Select Medical (SEM) Q3 2025: Inpatient Rehab Grows 16% as Outpatient Margins Slide

October 31, 2025 | By EarningsIQ Research

Select Medical’s Q3 spotlight was a robust inpatient rehab surge contrasted by persistent outpatient margin erosion. Regulatory relief from the CMS 20% transmittal rule delivered a one-time boost, but underlying reimbursement headwinds and payer mix shifts in outpatient rehab weighed on profitability. Management’s development pipeline and capital allocation priorities set the stage for a multi-year inpatient growth cycle, but margin recovery in outpatient remains an open question for 2026.

Summary

• Inpatient Expansion Outpaces Other Segments: Inpatient rehab hospitals drove performance, while outpatient rehab margins compressed further.
• Regulatory Deferral Buoys Near-Term Results: The CMS 20% transmittal rule delay created a temporary earnings lift, not a structural fix.
• 2026 Hinges on Execution: Margin improvement in outpatient rehab and regulatory stability are critical watchpoints for next year.

Performance Analysis

Select Medical’s consolidated revenue rose over 7% year-over-year, driven primarily by a standout quarter in the inpatient rehab hospital division, which posted 16% revenue growth to $328.6 million and a 13% increase in adjusted EBITDA. This segment now comprises roughly a quarter of total revenue but is contributing a disproportionate share of growth and capital deployment. Volume expansion was clear, as average daily census climbed 11% and occupancy hit 83%, though EBITDA margin slipped modestly to 20.7% from 21.3%.

Outpatient rehab, historically a margin contributor, saw EBITDA margins fall to 7.4% from 9.1% on flat net revenue per visit and a 5% increase in patient visits. The culprit was a combination of lower Medicare reimbursement and an unfavorable payer mix, a trend management flagged as a multi-year headwind. The critical illness recovery hospital segment benefited from the CMS rule deferral, with revenue up 4% and adjusted EBITDA climbing 10%, but underlying occupancy and admissions trends were flat, indicating the improvement was largely regulatory-driven.

• Inpatient Rehab Drives Growth: Segment delivered double-digit revenue and volume gains, offsetting margin softness elsewhere.
• Outpatient Rehab Margin Compression: Lower reimbursement and mix shift dragged profitability despite higher patient volumes.
• One-Time Regulatory Tailwind: CMS 20% transmittal delay added $12–15 million to EBITDA, masking underlying pressure in critical illness hospitals.

Cash flow from operations was strong at $175.3 million, supporting ongoing development and a stable leverage profile. However, the durability of segment-level margin expansion—especially in outpatient rehab—remains under scrutiny as the business enters 2026.

Executive Commentary

Strategic Positioning

1. Inpatient Rehab as Growth Engine

Management is doubling down on inpatient rehabilitation hospital (IRF) expansion, with a pipeline targeting 395 new beds by 2027 through new builds and strategic additions. The IRF model—where Select partners with academic medical centers and health systems—offers higher acuity, longer-stay care and yields attractive occupancy and revenue per patient day. This segment’s success is driving both near-term performance and capital allocation, positioning Select as a consolidator in the rehab hospital space.

2. Outpatient Rehab Under Margin Pressure

Outpatient rehab, which delivers physical and occupational therapy on a non-inpatient basis, is facing acute reimbursement and payer mix challenges. Medicare cuts over the past five years have cost the segment an estimated $65 million in EBITDA, and 80% of Medicare Advantage rates are pegged to the Medicare fee schedule. While a modest Medicare rate increase is expected in 2026, management is relying on productivity improvements and system investments to stem further margin erosion.

3. Regulatory Volatility Remains a Wildcard

CMS policy changes—especially the fixed loss threshold and outlier pool rules— have outsized impact on the critical illness recovery hospital (LTAC) segment. While the 20% transmittal rule deferral was a positive for 2025, management cautioned that future rule proposals are opaque and could swing segment profitability. Advocacy efforts continue, but the business remains exposed to policy risk in both the LTAC and outpatient divisions.

4. Capital Allocation and Leverage Discipline

With net leverage at 3.4 times and strong free cash flow, Select is prioritizing development CapEx in IRF, while maintaining flexibility for share repurchases, dividends, and opportunistic debt reduction. The board’s approval of a dividend and ongoing buyback capacity reflect confidence in the business model, but management emphasized that CapEx for growth will remain the primary use of capital in the near term.

Key Considerations

The quarter underscored a bifurcation between growth in inpatient rehab and persistent headwinds in outpatient and regulatory-exposed segments. Investors should weigh the following:

Key Considerations:

• Inpatient Rehab Occupancy and Ramp: New builds typically reach break-even in six months and mature to 85% occupancy over three years, supporting a multi-year growth trajectory.
• Outpatient Margin Recovery Plan: System upgrades and a focus on productivity are management’s levers to stabilize margins, but payer mix remains volatile.
• Regulatory Policy Exposure: Both critical illness recovery and outpatient rehab segments are highly sensitive to CMS reimbursement rules, with little visibility into future proposals.
• Capital Allocation Flexibility: With stable leverage and strong cash flow, management retains optionality for buybacks, dividends, or further debt reduction as market conditions evolve.

Risks

Regulatory unpredictability remains the most significant risk, especially for LTAC and outpatient rehab, where CMS rule changes can materially impact revenue and margin structure. Outpatient segment margin compression may persist if payer mix and reimbursement do not improve, and the pace of new IRF facility ramp-up could face delays or cost overruns. Labor costs have stabilized, but any renewed wage inflation would pressure margins across all segments.

Forward Outlook

For Q4 2025, Select Medical guided to:

• Revenue in the range of $5.3 billion to $5.5 billion for the full year
• Adjusted EBITDA between $510 million and $530 million

For full-year 2025, management raised EPS guidance to $1.14 to $1.24, while maintaining revenue and EBITDA targets:

• Capital expenditures expected at $180 million to $200 million, with $100–$105 million for maintenance

Management highlighted several factors that will shape the coming quarters:

• Modest Medicare reimbursement increases in 2026 as a potential tailwind for outpatient rehab
• Continued ramp and expansion in inpatient rehab, including new facilities and bed additions

Takeaways

Select Medical’s Q3 revealed a business in transition, with inpatient rehab providing the growth engine and regulatory relief offering only short-term support. Margin recovery in outpatient rehab and ongoing policy advocacy will be crucial to sustaining earnings momentum.

• Inpatient Rehab as Core Driver: The segment’s double-digit growth and robust pipeline underpin the company’s forward strategy and capital allocation.
• Outpatient Margin Headwinds: Persistent reimbursement and mix challenges will require operational execution and may limit near-term profit recovery.
• Regulatory Watch: Future CMS proposals remain a swing factor for both LTAC and outpatient units, with little visibility until rules are released.

Conclusion

Select Medical’s Q3 results highlight the durability of its inpatient rehab strategy, but also the fragility of outpatient margins and the persistent risk of regulatory disruption. Investors should monitor the pace of IRF expansion, margin stabilization efforts in outpatient, and the evolving CMS policy landscape as the company navigates 2026.

Industry Read-Through

The quarter’s results reinforce a broader sector trend: inpatient rehab and post-acute specialty services are seeing robust demand and capital investment, while outpatient therapy models face margin pressure from reimbursement and payer mix volatility. Regulatory risk remains elevated for all providers reliant on Medicare and CMS rulemaking, suggesting continued advocacy and operational agility will be essential across the post-acute care landscape. Competitors in both IRF and outpatient therapy should expect similar margin dynamics and policy headwinds in the coming year.

SEM Health Care Post-Acute Care Inpatient Rehab Outpatient Therapy Regulatory Capital Allocation