Select Medical Holdings (SEM) Q2 2022 Earnings Call Transcript

Select Medical Holdings (SEM -0.75%)
Q2 2022 Earnings Call
Aug 05, 2022, 9:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, and thank you for joining us today for Select Medical Holdings Corporation's earnings conference call to discuss the second quarter 2022 results and the company's business outlook. Speaking today of the company's executive chairman and co-founder Robert Ortenzio; and the company's executive vice president, and chief financial officer, Martin Jackson. Management will give you an overview of the quarter and then open the call for questions. Before we get started, we would like to remind you that this conference call may contain forward-looking statements regarding future events or the future financial performance of the company, including without limitation statements regarding operating results, growth opportunities, and other statements that refer to Select Medical plans, expectations, strategies, intentions, and beliefs.

These forward-looking statements are based on the information available to the management of Select Medical today, and the company assumes no obligation to update these statements as circumstances change. At this time, I will turn the conference over to Mr. Robert Ortenzio.

Robert Ortenzio -- Executive Chairman and Co-Founder

Thank you, operator. Good morning, everyone. Thanks for joining us for Select Medical's earnings call for the second quarter of 2022, the past two and a half years have presented numerous challenges for our company and our colleagues as we're hopefully in the back end of the more extreme impacts of the pandemic, our focus has been on recruiting, retention and valuing the accomplishments of our employees. This quarter we have started to experience progress as a result of our efforts, which has led to an upturn in hiring key clinical positions, namely RNs investment in full-time staff has resulted in an increase in orientation and education costs for our new hires.

We anticipate these costs will return to approximate historical trends once our utilization of the agency reaches a normalized level. We have gained traction, and have seen a decline as the second quarter progressed, both in reduced agency rates and utilization. The past nine months' labor costs, particularly in our critical Illness recovery hospital division, have created many headwinds. But we are cautiously optimistic we will continue to see improvements that will result in stability and predictability of our clinical labor by the end of the year.

Martin Jackson will provide some more granular data supporting our optimism on the direction of our clinical labor expenses in his comments. In other news, I'm pleased to share with you that US News and World Report has released its annual best hospitals list. One of our wholly owned and three of our partners' inpatient rehabilitation hospitals are ranked among the nation's best for 2022, and 2023. They are number 4, Kessler Institute for Rehabilitation, number 14, Baylor Scott and White Institute for Rehabilitation in Dallas, number 26, Emory Rehabilitation in Atlanta, and number 31, OhioHealth Rehabilitation Hospital in Columbus, Ohio.

This marks the 30th consecutive year that the Kessler Institute has been named among the nation's best hospitals for rehabilitation. And the second year in a row for Baylor Scott and White Dallas, Emory, and OhioHealth. For my comments today, I am continuing with the format that was introduced in the first quarter, which provides more commentary on each of our four business segments. The financial details we normally provide on this call are available in our earnings release and Form 10-Q that was provided last night, and I will only provide the highlights in my remarks.

Overall, we experienced revenue growth in the quarter with an increase of 1.3% over the prior year while continuing to navigate through labor challenges. For the quarter, the total company adjusted EBITDA was $181 million compared to 342 million in the prior year. Our consolidated adjusted EBITDA margin was 11.4% for Q2, compared to 21.9% in the prior year. CARES Act grant income was recognized in Q2 of this year as well as Q2 of the prior year.

This quarter we recognized $15.1 million of grant income versus $98 million in the prior year. Q2 excluding grant income adjusted EBITDA for this quarter would have been $165.9 million, compared with a 10.5% margin, compared with $244 million with a 15.6% margin last year. Excluding the decrease in CARES income, the most significant contributor to the decrease in Q2 adjusted EBITDA over the prior year was the salary, wage, and benefits increase in a critical illness division while Q2 was the first quarter to show agency reduction in agency expense. As I previously mentioned, retention efforts and new hires in the RN and CNA positions contributed to an increase in costs.

Salary increases, orientation, education, and incentive bonuses are necessary steps in the efforts to replace the higher agency cost nurses with employed staff. We are starting to see positive results in hiring full-time nurses and expect this trend to continue into Q4 of this year. Now, I'll provide some data points as commentary on each of our operating divisions. Our critical illness recovery hospital division's revenue of patient days and net revenue per patient day slightly increased compared to Q2 of the prior year.

Occupancy decreased to 67% from 69% compared to the same quarter prior year. Many of our referring short-term acute care hospitals still experience lower volumes within their ICUs as compared to the prior year. Specifically bed patients, which contributed to our decrease in occupancy. We expect that when ICU volumes in our referring hospitals increase, we will continue to see these patients within our hospitals.

The adjusted EBITDA margin for the critical illness was 4% for the quarter, compared to 13% in the prior year. As our salary, wage, and benefit to revenue ratio increased by 14%. The SW&B to revenue ratio improved slightly from Q1 and we have seen improvement every month within the second quarter. Salary increases, RN orientation education along with incentives and sign-on bonuses were the main drivers for the increase in labor.

Education and orientation hours for RNs increased by 67% over the prior year, while overall bonus expenses increased 51%. In Q2, we saw a substantial drop in nursing agency rates from Q1 but remain slightly higher than the prior year's Q2. In Q2, we expanded our footprint in the Youngstown, Ohio market with a two-hospital acquisition. One existing hospital was closed and consolidated with one of the acquired locations.

We have also signed agreements with joint venture partners to open four hospitals located in Jackson, Tennessee, Tucson Arizona, Alexandria Virginia, and Venice Florida, all expected to open in 2023. On the regulatory front, this week, CMS issued the final LTAC rule for fiscal 2023, effective October 1st of this year. The final ruling includes a 3.8% increase in the federal base rate, which is higher than the 2.8% increase outlined in the proposed rule. The high-cost outlier threshold increased by 16.7%, which was lower than the proposed rule.

The MS-LTC-DRG relative weight and expected length of stays were also updated in the final rule. Turning to inpatient rehab, our inpatient rehabilitation hospital division experienced a 7.6%, increase of 7.6% in net revenues, and patient volumes increased by 4%. Occupancy increased to 86% compared to the prior year, which was 85%. Revenue per patient day increased to $79 from $1,849 to $1,928.

The adjusted EBITDA margin for the inpatient rehab was 21.8% for Q2, compared to 23.9% in the prior year. The decline in inpatient rehab adjusted EBITDA margin was attributed to elevated agency costs, along with an increase in nursing incentive bonuses for employed staff. The overall salary, wage, and benefit to revenue ratio for inpatient rehab hospitals increased by 4% from the prior year Q2 but improved by 3% from Q1 2022. Nursing agency usage levels increase from the prior year, but we have seen an improvement compared to the first quarter of this year along with improvement each month throughout the second quarter.

The agency rates for RNs of the rehab division decreased by 4% from the prior year and 21% from Q1. The increase in agency compared to the prior year was predominantly in our California and North Jersey markets. In regards to development, we have signed an agreement with a joint venture partner to open a rehabilitation distinct [Inaudible] unit in our Venice, Florida Critical Illness Recovery Hospital, which is expected to open in 2023. There are numerous opportunities in the pipeline currently being evaluated.

Last week, CMS also issued the final inpatient rehab rules for fiscal 2023, effective October 1st. The final rules include a 3.7% increase in the standard payment amount, which is higher than the 2.7%, including the proposed role. In addition, the high-cost outlier threshold increased by 32%, which is lower than the proposed rule. The CMG, relative weights, and average length of stay values were also updated with the final rule.

Turning to Concentra. Concentra continues to outperform and exceed plan, although when comparing this quarter to prior years, revenue declined by $15 million as a result of the significant demand for COVID-related testing and evaluations in the second quarter of 2021. Last year, these services generated $55 million in revenue and $22 million in adjusted EBITDA, compared to $8 million in revenue and $3 million in adjusted EBITDA in Q2 of this year. The revenue decline was less than expected as the exceptional performance in the centers mitigated the COVID testing revenue reduction.

Center patient volume increased by 6% and Concentra's overall net revenue per visit increased by 2% to $127. Our adjusted EBITDA margin for Concentra was 21% for Q2 compared to 30% in the prior year. The results in Q2 of the prior year included $32.3 million of CARES grant income. Excluding the grant income, the adjusted EBITDA margin would have been 23% in Q2 2021 versus 21% this quarter.

Concentra experienced a 1% improvement in salary wage, and benefit to revenue ratio from the prior year Q2 and remain consistent with Q1. The reduction in adjusted EBITDA margin from the prior year was primarily a result of the increased lab and medical supply costs in addition to travel expenses returning to normal. In Q2, Concentra required two centers located in Chesapeake and Newport News, Virginia, which is an attractive new market for the company. They have also signed four leases for denovo clinics that are expected to open by year-end.

There continues to be a healthy pipeline of potential acquisition denovo opportunities that are under consideration. Turning to outpatient. Our outpatient rehabilitation division experienced a 2% increase in net revenues, with patient volumes also increasing 2% compared to the same quarter prior year. Net revenue per visit increased to $103 from $102 the prior year, in spite of a 3% decline in Medicare reimbursement.

Adjusted EBITDA decreased compared to the prior year, with a decrease in the margin to 11.7% from 16.3%. The decline in adjusted EBITDA margin is primarily due to an increase in salary, wage, and benefit to revenue ratio compared to the same quarter prior year. In the second quarter, the outpatient division experienced a 5% increase in salary, wage, and benefit to revenue ratio compared to the prior year, but improved by 1.5% from Q1 2022, which represents an improvement for the last two quarters. Other operating expenses to revenue ratio increased by 9%, over prior to prior year Q2, mainly due to marketing and travel costs returning to pre-pandemic levels.

In Q2, we expanded our clinic count by 19 centers via acquisition in denovo growth. Looking forward to the remainder of the year, we have leases executed for 26 denovo clinics. Finally, earnings per fully diluted share were $0.43 for the second quarter, compared to $1.22 per share in this same quarter the prior year. Our earnings were positively affected by CARES grant income recognized in the second quarter of both this year and last.

In regards to our allocation and deployment of capital, our board of directors declared a cash dividend of $12.5 payable on September 2, 2022, to shareholders of record at the close of business on August 16, 2022. This quarter we bought back 5,438,939 shares of stock at an average price of $23.16. We will continue to be opportunistic, and evaluate stock repurchases, reduction of debt, and development opportunities. This includes my remarks, I'll turn it over to Martin Jackson for some additional financial details before we open the call-up for questions.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Thanks, Bob. Good morning, everyone. I would like to follow up on several of Bob's opening comments regarding our clinical labor costs. As he mentioned, we've seen a significant sequential reduction in Q1 '22 to Q2 of '22 in agency rates, utilization, and total agency expenses.

The reductions we realized during this period were 22% for rates, with the average rate for Q1 of $143 an hour dropping to $111 for Q2. A 13% reduction in utilization moving from 37.5% in Q1 to 32.5% in Q2. And a 37% reduction in agency expenses from $89.4 million in Q1 to $56.4 million in Q2. Even more encouraging are the reductions in these categories.

Within the second quarter, we saw a reduction from April to June of 23% on rate from an average rate of $123 in April to $95 in June, a drop of 29% in utilization from 38.2% in April to 26.9% in June. And a drop of 48% for overall agency expenses from $24.4 million in April to $12.8 million in June. We have seen this trend continue for the month of July, with a 5% reduction in rates at $90 an hour, 10% utilization reduction to 24.1%, and a 13% reduction in total agency expense to $11.1 million. I'll also mention our efforts in the hiring of full-time nurses.

We have seen a very nice increase in the number of full-time nurses hired this past quarter, growing by more than 54% sequentially from quarter to quarter two. These new hires typically participate in seven or eight weeks of orientation in training prior to treating patients. During this time, we will continue to utilize agency, but we see a pathway to the continued reduction of agency throughout the balance of the year. With these newly hired RNs and other key performance indicators, we focus on salaries, wages, and benefits as a percentage of revenue.

Our historical trend prior to the pandemic ran at a rate of 51% to 52%. During the pandemic, there was a significant increase in demand from health systems for nurses regardless of the cost. We saw agency rates increase from historical rates of $72 to $78 an hour, up to, in some cases, $220 an hour in certain geographical locations. Given this new macroeconomic environment, we saw for the first three quarters of 2021 this KPI increased to 56%.

This rate increased dramatically in Q4 of '21 in the first two quarters of this year, ranging from 64% to 66%. We believe given our discussion above, this rate will come down nicely over the next two quarters as new hires replace agency nurses and the agency rates continue their downward trend. Our target for the end of the year is to be in the range of 55% to 57%, with a clear path of returning to a more normalized range closer to our historical rate throughout 2023. Moving over to our financials.

In Q2, the equity and earnings of unconsolidated subsidiaries were $6.2 million, compares to $11.8 million in the same quarter the prior year. The decrease is a result of lower earnings in our minority-owned in-patient rehab hospitals and outpatient clinics. The new Banner East Hospital opened in April and incurred losses within the quarter related to start-up costs. A few other joint ventures experienced lower earnings caused by unfavorable shifts in the payer mix, which resulted in reductions to our net revenue rate.

Net income attributable to non-controlling interests was $11.1 million. This compares to $31.3 million in the same quarter the prior year. The decrease is primarily due to the repurchase of membership interest in Concentra in Q4 of 2021, in which we now own 100% of the voting interest. In addition, we experienced lower earnings and a few of our large joint venture hospitals, primarily as a result of the elevated nurse agency costs compared to quarter two of 2021.

Interest expense was $41.1 million in the second quarter. This compares to $33.9 million in the same quarter prior year. The increase in interest expense was primarily attributable to an increase in one-month LIBOR rates compared to Q2 of 2021, as well as borrowings made under our revolving credit facility. At the end of the quarter, we had $3.8 billion of debt outstanding and $94.7 million of cash on the balance sheet.

Our debt balance at the end of the quarter included $2.1 billion in term loans, $350 million in revolving loans, $1.2 billion and 6.25% senior notes and $88.4 million of other miscellaneous debt. We ended the quarter with net leverage for our senior secured credit agreement of 5.44 times. As of June 30th, we had $243 million remaining availability on revolving loans. For the second quarter, operating activities provided $186.1 million in cash flow, of which $14.4 million was recouped in the quarter related to the repayment of Medicare advances.

At the end of June, there is $6.5 million remaining of the Medicare advances to be repaid. Our day sales are outstanding or DSO was 53 days on June 30, 2022. This compares to 53 days on March 31, 2022, and 52 days at the end of 2021. Investing activities used $58.8 million of cash in the second quarter, this includes $46.3 million in purchases of property and equipment and $17.8 million in acquisition and investment activity during the quarter.

We also generated $5.3 million in proceeds from the sale of assets in the quarter. Financing activities used $149.1 million of cash for the second quarter. This was primarily due to common share repurchases totaling $126 million, as Bob indicated, we acquired a little bit north of 5.4 million shares. Also included dividends on our common stock of $16.1 million.

We have the capacity to purchase an additional $407 million worth of shares under this program, which remains in effect until December 31, 2023, unless further extended or earlier terminated by the board. We are reaffirming our revenue outlook for the year and expect revenue to be in the range of $6.25 billion to 6.4 billion. In 2022. We are also reaffirming our previously issued three year compounded annual growth rate target for revenue to be in the range of 4% to 6%.

We still expect capital expenditures to be in the range of $180 million to $200 million for the year. As stated last quarter, we will readdress our business outlook and target growth rates for adjusted EBITDA in earnings per share, when we believe the labor market has stabilized and is predictable. This concludes our prepared remarks. At this time, we would like to turn it back over to the operator to open up the call for questions.

Questions & Answers:

Operator

Thank you, sir. [Operator instructions] Our first question will come from Justin Bowers of DB. Your line is open.

Justin Bowers -- Deutsche Bank -- Analyst

Hi. Good morning, and thank you for all the details, KPIs, and trends with respect to the LTAC segment. Just curious, what are -- it sounds like you've made a lot of progress with hiring and we're just really trying to get a sense of some of the initiatives that you're taking. And then, what do you think the changes are, whether it's company-specific, or just more macro, or market-specific in terms of your ability to really improve the hiring? And it sounds like, you guys see that continuing throughout the rest of the year.

And then, the second part to that would be just, what are some of the dynamics you're seeing and the other modalities, too, like IRF? It looks like an improvement, outpatient rehab seems like it's still tough. Kind of what do you -- what are some of that improving and what are some of the dynamics there as well?

Robert Ortenzio -- Executive Chairman and Co-Founder

Yeah. Let me make some general comments. This is Bob and then, I'll just let Martin take a little bit through the details. I think the big the big takeaway, I think for investors that we would like to share is that the trends are very good in terms of us being able to replace the agency with RN.

And particularly I'm talking about the critical illness recovery hospitals. But I think the important thing to understand is because of the acuity of the patients that we take in the LTAC or the critical illness segment. These nurses that we recruit do require a significant amount of training before they can really fully engage in patient care. And that's the thing that's going to keep our -- all of our quality indicators -- quality indicators high.

The other thing that I think we're doing, which is an investment in the longer term, is we have to continue to be focused on keeping the nurses and the retention of our retention attributes in our critical illness division rather than just recruiting. And we think that the enhanced dollars that we're spending on training are going to help us with retention down the road. So we do see good trends, even though the cost data is still high for the quarter. If you really dig into the statistics that Marty gave you in his prepared comments, the trends do look pretty good.

So I'll let Marty supplement that, and then maybe take a shot of the second half of the question. Marty?

Martin Jackson -- Executive Vice President and Chief Financial Officer

Justin, yeah, we've really seen, as we indicated, some significant improvement, both in terms of utilization and rate reductions. And one of the interesting stats, if you took a look at the month of April, 96% of our hospitals, their agency rates were over $100. In July, that percentage is 13%. So I mean, we've really seen the rate come down pretty significantly.

And as we indicated, utilization is coming down, too. The other interesting thing is when you take a look at the utilization, probably about 67% of that utilization come June and July will be replaced with the new RNs coming in. So again, all the trends are pointing toward significant improvement. With regards to the IRF, I would say that the IRF was really only impacted in two specific geographic locations as far as labor was concerned, and that's Southern California and Northern Jersey.

And we continue to see those rates come down, but not nearly as much as the other rates have come down.

Justin Bowers -- Deutsche Bank -- Analyst

OK. Got it. Just a quick follow-up on this. In June, what was the utilization in June with the LTAC?

Martin Jackson -- Executive Vice President and Chief Financial Officer

It was 26.9%.

Justin Bowers -- Deutsche Bank -- Analyst

OK. All right. So you're saying -- so then in terms of that additional 6% to 7%, that would -- as this quarter progresses, that should come down to somewhere in the low 20s that --

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yes.

Justin Bowers -- Deutsche Bank -- Analyst

How we should interpret that? OK. Great.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yes. That's right.

Justin Bowers -- Deutsche Bank -- Analyst

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

Robert Ortenzio -- Executive Chairman and Co-Founder

Yeah. The rate rates for the -- the final rates particularly for LTAC were better than we expected and were better than the proposed rule. So we're pleased with that, particularly on the outlier threshold. IRF was somewhat in line, but I think pretty solid.

So we've obviously seen new rates that are a lot worse. So this was I think met internally as a pretty good, pretty strong. And add to the CMI.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yeah, Justin, the CMI for this past quarter is 1.29. And obviously, it came down from the second quarter of '21, which is about a 1.32. Bob had mentioned in his prepared remarks that some of that has to do with the reduction of inpatients, and that's what's really called that decline.

Justin Bowers -- Deutsche Bank -- Analyst

OK. Understood.

Martin Jackson -- Executive Vice President and Chief Financial Officer

We don't think this in long term. We don't think there's any long-term impact or long-term trend there. But in this quarter, they just have to go down.

Justin Bowers -- Deutsche Bank -- Analyst

OK. Got it. I'll hop back in the queue. Thank you.

Operator

Thank you. One moment, please, for our next question. Our next question will come from Kevin Fischbeck of Bank of America. Your line is open.

Kevin Fischbeck -- Bank of America Merrill Lynch -- Analyst

Great. Thanks. Just to follow up on that last point. I guess normally we think of bed patients being a bit more high acuity and maybe not tied to the ebbs and flows of hospital volumes.

Broadly, anything you would point to as to why bed patients would be down, occupancy would be down as a result of that?

Robert Ortenzio -- Executive Chairman and Co-Founder

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

Kevin Fischbeck -- Bank of America Merrill Lynch -- Analyst

Yeah, exactly.

Robert Ortenzio -- Executive Chairman and Co-Founder

Yeah. No, I don't think that there's anything that we can point to. I mean, there's -- we saw a -- just a general softness in the ICUs at some of our -- many of our referral hospitals that may have more to do with their scheduling of surgeries, transplants, or staffing. I mean, I really don't have a great answer for that.

And sometimes there is no real answer. I mean, sometimes occasionally you'll see a soft patch in terms of ICUs, and I can't give you any definitive. I can tell you that we don't see any systemic long-term reduction in the acuity or the patients that are coming out of ICUs of short-term acute care hospitals in this country. That's just any idea that there's been an outbreak of wellness and those are not going to be continued to be highly utilized services in short-term acute care hospitals really would be nonsense.

So we expect that to return. We certainly will see it in the winter months and we'll probably see an increase. So, I guess the short answer on four phrases, I don't have a definitive answer for you. Why that -- why the bed population was soft in this quarter, but it's not the first time, you see that occasionally.

Kevin Fischbeck -- Bank of America Merrill Lynch -- Analyst

Ok, that's fair. I guess one of the things a number of companies have providers have talked about is improvement in agency labor in the quarter. But generally speaking, to your point, volumes have been a little bit softer. So I'm just trying to understand if there's some way to really disaggregate, how much improvement was because volumes were a little bit lighter and we did need to rely on staffing versus, the actual progress you're making on the hiring, etc.

Is there reason to believe that if occupancy rises, we won't be back to where it was a couple of quarters ago that we wouldn't be in exactly the same spot from the temp labor to deal with that?

Robert Ortenzio -- Executive Chairman and Co-Founder

Well, I do think there is reason to believe that. I mean, I just think that the period we're going through with being in a post-pandemic period and the softening of the economy, I think you have a general view that the RN population of nurses out there do not believe that what they saw a year ago and leading up in terms of the kind of rates and agency was sustainable. And they view it generally, as a single-time occurrence and they are now returning to more of a stable, permanent working environment. So I do think that you'll see more nurses coming back into the labor pool.

Now, we do talk a lot about the nursing shortage, and of course, there is one, but you have to remember that that's driven in large measure by nurses that leave the workforce. It's not that they don't people don't exist with nursing degrees. It's that they have elected, for whatever reason, not to work. And they also can elect to work.

And so we're starting to see them return to more permanent positions. And what we see is that trend is continuing. And so even if there's an uptick in occupancy, I think you'll continue to see the agency drop for all providers and more nurses coming into the workforce.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Kevin, I also --

Robert Ortenzio -- Executive Chairman and Co-Founder

Drop for all providers and more nurses coming into the workforce.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Kevin, I also think that, I mean, the increase in agency nursing that we saw was truly a function of price elasticity to the extent that health systems were offering substantial dollars for those nurses. I mean, for every incremental $10 more they could make, you're going to have a whole bunch more nurses going. And I think the reverse is the same way to the extent that pricing is going down then you're going to see nurses leave the travel nursing programs and move into a full-time program. The other thing that's happening is that sign-on bonuses are dropping.

Signing bonuses were in that $20,000, $25,000 range and those are coming down. So, what we're hearing is that nurses are saying, I better get a signing bonus before there isn't any anymore.

Robert Ortenzio -- Executive Chairman and Co-Founder

So, I think Kevin kind of the last comment on this is what Marty and I are giving you is a combination of facts and opinions, particularly on my side opinion. Marty has given enough detail and data that shows that as a factual matter, the environment is improving. My opinion that comes with that is that it will continue and that this crisis we had in nursing will eventually return to something that looks like trends, and that's my opinion. But I obviously believe the facts support my opinion, although I need to acknowledge that there are still people out there that think that this nursing shortage is going to be exacerbated, is going to continue, and agency rates are going to be high.

And I've heard some of that commentary, and I simply don't agree with it, but they're certainly entitled to their opinion.

Kevin Fischbeck -- Bank of America Merrill Lynch -- Analyst

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

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yeah. I mean, we still believe that 15% to 16% margins are certainly achievable in critical illness recovery hospitals. What's interesting, Kevin if you take a look at this past quarter, we were running at 64% SW&B, as a percentage of revenue. Historically, we've run in 52%.

I mean, there are 12 points right there. And to the extent we're in the 54% to 56% range that's going to bring the margins back up very significantly.

Kevin Fischbeck -- Bank of America Merrill Lynch -- Analyst

Yeah, pretty significant earnings [Inaudible] to get back there. All right. Thank you.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Great.

Operator

Thank you. And one moment for our next question. Our next question will come from Ben Hendrix of RBC Capital Markets. Your line is open.

Ben Hendrix -- RBC Capital Markets -- Analyst

Hey. Thanks, guys. I was hoping we could dig a little bit deeper into specific retention efforts. And you mentioned the extensive training and the investments you make to onboard new nurses.

But where also are you focusing, whether it be wage increases or shifts, bonuses, etc.? I'm trying to get an idea of what it takes to keep. A nurse and then by extension is kind of what's giving you confidence in the levers that you can pull to get back to reducing agency to normal in the next year? Thanks.

Robert Ortenzio -- Executive Chairman and Co-Founder

Well, I think part of what you're referring to, and not unexpected would be a view that retention is going to be based on economics. And there's just a very large portion that is not I mean, once nurses have joined on a full-time basis, they stay for all manner of reasons that they do not necessarily have to do with continued bonuses, stay bonuses, or salary increases. So we obviously have a number of programs going on that will hopefully increase job satisfaction and overall retention. The economics is is another matter, I mean, Marty can speak to that.

But I think we assume that if we do a good job of recruiting nurses and we're paying what is the new normal of a fair rate, market rate then we just have to do a better job operationally on retention. Marty, I don't know if you have any comments on what we -- on the economic side of retention. I really focus on it less on that once nurses are recruited. I mean, they join for a rate that they obviously find acceptable and we hope fair.

And they stay for lots of other reasons.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yeah. Ben, there's really -- I mean, there's a couple of different variables that we look at, but I specifically look at two. One is what is the increase in the base rate that we're seeing, right? And then base rate, if you take a look at over the past two years, our base rate increase has been significantly higher than what it's been historical. And we've typically been in that 2% to 3% range.

I mean, I think over the past two years, we've been annually about 5%. That's number one. And number two is what I just mentioned as far as the increase in the travel rates. So it was really driven by the demand of the health systems.

And I think that what we heard was the first quarter of this past year, I mean, there were significant losses in many of the major health systems in the country. So I think that's going to decrease their desire to maintain those types of rates. Rates are coming down and therefore nurses aren't going to go travel unless they can get those types of dollars.

Ben Hendrix -- RBC Capital Markets -- Analyst

Thank you for that.

Operator

Thank you. One more for our next question. And our next question will come from A.J. Rice of Credit Suisse.

Your line is open.

A.J. Rice -- Credit Suisse -- Analyst

Hi, everybody. A couple of things maybe. First of all, you're pointing to a number of sort of green shoots that make you a little more optimistic about the labor dynamic in the back half of the year and into '23. What are you waiting -- what are you looking for before you start to go back to giving guidance? Because, the company has a lot of moving parts, and the opportunity for us to get off track in modeling is pretty substantial.

It would be helpful, but I understand the issues around labor. What specifically relative to what you don't have right now are you looking for? Is there something in your mind that's a trigger that says, OK, if we have this we'll go?

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yeah, A.J. We've seen on a month-over-month basis substantial reductions. And the question is -- and it's really double-digit reductions. So for us, as we start to see that level out and maintain, whether it's a mid-single-digit rate reduction over a couple of months, I think at that point in time, all of that will make us more confident in providing numbers.

A.J., what we've done is we've provided revenue guidance.

A.J. Rice -- Credit Suisse -- Analyst

Right.

Martin Jackson -- Executive Vice President and Chief Financial Officer

But because of this macroeconomic labor issue, we just didn't feel comfortable. And, I think we're getting more comfortable. But at this point in time, at the end of the second quarter, we're not prepared to do that. We'll follow in our always evaluation.

So in the next quarter, we'll make that determination at that time.

A.J. Rice -- Credit Suisse -- Analyst

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

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yeah, AJ. What we saw in June was a rate of $95. So when we saw that drop in July to $90. So we continued to see that -- historically we've been in the $72 to $78 range.

There's probably more than half of our hospitals have rates below $90.

A.J. Rice -- Credit Suisse -- Analyst

I guess that's random. Go ahead. I'm sorry.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yeah. No. Go ahead. Ask your question.

A.J. Rice -- Credit Suisse -- Analyst

I guess I take this for granted. But I probably should ask you, are most of your agencies cost more than what they call per diem local guys, or are you using a lot of travelers?

Martin Jackson -- Executive Vice President and Chief Financial Officer

In the fourth in the first quarter, we used a lot of travelers and we had some contracts that were 13 weeks that dropped down. And we've also included clauses that allow us to get out with two weeks' notice.

A.J. Rice -- Credit Suisse -- Analyst

OK. And I know -- go ahead, sorry.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Our PRN rate -- our PRN percentage of total nursing hours has remained pretty consistent throughout the pandemic. We're in that 14% to 15% rate, and that really hasn't changed.

A.J. Rice -- Credit Suisse -- Analyst

Interesting. Interesting. One of your peers in the outpatient rehab area. Made the comment on their call earlier in the week that they were starting to see some pressure on physical therapists and rates.

That's the first time I've heard anything like that. Are you guys saying anything along those lines?

Martin Jackson -- Executive Vice President and Chief Financial Officer

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

A.J. Rice -- Credit Suisse -- Analyst

OK. And maybe just the last question. You talked about the more favorable headline rate for the critical access hospital, the LTACs, and you singled out not just the rate itself but the outlier impact. We can look at sort of the nominal rate and say, OK, that's probably worth this much.

But when the outliers are sort of a hard thing for us to adjust, or when you're looking at that or us to estimate when you look at that, how much, I mean, on a year-to-year basis, do you think that the totality of the updated rule is worth to you? How much more is it worth than the proposed rule? Is there any way to size that?

Martin Jackson -- Executive Vice President and Chief Financial Officer

Well, I think number one is there was a -- what was it, about a 30% increase just on the market basket itself, right? So I think we are sitting on 2.8% that changed to 3.8% and they reduce the overall high-cost outlier percent. So, yeah, I think the final rule is much better for the company. We haven't put numbers, it just came out and we haven't really put numbers on to that. But we know it'll be pretty positive.

A.J. Rice -- Credit Suisse -- Analyst

All right. Thanks a lot.

Operator

Thank you. And one moment, please, for our next question. And we have a question from Miles Highsmith of Deutsche Bank. Your line is open.

Miles Highsmith -- Deutsche Bank -- Analyst

Hi. Good morning, guys. Thanks a lot for all the detail. I want to just to go back and maybe clarify a couple of things.

So, Marty, when we're talking about the LTAC SW&B historically 51%, 52% this quarter, 64%, then you put some, kind of loose targets out for the end of the year and next year. I just want to make sure I'm thinking about that right. So those -- that's all SW&B with an LTAC, right? So it's agency expenses, existing bonuses, and sign-on education. Just want to make sure I'm thinking about that correctly.

And if I am, I wanted to triangulate that with you gave some helpful information about Q2, sequentially rates being down, utilization being down. And then the expense on a dollar basis, I think you said went from $89 million down to somewhere in the mid-50s. Are those numbers just related to contract or agency, or is that like a total SW&B number for the LTAC?

Martin Jackson -- Executive Vice President and Chief Financial Officer

Agency numbers -- so yeah, so those are coming down. And the reason you're not really seeing it filter through to SW&B coming down is because offsetting that is those 78 weeks of training in orientation we talked about. So, I mean, what you have to do is think about that in terms of during that 78 weeks, we're actually employing two nurses. One going through the training in orientation.

The one is taking care of the patients. The one for taking care of the patients at the agency when the new nurses come on board and they're starting to treat patients, we'll see a reduction in the agency.

Miles Highsmith -- Deutsche Bank -- Analyst

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

Martin Jackson -- Executive Vice President and Chief Financial Officer

No. I think the way you ought to take a look at it, Miles, is to the extent that we get back to historical trends, I would think about it, as at 64% SW&B as a percentage of revenue. If that gets back to 54% or 56%, that's 8 to 10 points. You just multiply it by our revenue line.

So, I mean, you're looking at in the neighborhood of $200 million of incremental EBITDA coming through as that go -- as that's normalized.

Miles Highsmith -- Deutsche Bank -- Analyst

Gotcha. OK, that's great. And then just one other question. Thanks for all the utilization data.

I can't remember if you said it before, but can you give us a reminder of what utilization was on the contract side, pre-COVID, or in more historical timeframes?

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yeah. It was in that 16% to 20% range.

Miles Highsmith -- Deutsche Bank -- Analyst

Got it. OK. Bye, guys.

Martin Jackson -- Executive Vice President and Chief Financial Officer

Yep. See you, Miles.

Operator

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

Robert Ortenzio -- Executive Chairman and Co-Founder

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

Operator

[Operator signoff]

Duration: 0 minutes

Call participants:

Robert Ortenzio -- Executive Chairman and Co-Founder

Martin Jackson -- Executive Vice President and Chief Financial Officer

Justin Bowers -- Deutsche Bank -- Analyst

Kevin Fischbeck -- Bank of America Merrill Lynch -- Analyst

Ben Hendrix -- RBC Capital Markets -- Analyst

A.J. Rice -- Credit Suisse -- Analyst

Miles Highsmith -- Deutsche Bank -- Analyst

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