    )  (a)
    
    
    Intercompany
    
    
    (9,581
    )
    
    
    12,090
    
    
    
    (2,509
    )
    
    
    
    
    
    
    Accounts receivable
    
    
    (133
    )
    
    
    (47,567
    )
    
    
    (1,276
    )
    
    
    
    
    
    
    (48,976
    )Other current assets
    
    
    1,899
    
    
    
    (374
    )
    
    
    291
    
    
    
    
    
    
    
    1,816Other assets
    
    
    8,375
    
    
    
    (9,045
    )
    
    
    48
    
    
    
    
    
    
    
    (622
    )Accounts payable
    
    
    (296
    )
    
    
    6,128
    
    
    
    (582
    )
    
    
    
    
    
    
    5,250Due to third-party payors
    
    
    
    
    
    
    3,953
    
    
    
    (3,286
    )
    
    
    
    
    
    
    667Accrued interest
    
    
    (4,839
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (4,839
    )Accrued expenses
    
    
    52,042
    
    
    
    152,793
    
    
    
    (87
    )
    
    
    
    
    
    
    204,748Income and deferred taxes
    
    
    (59,190
    )
    
    
    
    
    
    
    (831
    )
    
    
    
    
    
    
    (60,021
    )Net cash provided by (used in) operating activities
    
    
    (1,064
    )
    
    
    22,957
    
    
    
    (2,837
    )
    
    
    
    
    
    
    19,056Investing activitiesPurchases of property and equipment
    
    
    (305
    )
    
    
    (2,045
    )
    
    
    (236
    )
    
    
    
    
    
    
    (2,586
    )Restricted cash
    
    
    108
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    108Acquisition of businesses, net of cash acquired
    
    
    
    
    
    
    (105,092
    )
    
    
    (3,187
    )
    
    
    
    
    
    
    (108,279
    )Net cash used in investing activities
    
    
    (197
    )
    
    
    (107,137
    )
    
    
    (3,423
    )
    
    
    
    
    
    
    (110,757
    )Financing activitiesIntercompany debt reallocation
    
    
    (2,964
    )
    
    
    63
    
    
    
    2,901
    
    
    
    
    
    
    
    Principal payments on seller and other debt
    
    
    
    
    
    
    (528
    )
    
    
    
    
    
    
    
    
    
    
    (528
    )Proceeds from issuance of common stock
    
    
    1,023
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,023Distributions to minority interests
    
    
    
    
    
    
    
    
    
    
    (401
    )
    
    
    
    
    
    
    (401
    )Net cash provided by (used in) financing activities
    
    
    (1,941
    )
    
    
    (465
    )
    
    
    2,500
    
    
    
    
    
    
    
    94Effect of exchange rate changes on cash
and cash equivalents
    
    
    (149
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (149
    )Net decrease in cash and cash equivalents
    
    
    (3,351
    )
    
    
    (84,645
    )
    
    
    (3,760
    )
    
    
    
    
    
    
    (91,756
    )Cash and cash equivalents at beginning of period
    
    
    161,704
    
    
    
    74,641
    
    
    
    11,131
    
    
    
    
    
    
    
    247,476Cash and cash equivalents at end of period
    
    $
    158,353
    
    
    $
    (10,004
    )
    
    $
    7,371
    
    
    $
    
    
    
    $
    155,720
 
 (a)
    
    Elimination of equity in earnings of subsidiary. -23-




---



##### Table of Contents



Select Medical CorporationCondensed Consolidating Statement of Cash FlowsFor the Period February 25 through September 30, 2005SuccessorSelect MedicalCorporation (Parent
    
    
    Subsidiary
    
    
    Non-GuarantorCompany Only)
    
    
    Guarantors
    
    
    Subsidiaries
    
    
    Eliminations
    
    
    Consolidated(in thousands)Operating activitiesNet income
    
    $
    60,310
    
    
    $
    87,695
    
    
    $
    14,879
    
    
    $
    (102,574
    ) (a)
    
    $
    60,310Adjustments to reconcile net income to net cash
provided by (used in) operating activities:Depreciation and amortization
    
    
    5,299
    
    
    
    20,790
    
    
    
    2,809
    
    
    
    
    
    
    
    28,898Provision for bad debts
    
    
    
    
    
    
    13,264
    
    
    
    1,161
    
    
    
    
    
    
    
    14,425Non cash compensation expense
    
    
    7,567
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7,567Other non cash expenses
    
    
    
    
    
    
    715
    
    
    
    
    
    
    
    
    
    
    
    715Minority interests
    
    
    
    
    
    
    121
    
    
    
    2,214
    
    
    
    
    
    
    
    2,335Changes in operating assets and liabilities, net of
effects from acquisition of businesses:Equity in earnings of subsidiaries
    
    
    (91,062
    )
    
    
    (11,512
    )
    
    
    
    
    
    
    102,574
    (a)
    
    
    Intercompany
    

    
    (92,807
    )
    
    
    93,076
    
    
    
    (269
    )
    
    
    

    
    
    

    Accounts receivable
    
    
    (171
    )
    
    
    (19,433
    )
    
    
    (3,912
    )
    
    
    
    
    
    
    (23,516
    )Other current assets
    
    
    (554
    )
    
    
    1,007
    
    
    
    (1,703
    )
    
    
    
    
    
    
    (1,250
    )Other assets
    
    
    2,598
    
    
    
    (837
    )
    
    
    (598
    )
    
    
    
    
    
    
    1,163Accounts payable
    
    
    (182
    )
    
    
    2,018
    
    
    
    648
    
    
    
    
    
    
    
    2,484Due to third-party payors
    
    
    49
    
    
    
    (2,023
    )
    
    
    (624
    )
    
    
    
    
    
    
    (2,598
    )Accrued interest
    
    
    11,563
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    11,563Accrued expenses
    
    
    (64,056
    )
    
    
    (127,293
    )
    
    
    548
    
    
    
    
    
    
    
    (190,801
    )Income taxes
    
    
    25,684
    
    
    
    
    
    
    
    5,757
    
    
    
    
    
    
    
    31,441Net cash provided by (used in) operating activities
    
    
    (135,762
    )
    
    
    57,588
    
    
    
    20,910
    
    
    
    
    
    
    
    (57,264
    )Investing activitiesPurchases of property and equipment, net
    
    
    (1,065
    )
    
    
    (60,413
    )
    
    
    (8,981
    )
    
    
    
    
    
    
    (70,459
    )Restricted cash
    
    
    217
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    217Acquisition of businesses, net of cash acquired
    
    
    
    
    
    
    (2,747
    )
    
    
    
    
    
    
    
    
    
    
    (2,747
    )Net cash used in investing activities
    
    
    (848
    )
    
    
    (63,160
    )
    
    
    (8,981
    )
    
    
    
    
    
    
    (72,989
    )Financing activitiesEquity investment by Holdings
    
    
    724,042
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    724,042Proceeds from credit facility
    
    
    780,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    780,000Proceeds from senior subordinated notes
    
    
    660,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    660,000Repayments on credit facility debt
    
    
    (62,900
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (62,900
    )Dividends to Holdings
    
    
    (9,396
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (9,396
    )Repayment of senior subordinated notes
    
    
    (350,000
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (350,000
    )Deferred financing costs
    
    
    (57,198
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (57,198
    )Repurchases of common stock and options
    
    
    (1,687,994
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,687,994
    )Costs associated with equity investment of Holdings
    
    
    (8,686
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (8,686
    )Intercompany debt reallocation
    
    
    (7,936
    )
    
    
    12,415
    
    
    
    (4,479
    )
    
    
    
    
    
    
    Principal payments on seller and other debt
    
    
    (340
    )
    
    
    (3,615
    )
    
    
    (49
    )
    
    
    
    
    
    
    (4,004
    )Proceeds from bank overdrafts
    
    
    689
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    689Distributions to minority interests
    
    
    
    
    
    
    
    
    
    
    (1,240
    )
    
    
    
    
    


    
    (1,240
    )Net cash provided by (used in) financing activities
    
    
    (19,719
    )
    
    
    8,800
    
    
    
    (5,768
    )
    
    
    
    
    
    
    (16,687
    )Effect of exchange rate changes on cash
and cash equivalents
    
    
    584
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    584Net increase (decrease) in cash and cash equivalents
    
    
    (155,745
    )
    
    
    3,228
    
    
    
    6,161
    
    
    
    
    
    
    
    (146,356
    )Cash and cash equivalents at beginning of period
    
    
    158,353
    
    
    
    (10,004
    )
    
    
    7,371
    
    
    
    
    
    
    
    155,720Cash and cash equivalents at end of period
    
    $
    2,608
    
    
    $
    (6,776
    )
    
    $
    13,532
    
    
    $
    
    
    
    $
    9,364
 
 (a)
    
    Elimination of equity in earnings of subsidiary. -24-




---



##### Table of Contents



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 You should read this discussion together with our unaudited consolidated financial statements
and the accompanying notes.
 Forward Looking Statements
  
    
    compliance with the Medicare hospital within a hospital regulation changes will
require increased capital expenditures and may have an adverse effect on our future
net operating revenues and profitability;
    
    changes in government reimbursement for our services may have an adverse effect on
our future net operating revenues and profitability, such as the regulations adopted
by the Centers for Medicare & Medicaid Services, also known as CMS, on May 2, 2006;
    
    the failure of our long-term acute care hospitals to maintain their status as such
may cause our net operating revenues and profitability to decline;
    
    the failure of our facilities operated as hospitals within hospitals to qualify
as hospitals separate from their host hospitals may cause our net operating revenues
and profitability to decline;
    
    implementation of modifications to the admissions policies for our inpatient
rehabilitation facilities, as required to achieve compliance with Medicare
guidelines, may result in a loss of patient volume at these hospitals and, as a
result, may reduce our future net operating revenues and profitability;
    
    implementation of annual caps that limit the amounts that can be paid for
outpatient therapy services rendered to any Medicare beneficiary may reduce our
future net operating revenues and profitability;
    
    changes in applicable regulations or a government investigation or assertion that
we have violated applicable regulations may result in increased costs or sanctions
that reduce our net operating revenues and profitability;
    
    integration of recently acquired operations and future acquisitions may prove
difficult or unsuccessful, use significant resources or expose us to unforeseen
liabilities;
    
    private third-party payors for our services may undertake future cost containment
initiatives that limit our future net operating revenues and profitability;
    
    the failure to maintain established relationships with the physicians in our
markets could reduce our net operating revenues and profitability;
    
    shortages in qualified nurses or therapists could increase our operating costs
significantly;
    
    competition may limit our ability to grow and result in a decrease in our net
operating revenues and profitability;
    
    the loss of key members of our management team could significantly disrupt our
operations; and
    
    the effect of claims asserted against us or lack of adequate available insurance
could subject us to substantial uninsured liabilities.
 25




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##### Table of Contents



Overview
    Recent Trends and Events
 CBIL Sale
  Third Quarter Ended September 30, 2006
  26




---



##### Table of Contents



Regulatory Changes
     27




---



##### Table of Contents



28




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##### Table of Contents



Development of New Specialty Hospitals and Clinics
  Operating Statistics
  Three Months
    
    
    Nine MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2005
    
    
    2006
    
    
    2005
    
    
    2006Specialty hospital data(1):Number of hospitals  start of
period
    
    
    102
    
    
    
    100
    
    
    
    86
    
    
    
    101Number of hospital start-ups
    
    
    
    
    
    
    1
    
    
    
    
    
    
    
    3Number of hospitals closed
    
    
    (1
    )
    
    
    (3
    )
    
    
    (2
    )
    
    
    (4
    )Number of hospitals consolidated
    
    
    
    
    
    
    (1
    )
    
    
    
    
    
    
    (3
    )Number of hospitals acquired
    
    
    
    
    
    
    
    
    
    
    17
    
    
    
    Number of hospitals  end of period
    
    
    101
    
    
    
    97
    
    
    
    101
    
    
    
    97Available licensed beds
    
    
    3,814
    
    
    
    3,825
    
    
    
    3,814
    
    
    
    3,825Admissions
    
    
    9,725
    
    
    
    9,485
    
    
    
    30,056
    
    
    
    30,122Patient days
    
    
    242,850
    
    
    
    236,094
    
    
    
    739,860
    
    
    
    734,070Average length of stay (days)
    
    
    25
    
    
    
    25
    
    
    
    25
    
    
    
    24Net revenue per patient day(2)
    
    $
    1,385
    
    
    $
    1,361
    
    
    $
    1,371
    
    
    $
    1,401Occupancy rate
    
    
    69
    %
    
    
    66
    %
    
    
    70
    %
    
    
    69
    %Percent patient days  Medicare
    
    
    75
    %
    
    
    72
    %
    
    
    76
    %
    
    
    73
    %Outpatient rehabilitation data (3):Number of clinics owned  start of
period
    
    
    574
    
    
    
    542
    
    
    
    589
    
    
    
    553Number of clinic start-ups
    
    
    2
    
    
    
    2
    
    
    
    17
    
    
    
    7Number of clinics closed/sold
    
    
    (10
    )
    
    
    (7
    )
    
    
    (40
    )
    
    
    (23
    )Number of clinics owned  end of
period
    
    
    566
    
    
    
    537
    
    
    
    566
    
    
    
    537Number of clinics managed  end of
period
    
    
    55
    
    
    
    68
    
    
    
    55
    
    
    
    68Total number of clinics (all) 
end of period
    
    
    621
    
    
    
    605
    
    
    
    621
    
    
    
    605Number of visits
    
    
    805,018
    
    
    
    714,064
    
    
    
    2,532,157
    
    
    
    2,261,080Net revenue per visit (4)
    
    $
    89
    
    
    $
    95
    
    
    $
    89
    
    
    $
    93
 
 (1)
    
    Specialty hospitals consist of long-term acute care hospitals and inpatient rehabilitation
facilities. 29




---



##### Table of Contents



(2)
    
    Net revenue per patient day is calculated by dividing specialty hospital patient service
revenues by the total number of patient days.(3)
    
    Clinic data has been restated to remove the clinics operated by CBIL, which is being reported
as a discontinued operation. Occupational health clinics have been reclassified as managed
clinics.(4)
    
    Net revenue per visit is calculated by dividing outpatient rehabilitation clinic revenue by
the total number of visits. For purposes of this computation, outpatient rehabilitation clinic
revenue does not include contract services revenue. 30




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##### Table of Contents



Results of Operations
  Predecessor
    
    
    Successor
    
    
    CombinedPeriodPeriod from
    
    
    from
    
    
    NineJanuary 1
    
    
    February
    
    
    Monthsthrough
    
    
    25 through
    
    
    EndedFebruary
    
    
    September
    
    
    September24, 2005
    
    
    30, 2005
    
    
    30, 2005(in thousands)Net operating revenues
    
    $
    277,736
    
    
    $
    1,122,748
    
    
    $
    1,400,484Costs and expenses:Cost of services
    
    
    244,321
    
    
    
    875,566
    
    
    
    1,119,887General and administrative
    
    
    122,509
    
    
    
    48,960
    
    
    
    171,469Bad debt expense
    
    
    6,588
    
    
    
    14,244
    
    
    
    20,832Depreciation and amortization
    
    
    5,933
    
    
    
    28,110
    
    
    
    34,043Total costs and expenses
    
    
    379,351
    
    
    
    966,880
    
    
    
    1,346,231Income (loss) from operations
    
    
    (101,615
    )
    
    
    155,868
    
    
    
    54,253Other income and expense:Loss on early retirement of debt
    
    
    (42,736
    )
    
    
    
    
    
    
    (42,736
    )Merger related charges
    
    
    (12,025
    )
    
    
    
    
    
    
    (12,025
    )Other income
    
    
    267
    
    
    
    658
    
    
    
    925Interest income
    
    
    523
    
    
    
    511
    
    
    
    1,034Interest expense
    
    
    (4,651
    )
    
    
    (60,121
    )
    
    
    (64,772
    )Income (loss) from continuing operations before
minority interests and income taxes
    
    
    (160,237
    )
    
    
    96,916
    
    
    
    (63,321
    )Minority interest in consolidated subsidiary companies
    
    
    330
    
    
    
    1,350
    
    
    
    1,680Income (loss) from continuing operations before
income taxes
    
    
    (160,567
    )
    
    
    95,566
    
    
    
    (65,001
    )Income tax expense (benefit)
    
    
    (59,794
    )
    
    
    38,623
    
    
    
    (21,171
    )Income (loss) from continuing operations
    
    
    (100,773
    )
    
    
    56,943
    
    
    
    (43,830
    )Income from discontinued operations, net of tax
    
    
    522
    
    
    
    3,367
    
    
    
    3,889Net income (loss)
    
    $
    (100,251
    )
    
    $
    60,310
    
    
    $
    (39,941
    )
 31




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##### Table of Contents



Three Months
    
    
    Nine MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2005
    
    
    2006
    
    
    2005 (1)
    
    
    2006Net operating revenues
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %Cost of services(2)
    
    
    78.9
    
    
    
    81.6
    
    
    
    80.0
    
    
    
    79.7General and administrative
    
    
    5.9
    
    
    
    2.2
    
    
    
    12.2
    
    
    
    2.4Bad debt expense
    
    
    1.0
    
    
    
    1.2
    
    
    
    1.5
    
    
    
    1.3Depreciation and amortization
    
    
    2.6
    
    
    
    2.8
    
    
    
    2.4
    
    
    
    2.5Income from operations
    
    
    11.6
    
    
    
    12.2
    
    
    
    3.9
    
    
    
    14.1Loss on early retirement of debt
    
    
    
    
    
    
    
    
    
    
    (3.1
    )
    
    
    Merger related charges
    
    
    
    
    
    
    
    
    
    
    (0.9
    )
    
    
    Other income
    
    
    0.1
    
    
    
    
    
    
    
    0.1
    
    
    
    Interest expense, net
    
    
    (5.4
    )
    
    
    (6.1
    )
    
    
    (4.6
    )
    
    
    (5.0
    )Income (loss) from continuing
operations before minority interests
and income taxes
    
    
    6.3
    
    
    
    6.1
    
    
    
    (4.6
    )
    
    
    9.1Minority interests
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.1Income (loss) from continuing
operations before income taxes
    
    
    6.2
    
    
    
    6.0
    
    
    
    (4.7
    )
    
    
    9.0Income tax expense (benefit)
    
    
    2.5
    
    
    
    2.4
    
    
    
    (1.5
    )
    
    
    3.6Income (loss) from continuing operations
    
    
    3.7
    
    
    
    3.6
    
    
    
    (3.2
    )
    
    
    5.4Income from discontinued operations,
net of tax
    
    
    0.2
    
    
    
    
    
    
    
    0.3
    
    
    
    0.7Net income (loss)
    
    
    3.9
    %
    
    
    3.6
    %
    
    
    (2.9
    )%
    
    
    6.1
    %
 32




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##### Table of Contents



Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2005
    
    
    2006
    
    
    % Change
    
    
    2005 (1 )
    
    
    2006
    
    
    % Change(in thousands)
    
    
    (in thousands)Net operating revenues:Specialty hospitals
    
    $
    341,835
    
    
    $
    329,324
    
    
    
    (3.7
    )%
    
    $
    1,031,387
    
    
    $
    1,049,768
    
    
    
    1.8
    %Outpatient rehabilitation
    
    
    118,263
    
    
    
    114,043
    
    
    
    (3.6
    )
    
    
    364,363
    
    
    
    353,974
    
    
    
    (2.9
    )Other
    
    
    560
    
    
    
    505
    
    
    
    (9.8
    )
    
    
    4,734
    
    
    
    2,014
    
    
    
    (57.5
    )Total company
    
    $
    460,658
    
    
    $
    443,872
    
    
    
    (3.6
    )%
    
    $
    1,400,484
    
    
    $
    1,405,756
    
    
    
    0.4
    %Income (loss) from operations:Specialty hospitals
    
    $
    70,675
    
    
    $
    52,424
    
    
    
    (25.8
    )%
    
    $
    214,957
    
    
    $
    195,291
    
    
    
    (9.1
    )%Outpatient rehabilitation
    
    
    12,778
    
    
    
    12,493
    
    
    
    (2.2
    )
    
    
    44,980
    
    
    
    39,161
    
    
    
    (12.9
    )Other
    
    
    (29,702
    )
    
    
    (10,604
    )
    
    
    64.3
    
    
    
    (205,684
    )
    
    
    (35,695
    )
    
    
    82.6Total company
    
    $
    53,751
    
    
    $
    54,313
    
    
    
    1.0
    %
    
    $
    54,253
    
    
    $
    198,757
    
    
    
    266.4
    %Adjusted EBITDA:(3)Specialty hospitals
    
    $
    77,571
    
    
    $
    60,812
    
    
    
    (21.6
    )%
    
    $
    235,311
    
    
    $
    218,203
    
    
    
    (7.3
    %)Outpatient rehabilitation
    
    
    15,302
    
    
    
    15,737
    
    
    
    2.8
    
    
    
    52,414
    
    
    
    48,920
    
    
    
    (6.7
    )Other
    
    
    (11,417
    )
    
    
    (8,896
    )
    
    
    22.1
    
    
    
    (35,196
    )
    
    
    (30,574
    )
    
    
    13.1Adjusted EBITDA margins:(3)Specialty hospitals
    
    
    22.7
    %
    
    
    18.5
    %
    
    
    (18.5
    )%
    
    
    22.8
    %
    
    
    20.8
    %
    
    
    (8.8
    )%Outpatient rehabilitation
    
    
    12.9
    
    
    
    13.8
    
    
    
    7.0
    
    
    
    14.4
    
    
    
    13.8
    
    
    
    (4.2
    )Other
    
    
    N/M
    
    
    
    N/M
    
    
    
    N/M
    
    
    
    N/M
    
    
    
    N/M
    
    
    
    N/MTotal assets:Specialty hospitals
    
    $
    1,589,460
    
    
    $
    1,773,586
    
    
    
    
    
    
    $
    1,589,460
    
    
    $
    1,773,586Outpatient rehabilitation
    
    
    516,697
    
    
    
    254,865
    
    
    
    
    
    
    
    516,697
    
    
    
    254,865Other
    
    
    33,235
    
    
    
    97,645
    
    
    
    
    
    
    
    33,235
    
    
    
    97,645Total company
    
    $
    2,139,392
    
    
    $
    2,126,096
    
    
    
    
    
    
    $
    2,139,392
    
    
    $
    2,126,096Purchases of property and
equipment, net:Specialty hospitals
    
    $
    13,814
    
    
    $
    38,671
    
    
    
    
    
    
    $
    68,108
    
    
    $
    107,001Outpatient rehabilitation
    
    
    324
    
    
    
    876
    
    
    
    
    
    
    
    1,345
    
    
    
    3,827Other
    
    
    113
    
    
    
    771
    
    
    
    
    
    
    
    3,592
    
    
    
    1,304Total company
    
    $
    14,251
    
    
    $
    40,318
    
    
    
    
    
    
    $
    73,045
    
    
    $
    112,132
 33




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##### Table of Contents



Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2005
    
    
    2006
    
    
    2005 (1)
    
    
    2006(in thousands)
    
    
    (in thousands)Net operating revenueSpecialty hospitals net operating revenue
    
    $
    341,835
    
    
    $
    329,324
    
    
    $
    1,031,387
    
    
    $
    1,049,768Less: Specialty hospitals in development
or closed after 1/1/05
    
    
    10,210
    
    
    
    5,195
    
    
    
    39,064
    
    
    
    21,947Specialty hospitals same store net
operating revenue
    
    $
    331,625
    
    
    $
    324,129
    
    
    $
    992,323
    
    
    $
    1,027,821Adjusted EBITDA(3)Specialty hospitals Adjusted EBITDA(3)
    
    $
    77,571
    
    
    $
    60,812
    
    
    $
    235,311
    
    
    $
    218,203Less: Specialty hospitals in development
or closed after 1/1/05
    
    
    903
    
    
    
    (3,193
    )
    
    
    3,908
    
    
    
    (5,671
    )Specialty hospitals same store Adjusted
EBITDA(3)
    
    $
    76,668
    
    
    $
    64,005
    
    
    $
    231,403
    
    
    $
    223,874All specialty hospitals Adjusted EBITDA
margin(3)
    
    
    22.7
    %
    
    
    18.5
    %
    
    
    22.8
    %
    
    
    20.8
    %Specialty hospitals same store Adjusted
EBITDA margin(3)
    
    
    23.1
    %
    
    
    19.7
    %
    
    
    23.3
    %
    
    
    21.8
    %
 
 N/M  Not Meaningful.(1)
    
    The financial data for the period after the Merger, February 25, 2005 through September
30, 2005 (Successor period), has been added to the financial data for the period from
January 1, 2005 through February 24, 2005 (Predecessor period), to arrive at the combined
nine months ended September 30, 2005.(2)
    
    Cost of services include salaries, wages and benefits, operating supplies, lease and
rent expense and other operating costs.(3)
    
    We define Adjusted EBITDA as net income before interest, income taxes, depreciation and
amortization, other income, income from discontinued operations, loss on early retirement
of debt, merger related charges, stock compensation expense, long-term incentive
compensation and minority interest. We believe that the presentation of Adjusted EBITDA is
important to investors because Adjusted EBITDA is used by management to evaluate financial
performance and determine resource allocation for each of our operating units. Adjusted
EBITDA is not a measure of financial performance under generally accepted accounting
principles. Items excluded from Adjusted EBITDA are significant components in understanding
and assessing financial performance. Adjusted EBITDA should not be considered in isolation
or as an alternative to, or substitute for, net income, cash flows generated by operations,
investing or financing activities, or other financial statement data presented in the
consolidated financial statements as indicators of financial performance or liquidity.
Because Adjusted EBITDA is not a measurement determined in accordance with generally
accepted accounting principles and is thus susceptible to varying calculations, Adjusted
EBITDA as presented may not be comparable to other similarly titled measures of other
companies. See footnote 5 to our interim unaudited consolidated financial statements for
the period ended September 30, 2006 for a reconciliation of net income to Adjusted EBITDA
as utilized by us in reporting our segment performance in accordance with SFAS No. 131. 34




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##### Table of Contents



Three Months Ended September 30, 2006 Compared to Three Months Ended September 30, 2005
 Net Operating Revenues
  Specialty Hospitals.
 Outpatient Rehabilitation.
 Other.
 Operating Expenses
  35




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##### Table of Contents



Adjusted EBITDA
 Specialty Hospitals
 Outpatient Rehabilitation
 Other
 Income from Operations
  Other Income (Expense)
  36




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##### Table of Contents



Interest Expense
  Minority Interests
  Income Taxes
  Income from Discontinued Operations, Net of Tax
  Nine Months Ended September 30, 2006 Compared to Combined Nine Months Ended September 30, 2005
 Net Operating Revenues
  Specialty Hospitals.
 Outpatient Rehabilitation.
 37




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##### Table of Contents



Other.
 Operating Expenses
   38




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##### Table of Contents



Adjusted EBITDA
 Specialty Hospitals
 Outpatient Rehabilitation
 Other
 Income from Operations
  Loss on Early Retirement of Debt
 1 2 1 2 1 2 1 2
 39




---



##### Table of Contents



Merger Related Charges
  Other Income (Expense)
  Interest Expense
  Minority Interests
  Income Taxes
  Income from Discontinued Operations, Net of Tax
  40




---



##### Table of Contents



Liquidity and Capital Resources
    Capital Resources
    41




---



##### Table of Contents



Inflation
  42




---



##### Table of Contents



Recent Accounting Pronouncements
     43




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##### Table of Contents



ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 Quantitative and Qualitative Disclosures About Market Risk
  
 ITEM 4. CONTROLS AND PROCEDURES
   44




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##### Table of Contents



PART II OTHER INFORMATION
 
 ITEM 1. LEGAL PROCEEDINGS
      45




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##### Table of Contents



ITEM 1A. RISK FACTORS.
  
 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
  
 ITEM 3. DEFAULTS UPON SENIOR SECURITIES
  
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
  
 ITEM 5. OTHER INFORMATION
    
 ITEM 6. EXHIBITS
  46




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##### Table of Contents



SIGNATURES
  SELECT MEDICAL CORPORATIONBy:
    /s/ Martin F. JacksonMartin F. JacksonSenior Vice President and Chief Financial Officer

(Duly Authorized Officer) By:
    /s/        Scott A. RombergerScott A. RombergerVice President, Chief Accounting Officer and Controller

(Principal Accounting Officer) Dated:
November 13, 2006
 47




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##### Table of Contents



Exhibit
    
    Description10.1
    
    Office Lease Agreement dated
August 25, 2006 between Old Gettysburg Associates IV, L.P. and
Select Medical Corporation.31.1
    
    Certification of Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Senior Vice President and Chief Financial Officer
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.32.2
    
    Certification of Senior Vice President and Chief Financial Officer
pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
 48