2017CFA-IRC【UT Dallas】Final Report-USPH

28
CFA Institute Research Challenge Hosted by CFA Societies Texas, Louisiana and Oklahoma Local Challenge Southwest U.S. University of Texas at Dallas

Transcript of 2017CFA-IRC【UT Dallas】Final Report-USPH

Page 1: 2017CFA-IRC【UT Dallas】Final Report-USPH

CFA Institute Research Challenge

Hosted by CFA Societies Texas, Louisiana and Oklahoma

Local Challenge Southwest U.S.

University of Texas at Dallas

Page 2: 2017CFA-IRC【UT Dallas】Final Report-USPH

CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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University of Texas at Dallas – Student Research Medical Care Industry, Healthcare Sector

New York Stock Exchange

U.S. Physical Therapy, Inc.

Date: 2/8/17 Current Price: $71.45 Recommendation: Sell Ticker - NYSE: USPH Headquarter: Houston, TX Target Price: $58.24

Highlights

We issue a sell recommendation on a price of $58.97: USPH is doing very well

financially, but the market has overvalued its growth. We see its current price as a reflection of

market sentiment rather than its fundamental valuation. Our DCF, DDM, comparable,

transactional and Monte Carlo simulation methods (Figure 1&3, Appendix 4) all project a price

range between $28 to $63 per share. We project that total clinic growth will continue to increase

at a linear rate through de novo clinics and acquisitions, with a heavier emphasis on acquisition

through 2017-2018.

Conservative growth and financing strategy is successful so far: Revenue has grown a

compounded annual rate of 9.1% since 2011. Dividend payout has doubled in the same time

frame even though net profit margin has decreased from 9.2% to 6.4%. This growth has been

financed mostly by the company’s own cash and the use of a revolving credit line. The interest

expense over the last 6 years is less than $5 million total. The total clinic number has nearly

doubled from 10 years ago.

Strong liquidity, solvency and operating ratios: Strong cash position every year results

in solid liquidity ratios, current ratio is 2.7 and cash ratio is 0.65. A revolving credit line is used

to give easy access to over $100 million in funds at minimal cost. Solvency and coverage ratios

are substantial at 53.8 EBITDA coverage and 0.39 L/E ratio. Accounts receivable is at a

comparable rate to the industry and its peers, and Account payable is less than $3 million every

year.

Recent News

USPH Breaks into New 52-Week High – 1/5/17: A new 52-week high was reached by

USPH at a peak per share price of $73.05. Shares closed for the day at $72.55 for a market cap

of $908.47 million and an intra-day move of 0.07%; the volume for the day was 59,562.

USPH Buys Majority Interest in 17 Clinics – 1/4/17: A 70% stake in a yet unnamed clinic

group was acquired for $11.4 million. The clinics generate $11 million in annual revenues with

just over 100,000 patient visits. They purchased 17 and 8 are under management.

USPH Announces 12 Clinic Group Acquisition – 12/1/16: Chris Reading, USPH CEO,

said they are “extremely pleased to complete this transaction with a very talented and capable

group of partners. This practice has been recognized as National Physical Therapy Practice of the

Year, similar to several other award winning practices which have elected in recent years to join

our large and growing family of partnerships.” 60% interest was acquired by USPH for a purchase

price of $11.5 million. The clinic group generates more than $10 million in revenue per year and

sees 90,000 plus patients visits per year.

Market Data

Closing Price $71.45 52-Week Range $45.76 - $73.05 Average Daily Volume 53,545 Market Capitalization 899.17M Price/Earnings Ratio 36.89x Dividend yield 0.95 Earnings per Share $1.94 Share outstanding 12.52M Beta 0.99

Source: S&P Capital IQ, Yahoo finance, Team Calculation

Valuation date: December 31, 2016

$71.45

$0

$10

$20

$30

$40

$50

$60

$70

$80

Source: Yahoo finance

Figure 2: Historical USPH Stock Price

Figure 3:

Source: Team Calculation

Figure 1: Summary of Market, Valuation,

and Financial Data

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Business Description U.S. Physical Therapy, Inc. was founded in 1990 and is the largest publicly-traded, pure-play

operator of outpatient physical and occupational therapy clinics in the United States. Operating

over 500 outpatient clinics in 42 states, they specialize in pre and post-operative care for

orthopedic-related disorders, sports-related injuries, preventative care, injured worker

rehabilitation and other physical injuries. Their operative model for the clinics is a 1% general

partnership ownership, along with 49% to 94% stake as a limited partner. They partner with

licensed physical therapists who own the minority share of the clinics and manage their

location(s).

The primary sources of revenue for USPH are patient revenues via care and insurance plans. No

payor currently contributes more than 30% of overall revenue (Figure 4). Commercial Health

Insurance leads revenue streams for USPH at 28%. Managed care (Private) is 23% and is

combined with Other (6%) to provide a better comparison to the industry. Medicare/Medicaid

and Workers’ comp round out the rest of the payor group.

Company Strategy

USPH’s growth and success are built upon their business model and competitive strategy. They

seek physical therapists to partner with and build clinics that are operated, and partly owned, by

physicians. This method of growth is what they call ‘de novo’ clinic development. The location

is usually in the local area of the therapist in order to leverage the relationships and reputation of

the minority partner. These arrangements typically involve up to a 5-year employment agreement,

a non-compete addendum, and an increasing limited interest. The limited partner usually begins

with a 20% interest that increases 3% annually to a maximum of 35%. USPH has the right, but

not the obligation, to buy the non-controlling interest at the end of the period. This buyout is

usually at a predetermined EBIT multiple.

Each clinic has a local independent identity, and they are assisted by the various corporate support

services provided by USPH including marketing, national purchasing, negotiated third-party

payor contracts, site selection, construction, accounting and billing systems, training, and various

other business functions.

Acquisitions play an important role in the strategy of USPH. During the past 5 years, from

2011to 2015, USPH has bought 120 clinics (Figure 5). The de novo clinics typically lose money

for about a year before they become profitable, and so they are usually an early-stage drag on

earnings. By growing via acquisitions, USPH can quickly add profitable business in new

geographic areas. They do not follow a set M&A plan; but rather, they seek to find strong

business, with good partners and physical therapists, and then buy the clinics.

This conservative approach to growth is consistent throughout their business model (Figure 6).

They maintain manageable debt, low accounts payable, moderate growth, adequate cash on hand

and pay a reasonable dividend to their investors. We recognize this steady approach to their

business throughout our analysis.

Industry Overview and Competitive Positioning Physical therapy is a $30 billion plus industry. It is poised for continued growth in the next several

years due to several macroeconomic and demographic trends (Figure 7). The industry is highly

fragmented, with about 45% of the industry comprised of small independently owned clinics.

The largest 50 companies in the sector comprise less than 25% of the total market, and no single

participant captures more than a 5% market share1.

Growth and Demand-Side Drivers

Healthcare disbursements are expected to climb to over $5.6 trillion by 2025 (Figure 8). This

increase is due to an expanding patient population from an increase in the mean population age,

employment growth, and consumer emphasis on healthy lifestyles and activities. Changes in the

healthcare industry are driving increased numbers of patients to use physical therapy services.

Earlier patient discharges, surgery alternatives, and an emphasis on preventative care are all

focuses of the healthcare industry to reduce costs. Physical therapy’s clinical effectiveness

provides a solution to the rising costs of healthcare.

1

Year Total Price

Clinics & MI

2011 $29.9 20

2012 $10.2 14

2013 $48.5 45

2014 $17.8 20

2015 $26.0 21

2016 $26.2

24

$0

$5,000

$10,000

$15,000

$20,000

$25,000

$30,000

$35,000

Projection

Historical

$29,528 $31,926

Source: Company 10-K, IBIS World

44%

37%

11%

8%

Medicare/

Medicaid

24%

Commercial

Health

28%

Private &

Other

29%

Worker's

Comp

19%

Figure 4: Revenue Source, Payor Mix

USPH – Outer Ring

Physical Therapy Industry – Inner Ring

Figure 6: Total Acquisition Costs & #

of Clinics Acquired

Figure 7: PT Industry Revenue (mil)

273

311

19

197

0

50

100

150

200

250

300

350

# o

f C

lin

ics

Developed

Acquired

Figure 6: Clinic Count

Source: Company 10-Ks, team estimates

Source: IBIS World

$1,370$2,024

$2,596$3,206

$4,249

$5,633

$0

$1,000

$2,000

$3,000

$4,000

$5,000

$6,000

Source: cms.gov

Source: Company 10-Ks, team estimates

Figure 8: National Healthcare

Expenditures ($B)

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Increasing employment, especially in manufacturing, drives several factors that will increase the

need for physical therapists. Higher wages due to greater employment, result in more disposable

income, which increases the likelihood of using physical therapy and purchasing private

insurance plans that cover a greater range of physical therapy services. Higher employment will

also increase the number of workers’ injury claims.

An Aging Population The physical therapy industry is in the growth stage of its life cycle and is expected to continue

to grow at a rate of 1.3% over the next 5 years (Figure 9). This growth is partially driven by an

aging American population. As the US population ages, demand for physical therapists will

increase with more incidences of heart attacks, strokes, and other injuries that disproportionately

affect the health mobility of the elderly. The median age of the US population is expected to jump

from 37.8 to 38.5 by 2022; and the total population over age 65 is projected to increase 22% from

46 million to 56 million by 2020.

Growing awareness of physical rehabilitation benefits Physical therapy can be an alternative non-invasive solution for patients to avoid a costly,

invasive surgery, by providing preventative care which stops problems before they become

serious. To continue to manage reimbursement rates from Medicare, healthcare providers will

increasingly have to rely on preventive services and post-acute care such as physical therapy to

reduce readmission rates. Businesses and employers frequently look for cost savings in healthcare

services they provide to their employees. Physical therapy can be a cost-effective solution for

short-term disabilities and may eliminate the need for surgery in the future.

Supply-Side Drivers

The increasing demands of the healthcare industry drive insurance providers and hospitals to

decrease their costs by accessing the large market of physical therapists. Wages have been

increasing and clinics have started hiring assistants to ease their patient burden and reduce their

own cost. USPH has seen wages, as a percent of revenue, grow at their clinics by more than 1%

since 2011. In the industry, based on an estimated attrition rate of 3.5%, by 2025 there is projected

to be a shortage of physical therapists of approximately 18,350 workers (Figure 10), complicated

by the rapidly aging population and expanding healthcare coverage.

Most physical therapy practices are located in high population density areas. As the population

continues to age, the locations of retiring baby boomers will become an increasingly important

subject.

Barriers to Entry Physical Therapists face intense competition due to the relatively low barriers to entry. A physical

therapist can open a clinic and begin to achieve profitability within 6-12 months.

Regulation Healthcare service providers are heavily regulated and this trend is expected to continue into the

foreseeable future (Figure 11). Legislation and the possible repeal of the affordable care act are

the biggest challenges facing the healthcare industry. There is legislative uncertainty following

the election of President Trump, and the industry changes his administration and the republican

congress may implement. Physical therapy services are regulated and require operational

licenses, certifications, and have strenuous guidelines regarding billing, coding, and reporting.

Porter’s 5 Forces Analysis Rivalry – Low

Industry rivalry is considered low due to a highly fragmented market, wide geographical

distribution, and easy access to local physical therapists. Most of the business at physical therapy

clinics is brought in via referrals and word of mouth. Competition and referral of clients is often

determined by the contractual referral agreement between the clinic and the local facilities.

Bargaining Power of Suppliers – High

Almost all of the industry’s revenues come from the third-party payors, who hold the power to

negotiate payout rates with the clinics. These payors are increasingly pressured to lower costs

and subsequently pressure their providers to do the same. The payers set the reimbursement rates,

and providers either accept these price levels or risk losing their business. Due to the economy of

scale, these payors maintain a negotiable advantage from the large number of people subscribed

to their plans.

Bargaining Power of Customers – Moderate

1965 Medicare/Medicaid

1974 ERISA

1985 COBRA

1997 The Balanced Budget Act of

1997

2000 BIPA

2003 MMA

2010 PPACA

2015 MACRA

Source: census.gov

0%

5%

10%

15%

20%

25%Historical Projected

Figure 9: Age 65+ Percentage of

Total Population

175

195

215

235

255

275

Lic

ense

d P

T's

3.5% Attrition Rate - Shortage of 18.35 (k)

Supply of FTE's Demand

Source: apta.org

Figure 10: Licensed Physical Therapist

Supply & Demand

Figure 12: Porter’s 5 Forces

Source: Team estimates

1

5

2.52

4.5012345Rivalry

Suppliers'

Power

Customers'

Power

Substitution

Threat

New Entrants

Figure 11: Major Healthcare Reform

Source: en.wikipedia.org

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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There are many local clinics to choose from for customers to receive treatment. Although

customers may be limited to businesses that accept their insurance, they still have reasonable

bargaining power. Customers can also negotiate prices or payment plans on their own with

clinics. Healthcare providers know that allowing a bill to go unpaid will substantially lessen their

ability to be reimbursed, and will often accept a lower fee instead.

Threat of Substitutes- Moderate

The customers of physical therapy clinics have several options available when it comes to solving

healthcare issues. Physical therapy is a cheaper and less invasive solution than surgery, so it is

often suggested first by doctors as a means to lower costs. Patients may also choose medication

as an alternative to both physical therapy and surgery. Threat of new entrants – High

There are approximately 27,700 physical therapy centers in the US, as estimated by IBIS World,

so there are not significant barriers to enter the market. The healthcare industry is complex, but

the fragmentation of the market shows that this is not a substantial hurdle.

Investment Summary Outlook and Assumption Rationale

USPH is pursuing a two dimensional strategy to grow the company. They generated an immediate

growth to their top-line by engaging in acquisitions, and they add organic growth through the

development of the de novo clinics. As USPH acquires new clinics, its revenue grows leading to

a boost in net income and a larger line of credit (Figure 14). In 2018, they will have to renew

their credit facility and will likely be forced into a higher interest rate obligation due to increasing

rates. For this reason, we anticipate a more aggressive growth in the acquisitions and a slower

growth rate for de novo clinics in 2017 and 2018. After they renew of their revolving credit

facility, they will continue their growth cycle as shown in (Figure 15).

Resilient Earnings and Growth

Despite a tumultuous last 10 years in the economy and market, USPH has continued to grow,

expand and profit. An earnings analysis of our comparable group shows how much even the big

players in the healthcare space struggle (Figure 16). Net patient revenue has climbed every year

since 2006, and does not show noticeable volatility from market shocks or regulatory policy.

Conservative management and smart strategy are the reasons for this resiliency. Because of this,

we do not foresee any upcoming regulatory or market moving impacts to materially impact

USPH’s ability to grow and generate positive earnings or dividends. The only impact these will

have is on risk.

Management’s Consistent and Conservative Approach While market risk and the healthcare industry might change, management has proven their ability

to persist, profit and expand regularly and through M&A. The acquisition strategy is clear from

the geographic distribution of USPH’s clinics and the price they consistently pay. They look to

make additions to the clinic group, but only if the price and local physical therapy team is right

(Figure 17). There are numerous statements in the 10-K and earnings calls about finding qualified

physical therapists to work with them. The recent acquisition in December 2016 was an award-

winning clinic group, and the press release claims several accomplished clinics have joined

USPH as well. They also look to build relationships with physical therapists in areas where they

Source: 10-Ks and team estimates

0.4m

0.6m

1.1m

0.6m

1.0m 1.0m

0.0m

0.2m

0.4m

0.6m

0.8m

1.0m

1.2m

2011 2012 2013 2014 2015 2016

Cost per clinic acq Average

Figure 17: Cost per Acquired Clinic

Figure 14: Investment Thesis:

Growth Cycle

Source: Team estimates

Source: Company filings, Team Research

14%

9%

6%

4% 4% 4%5%

7% 7%

-2%

0%

2%

4%

6%

8%

10%

12%

14%

2013 2014 2015

NI Margins

Tenent Healthcare Kindred Heathcare

Healthsouth Select Medical

USPH

Source: Capital IQ and Company filings

Figure 16: Comparable Company

Profit Margins (NI)

Figure 15: USPH Share Price, Amendment to Credit Agreement & Major Acquisition Events

_

Figure 13: SWOT Analysis

Source: Team research

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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can establish de novo clinics. While they have done an average job historically at building de

novo clinics, they need to improve this process to drive further growth. Relationships in the

medical industry are very important, as most clients are referrals. Thus, building a network and a

reputation is very important. This is also why management has chosen to record referral

relationships in their balance sheet and amortize them. This also helps them write-off portions of

acquisitions since goodwill, usually the account which absorbs most of the cost of the acquisition,

cannot be amortized and has inflated their balance sheet.

Possible Investment Risks

Overall, risks for USPH are relatively low. They are sound financially, have a good management

team, and operate in an industry poised for continued growth. There are no impending risks that

would materially change our outlook on USPH’s strategy, but there are several micro and

macroeconomic factors that should be taken into consideration. These are detailed in the

Investment Risks section of our report.

Valuation Approach and Methodology

We use a DCF model and a DDM model for our fundamental valuation analysis tools. We

estimated market multiples to arrive at a comparable valuation, and also used transaction

multiples to value the going multiples at sale.

Revenue and Growth Rate

We used the following formula to project revenue growth rates across a 5-year horizon (Figure

18).

Revenue = Net Rate per Visit * Total Patient Visits per Clinic * Total Number of Clinics

Net patient revenue (rate) per visit is projected at the historical flat rate

Total patient visits per clinic will increase slightly over the horizon period

Total clinic number: acquired clinics & developed clinics

Small changes in the net rate per visit and the number of patient visits contribute only

incrementally to annual revenue growth, but these changes capture the macroeconomic factors

such as the increasing population age and change in disposable personal income.

The most substantial driver of revenue is the growth in clinics. We found that the next years’

revenue growth had a 90% correlation with newly acquired clinics (Figure 19). We assume that

acquired clinics are they key drivers of annual revenue growth. This acquisition behavior

determines the future trend of annual revenue growth. New de novo clinics do not appear to

have significant impact on future revenue growth rates. We attempted several econometric

regressions, but were not able to derive a functional model. The only correlation that was

partially useful was that de novo clinics, once developed, contribute to revenue growth in later

years.

Based on our assumptions and investment summary, revenue growth in 2016 will decrease to

7.8%. An aggressive acquisition plan, aging population and disposable personal income will

increase revenue growth beyond 2017. After 2018, a steady revenue growth rate will result

from additional clinic acquisitions balanced with de novo clinic growth.

Cost of Goods Sold – Salaries, Rent and Operating Expenses

The gross profit margin has decreased 6% since 2014 due primarily to rising salaries, but also

because of the cost of opening de novo clinics. They contribute little to revenue and normally

lose money in the first year, due to start-up costs and wages. USPH has been inefficient in the

operation of de novo clinics. De novo clinics need 3- 5 years to contribute to revenue growth

based upon the change in the correlation translation from negative to positive in 3 years (Figure

19). This has been stated in several earnings calls, however, the data shows the analysis takes

longer than the 1 or 2 years the company claims to offset the start-up costs of a new clinic. De

novo clinics also create an immediate drag on COGS. We found a correlation of 0.81 with new

de novo clinics and COGS growth (Figure 20). We project a decreasing de novo clinic growth

and a corresponding decrease in COGS until 2018, which should improve profitability. After

2018, COGS should begin to trend upwards again with the resumption of normal de novo

growth and the associated inefficiency.

Source: Capital IQ, 10-Ks and team estimates

-2%

0%

2%

4%

ρ = 0.81

Growth Rate of COGS

Growth Rate of Developed

Figure 20: COGS & De Novo g-rates

Source: 10-Ks and team estimates

Figure 18: Drivers of Revenue Growth

Figure 19: Growth Correlation per

clinic type

Source: 10-Ks and team estimates

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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DCF Model

The DCF (Discounted Cash Flow) is our primary valuation model. The implied equity value was

estimated at $58 per share and represents an 18.82% downside from 02/03/2017’s close. The

model was limited to a five-year horizon due to the sensitivity of exogenous variables during

President Trump’s term. The base case used for the model was formulated using guidance from

historical performance, competitive positioning, industry trends, and company guidance. In

addition, the following inputs were assessed to formulate our valuation (Appendix 2).

Capital Expenditures, Acquisitions, Depreciation and Amortization

Capital expenditures (CAPEX) will be driven by the clinics’ needs for furniture, equipment and

leasehold improvement for acquisitions but especially de novo growth. Each CAPEX was

forecasted as a function of the expected total revenue due to Company’s expansion strategy which

was 1.9% in the current fiscal year (Figure 21). More cash acquisitions will happen in 2017-2018

based on our assumption cycle. Depreciation and amortization was calculated on the straight-line

method according to the Company (Appendix 1).

Weighted Average Cost of Capital (“WACC”)

The WACC was split into two tiers in the year 2018 to adjust for the new lease accounting

guidance. Since the Company leases all but one of its clinic facilities, we believe that the new

right-to-use asset and its offsetting lease liability will have an impact on the Company’s current

consolidated leverage ratios, thus affecting their loan covenants for the Credit Agreement. The

adjusted cost of debt was calculated at the weighted average effective interest rate of two debt

sources from revolving credit and notes payable. The cost of equity was calculated using CAPM

model. The risk-free rate was based on the 10-year US treasury and market consensus as of the

valuation date. Linear regressions of USPH’s stock price were run against the S&P 500 a weekly

base for three years to calculate beta. The market risk premium is based on the KPMG market

estimates (Figure 22).

The company will keep pursuing its acquisition strategy. We use the current debt capital structure

of 5% debt and 95% equity for a target capital structure of 10% debt and 90% equity which is

utilized in the second tier from 2018-2020 (Appendix 2).

Terminal Value:

For the terminal growth rate, two scenarios were utilized in valuing USPH’s long-term target

price based on our assumptions (Figure 23):

Acquisition growth scenario: USPH will be aggressively shifting their business to an

acquisition-based strategy and actively pursuing efficient de novo clinics growth. An

EV/EBITDA multiple of 10.5x was chosen as our best projected multiple in 2020 and used

to arrive at a terminal value of $ 1,022.7 million, which derives an implied highest terminal

growth rate of 4% in 2020 based on the Gordon Growth Model. (Appendix 5) Thus, the 4%

terminal growth was applied in the first scenario of terminal value calculation.

De novo growth scenario: USPH will be focusing on the de novo-based plan and

conservatively developing satellite clinic networks through investing. The de novo clinics

effect on COGS still exists, which results in a lower 3.0% terminal growth floor. We choose

the floor rate in consideration of the annualized Physical Therapy Rehabilitation Centers

industry growth of 3.0%.

Dividend Discount Method USPH was returning cash to shareholders through a stable dividends payout ratios of

approximately 33.2% for the past 3 years. Additionally, the company has been able to increase

dividend payments since 2013 at a 3-year CAGR of 25%. The sustainable growth rate is

forecasted at the historically constant payout ratio and projected ROE for 2020. The DDM

calculates an intrinsic value of $58.85, which reaffirms our Sell recommendation (Figure 24 &

Appendix 5).

Comparable Trading Valuation

In order to conduct a relative valuation, we identified four peers, as listed below (Figure 25),

who compete against U.S Physical Therapy, Inc. This multiples valuation yielded an extremely

low value for USPH, about a third of its current market value. We believe that USPH is

overvalued, but not to this extent. This demonstrates the market premium placed on USPH, which

2016-2017 2018-2020

Risk-free rate 2.47% 3.05%

Adjusted Beta 0.99 0.99

Market risk

premium

6.00% 6.50%

Cost of Equity 8.41% 9.49%

Adjusted Cost of

Debt

2.60% 3.10%

Corporate tax rate 31.60% 31.6%

Total Debt/Total

Capital

5.00% 10.0%

Total Equity/Total

Capital

95.0% 90.0%

WACC 8.10% 8.74%

Figure 21: CapEx and Depreciation

0

2.0

4.0

6.0

8.0

10.0

12.0

Depreciation Capital Expenditure

Source: Capital IQ, 10-Ks and team estimates

Figure 22 WACC Analysis

Source: Capital IQ, 10-Ks and team estimates

Figure 23: Terminal Value

Source: Capital IQ, 10-Ks and team estimates

Dividend Discount Method

Cost of Equity 9.5%

Net present value of dividend cash flow (b) $39.9

Growth Rate of Dividend 7.9%

Terminal Value 1031.3

Present value of the terminal value (c) 717.8

Enterprise Value $757.65

LESS: Net Debt (d) (e) (22.0)

Equity Value $735.6

Diluted shares: 12.5

Equity Value Per Share (e) $58.85

Source: Capital IQ, 10-Ks and team estimates

Figure 24: DDM

Dividend Payout Ratio 33.20%

Retention rate 66.80%

Proj. ROE 2020 12%

SGR 7.9%

Sustainable Growth Rate

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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is not as bullish for the rest of the physical therapy and healthcare centers industry (Appendix

3).

Comparable Transactions Valuation

Within the physical therapy rehabilitation centers industry, there are very few large transactions.

We were only able to choose one transaction, Remgro Limited’s purchase of Spire Healthcare

Group, Plc. This transaction value multiple for USPH results in a value at just under $50 per

share, which is between our valuation of the comparable multiple analysis and the DCF analysis.

This gives further support of our investment assertion that USPH is over-valued, and should receive a sell recommendation (Figure 26 & 28).

Monte Carlo Simulation In addition to our DCF valuation, we performed Mote Carlo Simulation to analyze the implied

risks from variables including long-term growth rate, WACC, and tax rate. The result shows a

mean value of $60.02 for the target price, which is near our valuation.

100,000 simulations were run and the results indicate a 67% probability to support the sell

recommendation, 27% supports a hold recommendation, and about 6% supports a buy

recommendation (Figure 29 & Appendix 15).

Price Target

Our price target of $58.24 was calculated using a weighted average from the discounted cash

flow and discounted dividend model. We attached a weight of 80% to the discounted cash flow,

as we believe it as the primary determinant of intrinsic value. A weight of 20% was applied to

the discounted dividend model. We placed no weighting on the results of comparable valuations

due to the capital structure differences, and limited number of similar-sized transaction. (Figure

30).

Risks to Your Price Target

Debt Obligation: Our models assume that the revolving credit agreement will be extended in

2018 and the company will maintain its business acquisition activities into the forecasted future.

However, the inability to pay back their obligations in full may cause a solvency crisis in extreme

situations.

Uncertainty of tax reduction and regulations: The projected effective tax rate at 31.6% was

applied in DCF model. We believe that on the one hand, a tax reduction policy would ease

company’s tax burden, boost the economy, and favor the industry. On the other hand, there is

always a concern about a debt ceiling crisis as a result of the tax reduction projections that might

ultimately have a negative effect upon Medicare and Medicaid reimbursements that would impact

the company’s revenues.

As-Of Date: Feb-03-2017

Company Name

TEV /

EBITDA

LTM

TEV /

EBITDA

NTM

TEV /

EBIT

LTM

TEV /

EBIT

NTM

P / E

NTM

PEG

Ratio

NTM

U.S. Physical Therapy, Inc. 16.2 16.5 18.9 17.69 34.09 2.41

Select Medical Holdings Corp. 9.9 8.94 14.1 12.94 16.86 1.35

HealthSouth Corporation 8.2 8.48 10.4 10.63 15.26 1.2

Tenet Healthcare Corp. 7.7 7.52 11.8 11.35 11.68 0.96

Kindred Healthcare, Inc. 7.1 4.5 10.1 10.91 17.01 2.13

Announced

Date Target Buyer Seller

Target

TEV

(USD

mm)

Size

(USD

mm)

TEV/

LTM

Revenue

TEV/

LTM EBITDA

Jun-22-2015 Spire

Healthcare

Group Plc

Remgro

Limited

Cinven Group

Ltd., Cinven

Capital

Management,

Cinven S.A.

2,064 683 2.1x 11.7

Source: Team estimates

Figure 29: Monte Carlo Simulation

Figure 25: Comparable Trading Company Valuation

Figure 26: Comparable Transaction Valuation

Valuation Est. Price Weights

Acquisition Growth

Scenario $63.00

De novo Growth

Scenario $53.18

Average of DCF Price $58.09

DDM Price 58.85 20%

Target Price $58.24

80%

Figure 30: Target price

Source: Team calculation

Figure 27: Physical therapy companies

Figure 28: Monte Carlo Simulation

Source: Team estimates

Source: Team research

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Financial Analysis A consistent and steady business model is a hard thing to accomplish in today’s markets. USPH

has been able to stay level in their control of several aspects of their financial strength and

efficiency.

Trends

From Q4 2008 to Q3 2016, the company experienced a noticeable seasonality in their revenue

and earnings. Revenue tends to increase the most from Q1 - Q2 (Figure 31) for an average

increase of 6.3%, and Q2 has the largest average revenue over a 31 quarter reported period of

65.7 million. Revenue will typically trend upwards in the last quarter of the year as well, for an

average quarterly increase of 1.7%.

Earnings

Trending in a similar pattern to revenue, earnings are increasing overall at a healthy and

consistent compounded growth rate of 4.8% (NI before adjustments for discontinued operations).

In 2011 and 2013 however, there were abnormal returns due to discontinued operations. USPH

will close clinics when they are unprofitable, which will occasionally contribute to earnings

volatility. They incur clinic closure costs every year of about $184k, less than .015% of clinic

operating costs. These are eliminated from our analysis and recorded as restructuring expenses.

Earnings are reduced further because of the importance from USPH on partnerships and the

limited partner ownership structure (Figure 32). Non-controlling interests are typically around

30% of earnings after discontinued operations, and are about 3% of total revenue. Despite these

issues, USPH delivers positive EPS every year at an average of $1.61.

Cash Flow

Another consistency in USPH’s business model is its ability to generate a strong amount of cash.

Capital expenditures are low; they are only used to purchase inexpensive therapy equipment,

furniture and make leasehold improvements. The income they generate is more than enough to

cover operating liabilities and pay dividends. Working capital requirements are more demanding

due to the nature of the healthcare industry (Figure 33). Days receivable for USPH is 48 on

average, but has decreased 21% since 2011. Accounts receivable is responsible for about 17% to

20% of total assets, but has also been decreasing as a percentage during the last 5 years. Inventory

for the clinics is non-material, and accounts payable is less than 5 million per year. Accruals

fluctuate around $10 to $20 million per year, but will likely increase as revenue and salaries

increase in the future. Unlevered free cash flows are strong, over $20 million per year. They have

experienced positive cash flow growth during the last 5 years except for 2015 when it decreased

approximately $5 million.

Balance Sheet & Financing

USPH primarily finances itself with its own cash flow and a revolving line of credit which they

can draw for acquisitions, working capital, capital expenditures or other business needs. Several

years ago, the company used their revolving credit for facility to purchase treasury stock,

demonstrating their good relationship with their banks. Boasting a liabilities-to-total equity ratio

of less than .45 in the last 6 years and a BV D/E ratio that is less than .27 in 2016, USPH clearly

demonstrates they are capable of self-funding (in the form of retained earnings) operations.

(Figure 34).

Liquidity is another strength of the physical therapy provider. Their current ratio is at 2.6 and was

as high as 3.2 in 2015. Their quick ratio is similar due to a lack of material inventory. There is

plenty of cash liquidity to cover short term liabilities. USPH has a cash ratio at .65 and it has

been as high as .83 in 2015. The strong liquidity and balance sheet of USPH supports their credit

rating and helps to keep interest rates low. They paid less than $1.3 million in interest in 2016,

giving them a EBITDA coverage ratio of 112x.

The majority of their assets are represented by goodwill and intangible assets, with a combined

weight of more than 70% of total assets. Intangible assets are primarily tradenames, referral

relationships, and non-compete agreements. These assets are generated through acquisitions, and

are a result of the physical therapy group’s emphasis on growth through acquisition. The large

liabilities in retained earnings, minority interest and revolving debt further reflect the company’s

strategy.

Source: Capital IQ, 10-Ks and team estimates

Source: Capital IQ, 10-Ks and team estimates

61.8

65.7 65.2

61.4

-2%

0%

2%

4%

6%

8%

$58

$60

$62

$64

$66

Q1 Q2 Q3 Q4

Revenue Growth

$0

$5

$10

$15

$20

$25

$30

$35

2011 2012 2013 2014 2015 2016E

NI before Adjustments for NCI & DCO NI

$18.9m

$17.2m

$13.9m

$15.9m

$26.2m

$28.3m

$3.2m

$4.2m

$4.6m

$5.2m

$6.3m

$7.5m

$0m $10m $20m $30m

2011

2012

2013

2014

2015

2016

CapEx NWC

Source: Capital IQ, 10-Ks and team estimates

Figure 31: Quarterly Averages

Figure 32: Yearly Earnings

Figure 33: Operating Expenditures

10% 10% 7% 8%

20% 18% 21% 20%

57% 60% 58% 56%

12% 12% 14% 16%

0%

20%

40%

60%

80%

100%

2013 2014 2015 2016MINORITY INTERESTS TOTAL EQUITY

TOTAL L-T LIABILITIES TOTAL CURRENT LIABILITIES

Source: Capital IQ, 10-Ks and team estimates

Figure 34: Balance Sheet Breakout

Source: Capital IQ, 10-Ks and team estimates

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Operating Margins

We see consistency in USPH’s business over time with regards to operations (Figure 35). They

have a gross margin range between that 24% to 25%, for all years. This margin has decreased in

the last couple of years due to salary increases which now account for almost 60% of revenue.

The EBITDA margin over the last 5 years has been consistent at 17%, but in 2016 it touched its

second lowest level since 2011. Lastly, the net margins of USPH have experienced some

fluctuation due to discontinued operations, but remain relatively stable, averaging 7% since 2011.

This margin decreased slightly in 2016, which can be contributed to several factors, such as taxes.

Investment Risks

USPH faces a number of market risks as a result of the healthcare industry. The regulatory

changes and reforms are dependent upon the political and economic climate in the US. USPH

faces some operational risks as well.

Market Risk

The healthcare industry has a vast amount of legislation, and physical therapy is no exception.

Virtually all of USPH’s revenue comes from third party payors. Any changes to reimbursement

rates, cost controls, or spending limits would have an immediate and material effect on their

business model. [MR-RB]

In addition to legislative changes or reform, there are significant reporting, confidentiality, and

certification guidelines that must be met with strict adherence. Failure to comply by USPH or its

clinics could result in serious disruption to their business from enforcement agencies. This

includes cyber-attacks, which are happening with increasing frequency to healthcare businesses.

[MR-RG]

Medicare disbursements carry additional risks since it is administered by the federal government.

Congressional bodies have developed many pieces of legislation to amend Medicare and

Medicaid. Government funds are also subject to audits that could result in retroactive reduction

of payments to the physical therapy group. These audits themselves could pose a financial burden

on the company. Delay of payments could cause USPH to shift their attention from clinic growth

to facilitating an investigation and would be costly for the company. [MR-MD]

The fragmented industry could be primed for a large platform investment company. Private

equity firms have significant untapped capital commitments from last year, and the small number

of potential investments has driven up valuations. The physical therapy market presents an

attractive investment opportunity to a patient and diligent firm. A couple of large players in the

industry could quickly create an intense field of national PT clinic operators. USPH has proven

the viability of this business model. A smart, heavily capitalized company could repeat the

process and directly compete within a few years (Appendix 13). [MR-PE]

Operational Risk

The ability of USPH to continue to attract and retain experienced physical therapists is crucial to

long-term growth. There are several clinics closed each year, so the addition of clinics through

acquisition and their own development is important to sustain growth. The attrition rate of

physical therapists is an important factor, as some estimates believe that just a 1% change could

be the difference between a surplus or shortage of therapists by 2025. Certification changes or

additional requirements of physical therapists are also factors that could negatively impact USPH.

[OP-PT]

Weather can affect financial results as well. Q1 and Q4, typically very cold quarters, are the

slowest revenue quarters for USPH. There are a lot of clinics in the northern part of the US that

shut down as a result of extreme weather conditions. [OP-WT]

Liquidity could pose a problem for USPH in adverse financial markets similar to the 2008

financial crisis. As USPH grows, they will require more leverage, and will likely continue to use

a revolving credit line. If they draw down a sizable amount and cannot roll the balance due to

systemic credit tightening, they could have considerable liquidity issues. [OP-LQ]

Economic Risk

Unemployment is a macro concern for the physical therapy industry. Employment, particularly

manufacturing, provides insurance, increased discretionary income and worker’s compensation

claims that together compose a majority of USPH’s revenue. If employment drops the impact on

revenue would be material. [EC-UN]

Source: Capital IQ, 10-Ks and team estimates

Figure 36: Risk Matrix

0%

5%

10%

15%

20%

25%

30%

Gross Profit EBITDA EBT NI

Figure 35: Operating Margins

Source: Capital IQ, 10-Ks and team estimates

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Corporate Governance

Management team operates with relative independence from the board of directors.

Stock incentive plan in place to encourage management performance.

Seven of the ten members of the board nominated for re-election, are considered

independent.

Compliance committee and audit committees guarantees quality of operations.

Christopher J. Reading, the Chief Executive Officer, has more than 26 years’ experience in

healthcare management, and also is a physical therapist.

All certain beneficial holders are institutional investors, among which BlackRock, Inc. has

10.2% common stocks with sole voting power over 1,248,176 of the shares and sole

dispositive power over 1,275,109 of the shares. No one person’s interest in common stock

is more than five percent of the total outstanding common stock. (Figure 28).

Figure 28: Investor composition

Other - >1%

Hedge Fund Managers - 6%

Government - 1%

Family Offices & Banks -4%

BlackRock -11%

Neuberger Berman - 9%

RBC - 6%

The Vanguard Group- 5%

Renaissance

Technologies - 5%

Tradiational Investment Managers -

91%

% of Total Shares Outstanding

Page 12: 2017CFA-IRC【UT Dallas】Final Report-USPH

CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Appendix 1 Financial Statements

Income Statement for U.S. Physical Therapy, Inc.Dollars in Millions, except per share

Historical Year Ending December 31, Projected Year Ending December 31,

Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020

Net Patient Revenue $258.3 $299.0 $324.3 $349.6 $378.5 $435.2 $470.1 $507.7

Provision for doubtful accounts ($4.4) ($4.1) ($4.2) ($5.0) ($5.5) ($6.3) ($6.8) ($7.3)

Other revenue $5.8 $6.1 $7.0 $7.5 $8.0 $9.3 $10.0 $10.8

Total Revenue $259.7 $301.0 $327.1 $352.0 $381.0 $438.3 $473.3 $511.1

Cost of goods sold, excluding depreciation, amortization (1) 189.2 217.9 240.6 258.9 281.0 324.1 346.2 373.9

Gross profit 70.5 83.1 86.5 93.1 100.0 114.2 127.1 137.2

73.2% 72.9% 74.2% 74.1% 74.2% 74.5% 73.7% 73.6%

SG&A expenses 25.9 30.4 31.1 33.4 35.8 40.7 43.5 46.5

Other operating (income) / expenses 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

EBITDA 44.6 52.7 55.5 59.7 64.2 73.4 83.5 90.7

Depreciation (1) 4.7 5.2 6.2 6.6 7.1 8.1 8.6 9.8

Amortization 0.9 1.5 1.7 2.0 2.2 2.4 2.6 2.8

EBIT (2) 39.0 45.9 47.5 51.1 54.9 63.0 72.3 78.2

Interest expense 0.5 1.1 1.0 1.1 0.9 1.0 0.7 0.2

Interest (income) (0.0) (0.0) (0.1) (0.2) (0.2) (0.2) (0.1) (0.2)

Other non-operating (income) / expense 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

EBI Excel.Unusual Items 38.5 44.9 46.6 50.1 54.2 62.1 71.8 78.1

Restructuring Charges 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2

Impairment of Goodwill 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Other Unusual Items 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Pretax income 38.2 44.7 46.3 49.9 54.0 61.9 71.6 77.9

Income taxes (3) 12.2 14.3 14.7 12.5 13.8 16.2 19.0 21.1

Earnings from Cont. Ops. 26.0 30.4 31.7 37.4 40.2 45.8 52.5 56.8

Earnings of Discontinued Ops.(loss) (5.0) 0.0 0.0 0.0 0.0 0.0 0.0 0.0

Net Income to Company 21.0 30.4 31.7 37.4 40.2 45.8 52.5 56.8

Minority Int. in Earnings 8.3 9.6 9.4 10.4 10.3 10.9 11.4 11.2

Net income (4) $12.7 $20.9 $22.3 $27.0 $29.9 $34.9 $41.1 $45.6

Diluted weighted average shares in millions 12.1 12.2 12.4 12.5 12.5 12.5 12.5 12.5

Earnings per share $1.03 $1.71 $1.80 $2.16 $2.39 $2.79 $3.29 $3.65

Ratios & assumptions Historical Year Ending December 31, Projected Year Ending December 31,

Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020

Net Patient Revenue growth rate 6.1% 15.8% 8.5% 7.8% 8.3% 15.0% 8.0% 8.0%

Provision for doubtful accounts (as a % of sales) 1.7% 1.4% 1.3% 1.4% 1.4% 1.4% 1.4% 1.4%

Other Revenue (as a % of sales) 2.2% 2.0% 2.2% 2.1% 2.1% 2.1% 2.1% 2.1%

Gross margin 27.2% 27.6% 26.4% 26.4% 26.2% 26.0% 26.8% 26.8%

SG&A expenses (as a % of sales) 10.0% 10.1% 9.5% 9.5% 9.4% 9.3% 9.2% 9.1%

Other operating (income) / expenses ($ amount) $0.0 $0.0 $0.0 0.0% 0.0% 0.0% 0.0% 0.0%

Other non-operating (income) / expense ($ amount) 0.0 0.0 0.0 0.0% 0.0% 0.0% 0.0% 0.0%

Restructuring Charges 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2

Impairment of Goodwill 0.0 0.0 0.0 0.0% 0.0% 0.0% 0.0% 0.0%

Other Unusual Items 0.0 0.0 0.0 0.0% 0.0% 0.0% 0.0% 0.0%

Effective tax rate 32.0% 31.9% 31.6% 31.6% 31.6% 31.6% 31.6% 31.6%

Effective tax rate Exclusing Minority Income 40.8% 40.6% 39.7% 39.7% 39.7% 39.7% 39.7% 39.7%

Minority Int. (as a % to Net Income to Company) 39.4% 31.5% 29.7% 27.7% 25.7% 23.7% 21.7% 19.7%

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Balance Sheet for U.S. Physical Therapy, Inc.Dollars in Millions, except per share

Historical Year Ending December 31, Projected Year Ending December 31,

Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020

Cash $12.9 $14.3 $15.8 $15.0 $15.0 $15.0 $15.0 $25.6

Accounts Receivable, net 34.9 38.7 42.0 45.9 49.7 57.1 61.7 66.7

Deferred Tax Assets, Curr. 0.5 0.1 - 0.2 0.2 0.2 0.2 0.2

Other Current Assets 1.4 1.8 2.4 2.6 2.8 3.2 3.5 3.7

Total Current Assets: 49.7 54.9 60.2 63.7 67.7 75.5 80.4 96.2

PP&E, net 15.0 15.8 16.7 16.7 16.8 17.0 17.4 17.3

Definite Life Intangibles,net 14.5 24.9 30.3 35.6 40.9 56.9 64.2 71.5

Goodwill, net 144.0 147.9 171.5 177.6 184.6 221.1 229.3 237.4

Other Long-term Assets 1.1 1.1 1.2 1.2 1.2 1.2 1.2 1.2

Total Assets: $224.1 $244.6 $279.9 $294.8 $311.2 $371.8 $392.4 $423.6

Accounts Payable $1.7 $1.8 $1.6 $1.8 $1.9 $2.2 $2.4 $2.6

Accrued Exp. 18.3 21.0 15.1 $16.3 $17.7 $20.4 $21.8 $23.6

Curr. Note Payable 0.8 0.9 0.8 $0.6 $1.9 $1.8 $0.0 $0.0

Other(Credit balance and overpayment due to patients and payors) 2.4 1.8 1.5 $2.2 $2.4 $2.8 $3.0 $3.2

Total Current Liabilities: 23.2 25.5 19.0 20.9 24.0 27.3 27.2 29.3

Revolver 40.0 34.5 44.0 32.7 26.1 32.2 13.8 0.0

Note Payable 0.7 0.2 4.3 4.3 3.8 1.8 0.0 0.0

Deferred Income Taxes 3.5 8.0 8.4 8.4 8.4 8.4 8.4 8.4

Other Long-term Liabilities 1.7 1.7 2.3 2.3 2.3 2.3 2.3 2.3

Total Liabilities: 69.0 70.0 78.0 68.5 64.5 72.0 51.6 40.0

Total Common Equity 128.3 146.3 162.8 185.3 209.8 237.6 269.6 304.6

Minorty Int. 26.8 28.3 39.2 40.9 36.9 62.3 71.2 79.0

Total Equity: 155.1 174.6 202.0 226.3 246.7 299.9 340.8 383.6

Total Liabilities and Equity: $224.1 $244.6 $279.9 $294.8 $311.2 $371.8 $392.4 $423.6

Cash Flow Statement for U.S. Physical Therapy, Inc.Dollars in Millions, except per share

Historical Year Ending December 31, Projected Year Ending December 31,

Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020

Operating activities

Net income including Minority Interest 37.4 40.2 45.8 52.5 56.8

Depreciation 6.6 7.1 8.1 8.6 9.8

Amortization 2.0 2.2 2.4 2.6 2.8

Deferred Income Tax 0.0 0.0 0.0 0.0 0.0

Stock-based compensation expense 4.5 4.5 4.5 4.5 4.5

Provision & Write-off of Bad debts 5.0 5.5 6.3 6.8 7.3

(Gain)/Loss on Sale of business & Fixed Asset 0.1 0.1 0.1 0.1 0.1

Impairment of Goodwill (Write-offs-closed clinic) 0.0 0.0 0.0 0.0 0.0

Tax Benefit from Stock Options (0.9) (0.9) (0.9) (0.9) (0.9)

(Increase) / decrease in working capital (2.0) (2.3) (4.5) (3.1) (3.0)

Change in other long-term assets and liabilities 0.0 0.0 0.0 0.0 0.0

Cash Flow from Operating Activities: 44.8 45.2 41.2 52.8 56.4 61.7 71.2 77.4

Investing activities

Capital expenditures (4.6) (5.2) (6.3) (6.7) (7.3) (8.4) (9.1) (9.8)

Cash Acquisition Exclude Addition to intangible (37.6) (15.6) (18.9) (18.4) (24.5) (27.5) (18.4) (17.9)

Proceeds on sale of business and fixed asset,net 0.5 0.0 0.1 0.0 0.0 0.0 0.0 0.0

Additions to definite life intangibles (10.9) (2.2) (7.1) (7.3) (7.5) (18.4) (9.8) (10.1)

Cash Flow from Investing Activities: (52.7) (22.9) (32.2) (32.5) (39.3) (54.3) (37.3) (37.8)

Cash flow available for financing activities ($7.9) $22.3 $9.0 $20.3 $17.1 $7.4 $33.9 $39.6

Financing activities

Issuance / (repayment) of revolver (11.3) (6.6) 6.1 (18.4) (13.8)

Issuance of long-term debt 0.0 0.0 0.0 0.0 0.0

(Repayment) of long-term debt (0.8) (0.6) (1.9) (1.8) 0.0

Repurchase of equity 0.0 0.0 0.0 0.0 0.0

Dividends (9.0) (9.9) (11.6) (13.7) (15.2)

Option proceeds 0.0 0.0 0.0 0.0 0.0

Cash Flow from Financing Activities: (21.1) (17.1) (7.4) (33.9) (29.0)

Net change in cash (0.8) 0.0 0.0 (0.0) 10.6

Beginning cash balance 15.8 15.0 15.0 15.0 15.0

Ending cash balance $15.0 $15.0 $15.0 $15.0 $25.6

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CFA Institute Research Challenge 2017 United States Physical Therapy, Inc. (USPH)

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Appendix 2 Free Cash Flow projection from 2016 to 2020

Weighted Average Cost of Debt & 2-tier WACC Analysis

Terminal Value (a) Projections based on internal estimates.

(b) Present values calculated as of Proj. 2016.

(c) Discounted 2020 years; based on Proj 2020 unlevered free cash flow of $43.1 million.

(d) Balances as of Proj. 2016 as a training simplification. "Net debt" includes total debt less cash & cash equivalents, and also

include minority interest and preferred stock as well.

(e) Based on 12.500 million diluted shares outstanding as of Proj. 2016. Theoretically, the shares should be as of the PV date to

match the timing of the balance sheet items.

(f) Growth rate cap was calculated by Golden Growth Rate Model. Using 10.5x EBITDA Multiple representing a reseasonable

stage in 2020, we were able to calculated the terminal value of the company based on our acquistion growth scenario under:

Terminal Value=EBITDA2020*EBITDA Muitiple=FCF(1+g)/(r-g) here r=8.7% representing our long-term WACC

(g) Then we can get our long-term grow rate cap = 4%

(e) The estimated price was calculated at a 50% probability of each scenario.

Sensitivity Analysis

Terminal

Growth

$53.18 7.45% 7.70% 7.95% 8.20% 8.45% 8.70% 8.95% 9.20% 9.45%

2.0% $55.15 $53.12 $51.27 $49.56 $47.99 $46.54 $45.19 $43.93 $42.76

2.2% $57.00 $54.82 $52.83 $51.00 $49.32 $47.77 $46.33 $45.00 $43.76

2.4% $59.00 $56.64 $54.50 $52.53 $50.73 $49.08 $47.55 $46.13 $44.81

2.6% $61.17 $58.61 $56.29 $54.18 $52.25 $50.47 $48.84 $47.33 $45.93

2.8% $63.52 $60.73 $58.22 $55.94 $53.86 $51.96 $50.22 $48.60 $47.12

3.0% $66.08 $63.04 $60.31 $57.84 $55.60 $53.56 $51.68 $49.96 $48.37

3.2% $68.88 $65.55 $62.58 $59.90 $57.47 $55.27 $53.26 $51.41 $49.71

3.4% $71.96 $68.30 $65.04 $62.12 $59.49 $57.11 $54.94 $52.96 $51.14

3.6% $75.36 $71.31 $67.73 $64.54 $61.67 $59.09 $56.75 $54.62 $52.67

3.8% $79.13 $74.64 $70.68 $67.18 $64.05 $61.24 $58.70 $56.40 $54.30

4.0% $83.34 $78.32 $73.93 $70.06 $66.63 $63.57 $60.81 $58.32 $56.05

4.2% $88.07 $82.42 $77.53 $73.24 $69.46 $66.10 $63.10 $60.39 $57.94

4.4% $93.42 $87.02 $81.53 $76.75 $72.57 $68.87 $65.58 $62.63 $59.98

4.6% $99.52 $92.22 $86.00 $80.66 $76.00 $71.91 $68.30 $65.07 $62.18

Equity Value Per Share (Perpetuity Growth Method)

Weighted average cost of capital

EBITDA

Multiple

$63.48 8.00% 8.25% 8.50% 8.75% 9.00% 9.25% 9.50% 9.75% 10.00%

9.0x $57.00 $56.56 $56.12 $55.69 $55.27 $54.84 $54.43 $54.01 $53.61

9.3x $58.34 $57.88 $57.43 $56.99 $56.55 $56.12 $55.69 $55.26 $54.85

9.5x $59.67 $59.21 $58.74 $58.29 $57.84 $57.39 $56.95 $56.52 $56.08

9.8x $61.01 $60.53 $60.05 $59.59 $59.12 $58.67 $58.21 $57.77 $57.32

10.0x $62.34 $61.85 $61.36 $60.88 $60.41 $59.94 $59.48 $59.02 $58.56

10.3x $63.67 $63.17 $62.67 $62.18 $61.69 $61.21 $60.74 $60.27 $59.80

10.5x $65.01 $64.49 $63.98 $63.48 $62.98 $62.49 $62.00 $61.52 $61.04

10.8x $66.34 $65.81 $65.29 $64.78 $64.27 $63.76 $63.26 $62.77 $62.28

11.0x $67.68 $67.14 $66.60 $66.07 $65.55 $65.03 $64.52 $64.02 $63.52

11.3x $69.01 $68.46 $67.91 $67.37 $66.84 $66.31 $65.79 $65.27 $64.76

11.5x $70.34 $69.78 $69.22 $68.67 $68.12 $67.58 $67.05 $66.52 $66.00

11.8x $71.68 $71.10 $70.53 $69.97 $69.41 $68.86 $68.31 $67.77 $67.24

12.0x $73.01 $72.42 $71.84 $71.26 $70.69 $70.13 $69.57 $69.02 $68.48

12.3x $74.34 $73.74 $73.15 $72.56 $71.98 $71.40 $70.84 $70.27 $69.72

Equity Value Per Share (EBITDA Multiple Method Growth Method)

Weighted average cost of capital

Source: Capital IQ, 10-Ks and team estimates

2016-2017 2018-2020

Interest rate of Revolving credit 2.50% 3.00%

Interest rate of Notes payable 3.50% 4.00%

Weights in Revolving Credit 89.60% 89.60%

Weights in Notes payable 10.40% 10.40%

Adjusted Cost of Debt 2.60% 3.10%

2016-2017 2018-2020 After 2020

Risk-free rate 2.47% 3.05% 3.05%

Adjusted Beta 0.99 0.99 0.990

Market risk premium 6.00% 6.50% 6.50%

Cost of Equity 8.41% 9.49% 9.49%

Adjusted Cost of Debt 2.60% 3.10% 3.00%

Corporate tax rate 31.60% 31.60% 31.60%

Total Debt/Total Capital 5.00% 10.00% 10.00%

Total Equity/Totoal Capital 95.0% 90.00% 90.00%

WACC 8.1% 8.75% 8.7%

Target Capital Ratio D/E D/(D+E)

10.72% 9.39%

Discounted Cash Flow Analysis for U.S. Physical Therapy, Inc.Dollars in Millions, except per share

Historical Year Ending December 31, Projected Year Ending December 31, 2020 Year

Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020 CAGR

Sales $259.7 $301.0 $327.1 $352.0 $381.0 $438.3 $473.3 $511.1 9.3%

EBITDA 44.6 52.7 55.5 59.7 64.2 73.4 83.5 90.7 10.3%

Less: Depreciation (4.7) (5.2) (6.2) (6.6) (7.1) (8.1) (8.6) (9.8)

Less: Amortization (0.9) (1.5) (1.7) (2.0) (2.2) (2.4) (2.6) (2.8)

EBIT 39.0 45.9 47.5 51.1 54.9 63.0 72.3 78.2 10.5%

Less: Taxes @ 31.6% (12.3) (14.5) (15.0) (16.1) (17.4) (19.9) (22.9) (24.7)

Tax-effected EBIT 26.7 31.4 32.5 34.9 37.6 43.1 49.5 53.5

Plus: Depreciation 6.6 7.1 8.1 8.6 9.8

Plus: Amortization 2.0 2.2 2.4 2.6 2.8

Less: Capital expenditures (6.7) (7.3) (8.4) (9.1) (9.8)

Less: Additions to definite life intangibles (7.3) (7.5) (18.4) (9.8) (10.1)

+ / - Changes in working capital (2.0) (2.3) (4.5) (3.1) (3.0)

Unlevered Free Cash Flow $27.5 $29.8 $22.2 $38.7 $43.1

Unlevered Free Cash Flow Growth Rate 8.2% (25.4%) 74.4% 11.4%

EBITDA Multiple Method

WACC 2016-2018: 8.1%

WACC 2018- 2020 8.7%

Net present value of free cash flow (b) $134.3

Exit multiple 10.5x

Terminal value $952.8

Present value of the terminal value (c) 681.2

Enterprise Value $815.5

LESS: Net Debt (d) (e) (22.0)

Equity Value $793.5

Diluted shares: 12.5

Equity Value Per Share (e) $63.48

Perpetuity Growth Method

WACC 2016-2018: 8.1%

WACC 2018-2020: 8.7%

Net present value of free cash flow (b) $134.3

WACC after 2020 8.7%

Growth rate of FCF after 2020 4.0%

Terminal value $944.4

Present value of the terminal value (c) 675.3

Enterprise Value $809.6

LESS: Net Debt (d) (e) (22.0)

Equity Value $787.6

Diluted shares: 12.5

Equity Value Per Share (f) $63.00

Perpetuity Growth Method

WACC 2016-2018: 8.1%

WACC 2018-2020: 8.7%

Net present value of free cash flow (b) $134.3

WACC after 2020 8.7%

Growth rate of FCF after 2020 3.0%

Terminal value $772.7

Present value of the terminal value (c) 552.4

Enterprise Value $686.7

LESS: Net Debt (d) (e) (22.0)

Equity Value $664.7

Diluted shares: 12.5

Equity Value Per Share (f) $53.18

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Appendix 3 Comparable Multiple Valuation

As-Of Date: Feb-03-2017

Company Name Source: S&P Capital IQ

TEV /

EBITDA

LTM

TEV /

EBITDA

NTM

TEV /

EBIT

LTM

TEV / EBIT

NTM

P / E

NTM

PEG Ratio

NTM

U.S. Physical Therapy, Inc. 16.2 16.5 18.9 17.69 34.09 2.41

Select Medical Holdings Corp. 9.9 8.94 14.1 12.94 16.86 1.35

HealthSouth Corporation 8.2 8.48 10.4 10.63 15.26 1.2

Tenet Healthcare Corp. 7.7 7.52 11.8 11.35 11.68 0.96

Kindred Healthcare, Inc. 7.1 4.5 10.1 10.91 17.01 2.13

All operate with similar physical therapy rehabilitation services, similar market caps, and similar potential growth. However, they

differ dramatically in terms of capital structure, depreciation and amortization. For that reason, we chose EBITDA Multiples to

implement relative trading valuation. But no matter which multiple we choose, the USPH is the highest one and extremely

overvalued among its competitors.

Appendix 4 Comparable Transaction Valuation

Appendix 5 Dividend Discount Model

Historical Year Ending December 31, Projected Year Ending December 31,

Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020

Dividend assumptions

Dividends $4.8 $5.9 $7.4 $8.98 $9.93 $11.73 $13.76 $15.15

Net income $12.7 $20.9 $22.3 $27.0 $29.9 $35.3 $41.4 $45.6

Dividend payout ratio 37.7% 28.3% 33.2% 33.2% 33.2% 33.2% 33.2% 33.2%

Dividend growth rate 11.6% 22.9% 25.4% 21.4% 10.6% 18.0% 17.4% 10.1%

CAGR 25%

Source: Capital IQ, 10-Ks and team estimates

All #'s except per share in millions Shares Outstanding 12.52

High Mean Low High Mean Low

EV to EBITDA NTM Multiple 8.94 7.36 4.5 EV to EBITDA LTM Multiple 9.9 8.2 7.1

Enterprise Value 525.04 432.46 264.22 Enterprise Value 592.02 490.36 424.58

+ Total Cash & ST Investments 15 15 15 + Total Cash & ST Investments 15 15 15

- Total Debt 41.5 41.5 41.5 - Total Debt 41.5 41.5 41.5

- Total Pref. Equity - - - - Total Pref. Equity - - -

- Minority Interest 48.3 48.3 48.3 - Minority Interest 48.3 48.3 48.3

Equity Value 450.23 189.41 357.65 Equity Value 517.22 349.78 415.56

Price per Share 35.96 15.13 28.56 Price per Share 41.31 27.94 33.19

EV to EBITDA NTM Valution EV to EBITDA LTM Valution

Source: Capital IQ, 10-Ks and team estimates

Source: Capital IQ, 10-Ks and team estimates

Dividend Discount Method

Cost of Equity 9.5%

Net present value of dividend cash flow (b) $39.9

Growth Rate of Dividend 7.9%

Terminal Value 1031.3

Present value of the terminal value (c) 717.8

Enterprise Value $757.65

LESS: Net Debt (d) (e) (22.0)

Equity Value $735.6

Diluted shares: 12.5

Equity Value Per Share (e) $58.85 Source:Team Reasearch

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Appendix 6 Ratio Analysis

U.S. Physical Therapy, Inc.Dollars in Millions, except per share

Historical Year Ending December 31, Projected Year Ending December 31,

Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020

Profitability Ratios

Sales $259.7 $301.0 $327.1 $352.0 $381.0 $438.3 $473.3 $511.1

% growth 15.9% 8.7% 7.6% 8.2% 15.0% 8.0% 8.0%

Gross profit $70.5 $83.1 $86.5 $93.1 $100.0 $114.2 $127.1 $137.2

% margin 27.2% 27.6% 26.4% 26.4% 26.2% 26.0% 26.8% 26.8%

EBITDA $44.6 $52.7 $55.5 $59.7 $64.2 $73.4 $83.5 $90.7

% margin 17.2% 17.5% 17.0% 17.0% 16.9% 16.8% 17.7% 17.8%

% growth 18.2% 5.3% 7.6% 7.6% 14.3% 13.8% 8.6%

EBIT $39.0 $45.9 $47.5 $51.1 $54.9 $63.0 $72.3 $78.2

% margin 15.0% 15.3% 14.5% 14.5% 14.4% 14.4% 15.3% 15.3%

% growth 17.7% 3.4% 7.5% 7.6% 14.6% 14.9% 8.0%

Net income $12.7 $20.9 $22.3 $27.0 $29.9 $35.3 $41.4 $45.6

% margin 4.9% 6.9% 6.8% 7.7% 7.9% 8.1% 8.8% 8.9%

% growth 63.8% 6.8% 21.4% 10.6% 18.0% 17.4% 10.1%

Interest Coverage

Memo Items: Interest expense $0.5 $1.1 $1.0 $1.1 $0.8 $0.0 ($0.1) $0.3

Capital expenditures 4.6 5.2 6.3 6.7 7.3 8.4 9.1 9.8

EBIT / Interest expense 72.5x 42.2x 46.1x 45.4x 69.2x 2,811.7x -849.7x 311.9x

EBITDA / Interest expense 82.9x 48.4x 53.8x 53.1x 80.9x 3,278.7x -981.4x 362.1x

EBITDA - Capital expenditures / Interest expense 74.2x 43.7x 47.7x 47.1x 71.7x 2,904.0x -875.0x 323.1x

Capitalization*

Memo items: EBIT $39.0 $45.9 $47.5 $51.1 $54.9 $63.0 $72.3 $78.2

Taxes 12.2 14.3 14.7 12.5 13.8 16.3 19.2 21.1

Total debt $40.7 $34.7 $48.3 $37.0 $23.2 ($22.7) $16.7 $0.0

Total stockholders' equity 155.1 174.6 202.0 226.1 252.9 295.9 336.5 377.8

Total capitalization 195.8 209.3 250.3 263.1 276.2 273.2 353.2 377.8

Return on Invested Capital 13.7% 15.1% 13.1% 14.7% 14.9% 17.1% 15.1% 15.1%

*all recorded at book value

Leverage*

Total debt / Total capitalization 0.2x 0.2x 0.2x 0.1x 0.1x -0.1x 0.0x 0.0x

Total debt / EBITDA 0.9x 0.7x 0.9x 0.6x 0.4x -0.3x 0.2x 0.0x

*all recorded at book value

Historical Year Ending December 31, Projected Year Ending December 31,

Liquidity Hist 2013 Hist 2014 Hist 2015 Proj 2016 Proj 2017 Proj 2018 Proj 2019 Proj 2020

Memo Items: Cash $12.9 $14.3 $15.8 $15.0 $15.0 ($44.8) $15.0 $22.7

Accounts receivable 34.9 38.7 42.0 45.9 49.7 57.1 61.7 66.7

Quick assets 47.8 53.0 57.8 60.9 64.7 12.3 76.7 89.4Current assets 49.7 54.9 60.2 63.7 67.7 15.7 80.4 93.3

PP&E, net $15.0 $15.8 $16.7 $16.7 $16.8 $17.0 $17.4 $17.3

Total assets 224.1 244.6 279.9 294.8 311.2 312.0 392.4 420.6

Accounts payable $1.7 $1.8 $1.6 $1.8 $1.9 $2.2 $2.4 $2.6

Current liabilities 23.2 25.5 19.0 20.9 24.0 27.3 27.2 29.3

Working capital $26.5 $29.3 $41.2 $42.8 $43.7 ($11.6) $53.2 $64.0

Current ratio 2.1x 2.2x 3.2x 3.0x 2.8x 0.6x 3.0x 3.2x

Quick ratio 2.1x 2.1x 3.0x 2.9x 2.7x 0.5x 2.8x 3.0x

Activity

Accounts receivable (collection period) 49.0 46.9 46.9 47.6 47.6 47.6 47.6 47.6

Inventories (days outstanding) 0.5 0.1 - 0.2 0.2 0.2 0.2 0.2

Accounts payable (days outstanding) 3.3 3.0 2.5 2.5 2.5 2.5 2.5 2.5

Net fixed asset turnover 17.4x 19.1x 19.6x 21.1x 22.7x 25.7x 27.2x 29.6x

Asset turnover 1.2x 1.2x 1.2x 1.2x 1.2x 1.4x 1.2x 1.2x

DuPont Analysis

Return on sales 4.9% 6.9% 6.8% 7.7% 7.9% 8.1% 8.8% 8.9%

Asset turnover 1.2x 1.2x 1.2x 1.2x 1.2x 1.4x 1.2x 1.2x

Asset leverage 1.4x 1.4x 1.4x 1.3x 1.2x 1.1x 1.2x 1.1x

Return on equity 8.2% 11.9% 11.0% 12.0% 11.8% 11.9% 12.3% 12.1%

Source: Capital IQ, 10-Ks and team estimates

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Appendix 7 Supply and Demand of Physical Therapists 2010-2025

In 2011, APTA developed a model to project the estimated number of physical therapists to meet the increasing healthcare demands

of the population. The parsimonious model was based on the advice of APTA’s Workforce Task Force that was constituted in 2010.

Continuous updates were made after significant events such as the Supreme Court’s upholding of the Affordable Care Act in March

of 2012 and demographic updates. The input that continued to show variance in the estimates was the attrition rate of physical

therapists. Attrition rate was derived using studies from the Healthcare Association of New York State (HANYS) nursing study,

physician assistants’ attrition by the Lewin Group and the Conference Board’s analysis of health care workers. Three attrition rates

were used in the model: 3.5%, 2.5% and 1.5%.

The 3.5% attrition rate model projects a shortage of 18,350 physical therapists by 2025. While 2.5% and 1.5% continue to show a

surplus after several updates. All numbers in the charts below are in thousands, except dates and percentages. The legend in the left

graph applies to all the others to the right.

Supply: Base year number of licensed physical therapists = the number of licensed physical therapists in 2010 as reported by the Federation of State Boards of Physical

Therapy

Licensed Physical Therapists = the number of licensed physical therapists in the previous year, plus the number of new graduates from US physical therapy

programs, minus the number of US graduates who never pass (subsequent to 3 attempts) the National Physical Therapy Exam (NPTE) (3% in 2010; 2% in 2011-2020), plus

the number of international PTs (535) who pass the NPTE, minus the attrition. For this model, the number of international physical therapists who passed the NPTE will be

held constant through 2025

Licensed PTs2 = Licensed PTs1 + new grads – number of grads never passing exam + international PTs – attrition

The 2015 update of the model uses the actual number of licensed physical therapists for years 2010 2015 as reported by the Federation of State Boards of Physical

Therapy

PT Graduates = the number of graduates from US physical therapist professional programs as projected through 2019 by the Commission on Accreditation in

Physical Therapy Education. The estimated growth rate for graduates from 2020 to 2025 was calculated at 4%

Number of Graduates Not Passing the Exam = number of US graduates who never pass the NPTE (1%) as reported in 2015 by the Federation of State Boards of

Physical Therapy (https://www.fsbpt.org/FreeResources/NPTEPassRateReports/NPTEGraduationYearReports.aspx, accessed March 24, 2016). For the 2010 base year, the

failure rate was 3%, as reported in 2011

International Physical Therapists = number of international physical therapists who passed the National Physical Therapist Exam in 2010 (n=535) as reported by

the Federation of State Boards of Physical Therapy. It is assumed this number will remain constant

Attrition/Retirement = the number of licensed physical therapists permanently leaving the profession. Attrition rates of 3.5%, 2.5% and 1.5% were estimated based

on three different sources: Conference Board, the Healthcare Association of New York State, and the Lewin Group (http://www.healthleadersmedia.com/page-1/TEC-

266573/Healthcare-Workers-Delaying-Retirement; http://www.hanys.org/workforce/data/docs/2011-06-10-workforce_survey_results_2011.pdf;

http://www.ncbi.nlm.nih.gov/pubmed/21886331; accessed March 24, 2016)

Supply of FTE Physical Therapists = (Licensed PTs *.85) + (Licensed PTs *.15 *.69). According to the 2010 Practice Profile , the workforce for physical therapists

is not comprised solely of full-time PTs, but of part-time PTs as well, therefore, full-time personnel was calculated at 85% and part-time personnel was calculated at 15% x

69%, with part-time personnel working a mean of 24 hours a week out of a 35 hour work week. (http://www.apta.org/WorkforceData/, accessed March 24, 2016)

Demand:

U S Population = US Census Bureau annual population estimates & projections (http://www.census.gov/topics/population.html, accessed March 24, 2016)

US Population with Insurance = the annual population multiplied by the percentage of the US population who has health insurance (83.7% in 2010; 84.3% in

2011, 84.6% in 2012; 86.6% in 2013; 89.6% in 2014-2025) as reported in the US Census Bureau’s Income, Poverty, and Health Insurance Coverage in the United States:

2012 report, (http://www.census.gov/hhes/www/hlthins/,accessed March 24, 2016). In order to factor in the increase in the population with insurance after the Affordable

Care Act was implemented in 2014, the Congressional Budget Office’s estimates of the millions of Americans expected to gain insurance coverage were added in

2014-2025 (http://www.cbo.gov/publication/43900, accessed March 24, 2016)

Demand Ratio = the demand ratio is a constant that is calculated based on the 2010 supply of FTE physical therapists, plus the 2010 vacancy rate reported in

three settings in which physical therapists practice, calculated at 1.11, divided by the US population insured in 2010 (.00075173). The 1.11% reflects the vacancy rate

reported in vacancy rate studies conducted by the APTA in 2010 (http://www.apta.org/WorkforceData/, accessed March 24, 2016)

Demand = the US population with health insurance multiplied by the demand ratio

Shortage = demand minus supply of full time equivalent physical therapists

Source: apta.org, American Physical Therapy Association (APTA), Updated 4/11/16

175

195

215

235

255

275

295

1.5% Attr i t ion Rate

- Surplus of 21,494

Supply of FTE's Demand

175

185

195

205

215

225

235

245

255

265

2.5% Attrition Rate -

Surplus of 736

175

185

195

205

215

225

235

245

255

265

3.5% Attrition Rate -

Shortage of 18,350

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Appendix 8 Estimation of Clinics Added, Acquired and Closed

A key part of forecasting the predicted revenue growth and balance sheet for USPH is in the clinic count. The different clinics follow different

patterns of revenue and costs, and so in order to make these projections as accurate as possible, we must have more information for each type of clinic.

USPH only specifies all clinic information between 2009 – 2011, where they detail how many clinics are built, bought and closed. Subsequent to

that, they only report total acquisitions, total de novo clinics, total acquired clinics, total clinics and closure costs.

First, we evaluated the change of number of developed, acquired and total clinics. Taking the difference of current year minus previous, we can

see the total number of acquired clinics doesn’t match the actual number of acquired clinics for that year. This means some clinics that were previously acquired had been closed, and the same for de novo clinics. We have to estimate how many clinics were closed.

Next, the number of clinics closed are estimated based on closing costs and the number of closed clinics each year during the reported years. An

average is taken to approximate the cost to close one clinic, which is estimated at about $12,000. This is extrapolated based on the closing costs in future years to roughly estimate the number of clinics closed.

Now that we have the number of clinics that are expected to close each year, we can simply calculate de novo clinic additions. Using the formula

Total Added Clinics + Closed/Sold Clinics – Acquired Clinics, we arrive at a number of added clinics each year.

We can also us this to estimate the number of acquired and de novo clinics closed each year, to help in forecasting the future closing rate of clinics.

Appendix 9

Geographical Trends and Expansion Plans

In an attempt to determine where USPH was planning to

grow geographically, we mapped out all USPH clinic

locations against two variables: population growth and age

demographics. While we determined that USPH is primarily

located in areas of high forecasted population growth, it

doesn’t appear that they are actively seeking areas of aging

Americans. In fact, most of their locations are in the younger

demographic region areas. The geographic dispersion also

does not give any insight into the direction of USPH’s

expansion plans. The consistency in acquisition prices per

clinic and varied locations indicate that the primary goal of

acquisitions is finding good groups to work with at fair

value.

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Clinic Count (#) 292 349 360 368 392 416 431 472 489 508 540

Developed (De Novo) Clinics (#) 273 279 277 287 287 293 294 298 302 311 325

Acquired Clinics (#) 19 70 83 81 105 123 137 174 187 197 215

De Novo 30 17 16 18 19 21 19 17 15 12 19

Acquired 8 51 14 - 25 20 14 45 20 21 24

Closed 31 12 18 10 15 17 18 21 18 14 11

Sold 1 1 5

Closure Costs ($) 1,900,000 - 432,000 91,000 163,000 59,000 211,000 246,000 211,000 169,000 74,000

Closing Cost per Clinic ($) 61,290 - 24,000 9,100 10,867 3,471 Average = 11,859

De Novo Clinic Δ 6 (2) 10 - 6 1 4 4 9 14

Acquired Clinic Δ 51 13 (2) 24 18 14 37 13 10 18

Total Clinic Δ - 57 11 8 24 24 15 41 17 19 32

Estimated De Novo Clinics 18 16 18 19 21 19 17 15 12 19

Estimated De Novo Clinics Closed (11) (18) (8) (19) (15) (18) (13) (11) (3) (5)

Estimated Acquired Clinics Closed - (1) (2) (1) (2) - (8) (7) (11) (6)

Total Clinics Added per Year 68 30 18 44 41 33 62 35 33 43

Developed Clinics Closed/Sold 19 15 18 13 11 8

Acq. Clinics Closed/Sold 1 2 - 8 7 11

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Appendix 10 Dupont Analysis of Internally Generated Growth

In order to approximate how much growth USPH generates before acquisitions, and to see if their business is outperforming its

fundamentals, we used a Dupont Analysis and projected the internally generated growth rate and compared it to the realized growth.

Internal growth is a function of ROE x (1 – Payout Ratio).

The second step was to make some conservative assumptions about acquisitions to model what impact M&A had on growth. The

assumptions were as follows:

Total Assets increase by the full amount of acquisitions

Total Equity increases by 35% of acquisitions to account for debt financing and minority interest

Acquisitions are purchased at 80% of revenue, that amount is added directly into Total Revenue

Acquisitions offset the de novo clinic impact to Net Income; so we assume de novo clinics drag down the profit margin by 1%

USPH is outperforming internally

generated growth in almost every year

since 2011, and overall is returning

170 basis points on average more than

the fundamental Dupont analysis

would project. Circulating the average of

the Equity Multiplier and Return on

Assets starting from 2011 into a model, we

end up with a much smaller balance

sheet and less revenue and income.

This indicates that while growth has been

quite good, the company hasn’t been as efficient with its balance sheet. This is likely a result of growth through acquisitions,

which heavily impact the assets on the books. Still, the performance is impressive.

Proforma Calculations:

NI = Prior Year TAssets x Average ROA

Equity = NI – Actual Dividends Paid

TAssets = Average Equity Multiplier x Equity

L = TA – E | Revenue = NI x Profit Margin

DUPONT EQUATIONS 2011 2012 2013 2014 2015 2016 Average

ROE 0.17 0.13 0.08 0.12 0.11 0.10 0.12

EM 1.34 1.27 1.44 1.40 1.39 1.39 1.37

ROA 0.13 0.10 0.06 0.09 0.08 0.07 0.09

AT 1.40 1.43 1.16 1.23 1.17 1.10 1.25

PM 0.09 0.07 0.05 0.07 0.07 0.06 0.07

Payout Ratio % 18.1% 23.8% 38.0% 28.2% 33.4% 37.5% 29.8%

Internally Generated Growth 14.2% 10.1% 5.1% 8.6% 7.4% 6.2% 7.5%

Sales Growth - 7.5% 6.1% 15.9% 8.7% 7.8% 9.2%

Difference -2.6% 1.0% 7.3% 1.3% 1.6% 1.7%

Revenue $308 $214 $233 $252 $272 $291 Actual Δ

NI $21 $15 $16 $17 $19 $20 Rev $353 -$61

Div $4 $4 $5 $6 $7 $9 A $320 -$77

Equity $122 $132 $143 $154 $165 $177 L $90 -$24

TA $167 $181 $196 $212 $227 $243 E $230 -$53

L $45 $49 $53 $58 $62 $66 NI $23 -$3

Debt Increase $4 $4 $4 $4 $4

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Activating our assumptions, we can see that the internal growth rate has substantially dropped to 5.8% for a decrease of 23%.

Additionally, the projected balance sheet is over a third smaller than the actual, while net income is projected to be $8 million less.

We can see that acquisitions are contributing to growth of the balance sheet as well as income and revenue. This brief model also

shows that the companies own growth via de novo clinics

is greater than what additions can provide long term.

This model does not consider an important factor: closing

clinics. As prior analysis shows, most of the clinics that

close are the de novo clinics. So while growth is greater

with the de novo clinics, the risk is also greater.

Acquisitions allow USPH to balance this risk, albeit at

the expense of an expanding balance sheet.

Appendix 11 Effects of Operating Leases

USPH mostly operates in leased locations and typically works on 5-year lease agreements. Because of the dependence on lease

agreements and recent upcoming accounting standards requirements, it is important to look at the financial impact on operating

leases to the balance sheet.

Because the company has great liquidity and coverage measures, the effects of interest do not impact their ratios at a level that could

significantly impact their ability to repay short term liabilities. The big impact is in their solvency measures. Debt-to-equity and

liabilities-to-total equity nearly double.

Their operating measures improve as a result of the

changing accounting treatment. Since rent is no longer an

expense and the extra depreciation is deducted, EBITDA to

net income percentages of revenue are increased.

Looking forward to the accounting change scheduled for

2018, we do not anticipate a drastic change to USPH’s cost

of debt. Since the fundamental nature of the business will

not change, it is unlikely banks or lenders will impose

unnecessary costs onto USPH. We anticipate a slight bump

in rates as banks and other lenders get accustomed to dealing

with the new accounting treatment and adjust their ratios

accordingly. We believe that there will be an initial minor

impact, but it should disappear within a couple years.

Appendix 12 Competitor Analysis

Competitors to USPH were selected through Capital IQ’s Quick Screen tool. The screen we used selected 8 companies, and we

narrowed it down to 4 based on further analysis of the company’s business. The filters were as follows:

Industry Classification: Hospitals & Health Care Centers

Company Type: Public

Industry Specific Metrics - Consolidated Hospitals & Facilities: “> 50”

Business Description: “Physical Therapy”

The 8 companies that were the result, and the reasons that 4 were excluded:

Kindred Healthcare, Inc.

Select Medical Holdings Corporation

Tenet Healthcare Corporation

DUPONT EQUATIONS 2011 2012 2013 2014 2015 2016 Average

ROE 0.15 0.11 0.06 0.09 0.08 0.07 0.09

EM 1.20 1.09 1.09 1.01 0.95 0.93 1.04

ROA 0.13 0.10 0.05 0.09 0.09 0.08 0.09

AT 1.53 1.62 1.39 1.56 1.50 1.39 1.50

PM 0.08 0.06 0.04 0.06 0.06 0.05 0.06

Payout Ratio % 18.1% 23.8% 38.0% 28.2% 33.4% 37.5% 29.8%

Internally Generated Growth 12.4% 8.5% 3.7% 6.7% 5.5% 4.4% 5.8%

Sales Growth - 7.5% 6.1% 15.9% 8.7% 7.8% 9.2%

Difference -1.0% 2.4% 9.2% 3.2% 3.4% 3.4%

Revenue $362 $196 $208 $219 $230 $240 Actual Δ

NI $21 $11 $12 $13 $13 $14 Rev $353 -$113

Div $4 $4 $5 $6 $7 $9 A $320 -$159

Equity $122 $129 $136 $143 $148 $154 L $90 -$83

TA $127 $134 $142 $149 $155 $161 E $230 -$76

L $5 $6 $6 $6 $7 $7 NI $23 -$9

Debt Increase $1 $0 $0 $0 $0

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HealthSouth Corporation

HCA Holdings, Inc. – Massive market capitalization, over 3x size of USPH and all selected comparable companies

combined

National HealthCare Corporation – Negative LTM EBITDA growth rate, and UFCF margin

Genesis Healthcare, Inc. – Too highly leveraged; about 140% higher Debt/Capital leverage than the highest accepted

business leverage, Tenet

Surgery Partners, Inc. – Primarily a surgery based business, not comparable

We can also evaluate USPH’s business and ratios, to get a better understanding of some of the market valuations.

Margins

USPH & Select Medical have the lowest gross margins, mainly because they are primarily rehab and post-acute care clinics, while

the other comps are more diversified in their business lines. USPH shows margin consistency similar to the comparable list.

EBITDA margins tell a different story, that USPH and HealthSouth are outperforming their peers. HealthSouth commands the

highest margins at 20-25%, while USPH hovers around the 17% range. Profit margins (Net Income Margin) shows that Tenet and

Kindred are negative, while HealthSouth is the most profitable. However, by 2015 HealthSouth’s profitability drops dramatically

and USPH becomes the most profitable.

Growth

2014 and 2015 are a tale of two years. The first year Tenet’s growth is 50% while the rest are under 20%. The following year,

Tenet drops to 10% while all other firms except USPH jump over 20%. USPH remains the most consistent in terms of growth.

The do not experience the same volatility as their peers, although the sample size is small.

Coverage Ratios

All companies have strong EBITDA and Times Interest Earned coverage ratios, above 2 and 1 respectively. HealthSouth and Select

Medical have about 2x and 150% better ratios that Kindred and Tenet respectively. USPH outperforms them all by a mile, with

ratios well over 10x even the best ratios of their peers. USPH was so far outside the range, it’s ratio made all others look near-zero,

it become necessary therefore to remove it in order to accurately look at its peers.

0%

10%

20%

30%

40%

50%

2013 2014 2015

Gross Margins

Tenent Healthcare Kindred HeathcareHealthsouth Select MedicalUSPH -6%

-4%

-2%

0%

2%

4%

6%

8%

10%

12%

14%

2013 2014 2015

NI Margins

0%

5%

10%

15%

20%

25%

30%

2013 2014 2015

EBITDA Margins

0%

10%

20%

30%

40%

50%

2014 2015

Revenue Growth

Tenent

Healthcare

Kindred

Heathcare

Healthsouth

Select

Medical

USPH-$2

-$1

$0

$1

$2

$3

2013 2014 2015

Basic EPS

-$0.10

$0.10

$0.30

$0.50

$0.70

$0.90

2013 2014 2015

Dividends per Share

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Liquidity Ratios

UPSH outperforms all their peer group in terms of liquidity due to their low cost of debt and revolver-financing strategy. They

especially outperform in cash ratios, with between 1.5 - 4x better liquidity than the best performer in any given year.

Solvency Ratios

Tenet is by far the most leveraged company in the peer group, with Liabilities-to-Total Equity and Debt/Equity (book value) ratios

over 2x their peers in 2013-’14. In 2015 they pull it much closer in line with the other firms. USPH is the only firm with less than

1.0 ratios in all years for both measures. The healthcare industry is clearly primarily financed by debt and liabilities, so USPH’s

approach to company capital structure is certainly different. But since they are very patient and diligent with their growth, they don’t

need heavy leverage to achieve their ambitions.

Operational Ratios

Accounts Receivable Days (AR Days) are very consistent among all the comp group. Likely, all of these firms are primarily paid

through third-party payors, and have similar agreements and payment terms. The smaller companies in the group tend to have

smaller days’ receivables, but this could also be due to fewer business lines. In 2015 the dispersion is the smallest of the three

years, possible showing the industry is becoming more consolidated and more consistent in its reimbursement policy. Not

surprisingly, the smaller companies also have smaller Operating Cycles. This is primarily due to the fact that they do not have

inventory. Finally, looking at each firms Cash Cycle shows how the different companies deal with cash. Tenet, with the most debt,

has the best cash ratio due to a high level of accounts payable. This is probably to allow them to quickly turn AR and inventory

into cash to pay interest. The other firms, including USPH, have similar cash cycles at around the 40 days’ mark. HealthSouth

-

2

4

6

2013 2014 2015

EBITDA Coverage Ratios

Tenent Healthcare Kindred Heathcare

Healthsouth Select Medical

0

1

2

3

2013 2014 2015

Quick Ratio

0.0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

2013 2014 2015

Cash Ratio

0

1

2

3

4

2013 2014 2015

Current Ratio

Tenent Kindred HealthSouth

Select Medical USPH

-

2

4

6

8

10

12

2013 2014 2015

Book Value Debt/Equity Ratio

0

5

10

15

2013 2014 2015

Liabilites-to-Total Equity Ratio

Tenent Kindred HealthSouth Select Medical USPH

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experienced the biggest move over the three period horizon, shifting from about 23 to 35 days’ cash cycle due to a large jump in

AR Days and decrease in AP Days.

Operating Lease Effects

Most healthcare companies primarily use leases, and very few actually capitalize their leases obligations. Here is a

true comparison after the financial statements have been adjusted. The delta column indicates the change to the ratio

after the adjustment was applied.

Appendix 13 Healthcare Reform in the US the Past 40+ Years

1965 President Lyndon Johnson enacted legislation that introduced Medicare, covering both hospital (Part A) and supplemental medical

(Part B) insurance for senior citizens. The legislation also introduced Medicaid, which permitted the Federal government to partially

fund a program for the poor, with the program managed and co-financed by the individual states

1985 The Consolidated Omnibus Budget Reconciliation Act of 1985 (COBRA) amended the Employee Retirement Income Security Act

of 1974 (ERISA) to give some employees the ability to continue health insurance coverage after leaving employment

1996 The Health Insurance Portability and Accountability Act (HIPAA) not only protects health insurance coverage for workers and

their families when they change or lose their jobs, it also made health insurance companies cover pre-existing conditions. If such

condition had been diagnosed before purchasing insurance, insurance companies are required to cover it after patient has one year of

continuous coverage. If such condition was already covered on their current policy, new insurance policies due to changing jobs, etc...

have to cover the condition immediately

1997 The Balanced Budget Act of 1997 introduced two new major Federal healthcare insurance programs, Part C of Medicare and the

State Children's Health Insurance Program, or SCHIP. Part C formalized longstanding "Managed Medicare" (HMO, etc.) demonstration

projects and SCHIP was established to provide health insurance to children in families at or below 200 percent of the federal poverty

line. Many other "entitlement" changes and additions were made to Parts A and B of fee for service (FFS) Medicare and to Medicaid

within an omnibus law that also made changes to the Food Stamp and other Federal programs

2000 The Medicare, Medicaid, and SCHIP Benefits Improvement and Protection Act (BIPA) effectively reversed some of the cuts to

the three named programs in the Balanced Budget Act of 1997 because of Congressional concern that providers would stop providing

services.

2003 The Medicare Prescription Drug, Improvement and Modernization Act (also known as the Medicare Modernization Act or MMA)

introduced supplementary optional coverage within Medicare for self-administered prescription drugs and as the name suggests also

changed the other three existing Parts of Medicare law

2010 The Patient Protection and Affordable Care Act, called PPACA or ACA but also known as Obamacare, was enacted, providing for

the phased introduction over multiple years of a comprehensive system of mandated health insurance reforms designed to eliminate

"some of the worst practices of the insurance companies"—pre-existing condition screening and premium loadings, policy cancellations

0

10

20

30

40

50

2013 2014 2015

Cash Cycle (Days)

0

10

20

30

40

50

60

70

80

2013 2014 2015

Operating Cycle (Days)

0

20

40

60

80

2013 2014 2015

AR Days

Tenent KindredHealthSouth Select MedicalUSPH

Δ Tenent Kindred Healthsouth Select Medical USPH

ROE -20% 6% 3% 6% 5%

ROA -3% 2% 0% 1% 2%

D/E 24.73% 80.20% 27.89% 64.92% 38%

EBITDA Coverage -0.15 -0.79 -0.54 -1.02 -93.92

True Comparison Tenent Kindred Healthsouth Select Medical USPH

ROE -25% 0% 23% 18% 16%

ROA -3% 0% 4% 4% 10%

D/E 470.85% 264.03% 376.04% 255.93% 68.53%

EBITDA Coverage 2.24 1.63 4.40 2.39 17.92

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on technicalities when illness seems imminent, annual and lifetime coverage caps. It also sets a minimum ratio of direct health care

spending to premium income, and creates price competition bolstered by the creation of three standard insurance coverage levels to

enable like-for-like comparisons by consumers, and a web-based health insurance exchange where consumers can compare prices and

purchase plans. The system preserves private insurance and private health care providers and provides subsidies in the form of income

tax reductions to enable lower income Americans to buy insurance. PPACA also made many changes to the 1997, 2000 and 2003 laws

that had previously changed Medicare and further expanded eligibility for Medicaid (that expansion was later ruled by the Supreme

Court to be at the discretion of the states)

2015 The Medicare Access & CHIP Reauthorization Act (MACRA) made significant changes to the process by which many Medicare Part B services are reimbursed and also extended SCHIP

Appendix 14 Private Equity Trends and Analysis

EY recently reported in August 2016 on the state of Private Equity. Their findings are summarized here:

Buyout fundraising, the type of financing that would likely be used to acquire a series of physical therapy clinics, was behind

2015’s pace by 5.5%

Dry powder, or unused funds committed to a private equity firm, were up 12% compared to the prior year and stood at $540.4

billion dollars

Healthcare represented 10% of the deal value up until July 2016, the 3rd largest sector

A record number of add-on deals in 2015, and projected to continue in 2016 (add-on, or platform deals, are when a company

buys smaller companies and combines them with a larger firm; very similar to what USPH already does)

Less capital being raised and a large level of dry powder, the highest level on record, indicate that the industry is struggling to find

attractive investment opportunity. Healthcare is on their radar, and it is likely they will be evaluating the physical therapy industry

and USPH’s business model. The increasing number of platform deals is an indication that a build-up strategy is a popular

approach to adding value and generating returns. Also, BlackRock is the largest institutional holder of USPH currently. This is

significant because they have close relations with private equity giant Blackstone, who as of 12/14/16 is sitting on $102.2 billion

dollars in undeployed capital.

Appendix 15 Insider & Institutional Holding

In the last 9 months, the CEO, CFO, and COO, have liquidated 24%, 35%, and 38% of their holdings, respectively.

While we understand management may have liquidity needs, we believe the large volume of shares being sold

indicates that insiders feel the stock is overvalued.

$0

$10

$20

$30

$40

$50

$60

$70

$80

0K20K40K60K80K

100K120K140K160K

Sh

are

Pri

ce

# o

f S

ha

res

Hel

d b

y I

nsi

der

s

Insider Holdings vs. Stock Price

Other - >1%

Hedge Fund Managers - 6%

Government - 1%

Family Offices & Banks -4%

BlackRock -11%

Neuberger Berman - 9%

RBC - 6%

The Vanguard Group- 5%

Renaissance

Technologies - 5%

Tradiational Investment Managers -

91%

% of Total Shares Outstanding

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Appendix 16 Monte Carlo Analysis Assumptions

Based on the sensitive analysis, the growth rate is the main driver of USPH’s intrinsic value. We used the past 30

years’ historical data and set the long term growth rate range from 3% to 4%

Trump’s presidency brings uncertainties to tax rate; thus, we tested the impact of various tax rates on the implied

share price

Capital structure is another important factor influencing intrinsic values. We assumed a 0.8% standard deviation

for WACC

Appendix 17 Corporate Governance

Management Team

Board of Directors

Jerald L. Pullins, Chairman of the Board

Jerald L. Pullins became Chairman of the Board on May 17, 2011 and has served on our Board since 2003. He is currently engaged in the

development and management of private enterprises in the healthcare field. From October 2007 to the present, Mr. Pullins has been the

Managing Member of SeniorCare Homes, LLC, which develops, owns and operates supervised, residential homes for senior citizens with

Alzheimers, dementia and other memory impairment conditions. From 2007 to present, he has also served as Chairman of the Board of Directors

of Pet Partners, LLC, a private enterprise involved in the acquisition and management of primary care, small animal veterinary hospitals.

Glenn McDowell (COO)

Age: 59

Tenure: 14 Years

COO: 12 years

Formerly RVP of USPH for 2 years

Formerly employed at HealthSouth

Corporation

BS (PT) from SUNY at Stony Brook,

BS (History) from Lycoming College

Sold 38% of Shares in last 9 months

Lawrence McAfee (CFO)

Age: 61

Tenure: 14 years

Formerly CFO and EVP for 14

(2003) & 13 (2004) years

Formerly President and CFO of

Wonderware Mobile Solutions

BBA from UT, MBA from SMU

Sold 35% of shares in last 9

Months

Christopher Reading (CEO)

Age: 52

Tenure: 14 years

CEO: 12 Years

COO: 2 years’ prior

Former SVP of Operations at

HealthSouth Corporation

BS in PT with High Honors from

Medical College of Virginia

Sold 24% shares in last ~ 9 months

John Bates (VP,Corporate Controller)

Age: 52

Tenure: 11 years

Richard Binstein (Secretary)

Formerly EVP at

Physiotherapy Associates, Inc.

JD from The Catholic

University of America, BS

from the University of

Delaware

Source: Capital IQ

Johnny Blanchard (Assistant

Corporate Controller)

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Christopher J. Reading, President, CEO and Director

Christopher J. Reading was promoted to President and Chief Executive Officer and elected to our Board of Directors effective November 1,

2004. Prior to 2004, Mr. Reading served as our Chief Operating Officer since joining us in 2003. From 1990 to 2003, Mr. Reading served in

various executive and management positions with HealthSouth Corporation where most recently he served as Senior Vice President of

Operations responsible for over 200 facilities located in 10 states. Mr. Reading is a physical therapist.

Lawrance W. McAfee, EVP, CFO and Director

Lawrance W. McAfee was promoted to Executive Vice President and elected to our Board of Directors effective November 1, 2004. Mr.

McAfee also serves as our Chief Financial Officer, a position he has held since joining us in 2003. Mr. McAfee’s experience includes having

served as Chief Financial Officer of three public companies and President of two private companies.

Daniel C. Arnold, Director

Daniel C. Arnold was named our Chairman of the Board on July 6, 2004. Mr. Arnold is a private investor engaged primarily in managing his

personal investments. He previously served as Chairman of the Board of Trustees of the Baylor College of Medicine. He is currently serving

only on the Board of U.S. Physical Therapy, Inc.

Mark J. Brookner, Director

Mark J. Brookner has served on our Board since August 1998. Mr. Brookner is currently a private investor. He served as our Chief Financial

Officer from 1992 to 1998 and as our Secretary and Treasurer during portions of that period.

Harry S. Chapman, Director

Harry S. Chapman has served on our Board since August 30, 2010. Mr. Chapman is the Chairman and the Chief Executive Officer of Chapman

Schewe, Inc., a healthcare insurance and employee benefits consulting firm. Previously, he served as a Corporate Senior Vice-President and

Managed Care Officer of CIGNA’s South Central Region, with responsibility for HMO and PPO plans in several states. Mr. Chapman’s

experience also includes having served as a head of EQUICOR’s Health Plan and sales operation in Houston and as a Regional Vice-President

for Lincoln National Insurance Company’s Central Region.

Dr. Bernard A. Harris, Jr., Director

Dr. Bernard A. Harris joined our Board on August 23, 2005. From 2001, Dr. Harris has been President and Chief Executive Officer of Vesalius

Ventures, a venture capital firm that invests in early stage medical informatics and technology. From 2006, Dr. Harris has served as a Class III

director of Sterling Bancshares, Inc., a bank holding company. From 1996 to 2001, he served as Chief Medical Officer and Vice President for

Space Hab, an aerospace company. Dr. Harris is a former astronaut, having completed two space shuttle missions. He completed his residency in

Internal Medicine at the Mayo Clinic and trained as a flight surgeon at the Aerospace School of Medicine at Brooks Air Force Base.

Marlin W. Johnston, Director

Marlin W. Johnston has served on our Board since 1992. Mr. Johnston has been a management consultant with Tonn & Associates, a

management consulting firm, since 1993. During 1992 and 1993, Mr. Johnston served as a management consultant to the Texas Department of

Health and the Texas Department of Protective and Regulatory Services.

Edward L. Kuntz, Director

Edward L. Kuntz has served on the Board since August 25, 2014. Mr. Kuntz is the former Chairman and Chief Executive Officer of Kindred

Healthcare (NYSE:KND), the largest diversified provider of post-acute care services in the United States. From 1999 through May 2014, he

served as Chairman of the Board of Directors of Kindred and as Chief Executive Officer from 1999 to 2004. He also serves as a director of

Rotech Healthcare and American Electric Technologies, Inc. (NADSAQ-CM: AETI). Mr. Kuntz is also an operating partner in Sentinel Capital

Partners, a private equity firm.

Reginald E. Swanson, Director

Reginald E. Swanson joined our Board on September 6, 2007. Mr. Swanson is Managing Director of STAR Physical Therapy, LP, a subsidiary

of the Company. Mr. Swanson is founder of STAR Physical Therapy, LLC, and from 1997 to 2007, was its president and managing member. He

is a licensed athletic trainer and has been involved with sports medicine and physical therapy for over 25 years.

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Clayton K. Trier, Director

Clayton K. Trier joined our Board on February 23, 2005. Mr. Trier is a private investor. He was a founder and former Chairman and Chief

Executive Officer of U.S. Delivery Systems, Inc., which developed the first national network providing same-day delivery service, from 1993 to

1997. Before it was acquired in 1996, U.S. Delivery was listed for two years on the New York Stock Exchange.

Sources

"Opportunity Within The Multi-Billion Physical Therapy Industry: Examining U.S. Physical Therapy And EWellness." Seeking

Alpha. Seeking Alpha, 17 May 2016. Web. 04 Feb. 2017. <http://seekingalpha.com/author/logical-assessment/articles>.

United States. 2010 Census. Washington, D.C.: U.S. Department of Commerce, Economics and Statistics Administration, U.S.

Census Bureau, 2013. Print.

"The Federation of State Boards of Physical Therapy." NPTE Graduation Year Reports | FSBPT. N.p., n.d. Web. 04 Feb. 2017.

< https://www.fsbpt.org>.

"Healthcare Reform in the United States." Wikipedia. Wikimedia Foundation, n.d. Web. 06 Feb.

2017. https://en.wikipedia.org/wiki/Healthcare_reform_in_the_United_States

Robert Karr | Dec 14, 2016 1:27 Pm EST. "Blackstone and KKR Build Dry Powder." Blackstone and KKR Build Dry Powder -

Market Realist. Market Realist, 4 Dec. 2016. Web. 06 Feb. 2017. <http://marketrealist.com/2016/12/blackstone-and-kkr-build-dry-

powder/>.

"Private Equity Capital Briefing - August 2016." Private Equity Capital Briefing - August 2016 (n.d.): n.

pag. Www.ey.com/publications. EY, 1 Aug. 2016. Web. 4 Feb. 2017. <http://www.ey.com/Publication/vwLUAssets/EY-private-

equity-capital-briefin-august-2016/$FILE/EY-private-equity-capital-briefin-august-2016.pdf>.

Source: USPH.com

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Disclosures: Ownership and material conflicts of interest:

The author(s), or a member of their household, of this report does not hold a financial interest in the securities of this company.

The author(s), or a member of their household, of this report does not know of the existence of any conflicts of interest that might bias the

content or publication of this report.

Receipt of compensation:

Compensation of the author(s) of this report is not based on investment banking revenue.

Position as a officer or director:

The author(s), or a member of their household, does not serve as an officer, director or advisory board member of the subject company.

Market making:

The author(s) does not act as a market maker in the subject company’s securities.

Disclaimer:

The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to

be reliable, but the author(s) does not make any representation or warranty, express or implied, as to its accuracy or completeness. The

information is not intended to be used as the basis of any investment decisions by any person or entity. This information does not constitute

investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security. This report should not be considered to be a

recommendation by any individual affiliated with CFA Societies of Texas, CFA Institute or the CFA Institute Research Challenge with regard to

this company’s stock.

CFA Institute Research Challenge