##### Table of Contents



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SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

|  |  |                                                                                        
|- |  | ---------------------------------------------------------------------------------------
|x |  | Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934

For the Quarter Ended September 30, 2002

|  |  |                                                                                                                                    
|- |  | -----------------------------------------------------------------------------------------------------------------------------------
|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

(Exact name of Registrant as specified in its charter)


|                                                                        |  |                                                   
|----------------------------------------------------------------------- |  | --------------------------------------------------
|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
(Address of principal executive offices and zip code)

(717) 972-1100
(Registrants telephone number, including area code)

Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter periods as the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.

YES [X]       NO [   ]

As of October 31, 2002, the number of outstanding shares of the
Registrants Common Stock was 46,667,205.



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TABLE OF CONTENTS



|                                                  |                                                                                               |                                                                                    |  |  |  |  |  | 
|------------------------------------------------- | --------------------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------- |  |  |  |  |  | 
|PART I                      FINANCIAL INFORMATION
|                                                  | ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS                                                    
|                                                  |                                                                                               | Consolidated Balance Sheets                                                       
|                                                  |                                                                                               | Consolidated Statements of Operations                                             
|                                                  |                                                                                               | Consolidated Statements of Changes in StockholdersEquity and Comprehensive Income
|                                                  |                                                                                               | Consolidated Statements of Cash Flow                                              
|                                                  |                                                                                               | NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)                            
|                                                  | ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|                                                  | ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                           
|                                                  | ITEM 4. CONTROLS AND PROCEDURES                                                              
|PART II                      OTHER INFORMATION   
|                                                  | ITEM 1. LEGAL PROCEEDINGS                                                                    
|                                                  | ITEM 2. CHANGES IN 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 AND REPORTS ON FORM 8-K                                                     
|                                                  |                                                                                               | SIGNATURES                                                                        
|AMENDED AND RESTATED COST SHARING AGREEMENT      
|STOCK PURCHASE AGREEMENT DATED AS OF 9-16-2002   
|MUTUAL TERMINATION OF CONSULTING AGREEMENT       



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##### Table of Contents



TABLE OF CONTENTS

|                                                                                              |                                                                                    |  |    |   | 
|--------------------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------- |  | -- | - | 
|PART I FINANCIAL INFORMATION                                                                  |                                                                                    |  | 3  |  
|                                                                                             
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|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS                                                     |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
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|                                                                                             
|                                                                                             
|                                                                                              | Consolidated balance sheets                                                        |  |    | 3 | 
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              | Consolidated statements of operations                                              |  |    | 4 | 
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              | Consolidated statement of changes in stockholders equity and comprehensive income |  |    | 5 | 
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              | Consolidated statements of cash flows                                              |  |    | 6 | 
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              | Notes to consolidated financial statements                                         |  |    | 7 | 
|                                                                                             
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|                                                                                              |                                                                                    |  |    |  
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|                                                                                             
|ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |                                                                                    |  | 20 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                            |                                                                                    |  | 33 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
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|                                                                                             
|                                                                                             
|ITEM 4. CONTROLS AND PROCEDURES                                                               |                                                                                    |  | 33 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|PART II OTHER INFORMATION                                                                     |                                                                                    |  | 33 |  
|                                                                                             
|                                                                                             
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|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 1. LEGAL PROCEEDINGS                                                                     |                                                                                    |  | 33 |  
|                                                                                             
|                                                                                             
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|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS                                             |                                                                                    |  | 34 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 3. DEFAULTS UPON SENIOR SECURITIES                                                       |                                                                                    |  | 34 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                   |                                                                                    |  | 34 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 5. OTHER INFORMATION                                                                     |                                                                                    |  | 34 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                                                      |                                                                                    |  | 34 |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                              |                                                                                    |  |    |  
|                                                                                             
|                                                                                             
|                                                                                             
|                                                                                             
|SIGNATURES                                                                                    |                                                                                    |  | 35 |  

-2-



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##### Table of Contents






PART I                      FINANCIAL INFORMATION




ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS




SELECT MEDICAL CORPORATION
Consolidated Balance Sheets
(in thousands, except share and per share amounts)

|                                                       |                                                                                                                          |                                      |         |         |               |   |              |         |   |  | 
|------------------------------------------------------ | ------------------------------------------------------------------------------------------------------------------------ | ------------------------------------ | ------- | ------- | ------------- | - | ------------ | ------- | - |  | 
|                                                       |                                                                                                                          |                                      |         |         | September 30, |   | December 31,
|                                                       |                                                                                                                          |                                      |         |         | 2002          |   | 2001        
|                                                       |                                                                                                                          |                                      |         |         |               |   |             
|                                                       |                                                                                                                          |                                      | Assets  |         | (unaudited)   |   |              |         |  
|                                                      
|                                                      
|                                                      
|                                                      
|Current Assets:                                        |                                                                                                                          |                                      |         |         |               |   |              |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Cash and cash equivalents                                                                                                |                                      | $       | 59,969  |               |   | $            | 10,703  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accounts receivable, net of allowance for doubtful accounts of $79,145
and $79,889 in 2002 and 2001, respectively        |                                      |         | 229,968 |               |   |              | 218,393 |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Current deferred tax asset                                                                                               |                                      |         | 27,006  |               |   |              | 28,945  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Other current assets                                                                                                     |                                      |         | 17,309  |               |   |              | 18,444  |  
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        
|Total Current Assets                                   |                                                                                                                          |                                      | 334,252 |         |               |   | 276,485      |        
|                                                      
|                                                      
|                                                      
|                                                      
|Property and equipment, net                            |                                                                                                                          |                                      | 105,433 |         |               |   | 92,005       |        
|                                                      
|                                                      
|                                                      
|                                                      
|Goodwill                                               |                                                                                                                          |                                      | 204,749 |         |               |   | 199,850      |        
|                                                      
|                                                      
|                                                      
|                                                      
|Trademark                                              |                                                                                                                          |                                      | 37,875  |         |               |   | 37,875       |        
|                                                      
|                                                      
|                                                      
|                                                      
|Other intangibles                                      |                                                                                                                          |                                      | 9,107   |         |               |   | 9,532        |        
|                                                      
|                                                      
|                                                      
|                                                      
|Non-current deferred tax asset                         |                                                                                                                          |                                      | 5,103   |         |               |   | 6,674        |        
|                                                      
|                                                      
|                                                      
|                                                      
|Other assets                                           |                                                                                                                          |                                      | 25,010  |         |               |   | 28,424       |        
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        
|Total Assets                                           |                                                                                                                          | $                                    | 721,529 |         |               | $ | 650,845      |        
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        
|                                                       |                                                                                                                          | Liabilities and Stockholders Equity |         |         |               |   |              |         |   | 
|                                                      
|                                                      
|                                                      
|                                                      
|Current Liabilities:                                   |                                                                                                                          |                                      |         |         |               |   |              |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Bank overdrafts                                                                                                          |                                      | $       | 8,515   |               |   | $            | 6,083   |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Current portion of long-term debt and notes payable                                                                      |                                      |         | 30,380  |               |   |              | 26,774  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accounts payable                                                                                                         |                                      |         | 33,915  |               |   |              | 33,520  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued payroll                                                                                                          |                                      |         | 35,675  |               |   |              | 27,160  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued vacation                                                                                                         |                                      |         | 14,638  |               |   |              | 12,820  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued restructuring                                                                                                    |                                      |         | 1,006   |               |   |              | 1,819   |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued other                                                                                                            |                                      |         | 34,964  |               |   |              | 23,568  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Income taxes payable                                                                                                     |                                      |         | 9,812   |               |   |              | 1,735   |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Due to third-party payors                                                                                                |                                      |         | 35,566  |               |   |              | 16,257  |  
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        
|Total Current Liabilities                              |                                                                                                                          |                                      | 204,471 |         |               |   | 149,736      |        
|                                                      
|                                                      
|                                                      
|                                                      
|Long-term debt, net of current portion                 |                                                                                                                          |                                      | 238,373 |         |               |   | 261,649      |        
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        
|Total Liabilities                                      |                                                                                                                          |                                      | 442,844 |         |               |   | 411,385      |        
|                                                      
|                                                      
|                                                      
|                                                      
|Commitments and Contingencies                          |                                                                                                                          |                                      |         |         |               |   |              |        
|                                                      
|                                                      
|                                                      
|                                                      
|Minority interest in consolidated subsidiary companies |                                                                                                                          |                                      | 5,471   |         |               |   | 5,176        |        
|                                                      
|                                                      
|                                                      
|                                                      
|Stockholders Equity:                                  |                                                                                                                          |                                      |         |         |               |   |              |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Common stock  $.01 par value: Authorized shares - 200,000,000
Issued shares - 46,667,000 in 2002 and 46,488,000 in 2001 |                                      |         | 467     |               |   |              | 465     |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Capital in excess of par                                                                                                 |                                      |         | 236,203 |               |   |              | 231,349 |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Retained earnings                                                                                                        |                                      |         | 38,056  |               |   |              | 5,924   |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Treasury stock, at cost - 461,000 shares in 2001                                                                         |                                      |         |        |               |   |              | (1,560  | )
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accumulated other comprehensive loss                                                                                     |                                      |         | (1,512  | )             |   |              | (1,894  | )
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        
|Total Stockholders Equity                             |                                                                                                                          |                                      | 273,214 |         |               |   | 234,284      |        
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        
|Total Liabilities and Stockholders Equity             |                                                                                                                          | $                                    | 721,529 |         |               | $ | 650,845      |        
|                                                       |                                                                                                                          |                                      |         |         |               |   |              |        

See accompanying notes

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##### Table of Contents






SELECT MEDICAL CORPORATION
Consolidated Statements of Operations
(in thousands, except per share amounts)
(unaudited)

|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |         |        |       |  
|--------------------------------------------------------------------- | ----------------------------- | -------- | -------------------------------- | ------- | --------------------- | ---- | ------------------------- | ------- | ------ | ---- | ------- | ------- | ------ | ---- | ------- | ------- | ------ | ----- | -
|                                                                      |                               |          |                                  |         | For the Quarter Ended |      | For the Nine Months Ended
|                                                                      |                               |          |                                  |         | September 30,         |      | September 30,            
|                                                                      |                               |          |                                  |         |                       |      |                          
|                                                                      |                               |          |                                  |         | 2002                  |      | 2001                      |         | 2002   |      | 2001   
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |        
|Net operating revenues                                                |                               | $        | 278,983                          |         |                       | $    | 239,155                   |         |        | $    | 831,175 |         |        | $    | 698,442 |        
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Costs and expenses:                                                   |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      | Cost of services              |          |                                  | 231,054 |                       |      |                           | 194,900 |        |      |         | 680,972 |        |      |         | 564,861 |       
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      | General and administrative    |          |                                  | 10,317  |                       |      |                           | 8,951   |        |      |         | 29,329  |        |      |         | 25,945  |       
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      | Bad debt expense              |          |                                  | 8,611   |                       |      |                           | 9,360   |        |      |         | 27,631  |        |      |         | 26,008  |       
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      | Depreciation and amortization |          |                                  | 6,518   |                       |      |                           | 8,150   |        |      |         | 18,724  |        |      |         | 23,829  |       
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Total costs and expenses                                              |                               |          | 256,500                          |         |                       |      | 221,361                   |         |        |      | 756,656 |         |        |      | 640,643 |        
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Income from operations                                                |                               |          | 22,483                           |         |                       |      | 17,794                    |         |        |      | 74,519  |         |        |      | 57,799  |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Other income and expense:                                             |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Interest income                                                       |                               |          | (181                             | )       |                       |      | (102                      | )       |        |      | (388    | )       |        |      | (382    | )      
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Interest expense                                                      |                               |          | 6,875                            |         |                       |      | 7,026                     |         |        |      | 20,468  |         |        |      | 22,548  |        
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Income before minority interests, income taxes
and extraordinary item |                               |          | 15,789                           |         |                       |      | 10,870                    |         |        |      | 54,439  |         |        |      | 35,633  |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Minority interest in consolidated subsidiary companies                |                               |          | 390                              |         |                       |      | 473                       |         |        |      | 1,563   |         |        |      | 2,745   |        
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Income before income taxes and extraordinary item                     |                               |          | 15,399                           |         |                       |      | 10,397                    |         |        |      | 52,876  |         |        |      | 32,888  |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Income tax expense                                                    |                               |          | 6,044                            |         |                       |      | 4,054                     |         |        |      | 20,744  |         |        |      | 12,826  |        
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Income before extraordinary item                                      |                               |          | 9,355                            |         |                       |      | 6,343                     |         |        |      | 32,132  |         |        |      | 20,062  |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Extraordinary item                                                    |                               |          |                                 |         |                       |      |                          |         |        |      |        |         |        |      | 8,676   |        
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Net income                                                            |                               | $        | 9,355                            |         |                       | $    | 6,343                     |         |        | $    | 32,132  |         |        | $    | 11,386  |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Less: Preferred dividends                                             |                               |          |                                 |         |                       |      |                          |         |        |      |        |         |        |      | (2,513  | )      
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Net income available to common stockholders                           |                               | $        | 9,355                            |         |                       | $    | 6,343                     |         |        | $    | 32,132  |         |        | $    | 8,873   |        
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|Net income per common share:                                          |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               | Basic:   |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |         |        |      
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               |          | Income before extraordinary item |         | $                     | 0.20 |                           |         | $      | 0.14 |         |         | $      | 0.69 |         |         | $      | 0.46  |  
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               |          | Extraordinary item               |         |                       |     |                           |         |        |     |         |         |        |     |         |         |        | (0.23 | )
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                      |                               |          | Income per common share          |         | $                     | 0.20 |                           |         | $      | 0.14 |         |         | $      | 0.69 |         |         | $      | 0.23  |  
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               | Diluted: |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |         |        |      
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               |          | Income before extraordinary item |         | $                     | 0.19 |                           |         | $      | 0.13 |         |         | $      | 0.65 |         |         | $      | 0.42  |  
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               |          | Extraordinary item               |         |                       |     |                           |         |        |     |         |         |        |     |         |         |        | (0.20 | )
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                      |                               |          | Income per common share          |         | $                     | 0.19 |                           |         | $      | 0.13 |         |         | $      | 0.65 |         |         | $      | 0.22  |  
|                                                                      |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|Weighted average shares outstanding:                                  |                               |          |                                  |         |                       |      |                           |         |        |      |         |         |        |      |         |        
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               | Basic    |                                  |         | 46,653                |      |                           |         | 45,328 |      |         |         | 46,394 |      |         |         | 38,094 |      
|                                                                     
|                                                                     
|                                                                     
|                                                                     
|                                                                      |                               | Diluted  |                                  |         | 49,268                |      |                           |         | 49,223 |      |         |         | 49,126 |      |         |         | 44,333 |      

See accompanying notes

-4-



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##### Table of Contents






Select Medical Corporation
Consolidated Statements of Changes in Stockholders Equity and
Comprehensive Income
(in thousands)
(unaudited)

|                              |                                       |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |        | 
|----------------------------- | ------------------------------------- |  | ------ | ---- | --------- | - | --------- | -- | ---------- | - | -------- | ------ | ------------- | - | ------------- | ------ |  | - | ------ | ----- |  | - | ----------- | --- |  |  | - | ------ | 
|                              |                                       |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   | Accumulated |     |  |  |  
|                              |                                       |  |        |      |           |   | Common    |    | Capital in |   |          |        |               |   |               |        |  |   | Other  |       |  |   |            
|                              |                                       |  | Common |      | Stock Par |   | Excess of |    | Retained   |   | Treasury |        | Comprehensive |   | Comprehensive
|                              |                                       |  | Stock  |      | Value     |   | Par       |    | Earnings   |   | Stock    |        | Loss          |   | Income       
|                              |                                       |  |        |      |           |   |           |    |            |   |          |        |               |   |              
|Balance at December 31, 2001  |                                       |  | 46,488 |      |           | $ | 465       |    |            | $ | 231,349  |        |               | $ | 5,924         |        |  | $ | (1,560 | )     |  | $ | (1,894      | )   |  |  |   |       
|                             
|                             
|                             
|                             
|                              | Net income                            |  |        |      |           |   |           |    |            |   |          |        |               |   |               | 32,132 |  |   |        |       |  |   |             |     |  |  | $ | 32,132 | 
|                             
|                             
|                             
|                             
|                              | Other comprehensive income            |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   |             | 382 |  |  |   | 382    | 
|                              |                                       |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |       
|                              | Total comprehensive income            |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   |             |     |  |  | $ | 32,514 | 
|                              |                                       |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |       
|                              | Issuance of common stock              |  |        | 640  |           |   |           | 6  |            |   |          | 4,019  |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |        | 
|                             
|                             
|                             
|                             
|                              | Retirement of treasury stock          |  |        | (461 | )         |   |           | (4 | )          |   |          | (1,556 | )             |   |               |        |  |   |        | 1,560 |  |   |             |     |  |  |   |        | 
|                             
|                             
|                             
|                             
|                              | Valuation of non-employee options     |  |        |      |           |   |           |    |            |   |          | 152    |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |        | 
|                             
|                             
|                             
|                             
|                              | Tax benefit of stock option exercises |  |        |      |           |   |           |    |            |   |          | 2,239  |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |        | 
|                              |                                       |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |       
|Balance at September 30, 2002 |                                       |  | 46,667 |      |           | $ | 467       |    |            | $ | 236,203  |        |               | $ | 38,056        |        |  | $ |       |       |  | $ | (1,512      | )   |  |  |   |       
|                              |                                       |  |        |      |           |   |           |    |            |   |          |        |               |   |               |        |  |   |        |       |  |   |             |     |  |  |   |       

See accompanying notes

-5-



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##### Table of Contents






SELECT MEDICAL CORPORATION
Consolidated Statements of Cash Flow
(in thousands)
(unaudited)

|                                                                                  |                                                                                             |                           |         |                     |         |      |         |        |         |  
|--------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------- | ------------------------- | ------- | ------------------- | ------- | ---- | ------- | ------ | ------- | -
|                                                                                  |                                                                                             |                           |         | For the Nine Months
|                                                                                  |                                                                                             |                           |         | Ended September 30,
|                                                                                  |                                                                                             |                           |         |                    
|                                                                                  |                                                                                             |                           |         | 2002                |         | 2001
|                                                                                  |                                                                                             |                           |         |                     |         |     
|Operating activities                                                              |                                                                                             |                           |         |                     |         |      |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Net income                                                                        |                                                                                             | $                         | 32,132  |                     |         | $    | 11,386  |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Adjustments to reconcile net income to net cash
provided by operating activities: |                                                                                             |                           |         |                     |         |      |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Depreciation and amortization                                                               |                           |         | 18,724              |         |      |         | 23,829 |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Provision for bad debts                                                                     |                           |         | 27,631              |         |      |         | 26,008 |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Minority interests                                                                          |                           |         | 1,563               |         |      |         | 2,745  |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Extraordinary item                                                                          |                           |         |                    |         |      |         | 8,676  |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Changes in operating assets and liabilities, net of
effects from acquisition of businesses: |                           |         |                     |         |      |         |        |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Accounts receivable       |         |                     | (39,161 | )    |         |        | (32,690 | )
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Other current assets      |         |                     | (72     | )    |         |        | 808     |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Other assets              |         |                     | 3,566   |      |         |        | 3,710   |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Accounts payable          |         |                     | 382     |      |         |        | 7,843   |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Due to third-party payors |         |                     | 21,494  |      |         |        | 8,815   |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Accrued expenses          |         |                     | 20,019  |      |         |        | 17,113  |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Income taxes              |         |                     | 16,478  |      |         |        | 7,202   |  
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Net cash provided by operating activities                                         |                                                                                             |                           | 102,756 |                     |         |      | 85,445  |       
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Investing activities                                                              |                                                                                             |                           |         |                     |         |      |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Purchases of property and equipment, net                                          |                                                                                             |                           | (28,805 | )                   |         |      | (16,109 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Proceeds from disposal of assets                                                  |                                                                                             |                           |        |                     |         |      | 808     |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Earnout payments                                                                  |                                                                                             |                           | (563    | )                   |         |      | (4,842  | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Acquisition of businesses, net of cash acquired                                   |                                                                                             |                           | (7,761  | )                   |         |      | (15,425 | )     
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Net cash used in investing activities                                             |                                                                                             |                           | (37,129 | )                   |         |      | (35,568 | )     
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Financing activities                                                              |                                                                                             |                           |         |                     |         |      |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Issuance of 9.5% Senior Subordinated Notes                                        |                                                                                             |                           |        |                     |         |      | 175,000 |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Net repayments on credit facility debt                                            |                                                                                             |                           | (16,972 | )                   |         |      | (99,962 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Repayment of 10% Senior Subordinated Notes                                        |                                                                                             |                           |        |                     |         |      | (90,000 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Payment of deferred financing fees                                                |                                                                                             |                           | (67     | )                   |         |      | (4,681  | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Principal payments on seller and other debt                                       |                                                                                             |                           | (4,524  | )                   |         |      | (16,586 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Proceeds from initial public offering, net of fees                                |                                                                                             |                           |        |                     |         |      | 89,181  |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Redemption of Class A Preferred Stock                                             |                                                                                             |                           |        |                     |         |      | (52,838 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Payment of Class A and Class B Preferred Stock Dividends                          |                                                                                             |                           |        |                     |         |      | (19,248 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Proceeds from issuance of common stock                                            |                                                                                             |                           | 4,025   |                     |         |      | 38      |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Proceeds from (repayment of) bank overdrafts                                      |                                                                                             |                           | 2,432   |                     |         |      | (4,340  | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Distributions to minority interests                                               |                                                                                             |                           | (1,264  | )                   |         |      | (2,251  | )     
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Net cash used in financing activities                                             |                                                                                             |                           | (16,370 | )                   |         |      | (25,687 | )     
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Effect of exchange rate changes on cash
and cash equivalents                      |                                                                                             |                           | 9       |                     |         |      | (107    | )     
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Net increase in cash and cash equivalents                                         |                                                                                             |                           | 49,266  |                     |         |      | 24,083  |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Cash and cash equivalents at beginning of period                                  |                                                                                             |                           | 10,703  |                     |         |      | 3,151   |       
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Cash and cash equivalents at end of period                                        |                                                                                             | $                         | 59,969  |                     |         | $    | 27,234  |       
|                                                                                  |                                                                                             |                           |         |                     |         |      |         |       
|Supplemental Cash Flow Information                                                |                                                                                             |                           |         |                     |         |      |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Cash paid for interest                                                            |                                                                                             | $                         | 14,200  |                     |         | $    | 17,545  |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Cash paid for income taxes                                                        |                                                                                             | $                         | 4,552   |                     |         | $    | 2,951   |       

See accompanying notes

-6-



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##### Table of Contents






NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)



|1. |  | Basis of Presentation
|-- |  | ---------------------

The unaudited condensed consolidated financial statements of Select
Medical Corporation (the Company) as of September 30, 2002 and for the three
and nine month periods ended September 30, 2002 and 2001, have been prepared in
accordance with generally accepted accounting principles. In the opinion of
management, such information contains all adjustments, consisting only of
normal recurring adjustments, necessary for a fair presentation of the results
for such periods. All intercompany transactions and balances have been
eliminated. The results of operations for the three and nine months ended
September 30, 2002 are not necessarily indicative of the results to be expected
for the full fiscal year ending December 31, 2002.

Certain information and disclosures normally included in the notes to
consolidated financial statements have been condensed or omitted as permitted
by the rules and regulations of the Securities and Exchange Commission,
although the Company believes the disclosure is adequate to make the
information presented not misleading. The accompanying unaudited consolidated
financial statements should be read in conjunction with the consolidated
financial statements and notes thereto for the year ended December 31, 2001
contained in the Companys Form 10-K filed with the Securities Exchange
Commission.



|2. |  | Accounting Policies
|-- |  | -------------------

Use of Estimates

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.

Recent Accounting Pronouncements

In June 2002, the Financial Accounting Standards Board (FASB) issued SFAS
No. 146, Accounting for Costs Associated with Exit or Disposal Activities.
SFAS No. 146 requires recording costs associated with exit or disposal
activities at their fair values when a liability has been incurred. Under
previous guidance, certain exit costs were accrued upon managements commitment
to an exit plan, which is generally before an actual liability has been
incurred. Adoption of SFAS No. 146 is required with the beginning of fiscal
year 2003. The Company does not anticipate a significant impact on its results
of operations from adopting this Statement.

In April 2002, the Financial Accounting Standards Board (FASB) issued SFAS
No. 145 Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections. As a result of rescinding SFAS
No. 4, Reporting Gains and Losses from Extinguishment of Debt, the
requirement that gains and losses from the extinguishment of debt be aggregated
and, if material, classified as an extraordinary item, net of the related
income tax effect is eliminated. The Company reported extraordinary items in
1999, 2000 and 2001 as a result of debt extinguishments. The provisions of
SFAS 145 that affect the Company are effective for fiscal periods beginning
after May 15, 2002 although, early adoption of SFAS 145 is permitted. The
Company believes that the adoption of SFAS 145 will require the
reclassification of its extraordinary items recorded in 1999, 2000 and 2001 to
the other income and expense category of its consolidated statement of
operations.

-7-



---



##### Table of Contents



In October 2001, the Financial Accounting Standards Board (FASB) issued
SFAS No. 144 Accounting for the Impairment or Disposal of Long-Lived Assets
which is effective for financial statements issued for fiscal years beginning
after December 15, 2001. SFAS No. 144 supersedes the accounting provisions of
APB 30 that address the disposal of a segment of a business and requires that
such long-lived assets be reported at fair value less cost to sell. SFAS No.
144 requires that long-lived assets to be abandoned, exchanged for similar
productive assets or distributed to owners in a spin-off be considered held for
use until they are abandoned, exchanged or distributed. It also eliminates the
exception to consolidation for a subsidiary while control is expected to be
temporary. The Company adopted SFAS No. 144 on January 1, 2002 with no material
effect on net income.



|3. |  | Stock Option Plans
|-- |  | ------------------

On April 11, 2002, the Companys Board of Directors adopted the Select
Medical Corporation Second Amended and Restated 1997 Stock Option Plan, which
was approved by the stockholders on May 13, 2002. The amended plan provides
for the grant of non-qualified stock options to key employees to purchase an
additional 3,000,000 shares of common stock. A substantial portion of these
options are Performance Accelerated Vesting Options. The Performance
Accelerated Vesting Options will vest and become exercisable on the seventh
anniversary of the grant of such options, but the vesting schedule for these
options will be accelerated if the Company meets or exceeds its
performance-based targets of earnings per share (EPS) and return on equity
(ROE). The EPS target for 2002 is $0.84 and for each subsequent year, the EPS
target will be calculated by increasing the immediately preceding years EPS
target by fifteen percent. The ROE target for 2002 is 13.5%, and for each
subsequent year the ROE target shall be determined by increasing the target
percentage for the immediately preceding year by .5%. Twenty percent (20%) of
a grant of Performance Accelerated Vesting Options shall vest and become
exercisable after the completion of each fiscal year in which the Company meets
or exceeds both its earnings per share and return on equity targets. No
accelerated vesting shall occur in years in which the Company fails to meet
either of its targets. In addition, if the Company meets both of these targets
in 2002, 2003 and 2004, and the Companys earnings per share for fiscal year
2004 is greater than or equal to $1.21, then all Performance Accelerated
Vesting Options will become fully vested and immediately exercisable.

On February 12, 2002, the Companys Board of Directors adopted the 2002
Non-Employee Directors Plan, which was amended on April 11, 2002, and approved
by the stockholders on May 13, 2002. Under the terms of the Non-Employee
Directors Plan, directors who are not employees of the Company may be granted
non-qualified stock options to purchase up to 250,000 shares of the Companys
common stock (such number being subject to adjustment under the terms of the
plan), at a price of not less than 100% of the market price on the date the
option is granted. Options expire no later than ten years after the date of
grant. On February 12, 2002, the Company granted 28,000 options at $14.04 per
share.

During the nine months ended September 30, 2002, the Company granted stock
options under its Second Amended and Restated 1997 Stock Option Plan totaling
4,447,956 shares of Common Stock at exercise prices ranging from $12.66 to
$15.25 per share. Of this amount, 2,308,200 were issued as Performance
Accelerated Vesting Options.

-8-



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##### Table of Contents





|4. |  | Segment Information
|-- |  | -------------------

The Companys segments consist of (i) specialty hospitals and (ii)
outpatient rehabilitation. The accounting policies of the segments are the
same as those described in the summary of significant accounting policies. The
Company evaluates performance based on EBITDA of the respective business units.
EBITDA is defined as earnings before interest, minority interest, income taxes,
depreciation and amortization and extraordinary item. All segment revenues are
from external customers.

The following table summarizes selected financial data for the Companys
reportable segments:

|                     |  |                                       |             |                |  |           |             |       |  |   |            |   |  |   |             | 
|-------------------- |  | ------------------------------------- | ----------- | -------------- |  | --------- | ----------- | ----- |  | - | ---------- | - |  | - | ----------- | 
|                     |  | Three Months Ended September 30, 2002
|                     |  |                                      
|                     |  | Specialty                             |             | Outpatient     |  |           |             |       |  |   |            |  
|                     |  | Hospitals                             |             | Rehabilitation |  | All Other |             | Total
|                     |  |                                       |             |                |  |           |             |      
|Net revenue          |  | $                                     | 155,637,000 |                |  | $         | 119,179,000 |       |  | $ | 4,167,000  |   |  | $ | 278,983,000 | 
|                    
|                    
|                    
|                    
|EBITDA               |  |                                       | 16,522,000  |                |  |           | 19,025,000  |       |  |   | (6,546,000 | ) |  |   | 29,001,000  | 
|                    
|                    
|                    
|                    
|Total assets         |  |                                       | 318,164,000 |                |  |           | 324,934,000 |       |  |   | 78,431,000 |   |  |   | 721,529,000 | 
|                    
|                    
|                    
|                    
|Capital expenditures |  |                                       | 5,908,000   |                |  |           | 4,067,000   |       |  |   | 882,000    |   |  |   | 10,857,000  | 

|                     |  |                                       |             |                |  |           |             |       |  |   |            |   |  |   |             | 
|-------------------- |  | ------------------------------------- | ----------- | -------------- |  | --------- | ----------- | ----- |  | - | ---------- | - |  | - | ----------- | 
|                     |  | Three Months Ended September 30, 2001
|                     |  |                                      
|                     |  | Specialty                             |             | Outpatient     |  |           |             |       |  |   |            |  
|                     |  | Hospitals                             |             | Rehabilitation |  | All Other |             | Total
|                     |  |                                       |             |                |  |           |             |      
|Net revenue          |  | $                                     | 129,442,000 |                |  | $         | 106,083,000 |       |  | $ | 3,630,000  |   |  | $ | 239,155,000 | 
|                    
|                    
|                    
|                    
|EBITDA               |  |                                       | 14,189,000  |                |  |           | 17,421,000  |       |  |   | (5,666,000 | ) |  |   | 25,944,000  | 
|                    
|                    
|                    
|                    
|Total assets         |  |                                       | 260,606,000 |                |  |           | 309,374,000 |       |  |   | 56,216,000 |   |  |   | 626,196,000 | 
|                    
|                    
|                    
|                    
|Capital expenditures |  |                                       | 2,519,000   |                |  |           | 2,346,000   |       |  |   | 434,000    |   |  |   | 5,299,000   | 

|                     |  |                                      |             |                |  |           |             |       |  |   |             |   |  |   |             | 
|-------------------- |  | ------------------------------------ | ----------- | -------------- |  | --------- | ----------- | ----- |  | - | ----------- | - |  | - | ----------- | 
|                     |  | Nine Months Ended September 30, 2002
|                     |  |                                     
|                     |  | Specialty                            |             | Outpatient     |  |           |             |       |  |   |             |  
|                     |  | Hospitals                            |             | Rehabilitation |  | All Other |             | Total
|                     |  |                                      |             |                |  |           |             |      
|Net revenue          |  | $                                    | 456,538,000 |                |  | $         | 363,512,000 |       |  | $ | 11,125,000  |   |  | $ | 831,175,000 | 
|                    
|                    
|                    
|                    
|EBITDA               |  |                                      | 49,470,000  |                |  |           | 63,148,000  |       |  |   | (19,375,000 | ) |  |   | 93,243,000  | 
|                    
|                    
|                    
|                    
|Total assets         |  |                                      | 318,164,000 |                |  |           | 324,934,000 |       |  |   | 78,431,000  |   |  |   | 721,529,000 | 
|                    
|                    
|                    
|                    
|Capital expenditures |  |                                      | 18,348,000  |                |  |           | 8,994,000   |       |  |   | 1,463,000   |   |  |   | 28,805,000  | 

|                     |  |                                      |             |                |  |           |             |       |  |   |             |   |  |   |             | 
|-------------------- |  | ------------------------------------ | ----------- | -------------- |  | --------- | ----------- | ----- |  | - | ----------- | - |  | - | ----------- | 
|                     |  | Nine Months Ended September 30, 2001
|                     |  |                                     
|                     |  | Specialty                            |             | Outpatient     |  |           |             |       |  |   |             |  
|                     |  | Hospitals                            |             | Rehabilitation |  | All Other |             | Total
|                     |  |                                      |             |                |  |           |             |      
|Net revenue          |  | $                                    | 361,627,000 |                |  | $         | 326,715,000 |       |  | $ | 10,100,000  |   |  | $ | 698,442,000 | 
|                    
|                    
|                    
|                    
|EBITDA               |  |                                      | 41,167,000  |                |  |           | 57,107,000  |       |  |   | (16,646,000 | ) |  |   | 81,628,000  | 
|                    
|                    
|                    
|                    
|Total assets         |  |                                      | 260,606,000 |                |  |           | 309,374,000 |       |  |   | 56,216,000  |   |  |   | 626,196,000 | 
|                    
|                    
|                    
|                    
|Capital expenditures |  |                                      | 8,828,000   |                |  |           | 6,112,000   |       |  |   | 1,169,000   |   |  |   | 16,109,000  | 

-9-



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##### Table of Contents



A reconciliation of EBITDA to net income is as follows:

|                                 |  |                            |            |                           |  |      |            |      |  |   |             |   |  |   |             |  
|-------------------------------- |  | -------------------------- | ---------- | ------------------------- |  | ---- | ---------- | ---- |  | - | ----------- | - |  | - | ----------- | -
|                                 |  | For the Three Months Ended |            | For the Nine Months Ended
|                                 |  | September 30,              |            | September 30,            
|                                 |  |                            |            |                          
|                                 |  | 2002                       |            | 2001                      |  | 2002 |            | 2001
|                                 |  |                            |            |                           |  |      |            |     
|EBITDA                           |  | $                          | 29,001,000 |                           |  | $    | 25,944,000 |      |  | $ | 93,243,000  |   |  | $ | 81,628,000  |  
|                                
|                                
|                                
|                                
|Depreciation and amortization    |  |                            | (6,518,000 | )                         |  |      | (8,150,000 | )    |  |   | (18,724,000 | ) |  |   | (23,829,000 | )
|                                
|                                
|                                
|                                
|Interest income                  |  |                            | 181,000    |                           |  |      | 102,000    |      |  |   | 388,000     |   |  |   | 382,000     |  
|                                
|                                
|                                
|                                
|Interest expense                 |  |                            | (6,875,000 | )                         |  |      | (7,026,000 | )    |  |   | (20,468,000 | ) |  |   | (22,548,000 | )
|                                
|                                
|                                
|                                
|Minority interest                |  |                            | (390,000   | )                         |  |      | (473,000   | )    |  |   | (1,563,000  | ) |  |   | (2,745,000  | )
|                                
|                                
|                                
|                                
|Income tax expense               |  |                            | (6,044,000 | )                         |  |      | (4,054,000 | )    |  |   | (20,744,000 | ) |  |   | (12,826,000 | )
|                                
|                                
|                                
|                                
|Extraordinary item, net of
taxes |  |                            |           |                           |  |      |           |      |  |   |            |   |  |   | (8,676,000  | )
|                                 |  |                            |            |                           |  |      |            |      |  |   |             |   |  |   |             |  
|Net income                       |  | $                          | 9,355,000  |                           |  | $    | 6,343,000  |      |  | $ | 32,132,000  |   |  | $ | 11,386,000  |  
|                                 |  |                            |            |                           |  |      |            |      |  |   |             |   |  |   |             |  



|5. |  | Restructuring Charges
|-- |  | ---------------------

The following summarizes the Companys restructuring activity:

|                     |  |             |           |           |  |       |         |   |  |   |           |  
|-------------------- |  | ----------- | --------- | --------- |  | ----- | ------- | - |  | - | --------- | -
|                     |  | Lease       |           |           |  |       |         |   |  |  
|                     |  | Termination |           |           |  |       |         |   |  |  
|                     |  | Costs       |           | Severance |  | Total
|                     |  |             |           |           |  |      
|December 31, 2001    |  | $           | 1,687,000 |           |  | $     | 132,000 |   |  | $ | 1,819,000 |  
|                    
|                    
|                    
|                    
|Amounts paid in 2002 |  |             | (734,000  | )         |  |       | (79,000 | ) |  |   | (813,000  | )
|                     |  |             |           |           |  |       |         |   |  |   |           |  
|September 30, 2002   |  | $           | 953,000   |           |  | $     | 53,000  |   |  | $ | 1,006,000 |  
|                     |  |             |           |           |  |       |         |   |  |   |           |  

All employees to be terminated have been severed and the Company expects
to pay out the remaining restructuring reserves through 2003.



|6. |  | Intangible Assets
|-- |  | -----------------

Effective January 1, 2002, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets.
Under SFAS No. 142, goodwill and other intangible assets with indefinite lives
are no longer subject to periodic amortization but are instead reviewed
annually, or more frequently if impairment indicators arise. Additionally, a
transitional impairment test is required within six months of the date of
adoption utilizing data as of the beginning of the year. These reviews require
the Company to estimate the fair value of its identified reporting units and
compare those estimates against the related carrying values. For each of the
reporting units, the estimated fair value is determined utilizing the expected
present value of the future cash flows of the units.

During the quarter ended March 31, 2002, the Company conducted its initial
transition test. In all instances, the estimated fair value of the reporting
units exceeded their book values and therefore no write-down of goodwill was
required at January 1, 2002.

Amortization expense for intangible assets for the nine months ended
September 30, 2002 was $528,000. Estimated amortization expense for intangible
assets for each of the five years commencing January 1, 2002 will be
approximately $553,000.

-10-



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##### Table of Contents



Intangible assets consist of the following:

|                               |       |   |                          |             |              |   |            |   | 
|------------------------------ | ----- | - | ------------------------ | ----------- | ------------ | - | ---------- | - | 
|                               |       |   | As of September 30, 2002
|                               |       |   |                         
|                               |       |   | Gross Carrying           |             | Accumulated 
|                               |       |   | Amount                   |             | Amortization
|                               |       |   |                          |             |             
|Amortized intangible assets    |       |   |                          |             |              |   |            |  
|                              
|                              
|                              
|                              
|Management services agreements |       | $ | 11,404,000               |             |              | $ | (2,297,000 | )
|                               |       |   |                          |             |              |   |            |  
|Unamortized intangible assets  |       |   |                          |             |              |   |            |  
|                              
|                              
|                              
|                              
|Goodwill                       |       | $ | 204,749,000              |             |              |   |            |  
|                              
|                              
|                              
|                              
|Trademarks                     |       |   | 37,875,000               |             |              |   |            |  
|                               |       |   |                          |             |              |   |            |  
|                              
|                              
|                              
|                              
|                               | Total |   | $                        | 242,624,000 |              |   |            |   | 
|                               |       |   |                          |             |              |   |            |  

The following table reflects unaudited pro forma results of operations,
net of related tax effect, of the Company, giving effect to SFAS No. 142 as if
it were adopted on January 1, 2001:

|                                 |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|-------------------------------- |  | --------------------- | --------- | ------------------------- |  | ---- | --------- | ---- |  | - | ---------- |  |  | - | ---------- | 
|                                 |  | For the Quarter Ended |           | For the Nine Months Ended
|                                 |  | September 30,         |           | September 30,            
|                                 |  |                       |           |                          
|                                 |  | 2002                  |           | 2001                      |  | 2002 |           | 2001
|                                 |  |                       |           |                           |  |      |           |     
|Reported net income              |  | $                     | 9,355,000 |                           |  | $    | 6,343,000 |      |  | $ | 32,132,000 |  |  | $ | 11,386,000 | 
|                                
|                                
|                                
|                                
|Add back: Goodwill amortization  |  |                       |          |                           |  |      | 1,164,000 |      |  |   |           |  |  |   | 3,633,000  | 
|                                
|                                
|                                
|                                
|Add back: Trademark
amortization |  |                       |          |                           |  |      | 152,000   |      |  |   |           |  |  |   | 456,000    | 
|                                 |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|                                
|                                
|                                
|                                
|Adjusted net income              |  | $                     | 9,355,000 |                           |  | $    | 7,659,000 |      |  | $ | 32,132,000 |  |  | $ | 15,475,000 | 
|                                 |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|Basic earnings per share:        |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|                                
|                                
|                                
|                                
|Reported net income              |  | $                     | 0.20      |                           |  | $    | 0.14      |      |  | $ | 0.69       |  |  | $ | 0.23       | 
|                                
|                                
|                                
|                                
|Goodwill amortization            |  |                       |          |                           |  |      | .03       |      |  |   |           |  |  |   | 0.10       | 
|                                
|                                
|                                
|                                
|Trademark amortization           |  |                       |          |                           |  |      |          |      |  |   |           |  |  |   | 0.01       | 
|                                 |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|                                
|                                
|                                
|                                
|Adjusted net income              |  | $                     | 0.20      |                           |  | $    | 0.17      |      |  | $ | 0.69       |  |  | $ | 0.34       | 
|                                 |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|Diluted earnings per share:      |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|                                
|                                
|                                
|                                
|Reported net income              |  | $                     | 0.19      |                           |  | $    | 0.13      |      |  | $ | 0.65       |  |  | $ | 0.22       | 
|                                
|                                
|                                
|                                
|Goodwill amortization            |  |                       |          |                           |  |      | .03       |      |  |   |           |  |  |   | 0.08       | 
|                                
|                                
|                                
|                                
|Trademark amortization           |  |                       |          |                           |  |      |          |      |  |   |           |  |  |   | 0.01       | 
|                                 |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 
|                                
|                                
|                                
|                                
|Adjusted net income              |  | $                     | 0.19      |                           |  | $    | 0.16      |      |  | $ | 0.65       |  |  | $ | 0.31       | 
|                                 |  |                       |           |                           |  |      |           |      |  |   |            |  |  |   |            | 

-11-



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The changes in the carrying amount of goodwill for the Companys reportable
segments for the nine months ended September 30, 2002, are as follows:

|                                 |  |           |            |                |  |       |             |       |  |   |         |  |  |   |             |  
|-------------------------------- |  | --------- | ---------- | -------------- |  | ----- | ----------- | ----- |  | - | ------- |  |  | - | ----------- | -
|                                 |  | Specialty |            | Outpatient     |  | All   |             |       |  |  
|                                 |  | Hospitals |            | Rehabilitation |  | Other |             | Total
|                                 |  |           |            |                |  |       |             |      
|Balance as of January 1, 2002    |  | $         | 84,391,000 |                |  | $     | 114,875,000 |       |  | $ | 584,000 |  |  | $ | 199,850,000 |  
|                                
|                                
|                                
|                                
|Goodwill acquired during year    |  |           |           |                |  |       | 6,933,000   |       |  |   |        |  |  |   | 6,933,000   |  
|                                
|                                
|                                
|                                
|Income tax benefits recognized   |  |           |           |                |  |       | (2,735,000  | )     |  |   |        |  |  |   | (2,735,000  | )
|                                
|                                
|                                
|                                
|Earn-out payments                |  |           |           |                |  |       | 563,000     |       |  |   |        |  |  |   | 563,000     |  
|                                
|                                
|                                
|                                
|Translation adjustment           |  |           |           |                |  |       | 160,000     |       |  |   |        |  |  |   | 160,000     |  
|                                
|                                
|                                
|                                
|Other                            |  |           |           |                |  |       | (22,000     | )     |  |   |        |  |  |   | (22,000     | )
|                                 |  |           |            |                |  |       |             |       |  |   |         |  |  |   |             |  
|Balance as of September 30,
2002 |  | $         | 84,391,000 |                |  | $     | 119,774,000 |       |  | $ | 584,000 |  |  | $ | 204,749,000 |  
|                                 |  |           |            |                |  |       |             |       |  |   |         |  |  |   |             |  



|7. |  | Net Income per Share
|-- |  | --------------------

The following table sets forth the computation of basic and diluted earnings
per share:

|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |            |  
|----------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------ | - | ------------------ | ---------- | ----------------- | - | ---------- | ---------- | ---- | - | ---------- | ---------- |  | - | ---------- | ---------- | -
|                                                                                                      |                                                                                                              |   | Three Months Ended |            | Nine Months Ended
|                                                                                                      |                                                                                                              |   | September 30,      |            | September 30,    
|                                                                                                      |                                                                                                              |   |                    |            |                  
|                                                                                                      |                                                                                                              |   | 2002               |            | 2001              |   | 2002       |            | 2001
|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |     
|Numerator:                                                                                            |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net income before extraordinary item                                                                  |                                                                                                              | $ | 9,355,000          |            |                   | $ | 6,343,000  |            |      | $ | 32,132,000 |            |  | $ | 20,062,000 |           
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Extraordinary item, net of $5,547,000
tax benefit                                                     |                                                                                                              |   |                   |            |                   |   |           |            |      |   |           |            |  |   | 8,676,000  |           
|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|Net income                                                                                            |                                                                                                              |   | 9,355,000          |            |                   |   | 6,343,000  |            |      |   | 32,132,000 |            |  |   | 11,386,000 |           
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                      | Less: Class A and Class B
Preferred stock dividends                                                          |   |                    |           |                   |   |            |           |      |   |            |           |  |   |            | (2,513,000 | )
|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|                                                                                                      | Numerator for basic earnings per
share  income available to common
stockholders                             |   |                    | 9,355,000  |                   |   |            | 6,343,000  |      |   |            | 32,132,000 |  |   |            | 8,873,000  |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Effect of dilutive securities:                                                                        |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                      | Class B Preferred stock dividends                                                                            |   |                    |           |                   |   |            |           |      |   |            |           |  |   |            | 1,067,000  |  
|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|                                                                                                      | Numerator for diluted earnings per
share  income available to common
stockholders after assumed
conversions |   | $                  | 9,355,000  |                   |   | $          | 6,343,000  |      |   | $          | 32,132,000 |  |   | $          | 9,940,000  |  
|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|Denominator:                                                                                          |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                      | Denominator for basic earnings per
share  weighted average shares                                           |   |                    | 46,653,000 |                   |   |            | 45,328,000 |      |   |            | 46,394,000 |  |   |            | 38,094,000 |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                      | Effect of dilutive securities:                                                                               |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |            |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                      | a) Stock options                                                                                             |   |                    | 1,536,000  |                   |   |            | 2,648,000  |      |   |            | 1,649,000  |  |   |            | 1,822,000  |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                      | b) Warrants                                                                                                  |   |                    | 1,079,000  |                   |   |            | 1,247,000  |      |   |            | 1,083,000  |  |   |            | 1,041,000  |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                      | c) Convertible preferred stock                                                                               |   |                    |           |                   |   |            |           |      |   |            |           |  |   |            | 3,376,000  |  
|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           
|Denominator for diluted earnings per
share  adjusted weighted average
shares and assumed conversions |                                                                                                              |   | 49,268,000         |            |                   |   | 49,223,000 |            |      |   | 49,126,000 |            |  |   | 44,333,000 |           
|                                                                                                      |                                                                                                              |   |                    |            |                   |   |            |            |      |   |            |            |  |   |            |           

-12-



---



##### Table of Contents



|                                 |                                 |   |                    |      |                   |   |      |      |      |   |      |      |  |   |      |       |  
|-------------------------------- | ------------------------------- | - | ------------------ | ---- | ----------------- | - | ---- | ---- | ---- | - | ---- | ---- |  | - | ---- | ----- | -
|                                 |                                 |   | Three Months Ended |      | Nine Months Ended
|                                 |                                 |   | September 30,      |      | September 30,    
|                                 |                                 |   |                    |      |                  
|                                 |                                 |   | 2002               |      | 2001              |   | 2002 |      | 2001
|                                 |                                 |   |                    |      |                   |   |      |      |     
|Basic income per common share:   |                                 |   |                    |      |                   |   |      |      |      |   |      |      |  |   |      |      
|                                
|                                
|                                
|                                
|Income before extraordinary item |                                 | $ | 0.20               |      |                   | $ | 0.14 |      |      | $ | 0.69 |      |  | $ | 0.46 |      
|                                
|                                
|                                
|                                
|                                 | Extraordinary item              |   |                    |     |                   |   |      |     |      |   |      |     |  |   |      | (0.23 | )
|                                 |                                 |   |                    |      |                   |   |      |      |      |   |      |      |  |   |      |      
|                                 | Income per common share         |   | $                  | 0.20 |                   |   | $    | 0.14 |      |   | $    | 0.69 |  |   | $    | 0.23  |  
|                                 |                                 |   |                    |      |                   |   |      |      |      |   |      |      |  |   |      |      
|Diluted income per common share: |                                 |   |                    |      |                   |   |      |      |      |   |      |      |  |   |      |      
|                                
|                                
|                                
|                                
|Income before extraordinary item |                                 | $ | 0.19               |      |                   | $ | 0.13 |      |      | $ | 0.65 |      |  | $ | 0.42 |      
|                                
|                                
|                                
|                                
|                                 | Extraordinary item              |   |                    |     |                   |   |      |     |      |   |      |     |  |   |      | (0.20 | )
|                                 |                                 |   |                    |      |                   |   |      |      |      |   |      |      |  |   |      |      
|                                 | Diluted income per common share |   | $                  | 0.19 |                   |   | $    | 0.13 |      |   | $    | 0.65 |  |   | $    | 0.22  |  
|                                 |                                 |   |                    |      |                   |   |      |      |      |   |      |      |  |   |      |      



|8. |  | Supplemental Disclosures of Cash Flow Information
|-- |  | -------------------------------------------------

Non-cash investing and financing activities are comprised of the following
for the nine months ended September 30, 2002 and 2001:

|                                                |  |      |           |      |  |   |            | 
|----------------------------------------------- |  | ---- | --------- | ---- |  | - | ---------- | 
|                                                |  | 2002 |           | 2001
|                                                |  |      |           |     
|Conversion of preferred stock into common stock |  | $    |          |      |  | $ | 60,000,000 | 
|                                               
|                                               
|                                               
|                                               
|Minority interest repurchase                    |  | $    |          |      |  | $ | 4,973,000  | 
|                                               
|                                               
|                                               
|                                               
|Notes issued with acquisitions                  |  | $    | 1,827,000 |      |  | $ | 2,523,000  | 
|                                               
|                                               
|                                               
|                                               
|Tax benefit of stock option exercises           |  | $    | 2,239,000 |      |  | $ |           | 
|                                               
|                                               
|                                               
|                                               
|Liabilities assumed with acquisitions           |  | $    |          |      |  | $ | 283,000    | 



|9. |  | Commitments and Contingencies
|-- |  | -----------------------------

Litigation

On August 10, 1998 a complaint in the U.S. District Court for the Eastern
District of Pennsylvania was filed that named as defendants NovaCare, Inc. (now
known as NAHC, Inc.), other named defendants and 100 defendants who were to be
named at a later time. This qui tamaction sought triple damages and penalties
under the False Claims Act against NAHC. The allegations involve, among other
things, the distinction between individual and group billing in physical
rehabilitation clinics that the Company acquired from NovaCare. On October 16,
2000 the relator plaintiff made a motion to amend the complaint to, among other
things, add the Company and some of its subsidiaries acquired in the NovaCare
acquisition as defendants in this case. This motion was granted in September
of 2001. The amended complaint alleges that from about January 1, 1995 through
the present, the defendants submitted false or fraudulent bills for physical
therapy to various federal health programs. On January 3, 2002, NAHC and its
related subsidiaries (including the subsidiaries acquired in the NovaCare
acquisition) entered into a settlement agreement with the relator plaintiff and
the government, pursuant to which, in exchange for a payment by NAHC of
$375,000, the parties settled all claims arising out of conduct that took place
before the Companys acquisition of the NovaCare subsidiaries that are
defendants in the case. Claims against the Company and the NovaCare
subsidiaries regarding alleged conduct occurring after the NovaCare acquisition
were not covered by the settlement. In September 2002, the Company learned
that the United States Attorney for the Eastern District of Pennsylvania had
notified the court that the United States had decided not to intervene in this
case. As of October 31, 2002, the Company and the subsidiaries have not been
served with the amended complaint. Based on a review of the amended complaint,
the Company does not believe that this lawsuit is meritorious, and it intends
to vigorously defend against this action if it is pursued by
the relator plaintiff. However, because of the uncertain nature of the
litigation, the Company cannot predict the outcome of this matter.

-13-



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##### Table of Contents



The Company is subject to legal proceedings and claims that have arisen in
the ordinary course of its business and have not been finally adjudicated,
which include malpractice claims covered under the Companys insurance
policies, as well as claims that were covered under policies issued by PHICO
Insurance Company, which are discussed below. In the opinion of management,
the outcome of these actions will not have a material adverse effect on the
financial position or results of operations of the Company.

Other

In February 2002, PHICO Insurance Company (PHICO), at the request of the
Pennsylvania Insurance Department, was placed in liquidation by an order of the
Commonwealth Court of Pennsylvania (Liquidation Order). The Company had
placed its primary malpractice insurance coverage through PHICO from June 1998
through December 2000. In January 2001, these policies were replaced by
policies issued with other issuers. Currently, the Company has approximately
18 unsettled cases in 8 states from the policy years covered by PHICO issued
policies. The Liquidation Order refers these claims to the various state
guaranty associations. These state guaranty association statutes generally
provide for coverage between $100,000-$300,000 per insured claim, depending on
the state. Some states also have catastrophic loss funds to cover settlements
in excess of the available state guaranty funds. Most state insurance guaranty
statutes provide for net worth, subrogation and residency limitations that, if
applicable, may limit or prevent the Company from recovering from these state
guaranty association funds. At this time, the Company believes that it will
meet the requirements for coverage under most of the applicable state guarantee
association statutes, and that the resolution of these claims will not have a
material adverse effect on the Companys financial position, cash flow or
results of operations. However, because the rules related to state guarantee
funds are subject to interpretation and because these claims are still in the
process of resolution, the Companys conclusions may change as this process
progresses.



|10. |  | Financial Information for Subsidiary Guarantors and Non-Guarantor
Subsidiaries
|--- |  | ------------------------------------------------------------------------------

The Company conducts a significant portion of its business through its
subsidiaries. Presented below is condensed consolidating financial information
for the Company, the Subsidiary Guarantors and the Non-Guarantor Subsidiaries
at September 30, 2002 and for the nine months ended September 30, 2002 and
2001.

The equity method has been used by the Company with respect to investments
in subsidiaries. The equity method has been used by Subsidiary Guarantors with
respect to investments in Non-Guarantor Subsidiaries. Separate financial
statements for Subsidiary Guarantors are not presented.

The following table sets forth the Non-Guarantor Subsidiaries:

|                                                                                                                                                                                                                                                                                                                                                                                                     
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Canadian Back Institute Limited
Kentucky Orthopedic Rehabilitation, LLC.
Medical Information Management Systems, LLC.
Metro Therapy, Inc.
Millennium Rehab Services, LLC.
Rehab Advantage Therapy Services, LLC.
Select Houston Partners, L.P.
Select Management Services, LLC.
Select Specialty Hospital  Biloxi, Inc.
Select Specialty Hospital  Central Pennsylvania, L.P.
TJ Corporation I, LLC

-14-



---



##### Table of Contents



|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |         |  
|------------------------------------------------------ | --------------------------------------------------- | - | ------------------ | ------- | ---------- | - | ------------------------------------- | ------- | ------------ | - | ---------------------- | ------ | - | - | -------- | -------- | ---- | - | ------- | ------- | -
|                                                       |                                                     |   |                    |         |            |   | Select Medical Corporation            |         |              |   |                        |        |   |   |          |          |      |  
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |         |  
|                                                       |                                                     |   |                    |         |            |   | Condensed
Consolidating Balance Sheet |         |              |   |                       
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |         |  
|                                                       |                                                     |   | September 30, 2002
|                                                       |                                                     |   |                   
|                                                       |                                                     |   | Select Medical     |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |        
|                                                       |                                                     |   | Corporation        |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |        
|                                                       |                                                     |   | (Parent            |         | Subsidiary |   | Non-Guarantor                         |         |              |   |                        |        |   |   |         
|                                                       |                                                     |   | Company Only)      |         | Guarantors |   | Subsidiaries                          |         | Eliminations |   | Consolidated          
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                       
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   | (dollars in thousands) |        |   |   |          |          |      |   |        
|Assets                                                 |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|Current Assets:                                        |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Cash and cash equivalents                           |   | $                  | 35,263  |            |   | $                                     | 23,266  |              |   | $                      | 1,440  |   |   | $        |         |      |   | $       | 59,969  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accounts receivable, net                            |   |                    | (427    | )          |   |                                       | 192,779 |              |   |                        | 37,616 |   |   |          |         |      |   |         | 229,968 |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Current deferred tax asset                          |   |                    | 1,752   |            |   |                                       | 25,074  |              |   |                        | 180    |   |   |          |         |      |   |         | 27,006  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Other current assets                                |   |                    | 2,562   |            |   |                                       | 11,928  |              |   |                        | 2,819  |   |   |          |         |      |   |         | 17,309  |  
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|Total Current Assets                                   |                                                     |   | 39,150             |         |            |   | 253,047                               |         |              |   | 42,055                 |        |   |   |         |          |      |   | 334,252 |        
|                                                      
|                                                      
|                                                      
|                                                      
|Property and equipment, net                            |                                                     |   | 6,751              |         |            |   | 78,218                                |         |              |   | 20,464                 |        |   |   |         |          |      |   | 105,433 |        
|                                                      
|                                                      
|                                                      
|                                                      
|Investment in affiliates                               |                                                     |   | 332,914            |         |            |   | 68,058                                |         |              |   |                       |        |   |   | (400,972 | )(a)     |      |   |        |        
|                                                      
|                                                      
|                                                      
|                                                      
|Goodwill                                               |                                                     |   | 5,854              |         |            |   | 164,655                               |         |              |   | 34,240                 |        |   |   |         |          |      |   | 204,749 |        
|                                                      
|                                                      
|                                                      
|                                                      
|Trademark                                              |                                                     |   |                   |         |            |   | 37,875                                |         |              |   |                       |        |   |   |         |          |      |   | 37,875  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Other intangibles                                      |                                                     |   |                   |         |            |   | 823                                   |         |              |   | 8,284                  |        |   |   |         |          |      |   | 9,107   |        
|                                                      
|                                                      
|                                                      
|                                                      
|Non-current deferred tax asset                         |                                                     |   | 7,611              |         |            |   | (2,508                                | )       |              |   |                       |        |   |   |         |          |      |   | 5,103   |        
|                                                      
|                                                      
|                                                      
|                                                      
|Other assets                                           |                                                     |   | 10,958             |         |            |   | 13,083                                |         |              |   | 969                    |        |   |   |         |          |      |   | 25,010  |        
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|Total Assets                                           |                                                     | $ | 403,238            |         |            | $ | 613,251                               |         |              | $ | 106,012                |        |   | $ | (400,972 | )        |      | $ | 721,529 |        
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|Liabilities and Stockholders Equity                   |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|Current Liabilities:                                   |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Bank overdrafts                                     |   | $                  | 8,515   |            |   | $                                     |        |              |   | $                      |       |   |   | $        |         |      |   | $       | 8,515   |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Current portion of long-term debt and notes payable |   |                    | 570     |            |   |                                       | 29,345  |              |   |                        | 465    |   |   |          |         |      |   |         | 30,380  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accounts payable                                    |   |                    | 1,856   |            |   |                                       | 26,830  |              |   |                        | 5,229  |   |   |          |         |      |   |         | 33,915  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Intercompany accounts                               |   |                    | 17,877  |            |   |                                       | (9,544  | )            |   |                        | (8,333 | ) |   |          |         |      |   |         |        |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued payroll                                     |   |                    | 401     |            |   |                                       | 35,218  |              |   |                        | 56     |   |   |          |         |      |   |         | 35,675  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued vacation                                    |   |                    | 3,258   |            |   |                                       | 9,977   |              |   |                        | 1,403  |   |   |          |         |      |   |         | 14,638  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued restructuring                               |   |                    |        |            |   |                                       | 1,006   |              |   |                        |       |   |   |          |         |      |   |         | 1,006   |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accrued other                                       |   |                    | 18,824  |            |   |                                       | 15,749  |              |   |                        | 391    |   |   |          |         |      |   |         | 34,964  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Income taxes                                        |   |                    | 11,359  |            |   |                                       | 1,835   |              |   |                        | (3,382 | ) |   |          |         |      |   |         | 9,812   |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Due to third party payors                           |   |                    | (20,142 | )          |   |                                       | 53,047  |              |   |                        | 2,661  |   |   |          |         |      |   |         | 35,566  |  
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|Total Current Liabilities                              |                                                     |   | 42,518             |         |            |   | 163,463                               |         |              |   | (1,510                 | )      |   |   |         |          |      |   | 204,471 |        
|                                                      
|                                                      
|                                                      
|                                                      
|Long-term debt, net of current portion                 |                                                     |   | 87,506             |         |            |   | 103,582                               |         |              |   | 47,285                 |        |   |   |         |          |      |   | 238,373 |        
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|Total liabilities                                      |                                                     |   | 130,024            |         |            |   | 267,045                               |         |              |   | 45,775                 |        |   |   |         |          |      |   | 442,844 |        
|                                                      
|                                                      
|                                                      
|                                                      
|Commitments and Contingencies                          |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|Minority interest in consolidated subsidiary companies |                                                     |   |                   |         |            |   | 234                                   |         |              |   | 5,237                  |        |   |   |         |          |      |   | 5,471   |        
|                                                      
|                                                      
|                                                      
|                                                      
|Stockholders Equity:                                  |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Common stock                                        |   |                    | 467     |            |   |                                       |        |              |   |                        |       |   |   |          |         |      |   |         | 467     |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Capital in excess of par                            |   |                    | 236,203 |            |   |                                       |        |              |   |                        |       |   |   |          |         |      |   |         | 236,203 |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Retained earnings                                   |   |                    | 38,056  |            |   |                                       | 49,190  |              |   |                        | 15,177 |   |   |          | (64,367  | )(b) |   |         | 38,056  |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Subsidiary investment                               |   |                    |        |            |   |                                       | 296,782 |              |   |                        | 39,823 |   |   |          | (336,605 | )(a) |   |         |        |  
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Accumulated other comprehensive loss                |   |                    | (1,512  | )          |   |                                       |        |              |   |                        |       |   |   |          |         |      |   |         | (1,512  | )
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|Total Stockholders Equity                             |                                                     |   | 273,214            |         |            |   | 345,972                               |         |              |   | 55,000                 |        |   |   | (400,972 | )        |      |   | 273,214 |        
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        
|Total Liabilities and Stockholders Equity             |                                                     | $ | 403,238            |         |            | $ | 613,251                               |         |              | $ | 106,012                |        |   | $ | (400,972 | )        |      | $ | 721,529 |        
|                                                       |                                                     |   |                    |         |            |   |                                       |         |              |   |                        |        |   |   |          |          |      |   |         |        



---

|(a) |  | Elimination of investments in subsidiaries.          
|--- |  | -----------------------------------------------------
|   
|   
|   
|   
|(b) |  | Elimination of investments in subsidiaries earnings.

-15-



---



##### Table of Contents



|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |         | 
|------------------------------------------------------ | ----------------------------- | - | -------------------------------------------- | ------ | ---------- | - | ----------------------------------------------- | ------- | ------------ | - | ---------------------- | ------- |  | - | ------- | ---- |  | - | ------- | ------- | 
|                                                       |                               |   |                                              |        |            |   | Select Medical Corporation                      |         |              |   |                        |         |  |   |         |      |  |  
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |         | 
|                                                       |                               |   |                                              |        |            |   | Condensed Consolidating Statement of Operations |         |              |   |                       
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |         | 
|                                                       |                               |   | For the Nine Months Ended September 30, 2002
|                                                       |                               |   |                                             
|                                                       |                               |   | Select Medical                               |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |        
|                                                       |                               |   | Corporation                                  |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |        
|                                                       |                               |   | (Parent Company                              |        | Subsidiary |   | Non-Guarantor                                   |         |              |   |                        |         |  |   |        
|                                                       |                               |   | Only)                                        |        | Guarantors |   | Subsidiaries                                    |         | Eliminations |   | Consolidated          
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                       
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   | (dollars in thousands) |         |  |   |         |      |  |   |        
|Net operating revenues                                 |                               | $ | 10,402                                       |        |            | $ | 676,897                                         |         |              | $ | 143,876                |         |  | $ |        |      |  | $ | 831,175 |        
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|Costs and expenses:                                    |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Cost of services              |   |                                              |       |            |   |                                                 | 561,303 |              |   |                        | 119,669 |  |   |         |     |  |   |         | 680,972 | 
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | General and administrative    |   |                                              | 29,329 |            |   |                                                 |        |              |   |                        |        |  |   |         |     |  |   |         | 29,329  | 
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Bad debt expense              |   |                                              |       |            |   |                                                 | 23,457  |              |   |                        | 4,174   |  |   |         |     |  |   |         | 27,631  | 
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Depreciation and amortization |   |                                              | 1,261  |            |   |                                                 | 13,559  |              |   |                        | 3,904   |  |   |         |     |  |   |         | 18,724  | 
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|Total costs and expenses                               |                               |   | 30,590                                       |        |            |   | 598,319                                         |         |              |   | 127,747                |         |  |   |        |      |  |   | 756,656 |        
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|Income (loss) from operations                          |                               |   | (20,188                                      | )      |            |   | 78,578                                          |         |              |   | 16,129                 |         |  |   |        |      |  |   | 74,519  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Other income and expense:                              |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|Intercompany interest and royalty fees                 |                               |   | 16,097                                       |        |            |   | (16,507                                         | )       |              |   | 410                    |         |  |   |         |      |  |   |        |        
|                                                      
|                                                      
|                                                      
|                                                      
|Intercompany management fees                           |                               |   | (43,573                                      | )      |            |   | 41,412                                          |         |              |   | 2,161                  |         |  |   |         |      |  |   |        |        
|                                                      
|                                                      
|                                                      
|                                                      
|Interest income                                        |                               |   | (318                                         | )      |            |   | (69                                             | )       |              |   | (1                     | )       |  |   |        |      |  |   | (388    | )      
|                                                      
|                                                      
|                                                      
|                                                      
|Interest expense                                       |                               |   | 5,799                                        |        |            |   | 11,137                                          |         |              |   | 3,532                  |         |  |   |        |      |  |   | 20,468  |        
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|Income before minority interests and income taxes      |                               |   | 1,807                                        |        |            |   | 42,605                                          |         |              |   | 10,027                 |         |  |   |        |      |  |   | 54,439  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Minority interest in consolidated subsidiary companies |                               |   |                                             |        |            |   | 21                                              |         |              |   | 1,542                  |         |  |   |        |      |  |   | 1,563   |        
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|Income before income taxes                             |                               |   | 1,807                                        |        |            |   | 42,584                                          |         |              |   | 8,485                  |         |  |   |        |      |  |   | 52,876  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Income tax expense                                     |                               |   | 474                                          |        |            |   | 18,298                                          |         |              |   | 1,972                  |         |  |   |         |      |  |   | 20,744  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Equity in earnings of subsidiaries                     |                               |   | 30,799                                       |        |            |   | 3,299                                           |         |              |   |                       |         |  |   | (34,098 | )(a) |  |   |        |        
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        
|Net income                                             |                               | $ | 32,132                                       |        |            | $ | 27,585                                          |         |              | $ | 6,513                  |         |  | $ | (34,098 | )    |  | $ | 32,132  |        
|                                                       |                               |   |                                              |        |            |   |                                                 |         |              |   |                        |         |  |   |         |      |  |   |         |        



---

|(a) |  | Elimination of equity in net income (loss) from consolidated subsidiaries.
|--- |  | --------------------------------------------------------------------------

-16-



---



##### Table of Contents



|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |         |   | 
|--------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------- | ---------------------------------- | ------- | ----------------------------------------------------------------------------------------------------------------------- | ---------------------- | - | ---------- | ------ | ------------- | - | ------------ | ----- | ------------ | - | ------- | ---- | ------ | --- | ------- | ------ | ------- | - | 
|                                                                                  |                                                                                             |                                    |         | Select
Medical Corporation
Condensed Consolidating Statement of Cash Flows
For the Nine Months Ended September 30, 2001
|                                                                                  |                                                                                             |                                    |         |                                                                                                                        
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | Select Medical         |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |        
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | Corporation            |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |        
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | (Parent Company        |   | Subsidiary |        | Non-Guarantor |   |              |       |              |   |         |      |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | Only)                  |   | Guarantors |        | Subsidiaries  |   | Eliminations |       | Consolidated
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |   |              |       |             
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | (dollars in thousands)
|Operating activities                                                              |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Net income                                                                        |                                                                                             | $                                  | 32,132  |                                                                                                                         |                        | $ | 27,585     |        |               | $ | 6,513        |       |              | $ | (34,098 | )(a) |        | $   | 32,132  |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Adjustments to reconcile net income to net cash
provided by operating activities: |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Depreciation and amortization                                                               |                                    |         | 1,261                                                                                                                   |                        |   |            | 13,559 |               |   |              | 3,904 |              |   |         |     |        |     |         | 18,724 |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Provision for bad debts                                                                     |                                    |         |                                                                                                                        |                        |   |            | 23,457 |               |   |              | 4,174 |              |   |         |     |        |     |         | 27,631 |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Minority interests                                                                          |                                    |         |                                                                                                                        |                        |   |            | 21     |               |   |              | 1,542 |              |   |         |     |        |     |         | 1,563  |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  | Changes in operating assets and liabilities, net of
effects from acquisition of businesses: |                                    |         |                                                                                                                         |                        |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |        
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Equity in earnings of subsidiaries |         |                                                                                                                         | (30,799                | ) |            |        | (3,299        | ) |              |       |             |   |         |      | 34,098 | (a) |         |        |        |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Intercompany                       |         |                                                                                                                         | (14,364                | ) |            |        | 21,077        |   |              |       | (6,713       | ) |         |      |       |     |         |        |        |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Accounts receivable                |         |                                                                                                                         | (64                    | ) |            |        | (30,404       | ) |              |       | (8,693       | ) |         |      |       |     |         |        | (39,161 | )
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Other current assets               |         |                                                                                                                         | (598                   | ) |            |        | 631           |   |              |       | (105         | ) |         |      |       |     |         |        | (72     | )
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Other assets                       |         |                                                                                                                         | 1,536                  |   |            |        | 1,164         |   |              |       | 866          |   |         |      |       |     |         |        | 3,566   |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Accounts payable                   |         |                                                                                                                         | (1,234                 | ) |            |        | 957           |   |              |       | 659          |   |         |      |       |     |         |        | 382     |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Due to third-party payors          |         |                                                                                                                         | 9,309                  |   |            |        | 6,496         |   |              |       | 5,689        |   |         |      |       |     |         |        | 21,494  |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Accrued expenses                   |         |                                                                                                                         | 6,937                  |   |            |        | 14,067        |   |              |       | (985         | ) |         |      |       |     |         |        | 20,019  |  
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                  |                                                                                             | Income taxes                       |         |                                                                                                                         | 3,534                  |   |            |        | 16,326        |   |              |       | (3,382       | ) |         |      |       |     |         |        | 16,478  |  
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Net cash provided by operating activities                                         |                                                                                             |                                    | 7,650   |                                                                                                                         |                        |   | 91,637     |        |               |   | 3,469        |       |              |   |        |      |        |     | 102,756 |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Investing activities                                                              |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Purchases of property and equipment, net                                          |                                                                                             |                                    | (1,444  | )                                                                                                                       |                        |   | (23,833    | )      |               |   | (3,528       | )     |              |   |        |      |        |     | (28,805 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Earnout payments                                                                  |                                                                                             |                                    |        |                                                                                                                         |                        |   | (563       | )      |               |   |             |       |              |   |        |      |        |     | (563    | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Acquisition of businesses, net of cash acquired                                   |                                                                                             |                                    |        |                                                                                                                         |                        |   | (5,548     | )      |               |   | (2,213       | )     |              |   |        |      |        |     | (7,761  | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Net cash used in investing activities                                             |                                                                                             |                                    | (1,444  | )                                                                                                                       |                        |   | (29,944    | )      |               |   | (5,741       | )     |              |   |        |      |        |     | (37,129 | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Financing activities                                                              |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Intercompany debt reallocation                                                    |                                                                                             |                                    | 37,429  |                                                                                                                         |                        |   | (42,365    | )      |               |   | 4,936        |       |              |   |        |      |        |     |        |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Net repayments on credit facility debt                                            |                                                                                             |                                    | (14,960 | )                                                                                                                       |                        |   |           |        |               |   | (2,012       | )     |              |   |        |      |        |     | (16,972 | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Principal payments on seller and other debt                                       |                                                                                             |                                    | (370    | )                                                                                                                       |                        |   | (4,148     | )      |               |   | (6           | )     |              |   |        |      |        |     | (4,524  | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Proceeds from issuance of common stock                                            |                                                                                             |                                    | 4,025   |                                                                                                                         |                        |   |           |        |               |   |             |       |              |   |        |      |        |     | 4,025   |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Proceeds from bank overdrafts                                                     |                                                                                             |                                    | 2,432   |                                                                                                                         |                        |   |           |        |               |   |             |       |              |   |        |      |        |     | 2,432   |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Payment of deferred financing costs                                               |                                                                                             |                                    | (67     | )                                                                                                                       |                        |   |           |        |               |   |             |       |              |   |        |      |        |     | (67     | )     
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Distributions to minority interests                                               |                                                                                             |                                    |        |                                                                                                                         |                        |   |           |        |               |   | (1,264       | )     |              |   |        |      |        |     | (1,264  | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Net cash provided by (used in) financing activities                               |                                                                                             |                                    | 28,489  |                                                                                                                         |                        |   | (46,513    | )      |               |   | 1,654        |       |              |   |        |      |        |     | (16,370 | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Effect of exchange rate changes on cash
and cash equivalents                      |                                                                                             |                                    | 9       |                                                                                                                         |                        |   |           |        |               |   |             |       |              |   |        |      |        |     | 9       |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Net increase (decrease) in cash and cash equivalents                              |                                                                                             |                                    | 34,704  |                                                                                                                         |                        |   | 15,180     |        |               |   | (618         | )     |              |   |        |      |        |     | 49,266  |       
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Cash and cash equivalents at beginning of period                                  |                                                                                             |                                    | 559     |                                                                                                                         |                        |   | 8,086      |        |               |   | 2,058        |       |              |   |        |      |        |     | 10,703  |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  
|Cash and cash equivalents at end of period                                        |                                                                                             | $                                  | 35,263  |                                                                                                                         |                        | $ | 23,266     |        |               | $ | 1,440        |       |              | $ |        |      |        | $   | 59,969  |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                        |   |            |        |               |  

(a)  Elimination of equity in
earnings of subsidiary.

-17-



---



##### Table of Contents



|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |         | 
|------------------------------------------------------ | ----------------------------- | - | -------------------------------------------- | ---------------------- | ---------- | - | ----------------------------------------------- | ------- | ------------ | - | ------------ | ------ |  | - | ------- | ---- |  | - | ------- | ------- | 
|                                                       |                               |   |                                              |                        |            |   | Select Medical Corporation                      |         |              |   |             
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |        
|                                                       |                               |   |                                              |                        |            |   | Condensed Consolidating Statement of Operations |         |              |   |             
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |         | 
|                                                       |                               |   | For the Nine Months Ended September 30, 2001
|                                                       |                               |   |                                             
|                                                       |                               |   | Select Medical                               |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |        
|                                                       |                               |   | Corporation                                  |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |        
|                                                       |                               |   | (Parent Company                              |                        | Subsidiary |   | Non-Guarantor                                   |         |              |   |              |        |  |   |        
|                                                       |                               |   | Only)                                        |                        | Guarantors |   | Subsidiaries                                    |         | Eliminations |   | Consolidated
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |             
|                                                       |                               |   |                                              | (dollars in thousands)
|Net operating revenues                                 |                               | $ | 9,429                                        |                        |            | $ | 566,128                                         |         |              | $ | 122,885      |        |  | $ |        |      |  | $ | 698,442 |        
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|Costs and expenses:                                    |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Cost of services              |   |                                              |                       |            |   |                                                 | 465,260 |              |   |              | 99,601 |  |   |         |     |  |   |         | 564,861 | 
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | General and administrative    |   |                                              | 25,945                 |            |   |                                                 |        |              |   |              |       |  |   |         |     |  |   |         | 25,945  | 
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Bad debt expense              |   |                                              |                       |            |   |                                                 | 22,461  |              |   |              | 3,547  |  |   |         |     |  |   |         | 26,008  | 
|                                                      
|                                                      
|                                                      
|                                                      
|                                                       | Depreciation and amortization |   |                                              | 1,327                  |            |   |                                                 | 18,754  |              |   |              | 3,748  |  |   |         |     |  |   |         | 23,829  | 
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|Total costs and expenses                               |                               |   | 27,272                                       |                        |            |   | 506,475                                         |         |              |   | 106,896      |        |  |   |        |      |  |   | 640,643 |        
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|Income (loss) from operations                          |                               |   | (17,843                                      | )                      |            |   | 59,653                                          |         |              |   | 15,989       |        |  |   |        |      |  |   | 57,799  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Other income and expense:                              |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|                                                      
|                                                      
|                                                      
|                                                      
|Intercompany charges                                   |                               |   | (31,572                                      | )                      |            |   | 25,998                                          |         |              |   | 5,574        |        |  |   |        |      |  |   |        |        
|                                                      
|                                                      
|                                                      
|                                                      
|Interest income                                        |                               |   | (311                                         | )                      |            |   | (70                                             | )       |              |   | (1           | )      |  |   |        |      |  |   | (382    | )      
|                                                      
|                                                      
|                                                      
|                                                      
|Interest expense                                       |                               |   | 5,367                                        |                        |            |   | 13,297                                          |         |              |   | 3,884        |        |  |   |        |      |  |   | 22,548  |        
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|Income before minority interests and income taxes      |                               |   | 8,673                                        |                        |            |   | 20,428                                          |         |              |   | 6,532        |        |  |   |        |      |  |   | 35,633  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Minority interest in consolidated subsidiary companies |                               |   |                                             |                        |            |   | 578                                             |         |              |   | 2,167        |        |  |   |        |      |  |   | 2,745   |        
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|Income before income taxes                             |                               |   | 8,673                                        |                        |            |   | 19,850                                          |         |              |   | 4,365        |        |  |   |        |      |  |   | 32,888  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Income tax expense                                     |                               |   | 4,296                                        |                        |            |   | 8,132                                           |         |              |   | 398          |        |  |   |        |      |  |   | 12,826  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Equity in earnings of subsidiaries                     |                               |   | 15,685                                       |                        |            |   | 2,382                                           |         |              |   |             |        |  |   | (18,067 | )(a) |  |   |        |        
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|Income before extraordinary item                       |                               |   | 20,062                                       |                        |            |   | 14,100                                          |         |              |   | 3,967        |        |  |   | (18,067 | )    |  |   | 20,062  |        
|                                                      
|                                                      
|                                                      
|                                                      
|Extraordinary item                                     |                               |   | 8,676                                        |                        |            |   |                                                |         |              |   |             |        |  |   |        |      |  |   | 8,676   |        
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        
|Net income                                             |                               | $ | 11,386                                       |                        |            | $ | 14,100                                          |         |              | $ | 3,967        |        |  | $ | (18,067 | )    |  | $ | 11,386  |        
|                                                       |                               |   |                                              |                        |            |   |                                                 |         |              |   |              |        |  |   |         |      |  |   |         |        



-18-



---



##### Table of Contents



|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |         |   | 
|--------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------- | ---------------------------------- | ------- | ----------------------------------------------------------------------------------------------------------------------- | --------------- | - | ---------- | ------ | ------------- | - | ------------ | ----- | ------------ | - | ------- | ---- | ------ | --- | ------- | ------ | ------- | - | 
|                                                                                  |                                                                                             |                                    |         | Select
Medical Corporation
Condensed Consolidating Statement of Cash Flows
For the Nine Months Ended September 30, 2001
|                                                                                  |                                                                                             |                                    |         |                                                                                                                        
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | Select
Medical  |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |        
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | Corporation     |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |        
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | (Parent
Company |   | Subsidiary |        | Non-Guarantor |   |              |       |              |   |         |      |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         | Only)           |   | Guarantors |        | Subsidiaries  |   | Eliminations |       | Consolidated
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|                                                                                  |                                                                                             |                                    |         | (dollars in
thousands)                                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|                                                                                 
|Operating activities                                                              |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|Net income                                                                        |                                                                                             | $                                  | 11,386  |                                                                                                                         |                 | $ | 14,100     |        |               | $ | 3,967        |       |              | $ | (18,067 | )(a) |        | $   | 11,386  |       
|Adjustments to
reconcile net income to net cash
provided by operating
activities: |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|                                                                                  | Depreciation
and amortization                                                               |                                    |         | 1,327                                                                                                                   |                 |   |            | 18,754 |               |   |              | 3,748 |              |   |         |     |        |     |         | 23,829 |        
|                                                                                  | Provision
for bad debts                                                                     |                                    |         |                                                                                                                        |                 |   |            | 22,461 |               |   |              | 3,547 |              |   |         |     |        |     |         | 26,008 |        
|                                                                                  | Minority
interests                                                                          |                                    |         |                                                                                                                        |                 |   |            | 578    |               |   |              | 2,167 |              |   |         |     |        |     |         | 2,745  |        
|                                                                                  | Extraordinary
item                                                                          |                                    |         | 8,676                                                                                                                   |                 |   |            |       |               |   |              |      |              |   |         |     |        |     |         | 8,676  |        
|                                                                                  | Changes
in operating assets and liabilities, net of
effects from acquisition of businesses: |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |              |   |         |      |        |     |         |        |        
|                                                                                  |                                                                                             | Equity
in earnings of subsidiaries |         |                                                                                                                         | (15,685         | ) |            |        | (2,382        | ) |              |       |             |   |         |      | 18,067 | (a) |         |        |        |  
|                                                                                  |                                                                                             | Intercompany                       |         |                                                                                                                         | 57,169          |   |            |        | (53,564       | ) |              |       | (3,605       | ) |         |      |       |     |         |        |        |  
|                                                                                  |                                                                                             | Accounts
receivable                |         |                                                                                                                         | 118             |   |            |        | (23,468       | ) |              |       | (9,340       | ) |         |      |       |     |         |        | (32,690 | )
|                                                                                  |                                                                                             | Other
current assets               |         |                                                                                                                         | 168             |   |            |        | 1,266         |   |              |       | (626         | ) |         |      |       |     |         |        | 808     |  
|                                                                                  |                                                                                             | Other assets                       |         |                                                                                                                         | (1,629          | ) |            |        | 5,910         |   |              |       | (571         | ) |         |      |       |     |         |        | 3,710   |  
|                                                                                  |                                                                                             | Accounts
payable                   |         |                                                                                                                         | 2,078           |   |            |        | 4,369         |   |              |       | 1,396        |   |         |      |       |     |         |        | 7,843   |  
|                                                                                  |                                                                                             | Due
to third-party payors          |         |                                                                                                                         | (9,400          | ) |            |        | 14,914        |   |              |       | 3,301        |   |         |      |       |     |         |        | 8,815   |  
|                                                                                  |                                                                                             | Accrued
expenses                   |         |                                                                                                                         | 6,493           |   |            |        | 8,439         |   |              |       | 2,181        |   |         |      |       |     |         |        | 17,113  |  
|                                                                                  |                                                                                             | Income
taxes                       |         |                                                                                                                         | (9,229          | ) |            |        | 17,863        |   |              |       | (1,432       | ) |         |      |       |     |         |        | 7,202   |  
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Net
cash provided by operating activities                                         |                                                                                             |                                    | 51,472  |                                                                                                                         |                 |   | 29,240     |        |               |   | 4,733        |       |              |   |        |      |        |     | 85,445  |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Investing activities                                                              |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|Purchases
of property and equipment, net                                          |                                                                                             |                                    | (1,137  | )                                                                                                                       |                 |   | (13,128    | )      |               |   | (1,844       | )     |              |   |        |      |        |     | (16,109 | )     
|Proceeds
from disposal of assets                                                  |                                                                                             |                                    |        |                                                                                                                         |                 |   | 808        |        |               |   |             |       |              |   |        |      |        |     | 808     |       
|Earnout
payments                                                                  |                                                                                             |                                    |        |                                                                                                                         |                 |   | (4,842     | )      |               |   |             |       |              |   |        |      |        |     | (4,842  | )     
|Acquisition
of businesses, net of cash acquired                                   |                                                                                             |                                    | (15,425 | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (15,425 | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Net
cash used in investing activities                                             |                                                                                             |                                    | (16,562 | )                                                                                                                       |                 |   | (17,162    | )      |               |   | (1,844       | )     |              |   |        |      |        |     | (35,568 | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Financing activities                                                              |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |              |   |         |      |        |     |         |       
|Issuance
of 9.5% Senior Subordinated Notes                                        |                                                                                             |                                    | 175,000 |                                                                                                                         |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | 175,000 |       
|Net
repayments on credit facility debt                                            |                                                                                             |                                    | (99,962 | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (99,962 | )     
|Repayment
of 10% Senior Subordinated Notes                                        |                                                                                             |                                    | (90,000 | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (90,000 | )     
|Payment
of deferred financing fees                                                |                                                                                             |                                    | (4,681  | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (4,681  | )     
|Principal
payments on seller and other debt                                       |                                                                                             |                                    | (16,586 | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (16,586 | )     
|Proceeds
from initial public offering, net of fees                                |                                                                                             |                                    | 89,181  |                                                                                                                         |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | 89,181  |       
|Redemption
of Class A Preferred Stock                                             |                                                                                             |                                    | (52,838 | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (52,838 | )     
|Payment
of Class A and Class B Preferred Stock Dividends                          |                                                                                             |                                    | (19,248 | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (19,248 | )     
|Proceeds
from issuance of common stock                                            |                                                                                             |                                    | 38      |                                                                                                                         |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | 38      |       
|Proceeds
from (repayment of) bank overdrafts                                      |                                                                                             |                                    | 8,366   |                                                                                                                         |                 |   | (9,938     | )      |               |   | (2,768       | )     |              |   |        |      |        |     | (4,340  | )     
|Distributions
to minority interests                                               |                                                                                             |                                    |        |                                                                                                                         |                 |   | (680       | )      |               |   | (1,571       | )     |              |   |        |      |        |     | (2,251  | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Net
cash used in financing activities                                             |                                                                                             |                                    | (10,730 | )                                                                                                                       |                 |   | (10,618    | )      |               |   | (4,339       | )     |              |   |        |      |        |     | (25,687 | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Effect
of exchange rate changes on cash
and cash equivalents                      |                                                                                             |                                    | (107    | )                                                                                                                       |                 |   |           |        |               |   |             |       |              |   |        |      |        |     | (107    | )     
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Net
increase (decrease) in cash and cash equivalents                              |                                                                                             |                                    | 24,073  |                                                                                                                         |                 |   | 1,460      |        |               |   | (1,450       | )     |              |   |        |      |        |     | 24,083  |       
|Cash
and cash equivalents at beginning of period                                  |                                                                                             |                                    |        |                                                                                                                         |                 |   | 1,015      |        |               |   | 2,136        |       |              |   |        |      |        |     | 3,151   |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             
|Cash
and cash equivalents at end of period                                        |                                                                                             | $                                  | 24,073  |                                                                                                                         |                 | $ | 2,475      |        |               | $ | 686          |       |              | $ |        |      |        | $   | 27,234  |       
|                                                                                  |                                                                                             |                                    |         |                                                                                                                         |                 |   |            |        |               |   |              |       |             

(a) Elimination of equity in earnings of
subsidiary.

-19-



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##### 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 consolidated financial
statements and notes thereto contained in our Form 10-K filed with the
Securities Exchange Commission on March 5, 2002.

Forward Looking Statements

This discussion contains forward-looking statements relating to the
financial condition, results of operations, plans, objectives, future
performance and business of Select Medical Corporation. These statements
include, without limitation, statements preceded by, followed by or that
include the words believes, expects, anticipates, estimates or similar
expressions. These forward-looking statements involve risks and uncertainties.
Actual results may differ materially from those contemplated by the
forward-looking statements due to factors including the following:



| |  |  | a change in government reimbursement for our services that
would affect our revenue;                                                                           
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the failure of our long-term acute care hospitals to
maintain their status as such, which could negatively impact our
profitability;                           
|
| |  |  | a government investigation or assertion that we have
violated applicable regulations may result in increased costs and a
significant use of internal resources,
|
| |  |  | shortages in qualified nurses could increase our operating costs significantly;                                                                                
|
| |  |  | the effects of liability and other claims asserted against us;                                                                                                 
|
| |  |  | conditions in the malpractice insurance market may increase
the cost of malpractice insurance and force us to assume higher
self-insured retentions;           
|
| |  |  | private third party payors of our services may undertake
cost containment initiatives that would decrease our revenue, and                                     
|
| |  |  | future acquisitions may use significant resources and
expose us to unforeseen risks.                                                                           

For a discussion of these and other factors affecting our business, see the
section captioned Risk Factors in our Form 10-K under Item 1  Business.

Overview

We are a leading operator of specialty acute care hospitals for long term
stay patients in the United States. We are also the second largest operator of
outpatient rehabilitation clinics in the United States. As of September 30,
2002, we operated 68 specialty acute care hospitals in 22 states and 743
outpatient rehabilitation clinics in 32 states, the District of Columbia and
seven Canadian provinces. We began operations in 1997 under the leadership of
our current management team.

We operate through two business segments, our specialty acute care
hospital segment and our outpatient rehabilitation segment. For the three
months ended September 30, 2002, we had net operating revenues of $279.0
million. Of this total, we earned approximately 57% of our net operating
revenues from our specialty hospitals and approximately 43% from our outpatient
rehabilitation business.

Our specialty acute care hospital segment consists of hospitals designed
to serve the needs of long term stay acute patients. These patients typically
suffer from serious and often complex medical conditions that require a high
degree of care. Our outpatient rehabilitation business consists of clinics and
contract services that
provide physical, occupational and speech rehabilitation services. Our
patients are typically diagnosed with musculoskeletal impairments that restrict
their ability to perform normal activities of daily living.

-20-



---



##### Table of Contents



The following table sets forth operating statistics for our specialty
acute care hospitals and our outpatient rehabilitation clinics for each of the
periods presented. The data in the table reflect the changes in the number of
specialty acute care hospitals and outpatient rehabilitation clinics we operate
that resulted from acquisitions, start-up activities and closures. The
operating statistics reflect data for the period of time these operations were
managed by us.

|                               |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |           |     |  
|------------------------------ | ---------------------------------------- | ------------------------------------- | - | ------------------ | --- | ----------------- | - | ------- | -- | ---- | - | --------- | --- | - | - | --------- | --- | -
|                               |                                          |                                       |   | Three Months Ended |     | Nine Months Ended
|                               |                                          |                                       |   | September 30,      |     | September 30,    
|                               |                                          |                                       |   |                    |     |                  
|                               |                                          |                                       |   | 2002               |     | 2001              |   | 2002    |    | 2001
|                               |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|Specialty Hospital Data        |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|                              
|                              
|                              
|                              
|                               | # of Hospitals  Start of Period         |                                       |   | 66                 |     |                   |   | 58      |    |      |   | 64        |     |   |   | 54        |    
|                              
|                              
|                              
|                              
|                               |                                          | # of Hospital Start-ups               |   |                    | 2   |                   |   |         | 1  |      |   |           | 4   |   |   |           | 5   |  
|                               |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|                               | # of Hospitals  End of Period           |                                       |   | 68                 |     |                   |   | 59      |    |      |   | 68        |     |   |   | 59        |    
|                               |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|                               | # of Licensed Beds                       |                                       |   | 2,461              |     |                   |   | 2,152   |    |      |   | 2,461     |     |   |   | 2,152     |    
|                              
|                              
|                              
|                              
|                               | # of Admissions                          |                                       |   | 5,262              |     |                   |   | 4,320   |    |      |   | 15,492    |     |   |   | 12,735    |    
|                              
|                              
|                              
|                              
|                               | # of Patient Days                        |                                       |   | 155,105            |     |                   |   | 131,851 |    |      |   | 458,916   |     |   |   | 381,178   |    
|                              
|                              
|                              
|                              
|                               | Average Length of Stay                   |                                       |   | 30                 |     |                   |   | 31      |    |      |   | 30        |     |   |   | 30        |    
|                              
|                              
|                              
|                              
|                               | Net Revenue Per Patient Day (a)          |                                       | $ | 1,003              |     |                   | $ | 981     |    |      | $ | 994       |     |   | $ | 948       |    
|                              
|                              
|                              
|                              
|                               | Occupancy Rate                           |                                       |   | 69                 | %   |                   |   | 67      | %  |      |   | 71        | %   |   |   | 67        | %  
|                              
|                              
|                              
|                              
|                               | % Patient Days  Medicare                |                                       |   | 76                 | %   |                   |   | 74      | %  |      |   | 76        | %   |   |   | 75        | %  
|                              
|                              
|                              
|                              
|Outpatient Rehabilitation Data |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|                              
|                              
|                              
|                              
|                               | # of Clinics Owned  Start of Period     |                                       |   | 686                |     |                   |   | 623     |    |      |   | 664       |     |   |   | 636       |    
|                              
|                              
|                              
|                              
|                               |                                          | # of Clinics Acquired                 |   |                    | 2   |                   |   |         | 5  |      |   |           | 9   |   |   |           | 7   |  
|                              
|                              
|                              
|                              
|                               |                                          | # of Clinic Start-ups                 |   |                    | 14  |                   |   |         | 18 |      |   |           | 46  |   |   |           | 31  |  
|                              
|                              
|                              
|                              
|                               |                                          | # of Clinics Closed/Sold/Consolidated |   |                    | (13 | )                 |   |         | (7 | )    |   |           | (30 | ) |   |           | (35 | )
|                               |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|                               | # of Clinics Owned  End of Period       |                                       |   | 689                |     |                   |   | 639     |    |      |   | 689       |     |   |   | 639       |    
|                              
|                              
|                              
|                              
|                               | # of Clinics Managed  End of Period     |                                       |   | 54                 |     |                   |   | 49      |    |      |   | 54        |     |   |   | 49        |    
|                               |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|                               | Total # of Clinics (All)  End of Period |                                       |   | 743                |     |                   |   | 688     |    |      |   | 743       |     |   |   | 688       |    
|                               |                                          |                                       |   |                    |     |                   |   |         |    |      |   |           |     |   |   |          
|                               | # of Visits (U.S)                        |                                       |   | 957,517            |     |                   |   | 925,276 |    |      |   | 2,916,983 |     |   |   | 2,837,544 |    
|                              
|                              
|                              
|                              
|                               | Net Revenue Per Visit (U.S.) (b)         |                                       | $ | 87                 |     |                   | $ | 82      |    |      | $ | 86        |     |   | $ | 81        |    



---

|(a) |  | Net revenue per patient day is calculated by dividing specialty
hospital patient service revenues by the total number of patient
days.                                                                                                                                    
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(b) |  | 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 our Canadian subsidiary and contract
services revenue.

Our goal is to open approximately eight to ten new specialty acute care
hospitals each year utilizing our hospital within a hospital model. We also
intend to open new clinics in our current markets where we can benefit from
existing referral relationships and brand awareness to produce incremental
growth. From time to time, we also intend to evaluate acquisition
opportunities that may enhance the scale of our business and expand our
geographic reach.

-21-



---



##### Table of Contents



Sources of Revenue

Our net operating revenues are derived from a number of sources, including
commercial, managed care, private and governmental payors. Our net operating
revenues include amounts estimated by management to be reimbursable from each
of the applicable payors and the federal Medicare program. Amounts we receive
for treatment of patients are generally less than the standard billing rates.
We account for the differences between the estimated reimbursement rates and
the standard billing rates as contractual adjustments, which we deduct from
gross revenues to arrive at net operating revenues.

As of September 30, 2002, our specialty hospitals were paid by Medicare
under a cost-based reimbursement methodology. Beginning on October 1, 2002,
our hospitals will begin a transition to a prospective payment system. These
payments are subject to final cost report settlements based on administrative
review and audit by third parties. An annual cost report is filed for each
provider to report the cost of providing services and to settle the difference
between the interim payments we receive and final costs. We record adjustments
to the original estimates in the periods that such adjustments become known.
Because our routine payments from Medicare are different than the final
reimbursement due to us under the cost based reimbursement system, we record a
receivable or payable for the difference. At September 30, 2002 and December
31, 2001, we had a net amount due to Medicare of $17.5 million and $3.4 million
respectively. We recorded this amount as due to third party payors on our
balance sheet.

On August 30, 2002, the Centers for Medicare and Medicaid Services (CMS)
published a final rule establishing a prospective payment system for Medicare
payment of inpatient hospital services furnished by long-term acute care
hospitals such as ours. See Long Term Acute Care Hospital Medicare
Reimbursement.

Results of Operations

The following table outlines, for the periods indicated, selected
operating data as a percentage of net operating revenues.

|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  
|-------------------------------------------------- |  | ------------------ | ----- | ----------------- |  | ---- | ----- | ---- |  |  | ----- | - |  |  | ----- | -
|                                                   |  | Three Months Ended |       | Nine Months Ended
|                                                   |  | September 30,      |       | September 30,    
|                                                   |  |                    |       |                  
|                                                   |  | 2002               |       | 2001              |  | 2002 |       | 2001
|                                                   |  |                    |       |                   |  |      |       |     
|Net Operating revenues                             |  |                    | 100.0 | %                 |  |      | 100.0 | %    |  |  | 100.0 | % |  |  | 100.0 | %
|                                                  
|                                                  
|                                                  
|                                                  
|Cost of services (a)                               |  |                    | 82.8  | %                 |  |      | 81.6  | %    |  |  | 81.9  | % |  |  | 80.9  | %
|                                                  
|                                                  
|                                                  
|                                                  
|General and administrative                         |  |                    | 3.7   | %                 |  |      | 3.7   | %    |  |  | 3.5   | % |  |  | 3.7   | %
|                                                  
|                                                  
|                                                  
|                                                  
|Bad debt expense                                   |  |                    | 3.1   | %                 |  |      | 3.9   | %    |  |  | 3.3   | % |  |  | 3.7   | %
|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  
|EBITDA (b)                                         |  |                    | 10.4  | %                 |  |      | 10.8  | %    |  |  | 11.3  | % |  |  | 11.7  | %
|                                                  
|                                                  
|                                                  
|                                                  
|Depreciation and amortization                      |  |                    | 2.3   | %                 |  |      | 3.4   | %    |  |  | 2.3   | % |  |  | 3.4   | %
|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  
|Income from operations                             |  |                    | 8.1   | %                 |  |      | 7.4   | %    |  |  | 9.0   | % |  |  | 8.3   | %
|                                                  
|                                                  
|                                                  
|                                                  
|Interest expense, net                              |  |                    | 2.4   | %                 |  |      | 2.8   | %    |  |  | 2.4   | % |  |  | 3.2   | %
|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  
|Income before minority
interests, and income taxes |  |                    | 5.7   | %                 |  |      | 4.6   | %    |  |  | 6.6   | % |  |  | 5.1   | %
|                                                  
|                                                  
|                                                  
|                                                  
|Minority interests                                 |  |                    | 0.1   | %                 |  |      | 0.2   | %    |  |  | 0.2   | % |  |  | 0.4   | %
|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  
|Income before income taxes                         |  |                    | 5.6   | %                 |  |      | 4.4   | %    |  |  | 6.4   | % |  |  | 4.7   | %
|                                                  
|                                                  
|                                                  
|                                                  
|Income tax expense                                 |  |                    | 2.2   | %                 |  |      | 1.7   | %    |  |  | 2.5   | % |  |  | 1.8   | %
|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  
|Income before extraordinary item                   |  |                    | 3.4   | %                 |  |      | 2.7   | %    |  |  | 3.9   | % |  |  | 2.9   | %
|                                                  
|                                                  
|                                                  
|                                                  
|Extraordinary item                                 |  |                    |      | %                 |  |      |      | %    |  |  |      | % |  |  | 1.3   | %
|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  
|Net income                                         |  |                    | 3.4   | %                 |  |      | 2.7   | %    |  |  | 3.9   | % |  |  | 1.6   | %
|                                                   |  |                    |       |                   |  |      |       |      |  |  |       |   |  |  |       |  

-22-



---



##### Table of Contents



The following table summarizes selected financial data by business segment, for
the periods indicated.

|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |       |      |  
|----------------------------------------- | ------------------------- | ------------- | - | ------------------ | ---------------------- | ---- | - | ------------- | ------- | ----------------- |  | ----- | ---- | ------ | - | ------- | ------- |  | - | ------- | ------- |  |  | ----- | ---- | -
|                                          |                           |               |   | Three Months Ended |                        |      |   |               |         | Nine Months Ended |  |       |      |       
|                                          |                           |               |   | September 30,      |                        | %    |   | September 30, |         | %                
|                                          |                           |               |   | 2002               |                        | 2001 |   | Change        |         | 2002              |  | 2001  |      | Change
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |       
|                                          |                           |               |   |                    | (dollars in thousands)
|Net operating revenues:                   |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                         
|                                         
|                                         
|                                         
|                                          | Specialty hospitals       |               | $ | 155,637            |                        |      | $ | 129,442       |         |                   |  | 20.2  | %    |        | $ | 456,538 |         |  | $ | 361,627 |         |  |  | 26.2  | %   
|                                         
|                                         
|                                         
|                                         
|                                          | Outpatient rehabilitation |               |   | 119,179            |                        |      |   | 106,083       |         |                   |  | 12.3  |      |        |   | 363,512 |         |  |   | 326,715 |         |  |  | 11.3  |     
|                                         
|                                         
|                                         
|                                         
|                                          | Other                     |               |   | 4,167              |                        |      |   | 3,630         |         |                   |  | 14.8  |      |        |   | 11,125  |         |  |   | 10,100  |         |  |  | 10.1  |     
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                          |                           | Total company |   | $                  | 278,983                |      |   | $             | 239,155 |                   |  |       | 16.7 | %      |   | $       | 831,175 |  |   | $       | 698,442 |  |  |       | 19.0 | %
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|EBITDA: (b)                               |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                         
|                                         
|                                         
|                                         
|                                          | Specialty hospitals       |               | $ | 16,522             |                        |      | $ | 14,189        |         |                   |  | 16.4  | %    |        | $ | 49,470  |         |  | $ | 41,167  |         |  |  | 20.2  | %   
|                                         
|                                         
|                                         
|                                         
|                                          | Outpatient rehabilitation |               |   | 19,025             |                        |      |   | 17,421        |         |                   |  | 9.2   |      |        |   | 63,148  |         |  |   | 57,107  |         |  |  | 10.6  |     
|                                         
|                                         
|                                         
|                                         
|                                          | Other                     |               |   | (6,546             | )                      |      |   | (5,666        | )       |                   |  | (15.5 | )    |        |   | (19,375 | )       |  |   | (16,646 | )       |  |  | (16.4 | )   
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                          |                           | Total company |   | $                  | 29,001                 |      |   | $             | 25,944  |                   |  |       | 11.8 | %      |   | $       | 93,243  |  |   | $       | 81,628  |  |  |       | 14.2 | %
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|Income (loss) from operations:            |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                         
|                                         
|                                         
|                                         
|                                          | Specialty hospitals       |               | $ | 13,184             |                        |      | $ | 11,272        |         |                   |  | 17.0  | %    |        | $ | 39,937  |         |  | $ | 33,113  |         |  |  | 20.6  | %   
|                                         
|                                         
|                                         
|                                         
|                                          | Outpatient rehabilitation |               |   | 16,311             |                        |      |   | 13,595        |         |                   |  | 20.0  |      |        |   | 55,321  |         |  |   | 45,870  |         |  |  | 20.6  |     
|                                         
|                                         
|                                         
|                                         
|                                          | Other                     |               |   | (7,012             | )                      |      |   | (7,073        | )       |                   |  | 0.9   |      |        |   | (20,739 | )       |  |   | (21,184 | )       |  |  | 2.1   |     
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                          |                           | Total company |   | $                  | 22,483                 |      |   | $             | 17,794  |                   |  |       | 26.4 | %      |   | $       | 74,519  |  |   | $       | 57,799  |  |  |       | 28.9 | %
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|EBITDA margins: (b)                       |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                         
|                                         
|                                         
|                                         
|                                          | Specialty hospitals       |               |   | 10.6               | %                      |      |   | 11.0          | %       |                   |  | (3.6  | )%   |        |   | 10.8    | %       |  |   | 11.4    | %       |  |  | (5.3  | )%  
|                                         
|                                         
|                                         
|                                         
|                                          | Outpatient rehabilitation |               |   | 16.0               |                        |      |   | 16.4          |         |                   |  | (2.4  | )    |        |   | 17.4    |         |  |   | 17.5    |         |  |  | (0.6  | )   
|                                         
|                                         
|                                         
|                                         
|                                          | Other                     |               |   | N/M                |                        |      |   | N/M           |         |                   |  | N/M   |      |        |   | N/M     |         |  |   | N/M     |         |  |  | N/M   |     
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                          | Total company             |               |   | 10.4               | %                      |      |   | 10.8          | %       |                   |  | (3.7  | )%   |        |   | 11.2    | %       |  |   | 11.7    | %       |  |  | (4.3  | )%  
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|Total assets:                             |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                         
|                                         
|                                         
|                                         
|                                          | Specialty hospitals       |               | $ | 318,164            |                        |      | $ | 260,606       |         |                   |  |       |      |        | $ | 318,164 |         |  | $ | 260,606 |         |  |  |       |     
|                                         
|                                         
|                                         
|                                         
|                                          | Outpatient rehabilitation |               |   | 324,934            |                        |      |   | 309,374       |         |                   |  |       |      |        |   | 324,934 |         |  |   | 309,374 |         |  |  |       |     
|                                         
|                                         
|                                         
|                                         
|                                          | Other                     |               |   | 78,431             |                        |      |   | 56,216        |         |                   |  |       |      |        |   | 78,431  |         |  |   | 56,216  |         |  |  |       |     
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                          | Total company             |               | $ | 721,529            |                        |      | $ | 626,196       |         |                   |  |       |      |        | $ | 721,529 |         |  | $ | 626,196 |         |  |  |       |     
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|Purchases of property and
equipment, net: |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                         
|                                         
|                                         
|                                         
|                                          | Specialty hospitals       |               | $ | 5,908              |                        |      | $ | 2,519         |         |                   |  |       |      |        | $ | 18,348  |         |  | $ | 8,828   |         |  |  |       |     
|                                         
|                                         
|                                         
|                                         
|                                          | Outpatient rehabilitation |               |   | 4,067              |                        |      |   | 2,346         |         |                   |  |       |      |        |   | 8,994   |         |  |   | 6,112   |         |  |  |       |     
|                                         
|                                         
|                                         
|                                         
|                                          | Other                     |               |   | 882                |                        |      |   | 434           |         |                   |  |       |      |        |   | 1,463   |         |  |   | 1,169   |         |  |  |       |     
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      
|                                          | Total company             |               | $ | 10,857             |                        |      | $ | 5,299         |         |                   |  |       |      |        | $ | 28,805  |         |  | $ | 16,109  |         |  |  |       |     
|                                          |                           |               |   |                    |                        |      |   |               |         |                   |  |       |      |        |   |         |         |  |   |         |         |  |  |      

N/M  Not Meaningful

(a)  Cost of services include salaries, wages and benefits, operating
supplies, lease and rent expense and other operating costs.

(b)  We define EBITDA as income (loss) before interest, income taxes,
depreciation and amortization and other income, minority interest and
extraordinary items. EBITDA should not be considered as a measure of
financial performance under generally accepted accounting principles.
Items excluded from EBITDA are significant components in understanding and
assessing financial performance. EBITDA is a key measure used by
management to evaluate our operations and provides useful information to
investors. EBITDA should not be considered in isolation or as an
alternative to net income, cash flows generated

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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 EBITDA is not a
measurement determined in accordance with generally accepted accounting
principles and is susceptible to varying calculations, EBITDA as presented
may not be comparable to similarly titled measures of other companies.

The following table reconciles EBITDA to net income:

|                                 |  |                            |        |                           |  |                |        |      |  |   |         |   |  |   |         |  
|-------------------------------- |  | -------------------------- | ------ | ------------------------- |  | -------------- | ------ | ---- |  | - | ------- | - |  | - | ------- | -
|                                 |  | For the Three Months Ended |        | For the Nine Months Ended
|                                 |  | September 30,              |        | September 30,            
|                                 |  |                            |        |                          
|                                 |  | 2002                       |        | 2001                      |  | 2002           |        | 2001
|                                 |  |                            |        |                           |  |                |        |     
|                                 |  |                            |        |                           |  | (in thousands) |        |      |  |  
|EBITDA                           |  | $                          | 29,001 |                           |  | $              | 25,944 |      |  | $ | 93,243  |   |  | $ | 81,628  |  
|                                
|                                
|                                
|                                
|Depreciation and amortization    |  |                            | (6,518 | )                         |  |                | (8,150 | )    |  |   | (18,724 | ) |  |   | (23,829 | )
|                                
|                                
|                                
|                                
|Interest income                  |  |                            | 181    |                           |  |                | 102    |      |  |   | 388     |   |  |   | 382     |  
|                                
|                                
|                                
|                                
|Interest expense                 |  |                            | (6,875 | )                         |  |                | (7,026 | )    |  |   | (20,468 | ) |  |   | (22,548 | )
|                                
|                                
|                                
|                                
|Minority interest                |  |                            | (390   | )                         |  |                | (473   | )    |  |   | (1,563  | ) |  |   | (2,745  | )
|                                
|                                
|                                
|                                
|Income tax expense               |  |                            | (6,044 | )                         |  |                | (4,054 | )    |  |   | (20,744 | ) |  |   | (12,826 | )
|                                
|                                
|                                
|                                
|Extraordinary item, net of taxes |  |                            |       |                           |  |                |       |      |  |   |        |   |  |   | (8,676  | )
|                                 |  |                            |        |                           |  |                |        |      |  |   |         |   |  |   |         |  
|Net income                       |  | $                          | 9,355  |                           |  | $              | 6,343  |      |  | $ | 32,132  |   |  | $ | 11,386  |  
|                                 |  |                            |        |                           |  |                |        |      |  |   |         |   |  |   |         |  

Three Months Ended September 30, 2002 Compared to Three Months Ended September 30, 2001

Net Operating Revenues

Our net operating revenues increased by 16.7% to $279.0 million for the
three months ended September 30, 2002 compared to $239.2 million for the three
months ended September 30, 2001.

Specialty Acute Care Hospitals.Our specialty hospital net operating
revenues increased 20.2% to $155.6 million for the three months ended September
30, 2002 compared to $129.4 million for the three months ended September 30,
2001. Net operating revenues for the specialty hospitals opened before January
1, 2001 and operated throughout both periods increased 6.5% to $134.2 million
for the three months ended September 30, 2002 from $126.0 million for the three
months ended September 30, 2001. This resulted from a higher occupancy rate
and higher net revenue per patient day. The remaining increase of $18.0
million resulted from the internal development of new specialty hospitals that
commenced operations in 2001 and 2002.

Outpatient Rehabilitation.Our outpatient rehabilitation net operating
revenues increased 12.3% to $119.2 million for the three months ended September
30, 2002 compared to $106.1 million for the three months ended September 30,
2001. The increase was related to an increase in the number of visits, an
increase in the net revenue per visit experienced at our outpatient
rehabilitation locations and the additional revenues associated with
acquisitions that occurred within the last twelve months. These acquisitions
provided approximately $8.0 million of net operating revenue for the three
months ended September 30, 2002.

Other.Our other revenues increased to $4.2 million for the three months
ended September 30, 2002 compared to $3.6 million for the three months ended
September 30, 2001. The increase in other revenue reflects higher corporate
general and administrative costs in 2002, which resulted in higher Medicare
reimbursements for those costs.

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Operating Expenses

Our operating expenses increased by 17.2% to $250.0 million for the three
months ended September 30, 2002 compared to $213.2 million for the three months
ended September 30, 2001. Our operating expenses consist of our cost of
services, general and administrative expense and bad debt expense. The
increase in operating expenses was principally related to the internal
development of new specialty hospitals that commenced operations in 2001 and
2002, costs associated with the increased patient volumes and the operating
expenses associated with the acquisitions that occurred within the last twelve
months. As a percentage of our net operating revenues, our operating expenses
were 89.6% for the three months ended September 30, 2002 compared to 89.2% for
the three months ended September 30, 2001. Cost of services as a percentage of
operating revenues increased to 82.8% for the three months ended September 30,
2002 from 81.6% for the three months ended September 30, 2001. These costs
primarily reflect our labor expenses. This increase reflects the higher costs
of services as a percentage of revenue in our newly developed specialty
hospitals and an increase in our health insurance costs in our NovaCare
outpatient operations. During the same time period, general and administrative
expense as a percentage of net operating revenues were 3.7% for both the three
months ended September 30, 2002 and 2001. Our bad debt expense as a percentage
of net operating revenues was 3.1% for the three months ended September 30,
2002 compared to 3.9% for the three months ended September 30, 2001. This
decline in our relative bad debt percentage resulted from improvement in the
composition and age of our accounts receivable.

EBITDA

Our total EBITDA increased 11.8% to $29.0 million for the three months
ended September 30, 2002 compared to $25.9 million for the three months ended
September 30, 2001. Our EBITDA margins declined to 10.4% for the three months
ended September 30, 2002 compared to 10.8% for the three months ended September
30, 2001. The decline in margins is caused by the start-up losses and lower
margins incurred in our hospitals that have opened or have been developed since
December 31, 2000. We also experienced a decline in our outpatient margins due
to an increase in our health insurance costs in our NovaCare outpatient
operations. If we exclude the dilutive effect caused by the hospitals opened
or developed since December 31, 2000, our total EBITDA margins would be 11.6% for the
three months ended September 30, 2002 compared to 11.5% for the three months
ended September 30, 2001. For cash flow information, see -Capital Resources
and Liquidity.

Specialty Acute Care Hospitals.Our specialty hospital EBITDA increased
by 16.4% to $16.5 million for the three months ended September 30, 2002
compared to $14.2 million for the three months ended September 30, 2001. Our
EBITDA margins were 10.6% for the three months ended September 30, 2002
compared to 11.0% for the three months ended September 30, 2001. The decline
in margins is caused by the start-up losses and lower margins incurred in our
hospitals that have opened or have been developed since December 31, 2000. The
hospitals opened before January 1, 2001 and operated throughout both periods
had EBITDA of $17.5 million, an increase of 14.4% over the EBITDA for these
hospitals in the same period last year of $15.3 million. This increase in same
hospital EBITDA resulted from an increase in non-Medicare revenue per patient
day and a reduction in bad debt expense. Our EBITDA margin in these same store
hospitals increased to 13.1% from 12.2%.

Outpatient Rehabilitation.Our outpatient rehabilitation EBITDA
increased by 9.2% to $19.0 million for the three months ended September 30,
2002 compared to $17.4 million for the three months ended September 30, 2001.
Approximately $1.1 million of this increase was related to the EBITDA generated
by the acquisitions that occurred within the last twelve months. Our EBITDA
margins declined to 16.0% for the three months ended September 30, 2002 from
16.4% for the three months ended September 30, 2001. The reduction in EBITDA
margins was related to an increase in health insurance costs experienced in our
NovaCare outpatient operations.

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Other.Our other EBITDA loss increased to $6.5 million for the three
months ended September 30, 2002 compared to a loss of $5.7 million for the
three months ended September 30, 2001. This increase resulted from the higher
general and administrative costs needed to support the growth of the
organization, principally our new hospital development.

Income from Operations

Income from operations increased 26.4% to $22.5 million for the three
months ended September 30, 2002 compared to $17.8 million for the three months
ended September 30, 2001. The increase in income from operations resulted from
the EBITDA increases described above, and a reduction in amortization expense
of $2.2 million resulting from the adoption of FAS 142, and was offset by an
increase in depreciation expense. The increase in depreciation expense
resulted primarily from increases in depreciation on fixed asset additions that
are principally related to new hospital and clinic development.

Interest Expense

Interest expense remained relatively consistent between the two periods.
Interest expense was $6.9 million for the three months ended September 30, 2002
and $7.0 million for the three months ended September 30, 2001.

Minority Interests

Minority interests remained relatively consistent between the two periods.
Minority interests was $0.4 million for the three months ended September 30,
2002 compared to $0.5 million for the three months ended September 30, 2001.

Income Taxes

We recorded income tax expense of $6.0 million for the three months ended
September 30, 2002. The expense represented an effective tax rate of 39.2% and
approximates the federal and state statutory tax rates. We recorded income tax
expense of $4.1 million for the three months ended September 30, 2001. This
expense represented an effective tax rate of 39.0%.

Nine Months Ended September 30, 2002 Compared to Nine Months Ended September 30, 2001

Net Operating Revenues

Our net operating revenues increased by 19.0% to $831.2 million for the
nine months ended September 30, 2002 compared to $698.4 million for the nine
months ended September 30, 2001.

Specialty Acute Care Hospitals.Our specialty hospital net operating
revenues increased 26.2% to $456.5 million for the nine months ended September
30, 2002 compared to $361.6 million for the nine months ended September 30,
2001. Net operating revenues for the specialty hospitals opened before January
1, 2001 and operated throughout both periods increased 14.3% to $407.3 million
for the nine months ended September 30, 2002 from $356.4 million for the nine
months ended September 30, 2001. This resulted from a higher occupancy rate
and a higher net revenue per patient day. The remaining increase of $44.0
million resulted from the internal development of new specialty hospitals that
commenced operations in 2001 and 2002.

Outpatient Rehabilitation.Our outpatient rehabilitation net operating
revenues increased 11.3% to $363.5 million for the nine months ended September
30, 2002 compared to $326.7 million the nine months ended September 30, 2001.
The increase was related to an increase in the number of visits and the net
revenue per visit experienced at our outpatient rehabilitation locations and
the additional revenues associated with

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##### Table of Contents



acquisitions that occurred within the last twelve months. These
acquisitions provided approximately $24.6 million of net operating revenue for
the nine months ended September 30, 2002.

Other.Our other revenues increased to $11.1 million for the nine months
ended September 30, 2002 compared to $10.1 million for the nine months ended
September 30, 2001. The increase in other revenue reflects higher corporate
general and administrative costs in 2002, which resulted in higher Medicare
reimbursements for those costs.

Operating Expenses

Our operating expenses increased by 19.6% to $737.9 million for the nine
months ended September 30, 2002 compared to $616.8 million for the nine months
ended September 30, 2001. Our operating expenses consist of our cost of
services, general and administrative expense and bad debt expense. The
increase in operating expenses was principally related to the internal
development of new specialty hospitals that commenced operations in 2001, costs
associated with the increased patient volumes and the operating expenses
associated with the acquisitions that occurred within the last twelve months.
As a percentage of our net operating revenues, our operating expenses were
88.7% for the nine months ended September 30, 2002 compared to 88.3% for the
nine months ended September 30, 2001. Cost of services as a percentage of
operating revenues increased to 81.9% for the nine months ended September 30,
2002 from 80.9% for the nine months ended September 30, 2001. These costs
primarily reflect our labor expenses. This increase reflects the higher costs
of services as a percentage of revenue in our newly developed specialty
hospitals and an increase in our health insurance costs in our NovaCare
outpatient operations. During the same time period, general and administrative
expense as a percentage of net operating revenues decreased to 3.5% for the
nine months ended September 30, 2002 from 3.7% for the nine months ended
September 30, 2001. Our bad debt expense as a percentage of net operating
revenues was 3.3% for the nine months ended September 30, 2002 compared to 3.7%
for the nine months ended September 30, 2001. This decline in our relative bad
debt percentage resulted from improvement in the composition and age of our
accounts receivable.

EBITDA

Our total EBITDA increased 14.2% to $93.2 million for the nine months
ended September 30, 2002 compared to $81.6 million for the nine months ended
September 30, 2001. Our EBITDA margins declined to 11.2% for the nine months
ended September 30, 2002 compared to 11.7% for the nine months ended September
30, 2001. The decline in margins is caused by the start-up losses and lower
margins incurred in our hospitals that have opened or have been developed since
December 31, 2000. We also experienced a decline in outpatient margins due to
an increase in our health insurance costs in our NovaCare outpatient
operations. If we exclude the dilutive effect caused by the hospitals opened
or developed since December 31, 2000, our total EBITDA margins would be 12.5% for the
nine months ended September 30, 2002 compared to 12.3% for the nine months
ended September 30, 2001. For cash flow information, see -Capital Resources
and Liquidity.

Specialty Acute Care Hospitals.Our specialty hospital EBITDA increased
by 20.2% to $49.5 million for the nine months ended September 30, 2002 compared
to $41.2 million for the nine months ended September 30, 2001. Our EBITDA
margins were 10.8% for the nine months ended September 30, 2002 compared to
11.4% for the nine months ended September 30, 2001. The decline in margins is
caused by the start-up losses and lower margins incurred in our hospitals that
have opened or have been developed since December 31, 2000. The hospitals
opened before January 1, 2001 and operated throughout both periods had EBITDA
of $53.9 million, an increase of 20.6% over the EBITDA of these hospitals in
the same period last year of $44.7 million. This increase in same hospital
EBITDA resulted from an increase in non-Medicare patient days and its
associated increased revenue per patient day. Our EBITDA margin in these same
store hospitals increased to 13.2% from 12.5%.

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Outpatient Rehabilitation.Our outpatient rehabilitation EBITDA
increased by 10.6% to $63.1 million for the nine months ended September 30,
2002 compared to $57.1 million for the nine months ended September 30, 2001.
Approximately $3.2 million of this increase was related to the EBITDA generated
by the acquisitions that occurred within the last twelve months. Our EBITDA
margins were 17.4% for the nine months ended September 30, 2002 from 17.5% for
the nine months ended September 30, 2001. This decline resulted from a
reduction in EBITDA margins that occurred in the current quarter and was
related to an increase in health insurance costs experienced in our NovaCare
outpatient operations.

Other.Our other EBITDA loss increased to $19.4 million for the nine
months ended September 30, 2002 compared to a loss of $16.6 million for the
nine months ended September 30, 2001. This increase resulted from the higher
general and administrative costs needed to support the growth of the
organization, principally our new hospital development.

Income from Operations

Income from operations increased 28.9% to $74.5 million for the nine
months ended September 30, 2002 compared to $57.8 million for the nine months
ended September 30, 2001. The increase in income from operations resulted from
the EBITDA increases described above, and a reduction in amortization expense
of $6.7 million resulting from the adoption of FAS 142, which was offset by an
increase in depreciation expense. The increase in depreciation expense
resulted primarily from increases in depreciation on fixed asset additions that
are principally related to new hospital development.

Interest Expense

Interest expense decreased by $2.0 million to $20.5 million for the nine
months ended September 30, 2002 from $22.5 million for the nine months ended
September 30, 2001. The decline in interest expense is due to the lower debt
levels outstanding in 2002 compared to 2001 and a lower effective interest rate
in 2002. The lower debt levels resulted from the scheduled term amortization
payments under our credit facility and the repayment of all borrowings under
the revolving portion of the credit facility. All repayments have been made
with cash flows generated through operations.

Minority Interests

Minority interests in consolidated earnings decreased by 43.1% to $1.6
million for the nine months ended September 30, 2002 compared to $2.7 million
for the nine months ended September 30, 2001. This decrease resulted from a
smaller percentage of ownership held by minority interests. The terms of our
agreements with some of our minority owners allowed them to sell their minority
interests back to us upon the completion of our initial public offering which
occurred on April 10, 2001. We completed the purchase of these minority
interests between May 2001 and October 2001.

Income Taxes

We recorded income tax expense of $20.7 million for the nine months ended
September 30, 2002. The expense represented an effective tax rate of 39.2% and
approximates the federal and state statutory tax rates. We recorded income tax
expense of $12.8 million for the nine months ended September 30, 2001. This
expense represented an effective tax rate of 39.0%.

Extraordinary Item

We recorded an extraordinary charge in the nine months ended September 30,
2001. The extraordinary item consists of $1.3 million of unamortized deferred
financing costs related to the repayment of our U.S. term loan and $12.9
million of deferred financing costs and unamortized discount related to the
repayment of our 10% Senior Subordinated Notes. These costs were offset by a
tax benefit of $5.5 million.

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Capital Resources and Liquidity

For the nine months ended September 30, 2002 operating activities provided
$102.8 million of cash flow compared to $85.4 million for the nine months ended
September 30, 2001. Our accounts receivable days outstanding were 76 days at
September 30, 2002 compared to 77 days at December 31, 2001 and 79 days at
September 30, 2001.

Investing activities used $37.1 and $35.6 million of cash flow for the
nine months ended September 30, 2002 and 2001, respectively. This usage
resulted from purchases of property and equipment of $28.8 and $16.1 million in
2002 and 2001, respectively. The majority of this expenditure relates to new
hospital and clinic development. Additionally, we incurred earnout related
payments of $0.6 million and $4.8 million in 2002 and 2001, respectively. We
incurred acquisition payments of $7.8 million and $15.4 million in 2002 and
2001, respectively.

Financing activities used $16.4 and $25.7 million of cash for the nine
months ended September 30, 2002 and 2001, respectively. This was due
principally to the repayment of credit facility, seller and other debt.

Capital Resources

Net working capital increased to $129.8 million as of September 30, 2002
compared to $126.7 million at December 31, 2001. At September 30, 2002 we have
$60.0 in cash and cash equivalents compared to $10.7 million at December 31,
2001.

We have a credit agreement with a group of banks. Our credit facility
consists of a term facility of $79.8 million and a revolving credit facility
of $152.4 million. As of September 30, 2002 we had borrowed all of our
available loans under the U.S. and Canadian term loans and had availability to
borrow an additional $147.8 million under our revolving credit facility subject
to certain limitations. We have $4.6 million outstanding under letters of
credit issued through the credit facility. The revolving facility terminates
in 2005.

Borrowings under the credit agreement bear interest at a fluctuating rate
of interest based upon financial covenant ratio tests. As of September 30,
2002, our weighted average interest rate under our credit agreement was
approximately 7.5%. A portion of the amount borrowed under our U.S. term loan
portion of our credit agreement is hedged through an interest rate swap
transaction, which fixes the rate paid through March 31, 2003. See Item 3,
Quantitative and Qualitative Disclosures on Market Risk for a discussion of
our floating interest rates on borrowings under our credit facility.

We are required to pay a quarterly
commitment fee at a rate that ranges from .375% to .500%, based upon financial covenant ratio tests. This fee applies to
unused commitments under the revolving credit facility.
The terms of the credit agreement include various restrictive covenants. These
covenants include:

  restrictions against incurring additional indebtedness,

  disposing of assets,

  incurring capital expenditures,

  making investments,

  restrictions against paying certain dividends,

  engaging in transactions with affiliates,

  incurring contingent obligations, and

  allowing or causing fundamental changes.

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The covenants also require us to maintain various financial ratios
regarding total indebtedness, interest,
fixed charges and net worth. The borrowings are secured by substantially all of
the tangible and intangible
assets of us and our subsidiaries, including all of the capital stock of our
domestic subsidiaries and 65% of the
capital stock of our direct foreign subsidiaries. In addition, the loans have
been guaranteed by our domestic
subsidiaries.

On June 11, 2001, we issued and sold $175.0 million aggregate principal
amount of 9 1/2% senior
subordinated notes due June 15, 2009. The notes were issued under an indenture
dated as of June 11, 2001
between us and State Street Bank and Trust Company, N.A., as Trustee. Interest
on the notes is payable semiannually in arrears on June 15 and December 15 of
each year. The notes are unsecured senior subordinated obligations of Select
Medical, are subordinated in right of payment to all existing and future senior
indebtedness of Select Medical, and are senior in right of payment to all
future subordinated indebtedness of Select Medical. The notes are guaranteed on
a senior subordinated basis by all of our wholly-owned domestic subsidiaries,
subject to certain exceptions. On or after June 15, 2005, the notes may be
redeemed at our option, in whole or in part, at redemption prices that decline
annually to 100% on and after June 15, 2008, plus accrued and unpaid interest.

Upon a change of control of Select Medical, each holder of notes may
require us to repurchase all or
any portion of the holders notes at a purchase price equal to 101% of the
principal amount plus accrued and
unpaid interest to the date of purchase. The indenture contains certain
covenants that, among other things, limit
the incurrence of additional debt by Select Medical and certain of its
subsidiaries; the payment of dividends on
capital stock of Select Medical and the purchase, redemption or retirement of
capital stock or subordinated
indebtedness; investments; certain transactions with affiliates; sales of
assets, including capital stock of
subsidiaries; and certain consolidations, mergers and transfers of assets. The
indenture also prohibits certain
restrictions on distributions from certain subsidiaries. All of these
limitations and prohibitions, however, are subject to a number of
qualifications.

We believe that existing cash balances, internally generated cash flows
and borrowings under our revolving credit facility will be sufficient to
finance acquisitions, capital expenditures and working capital requirements for
at least the next twelve months. Our goal is to open eight to ten hospitals
during 2002. A new specialty hospital has historically required approximately
$3.4 million per hospital over the initial year of operations to fund leasehold
improvements, equipment, start-up losses and working capital. From time to
time, we may complete acquisitions of specialty hospitals and outpatient
rehabilitation businesses. We currently have approximately $148 million of
unused capacity under our revolving credit facility which can be used for
acquisitions. Based on the size of the acquisition, approval of the
acquisition by our lenders may be required. If funds required for future
acquisitions exceed this capacity, we will need to increase our credit
facilities or obtain additional capital by other means.

Inflation

The health care industry is labor intensive. Wages and other expenses
increase during periods of inflation and when labor shortages occur in the
marketplace. In addition, suppliers pass along rising costs to us in the form
of higher prices. We have implemented cost control measures, including our case
and resource management program, to curtail increases in operating costs and
expenses. We have, to date, offset increases in operating costs by increasing
reimbursement for services and expanding services. However, we cannot predict
our ability to cover or offset future cost increases.

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Recent Accounting Pronouncements

In June 2002, the Financial Accounting Standards Board (FASB) issued SFAS
No. 146,  Accounting for Costs Associated with Exit or Disposal Activities.
SFAS No. 146 requires recording costs associated with exit or disposal
activities at their fair values when a liability has been incurred. Under
previous guidance, certain exit costs were accrued upon managements commitment
to an exit plan, which is generally before an actual liability has been
incurred. Adoption of SFAS No. 146 is required with the beginning of fiscal
year 2003. We do not anticipate a significant impact on its results of
operations from adopting this Statement.

In April 2002, the Financial Accounting Standards Board (FASB) issued SFAS
No. 145 Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections. As a result of rescinding SFAS
No. 4, Reporting Gains and Losses from Extinguishment of Debt, the
requirement that gains and losses from the extinguishment of debt be aggregated
and, if material, classified as an extraordinary item, net of the related
income tax effect is eliminated. We reported extraordinary items in 1999, 2000
and 2001 as a result of debt extinguishments. The provisions of SFAS 145 that
affect us are effective for fiscal periods beginning after May 15, 2002
although, early adoption of SFAS 145 is permitted. We believe that the adoption
of SFAS 145 will require us to reclassify our extraordinary items recorded in
1999, 2000 and 2001 to the other income and expense category of our
consolidated statement of operations.

In October 2001, the Financial Accounting Standards Board approved SFAS
No. 144 Accounting for the Impairment or Disposal of Long-Lived Assets which
is effective for financial statements issued for fiscal years beginning after
December 15, 2001. SFAS 144 supersedes the accounting provisions of APB 30
that address the disposal of a segment of a business and requires that such
long-lived assets be reported at fair value less cost to sell. SFAS 144
requires that long-lived assets to be abandoned, exchanged for similar
productive assets or distributed to owners in a spin-off be considered held for
use until they are abandoned, exchanged or distributed. It also eliminates the
exception to consolidation for a subsidiary while control is expected to be
temporary. We adopted SFAS 144 on January 1, 2002 with no material effect on
net income.

In June 2001, the Financial Accounting Standards Board issued No. 142
Goodwill and Other Intangible Assets which we adopted on January 1, 2002.
This accounting standard eliminates the periodic amortization of goodwill, and
instead requires an annual impairment testing of goodwill and introduces the
concept of indefinite life intangible assets. There was no asset impairment
recognized by Select upon the adoption of this accounting standard. If the new
standard had been in effect in 2001, pre-tax amortization expense for the three
months and nine months ended September 30, 2001 would have been $2.2 million
and $6.7 million less, respectively. This would have increased fully diluted
earnings per share by approximately $0.03 and $0.09 for the three and nine
months ended September 30, 2001, respectively.

Long Term Acute Care Hospital Medicare Reimbursement

On August 30, 2002, the Centers for Medicare & Medicaid Services (CMS)
published final regulations establishing a prospective payment system for
Medicare payment of long-term acute care hospitals (LTCH-PPS), which replaces
the reasonable cost-based payment system previously in effect. Under LTCH-PPS,
each discharged patient will be assigned to a distinct long-term care
diagnosis-related group (LTC-DRG), and a long-term acute care hospital will
generally be paid a pre-determined fixed amount applicable to the assigned
LTC-DRG (adjusted for area wage differences). As required by Congress, LTC-DRG
payment rates have been set to maintain budget neutrality with total
expenditures that would have been made under the reasonable cost-based payment
system.

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LTCH-PPS will be phased in over a five-year period, during which a
long-term care hospital will be paid a blended amount consisting of set
percentages of the LTC-DRG payment rate and the hospitals reasonable
cost-based reimbursement. The LTC-DRG payment will be 20% for a hospitals
cost reporting period beginning on or after October 1, 2002, and will increase
by 20% for each cost reporting period thereafter until the hospitals cost
reporting period beginning on or after October 1, 2006, when the hospital will
be paid solely on the basis of LTC-DRG payments. A long-term acute care
hospital may elect to be paid solely on the basis of LTC-DRG payments (and not
be subject to the transition period) at the start of any of its cost reporting
periods during the transition period.

The LTCH-PPS regulations refined the criteria that must be met in order
for a hospital to be classified as a long-term acute care hospital that is
exempt from the prospective payment system applicable to short-term acute care
hospitals. For cost reporting periods beginning on or after October 1, 2002, a
long-term acute care hospital must have an average inpatient length of stay for
Medicare patients (including both Medicare covered and non-covered days) of
greater than 25 days. Previously, average lengths of stay were measured with
respect to all patients. We currently believe that each of our long
term acute care hospitals will meet this requirement.

Under the LTCH-PPS, it may be possible for our hospitals to experience
enhanced financial performance. However, there are risks associated with
transitioning to the new payment system. We believe that the conversion to the
new payment system will be accretive to our earnings, but we are still
assessing the potential impact of the LTCH-PPS.

Medical and Professional Malpractice Insurance

In recent years, physicians, hospitals and other healthcare providers have
become subject to an increasing number of legal actions alleging malpractice,
product liability or related legal theories. Many of these actions involve
large claims and significant defense costs. To protect ourselves from the cost
of these claims, we maintain professional malpractice liability insurance and
general liability insurance in amounts and with deductibles that we believe to
be sufficient for our operations. During the last year, unfavorable pricing
and availability trends have emerged in the professional liability insurance
market and the insurance market in general that have caused the cost of
professional liability coverage to increase dramatically. Many insurance
underwriters have become more selective in the insurance limits and types of
coverage they will provide as a result of the September 11 terrorist attacks,
rising settlement costs and the significant failures of some nationally known
insurance underwriters, such as PHICO Insurance Company, which provided us
medical malpractice coverage from June 1998 to December 2000. In some
instances, insurance underwriters will no longer issue new policies in certain
states that have a history of high medical malpractice awards. As a result, we
are observing that insurance underwriters are increasing premiums and
increasing deductibles and self-insured retentions on new policies that they
are issuing. Our current insurance policies will expire on December 31, 2002.
We cannot provide any assurance that we will be able to renew our current
professional liability insurance with terms and coverage consistent with our
current coverage. We would expect to experience increased premium costs and be
forced to accept increased deductibles or self-insured retentions in order to
provide insurance coverage at a reasonable cost.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to interest rate changes, primarily as a result of floating
interest rates on borrowings under our credit facility. A change in interest
rates by one percentage point on variable rate debt would have resulted in
interest expense fluctuating approximately $0.1 million and $0.2 million for
the three and nine months ended September 30, 2002, respectively. As required
by our credit agreement, on March 30, 2001, we entered into an interest rate
swap agreement that fixes the interest rate cost to us on a portion of the U.S.
term loans outstanding under our credit facility for a period of four years.
The swap became effective on April 27, 2001. In January 2002 we amended the
swap to mature in March 2003. The fixed rate portion of all of our outstanding
U.S. term loans was 91% as of September 30, 2002.

Approximately 17% of our term-loan borrowings under our credit agreement
are denominated in Canadian dollars. Although we are not required by our
credit agreement to maintain a hedge on our foreign currency risk, we have
entered into a five year agreement that allows us to limit the cost of Canadian
dollars to a range of U.S.$0.6631 to U.S.$0.6711 per Canadian dollar to limit
our risk on the potential fluctuation in the exchange rate of the Canadian
dollar to the U.S. dollar.




ITEM 4. CONTROLS AND PROCEDURES

Within 90 days prior to the filing date of this report, we carried out an
evaluation, under the supervision and with the participation of our principal
executive officer and principal financial officer, of the effectiveness of the
design and operation of our disclosure controls and procedures. Based on this
evaluation, our principal executive officer and principal financial officer
concluded that our disclosure controls and procedures are effective in timely
alerting them to material information required to be included in our periodic
SEC reports. It should be noted that the design of any system of controls is
based in part upon certain assumptions about the likelihood of future events,
and there can be no assurance that any design will succeed in achieving its
stated goals under all potential future conditions, regardless of how remote.
In addition, we reviewed our internal controls, and there have been no
significant changes in our internal controls or in other factors that could
significantly affect those controls subsequent to the date of their last
evaluation.




PART II OTHER INFORMATION




ITEM 1. LEGAL PROCEEDINGS

On August 10, 1998 a complaint in the U.S. District Court for the Eastern
District of Pennsylvania was filed that named as defendants, NovaCare, Inc.
(now known as NAHC, Inc.), other named defendants and 100 defendants who were
to be named at a later time. This qui tamaction sought triple damages and
penalties under the False Claims Act against NAHC. The allegations involve,
among other things, the distinction between individual and group billing in
physical rehabilitation clinics that we acquired from NovaCare. On October 16,
2000 the relator plaintiff made a motion to amend the complaint to, among other
things, add Select Medical Corporation and some of its subsidiaries acquired in
the NovaCare acquisition as defendants in this case. This motion was granted
in September of 2001. The amended complaint alleges that from about January 1,
1995 through the present, the defendants submitted false or fraudulent bills
for physical therapy to various federal health programs. On January 3, 2002,
NAHC and its related subsidiaries (including the subsidiaries acquired in the
NovaCare acquisition) entered in to a settlement agreement with the relator
plaintiff and the government, pursuant to which, in exchange for a payment by
NAHC of $375,000, the parties settled all claims arising out of
conduct that took place before Select Medicals acquisition of the
NovaCare subsidiaries that are defendants in

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the case. Claims against the
Company and the NovaCare subsidiaries regarding alleged conduct occurring after
the NovaCare acquisition were not covered by the settlement. In September
2002, Select learned that the United States Attorney for the Eastern District
of Pennsylvania had notified the court that the United States had decided not
to intervene in this case. As of October 31, 2002, Select and the subsidiaries
have not been served with the amended complaint. Based on a review of the
amended complaint, we do not believe that this lawsuit is meritorious, and we
intend to vigorously defend against this action if it is pursued by the relator
plaintiff. However, because of the uncertain nature of the litigation, we
cannot predict the outcome of this matter.

In addition, as part of our business, we are subject to legal actions
alleging liability on our part. To cover claims arising out of the operations
of our hospitals and outpatient rehabilitation facilities, we generally
maintain professional malpractice liability insurance and general liability
insurance in amounts and with deductibles that we believe to be sufficient for
our operations. We also maintain umbrella liability coverage covering claims
which, due to their nature or amount, are not covered by our insurance
policies. We cannot assure you that professional liability insurance will
cover all claims against us or continue to be available at reasonable costs for
us to maintain adequate levels of insurance. These insurance policies also do
not cover punitive damages.




ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

None.




ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable.




ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None




ITEM 5. OTHER INFORMATION

None.




ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

a.     Exhibits

|                                                                                        
|----------------------------------------------------------------------------------------
|The exhibits to this report are listed in the Exhibit Index
appearing on page 38 hereof.

b.     Reports on Form 8-K

|                                                                                                                                                                                                                                                                                                                    
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Form 8-K dated August 29, 2002, pursuant to Item 9, in
connection with the certifications of our Chief Executive
Officer and Chief Financial Officer required by Section 906 of
the
Sarbanes-Oxley Act of 2002 which accompanied our Form 10-Q for
the quarter ended June 30, 2002, in accordance with Regulation
FD
|                                                                                                                                                                                                                                                                                                                    
|Form 8-K, dated August 27, 2002, pursuant to Item 9, in
connection with our press release reaffirming guidance for the
quarter ended September 30, 2002 and the year ended December
31, 2002, in accordance with Regulation FD                                                                                      

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.

| |  |                            |  |                                                                                                          
| |  | -------------------------- |  | ---------------------------------------------------------------------------------------------------------
| |  | SELECT MEDICAL CORPORATION
|
|
|
|
| |  |                            |  |                                                                                                          
|
|
|
|
| |  | By:                        |  | /s/ Martin F. Jackson                                                                                    
| |  |                            |  |                                                                                                          
| |  |                            |  | Martin F. Jackson
Senior Vice President and Chief Financial
Officer
(Duly Authorized Officer)            
|
|
|
|
| |  |                            |  |                                                                                                          
|
|
|
|
| |  | By:                        |  | /s/ Scott A. Romberger                                                                                   
| |  |                            |  |                                                                                                          
| |  |                            |  | Scott A. Romberger
Vice President, Chief Accounting Officer
and Controller
(Principal Accounting Officer)

Dated: November 13, 2002

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CERTIFICATION OF CHIEF EXECUTIVE OFFICER

I, Robert A. Ortenzio, President and Chief Executive Officer of Select Medical
Corporation, certify that:



|1. |  | I have reviewed this quarterly report on Form 10-Q of Select Medical
Corporation;                                                                                                                                                                                                                                             
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|2. |  | Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
|  
|3. |  | Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;                   
|  
|4. |  | The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we
have:                                                                                                      



| | a) |  | designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | evaluated the effectiveness of the registrants disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the Evaluation Date); and                                                                                                  
|
| | c) |  | presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|5. |  | The registrants other certifying officer and I have disclosed, based
upon our most recent evaluation, to the registrants auditors and the
audit committee of the registrants board of directors (or persons
fulfilling the equivalent function):
|-- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrants ability to
record, process, summarize and report financial data and have identified
for the registrants auditors any material weaknesses in internal
controls; and
| | -- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrants internal
controls; and                                                                                                                                        



|6. |  | The registrants other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
|-- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                                                                                
|--------------------------------------------------------------------------------
|Date:  November 13,
2002                                                        
|                                                                                
|/s/ Robert A. Ortenzio

Robert A. Ortenzio
President and Chief Executive Officer

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CERTIFICATION OF CHIEF FINANCIAL OFFICER

I, Martin F. Jackson, Senior Vice President and Chief Financial Officer of
Select Medical Corporation, certify that:



|1. |  | I have reviewed this quarterly report on Form 10-Q of Select Medical
Corporation;                                                                                                                                                                                                                                             
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|2. |  | Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
|  
|3. |  | Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;                   
|  
|4. |  | The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we
have:                                                                                                      



| | a) |  | designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | evaluated the effectiveness of the registrants disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the Evaluation Date); and                                                                                                  
|
| | c) |  | presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|5. |  | The registrants other certifying officer and I have disclosed, based
upon our most recent evaluation, to the registrants auditors and the
audit committee of the registrants board of directors (or persons
fulfilling the equivalent function):
|-- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrants ability to
record, process, summarize and report financial data and have identified
for the registrants auditors any material weaknesses in internal
controls; and
| | -- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrants internal
controls; and                                                                                                                                        



|6. |  | The registrants other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
|-- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                                                                                          
|------------------------------------------------------------------------------------------
|Date:  November 13,
2002                                                                  
|                                                                                          
|/s/ Martin F. Jackson

Martin F. Jackson
Senior Vice President and Chief Financial Officer

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EXHIBIT INDEX

|        |  |                                                                                                                                                                       
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  | Description                                                                                                                                                           
|        |  |                                                                                                                                                                       
|10.1    |  | Amended and Restated Cost Sharing Agreement dated as of August 16, 2002
by and among Select Medical Corporation, Select Transport, Inc. and Select
Air II Corporation.
|       
|       
|       
|       
|        |  |                                                                                                                                                                       
|       
|       
|       
|       
|10.2    |  | Stock Purchase Agreement dated as of September 16, 2002 by and among
Rocco A. Ortenzio, Robert A. Ortenzio, Select Medical Corporation and
Select Air II Corporation. 
|       
|       
|       
|       
|        |  |                                                                                                                                                                       
|       
|       
|       
|       
|10.3    |  | Mutual Termination of Consulting Agreement dated as of September 26, 2002
between Select Medical Corporation and LeRoy S. Zimmerman.                                  

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