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Select Medical Holdings (SEM)

Q4 2009 Earnings Call

February 19, 2010 11:00 AM ET

Executives

Robert A. Ortenzio - Chief Executive Officer

Martin F. Jackson - Chief Financial Officer

Analysts

Frank Morgan - RBC Capital Markets

Whit Mayo - Robert W. Baird & Co.

Kevin Fischbeck - BofA Merrill Lynch

Gary Lieberman – Wells Fargo

Doug Simpson - Morgan Stanley

Miles Highsmith - RBC Capital

Elie Radinsky – Summit Securities Group

Operator

Good day ladies and gentlemen, and welcome to the Select Medical Holdings Corporation Earnings Conference Call. My name is Marge and I will be your coordinator for today. At this time all participants are in a listen-only mode. Following the prepared remarks there will be a question-and-answer session. (Operator Instructions). As a reminder this conference is being recorded for replay purposes.

Before we begin the company has asked me to read the following statement. Today’s presentation by managements contain forward-looking statements within the meaning of Securities and Exchange Act of 1934.

These forward-looking statements represent the company’s present expectations or belief concerning future events. The company cautions that such statements are necessarily based on certain assumptions which are subject to risk and uncertainties, which could cause actual results to differ materially from those indicated today.

These risk factors include changes in general economic conditions, recent geopolitical events, increased competition, work stoppages and slowdown, exchange rates, fluctuations, variations in the mix of products sold, fluctuations in effect tax rate resulting from in sources of income and the ability to successfully integrate and operate accurate businesses.

Further information on these risks factors is included in the company’s filing with the Securities and Exchange Commission.

I would now like to turn the presentation over to Mr. Robert Ortenzio, CEO of Select Medical. Please proceed sir.

Robert Ortenzio

Thank you. Good morning everyone and thanks for joining us for Select Medical Holding's fourth quarter and full year earnings conference call for 2009. Apart from prepared remarks I will provide some overall highlights for the company and our operating divisions and then I’ll ask Marty Jackson, our Chief Financial Officer to go over some additional financial details before opening the call up for questions.

Net revenue for the fourth quarter increased 4.8% to $473.5 million compared to the same quarter last year. For the full year, net revenues increased 4% to $2.24 billion compared to the pervious year.

For both the fourth quarter and the full year we generated approximately 70% of our revenues from our specialty hospital segment, which includes both our long-term acute care and our in-patient rehabilitation hospitals and 30% from our outpatient rehabilitation segment.

Specialty hospital net revenue for the fourth quarter increased 4.6% to $401.4 million compared to the same quarter last year. This increase was driven by both volume and pricing increases. In the fourth quarter admissions increased 6%, patient days increased 3.4% and net revenue per patient day was up 1.3% compared to the same quarter last year.

The increase in volume was driven by both increases in our same stores hospitals as well as hospitals added in 2008 and 2009. Our same store hospitals experienced 3.9% growth in admissions and 1.4% increase in patient days compared to the same quarter last year.

For the full year, specialty hospital net revenue increased 4.7% to $1.56 billion compared to the previous year. This increase was driven by both volume and pricing increases.

Admissions increased 3.6%, patient days increased 1% and net revenue per patient day was up 3.7% compared to the previous year. Volume increases where the result of increases in our hospitals added in 2008 and 2009.

Net revenue on our outpatient rehab segment for the fourth quarter increased 5.4% to $172.1 million compared with the same quarter last year. This increase resulted from additional revenue in our contract services business, a 1.2% increase in our clinic visit volumes and 1% increase in our revenue per visit in our clinics compared to the same quarter last year.

For the full year, outpatient rehab net revenue increased 2.6% to $681.9 million compared to the previous year. Increases in our contract services business was a driving factor behind the increase more than offsetting a 0.7% reduction in our clinic based revenues, which was visit volume driven compared to the previous year.

Overall adjusted EBITDA for the fourth quarter increased 14.9% to $87.9 million compared to the same quarter last year, with an overall adjusted EBITDA margin at 15.3% for the fourth quarter, compared to 14% margins for the same quarter last year.

For the full year overall adjusted EBITDA increased 22.2% to $330.2 million compared to the previous year. Adjusted EBIDTA margins for the year were 14.7% compared to 12.6% in the previous year.

Specialty hospital adjusted EBIDTA for the fourth quarter increased 13.8% to $78.2 million compared to $68.8 million in the same quarter last year.

Adjusted EBITDA margins for the specialty hospital segment increased 160 basis points to 19.5% compared to the same quarter last year. The majority of the growth in the adjusted EBITDA and margin for the segment was the result of the financial improvement of hospitals added in 2008.

For the full year, specialty hospital adjusted EBITDA increased 22.8% to $290.4 million compared to the previous year. Adjusted EBITDA margins were 18.6% for the year compared to 15.9% in the prior year.

The adjusted EBITDA improvement was the result of both the adjusted EBITDA contribution from the new hospitals opened and acquired in 2008 and improvement in out same store hospitals. The new hospitals added in 2008 had adjusted EBITDA losses of les than $200,000 in 2009 compared to losses of $25 million last year.

Our same store hospital's adjusted EBITDA improved by $31.1 million compared to last year as they benefited from increased revenue due to severity of Medicare cases we cared for while at the same time controlling cost in this higher severity cases.

Outpatient rehab adjusted EBITDA for the fourth quarter increased 26.8% to $21.6 million compared to $17 million in the same quarter last year. Adjusted EBITDA margins for the outpatient segment improved 210 basis points to 12.5% compared to same quarter last year.

The improvement in the quarter was driven by improvements in both our contract services and the clinic businesses. For the full year outpatient adjusted EBITDA increased 15.3% to $89.1 million compared to last year.

Adjusted EBIDTA margin for the outpatient segment improve to 150 basis points to 13.1% in 2009. The growth in adjusted EBIDTA was primarily the result of growth in our contract services business as well as some incremental contribution from our clinic base business.

Earnings per fully diluted share were $0.19 in the fourth quarter and $0.61 for the full year. After adjusting for one time gains and losses from the early retirement of debt and one time expenditures related to the initial public offering, earnings per fully diluted share would have been $0.20 for the fourth quarter and $0.67 for the full year.

As we previously announced on December 8, Select closed on it's second rehab joint venture arrangement with SSM Health Care in St. Louis. The partnership with SSM includes 80 inpatient rehab beds, 33 outpatient physical therapy clinics, three occupational medicine clinics and contract and onsite rehab services. The joint venture is progressing has planned and we are excited about the partnership with SSM.

As many of you know, the New York Times recently published a story about Select Medical in the LTAC industry. As we said at this time the story was misleading and incorrect on many points.

In the wake of the article, we have communicated extensively with our business partners, our host hospitals, our CEOs and our medical directors. Their support, I'm glad to say has been strong and unwavering and we do not, and we've not experienced any negative effect on our operations.

I've got a number of questions in the past weeks about the prospect of a extension of the 2007 MMSEA legislation. I would remained everyone that the law passed in 2007 was a balanced public policy with provisions to address issues of concerns to both federal regulators and the industry.

So, in other words it was not a windfall for the LTAC industry. Besides the moratorium, there were provisions that authorized CMS to conduct aggressive medical audits and to further development of certification criteria for LTAC hospitals.

Yes we would like to see Congress extend the MMSEA Legislation of 2007, not necessarily because it’s a windfall for the LTAC hospitals but because it provided us with a level of regulatory certainty.

The MMSEA extension was included in both the Senate Health Reform Bill and the (inaudible) Jobs Bill. But given the current situation on Capitol Hill it is difficult to predict what and when Congress might take action.

I’ll now turn this over to Marty Jackson, our Chief Financial Officer to cover some additional financial highlights for the quarter.

Martin Jackson

Thanks Bob. Good morning everyone. Our operating expenses, which include our cost of service, general & administrative costs and bad debt expense in the fourth quarter increased 3.2% to $486 million compared to the same quarter last year.

As a percentage of our net revenue operating expenses for the quarter was 84.7% compared to 86.1% in the same quarter last year. For the full year, operating expenses were 86.3% of revenue compared to 87.6% in the prior year.

Excluding $22 million in one time IPO related compensation cost, included in our general & administrative cost line item during the year, operating expenses would have been 85.3% of revenue for the year. This represents a 230 basis point improvement on a year-over-year basis.

Cost of services increased 4% to $466.7 million for the quarter. As a percentage in net revenue, cost of services was 81.4% for the fourth quarter, compared to 82% in the same quarter last year. For the full year, cost of services as a percent of revenue was 81.3% compared to 83.2% in the prior year.

G&A was $12.1 million in the fourth quarter, which as a percent of revenue was 2.1% compared to 1.8% for the same quarter last year. For the full year G&A as a percent of revenue was 3.2% compared to 2.2% in the prior year. Excluding the $22 million in one-time IPO compensation related costs, G&A as a percent would have been 2.3% for the year.

Bad debt as a percent of net revenue was 1.3% for the fourth quarter compared to 2.3% in the same quarter last year. For the full year bad debt expense as a percent of net revenue was 1.8% compared to 2.2% in the prior year.

We realized significant cash collections for receivables over a 180 days in the fourth quarter, which obviously had a positive impact on our bad debt accruals. It is important note that we continue to utilize the same methodology for the bad debt calculations since the early days of the company over a decade ago.

As Bob mentioned, total adjusted EBITDA was $87.9 million for the fourth quarter and adjusted EBITDA margins were 15.3% compared to the adjusted EBITDA of $76.5 million and 14% adjusted EBITDA margins in the same quarter last year.

For the full year adjusted EBITDA was $330.2 million and adjusted EBITDA margins were 14.7% compared to adjusted EBITDA $270.3 million and 12.6 adjusted EBITDA margins in the prior year.

Depreciation and amortization expense was $17.6 million in the fourth quarter, down from $18.6 million in the same quarter last year. For the full year depreciation and amortization was $71 million compared to $71.8 million in the prior year.

Net interest expense was $30.7 million in the fourth quarter down from $36.1 million in the same quarter last year. The reduction in interest expense was the result of lower debt levels during this quarter. For the year net interest expense was $132.4 million compared to $145.4 million in the previous year.

The company recorded a one time loss of $2.9 million on the early retirement of debt in the fourth quarter related to the write down of deferred financing cost due to the prepayment of term loans associated with the proceeds from the IPO.

The company recorded income tax expense of $4.4 million in the fourth quarter and $37.5 million for the full year. This represented a tax rate significantly lower than our statutory rate principally due to tax refunds and associated interest we received in the fourth quarter related to the resolution of Federal tax returns from prior to the leverage buyout.

Net income attributable to Select Medical Holdings was $29.9 million in the fourth quarter and fully diluted earnings per share were $0.19. For the full year, net income attributable to Select Medical Holdings was $75.3 million, which after deducting preferred stock dividends produced fully diluted earnings per share of $0.61.

Excluding the effects of the one time events related to the IPO and gains and losses on the early retirement of debt and the estimated tax effects of both earnings per fully diluted share would have been $0.20 for the quarter and $0.67 for the year.

Assuming a normalized tax rate of 42% and adjusting for the one time expenditures related to the IPO and the gains and losses on debt retirement, fully diluted EPS would have been $0.14 for the quarter and $0.55 for the full year.

We ended the quarter with $1.4 billion of debt outstanding and $83.7 million of cash on the balance sheet. During the fourth quarter we made a mandatory repayments of a $156.3 million and an additional $12.1 million voluntary prepayments on the term loan portion of our credit facility and we also paid $90 million outstanding on our revolving facility.

Operating activities provided $72.2 million of cash flow for the quarter and a $165.6 million for the full year ended December 31, 2009. Day sales outstanding was 49 days at the end of the year compared to 53 days on December 31, 2008.

Investing activities used $43.6 million of cash flow for the fourth quarter, which included $21 million in acquisition related payments for the SSM joint venture. For the full year, investing activities used $77.9 million of cash flow including $57.9 million for the purchases of property and equipment.

Financing activities used $225.4 million of cash for the fourth quarter and $68.3 million of cash flow for the year. The primary activities related to the financing cash flows were the result of the IPO and the use of proceeds of those.

I also wanted to reaffirm the financial guidance for the company previously included in the 8-K filed on January 11th with the SEC. The guidance includes expectations for net revenue of $2.38 billion to $2.42 billion, adjusted EBITDA of $360 million to $370 million, capital spending of $50 million to $60 million and free cash flow of $120 million.

That concludes our prepared remarks and we’d like to ask the operator to open up the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Frank Morgan - RBC Capital Markets.

Frank Morgan - RBC Capital Markets

On the bad debts, obviously you noted the change there year-over-year. I was wondering if you could, in light of some of those changes, could you comment about where you think that trends out over the course of 2010 in terms of percentage of revenue?

And then secondly, this is a good question for Bob. Any thoughts about kind of the current environment, be it MMSEA extension or the apparent lack of healthcare reform, any impact that might have on your overall JV strategy? Does it help you or hurt you? And just any other comments you got about your JVs and the prospects over the near term?

Robert Ortenzio

We anticipate the bad debt is going to run probably somewhere in neighborhood of 2%, 2% or less. So when we take a look at 2010, I'm pretty sure all of analysts are at the 2% range. We think that that’s a good number.

Martin Jackson

Frank on the healthcare reform, I guess for everybody that’s on this call that makes a living following healthcare companies the last couple of weeks, the last month had been a wild ride predictably post the Massachusetts Senatorial Election and everything is really up in the air and has some uncertainty to it.

As it directly impacts our business, I don't see kind of the near term healthcare reform initiatives whatever they might be having a direct impact. I mean there’s obviously some things that are going on from some extension, the MMSEA 2007 extension is but one of those, that’s the doc fix and a lot of other things that will have some impact although I can't imagine for our company it will not have, and we have said before, not a material impact.

The JV strategy I think will be unaffected by that because I think that the drivers initiate some of the large systems that we are dealing with to enter into discussions to joint venture as did SSM or Penn State Hershey Medical Center, really stand outside of those kind of broader healthcare reform initiatives they might be.

So I'm encouraged that we still have a good model with the joint ventures, an update would be that, as you know we closed SSM and then operation is going very well. We have a couple in the pipeline that we’re working on and I'm still optimistic that we’re going to get another one this year as we projected and we’re working diligently on those.

Operator

Your next question comes from Whit Mayo - Robert W. Baird & Co.

Whit Mayo - Robert W. Baird & Co.

Just want to get back to the bad debts just for a second. Can you, maybe Martin comment a little bit on sort of what happened in the quarter, whether or not there was just cleaning up some old day or just trying to reconcile that?

Martin Jackson

Yes, what's occurred is we actually did a very good job collecting cash for receivables over 180 days. I think its very important to note that the methodology that we use for determining our bad debt requirements, the accrual for bad debt requirements have been the same pretty much since the inception of the company.

So in essence, we’ve dealt with a couple of managed care entities where we cleaned a lot of the old AR out and that’s really the reason why you see that low bad debt.

Whit Mayo - Robert W. Baird & Co.

I know there are, several balls in year right now but how do you reconcile the risk right now with the expiration of the physician fix in March, whether it's extending the moratorium or just maybe on your outpatient business in general, I know it’s a broad and large topic just wanted to hear your Bob or Martin with regards to that.

Robert Ortenzio

The moratorium for the extension for the LTAC recall that the 2007 legislation goes through the end of December of 2010, so if you look toward Washington and you first rank the urgency of getting something done, ours is probably not the top of the list.

Now having said that we were in the Baucus-Grassely bill, we were in the Senate finance bill; we were in the healthcare reform bill. It has not been necessarily a controversial piece of legislation because number one, its budget neutral, number one, its sound policy both on the side of the regulators and for the industry.

Now, as to the prospect of getting the other things done, the biggest one that I think most people are aware of are the doc fix. But in that doc fix extensions historically have been other extensions of favorable reimbursement policy. And this is a personal view on my part is, I don't know how the doc fix does not get done.

I mean that is a very big cliff for physician payments. And I think that it has to get done. I mean, when it gets done I mean there – I believe that there's has been some precedent for getting it done and making it past the deadline and making it retroactive to the time of the deadline.

So I personally believe that there will be some healthcare legislation that will move when Congress reconvene next week. Whether the healthcare things come through tax extenders or whether they come through a healthcare reform bill or whether they come out at Senate Finance I'm not sure.

And I'm not sure anybody knows at this point but I think something will move. And I think the one - and again I'm not an expert in this area but I think the one that has the biggest – one of the biggest priorities is the doc fix.

Martin Jackson

Well, as you know on the outpatient with regards to the doc fix, our PT or our clinics are paid on the physician fee schedule I mean I think everyone understands that on the outpatient side Medicare represents less that 10% of our overall business.

So we've actually going through and calculated what the potential impact would be and we anticipate on a quarterly basis, it would be somewhere in the neighborhood of $2 million to $2.5 million.

Whit Mayo - Robert W. Baird & Co.

Maybe just two housekeeping items. Marty, do you with the same store revenue dollar amount was for the quarter in the prior year and also maybe an idea for what a good go forward deferred financing expense number will be?

Martin Jackson

Just to make sure I understand the question, were you looking for the same store?

Whit Mayo - Robert W. Baird & Co.

Yeah, the same store, just the revenue, the dollar amount.

Martin Jackson

Yeah I mean we were – for Q409, obviously we had $573.5 million, for Q408 we had $547 million.

Whit Mayo - Robert W. Baird & Co.

Okay and then deferred financing, any good idea for what a full year number could be there now?

Martin Jackson

At this point in time - I’ll catch up with you later, no we don’t have that right now.

Operator

Your next question comes from Kevin Fischbeck - BofA Merrill Lynch.

Kevin Fischbeck - BofA Merrill Lynch

It looks like the non-same store facilities were a slight loss in Q4 compared to like a $1.3 million positive in Q3. Can you talk about the sequential decline? Was that just of the hospital you opened up in Q4?

Robert Ortenzio

Yeah, Kevin could you repeat that question, we are not able to understand it.

Kevin Fischbeck - BofA Merrill Lynch

So, in the reconciliation of EBITDA, you guys talk about a kind of – when you showed your same store EBITDA number, you showed specialty hospital development that are opened since 2008 as being a loss of about $460,000 in the quarter and when I look back at the Q3 results it was a $1.2 million EBITDA positive.

And, so I just want to see what sequentially, why that group of assets would have swung from a positive to negative. I know you opened up, I think you opened up a facility in Q4. I wanted to see if that was it or if there was something else going on?

Robert Ortenzio

Yeah Kevin, we’re going to have to get back to you. The only thing we can think of is that we have additional opening. But I'll get back to you on that question.

Kevin Fischbeck - BofA Merrill Lynch

Okay, and the admissions continue to ramp up sequentially but were a little weaker than I guessed, than I had my model anyway. Just wondering if you could just give little color there about how you think the admissions are ramping up on your assets versus your internal plan, any color there?

Robert Ortenzio

Yeah, I think as far as the admissions were concerned, we were pleased with the year-over-year change. They were little bit lighter than we thought. But as we indicated we are very comfortable with expectations moving forward.

Kevin Fischbeck - BofA Merrill Lynch

Okay, and you mentioned that the contract therapy business was strong in the quarter. Do you have any thoughts there about what the impact of (RUG) 4 or concurrent therapy might have on that business if in fact it does get implemented in Q4 this year?

Robert Ortenzio

Well, we've looked kind of tentatively at that. There are still some question of exactly how that’s going to impact particularly because the way our contracts are scheduled or structured. So, we think that it will be an impact but we don't think it would be a material impact on that business.

Kevin Fischbeck - BofA Merrill Lynch

And you mentioned that $2 million, $2.5 million impact of the doc fix of the therapy business. That’s just the doc – just the physician rates being cut, right? Do you have a sense of what – if the therapy caps are not extended how much that might impact your (inaudible)?

Robert Ortenzio

Yeah for the most part the therapy caps really are not impacting us. If you take a look at the number of visits per new patient Kevin it's really like 9, 10 visits. Average Medicare rate is a little bit less than the $102 that we are reporting on a net revenue per visit basis. So it doesn’t get close to the $1800.

Kevin Fischbeck – BofA Merrill Lynch

For the first few quarters of the year you guys have been showing some pretty significant year-over-year improvement across the services line, Q4 down 60 basis points up of what is obviously much more difficult comp.

I mean should we be thinking about that Q4 improvement is it kind of the improvement we should be looking for the first three quarters of 2010, is that kind of how to be thinking about across the services going forward?

Robert Ortenzio

Yes, I think the time we did the IPO, we talked about the changes that we made in the first of the year and I think what you are going to see is the comps are going to be, you are not going to see the 200 plus basis points improvements anymore, its going be, I think its going to still be double-digit but you are not going see triple-digit expansion in the EBITDA margins.

Kevin Fischbeck – BofA Merrill Lynch

Can you jus review kind of what the biggest driver to that improvement, is it still just the ramp up in the newly open facilities, or is there anything else that you would point to as?

Robert Ortenzio

I mean the SWNB is the other area improvement in the (inaudible) would be.

Operator

Your next question comes from Gary Lieberman – Wells Fargo.

Gary Lieberman – Wells Fargo

You talked about acuity being strong in the specialty hospital business in the quarter. Can you comment on that, was that driven by company policy marketing or was that just sort of function of something else?

Robert Ortenzio

Yes, typically we would see in the fourth quarter because winter months you are going to have more of the respiratory ventilator type patients that are the higher, that are the higher acuity patients.

So I think some of that seasonal and some of that are gravitating more toward problematically those types of patients in many of our hospitals particularly the one that are newly opened that are maturing. The ones from 2007. So I would say the combination of those two factors.

Operator

Your next question comes from Shelley Gnall - Goldman Sachs.

Shelley Gnall - Goldman Sachs

I guess just one quick followup with that last question. Did flu contribute any meaningful upside to admissions in the fourth quarter, especially the respiratory admission?

Robert Ortenzio

The flu always has an impact on the winter months in our specialty hospital business. There was some talk some months ago whether the H1N1, because of the severity of that flu and often manifesting itself in very significant respiratory conditions. And I can't report that we have seen a meaningful amount of that.

But the flu is always a contributor to winter census particularly in the LTAC hospitals. But anything that's out of the ordinary this year because of the flu I would say probably not.

Shelley Gnall - Goldman Sachs

I think one of the questions that we had with this strain of H1N1, while the bulk of patients weren't has severely ill those that were more likely to need ventilator assistance than in prior flu seasons. But are you saying that that did not have a meaningful impact on your admissions trend?

Robert Ortenzio

I would say it did not have a meaningful impact. I can't tell you that on one off because anytime we would admit someone with the H1N1, it triggers a lot of other isolation and some other things.

So we track that pretty closely and we had some of that, but the characterization, you cannot characterize that as being meaningful to the overall operations this flu season.

Shelley Gnall

On the specialty hospital segment, I was wondering if you’ll be willing to give us an update on occupancy for those hospitals that has been opened in 2008 and ’09, any sort of rough estimate of the occupancy because those EBITDA margins were very good?

Martin Jackson

Yeah Shelley, with regards to occupancy what we’ve technically done, and we are going to continue to do is really just give overall occupancy, which you know is 67%.

Shelley Gnall

Okay, maybe another way to ask my question. On the EBITDA margins for the specialty segment that was quite good, in your view is there room to improve that margin going forward or has it sort of been maxed out here and should we expect EBITDA growth going forward really to come from the top line and M&A activity?

Martin Jackson

No, I think you’ll continue to see EBITDA growth and margin expansion as those 2008 new hospitals really get into positive generation of EBITDA.

Operator

Your next question comes from Doug Simpson - Morgan Stanley.

Doug Simpson - Morgan Stanley

Marty, maybe if you could just talk a little bit about, it looks like the year-over-year lift in the outpatient margins picked up a little bit in the quarter. I think it ran about 210 beds versus about 150 for the entire year.

Could you just update us on the convergence between the Legacy Select customer and HealthSouth assets, kind of where that stands, where do you see that progressing over the next 12 months and what are really the drivers behind that?

Martin Jackson

Doug, I mean as we talked about when we were in the road show, there was at least a 500 basis point difference between our Legacy PT clinics and the old HealthSouth clinics. And we’re starting to see some improvement in that area. And that’s one of the reasons why you see the margins continue to get better. And we expect it over the next two years as we reported on the road show to see those margin gaps be reduced.

Doug Simpson - Morgan Stanley

Okay and then just given all the snow that we had to deal with, anything we need to worry about with Q1 weather? Any impact on activity at those facilities in the Philly, New Jersey markets?

Martin Jackson

Absolutely I mean that’s going to be an issue. I can't quantify it at this time but we have clinics, our biggest concentration of clinics is in Philadelphia and South Jersey, North Jersey around Kessler. We have operations in Maryland. We've not quantified it, and at this point I would not be in a position to tell you that would have an impact on the quarter because obviously as a large company we have business coming from lots of different sources.

So whether the reduction in revenue that we'll see as a result of weather, which will surely be there, could potentially be made up in other segments of our business. And there is also phenomena where sometimes you do after the weather, you do get some pick up and I would note that one of these major storms that we had here in northeast came on a weekend, which was frankly very helpful for us.

Another one of these storms came right in the workweek. And that will have an impact on our volumes particularly where it hit because of the concentration of clinics that we have. But we will do our best to quantify that and make sure we report it.

Robert Ortenzio

Doug I can tell you in speaking to the operators, they’re very focused on getting those patients rescheduled, get them back into the clinic.

Doug Simpson - Morgan Stanley

Right, right. It usually just delays them right?

Robert Ortenzio

That’s correct.

Doug Simpson - Morgan Stanley

Just maybe you talked a little bit about this earlier but it sounds like you're optimistic on the pipeline for this year on the JV side.

Can you just talk to us about what are you hearing out in the market from potential JV partners as well as maybe small tuck-in type M&A candidates given what's going on with the economy, any change in their interest level in talking with you in the last six months?

Robert Ortenzio

No, I can't characterize it as change because the systems that we have targeted for our rehab strategy are very significant and very stable operations. I mean so I can't tell you that its, that there has been a change driven by the general economic condition that are out there.

But I would tell you that those elements that are motivating, that might motivate those large systems are every bit is strong today as they were two or three months ago or four, five months ago when we told you this was an important strategy.

I mean but overall from the company and I really see this as I spend more time and I was out in St. Louis this week and look at these operations, I'm more convinced than ever that it is the right strategy and it’s a sound strategy to have our rehab operations integrated with our partner which is a large system.

So I'm even more committed with the strategy and as I said before it is difficult to predict when these things move forward to completion, I mean they never get done as quickly as you'd like them to get done but I would tell you that in my mind they are worst, they're continuing focus even if they take longer than you would expect.

Doug Simpson - Morgan Stanley

On the clinic side, obviously that area went under a lot of change in the, over the last five years with the HealthSouth issues. You had a lot of people sort of strike out on their own.

Is there any rebound to be expected there or are there people out there who struck out on their own and now were thinking about moving back under a larger umbrella? Anything you're seeing there?

Robert Ortenzio

Well, I can only comment anecdotally. But I would say that our recent kind of the classic role up strategy of PT clinics is the strategy that is unwinding a little bit in the struggling. Particularly as with T&A businesses those that were highly leveraged.

So I think some of those might be weaker because they don't have the platform, the systems, the leverage in the economies that we have. Having said that there are small regional players that are – they can continue to do well in local markets.

In terms of your question, and I think it is whether a therapist will be more willing to work in an environment such as ours as opposed to being on their own. I can't say that I've seen that change a lot. But I'll tell you what we have seen change a little bit was, we talked a year ago about physicians going in-house with therapy.

And I think that was a big threat to the business and had a meaningful impact on the business two years ago and even a year ago and we've seen that phenomenon, either because those that have done it or going to do it and those aren't. But we don't see that as much as we used to. There's still some of it but there's not as much as we used to.

Operator

Your next question comes from Miles Highsmith - RBC Capital.

Miles Highsmith - RBC Capital

Bob, just on that last comment, can you maybe expand just a little bit on why you believe we’re seeing less of the doctors going in-house on the clinic side?

Robert Ortenzio

Well, again I'll prefix my remarks by saying it's anecdotal. Typically to make those traditional in-house fields' work, you had to have I think a meaningful size typically orthopedic practice. So it could be that most of the larger ones that were going to do it, have already done it over the last couple of years. So it's just fewer of those larger practices around that are going to do it. That could be one reason.

The other reason is again anecdotally, after you’re in this business or the physicians get into the business expecting to generate large relatively easy margins, find that running, billing, collecting, staffing the business is more difficult than what they thought. And they also see just by definition what we call patient leakage just because the clinics may not be in locations that are convenient for patients to return post their surgical procedures.

So I think that that could be another reason, the difficultly of actually running the business and the difficultly of keeping the volumes up and being as profitable as they thought they were.

Miles Highsmith - RBC Capital

Okay, great. Just staying with that for a couple of seconds kind of following on some earlier questions. It sounds like in terms of having the right therapist, the right PTs, the right processes etc from the time when you were acquiring HealthSouth to sort of working through some of that and the ensuing years that you're pretty well there at that point, is that right?

Martin Jackson

Miles, we still have ways to go I think, one of the things we're doing is we got to have therapists that are focused on not only just providing clinical care to the patients, but also generating business.

I know the operators are going through and they have been going through this over the past year to make the necessary modifications. I don’t want to tell you, that’s completely done yet.

Robert Ortenzio

I would add to that and say that we continue to think that there is opportunity to the upside on our clinic business in the, what we would call the former HealthSouth clinics. That they have been a great addition to the company if they are fully integrated with our operations at this point.

But as we look at the business from 10,000 feet, we think that there are, there are still opportunities for margin improvement.

Miles Highsmith - RBC Capital

Just a couple more, sticking with out patient rehab. Seeing that contract services has been kind of a driver, can you just remind us what proportion of the business is traditional standard out patient rehab and what’s coming from contract right now?

Martin Jackson

Yeah Miles, it about little bit north of 20% of the business.

Miles Highsmith - RBC Capital

Marty, if you kind of look at the capital structure and potentially paying down some debt going forward with free cash flow as well, you got some bonds that are trading lot better, but your bank debt is pretty cheap too. And any thoughts on what you can buy in terms of bonds in the open market or restricted paper permissibility?

Martin Jackson

Miles, our expectation is that we will continue to pay down debt. Now having said that we are always taking a look at potential acquisitions, so to the extend an acquisition that comes along that meets our criteria, we will do that and will use excess cash flow to do that otherwise we would be paying down debt.

Operator

Your next question comes from Elie Radinsky – Summit Securities Group.

Elie Radinsky – Summit Securities Group

When you look at the outpatient rehab business and all have been focusing on this, it appears that it is more than stabilized now is increasing despite having a much more difficult employment environment that was unemployment up.

The thought is, over the next couple of years if you were to see that unemployment numbers started declining and declining meaningfully. What should we be expecting from this business, mix margins move up.

Do you have any ratios with 100 basis points decline in the unemployment rate that should be impacting the outpatient business by X percent?

Martin Jackson

Elie, we haven’t really done any correlation between the unemployment and expected volume. I think Bob has been using the work anecdotally, I can tell you that to the extend that the unemployment rate goes down, we have seen increases in volume but as far as specifics we haven’t done that.

Robert Ortenzio

I would also then say that in terms of staffing even though we have high unemployment I will tell you that there is still a pretty significant shortage of physical therapist and while we have seen the, I think across the board in health care you have seen some softness in SWNB because of unemployment.

we have not benefited from that on the outpatient side that we have been able to see because there is still significant shortage of physical therapists who really are able to work in a variety of healthcare settings. So we probably – that's a reality of that business that I don't see abating.

Elie Radinsky - Summit Securities Group

Okay, and regards the New York Times articles, I know that you came out and said that many things in that articles was misleading. I believe some of that was also quite dated. Is there going to be any sort of formal response that you're going to have to clarify some of the issues?

Robert Ortenzio

Yes, probably over the next week or so we'll be posting some more information that I would – I'm going to characterize as more educational and clarifying on some of the things that we just thought were inaccurate, particularly in terms of the amount of scrutiny that LTAC hospitals get, a little bit more color and specifically of how physicians are employed and somethings on reimbursements and audits and so forth.

So we do plan to have more information that that I'm going to characterize at this point as educational but it is clearly that the article was certainly a catalyst.

Elie Radinsky - Summit Securities Group

And the last thing, can you just go over your capital structure? How much do you have outstanding on your term loans as well as your other debt? I know the total is $1.4 billion.

Martin Jackson

Sure, I think the bank debt, speaking off of the top of my head, is 483. And that's really be term loan B and term loan B1. There's about $611 million associated with the senior subs at the OpCo level. And then there is, there is about 300, little bit north of 300 at the (inaudible) level.

Operator

Having no further questions, I’ll turn it back to management for any final comments.

Robert Ortenzio

Well I don’t have any final comments, but I want to thank you all for participating and asking your questions and we’ll look forward to reporting to you again after this next quarter.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.

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