SELECT MEDICAL CORP, S-1, 2000-10-27

SELECT MEDICAL CORP
S-1, 2000-10-27

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<PAGE>

As filed with the Securities and Exchange Commission on October 27, 2000.
Registration No. 333-

---------------
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933

---------------
SELECT MEDICAL CORPORATION
(Exact name of Registrant as specified in its charter)

Delaware 8093 23-2872718
(State or Other Jurisdiction (Primary Standard Industrial (I.R.S. Employer
of Incorporation or Classification Code Number) Identification No.)
Organization)
---------------

4716 Old Gettysburg Road
P.O. Box 2034
Mechanicsburg, Pennsylvania 17055
(717) 972-1100
(Address, Including Zip Code, and Telephone Number, Including Area Code, of
Registrant's Principal Executive Offices)
---------------

Michael E. Tarvin, Esq.
General Counsel
4716 Old Gettysburg Road
P.O. Box 2034
Mechanicsburg, Pennsylvania 17055
(717) 972-1100
(Name, address including zip code, and telephone number, including area code,
of agent for service)
---------------

With copies to:

Christopher G. Karras, Esq. Michael W. Blair, Esq.
Dechert Debevoise & Plimpton
4000 Bell Atlantic Tower 875 Third Avenue
1717 Arch Street New York, New York 10022
Philadelphia, Pennsylvania 19103 (215) 909-6775
(215) 994-4000

---------------

Approximate date of commencement of proposed sale to the public: As soon
as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this Form are to be offered
on a delayed or continuous basis pursuant to Rule 415 under the Securities Act
of 1933, check the following box. [_]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following
box and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [_]
If this form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [_]
If delivery of the prospectus is expected to be made pursuant to Rule
434, please check the following box. [_]
---------------

CALCULATION OF REGISTRATION FEE

--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Title of Each Class of Proposed Maximum Amount of
Securities to be Registered Aggregate Offering Price (1) Registration Fee
------------------------------------------------------------------------------------
<S> <C> <C>
Common Stock, par value $.01 per
share............................... $200,000,000 $52,800
</TABLE>
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
(1) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(o) under the Securities Act of 1933.

---------------
The Registrant hereby amends this Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant
shall file a further amendment which specifically states that this Registration
Statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933 or until this Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.

--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<PAGE>

EXPLANATORY NOTE

This registration statement contains two separate prospectuses. The first
prospectus relates to a public offering in the United States and Canada of an
aggregate of shares of common stock. The second prospectus relates to a
concurrent offering outside the United States and Canada of an aggregate
of shares of common stock. The prospectuses for each of the U.S. offering
and the international offering will be identical with the exception of an
alternative front cover page, an alternative back cover page and an alternative
"Underwriting" section for the international offering. These alternative pages
appear in this registration statement immediately following the complete
prospectus for the U.S. offering. The information in this prospectus is not
complete and may be changed. We may not sell these securities until the
registration statement filed with the Securities and Exchange Commission is
effective. This prospectus is not an offer to sell these securities and it is
not soliciting an offer to buy these securities in any state where the offer or
sale is not permitted.
<PAGE>

++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+The information in this prospectus is not complete and may be changed. We may +
+not sell these securities until the registration statement filed with the +
+Securities and Exchange Commission is effective. This prospectus is not an +
+offer to sell these securities and it is not soliciting an offer to buy these +
+securities in any state where the offer or sale is not permitted. +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
Subject to Completion
Preliminary Prospectus dated October 27, 2000

PROSPECTUS
Shares

[LOGO OF SELECT MEDICAL CORPORATION]

Common Stock

-----------

This is Select Medical Corporation's initial public offering. Select
Medical Corporation is selling all of the shares. The U.S. underwriters are
offering shares in the U.S. and Canada, and the international managers are
offering shares outside the U.S. and Canada.

We expect the public offering price to be between $ and $ per share.
Currently, no public market exists for the shares. After pricing of the
offering, we expect that the shares will trade on the Nasdaq National Market
under the symbol "SLMC."

Investing in our common stock involves risks which are described in the
"Risk Factors" section beginning on page 8 of this prospectus.

-----------

<TABLE>
<CAPTION>
Per Share Total
--------- -----
<S> <C> <C>
Public offering price................................... $ $
Underwriting discount................................... $ $
Proceeds, before expenses, to Select Medical
Corporation............................................ $ $
</TABLE>

The U.S. underwriters may also purchase up to an additional shares from
us at the public offering price, less the underwriting discount, within 30 days
from the date of this prospectus to cover over-allotments. The international
managers may similarly purchase up to an additional shares from us.

Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if
this prospectus is truthful or complete. Any representation to the contrary is
a criminal offense.

The shares will be ready for delivery on or about , 2000.

-----------

Merrill Lynch & Co. Chase H&Q J.P. Morgan & Co.

CIBC World Markets
SG Cowen
First Union Securities, Inc.

-----------

The date of this prospectus is , 2000.
<PAGE>

[Inside front cover: Map of the United States and Canada showing
the locations of Select Medical Corporation's specialty acute care
hospitals and outpatient rehabilitation clinics.]

<PAGE>

TABLE OF CONTENTS

<TABLE>
<CAPTION>
Page
----
<S> <C>
Prospectus Summary....................................................... 1
Risk Factors............................................................. 8
Forward-Looking Statements............................................... 13
Use of Proceeds.......................................................... 14
Dividend Policy.......................................................... 14
Capitalization........................................................... 15
Dilution................................................................. 16
Selected Consolidated Financial and Other Data........................... 17
Unaudited Pro Forma Consolidated Financial Information................... 21
Management's Discussion and Analysis of Financial Condition and Results
of Operations........................................................... 24
Our Business............................................................. 37
Management............................................................... 55
Related Party Transactions............................................... 63
Principal Stockholders................................................... 67
Description of Capital Stock............................................. 69
Shares Eligible for Future Sale.......................................... 73
United States Federal Tax Considerations for Non-United States Holders... 74
Underwriting............................................................. 77
Legal Matters............................................................ 82
Experts.................................................................. 82
Where You Can Find More Information...................................... 82
Index to Consolidated Financial Statements............................... F-1
</TABLE>

---------------

You should rely only on the information contained in this prospectus. We
have not, and the underwriters have not, authorized any other person to provide
you with different information. If anyone provides you with different or
inconsistent information, you should not rely on it. We are not, and the
underwriters are not, making an offer to sell these securities in any
jurisdiction where the offer or sale is not permitted. You should assume that
the information appearing in this prospectus is accurate as of the date on the
front cover of this prospectus only. Our business, financial condition, results
of operations and prospects may have changed since that date.
<PAGE>

PROSPECTUS SUMMARY

This summary highlights information contained elsewhere in this
prospectus. You should read the entire prospectus carefully, including the
financial data and related notes and the risks of investing discussed under
"Risk Factors," before investing.

Select Medical Corporation

Overview of Our Company

We began operations in 1997 under the leadership of our current
management team, including our co-founders, Rocco A. Ortenzio and Robert A.
Ortenzio, both of whom have significant experience in the healthcare industry.
Under this leadership, we have grown our business through strategic
acquisitions and internal development initiatives. On a pro forma basis for the
year ended December 31, 1999, we had net operating revenues of $720.1 million.
Of this total, we earned 56.4% of our net operating revenues from our
outpatient rehabilitation business and 43.6% from our specialty acute care
hospitals.

Our Competitive Strengths

. Experienced Management Team. Our five senior operations executives
have an average of 23 years of experience in the healthcare industry.

. Significant Scale. The scale of our business allows us to achieve cost
efficiencies and gives us an advantage in negotiating contracts with
commercial insurers.

. Multiple Business Lines and Geographic Diversity. Our geographic
breadth and diversified business mix reduces our exposure to any
single reimbursement source.

. Proven Operating Performance. We have established a track record of
improving the financial performance of the hospitals and clinics we
operate.

. Experience in Successfully Completing and Integrating
Acquisitions. Since we began operations in 1997, we have completed and
integrated three significant acquisitions, as well as a number of
smaller acquisitions.

. Demonstrated Development Expertise. From inception to September 30,
2000, we have developed 15 new specialty acute care hospitals and 49
outpatient rehabilitation clinics.

. Significant Financial Resources. We have access to significant
financial resources that give us the flexibility to pursue an active
growth strategy.

Specialty Acute Care Hospitals

Our specialty hospitals treat patients with serious and often complex
medical conditions such as respiratory failure, neuromuscular disorders,
cardiac disorders, non-healing wounds, renal disorders and cancer.

1
<PAGE>

These patients generally require longer stays and a higher level of clinical
attention than patients admitted to general acute care hospitals.

The key elements of our specialty hospital strategy are to:

. Develop New Specialty Hospitals. Our goal is to open 10 to 12 new
specialty hospitals each year.

. Provide High Quality and Cost Effective Care. To effectively address
the complex nature of our patients' medical conditions, we have
developed specialized treatment programs focused solely on their
needs.

. Reduce Costs. We continually seek to improve operating efficiency and
reduce costs at our hospitals by standardizing and centralizing key
administrative functions.

. Increase Higher Margin Commercial Volume. We typically receive higher
reimbursement rates from commercial insurers than we do from the
federal Medicare program. As a result, we work to expand these
relationships to increase commercial patient volume.

. Grow Through Acquisitions. In addition to our development initiatives,
we intend to grow our network of specialty hospitals through strategic
acquisitions.

Outpatient Rehabilitation

In our outpatient rehabilitation clinics, we provide physical,
occupational and speech therapy. Our patients are typically diagnosed with
musculoskeletal impairments that restrict their ability to perform normal
activities of daily living. Our clinics are usually located in a freestanding
facility in a highly visible medical complex or retail location. In addition to
providing therapy in these clinics, we provide rehabilitation management
services and staffing on a contract basis to hospitals, schools, nursing
facilities and home health agencies.

The key elements of our outpatient rehabilitation strategy are to:

. Increase Market Share. Having a strong market share in our local
markets allows us to benefit from heightened brand awareness,
economies of scale and increased leverage when negotiating payor
contracts.

. Optimize the Profitability of Our Payor Contracts. We continually
review new and existing payor contracts to determine how each of the
contracts affects our profitability. We create a retention strategy
for each of our top performing contracts and a re-negotiation strategy
for contracts that do not meet our defined criteria.

. Improve Margins. To improve operating margins we continually revise
and streamline operational processes.

. Grow Through New Development and Disciplined Acquisitions. We intend
to open new clinics in our current markets where we believe we can
benefit from existing referral relationships. From time to time, we
also intend to evaluate acquisitions that may increase the scale of
our business and expand our geographic reach.

. Maintain Strong Employee Relations. We seek to retain, motivate and
educate our employees whose relationships with referral sources are
key to our success.

2
<PAGE>

Industry Overview

According to the Health Care Financing Administration, total U.S.
healthcare spending is estimated to grow at 7.1% in 2000 and at 6.5% annually
from 2001 through 2008. By these estimates, healthcare expenditures will
account for approximately $2.2 trillion, or 16.2% of the total U.S. gross
domestic product by 2008.

We believe that the growth in spending will create opportunities for low
cost, high quality healthcare providers like us. We believe that continued
spending pressure will encourage efficiency by directing patients toward lower-
cost settings such as our specialty acute care hospitals and outpatient
rehabilitation clinics.

---------------

Our principal executive office is located at 4716 Old Gettysburg Road,
Mechanicsburg, Pennsylvania 17055, and our telephone number is (717) 972-1100.
We maintain a site on the World Wide Web at www.selectmedicalcorp.com. The
information on our Web site is not part of this prospectus. Our Web site
address is included in this prospectus as an inactive textual reference only.

3
<PAGE>

The Offering

<TABLE>
<C> <S>
Common stock offered by Select Medical:

U.S. offering.................................... shares
International offering........................... shares
Total........................................ shares

Common stock to be outstanding after this offering.. shares (a)

Use of proceeds..................................... We intend to use the net
proceeds from the
offering for repayment of
a portion of our
outstanding debt,
redemption of preferred
stock, payment of accrued
dividends on our
preferred stock,
financing possible future
acquisitions and general
corporate purposes.

Risk factors........................................ See "Risk Factors" and
the other information
included in this
prospectus for a
discussion of factors you
should carefully consider
before deciding to invest
in shares of our common
stock.

Nasdaq National Market symbol....................... SLMC
</TABLE>
--------
(a) Gives effect to the conversion of 16,000,000 shares of Class B Preferred
Stock into 16,000,000 shares of our common stock that will happen
automatically upon the completion of this offering. Excludes warrants
outstanding to purchase 3,252,223 shares of our common stock at an exercise
price of $ per share. Excludes 10,000,000 shares of common stock we have
reserved for issuance under our 1997 Stock Option Plan. As of September 30,
2000, we had 7,066,884 options outstanding under this plan with a weighted
average exercise price of $ .

Unless we specifically state otherwise, the information in this
prospectus does not take into account the sale of up to shares of common
stock that the underwriters have the option to purchase from us to cover over-
allotments. All information in this prospectus assumes the issuance and sale of
common stock in the offering at an assumed initial public offering price of
$ per share, the mid-point of the range of the initial public offering
prices set forth on the cover page of this prospectus, and gives effect to the
conversion of 16,000,000 shares of Class B Preferred Stock into 16,000,000
shares of our common stock upon the completion of this offering.

4
<PAGE>

SUMMARY CONSOLIDATED FINANCIAL AND OTHER DATA

You should read the summary consolidated financial and other data below in
conjunction with our consolidated financial statements and the accompanying
notes. We derived the historical financial data for the periods ended December
31, 1997, 1998 and 1999 from our audited consolidated financial statements. We
derived the historical financial data for the six months ended June 30, 1999
and June 30, 2000, and as of June 30, 2000, from our unaudited interim
consolidated financial statements. You should also read "Selected Consolidated
Financial and Other Data" and the accompanying "Management's Discussion and
Analysis of Financial Condition and Results of Operations." All of these
materials are contained later in this prospectus. The pro forma as adjusted
consolidated statement of operations data for the year ended December 31, 1999
is pro forma for the acquisition of the NovaCare Physical Rehabilitation and
Occupational Health Division and the conversion of our Class B Preferred Stock
as if these events had been completed on January 1, 1999; and as adjusted for
the offering as if it had been completed on January 1, 1999. The consolidated
statement of operations should be read in conjunction with the "Unaudited Pro
Forma Consolidated Financial Information" included elsewhere in this
prospectus. The pro forma as adjusted consolidated balance sheet data for the
six months ended June 30, 2000 are pro forma for the conversion of our Class B
Preferred Stock and as adjusted to give effect to the offering as if these
events had been completed on June 30, 2000. The pro forma as adjusted statement
of operations data for the six months ended June 30, 2000 are pro forma for the
conversion of our Class B Preferred Stock and as adjusted to give effect to the
offering as if these events had been completed on January 1, 1999.

<TABLE>
<CAPTION>
Year Ended December 31, Six Months Ended June 30,
----------------------------------------- -------------------------------
Pro Forma Pro Forma
As Adjusted As Adjusted
1997 1998 1999 1999 1999 2000 2000(0)
-------- -------- -------- ----------- -------- -------- -----------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C> <C> <C>
Consolidated Statement
of Operations Data
Net operating revenues.. $ 11,194 $149,043 $455,975 $720,116 $208,031 $397,422 $397,422
Operating expenses (a).. 13,740 145,450 413,731 698,974 187,076 349,819 349,819
Depreciation and
amortization........... 285 4,942 16,741 31,363 6,825 14,095 14,095
Special charges (b)..... -- 10,157 5,223 28,298 -- -- --
-------- -------- -------- -------- -------- -------- --------
Income (loss) from
operations............. (2,831) (11,506) 20,280 (38,519) 14,130 33,508 33,508
Other income............ 6,022 -- -- -- -- --
Interest expense
(income), net.......... (64) 4,976 21,099 26,739 8,629 18,078 14,055
-------- -------- -------- -------- -------- -------- --------
Income (loss) before
minority interests,
income taxes and
extraordinary items 3,255 (16,482) (819) (65,258) 5,501 15,430 19,453
Minority interests (c).. -- 1,744 3,662 3,768 2,144 2,178 2,178
-------- -------- -------- -------- -------- -------- --------
Income (loss) before
income taxes and
extraordinary item..... 3,255 (18,226) (4,481) (69,026) 3,357 13,252 17,275
Income tax provision
(benefit).............. 1,308 (182) 2,811 1,497 3,430 6,228 8,119
-------- -------- -------- -------- -------- -------- --------
Net income (loss) before
extraordinary item..... 1,947 (18,044) (7,292) (70,523) (73) 7,024 9,156
Extraordinary item (d).. -- -- 5,814 -- -- -- --
-------- -------- -------- -------- -------- -------- --------
Net income (loss)....... 1,947 (18,044) (13,106) (70,523) (73) 7,024 9,156
Less: Preferred
dividends ............. (266) (2,540) (5,175) -- (2,122) (4,271) --
-------- -------- -------- -------- -------- -------- --------
Net income (loss)
available to common
stockholders .......... $ 1,681 $(20,584) $(18,281) $(70,523) $ (2,195) $ 2,753 9,156
======== ======== ======== ======== ======== ======== ========
Net income (loss) per
common share:
Basic:
Net income (loss)
before extraordinary
item................ $ 0.15 $ (0.95) $ (0.29) $ -- $ (0.05) $ 0.06 $ --
Extraordinary item... -- -- (0.14) -- -- -- --
-------- -------- -------- -------- -------- -------- --------
Net income (loss).... $ 0.15 $ (0.95) $ (0.43) $ -- $ (0.05) $ 0.06 $ --
======== ======== ======== ======== ======== ======== ========
Diluted:
Net income (loss)
before extraordinary
item................ $ 0.15 $ (0.95) $ (0.29) $ -- $ (0.05) $ 0.06 $ --
Extraordinary item... -- -- (0.14) -- -- -- --
-------- -------- -------- -------- -------- -------- --------
Net income (loss).... $ 0.15 $ (0.95) $ (0.43) $ -- $ (0.05) $ 0.06 $ --
======== ======== ======== ======== ======== ======== ========
Weighted average common
shares outstanding (e):
Basic.................. 11,383 21,731 42,633 -- 42,517 44,180 --
Diluted................ 11,395 21,731 42,633 -- 42,517 49,681 --
</TABLE>

(footnotes begin on page 7)

5
<PAGE>

<TABLE>
<CAPTION>
As of June 30, 2000
------------------------
Pro Forma
Actual As Adjusted (f)
-------- ---------------
(in thousands)
<S> <C> <C>
Consolidated Balance Sheet Data
Cash and cash equivalents.............................. $ 5,096 $ 43,096
Working capital........................................ 114,726 152,726
Total assets........................................... 609,705 647,705
Total long term obligations............................ 295,212 222,262
Total stockholders' equity and preferred stock......... 179,228 290,178
</TABLE>

Selected Operating Data

The following table sets forth operating statistics for our specialty
acute care hospitals and our outpatient rehabilitation business for each of the
periods presented. The data in the table reflect the changes in the number of
specialty acute care hospitals and outpatient rehabilitation clinics we operate
that resulted from acquisitions, start-up activities and closures. The
operating statistics reflect data for the period of time these operations were
managed by us. The same specialty hospital data include hospitals operated by
us for the comparable periods. Further information on our acquisition
activities can be found in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and the notes to our consolidated
financial statements.

<TABLE>
<CAPTION>
Year Ended Six Months Ended
December 31, June 30,
----------------- ------------------
1998 1999 1999 2000
------- -------- -------- --------
(dollars in thousands)
<S> <C> <C> <C> <C>
Specialty Hospital Data:
Number of hospitals--start of
period............................ -- 39 39 44
Number of hospitals acquired..... 37 -- -- --
Number of hospital start-ups..... 2 6 3 5
Number of hospitals closed/sold.. -- 1 -- --
------- -------- -------- --------
Number of hospitals--end of
period............................ 39 44 42 49
------- -------- -------- --------
Available licensed beds (g)........ 1,428 1,649 1,570 1,838
Admissions (h)..................... 2,640 12,421 6,006 7,094
Patient days (i)................... 74,418 358,304 174,357 206,501
Average length of stay (j)......... 29 30 30 30
Occupancy rate (k)................. 52% 63% 63% 64%
Percent patient days--Medicare
(l)............................... 78% 78% 78% 76%
EBITDA (m)......................... $ 3,147 $ 35,929 $ 17,168 $ 20,942
Same Specialty Hospital Data:
Admissions (h)................... 11,796 5,771 6,440
Patient days (i)................. 342,417 168,173 188,460
Average length of stay (j)....... 30 30 29
Occupancy rate (k)............... 65% 65% 71%
Percent patient days--Medicare
(l)............................. 78% 78% 77%
EBITDA (m)....................... $ 35,984 $ 18,133 $ 21,557
Outpatient Rehabilitation Data:
Number of clinics--start of
period............................ 66 94 94 620
Number of clinics acquired....... 21 516 10 3
Number of clinics start-ups...... 11 14 8 16
Number of clinics closed/sold.... 4 4 1 20
------- -------- -------- --------
Number of clinics owned--end of
period............................ 94 620 111 619
Number of clinics managed--end of
period (n)........................ 21 38 23 43
------- -------- -------- --------
Total number of clinics............ 115 658 134 662
------- -------- -------- --------
EBITDA (m)......................... $12,598 $ 22,697 $ 10,991 $ 36,433
</TABLE>

(footnotes on following page)

6
<PAGE>

(a) Operating expenses include cost of services, general and administrative
expenses, and bad debt expenses.
(b) Reflects asset impairments of $6.3 million and litigation settlement costs
of $3.8 million in 1998 and asset impairments of $5.2 million in 1999. The
pro forma special charge consists of our 1999 special charge and a
provision for restructuring of $23.1 million recorded by the NovaCare
Physical Rehabilitation and Occupational Health Division.
(c) Reflects interests held by other parties in subsidiaries, limited liability
companies and limited partnerships owned and controlled by us.
(d) Reflects the write-off of deferred financing costs that resulted from the
refinancing of our credit facility in November 1999.
(e) For information concerning calculation of weighted average shares
outstanding, see note 14 to the consolidated financial statements.
(f) Reflects the application of the net proceeds from this offering, including
$69 million to redeem preferred stock and pay accrued preferred stock
dividends, $53 million to repay term loans under our credit facility, $25
million to repay senior subordinated debt and the remaining $38 million to
be used for future acquisitions and general corporate purposes.
(g) Available licensed beds are the number of beds that are licensed with the
appropriate state agency and which are readily available for patient use at
the end of the period indicated.
(h) Admissions represent the number of patients admitted for treatment.
(i) Patient days represent the total number of days of care provided to
patients.
(j) Average length of stay (days) represents the average number of days
patients stay in our hospitals per admission, calculated by dividing total
patient days by the number of discharges for the period.
(k) We calculate occupancy rate by dividing the average daily number of
patients in our hospitals by the weighted average number of available
licensed beds over the period indicated.
(l) We calculate percentage by dividing the number of Medicare patient days by
the total number of patient days.
(m) We define EBITDA as net income (loss) before interest, income taxes,
depreciation and amortization and special charges, other income, minority
interest, and extraordinary items. EBITDA should not be considered as a
measure of financial performance under generally accepted accounting
principles. Items excluded from EBITDA are significant components in
understanding and assessing financial performance. EBITDA is a measure used
by management to evaluate our operations, and we believe it provides useful
information to investors. EBITDA should not be considered in isolation or
as an alternative to net income, cash flows generated by operations,
investing or financing activities, or other financial statement data
presented in the consolidated financial statements as indicators of
financial performance or liquidity. Because EBITDA is not a measurement
determined in accordance with generally accepted accounting principles and
is susceptible to varying calculations, EBITDA as presented may not be
comparable to similarly titled measures of other companies.
(n) Managed clinics are clinics that we operate through long term management
arrangements and clinics operated through unconsolidated joint ventures.
(o) The as adjusted consolidated statement of operations for the six months
ended June 30, 2000 reflects the following adjustments as a result of this
offering:
. the reduction in interest expense of $4.0 million for the repayment of
$53.0 million of 10% senior debt under the term loan portion of our bank
credit facility and the repayment of $25.0 million of 10% senior
subordinated notes.
. additional tax expense of $1.9 million related to the $4.0 million
interest expense decrease in (i) above.
. the reversal of $1.8 million of preferred dividends on our Class B
Preferred Stock which would convert share for share into common stock
upon this offering.

7
<PAGE>

RISK FACTORS

Our business involves a number of risks, some of which are beyond our
control. You should carefully consider each of the risks and uncertainties we
describe below and all of the other information in this prospectus before
deciding to invest in our shares. The risks and uncertainties we describe below
are not the only ones we face. Additional risks and uncertainties that we do
not currently know or that we currently believe to be immaterial may also
adversely affect our business.

If there are changes in the rates or methods of government reimbursements for
our services, our net operating revenues and net income could decline.

Approximately one third of our net operating revenues come from the
federal Medicare program, which is highly regulated and subject to changes.
Long term acute care hospitals receive reimbursements from Medicare based on
the actual costs incurred during the treatment of a patient, subject to a cap.
Many other types of healthcare providers, including general acute care
hospitals, are reimbursed by Medicare under prospective payment systems. These
systems reimburse providers fixed amounts, subject to adjustments, based on
each patient's expected cost of treatment. Congress has directed the Secretary
of the U.S. Department of Health and Human Services to develop a prospective
payment system applicable to long term acute care hospitals. The Secretary has
not developed such a prospective payment system to date but may do so in the
future. The application of a prospective payment system to long term acute care
hospitals could reduce the level of reimbursement we receive from the Medicare
program for our services and negatively affect our profit margins.

Our outpatient rehabilitation clinics receive payments from the Medicare
program under a fee schedule. These payments were to be subject to annual
limits, originally $1,500 per patient, effective January 1, 1999. Congress has
imposed a moratorium on these limits through 2001. The Secretary of the
Department of Health and Human Services is required to review this annual limit
and make a proposal to Congress to revise the payment system for outpatient
rehabilitation. Any changes adopted by Congress, which could include reduced
annual limits or a new payment system, could have an adverse effect on our
outpatient rehabilitation business. See "Our Business--Government Regulations--
Overview of U.S. and State Government Reimbursements."

If our hospitals fail to maintain their exemption from the Medicare prospective
payment system or fail to maintain their status as a "hospital within a
hospital," our profitability may decline.

As of September 30, 2000, 46 of our 51 hospitals were certified as
Medicare long term acute care hospitals, and the remaining five were in the
process of becoming certified as Medicare long term acute care hospitals. If
our hospitals fail to meet or maintain the standards for certification as long
term acute care hospitals, such as average minimum length of patient stay, they
will not receive cost-based reimbursement but will instead receive
predetermined payments applicable to general acute care hospitals under the
prospective payment system. Such predetermined payments would likely result in
our hospitals receiving less Medicare reimbursement than they currently receive
for their patient services. Moreover, nearly all of our hospitals are subject
to additional Medicare criteria because they operate under the "hospital within
a hospital" model, such as limitations on services purchased from the host
hospital and other requirements concerning separateness from the host hospital.
As a result, if several of our hospitals were to lose their cost-based
reimbursement status or failed to comply with the "hospital within a hospital"
requirements, our profit margins would likely decrease. See "Our Business--
Government Regulations--Overview of U.S. and State Government Reimbursements--
Long Term Acute Care Hospital Medicare Reimbursement."

8
<PAGE>

Our future net operating revenues and profitability may be constrained by
future cost containment initiatives undertaken by private third party payors.

The profitability of our long term acute care hospitals and outpatient
rehabilitation clinics is affected by initiatives undertaken by major insurers
and managed care companies to contain healthcare costs. These payors attempt
to control healthcare costs by contracting with hospitals and other healthcare
providers to obtain services on a discounted basis. We believe that this trend
may continue and may limit reimbursements for healthcare services. This may
cause our profit margins to decline.

We conduct business in a heavily regulated industry, and changes in
regulations or violations of regulations may result in increased costs or
sanctions that reduce our net operating revenues and profitability.

The healthcare industry is subject to extensive federal, state and local
laws and regulations relating to:

. facility and professional licensure, including certificates of need;

. conduct of operations, including financial relationships among
healthcare providers, Medicare fraud and abuse, and physician self-
referral;

. addition of facilities and services; and

. payment for services.

Recently, there have been heightened coordinated civil and criminal
enforcement efforts by both federal and state government agencies relating to
the healthcare industry, including the long term acute care hospital and
outpatient rehabilitation clinic businesses. The ongoing investigations relate
to, among other things, various referral practices, cost reporting, billing
practices, physician ownership and joint ventures involving hospitals. In the
future, different interpretations or enforcement of these laws and regulations
could subject our current practices to allegations of impropriety or
illegality or could require us to make changes in our facilities, equipment,
personnel, services and capital expenditure programs, and increase our
operating expenses. If we fail to comply with these extensive laws and
government regulations, we could become ineligible to receive government
program reimbursement, suffer civil or criminal penalties or be required to
make significant changes to our operations. In addition, we could be forced to
expend considerable resources responding to an investigation or other
enforcement action under these laws or regulations. See "Our Business--
Government Regulations."

If we fail to cultivate new or maintain established relationships with the
physicians in our markets, our net operating revenues may decrease.

Our success is, in part, dependent upon the admissions and referral
practices of the physicians in the communities our hospitals and our
outpatient rehabilitation clinics serve, and our ability to maintain good
relations with these physicians. Physicians referring patients to our
hospitals and clinics are generally not our employees and, in many of the
markets that we serve, most physicians have admitting privileges at other
hospitals and are free to refer their patients to other providers. If we are
unable to successfully cultivate and maintain strong relationships with these
physicians, our hospitals' admissions and clinics' businesses may decrease,
and our net operating revenues may decline.

Future acquisitions may use significant resources, may be unsuccessful and
could expose us to unforeseen liabilities.

As part of our growth strategy, we intend to pursue acquisitions of long
term acute care hospitals and outpatient rehabilitation clinics. Acquisitions
may involve significant cash expenditures, debt incurrence, additional
operating losses, amortization of the intangible assets of acquired companies,
dilutive issuances of

9
<PAGE>

equity securities and expenses that could have a material adverse effect on our
financial condition and results of operations. Acquisitions involve numerous
risks, including:

. difficulties integrating acquired personnel and harmonizing distinct
cultures into our business;

. diversion of management's time from existing operations;

. potential loss of key employees or customers of acquired companies;
and

. assumption of the liabilities and exposure to unforeseen liabilities
of acquired companies, including liabilities for failure to comply
with healthcare regulations.

We cannot assure you that we will succeed in obtaining financing for
acquisitions at a reasonable cost, or that such financing will not contain
restrictive covenants that limit our operating flexibility. We also may be
unable to operate acquired hospitals and outpatient rehabilitation clinics
profitably or succeed in achieving improvements in their financial performance.

Competition may limit our ability to acquire hospitals and clinics and
adversely affect our growth.

We have historically faced limited competition in acquiring long term
acute care hospitals and outpatient rehabilitation clinics, but we may face
heightened competition in the future. Our competitors may acquire or seek to
acquire many of the hospitals and clinics that would be suitable candidates for
us. This could limit our ability to grow by acquisitions or make our cost of
acquisitions higher and less profitable.

If we fail to compete effectively with other hospitals, clinics and healthcare
providers, our net operating revenues and profitability may decline.

The healthcare business is highly competitive, and we compete with other
hospitals, rehabilitation clinics and other healthcare providers for patients.
If we are unable to compete effectively in the long term acute care hospital
and outpatient rehabilitation businesses, our net operating revenues and
profitability may decline. More than half of our specialty hospitals operate in
geographic areas where we compete with at least one other hospital that
provides similar services. Our outpatient rehabilitation clinics face
competition from a variety of local and national outpatient rehabilitation
providers. Other outpatient rehabilitation clinics in markets we serve may have
greater name recognition and longer operating histories than our clinics. The
managers of these clinics may also have stronger relationships with physicians
in their communities, which could give them a competitive advantage for patient
referrals.

Shortages in qualified nurses could increase our operating costs significantly.

Our long term acute care hospitals are highly dependent on nurses for
patient care. The availability of qualified nurses has declined in recent
years, and the salaries for nurses has risen accordingly. We cannot assure you
we will be able to attract and retain qualified nurses in the future.
Additionally, the cost of attracting and retaining nurses may be higher than we
anticipate, and as a result, our profitability could decline.

Significant legal actions could subject us to substantial uninsured
liabilities.

In recent years, physicians, hospital and other healthcare providers have
become subject to an increasing number of legal actions alleging malpractice,
product liability or related legal theories. Many of these actions involve
large claims and significant defense costs. To protect ourselves from the cost
of these claims, we maintain professional malpractice liability insurance and
general liability insurance coverage in amounts and with deductibles that we
believe to be appropriate for our operations. However, our insurance coverage
may not cover all claims against us or continue to be available at a reasonable
cost. If we are unable to maintain adequate insurance coverage, we may be
exposed to substantial liabilities. We are also subject to

10
<PAGE>

lawsuits under a federal whistleblower statute designed to combat fraud and
abuse in the healthcare industry. These lawsuits can involve significant
monetary damages and award bounties to private plaintiffs who successfully
bring the suits. See "Our Business--Legal Proceedings" and "Our Business--
Government Regulations--Other Healthcare Regulations."

We may experience difficulties with our outpatient rehabilitation information
systems integration, which could cause business interruption.

During the next 18 months, we plan to transition gradually to a common
system to manage all of our scheduling, billing, collecting and patient
information for our outpatient rehabilitation clinics. If our systems
integration fails or works improperly, we could face interruption in the
segments of our business undergoing the transition while we correct the
problem. The interruption in the affected segment of our business could include
our inability to bill patients and payors for the services we provide. A
sustained inability to bill and collect payments would have a material adverse
effect on our cash flows and results of operations.

Because certain of our significant stockholders and our senior management
control us, they will be able to determine the outcome of all matters submitted
to our stockholders for approval, regardless of the preferences of the minority
stockholders.

Following the offering, Welsh, Carson, Anderson & Stowe; GTCR Golder
Rauner, LLC; Thoma Cressey Equity Partners and our directors and executive
officers will together own a majority of our outstanding common stock.
Accordingly, they will be able to:

. elect our entire board of directors;

. control our management and policies; and

. determine, without the consent of our other stockholders, the outcome
of any corporate transaction or other matter submitted to our
stockholders for approval, including mergers, consolidations and the
sale of all or substantially all of our assets.

Welsh, Carson, Anderson & Stowe; GTCR Golder Rauner, LLC; Thoma Cressey
Equity Partners and our management will also be able to prevent or cause a
change in control of us and will be able to amend our certificate of
incorporation and by-laws without the approval of any other of our
stockholders. Their interests may conflict with the interests of our other
stockholders.

If existing stockholders sell their common stock, the price of our common stock
may decline.

If our existing stockholders sell substantial amounts of our common
stock, including shares issued upon the exercise of outstanding options, in the
public market following the offering, then the market price of our common stock
could fall. Following the offering, there will be shares outstanding,
including options and warrants exercisable within 60 days. Restrictions under
the securities laws and certain lock-up agreements limit the number of shares
of common stock available for sale in the public market. Our directors,
executive officers and substantially all of our existing stockholders have
agreed not to sell any of these securities for 180 days after the offering
without the prior written consent of Merrill Lynch. However, Merrill Lynch may,
in its sole discretion, release all or any portion of the securities subject to
the lock-up agreements.

The holders of 58,374,341 shares of common stock and the holders of
warrants to purchase shares of common stock have demand and piggy-back
registration rights. We are not obligated to register any shares held by these
stockholders upon their request for 180 days from the date of this prospectus.
However, subject to the prior written consent of the underwriters, if we file a
registration statement to register sales of our common stock (other than under
our employee benefit plans) during that time, these stockholders will be
entitled to

11
<PAGE>

register any portion or all of their shares to be included in that offering.
After the expiration of this 180 day period, these stockholders may demand
that we register any portion or all of their shares at any time. We also may
shortly file a registration statement to register all shares of common stock
under our stock option plans. After such registration statement is effective,
common stock issued upon exercise of stock options, except by our executive
officers and directors, under our benefit plans will be eligible for resale in
the public market without restriction.

If provisions in our corporate documents and Delaware law delay or prevent a
change in control of our company, we may be unable to consummate a transaction
that our stockholders consider favorable.

Our certificate of incorporation and by-laws may discourage, delay, or
prevent a merger or acquisition involving us that our stockholders may
consider favorable by:

. authorizing the issuance of preferred stock the terms of which may be
determined at the sole discretion of the board of directors;

. providing for a classified board of directors with staggered three-
year terms; and

. establishing advance notice requirements for nominations for election
to the board of directors or for proposing matters that can be acted
on by stockholders at meetings.

Delaware law may also discourage, delay or prevent someone from acquiring or
merging with us. See "Description of Capital Stock."

Because the initial public offering price of our common stock exceeds our net
tangible book value per share, investors will experience immediate and
substantial dilution.

As a result of this offering, purchasers of the common stock in the
offering will experience dilution in the amount of $ per share, based on an
assumed initial public offering price of $ per share, the midpoint of the
range of prices shown on the front page of this prospectus. Our net tangible
book value at June 30, 2000 was a deficit of $67.3 million, or $1.51 per share
of common stock. Present stockholders will experience an immediate and
substantial increase in net tangible book value in the amount of $ per share
of common stock based on an assumed initial public offering price of $ .

If our stock price fluctuates after the initial offering, you could lose a
significant part of your investment.

Prior to the offering, there has been no public market for our common
stock. We plan to list our common stock on the Nasdaq National Market. We do
not know if an active trading market will develop for our common stock or how
the common stock will trade in the future. Negotiations between the
underwriters and us will determine the initial public offering price. You may
not be able to resell your shares at or above the initial public offering
price due to fluctuations in the market price of our common stock as a result
of changes in our operating performance or prospects. In addition, the stock
market in general has experienced extreme volatility that often has been
unrelated to the operating performance or prospects of particular companies.

12
<PAGE>

FORWARD-LOOKING STATEMENTS

This prospectus includes forward-looking statements. We have based these
forward-looking statements on our current expectations and projections about
future events. These forward-looking statements are subject to risks,
uncertainties and assumptions about us, including, among other things:

. general economic, demographic and business conditions, both
nationally and in regions where we operate;

. the effect of existing or future governmental regulation and federal
and state legislative and enforcement initiatives on our business,
including the Balanced Budget Act of 1997;

. changes in Medicare reimbursement levels;

. our ability to implement successfully our acquisition and development
strategies;

. the availability and terms of financing to fund the expansion of our
business, including the acquisition of additional long term acute
care hospitals and outpatient rehabilitation clinics;

. our ability to attract and retain qualified management personnel and
to recruit and retain nurses and other healthcare personnel;

. our ability to enter into managed care provider arrangements on terms
attractive to us;

. changes in generally accepted accounting principles that may affect
our reported results of operations;

. the effect of liability and other claims asserted against us; and

. the effect of competition in the markets we serve.

In some cases, you can identify forward-looking statements by terminology such
as "may," "will," "should," "could," "would," "expect," "plan," "anticipate,"
"believe," "estimate," "continue," "intend," or the negative of such terms or
other similar expressions. All forward-looking statements attributable to us or
persons acting on our behalf are expressly qualified in their entirety by the
cautionary statements included in this prospectus. We undertake no obligation
to publicly update or revise any forward-looking statements, whether as a
result of new information, future events or otherwise. In light of these risks,
uncertainties and assumptions, the forward-looking events discussed in this
prospectus might not occur.

13
<PAGE>

USE OF PROCEEDS

We estimate that our net proceeds from the offering will be approximately
$185.0 million after deducting estimated expenses and underwriting discounts
and commissions of $15.0 million. We will use these net proceeds to redeem
$53.0 million of our Class A Preferred Stock and to pay $16.0 million in
dividends accrued on our Class A and Class B Preferred Stock. We will also
repay $53.0 million of our senior debt under the term loan portion of our bank
credit facility. Our bank credit facility matures in September 2005 and bears
interest at a fluctuating rate, which as of September 30, 2000, was a weighted
average interest rate of 10.04%. We will also repay our $25.0 million Senior
Subordinated Note, which was issued to WCAS Capital Partners III, L.P. in
November 1999 to partially finance the NovaCare acquisition. The Senior
Subordinated Note matures on November 19, 2009 and bears interest at 10% per
year. The balance of the net proceeds will be used for future acquisitions and
general corporate purposes. Pending use of the net proceeds for the above
purposes, we intend to invest the net proceeds in short-term, investment-grade,
interest bearing securities.

DIVIDEND POLICY

We have never declared or paid dividends on our common stock, and we do
not intend to pay dividends in the foreseeable future. We are restricted by our
current credit facility from declaring or paying dividends on our common stock.
We also may not pay dividends on our common stock without the prior written
consent of either Welsh, Carson, Anderson & Stowe or GTCR Golder Rauner, LLC.
We plan to retain any earnings for use in the operation of our business and to
fund future growth.

14
<PAGE>

CAPITALIZATION

The following table sets forth our capitalization as of June 30, 2000 on
an actual basis, a pro forma basis to give effect of the automatic conversion
of the Class B Preferred Stock and pro forma as adjusted basis to give effect
to the application of the net proceeds of this offering.

Common stock data also assumes that the underwriters' over-allotment
option is not exercised and excludes shares of common stock reserved for
issuance under our 1997 stock option plan, under which options to purchase
7,066,884 shares were outstanding as of September 30, 2000 at a weighted
average exercise price of $ per share, and under warrants outstanding to
purchase 3,252,223 shares at an exercise price of $ per share. You should
read this table in conjunction with our "Selected Consolidated Financial and
Other Data," our "Unaudited Pro Forma Consolidated Financial Information," our
"Consolidated Financial Statements" and "Management's Discussion and Analysis
of Financial Condition and Results of Operations," included elsewhere in this
prospectus.

<TABLE>
<CAPTION>
As of June 30, 2000
-------------------------------
Pro Pro Forma
Actual Forma As Adjusted
-------- -------- -----------
(dollars in thousands)
<S> <C> <C> <C>
Long term debt:
Senior credit facility....................... $199,094 $199,094 $146,094
10% senior subordinated notes due 2008....... 56,390 56,390 56,390
10% senior subordinated note due 2009........ 19,950 19,950 --
Seller notes(a).............................. 40,049 40,049 40,049
Other........................................ 2,055 2,055 2,055
-------- -------- --------
Total debt..................................... 317,538 317,538 244,588
Less current portion......................... $(22,326) $(22,326) $(22,326)
-------- -------- --------
Total long term debt....................... 295,212 295,212 222,262
-------- -------- --------
Preferred stock, $.01 par value
Class A: 55,000 shares authorized, 52,848
shares issued and outstanding-- actual; no
shares issued and outstanding--as
adjusted................................... 62,854 62,854 --
Class B: 16,000,000 shares authorized,
16,000,000 shares issued and outstanding--
actual; no shares issued and outstanding--
as adjusted................................ 62,221 2,221 --
Stockholders' equity:
Common stock, $.01 par value; 78,000,000
shares authorized, 44,559,930 shares issued
and outstanding--actual; shares issued and
outstanding--as adjusted.................... 446 606
Capital in excess of par....................... 77,195 137,095
Accumulated deficit............................ (22,445) (22,445)
Treasury stock, at cost; 381,393 shares--
actual; 798,143 shares, as adjusted(b)........ (1,028) (1,028)
Cumulative translation adjustment.............. (15) (15)
-------- -------- --------
Total stockholders' equity..................... 54,153 114,153
-------- -------- --------
Total capitalization........................... $474,440 $474,440 $
======== ======== ========
</TABLE>
--------
(a) Seller notes consist of notes issued or assumed by us as past consideration
for some of our acquired businesses. They generally bear interest at 6% to
9% per annum and mature at various times.
(b) As adjusted treasury shares includes 416,750 shares that will be
transferred to us at no additional cost upon the repayment in full of the
10% senior subordinated note due 2009, which we intend to repay upon the
completion of this offering.

15
<PAGE>

DILUTION

At June 30, 2000, we had a pro forma net tangible book deficit after
giving effect to the conversion of Class B Preferred Stock of $138.3 million,
or $2.28 per share. Net tangible book value per share is equal to our total
tangible assets less our total liabilities, divided by the total number of
shares of our common stock outstanding. After giving effect to the sale
of shares of our common stock at an assumed initial public offering price of
$ per share, the midpoint of the range of prices shown on the front page of
this prospectus, and after deducting estimated underwriting discounts and
commissions and estimated offering expenses, our as adjusted net tangible book
value at June 30, 2000 would have been $ , or $ per share. This represents
an immediate increase in net tangible book value of $ per share to existing
stockholders and an immediate dilution of $ per share to new investors
purchasing shares of our common stock in this offering. The following table
illustrates the per share dilution to the new investors.

<TABLE>
<S> <C> <C> <C>
Assumed initial public offering price per share.......... $
Pro Forma net tangible book deficit per share at June
30, 2000.............................................. $(2.28)
Increase per share attributable to this offering.......
Pro Forma as adjusted net tangible book value per share
after the offering......................................
---- ---
Dilution per share to new investors in this offering..... $
==== ===
</TABLE>

The following table summarizes on an as adjusted basis, as of June 30,
2000, the total number of shares of our common stock, the total cash
consideration paid and the average price per share paid by the existing
stockholders and by the new investors in this offering at an assumed initial
public offering price of $ per share and before deducting estimated
underwriting discounts and commissions and our estimated offering expenses:

<TABLE>
<CAPTION>
Total
Shares Purchased Consideration Average
------------------ ----------------- Price Per
Number Percent Amount Percent Share
---------- ------- --------- ------- ---------
<S> <C> <C> <C> <C> <C> <C>
Existing stockholders...... 44,228,538 % % $
New investors(1)...........
---------- ------ --------- ------
Total.................... 100.00% 100.00%
========== ====== ========= ======
</TABLE>
--------
(1) This number of shares assumes that the underwriters' over-allotment option
is not exercised. If the over-allotment option is exercised in full, we
will issue and sell an additional shares.

The foregoing discussion and tables assume no exercise of any stock
options outstanding as of June 30, 2000. As of June 30, 2000, there were
options outstanding to purchase a total of 7,058,384 shares of our common stock
at a weighted average exercise price of $ per share and 2,938,116 shares
reserved for future grant under our 1997 Stock Option Plan. To the extent that
any of these shares are issued, there will be further dilution to new
investors. See "Capitalization," "Management--Select Medical Corporation
Amended and Restated 1997 Stock Option Plan" and Note 8 to "Select Medical
Corporation--Consolidated Financial Statements."

16
<PAGE>

SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA

You should read the selected consolidated historical financial and other
data below in conjunction with our consolidated financial statements and the
accompanying notes. You should also read "Management's Discussion and Analysis
of Financial Condition and Results of Operations." All of these materials are
contained in this prospectus. We were formed in December 1996 however
capitalization and operations did not commence until February 7, 1997 when we
acquired our predecessor company, Sports and Orthopedic Rehabilitation
Services, Inc. The predecessor company data as of December 31, 1995 and 1996
and for the periods ended December 31, 1995 and 1996 have been derived from
unaudited consolidated financial statements, which are not included in this
prospectus. We acquired all of the outstanding common stock of our predecessor
company, Sports and Orthopedic Rehabilitation Services, Inc. Because of
substantial differences in the predecessor company's capital structure, per
share information for the predecessor company has been excluded. The data as of
December 31, 1997, 1998 and 1999 and for the years ended December 31, 1997,
1998 and 1999 have been derived from consolidated financial statements audited
by PricewaterhouseCoopers LLP, independent accountants. Consolidated balance
sheets at December 31, 1998 and 1999 and the related statements of operations,
stockholders' equity and cash flows for the periods ended December 31, 1997,
1998 and 1999 and the related notes appear elsewhere in this prospectus. The
data for the six months ended June 30, 1999 and 2000 have been derived from
unaudited consolidated financial statements also contained in this prospectus
and which, in the opinion of management, include all adjustments, consisting
only of normal recurring adjustments, necessary for a fair statement of the
results for the unaudited interim periods. The pro forma as adjusted
consolidated statement of operations data for the year ended December 31, 1999
is pro forma for the acquisition of NovaCare Physical Rehabilitation and
Occupational Health Division and the conversion of our Class B Preferred Stock
as if these events had been completed on January 1, 1999; and as adjusted for
the offering as if it had been completed on January 1, 1999. The Consolidated
Statements of Operations should be read in conjunction with the "Unaudited Pro
Forma Consolidated Financial Information" included elsewhere in this
prospectus. The pro forma as adjusted consolidated balance sheet data for the
six months ended June 30, 2000 are pro forma for the conversion of our Class B
Preferred Stock and as adjusted to give effect to the offering as if these
events had been completed on June 30, 2000. The pro forma as adjusted statement
of operations data for the six months ended June 30, 2000 are pro forma for the
conversion of our Class B Preferred Stock and as adjusted to give effect to the
offering as if these events had been completed on January 1, 1999.

<TABLE>
<CAPTION>
Predecessor Company
--------------------------
Year Ended
December 31, January 1, December 31,
-------------- 1997 ----------------------------------------
Through Pro Forma
February 6, As Adjusted
1995 1996 1997 1997 1998 1999 1999
------ ------ ----------- ------- -------- -------- -----------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C> <C> <C>
Consolidated Statement
of Operations Data
Net operating revenues.. $3,023 $3,323 $ 456 $11,194 $149,043 $455,975 $720,116
Operating expenses (a).. 2,897 2,828 300 13,740 145,450 413,731 698,974
Depreciation and
amortization........... 146 112 8 285 4,942 16,741 31,363
Special charge (b)...... -- -- -- -- 10,157 5,223 28,298
------ ------ ------ ------- -------- -------- --------
Income (loss) from
operations............. (20) 383 148 (2,831) (11,506) 20,280 (38,519)
Other income............ -- 74 -- 6,022 -- -- --
Interest expense
(income), net.......... 75 62 9 (64) 4,976 21,099 26,739
------ ------ ------ ------- -------- -------- --------
Income (loss) before
minority interests,
income taxes and
extraordinary item..... (95) 395 139 3,255 (16,482) (819) (65,258)
Minority interests (c).. -- -- -- -- 1,744 3,662 3,768
------ ------ ------ ------- -------- -------- --------
Income (loss) before
income taxes and
extraordinary item..... (95) 395 139 3,255 (18,226) (4,481) (69,026)
Income tax provision
(benefit).............. -- 195 38 1,308 (182) 2,811 1,497
------ ------ ------ ------- -------- -------- --------
Net income (loss) before
extraordinary item..... (95) 200 101 1,947 (18,044) (7,292) $(70,523)
Extraordinary item (d).. -- -- -- -- -- 5,814 --
------ ------ ------ ------- -------- -------- --------
Net income (loss)....... $ (95) $ 200 $ 101 1,947 (18,044) (13,106)
====== ====== ======
Less: Preferred
dividends.............. (266) (2,540) (5,175) --
------- -------- -------- --------
Net income (loss)
available to common
stockholders........... $ 1,681 $(20,584) $(18,281) $(70,523)
======= ======== ======== ========
Net income (loss) per
common share:
Basic:
Net income (loss)
before extraordinary
item.................. $ 0.15 $ (0.95) $ (0.29) $ --
Extraordinary item..... -- -- (0.14) --
------- -------- -------- --------
Net income (loss) per
common share.......... $ 0.15 $ (0.95) $ (0.43) --
======= ======== ======== ========
Diluted:
Net income (loss)
before extraordinary
item.................. $ 0.15 $ (0.95) $ (0.29) $ --
Extraordinary item..... -- -- (0.14) --
------- -------- -------- --------
Net income (loss) per
common share.......... $ 0.15 $ (0.95) $ (0.43) $ --
======= ======== ======== ========
Weighted average common
shares outstanding (e):
Basic.................. 11,383 21,731 42,633 --
Diluted................ 11,395 21,731 42,633 --
</TABLE>
(footnotes begin on page 20)

17
<PAGE>

<TABLE>
<CAPTION>
Predecessor
Company
--------------
As of
December 31, As of December 31,
-------------- -------------------------
1995 1996 1997 1998 1999
------ ------ ------- -------- --------
(in thousands)
<S> <C> <C> <C> <C> <C>
Consolidated Balance Sheet Data
Cash and cash equivalents........... $ 100 $ 15 $ 4,859 $ 13,001 $ 4,067
Working capital..................... (317) (331) 4,248 39,807 132,598
Total assets........................ 1,861 1,825 18,191 336,949 620,718
Total long term obligations......... 297 272 2,023 147,726 319,694
Total stockholders' equity and
preferred stock.................... 56 207 10,769 116,337 170,241
</TABLE>

<TABLE>
<CAPTION>
Six Months Ended June 30,
----------------------------
ProForma
As
Adjusted
1999 2000 2000(f)
-------- -------- --------
(in thousands, except per
share data)
<S> <C> <C> <C>
Consolidated Statement of Operations Data
Net operating revenues........................... $208,031 $397,422 $397,422
Operating expenses (a)........................... 187,076 349,819 349,819
Depreciation and amortization.................... 6,825 14,095 14,095
-------- -------- --------
Income from operations........................... 14,130 33,508 33,508
Interest expense, net............................ 8,629 18,078 14,055
-------- -------- --------
Income before minority interests, income taxes... 5,501 15,430 19,453
Minority interests (c)........................... 2,144 2,178 2,178
-------- -------- --------
Income before income taxes....................... 3,357 13,252 17,275
Income tax provision ............................ 3,430 6,228 8,119
-------- -------- --------
Net income (loss)................................ (73) 7,024 9,156
Less: Preferred dividends........................ (2,122) (4,271)
-------- -------- --------
Net income (loss) available to common
stockholders.................................... $ (2,195) $ 2,753 $
======== ======== ========
Net income (loss) per common share:
Basic........................................... $ (0.05) $ 0.06
Diluted......................................... $ (0.05) $ 0.06
Weighted average common shares outstanding (e):
Basic........................................... 42,517 44,180
Diluted......................................... 42,517 49,681
</TABLE>

<TABLE>
<CAPTION>
As of June 30,
------------------------
ProForma
As
Adjusted
1999 2000 2000(f)
------- ------- --------
(in thousands)
<S> <C> <C> <C>
Consolidated Balance Sheet Data
Cash and cash equivalents............................. $13,563 $ 5,096 $43,096
Working capital....................................... 69,651 114,726 152,726
Total assets.......................................... 402,626 609,705 647,705
Total long term obligations........................... 190,294 295,212 222,262
Total stockholders' equity and preferred stock........ 116,909 179,228 290,178
</TABLE>

(footnotes begin on page 20)

18
<PAGE>

Selected Operating Data

The following table sets forth operating statistics for our specialty
acute care hospitals and our outpatient rehabilitation clinics for each of the
periods presented. The data in the table reflect the changes in the number of
specialty acute care hospitals and outpatient rehabilitation clinics we operate
that resulted from acquisitions, start-up activities and closures. The same
specialty hospital data include hospitals operated by us for the comparable
periods. The operating statistics reflect data for the period of time these
operations were managed by us. Further information on our acquisition
activities can be found in "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and the notes to our consolidated
financial statements.

<TABLE>
<CAPTION>
Year Ended Six Months Ended
December 31 June 30,
----------------- ------------------
1998 1999 1999 2000
------- -------- -------- --------
(dollars in thousands)
<S> <C> <C> <C> <C>
Specialty Hospital Data:
Number of hospitals--start of
period............................ -- 39 39 44
Number of hospitals acquired..... 37 -- -- --
Number of hospital start-ups..... 2 6 3 5
Number of hospitals closed/sold.. -- 1 -- --
------- -------- -------- --------
Number of hospitals--end of
period............................ 39 44 42 49
------- -------- -------- --------
Available licensed beds (g)........ 1,428 1,649 1,570 1,838
Admissions (h)..................... 2,640 12,421 6,006 7,094
Patient days (i)................... 74,418 358,304 174,357 206,501
Average length of stay (j)......... 29 30 30 30
Occupancy rate (k)................. 52% 63% 63% 64%
Percent patient days--Medicare
(l)............................... 78% 78% 78% 76%
EBITDA (m)......................... $ 3,147 $ 35,929 $ 17,168 $ 20,942
Same Specialty Hospital Data:
Admissions (h)................... 11,796 5,771 6,440
Patient days (i)................. 342,417 168,173 188,460
Average length of stay (j)....... 30 30 29
Occupancy rate (k)............... 65% 65% 71%
Percent patient days--Medicare
(l)............................. 78% 78% 77%
EBITDA (m)......................... $ 35,984 $ 18,133 $ 21,557
Outpatient Rehabilitation Data:
Number of clinics--start of
period............................ 66 94 94 620
Number of clinics acquired....... 21 516 10 3
Number of clinics start-ups...... 11 14 8 16
Number of clinics closed/sold.... 4 4 1 20
------- -------- -------- --------
Number of clinics owned--end of
period............................ 94 620 111 619
Number of clinics managed--end of
period (n)........................ 21 38 23 43
------- -------- -------- --------
Total number of clinics............ 115 658 134 662
------- -------- -------- --------
EBITDA (m)......................... $12,598 $ 22,697 $ 10,991 $ 36,433
</TABLE>

(footnotes on following page)

19
<PAGE>

(a) Operating expenses include cost of services, general and administrative
expenses, and bad debt expenses.
(b) Reflects asset impairments of $6.3 million and litigation settlement costs
of $3.8 million in 1998 and asset impairments of $5.2 million in 1999. The
pro forma special charge consists of our 1999 special charge and a
provision for restructuring of $23.1 million recorded by the NovaCare
Physical Rehabilitation and Occupational Health Division.
(c) Reflects interests held by other parties in subsidiaries, limited liability
companies and limited partnerships owned and controlled by us.
(d) Reflects the write-off of deferred financing costs that resulted from the
refinancing of our credit facility in November 1999.
(e) For information concerning calculation of weighted average shares
outstanding, see note 14 to Select Medical Corporation's Consolidated
Financial Statements.
(f) Reflects the application of the net proceeds from this offering, including
$69 million to redeem preferred stock and pay accrued preferred stock
dividends, $53 million to repay term loans under our credit facility, $25
million to repay senior subordinated debt, and the remaining increase of
working capital of $38 million to be used for future acquisitions and
general corporate purposes.
(g) Available licensed beds are the number of beds that are licensed with the
appropriate state agency and which are readily available for patient use at
the end of the period indicated.
(h) Admissions represent the number of patient admitted for treatment.
(i) Patient days represent the total number of days of care provided to
patients.
(j) Average length of stay (days) represents the average number of days
patients stay in our hospitals per admission, calculated by dividing total
patient days by the number of discharges for the period.
(k) We calculate occupancy rate by dividing the average daily number of
patients in our hospitals by the weighted average number of available
licensed beds over the period indicated.
(l) We calculate percentage by dividing the number of Medicare patient days by
the total number of patient days.
(m) We define EBITDA as net income (loss) before interest, income taxes,
depreciation and amortization and special charges, other income, minority
interest, and extraordinary items. EBITDA should not be considered as a
measure of financial performance under generally accepted accounting
principles. Items excluded from EBITDA are significant components in
understanding and assessing financial performance. EBITDA is a measure used
by management to evaluate our operations, and we believe it provides useful
information to investors. EBITDA should not be considered in isolation or
as an alternative to net income, cash flows generated by operations,
investing or financing activities, or other financial statement data
presented in the consolidated financial statements as indicators of
financial performance or liquidity. Because EBITDA is not a measurement
determined in accordance with generally accepted accounting principles and
is susceptible to varying calculations, EBITDA as presented may not be
comparable to similarly titled measures of other companies.
(n) Managed clinics are clinics that we operate through long term management
arrangements and clinics operated through unconsolidated joint ventures.

20
<PAGE>

UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION

Our consolidated financial statements and the historical audited
financial statements of the NovaCare Physical Rehabilitation and Occupational
Health Division, which we acquired on November 19, 1999, are included elsewhere
in this prospectus. The unaudited NovaCare Financial information for the year
ended December 31, 1999 has been derived from internally prepared financial
information. The unaudited pro forma consolidated financial information
presented here should be read together with those financial statements and
related notes and "Management's Discussion and Analysis of Financial Condition
and Results of Operations."

We adjusted our historical consolidated statement of operations for the
year ended December 31, 1999 to arrive at the unaudited pro forma consolidated
statement of operations for the year ended December 31, 1999 to reflect:

. the acquisition of the NovaCare Physical Rehabilitation and
Occupational Health Division which we acquired on November 19, 1999,
as if it had been completed on January 1, 1999;

. the removal of the Occupational Health Division, which was recorded
as an asset held for sale since the time of acquisition; and

. a reduction in interest expense due to the recapitalization of
NovaCare Physical Rehabilitation and Occupational Health Division
under our ownership.

No adjustments have been made with respect to a number of small acquisitions
made during 1999 since these acquisitions would not have a material impact on
the pro forma results.

The acquisition of the NovaCare Physical Rehabilitation and Occupational
Health Division has been accounted for using the purchase method of accounting,
and the purchase price has been allocated to the tangible and identifiable
intangible assets acquired and liabilities assumed on the basis of their fair
values on the acquisition date. The historical carrying amounts of identified
net tangible assets, including cash, accounts receivable, and accounts payable,
approximated their fair values. Fixed assets, identifiable intangible assets
and the purchase price in excess of identifiable intangible assets have been
valued and recorded based upon the report of an independent third-party
appraiser. Identifiable intangible assets consist of a trademark and the value
of the assembled workforce. These identifiable intangible assets are being
amortized over 40 and seven years, respectively. Goodwill is being amortized
over 40 years.

We further adjusted our historical consolidated statement of operations
for the year ended December 31, 1999 to arrive at the as adjusted pro forma
consolidated statement of operations for the year ended December 31, 1999 to
reflect:

. the application of net proceeds from this offering; and

. the automatic conversion of the Class B Preferred Stock.

Certain information normally included in financial statements prepared in
accordance with generally accepted accounting principles has been omitted
pursuant to the rules and regulations of the Securities and Exchange
Commission.

The pro forma consolidated statement of operations is not necessarily
indicative of results that would have occurred had the acquisition been
completed on January 1, 1999 and should not be construed as being
representative of future results of operations.

21
<PAGE>

UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS

<TABLE>
<CAPTION>
Year Ended December 31, 1999
----------------------------------------------
Adjustments As
Select NovaCare For Adjusted
Historical Historical Adjustments Pro Forma Offering Pro Forma
---------- ---------- ----------- --------- ----------- ---------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C> <C>
Net operating revenues.. $455,975 $298,563 $(34,423)(a) $720,116 -- 720,116
Operating Expenses...... 413,731 322,138 (36,894)(a) 698,974 -- 698,974
Depreciation and
amortization........... 16,741 23,340 (8,718)(b) 31,363 -- 31,363
Special charge.......... 5,223 29,875 (6,800)(c) 28,298 -- 28,298
-------- -------- -------- -------- ------ --------
Total operating
expenses............... 435,695 375,352 (52,413) 758,635 -- 758,635
-------- -------- -------- -------- ------ --------
Income (loss) from
operations............. 20,280 (76,789) 17,990 (38,519) -- (38,519)
Interest expense, net... 21,099 30,361 (16,675)(d) 34,785 (8,046)(f) 26,739
-------- -------- -------- -------- ------ --------
Loss before minority
interests.............. (819) (107,150) 34,665 (73,304) 8,046 (65,258)
Minority interests...... 3,662 106 -- 3,768 -- (3,768)
-------- -------- -------- -------- ------ --------
Loss before income
taxes.................. (4,481) (107,256) 34,665 (77,072) 8,046 (69,026)
Income tax provision
(benefit).............. 2,811 (15,500) 14,186 (b) 1,497 1,497
-------- -------- -------- -------- ------ --------
Net loss before
extraordinary item..... (7,292) (91,756) 20,479 (78,569) (70,523)
Less: Preferred
dividends.............. (5,175) (2,887)(d) (8,062) 8,062 (f) --
-------- -------- -------- ------ --------
Net loss applicable to
common stockholders.... $(12,467) $(86,631) $(70,523)
======== ======== ========
Basic loss per common
share.................. $ (0.29) $ (1.78) $ --
======== ======== ====== ========
Basic common shares
outstanding (e)........ 42,633 1,528 (e) 44,161 16,000 (f) --
-------- -------- -------- ------ --------
Diluted loss per common
share.................. $ (0.29) $ (1.78) $ --
======== ======== ====== ========
Diluted common shares
outstanding (e)........ 42,633 1,528 (e) 44,161 16,000 (f) --
-------- -------- -------- ------ --------
</TABLE>

(footnotes on following page)

22
<PAGE>

NOTES TO UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION

The following adjustments were applied to our Consolidated Statement of
Operations and the financial statements of the NovaCare Physical Rehabilitation
and Occupational Health Division, which we acquired on November 19, 1999, to
arrive at the Unaudited Pro Forma Consolidated Statement of Operations.

(a) We removed the revenues and cost of services of the Occupational Health
Division of NovaCare, which we recorded as an asset held for sale upon
acquisition.

(b) We reflected:

(i) the reversal of goodwill amortization recorded on the historical
NovaCare statement of operations of $11.5 million;

(ii) the removal of depreciation related to the Occupational Health
Division of NovaCare, which we recorded as an asset held for sale of
$1.1 million;

(iii) the amortization related to the acquired identifiable intangible
assets which consist of a trademark valued at $40.0 million and
assembled workforce valued at $9.2 million. The trademark is being
amortized over 40 years and the workforce over seven years. The
annual pro forma amortization is $1.0 million and $1.3 million,
respectively;

(iv) the amortization related to the remaining goodwill asset of $37.5
million that is being amortized over 40 years. The pro forma
amortization is $938,000;

(v) the increased depreciation of $671,000 that results from a step-up in
the asset basis of NovaCare's equipment by $3.4 million. The composite
life is assumed to be 5 years; and

(vi) the reversal of the federal tax provision of $1.3 million we recorded
in 1999 due to the increased loss of the combined company and the
reversal of the NovaCare tax benefit of $15.5 million as such benefit
would not be realized by the combined company.

(c) We reflected the removal of the Occupational Health Division's
restructuring charge of $6.8 million that had been recorded by NovaCare in
the statement of operations prior to the acquisition.

(d) We reflected:

(i) the reversal of $15.3 million of interest expense recorded by NovaCare,
net of debt assumed in the acquisition, and the reversal of $15.1
million of intercompany royalty fees which will not continue under the
combined entity;

(ii) the pro forma interest expense related to the credit facility
borrowings of $83.7 million at 8.8% and senior subordinated debt
borrowings of $25.0 million at 10% used to fund the acquisition; A 1/8
of 1% change in interest rates on our variable rate debt would have
resulted in a $105,000 fluctuation in pro forma interest expense;

(iii) the amortization of deferred financing costs of $6.5 million over 5
years; and

(iv) the dividends on the Class B Preferred Stock as if it had been issued
on January 1, 1999.

(e) The number of pro forma common shares outstanding reflects the 1,667,000
common shares that were issued in connection with the $25.0 of million
senior subordinated debt as if they were outstanding for the entire period.

(f) We reflected:

(i) the reduction in interest expense of $8.0 million for the repayment of
$53.0 million of 10% senior debt under the term loan portion of our
bank credit facility and the repayment of $25.0 million of 10% senior
subordinated notes due November 19, 2009;

(ii) the conversion of 16,000,000 shares of our Class B Preferred Stock
which automatically converts share for share into common stock upon a
public offering;

(iii) the reversal of preferred dividends on the Class A and Class B
Preferred Stock which we recorded during 1999; and

(iv) the issuance of shares in the public offering.

23
<PAGE>

MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read this discussion together with our consolidated financial
statements and the accompanying notes and Selected Consolidated Financial and
Other Data included elsewhere in this prospectus.

Overview

We operate through two business segments, our specialty acute care
hospital segment and our outpatient rehabilitation segment. On a pro forma
basis for the year ended December 31, 1999, we had net operating revenues of
$720.1 million. Of this total, we earned 56.4% of our net operating revenues
from our outpatient rehabilitation business and 43.6% from our specialty
hospitals.

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

Significant Acquisitions

Since our formation, we have completed three significant acquisitions for
an aggregate consideration of $366.4 million, excluding subsequent purchase
price adjustments for accounting purposes. As a result of these acquisitions,
the results from period to period are not comparable.

On November 19, 1999, we acquired the Physical Rehabilitation and
Occupational Health Division of NovaCare, Inc. for approximately $200 million.
The purchase was funded through the issuance of Class B Preferred Stock, senior
subordinated debt, the assumption of seller notes and borrowings under our
credit facility. At the time of acquisition, NovaCare operated approximately
500 physical rehabilitation clinics and 35 occupational health centers.
Following the completion of the acquisition, we sold 28 of these occupational
health centers.

On December 15, 1998, we acquired Intensiva Healthcare Corporation for
$103.6 million. The purchase was funded through the issuance of Class A
preferred stock, senior subordinated debt and borrowings under our credit
facility. At the time of acquisition, Intensiva Healthcare operated 22
specialty acute care hospitals and had others in development.

On June 30, 1998, we acquired American Transitional Hospitals, Inc., a
wholly-owned subsidiary of Beverly Enterprises, Inc., for $62.8 million. We
funded this purchase through borrowings under our credit facility. At the time
of acquisition, American Transitional Hospitals operated 15 specialty acute
care hospitals.

Development of New Specialty Acute Care Hospitals

Our goal is to open 10 to 12 new specialty acute care hospitals each
year, utilizing our "hospital within a hospital" model. We internally developed
and opened two hospitals in 1998, six hospitals in 1999 and five hospitals in
the first six months of 2000. Each internally developed hospital has typically
required

24
<PAGE>

approximately $450,000 for leasehold improvements and approximately $250,000
for equipment. During the initial year of operations, each newly developed
hospital has typically incurred losses of approximately $350,000 and required
an additional investment of $2.0 million to fund working capital.

Sources of Revenue

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

Our specialty hospitals are paid by Medicare under a cost-based
reimbursement methodology. These payments are subject to final cost report
settlements based on administrative review and audit by third parties. An
annual cost report is filed for each provider to report the cost of providing
services and to settle the difference between the interim payments we receive
and final costs. We record adjustments to the original estimates in the periods
that such adjustments become known. Because our routine payments from Medicare
are different than the final reimbursement due to us under the cost based
reimbursement system, we record a receivable or payable for the difference. Net
amounts due to Medicare were $6.1 million as of December 31, 1998, $17.6
million as of December 31, 1999 and $12.1 million as of June 30, 2000. We
recorded these amounts as due to third party payors on our balance sheet.
Substantially all Medicare cost reports are settled through 1997.

Net operating revenues generated directly from the Medicare program
represented approximately 33.0% of net operating revenues for the six months
ended June 30, 2000 and 48.1%, 37.9% and 25.0% for the years ended December 31,
1999, 1998 and 1997, respectively. The decline in the percentage of our net
operating revenue coming from Medicare during the six months ended June 30,
2000 was principally related to the acquisition of the NovaCare Physical
Rehabilitation and Occupational Health Division, which receives a comparatively
lower percentage of its revenues from Medicare.

Legislative and regulatory action has resulted in continuing uncertainty
about the Medicare reimbursement programs. Federal and state governments might,
in the future, reduce the funds available under those programs or require more
stringent utilization and quality reviews of hospital facilities. For example,
because Congress has directed the Secretary of the Department of Health and
Human Services to develop a prospective payment system for long term acute care
hospitals, the way in which our specialty hospitals are reimbursed may change.
The Secretary has not developed such a system to date, but may do so in the
future. This change, if implemented, could reduce the reimbursements we receive
from the Medicare program. Additionally, there may be a continued rise in
managed care programs or future restructuring of the financing and delivery of
healthcare in the United States. These events could have an adverse effect on
our future financial results.

Other revenue primarily represents amounts the Medicare program
reimburses us for a portion of our corporate expenses that are related to our
specialty hospital operations.

25
<PAGE>

Results of Operations

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

<TABLE>
<CAPTION>
Year Ended Six Months Ended
December 31, June 30,
-------------------- ------------------
1997 1998 1999 1999 2000
----- ----- ----- -------- --------
<S> <C> <C> <C> <C> <C>
Net operating revenues............. 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of services (a)............... 91.9 86.5 84.1 84.0 81.1
General and administrative......... 29.3 8.4 4.7 4.4 3.7
Bad debt expense................... 1.6 2.7 1.9 1.5 3.2
----- ----- ----- -------- --------
EBITDA (b)......................... (22.8) 2.4 9.3 10.1 12.0
Depreciation and amortization...... 2.5 3.3 3.7 3.3 3.5
Special charges.................... -- 6.8 1.2 -- --
----- ----- ----- -------- --------
Income (loss) from operations...... (25.3) (7.7) 4.4 6.8 8.5
Other income....................... 53.8 -- -- -- --
Interest expense, net.............. (0.6) 3.3 4.6 4.2 4.6
----- ----- ----- -------- --------
Income (loss) before minority
interests, income taxes and
extraordinary item................ 29.1 (11.0) (0.2) 2.6 3.9
Minority interests................. -- 1.2 0.8 1.0 0.5
----- ----- ----- -------- --------
Income (loss) before income taxes
and extraordinary item............ 29.1 (12.2) (1.0) 1.6 3.4
Income tax (benefit)............... 11.7 (0.1) 0.6 1.6 1.6
----- ----- ----- -------- --------
Net income (loss) before
extraordinary item................ 17.4 (12.1) (1.6) -- 1.8
Extraordinary item................. -- -- (1.3) -- --
----- ----- ----- -------- --------
Net income (loss).................. 17.4% (12.1)% (2.9)% -- % 1.8%
===== ===== ===== ======== ========
</TABLE>

26
<PAGE>

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

<TABLE>
<CAPTION>
Year Ended December 31, Six Months Ended June 30,
---------------------------- ----------------------------
1997 1998 1999 1999 2000 % Change
------- -------- -------- -------- -------- --------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Net operating revenues:
Specialty hospitals.... $ -- $ 62,715 $307,464 $148,235 $178,309 20.3%
Outpatient
rehabilitation........ 11,079 83,059 141,740 56,292 214,110 280.4
Other.................. 115 3,269 6,771 3,504 5,003 42.8
------- -------- -------- -------- -------- -----
Total company.......... $11,194 $149,043 $455,975 $208,031 $397,422 91.0%
======= ======== ======== ======== ======== =====
EBITDA: (b)
Specialty hospitals.... $ (52) $ 3,147 $ 35,929 $ 17,168 $ 20,942 22.0%
Outpatient
rehabilitation........ 1,308 12,598 22,697 10,991 36,433 231.5
Other.................. (3,802) (12,150) (16,382) (7,204) (9,772) (35.6)
------- -------- -------- -------- -------- -----
Total company.......... $(2,546) $ 3,595 $ 42,244 $ 20,955 $ 47,603 127.2%
======= ======== ======== ======== ======== =====
Income (loss) from
operations:
Specialty hospitals.... $ (52) $ 1,182 $ 28,016 $ 13,910 $ 17,276 24.2%
Outpatient
rehabilitation........ 1,051 4,323 16,222 7,395 26,781 262.2
Other.................. (3,830) (17,010) (23,958) (7,175) (10,549) (47.0)
------- -------- -------- -------- -------- -----
Total company.......... $(2,831) $(11,505) $ 20,280 $ 14,130 $ 33,508 137.0%
======= ======== ======== ======== ======== =====
EBITDA margins: (b)
Specialty hospitals.... NM 5.0% 11.7% 11.6% 11.7% NM
Outpatient
rehabilitation........ 11.8 15.2 16.0 19.5 17.0 NM
Other.................. NM NM NM NM NM NM
------- -------- -------- -------- -------- -----
Total company.......... (22.7)% 2.4% 9.3% 10.1% 12.0% 18.9%
======= ======== ======== ======== ======== =====
Total assets:
Specialty hospitals.... $ 219 $240,266 $250,034 $246,323 $246,297
Outpatient
rehabilitation........ 17,453 90,267 350,419 125,901 350,453
Other.................. 519 6,416 20,265 17,276 12,955
------- -------- -------- -------- --------
Total company.......... $18,191 $336,949 $620,718 $389,500 $609,705
======= ======== ======== ======== ========
</TABLE>
-------
NM-Not Meaningful.
(a) Cost of services include salaries, wages and benefits, operating supplies,
lease and rent expense and other operating costs.
(b) We define EBITDA as net income (loss) before interest, income taxes,
depreciation and amortization and special charges, other income, minority
interest and extraordinary items. EBITDA should not be considered as a
measure of financial performance under generally accepted accounting
principles. Items excluded from EBITDA are significant components in
understanding and assessing financial performance. EBITDA is a measure
used by management to evaluate our operations, and we believe it provides
useful information to investors. EBITDA should not be considered in
isolation or as an alternative to net income, cash flows generated by
operations, investing or financing activities, or other financial
statement data presented in the consolidated financial statements as
indicators of financial performance or liquidity. Because EBITDA is not a
measurement determined in accordance with generally accepted accounting
principles and is susceptible to varying calculations, EBITDA as presented
may not be comparable to similarly titled measures of other companies.

27
<PAGE>

Special Charges

In 1999 we recorded a special charge of $5.2 million related to the
impairment of goodwill, leasehold improvements and equipment that resulted from
closures and relocations of certain hospitals and clinics in December 1999.

In 1998 we recorded a special charge of $10.2 million. This charge
consisted of $6.3 million of impairment charges relating to assets acquired in
two smaller acquisitions in 1998 that were identified in accordance with our
policy on impairments, and based upon a review of the facts and circumstances
related to those identified assets. The majority of the charge was determined
based upon the comparison of the future discounted cash flows resulting from
the assets and the carrying value of these assets. The remainder of the charge
of $3.8 million related to the settlement of litigation. In May 1999, we
participated in the settlement of litigation initiated during 1997 by
Horizon/CMS Healthcare Corporation and certain of its affiliates against us and
some of our officers. See Note 10 to Select Medical Corporation's Consolidated
Financial Statements.

Six Months Ended June 30, 2000 Compared to the Six Months Ended June 30, 1999

Net Operating Revenues

Our net operating revenues increased 91.0% to $397.4 million for the six
months ended June 30, 2000 compared to $208.0 million for the six months ended
June 30, 1999. The percentage of our net operating revenues coming from
Medicare declined to 33.0% during the six months ended June 30, 2000 from 51.0%
for the comparable period of 1999. This decline was principally related to the
addition of NovaCare, which receives a comparatively lower percentage of its
revenue from Medicare.

Specialty Acute Care Hospitals. Our specialty hospital revenues increased
20.3% to $178.3 million for the six months ended June 30, 2000 compared to
$148.2 million for the six months ended June 30, 1999. Net operating revenues
for the specialty hospitals operated throughout both periods increased 7.8% to
$157.1 million for the six months ended June 30, 2000 from $145.7 million for
the six months ended June 30, 1999. This increase resulted from an improved
occupancy rate and a higher non-Medicare payor mix. The remaining increase of
$18.7 million resulted from the internal development of new specialty hospitals
that commenced operations in 1999 and 2000.

Outpatient Rehabilitation. Our outpatient rehabilitation revenues
increased 280.4% to $214.1 million for the six months ended June 30, 2000
compared to $56.3 million for the six months ended June 30, 1999. This increase
was principally related to the acquisition of NovaCare in November 1999, which
accounted for $150.9 million of the increase. The remaining increase resulted
primarily from increased volume in existing businesses.

Other. Our other revenues increased 42.8% to $5.0 million for the six
months ended June 30, 2000 compared to $3.5 million for the six months ended
June 30, 1999. This increase was a result of higher corporate general and
administrative costs.

Operating Expenses

Our operating expenses increased by $162.7 million to $349.8 million for
the six months ended June 30, 2000 compared to $187.1 million for the six
months ended June 30, 1999. As a percent of our net operating revenues, our
operating expenses declined to 88.0% from 89.9% during the same time period.
Our operating expenses include our cost of services, general and administrative
expense and bad debt expense. Cost of services as a percent of net operating
revenues declined to 81.1% during the six months ended June 30, 2000 from 84.0%
during the six months ended June 30, 1999. These costs primarily reflect our
labor expenses.

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<PAGE>

During the same time period, general and administrative expense as a percent of
net operating revenues declined to 3.7% from 4.4%. The relative reductions in
cost of services and general and administrative expense were primarily the
result of our acquisition of NovaCare and the lower cost associated with
providing outpatient rehabilitation services relative to our specialty hospital
services. Bad debt expense as a percent of net operating revenues increased to
3.2% during the six months ended June 30, 2000 compared to 1.5% during the six
months ended June 30, 1999. This increase was also the result of our
acquisition of NovaCare, which had higher bad debt as a percentage of net
operating revenues because of the large volume of relatively difficult to
collect, smaller dollar accounts receivables generated in an outpatient
environment.

EBITDA

Our total EBITDA increased 127.2% to $47.6 million for the six months
ended June 30, 2000 compared to $21.0 million for the six months ended June 30,
1999. Our EBITDA margins increased to 12.0% for the six months ended June 30,
2000 compared to 10.1% for the six months ended June 30, 1999.

Specialty Acute Care Hospitals. EBITDA increased 22.0% to $20.9 million
for the six months ended June 30, 2000 compared to $17.2 million for the six
months ended June 30, 1999. Our EBITDA margins remained relatively constant in
both periods. The hospitals we operated throughout both periods accounted for
$3.4 million of the increase. This increase in same hospital EBITDA resulted
from an increase in non-Medicare payor mix. The balance of the increase of $0.4
million resulted from our newly developed hospitals.

Outpatient Rehabilitation. EBITDA increased by 231.5% to $36.4 million
for the six months ended June 30, 2000 compared to $11.0 million for the six
months ended June 30, 1999. The major contributor to this increase was the
NovaCare acquisition that accounted for $23.9 million of the increase. The
remaining increase of $1.5 million resulted from growth in our existing
business. Our EBITDA margins declined to 17.0% during the six months ended June
30, 2000 from 19.5% during the six months ended June 30, 1999. This decline
resulted from the acquisition of NovaCare, which historically had lower margins
than our existing outpatient rehabilitation business.

Other. EBITDA decreased by 35.6% to a loss of $9.8 million for the six
months ended June 30, 2000 compared to a loss of $7.2 million for the six
months ended June 30, 1999. This decrease resulted from the increase in general
and administrative expenses associated with the growth of the organization,
principally NovaCare and our new hospital development.

Income from Operations

The increase in income from operations resulted from EBITDA increases
described above, offset by an increase in depreciation and amortization.
Depreciation and amortization increased by 106.5% to $14.1 million for the six
months ending June 30, 2000 compared to $6.8 million for the six months ended
June 30, 1999. Approximately $6.0 million of the increase in the depreciation
and amortization was related to the amortization of goodwill and identifiable
intangibles resulting from the NovaCare acquisition and the depreciation of the
NovaCare fixed assets. The remaining increase resulted from depreciation of new
fixed assets.

Interest Expense

Interest expense increased to $18.3 million for the six months ended June
30, 2000 from $8.8 million for the six months ended June 30, 1999. The increase
in interest expense resulted from higher debt levels outstanding in 2000
compared to 1999, including the debt assumed as a result of the NovaCare
acquisition, and an increase in the average interest rate associated with
borrowings.

29
<PAGE>

Minority Interests

Minority interests were essentially unchanged over the comparative
periods because the earnings from our operating subsidiaries that have a
minority interest component have remained relatively constant between the
respective six month periods.

Income Taxes

We recorded income tax expense of $6.2 million for the six months ended
June 30, 2000. The expense represented an effective tax rate of 47% and
exceeded statutory federal and state tax rates as a result of non-deductible
goodwill. We recorded income tax expense of $3.4 million for the six months
ended June 30, 1999. This expense represented an effective tax rate of 102%. We
had a higher effective tax rate in this period as a result of non-deductible
goodwill and state income taxes in the jurisdictions where we reported taxable
income.

Year Ended December 31, 1999 Compared to Year Ended December 31, 1998

Net Operating Revenues

Our net operating revenues increased 206% to $456.0 million for the year
ended December 31, 1999 compared to $149.0 million for the year ended December
31, 1998. The major reason for the increase was the significant acquisitions
that occurred during 1998. The percentage of our revenue coming directly from
Medicare increased to 48.1% in 1999 from 37.9% in 1998. This increase resulted
from the full year effect of the acquisitions of specialty acute care hospitals
that occurred during 1998. A specialty hospital has significantly higher
Medicare utilization than operations in our outpatient rehabilitation segment.
See "--Significant Acquisitions."

Specialty Acute Care Hospitals. Our specialty hospital revenues increased
390.3% to $307.5 million for the year ended December 31, 1999 compared to $62.7
million for the year ended December 31, 1998. This increase resulted from the
expanded base of specialty hospitals that we operated as a result of the
significant acquisitions during 1998, and, to a lesser extent, our new hospital
development activity. We opened two hospitals in 1998 and six hospitals in
1999. We also closed one hospital in late 1999 that we acquired as part of our
Intensiva Healthcare acquisition.

Outpatient Rehabilitation. Our outpatient rehabilitation revenues
increased 70.6% to $141.7 million for the year ended December 31, 1999 compared
to $83.1 million for the year ended December 31, 1998. Of this increase, $29.4
million resulted from the acquisition of NovaCare on November 19, 1999. The
remaining increase of $29.2 million resulted principally from the effect of
acquisitions that occurred in 1998 and early 1999.

Other. Our other revenues increased 107.1% to $6.8 million for the year
ended December 31, 1999 compared to $3.3 million for the year ended December
31, 1998. This increase was a result of higher corporate general and
administrative costs.

Operating Expenses

Our operating expenses increased by $268.3 million to $413.7 million for
the year ended December 31, 1999 compared to $145.5 million for the year ended
December 31, 1998. As a percentage of net operating revenues, our operating
expenses decreased to 90.7% from 97.6% during the same time period. The
decrease in operating expenses as a percentage of net operating revenues was
largely the result of our increased efficiencies and cost saving initiatives.
Cost of services as a percentage of net operating revenues decreased to 84.1%
during the year ended December 31, 1999 compared to 86.5% during the year ended
December 31,

30
<PAGE>

1998. During the same time period and as a percentage of net operating
revenues, general and administrative expense decreased to 4.7% from 8.4% and
bad debt expense decreased to 1.9% from 2.7%.

EBITDA

Our total EBITDA increased by $38.7 million to $42.2 million for the year
ended December 31, 1999 compared to $3.6 million for the year ended December
31, 1998. EBITDA margins increased to 9.3% in 1999 from 2.4% in 1998.

Specialty Acute Care Hospitals. EBITDA increased by $32.8 million to
$35.9 million for the year ended December 31, 1999 compared to $3.1 million for
the year ended December 31, 1998. This resulted from an expanded base of
specialty hospitals that we operated as a result of the significant
acquisitions in 1998 and an improvement in our EBITDA margins in 1999 to 11.7%
from 5.0% in 1998. Our EBITDA margins improved as a result of operational
changes that were implemented after the acquisitions and as a result of cost
reduction initiatives.

Outpatient Rehabilitation. EBITDA increased by $10.1 million to $22.7
million for the year ended December 31, 1999 compared to $12.6 million for the
year ended December 31, 1998. This resulted principally from 1998 acquisitions
which accounted for approximately $7.0 million of the increase. An additional
$1.0 million of the increase resulted from the operations of NovaCare and the
balance resulted from our internal business development.

Other. EBITDA decreased by $4.2 million to a loss of $16.4 million for
the year ended December 31, 1999 compared to a loss of $12.2 million for the
year ended December 1998. This decrease resulted from higher administrative
costs in 1999 to manage the increased size of our company.

Income from Operations

The increase in income from operations resulted from the EBITDA increase
described above and from a reduction in the amount recorded as a special
charge, offset by an increase in depreciation and amortization. Depreciation
and amortization increased to $16.7 million for the year ended December 31,
1999 compared to $4.9 million for the year ended December 31, 1998. The
increase resulted from the amortization of goodwill and identifiable
intangibles resulting from the numerous acquisitions we made during these
periods and the depreciation of fixed assets acquired in these acquisitions.

Interest Expense

Interest expense increased to $21.5 million for the year ended December
31, 1999 from $5.4 million for the year ended December 31, 1998 due to higher
outstanding debt levels and an increase in the average interest rates
associated with borrowing. Additional debt was incurred and assumed as a result
of our acquisition activity.

Minority Interests

Minority interests increased by $2.0 million to $3.7 million for the year
ended December 31, 1999 compared to $1.7 million for the year ended December
31, 1998. This increase resulted from acquisitions completed during 1998 that
were structured with a minority interest component and from improved earnings
in these businesses.

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<PAGE>

Income Taxes

We recorded income tax expense of $2.8 million for 1999. This tax expense
reflects federal income taxes of $1.3 million and state income taxes of $1.5
million. Even though we had an overall pre-tax loss, we had a federal tax
expense due to non-deductible goodwill and other permanent differences. We
recorded a state tax expense as a result of taxable income generated in certain
jurisdictions. For 1998, we recorded a benefit of $0.2 million as a result of
our pre-tax loss.

Extraordinary Item

On November 19, 1999, we entered into a new $225 million credit facility
as part of the NovaCare acquisition. This credit facility replaced our $155
million credit facility from February 9, 1999. The extraordinary item consists
of the unamortized deferred financing costs of $5.8 million related to the
February 9, 1999 credit facility.

Year Ended December 31, 1998 Compared to Year Ended December 31, 1997

Net Operating Revenue

Our net operating revenues increased by $137.8 million to $149.0 million
for the year ended December 31, 1998 compared to $11.2 million for the year
ended December 31, 1997. The percentage of our revenue coming directly from
Medicare increased to 37.9% in 1998 from 25.0% in 1997. This increase resulted
from the acquisitions of specialty acute care hospitals that occurred during
1998.

Specialty Acute Care Hospitals. Our specialty hospital revenues were
$62.7 million in 1998. We recorded no revenue for this segment in 1997. This
increase in revenues was a result of our significant acquisitions in 1998.

Outpatient Rehabilitation. Our outpatient rehabilitation revenues
increased by $72.0 million to $83.1 million for the year ended December 31,
1998 compared to $11.1 million for the year ended December 31, 1997. Of this
increase, approximately $53.0 million resulted from acquisitions occurring in
1998. The remainder of the increase was related to growth in the acquisitions
completed in 1997 and internally developed operations.

Other. Our other revenue increased to $3.3 million for the year ended
December 31, 1998 compared to $0.1 million for the year ended December 31,
1997.

Operating Expenses

Our operating expenses increased by $131.7 million to $145.5 million for
the year ended December 31, 1998 compared to $13.7 million for the year ended
December 31, 1997. As a percent of net operating revenues, our operating
expenses decreased to 97.6% from 122% during the same period. The improvement
in operating cost trends resulted from increased efficiencies and cost savings
initiatives. Cost of services as a percent of net operating revenues decreased
to 86.5% during the year ended December 31, 1998 compared to 91.9% during the
year ended December 31, 1997. During the same period, and as a percent of net
operating revenues, general and administrative expense decreased to 8.4% from
29.3%, and bad debt expense increased to 2.7% from 1.6%.

EBITDA

Our total EBITDA increased by $6.1 million to $3.6 million for the year
ended December 31, 1998 compared to a loss of $2.5 million for the year ended
December 31, 1997. EBITDA margins increased to 2.4% for the year ended December
31, 1998 from a negative margin of 22.8% for the year ended December 31, 1997.

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<PAGE>

Specialty Acute Care Hospitals. EBITDA increased by $3.2 million to $3.1
million for the year ended December 31, 1998 compared to a loss of $0.1 million
for the year ended December 31, 1997. This increase resulted from the specialty
hospitals we acquired in 1998, offset by losses in our newly developed
hospitals.

Outpatient Rehabilitation. EBITDA increased by $11.3 million to $12.6
million for the year ended December 31, 1998 compared to $1.3 million for the
year ended December 31, 1997. Of this increase, approximately $10.0 million
related to the full year effect of acquisitions that occurred in 1998. The
remainder of the increase was related to growth in the businesses acquired in
1997 and internally developed operations.

Other. EBITDA decreased by $8.4 million to a loss of $12.2 million for
the year ended December 31, 1998 compared to a loss of $3.8 million for the
year ended December 31, 1997. This decrease resulted from additional
administrative expenses needed to support our larger organization. Our loss as
a percentage of total net operating revenues declined in 1998 to 8.2% from
33.9% in 1997 as we achieved greater economies of scale.

Loss From Operations

Our loss from operations increased by $8.7 million to a loss of $11.5
million for year ended December 31, 1998 compared to a loss of $2.8 million for
year ended December 31, 1997. The increased loss resulted from the special
charge of $10.2 million, an increase in depreciation and amortization of $4.7
million offset by the EBITDA increase of $6.1 million described above. The
increase in the depreciation and amortization related to the amortization of
goodwill and identifiable intangibles resulting from the numerous acquisitions
we made during these periods and the depreciation of fixed assets acquired in
these acquisitions.

Other Income

In 1997 we had other non-operating income of $6.0 million that related
principally to a break-up fee we received from a terminated acquisition.

Interest Expense

Interest expense increased to $5.4 million for the year ended December
31, 1998 from $0.2 million for the year ended December 31, 1997. The increase
in interest expense was due to the higher debt levels outstanding in 1998. This
resulted principally from the acquisition of American Transitional Hospitals on
June 30, 1998, which was financed entirely with debt.

Minority Interest

Minority interest was $1.7 million for the year ended December 31, 1998.
This increase resulted from acquisitions that were structured with a minority
component. We recorded no minority interest for the year ended 1997.

Income Taxes

We recorded an income tax benefit of $0.2 million for the year ended
December 31, 1998 as a result of our pre-tax loss. For the year ended December
31, 1997 we recorded a tax expense of $1.3 million as a result of our taxable
income for the period.

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<PAGE>

Capital Resources and Liquidity

Six Months Ended June 30, 2000 Compared to Six Months Ended June 30, 1999

Operating activities generated $25.6 million in cash during the six
months ended June 30, 2000 compared to a usage of cash of $32.9 million during
the six months ended June 30, 1999. The increase in cash flow is attributable
to increased earnings and improved working capital management.

Investing activities used $1.4 million and $8.2 million of cash for the
six months ended June 30, 2000 and 1999, respectively. In the six months ended
June 30, 2000, purchases of property and equipment of $10.2 million and earnout
and acquisition payments of $2.9 million were partially offset by $11.8 million
in proceeds from the sale of occupational health centers. These occupational
health centers were an operating division of NovaCare. Property and equipment
purchases in the six months ended June 30, 1999 were $2.4 million. The increase
in property and equipment purchases reflects the growth in new hospital
development during the first half of 2000.

Financing activities used $23.2 million of cash for the six months ended
June 30, 2000. This was due principally to the repayment of debt. In the
comparable period of 1999, we had cash inflows of $41.7 million from financing
activities. This was the result of borrowing to fund the growth in receivables
that we experienced after the Intensiva Healthcare acquisition.

Years Ended December 31, 1999, 1998 and 1997

Cash used to fund operating activities was $25.2 million and $24.7
million in the year ended December 31, 1999 and the year ended December 31,
1998, respectively. The use of cash was primarily attributable to net losses
and an increase in accounts receivable that resulted from our growth. In 1997
we generated cash flow from operating activities of $3.7 million. This was
attributable to net income generated in this period that resulted principally
from a transaction break-up fee we received.

Investing activities used $181.3 million, $209.5 million and $6.7 million
of cash flow in the years ended December 31, 1999, 1998 and 1997, respectively.
The cash was used principally to fund acquisitions. Our investment in property
and equipment during these periods was not material because our operations
required minimal capital expenditures on an ongoing basis, and most of our
locations were leased. Our investment in equipment is mostly related to
development of new hospitals.

Financing activities provided $197.5 million, $242.3 million and $7.9
million of cash flow in the years ended December 31, 1999, 1998 and 1997,
respectively. We raised capital through the issuance of common and preferred
stock, senior subordinated debt and borrowings under our credit facility. We
incurred debt in connection with the acquisitions of American Transitional
Hospitals, Intensiva Healthcare and the NovaCare Physical Rehabilitation and
Occupational Health Division. A description of these financing arrangements can
be found in Note 6 to Select Medical Corporation's Consolidated Financial
Statements included elsewhere in this prospectus.

Capital Resources

Net working capital was $114.7 million at June 30, 2000, compared to
$132.6 million at December 31, 1999. The decrease in net working capital from
December 31, 1999 to June 30, 2000 was attributable primarily to a reduction in
our accounts receivable that resulted from improved collection activities and
the proceeds from the sale of the occupational health assets that we acquired
as part of the NovaCare acquisition. The cash generated from the reduction in
accounts receivable and the sale of the occupational health assets were used to
repay long term debt.

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<PAGE>

On September 22, 2000, we entered into a new credit agreement that
refinanced our existing bank debt. The new credit agreement provides for
$175.0 million in term loans, approximately 10% of which is denominated in
Canadian dollars. The term debt begins quarterly amortization in September
2001, with a final maturity date of September 2005. The credit agreement also
provides for a revolving facility of $55.0 million to be used for general
corporate purposes. The revolving facility terminates in September 2005.

Borrowings under the facilities bear interest at a fluctuating rate of
interest based upon financial covenant ratio tests. As of September 30, 2000,
our weighted average interest rate under our credit agreement was 10.04%. As
of September 30, 2000, we had borrowed all of our available loans under the
U.S. and Canadian term loans and had availability to borrow an additional
$46.4 million under our revolving facility.

We are required to pay a quarterly commitment fee at a rate that ranges
from .375% to .500%, based upon financial covenant ratio tests. This fee
applies to unused commitments under the revolving credit facility.

The terms of the credit agreement include various restrictive covenants.
These covenants include:

. restrictions against incurring additional indebtedness,

. disposing of assets,

. incurring capital expenditures,

. making investments,

. engaging in transactions with affiliates,

. incurring contingent obligations, and

. allowing or causing fundamental changes.

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

We believe that existing cash balances, internally generated cash flows,
proceeds from this offering and available borrowings under our revolving
credit facility will be sufficient to finance acquisitions, capital
expenditures and working capital requirements through at least twelve months
following the date of this prospectus. We plan to open 10 to 12 specialty
acute care hospitals in 2001, which have historically required approximately
$3.1 million per hospital over the initial year of operations to fund
leasehold improvements, equipment, start-up losses and working capital. If
funds required for future acquisitions exceed existing sources of capital, we
will need to increase our credit facilities or obtain additional capital by
other means.

Inflation

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

Recent Accounting Pronouncement Not Yet Adopted

During 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This statement

35
<PAGE>

specifies how to report and display derivative instruments and hedging
activities and is effective for fiscal years beginning after June 15, 2000. We
are evaluating the impact, if any, of adopting SFAS No. 133.

Quantitative And Qualitative Disclosures About Market Risk

We are exposed to interest rate changes, primarily as a result of a
floating interest rates on borrowings under our credit facility. We have not
taken any action to hedge our exposure to interest rate market risk, and are
not a party to any interest rate market risk management activities.

A 1% change in interest rates on variable rate debt would have resulted
in interest expense fluctuating approximately $1.3 million for 1999, and $2.1
million for the six months ended June 30, 2000. We are required by our credit
agreement to hedge our interest rate risk by December 21, 2000 and for at least
four years thereafter. The terms and parties to the hedge are to be reasonably
satisfactory to The Chase Manhattan Bank, the U.S. agent for the credit
facility. Under the hedge, we are required to fix or limit our interest cost to
at least 50% of the amount of the term loans outstanding.

Approximately 10% of our borrowings under our credit agreement are
denominated in Canadian dollars. We are not required by our credit agreement to
maintain a hedge on our foreign currency risk. We do not believe that we have
material exposure to fluctuations in the exchange rate of Canadian currency.

Subsequent Events

In July, 2000 we received proceeds of approximately $29.9 million from an
escrow account established in connection with our acquisition of NovaCare from
NovaCare's former owner, NAHC, Inc. We also received $1.95 million of notes in
satisfaction of certain severance and other obligations NAHC, Inc. had to us
under the purchase agreement.

Purchase of Minority Interests

Some of our outpatient rehabilitation businesses have minority equity
owners whom we do not control. These minority interests were retained by the
previous owners of the businesses when we acquired them and typically are about
20% of the business. We consolidate these majority-owned entities' results of
operations with our own.

The terms of our agreements with these minority owners allow some of them
to sell their minority interests back to us. We have agreed to purchase most of
these minority interests shortly after the completion of this offering. We will
pay these minority owners approximately $ million for their ownership
interests. About $ million of the purchase price for these ownership interests
will be paid in cash, and about $ million of it will be paid in shares of our
common stock. In determining the number of shares of common stock to be issued
to the minority owners, we will value the shares at the price to the public of
the common stock sold in this offering less a fixed discount of up to 20%. All
these shares will be restricted securities eligible for resale under Rule 144
of the Securities Act.

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<PAGE>

OUR BUSINESS

Overview

We are the second largest operator of specialty acute care hospitals for
long term stay patients in the United States based on the number of our
facilities. We are also the second largest operator of outpatient
rehabilitation clinics in the United States and the largest operator of
outpatient rehabilitation clinics in Canada based on the number of our clinics.
As of September 30, 2000, we operated 51 specialty acute care hospitals in 19
states and 676 outpatient rehabilitation clinics in 29 states, the District of
Columbia and seven Canadian provinces. We began operations in 1997 under the
leadership of our current management team, including our co-founders, Rocco A.
Ortenzio and Robert A. Ortenzio, both of whom have significant experience in
the healthcare industry. Under this leadership, we have grown our business
through strategic acquisitions and internal development initiatives. On a pro
forma basis for the year ended December 31, 1999, we had net operating revenues
of $720.1 million. Of this total, we earned 56.4% of our net operating revenues
from our outpatient rehabilitation business and 43.6% from our specialty acute
care hospitals.

Competitive Strengths

. Experienced Management Team. Our five senior operations executives
have an average of 23 years of experience in the healthcare industry.
In addition, 16 members of our management team have worked together
in previous healthcare companies, both public and private.

. Significant Scale. Our specialty acute care hospitals and outpatient
rehabilitation clinics provide us with significant scale and
advantages over many of our competitors. These advantages allow us to
leverage our operating costs by centralizing administrative functions
at our corporate office and spreading the costs of operating these
functions over a large base of operations. We believe that our size
also gives us an advantage in negotiating contracts with commercial
insurers.

. Multiple Business Lines and Geographic Diversity. We have a leading
presence in two segments of the healthcare industry. We believe that
this operating strategy reduces our risk profile. Because we provide
both inpatient care in our specialty acute care hospitals and
outpatient care in our rehabilitation clinics, we do not rely
exclusively on a single business line for our net operating revenues
or EBITDA. Our geographic diversification and the mix of our business
also reduces our exposure to any single governmental or commercial
reimbursement source.

. Proven Operating Performance. We have established a track record of
improving the financial performance of the hospitals and clinics we
operate. Our EBITDA margin improved by 1.9 percentage points for the
six months ended June 30, 2000 compared to the six months ended June
30, 1999. This improvement is the result, in part, of our ability to
grow our revenues by expanding referral relationships and payor
contracts as well as our ability to reduce costs by standardizing
procedures and centralizing administrative functions. We also focus
on working capital management and have decreased the number of
accounts receivable days outstanding from 106 as of June 30, 1999 to
81 as of June 30, 2000.

. Experience in Successfully Completing and Integrating
Acquisitions. Since we began operations in 1997, we have completed
three significant acquisitions for approximately $365 million in
aggregate consideration, as well as a number of smaller acquisitions.
We are extremely selective in identifying and pursuing acquisitions,
focusing on strategic opportunities where we can enhance operating
performance.

. Demonstrated Development Expertise. From our inception through
September 30, 2000, we developed 15 new specialty acute care
hospitals and 49 outpatient rehabilitation clinics. These initiatives
have demonstrated our ability to effectively identify new
opportunities and implement start-up plans.

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<PAGE>

. Significant Financial Resources. We have access to significant
financial resources that give us the flexibility to pursue an active
growth strategy. As adjusted for the offering, as of June 30, 2000,
we had $43.1 million in cash, and our total long term debt of $222.3
million represented % of our capitalization.

Specialty Acute Care Hospitals

As of September 30, 2000, we operated 51 specialty acute care hospitals
that were certified by the federal Medicare program. These hospitals generally
have 35 to 40 beds, and as of September 30, 2000, we operated a total of 1,913
available licensed beds. Our specialty acute care hospitals employ
approximately 5,200 people, with the majority being registered or licensed
nurses and respiratory therapists. In these specialty hospitals we treat
patients with serious and often complex medical conditions such as respiratory
failure, neuromuscular disorders, cardiac disorders, non-healing wounds, renal
disorders and cancer.

Patients are admitted to our specialty acute care hospitals from general
acute care hospitals in our markets. These general acute care hospitals are
frequently not the optimum setting in which to treat these patients, because
they require longer stays and a higher level of clinical attention than the
typical acute care patient. Furthermore, general acute care hospitals'
reimbursement rates usually do not adequately compensate them for the treatment
of this type of patient. The differences in clinical expertise and
reimbursement rates provide general acute care hospitals and their physicians
with incentives to discharge longer stay, medically complex patients to our
facilities. As a result of these dynamics, we continually seek to increase our
admissions by expanding and improving our relationships with the physicians and
general acute care hospitals in our markets that refer patients to our
facilities.

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<PAGE>

Below is a table that shows the typical distribution by medical condition
of patients in our hospitals.

<TABLE>
<CAPTION>
Distribution
Medical Condition of Patients
----------------- ------------
<S> <C>
Respiratory failure................................................ 33%
Neuromuscular disorder............................................. 23
Cardiac disorder................................................... 14
Wound care......................................................... 9
Renal disorder..................................................... 5
Cancer............................................................. 4
Other.............................................................. 12
---
Total............................................................ 100%
===
</TABLE>

When a patient is referred to one of our hospitals by a physician, case
manager, health maintenance organization or insurance company, a nurse liaison
makes an assessment to determine the degree of care required and expected
length of stay. This initial patient assessment is critical to our ability to
provide the appropriate level of patient care. Based on the determinations
reached in this clinical assessment, an admission decision is made by the
attending physician.

Upon admission, an interdisciplinary team reviews a new patient's
condition. The interdisciplinary team is comprised of a number of clinicians,
including the attending physician, a specialty nurse, a dietician, a
pharmacist and a case manager. Upon completion of an initial evaluation by
each member of the treatment team, an individualized treatment plan is
established and implemented. The case manager coordinates all aspects of the
patient's hospital stay and serves as a liaison with the insurance carrier's
case management staff when appropriate. The case manager communicates
progress, resource utilization, and treatment goals between the patient, the
treatment team and the payor.

Each of our specialty hospitals has an onsite management team consisting
of a chief executive officer, a director of clinical services and a director
of provider relations. These teams manage local strategy and day-to-day
operations, including oversight of per patient costs and average length of
stay. They also assume primary responsibility for developing relationships
with the general acute care providers and clinicians in our markets that refer
patients to our specialty hospitals. We provide our hospitals with centralized
accounting, payroll, legal, reimbursement, human resources, compliance,
management information systems, billing and collecting services. The
centralization of these services improves efficiency and permits hospital
staff to spend more time on patient care.

"Hospital within a Hospital" Model

Of the 51 specialty hospitals we operated as of September 30, 2000, two
are freestanding facilities and 49 are located in leased space within a host
general acute care hospital. These leased spaces are separately licensed and
are commonly referred to as a "hospital within a hospital." We operate the
largest number of specialty acute care hospitals operating with this "hospital
within a hospital" model in the United States. We believe this model provides
several advantages to patients, host hospitals, physicians and us.

. The host hospital's patients benefit from being admitted to a setting
specialized to meet their unique medical needs without having the
disruption of being transferred to another location.

. In addition to being provided with a place to transfer high-cost,
long-stay patients, host hospitals benefit by receiving payments from
us for rent and ancillary services.

. Physicians affiliated with the host hospital are provided with the
convenience of being able to monitor the progress of their patients
without traveling to another location.

39
<PAGE>

. We benefit from the ability to operate specialty hospitals without
the capital investment often associated with buying or building a
freestanding facility. We also gain operating cost efficiencies by
contracting with these host hospitals for selected services at
discounted rates.

In addition, our specialty hospitals serve the broader community where
they operate, treating patients from other general acute care hospitals in the
local market. During the quarter ended September 30, 2000, 51% of the patients
in our "hospital within a hospital" facilities were referred to us from general
acute care hospitals other than the host hospitals.

Specialty Acute Care Hospital Strategy

Develop New Specialty Acute Care Hospitals

Our goal is to open 10 to 12 new specialty Acute Care hospitals each year
using our "hospital within a hospital" model. We seek to lease space from
general acute care hospitals with leadership positions in the markets in which
they operate. We have successfully contracted with various types of general
hospitals including for-profit, not-for-profit and university affiliated. Our
relationships include hospitals operated by many of the leading names in the
healthcare industry including HCA--The Healthcare Company, Health Management
Associates, Mercy Health System, Tenet Healthcare, and Ohio State University
Medical Center. We have a standardized approach to development that begins with
the evaluation of new opportunities. We identify development opportunities by
targeting host hospitals with:

. 250 beds or more;

. sufficient space available to lease;

. high patient volume; and

. market populations of at least 500,000 to 750,000.

We have a dedicated development team with significant market experience.
When we target a host hospital, the development team conducts an extensive
review of all of its discharges to determine the number of referrals we would
have likely received from it on a historical basis. Next, we review the host
hospital's contracts with commercial insurers to determine the market's general
reimbursement trends and payor mix. Ultimately, when we sign a lease with a new
host hospital, the project is transitioned to our start-up team, which is
experienced in preparing a specialty hospital for opening. The start-up team
oversees facility improvements, equipment purchases, licensure procedures, and
the recruitment of a full-time management team. After the facility is opened,
responsibility for its management is transitioned to this new management team
and our corporate operations group.

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<PAGE>

From our inception through September 30, 2000, we had completed the
development and opening of the following 15 specialty acute care hospitals:

<TABLE>
<CAPTION>
Hospital Name City State Opening Date Licensed Beds
------------- ------------ ----- -------------- -------------
<S> <C> <C> <C> <C>
SSH-Biloxi Biloxi MS May 1998 42
SSH-West Columbus Columbus OH December 1998 37
SSH-Wilmington Wilmington DE January 1999 35
SSH-Milwaukee Milwaukee WI March 1999 34
SSH-Youngstown Youngstown OH April 1999 31
SSH-Mesa Mesa AZ September 1999 37
SSH-Battle Creek Battle Creek MI October 1999 32
SSH-Omaha Omaha NE October 1999 40
SSH-Gulfport Gulfport MS January 2000 38
SSH-Denver Denver CO February 2000 32
SSH-Tri-Cities* Bristol TN March 2000 25
SSH-St. Louis* St. Louis MO April 2000 33
SSH-Wichita* Wichita KS June 2000 35
SSH-San Antonio* San Antonio TX July 2000 34
SSH-Greensburg* Greensburg PA August 2000 31
---
Total 516
===
</TABLE>
--------
* Certification as a long term acute care hospital pending successful
completion of a start-up period. See "--Governmental Regulations--
Licensure--Certification."

Provide High Quality and Cost Effective Care

We believe that our patients benefit from our experience in addressing
the complex medical needs of long term stay patients. A typical patient
admitted to our specialty hospitals has multiple medical conditions and
requires a high level of attention by our clinical staff. To effectively
address the complex nature of our patients' medical conditions, we have
developed specialized treatment programs focused solely on their needs. We have
also implemented specific staffing models that are designed to ensure that
patients have access to the necessary level of clinical attention. These
staffing models also allow us to efficiently allocate our resources which
reduces costs.

Our treatment and staffing programs benefit patients because they give
our clinicians access to the regimens that we have found to be most effective
in treating various conditions such as respiratory failure, non-healing wounds
and neuromuscular disorders. In addition, we often combine or modify these
programs to provide a treatment plan tailored to meet a patient's unique needs.

We continually monitor the quality of our patient care by several
measures including patient, payor and physician satisfaction as well as
clinical outcomes. Quality measures are collected monthly and reported
quarterly and annually. In order to benchmark ourselves against other
healthcare organizations, we have contracted with outside vendors to collect
our clinical and patient satisfaction information and compare it to other
healthcare organizations. The information collected is reported back to each
hospital, to the corporate office, and directly to the Joint Commission on
Accreditation of Healthcare Organizations. As of September 30, 2000, all but
our two most recently opened hospitals had been accredited by the Joint
Commission on Accreditation of Healthcare Organizations. See "--Government
Regulations--Licensure--Accreditation."

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<PAGE>

Reduce Costs

We continually seek to improve operating efficiency and reduce costs at
our hospitals by standardizing operations and centralizing key administrative
functions. These initiatives include:

. optimizing staffing based on our occupancy and the clinical needs of
our patients;

. centralizing administrative functions such as accounting, payroll,
legal, reimbursement, compliance and human resources;

. standardizing management information systems to aid in financial
reporting as well as billing and collecting; and

. participating in group purchasing arrangements to receive discounted
prices for pharmaceuticals and medical supplies.

Increase Higher Margin Commercial Volume

We typically receive higher reimbursement rates from commercial insurers
than we do from the federal Medicare program. As a result, we work to expand
relationships with insurers to increase commercial patient volume. Each of our
hospitals has employees who focus on commercial contracting initiatives within
their regions. Contracting professionals in our central office work with these
hospital employees to ensure that our corporate contracting standards are met.
Our goal in commercial contracting is to give discounted rates to those
commercial payors that we expect to add significant patient volume to our
hospitals.

We believe that commercial payors seek to contract with our hospitals
because we offer patients quality, cost effective care. Although the level of
care we provide is complex and staff intensive, we typically have lower
operating expenses than a freestanding general acute care facility's intensive
care unit because of our "hospital within a hospital" operating model. As a
result of our cost efficiencies, we can offer more attractive rates to
commercial payors. Additionally, we provide their enrollees with customized
treatment programs not offered in traditional acute care facilities.

Grow Through Acquisitions

In addition to our development initiatives, we intend to grow our network
of specialty hospitals through strategic acquisitions. When we acquire a
hospital or a group of hospitals, a team of our professionals is responsible
for formulating and executing an integration plan. We have generally been able
to increase margins at acquired facilities by centralizing administrative
functions and implementing our standardized staffing models and resource
management programs. Since 1997 we have acquired and integrated 37 hospitals
which all share our centralized billing and purchasing programs and operate
standardized management information systems.

Outpatient Rehabilitation

We are the second largest operator of outpatient rehabilitation clinics
in the United States and the largest operator of outpatient rehabilitation
clinics in Canada, based on the number of our clinics. As of September 30,
2000, we operated 590 clinics throughout 29 states and the District of Columbia
and 86 clinics in seven provinces throughout Canada. Our outpatient division
employs approximately 7,700 people. Typically, each of our clinics is located
in a freestanding facility in a highly visible medical complex or retail
location. In addition to providing therapy in our outpatient clinics, we
provide rehabilitation management services and staffing on a contract basis to
hospitals, schools, nursing facilities and home health agencies.

In our clinics and through our contractual relationships, we provide
physical, occupational and speech rehabilitation programs and services. Our
patients are typically diagnosed with musculoskeletal impairments that restrict
their ability to perform normal activities of daily living. These impairments
are often associated with accidents, sports injuries, strokes, heart attacks
and other medical conditions. Our rehabilitation programs

42
<PAGE>

and services are designed to help these patients minimize physical and
cognitive impairments and maximize functional ability. We also design services
to prevent short-term disabilities from becoming chronic conditions. Our
rehabilitation services are provided by our professionals including licensed
physical therapists, occupational therapists, certified athletic trainers,
physiatrists, speech-language pathologists, respiratory therapists, exercise
physiologists and physical rehabilitation counselors.

Patients are generally referred or directed to our clinics by a
physician, employer or health insurer who believes that a patient, employee or
member can benefit from the level of therapy we provide in an outpatient
setting. Outpatient rehabilitation services not only seek to improve the
patients' quality of life but also have been shown to result in overall savings
in healthcare costs. A study by the Health Insurance Association of America
conducted in December of 1999 concluded that $13 in savings is generated for
every dollar spent on rehabilitation services. As a result of these cost
savings we believe that our services are attractive to healthcare payors who
are seeking to provide the most cost-effective level of care to their members.
In our outpatient rehabilitation division, approximately 92% of our net
operating revenues come from rehabilitation management services and commercial
payors, including healthcare insurers, managed care organizations and workers'
compensation programs. The balance of our reimbursement is derived from
Medicare and other government sponsored programs.

We have grown our outpatient rehabilitation business through acquisitions
and new development. Our most significant outpatient acquisition was the
purchase of the Physical Rehabilitation and Occupational Health Division of
NovaCare, Inc. in November of 1999 through which we added approximately 500
outpatient rehabilitation clinics.

Outpatient Strategy

Increase Market Share

Our goal is to be a leading provider of outpatient rehabilitation
services in our local markets. Having a strong market share in our local
markets allows us to benefit from heightened brand awareness, economies of
scale and increased leverage when negotiating payor contracts. To increase our
market share, we seek to expand the services and programs we provide and
generate loyalty with patients and referral sources by providing high quality
care and strong customer service.

. Expand Rehabilitation Programs and Services. We assess the healthcare
needs of our markets and implement programs and services targeted to
meet the demands of the local community. In designing these programs
we benefit from the knowledge we gain through our national network of
clinics. This knowledge is used to design programs that optimize
treatment methods and measure changes in health status, clinical
outcomes and patient satisfaction. Our programs and services include,
among others, back care and rehabilitation; work injury management
and prevention; sports rehabilitation and athletic training; and
health, safety and prevention programs. Other services that vary by
location include aquatic therapy, speech therapy, neurological
rehabilitation and post-treatment care.

. Provide High Quality Care and Service. We believe that by focusing on
quality care and offering a high level of customer service we develop
brand loyalty in our markets. This loyalty allows us to retain
patients and strengthen our relationships with the physicians,
employers, and health insurers in our markets who refer or direct
additional patients to us. We are focused on providing a high level
of service to our patients throughout their entire course of
treatment. To measure satisfaction with our service we have developed
surveys for both patients and physicians. Our clinics utilize the
feedback from these surveys to continuously refine and improve
service levels.

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<PAGE>

Optimize the Profitability of Our Payor Contracts

Before we enter into a new contract with a commercial payor, we evaluate
it with the aid of our contract management system. We assess potential
profitability by evaluating past and projected patient volume, clinic capacity,
and expense trends. Each contract we enter into is continually re-evaluated to
determine how it is affecting our profitability. We create a retention strategy
for each of the top performing contracts and a re-negotiation strategy for
contracts that do not meet our defined criteria.

Improve Margins

To improve operating margins and efficiencies, we continually revise and
streamline operational processes. We evaluate our clinical staff productivity
monthly against specific benchmarks to ensure efficient utilization of labor
for services provided. Furthermore, following our acquisition of NovaCare,
Inc.'s Physical Rehabilitation and Occupational Health Division, we have
implemented initiatives to reduce overhead costs. As part of those efforts we
have reduced the number of central business offices we operate from seven to
five during the first nine months of 2000. During the next six months we expect
to further consolidate operations to enhance administrative efficiencies. We
have also developed a phased plan that, in the course of the next two years,
will link all of our clinics together via a wide area network. This linkage
will provide us with the opportunity to implement centralized scheduling,
improve the timing of billing transactions and provide a base for dissemination
of clinical and contractual information to all of our clinics.

Grow Through New Development and Disciplined Acquisitions

We intend to open new clinics in our current markets where we believe
that we can benefit from existing referral relationships and brand awareness to
produce incremental growth. From time to time, we also intend to also evaluate
acquisition opportunities that may enhance the scale of our business and expand
our geographic reach. Potential acquisitions are closely evaluated and we seek
to buy only those assets that are complementary to our business and that are
expected to give us a strong return on our invested capital.

Maintain Strong Employee Relations

We believe that the relationships between our employees and the referral
sources in their communities are critical to our success. Our referral sources,
such as physicians and healthcare case managers, send their patients to our
clinics based on three factors: the quality of our care, the service we provide
and their familiarity with our therapists. We seek to retain and motivate our
therapists by implementing a performance-based bonus program, a defined career
path with the ability to be promoted from within, timely communication on
company developments, and internal training programs. We also focus on
empowering our employees by giving them a high degree of autonomy in
determining local market strategy. This management approach reflects the unique
nature of each market we operate in and the importance of encouraging our
employees to assume responsibility for their clinic's performance.

Overview of Healthcare Spending

The U.S. Health Care Financing Administration estimated that in 1999,
total U.S. healthcare expenditures grew 6.0% to $1.2 trillion. From 1995 to
1999, healthcare spending grew at a compounded annual rate of 5.4%, compared to
7.3% in the first half of the decade and 12.9% in the 1980s. The decline in
spending growth during the latter half of the decade has been attributed to the
result of increased membership in managed care plans which negotiated
discounted rates with healthcare providers.

Growth in healthcare expenditures is expected to rebound during the
current decade. According to the Health Care Financing Administration, total
projected U.S. healthcare spending is estimated to grow at 7.1% in 2000 and at
6.5% annually from 2001 through 2008. By these estimates, healthcare
expenditures will account for approximately $2.2 trillion, or 16.2% of the
total U.S. gross domestic product by 2008.

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<PAGE>

We expect future spending to be influenced by various factors including:

. slower managed care enrollment growth and a movement towards less
restrictive forms of managed care, or hybrids;

. increased state and federal regulation of health plans;

. proposed Medicare reimbursement relief for healthcare providers;

. continued increases in pharmaceutical expenditures; and

. continued technological advancement.

Demographic considerations also affect long term growth projections for
healthcare spending. According to the U.S. Census Bureau, there are
approximately 35 million Americans aged 65 or older in the U.S. today, who
comprise approximately 13% of the total U.S. population. By the year 2030 the
number of elderly is expected to climb to 69 million, or 20% of the total
population. Due to the increasing life expectancy of Americans, the number of
people aged 85 years and older is also expected to increase from 4.3 million to
8.5 million by the year 2030. We believe that this increase in life expectancy
will increase demand for healthcare services and, as importantly, the demand
for innovative, more sophisticated means of delivering those services.

Based on projections of future healthcare expenditures, according to the
Health Care Financing Administration, payments to healthcare providers will
increase by nearly $1.0 trillion in the next decade. Despite pressures from
payors to reduce spending, we believe that the growth in spending will create
opportunities for low cost, quality healthcare providers like us. Continued
spending pressure will encourage efficiency by directing business toward lower-
cost settings such as our outpatient rehabilitation clinics and specialty acute
care hospitals.

Sources of Net Operating Revenues

The following table presents the approximate percentages by source of net
operating revenue received for healthcare services we provided for the periods
indicated.

<TABLE>
<CAPTION>
Year ended
December 31,
------------------- Six Months Ended
Net Operating Revenues by Payor Source 1997 1998 1999 June 30, 2000
-------------------------------------- ----- ----- ----- ----------------
<S> <C> <C> <C> <C>
Commercial insurance (a).................. 40.9% 37.6% 34.6% 55.0%
Medicare.................................. 25.0 37.9 48.1 33.0
Private and other(b)...................... 34.1 24.5 15.7 10.8
Medicaid (c).............................. -- -- 1.6 1.2
----- ----- ----- -----
Total................................... 100.0% 100.0% 100.0% 100.0%
===== ===== ===== =====
</TABLE>
--------
(a) Includes commercial healthcare insurance carriers, health maintenance
organizations, preferred provider organizations, workers' compensation and
managed care programs.
(b) Private and other includes self payors, Canadian revenues, fees from
management services agreements and contract management services.
(c) In 1997 and 1998, we did not separately track Medicaid payments because the
amounts were immaterial.

Non-Government Sources

A majority of our net operating revenues come from private payor sources.
These sources include insurance companies, workers' compensation programs,
health maintenance organizations, preferred provider organizations, other
managed care companies, and employers, as well as by patients directly.
Patients are generally not responsible for any difference between customary
charges for our services and amounts paid by

45
<PAGE>

Medicare and Medicaid programs, insurance companies, workers' compensation
companies, health maintenance organizations, preferred provider organizations,
and other managed care companies, but are responsible for services not covered
by these programs or plans, as well as for deductibles and co-insurance
obligations of their coverage. The amount of these deductibles and co-insurance
obligations has increased in recent years. Collection of amounts due from
individuals is typically more difficult than collection of amounts due from
government or business payors. To further reduce their healthcare costs, an
increasing number of insurance companies, health maintenance organizations,
preferred provider organizations, and other managed care companies are
negotiating discounted fee structures or fixed amounts for hospital services
performed, rather than paying healthcare providers the amounts billed. If an
increased number of insurance companies, health maintenance organizations,
preferred provider organizations, and other managed care companies succeed in
negotiating discounted fee structures or fixed amounts, our results of
operations may be negatively affected. See "--Government Reimbursement--
Overview of U.S. and State Government Reimbursements."

Government Sources

Medicare is a federal program that provides medical insurance benefits to
persons age 65 and over, some disabled persons, and persons with end-stage
renal disease. Medicaid is a federal-state funded program, administered by the
states, which provides medical benefits to individuals who are unable to afford
healthcare. All of our hospitals are certified as providers of Medicare, and
our outpatient rehabilitation clinics regularly receive Medicare payments for
their services. Additionally, our specialty hospitals participate in two state
Medicaid programs. Amounts received under the Medicare and Medicaid programs
are generally less than the customary charges for the services provided. In
recent years, changes made to the Medicare and Medicaid programs have further
reduced payment to healthcare providers. Since an important portion of our
revenues comes from patients under the Medicare program, our ability to operate
our business successfully in the future will depend in large measure on our
ability to adapt to changes in the Medicare program.

Government Regulations

General

The healthcare industry is required to comply with many laws and
regulations at the federal, state and local government levels. These laws and
regulations require that hospitals and outpatient rehabilitation clinics meet
various requirements, including those relating to the adequacy of medical care,
equipment, personnel, operating policies and procedures, maintenance of
adequate records, compliance with building codes and environmental protection.
These laws and regulations are extremely complex and, in many instances, the
industry does not have the benefit of significant regulatory or judicial
interpretation. If we fail to comply with applicable laws and regulations, we
could suffer civil or criminal penalties, including the loss of our licenses to
operate and our ability to participate in the Medicare, Medicaid and other
federal and state healthcare programs.

Licensure

Facility Licensure. Our healthcare facilities are subject to state and
local licensing regulations ranging from the adequacy of medical care to
compliance with building codes and environmental protection laws. In order to
assure continued compliance with these various regulations, governmental and
other authorities periodically inspect our facilities. We believe all of our
hospitals are properly licensed under appropriate state laws. We believe that
all of our outpatient rehabilitation clinics in states that require licensing
of such facilities are properly licensed.

Some states still require us to get approval under certificate of need
regulations when we create, acquire or expand our facilities or services. If we
fail to show public need and obtain approval in these states for our
facilities, we may be subject to civil or even criminal penalties, lose our
facility license or become ineligible for reimbursement if we proceed with our
creation or acquisition of the new facility or service.

46
<PAGE>

Professional Licensure and Corporate Practice. Healthcare professionals
at our hospitals and outpatient rehabilitation clinics are required to be
individually licensed or certified under applicable state law. We take steps to
ensure that our employees and agents possess all necessary licenses and
certifications, and we believe that our employees and agents, including
rehabilitation agency therapists, comply with all applicable state laws.

In some states, business corporations such as us are restricted from
practicing therapy through the direct employment of therapists. In those
states, in order to comply with the restrictions imposed, we either contract to
obtain therapy services from an entity permitted to employ therapists, or we
manage the physical therapy practice owned by licensed therapists through which
the therapy services are provided.

Certification. In order to participate in the Medicare program and
receive Medicare reimbursement, each facility must comply with the applicable
regulations of the United States Department of Health and Human Services
relating to, among other things, the type of facility, its equipment, its
personnel and its standards of medical care, as well as compliance with all
applicable state and local laws and regulations. All of our 51 hospitals
participate in the Medicare program. In addition, the majority of our
outpatient rehabilitation services are provided through Medicare-certified
rehabilitation agencies or "rehab agencies."

Accreditation. Our hospitals receive accreditation from the Joint
Commission on Accreditation of Healthcare Organizations, a nationwide
commission which establishes standards relating to the physical plant,
administration, quality of patient care and operation of medical staffs of
hospitals. Generally, our hospitals have to be in operation for at least six
months before they are eligible for accreditation. As of September 30, 2000,
all but our two most recently opened hospitals had been accredited by the Joint
Commission on Accreditation of Healthcare Organizations.

Overview of U.S. and State Government Reimbursements

Medicare. The Medicare program reimburses healthcare providers for
services furnished to Medicare beneficiaries, which are generally persons age
65 and older, those who are chronically disabled, and those suffering from end
stage renal disease. The program is governed by the Social Security Act of 1965
and is administered primarily by the Department of Health and Human Services
and the Health Care Financing Administration. On a pro forma basis, giving
effect to the acquisition of NovaCare, as of January 1, 1999, we received
approximately one-third of our revenue from Medicare during 1999.

Long Term Acute Care Hospital Medicare Reimbursement. Our long-term acute
care hospitals receive cost reimbursement, subject to a maximum cap. In
contrast, Medicare inpatient costs for short-term acute care hospitals are
reimbursed based upon a fixed payment amount per discharge using diagnosis
related groups, commonly referred to as DRGs. The DRG payment under a
prospective payment system is based upon the national average cost of treating
a Medicare patient's condition. Although the average length of stay varies for
each DRG, the average stay for all Medicare patients subject to prospective
payment system is approximately six days. Thus, a prospective payment system
creates an economic incentive for general short-term acute care hospitals to
discharge medically complex Medicare patients as soon as clinically possible.
We believe that the incentive for short-term acute care hospitals to discharge
medically complex patients as soon as clinically possible creates a substantial
referral source for our long term acute care hospitals.

Prior to qualifying as an exempt long-term acute care hospital, a new
long-term acute care hospital initially receives payment under the acute care
DRG-based reimbursement system. The long-term acute care hospital must continue
to be paid DRGs for a minimum of six months while meeting certain Medicare
long-term acute care hospital requirements, the most significant requirement
being an average length of stay of 25 days or more. A "hospital within a
hospital" facility must also establish itself as a hospital separate from its
host by, among other things, obtaining separate licensure and certification,
and limiting the services it purchases

47
<PAGE>

directly from its host to 15% of its total operating costs, or limiting the
number of patient admissions from its host to 25% of total admissions.

Once the hospital qualifies for exempt status, long-term acute care
hospitals currently are paid on the basis of Medicare reasonable costs per case
subject to limits. Under cost-based reimbursement, costs accepted for
reimbursement depend on a number of factors, including necessity,
reasonableness, related-party principles and relatedness to patient care.
Qualifying costs under Medicare's cost-reimbursement system typically include
all operating costs and also capital costs that include interest expense,
depreciation, amortization, and rental expense. Non-qualifying costs include
marketing costs.

The cost reimbursement received by a long-term acute care hospital is
subject to per-discharge payment limits. During a long-term acute care
hospital's initial operations, Medicare payment is capped at the average
national target rate established by the Tax Equity and Fiscal Responsibility
Act of 1982, commonly known as TEFRA. After the second year of operations,
payment is subject to a target amount based on the lesser of the hospital's
cost-per-discharge or the national ceiling in the applicable base year.

Congress has required the Secretary of the Department Health and Human
Services to submit to Congress by October 1, 1999 a proposal to establish a
prospective payment system for long-term acute care hospitals. This requirement
was later extended until October 1, 2001. Current law provides that a
prospective payment system is to be effective for cost reporting periods
beginning on or after October 1, 2002.

Outpatient Rehabilitation Services Medicare Reimbursement. We provide the
majority of our outpatient physical rehabilitation services in our
rehabilitation clinics. Through our contract services agreements, we also
provide outpatient rehabilitation services in the following settings:

. comprehensive outpatient rehabilitation facilities;

. rehabilitation agencies;

. schools;

. physician-directed clinics;

. hospitals; and

. skilled nursing facilities.

Essentially, all of our outpatient physical rehabilitation services are
provided in rehabilitation agencies and are not provided through rehabilitation
hospitals.

Prior to January 1, 1999, outpatient physical therapy, occupational
therapy, and speech-language pathology services, which we refer to as
outpatient therapy services, were reimbursed on the basis of the lower of 90%
of reasonable costs or actual charges. Beginning January 1, 1999, outpatient
rehabilitation services were reimbursed on a fee schedule, subject to annual
limits. These outpatient rehabilitation providers receive a fixed fee for each
procedure performed, which is adjusted by the geographical area in which the
facility is located. Beginning on January 1, 1999, the following annual limits
per Medicare beneficiary were to have become effective:

. $1,500 for outpatient rehabilitation services (including speech-
language pathology services), and

. $1,500 for outpatient occupational health services.

In November 1999, the Balanced Budget Refinement Act provided some relief
to providers by unbundling speech-language pathology services from other
outpatient rehabilitation services. The following lists the new annual limits
by services offered:

. $1,500 for outpatient physical therapy services

48
<PAGE>

. $1,500 for speech-language pathology services, and

. $1,500 for outpatient occupational health services.

A moratorium has since been placed on these limits for the years 2000 and 2001
pending a review by the Secretary of the Department of Health and Human
Services of the clinical needs of these patients and the appropriate level of
limitations.

The Secretary of the U.S. Department of Health and Human Services is required
to report the results of this review to Congress by June 30, 2001, together
with any relevant legislative recommendations, potentially including revised
coverage policies as an alternative to the therapy caps. Congress is
considering legislation that would further extend the moratorium on the therapy
limits and require additional studies by the Secretary regarding the
application of the limits.

Historically, outpatient rehabilitation services have been subject to scrutiny
by the Medicare program for, among other things, medical necessity for
services, appropriate documentation for services, billing for group therapy,
and Medicare billing practices by skilled nursing facilities. In addition,
payment for rehabilitation services furnished to patients of skilled nursing
facilities has been affected by the establishment of a Medicare prospective
payment system and consolidated billing requirement for skilled nursing
facilities. The resulting pressure on skilled nursing facilities to reduce
their costs by negotiating lower payments to therapy providers, such as our
contract therapy services, and the inability of the therapy providers to bill
the Medicare program directly for their services have tended to reduce the
amounts that rehabilitation providers can receive for services furnished to
many skilled nursing facility residents.

Long Term Acute Care Hospital Medicaid Reimbursement. The Medicaid
program is designed to provide medical assistance to individuals unable to
afford care. The program is governed by the Social Security Act of 1965 and
administered and funded jointly by each individual state government and the
Health Care Financing Administration. Most state Medicaid payments are made
under a prospective payment system or under programs that negotiate payment
levels with individual hospitals. In addition, Medicaid programs are subject to
statutory and regulatory changes, administrative rulings, interpretations of
policy by the state agencies and certain government funding limitations, all of
which may materially increase or decrease the level of program payments to our
hospitals. Medicaid payments accounted for about 1.2% of our net operating
revenues for the six months ended June 30, 2000.

Workers' Compensation. Workers' compensation programs account for
approximately 21% of our revenue from outpatient rehabilitation services for
the six months ended June 30, 2000. Workers' compensation is a state-mandated,
comprehensive insurance program that requires employers to fund or insure
medical expenses, lost wages and other costs resulting from work-related
injuries and illnesses. Workers' compensation benefits and arrangements vary on
a state-by-state basis and are often highly complex. In some states, payment
for services covered by workers' compensation programs are subject to cost
containment features, such as requirements that all workers' compensation
injuries be treated through a managed care program, or the imposition of
payment caps. In addition, these workers' compensation programs may impose
requirements that affect the operations of our outpatient rehabilitation
services.

Canadian Reimbursement

Approximately 70% of all funding for the Canadian healthcare system is
derived from public sources. The Canada Health Act governs the Canadian
healthcare system, and provides for federal funding to be transferred to
provincial health systems. Our Canadian outpatient rehabilitation clinics
receive funding primarily through workers' compensation benefits, which are
administered by provincial workers' compensation boards. The workers'
compensation boards assess employers' fees based on their industry and past
claims history. These fees are then distributed independently by each
provincial workers' compensation board as payments for healthcare services.
Therefore, the payments each of our rehabilitation clinics receive for similar

49
<PAGE>

services can vary substantially because of the different payment regulations in
each province. For the six months ended June 30, 2000, we derived about 3.5% of
our total net operating revenues from our operations in Canada.

Other Healthcare Regulations

Fraud and Abuse Enforcement. Various federal laws prohibit the submission
of false or fraudulent claims, including claims to obtain payment under
Medicare, Medicaid and other government healthcare programs. Penalties for
violation of these laws include civil and criminal fines, imprisonment and
exclusion from participation in federal and state healthcare programs. In
recent years, federal and state government agencies have increased the level of
enforcement resources and activities targeted at the healthcare industry. In
addition, the federal False Claims Act allows an individual to bring lawsuits
on behalf of the government, in what are known as qui tam or "whistleblower"
actions, alleging false or fraudulent Medicare or Medicaid claims or other
violations of the statute. The use of these private enforcement actions against
healthcare providers has increased dramatically in the recent past, in part
because the individual filing the initial complaint is entitled to share in a
portion of any settlement or judgment.

From time to time, various federal and state agencies, such as the
Department of Health and Human Services, issue a variety of pronouncements,
including fraud alerts, the Office of Inspector General's Annual Work Plan and
other reports, identifying practices that may be subject to heightened
scrutiny. These pronouncements can identify issues relating to long-term acute
care hospitals or outpatient rehabilitation services or providers. For example,
the Office of Inspector General's 2001 Work Plan describes the government's
intention to study providers' use of the "hospital within a hospital" model for
furnishing long term acute care hospital services and the effectiveness of
Health Care Financing Administration's payment safeguards relating to such
services. We monitor these issuances to ensure that our resources are focused
on compliance with areas targeted for enforcement.

We endeavor to conduct our operations in compliance with applicable laws,
including healthcare fraud and abuse laws. If we identify any practices as
being potentially contrary to applicable law, we will take appropriate action
to address the matter, including, where appropriate, disclosure to the proper
authorities.

Remuneration, Fraud and Anti-dumping Measures. The federal "anti-
kickback" statute prohibits some business practices and relationships under
Medicare, Medicaid and other federal healthcare programs. These practices
include the payment, receipt, offer or solicitation of money in connection with
the referral of patients covered by a federal or state healthcare program.
Violations of the anti-kickback law may be punished by a criminal fine of up to
$50,000 or imprisonment for each violation, civil monetary penalties of $50,000
and damages of up to three times the total amount of remuneration, and
exclusion from participation in federal or state health care programs.

Section 1877 of the Social Security Act, commonly known as the "Stark
Law," was amended in 1995 to prohibit referrals for designated health services
by physicians under the Medicare and Medicaid programs to other healthcare
providers in which the physicians have an ownership or compensation arrangement
unless an exception applies. Sanctions for violating the Stark Law include
civil monetary penalties of up to $15,000 per prohibited service provided,
assessments equal to twice the dollar value of each such service provided and
exclusion from the Medicare and Medicaid programs. The statute also provides a
penalty of up to $100,000 for a circumvention scheme. In addition, many states
have adopted or may adopt similar anti-kickback or anti-self-referral statutes.
Some of these statutes prohibit the payment or receipt of remuneration for the
referral of patients, regardless of the source of the payment for the care.
Final regulations implementing the 1995 amendment to the Stark Law have not yet
been adopted.

Medicare-participating hospitals are also subject to the Emergency
Treatment and Active Labor Act, an "anti-dumping" statute commonly referred to
as EMTALA. If a patient with an emergency condition enters

50
<PAGE>

a hospital with an emergency department, this federal law requires the hospital
to stabilize a patient suffering from this emergency condition or make an
appropriate transfer of the patient to a facility that can handle the
condition. There are severe penalties under EMTALA if a hospital refuses to
screen or appropriately stabilize or transfer a patient or if the hospital
delays appropriate treatment in order to first inquire about the patient's
ability to pay. Although none of our hospitals operate emergency departments,
the government has interpreted EMTALA broadly to cover situations in which any
type of hospital inpatient is transferred in an unstable condition.

Provider-based Status. The designation "provider-based" refers to
circumstances in which a subordinate facility (e.g., a separately-certified
Medicare provider, a department of a provider or a satellite facility) is
treated as part of a provider for Medicare payment purposes. In these cases,
the services of the subordinate facility are included on the "main" provider's
cost report and overhead costs of the main provider can be allocated to the
subordinate facility, to the extent that they are shared. We operate four long
term acute care hospitals that are treated as provider-based satellites of
certain of our other facilities and we provide rehabilitation management and
staffing services to hospital rehabilitation departments that may be treated as
provider-based. On April 7, 2000, the Health Care Financing Administration
finalized new regulatory standards for determinations that a facility or
service has provider-based status. The new standards finalized by the Health
Care Financing Administration on April 7, 2000 will become effective on January
10, 2001 and providers must comply with them for provider cost reporting
periods beginning on or after January 10, 2001.

Health Information Practices. In addition to broadening the scope of the
fraud and abuse laws, the Health Insurance Portability and Accountability Act
also mandates, among other things, the adoption of standards for the exchange
of electronic health information in an effort to encourage overall
administrative simplification and enhance the effectiveness and efficiency of
the healthcare industry. Among the standards that the Department of Health and
Human Services will adopt pursuant to the Health Insurance Portability and
Accountability Act are standards for the following:

. electronic transactions and code sets;

. unique identifiers for providers, employers, health plans and
individuals;

. security and electronic signatures;

. privacy; and

. enforcement.

Although the Health Insurance Portability and Accountability Act was
intended ultimately to reduce administrative expenses and burdens faced within
the healthcare industry, we believe the law will initially bring about
significant and, in some cases, costly changes. Rules issued by the Department
of Health and Human Services to date mandate the use of new standards for
common healthcare transactions, including healthcare claims information, plan
eligibility, referral certification and authorization, claims status, plan
enrollment and disenrollment, payment and remittance advice, plan premium
payments and coordination of benefits, as well as the use of electronic
signatures.

Pursuant to the Health Insurance Portability and Accountability Act, the
Department of Health and Human Services has also proposed new standards
relating to the privacy and security of individually identifiably health
information. As proposed, these standards not only require our compliance with
rules governing the use and disclosure of protected health information, but
they also require us to impose those rules, by contract, on any business
partner to whom such information is disclosed. Under the Department of Health
and Human Services current proposed privacy standards, patients would be
required to be made third-party beneficiaries of our contracts with business
partners, which would, in many states, entitle them to sue either us or the
business partner for improper uses or disclosures of their protected health
information. The final forms of the security and privacy standards may be
modified materially from the Department of Health and Human Services proposals,
particularly with respect to the requirements for business partner
arrangements.

51
<PAGE>

The Department of Health and Human Services finalized the new transaction
standards on August 17, 2000, and we will be required to comply with them by
August 16, 2002. The security and privacy under the Health Insurance
Portability and Accountability Act are currently scheduled to be finalized by
the Department of Health and Human Services prior to the end of 2000. Once
these security and privacy regulations are issued in final form, we will have
approximately two years to be fully compliant. Sanctions for failing to comply
with the Health Insurance Portability and Accountability Act include criminal
penalties and civil sanctions.

We are evaluating the effect of the Health Insurance Portability and
Accountability Act and have recently developed a task force to address the
Health Insurance Portability and Accountability Act regulations as they have
been adopted to date and as additional standards are adopted in the coming
months. At this time, we anticipate that we will be able to fully comply with
those Health Insurance Portability and Accountability Act requirements that
have been adopted. However, we cannot at this time estimate the cost of such
compliance, nor can we estimate the cost of compliance with standards that have
not yet been finalized by the Department of Health and Human Services. Although
the new and proposed health information standards are likely to have a
significant effect on the manner in which we handle health data and communicate
with payors, based on our current knowledge, we believe that the cost of our
compliance will not have a material adverse effect on our business, financial
condition or results of operations.

Employees

As of September 30, 2000 we employed approximately 13,400 people
throughout the United States and Canada. A total of approximately 8,000 of our
employees are full-time and the remaining approximately 5,400 are part-time
employees. Outpatient, contract therapy and physical rehabilitation and
occupational health employees totaled approximately 8,200 and inpatient
employees totaled approximately 5,200.

Legal Proceedings

On June 9, 1998, a complaint was filed naming our subsidiary, American
Transitional Hospitals, Inc., and its former parent, Beverly Enterprises, Inc.,
as defendants. This qui tam action seeks triple damages and penalties under the
False Claims Act against American Transitional Hospitals. The Department of
Justice did not intervene in this action. It is alleged in the complaint that
prior to the acquisition, American Transitional Hospitals fraudulently billed
Medicare for services that were not rendered and supplies and medications that
were not needed. Beverly Enterprises has agreed to fully indemnify us against
all losses that result from liabilities that occurred before we acquired
American Transitional Hospitals, which includes this litigation. Beverly
Enterprises is undertaking the legal defense in this case.

On August 10, 1998 a complaint was filed that named NovaCare, Inc. (now
known as NAHC, Inc.), other named defendants and 100 defendants who were to be
named at a later time. This qui tam action seeks triple damages and penalties
under the False Claims Act against NAHC. The Department of Justice did not
intervene in this action. The allegations involve, among other things the
distinction between individual and group billing in physical rehabilitation
clinics that we acquired from NovaCare. On February 1, 2000 the unnamed
defendants were dismissed with prejudice, however the relator plaintiff has
recently made a motion to name us as a defendant in this case. NAHC has agreed
to fully indemnify us for any losses which could result from this case. NAHC
has sold all of its operating entities. Based on our review of the complaint,
we do not believe that this lawsuit is meritorious, and if we or any of the
NovaCare companies we acquired are named as a defendant, we intend to
vigorously defend against this action. However, because of the uncertain nature
of the litigation, we cannot predict the outcome of this matter.

In addition, as part of our business, we are subject to legal actions
alleging liability on our part. To cover claims arising out of the operations
of our hospitals and outpatient rehabilitation facilities, we generally
maintain professional malpractice liability insurance and general liability
insurance on a claims made basis in amounts and with deductibles that we
believe to be sufficient for our operations. We also maintain umbrella

52
<PAGE>

liability coverage covering claims which, due to their nature or amount, are
not covered by our insurance policies. We cannot assure you that professional
liability insurance will cover all claims against us or continue to be
available at reasonable costs for us to maintain adequate levels of insurance.
See "Risk Factors--Significant legal actions could subject us to substantial
uninsured liabilities."

Competition

We compete primarily on the basis of pricing and quality of the patient
services we provide. Our specialty acute care hospitals face competition
principally from general acute care hospitals in the communities in which we
operate. General acute care hospitals often have the capability to provide the
same services we provide. Our hospitals also face competition from large
national operators of similar facilities, such as Vencor, Inc.

Our outpatient rehabilitation clinics face competition principally from
locally owned and managed outpatient rehabilitation clinics in the communities
they serve. Many of these clinics have longer operating histories and greater
name recognition in these communities than our clinics, and they may have
stronger relations with physicians in these communities on whom we rely for
patient referrals. In addition, HealthSouth Corporation, which operates more
outpatient rehabilitation clinics in the United States than we do, competes
with us in many of our markets.

Compliance Program

Our Compliance Program

In late 1998, we voluntarily adopted our code of conduct, which is the
basis for our company-wide compliance program. Our written code of conduct
provides guidelines for principles and regulatory rules that are applicable to
our patient care and business activities. These guidelines are implemented by a
compliance officer, a director of compliance who assists the compliance
officer, a compliance committee and sub-committees, and employee education and
training. We also have established a reporting system, auditing and monitoring
programs, and a disciplinary system as a means for enforcing the code's
policies.

Operating Our Compliance Program

We focus on integrating compliance responsibilities with operational
functions. We recognize that our compliance with applicable laws and
regulations depends upon individual employee actions as well as company
operations. We therefore have adopted an operations team approach to
compliance, and we utilize corporate experts for the program design efforts of
our compliance committee. We use facility leaders in our compliance sub-
committees for employee-level implementation of our code of conduct. This
approach is intended to enforce our company-wide commitment to operate in
accordance with the laws and regulations that govern our business.

Compliance Committee

Our compliance committee is made up of members of our senior management
and in-house counsel. The compliance committee meets on a quarterly basis and
reviews the activities, reports and operation of our compliance program. In
addition, the compliance sub-committees meet on a regular basis and review
compliance for each of our business divisions.

Compliance Issue Reporting

In order to facilitate our employees' ability to report known, suspected
or potential violations of our code of conduct, we have developed a system of
anonymous reporting. This anonymous reporting may be

53
<PAGE>

accomplished through our toll-free compliance hotline or our compliance post
office box. Each compliance incident is reviewed by the compliance officer and
the compliance committee and is investigated in accordance with the compliance
department's investigation policy.

Compliance Monitoring and Auditing/Comprehensive Training and Education

Monitoring reports and the results of compliance for each of our business
divisions are reported to the compliance committee on a quarterly basis. We
regularly train and educate our employees regarding the code of conduct, as
well as the legal and regulatory requirements relevant to each employee's work
environment. All new and current employees are required to sign a compliance
certification form, certifying that the employee has read, understood, and has
agreed to abide by the code of conduct.

Policies and Procedures Reflecting Compliance Focus Areas

We review our current policies and procedures for our compliance program,
and we intend to continue to review them on an annual basis in order to improve
operations and to ensure compliance with requirements of standards, laws and
regulations and to reflect the on-going compliance focus areas which have been
identified by the compliance committee.

Facilities

We currently lease most of our facilities, including clinics, offices,
long term acute care hospitals and the corporate headquarters. We lease all of
our clinics and related offices, which, as of September 30, 2000, included
approximately 632 outpatient rehabilitation clinics throughout the United
States and Canada. The outpatient rehabilitation clinics generally have a five-
year lease term with two three-year renewals.

We also lease all of our hospital facilities except for one 176,000
square foot facility located in Houston, Texas. As of September 30, 2000, we
had 49 hospital within a hospital leases and one freestanding building lease.

We generally seek a five-year lease for our hospitals, with an additional
five-year renewal at our option. We lease our corporate headquarters, which is
approximately 56,000 square feet, located in Mechanicsburg, Pennsylvania. We
lease several other administrative spaces related to administrative and
operational support functions. As of September 30, 2000, this was comprised of
13 locations throughout the U.S. with approximately 106,000 square feet in
total.

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<PAGE>

MANAGEMENT

Directors and Executive Officers

Our directors and executive officers, their ages and their positions are
as follows:

<TABLE>
<CAPTION>
Name Age Position
---- --- --------
<C> <C> <S>
Rocco A. Ortenzio................... 68 Chairman and Chief Executive Officer
Director, President and Chief
Robert A. Ortenzio.................. 43 Operating Officer
Russell L. Carson................... 57 Director
Bryan C. Cressey.................... 51 Director
Donald J. Edwards................... 34 Director
Meyer Feldberg...................... 58 Director
Director and Executive Vice
LeRoy S. Zimmerman.................. 65 President-Public Policy
Executive Vice President of
Patricia A. Rice.................... 53 Operations
Senior Vice President and Chief
David W. Cross...................... 53 Development Officer
Senior Vice President, Human
S. Frank Fritsch.................... 49 Resources
Senior Vice President and Chief
Martin F. Jackson................... 46 Financial Officer
Senior Vice President, General
Michael E. Tarvin................... 40 Counsel and Secretary
President, NovaCare Rehabilitation
Edward R. Miersch................... 44 Division
</TABLE>

Rocco A. Ortenzio co-founded our company and has served as Chairman and
Chief Executive Officer since February 1997. In 1986, he co-founded Continental
Medical Systems, Inc., a provider of comprehensive medical rehabilitation
services, and served as its Chairman and Chief Executive Officer until July
1995, when it merged with Horizon Healthcare Corporation. In 1979, Mr. Ortenzio
founded Rehab Hospital Services Corporation, a hospital chain acquired by
National Medical Enterprises, Inc. (now called Tenet Healthcare Corporation) in
January 1985, and served as its Chairman and Chief Executive Officer until June
1986. In 1969, Mr. Ortenzio founded Rehab Corporation and served as its
Chairman and Chief Executive Officer until 1974, when it merged with American
Sterilizer Company. From 1996 to 1999, he served on the Board of Governors of
the Pennsylvania State System of Higher Education. Mr. Ortenzio serves as a
director of Quorum Health Group Inc., and PHICO Insurance Company, and is a
fund advisor to HLM Partners, Inc., a venture capital firm located in Boston,
Massachusetts, and Dauphin Capital Partners, a venture capital fund located in
Locust Valley, New York. Mr. Ortenzio is the father of Robert A. Ortenzio, our
President and Chief Operating Officer.

Robert A. Ortenzio co-founded our company and has served as a director
and President and Chief Operating Officer since February 1997. He was an
Executive Vice President and a director of Horizon/CMS Healthcare Corporation
from July 1995 until July 1996. Mr. Ortenzio co-founded Continental Medical
Systems, Inc. and served as its President and Chief Executive Officer from May
1989 and July 1995, respectively, until August 1996. Prior to that time, he
served as Chief Operating Officer of Continental Medical Systems, Inc. from
April 1988 to July 1995. Mr. Ortenzio joined Continental Medical Systems, Inc.
as a Senior Vice President in February 1986. Before then, he was a Vice
President of Rehab Hospital Services Corporation. Mr. Ortenzio serves as a
director of U.S. Oncology, Inc. Mr. Ortenzio is the son of Rocco A. Ortenzio,
our Chief Executive Officer.

Russell L. Carson has been a director since February 1997. He co-founded
Welsh, Carson, Anderson & Stowe in 1978 and has focused on healthcare
investments. Welsh, Carson, Anderson & Stowe has created eleven institutionally
funded limited partnerships with total capital of $8 billion and has invested
in more than 200 companies. Before co-founding Welsh, Carson, Anderson & Stowe,
Mr. Carson was employed by Citicorp Venture Capital Ltd., a subsidiary of
Citigroup, Inc., and served as its Chairman and Chief Executive Officer from
1974 to 1978. Mr. Carson serves as a director of Quorum Health Group, Inc. and
U.S. Oncology, Inc.

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<PAGE>

Bryan C. Cressey has been a director since February 1997. He has been a
principal at Thoma Cressey Equity Partners since June 1998 and a principal at
Golder, Thoma, and Cressey and Rauner, the predecessor of GTCR Golder Rauner,
LLC, prior to 1995. He serves as a director of Clarion Technologies Inc. and
Cable Design Technologies Corp.

Donald J. Edwards has been a director since February 1997. He has been a
principal at GTCR Golder Rauner, LLC since 1996 and was an associate there from
1994 to 1996. He serves as a director of American Habilitation Services,
Dynacare, American Medical Laboratories, CompDent Corporation, PSINet
Consulting Solutions, Inc., LifeCare Management Services, Park City Solutions,
Inc., AccounTEC Inc. and Wallace Theater Corporation.

Meyer Feldberg has been a director since September 2000. He has served as
professor of management and the dean of Columbia Business School since 1989. He
serves as a director of Federated Department Stores, Revlon, Inc., Primedia
Inc. and PaineWebber Mutual Funds.

LeRoy S. Zimmerman has served as Executive Vice President of Public
Policy since September 2000 and as a director since October 1998. He was an
equity member of the law firm Eckert Seamans Cherin & Mellott, LLC, from April
1989 to September 2000. At Eckert Seamans, he served as Chairman of the Board
of Directors from January 1994 to September 2000, and Chairman of its Executive
Committee from June 1997 to September 2000. Before joining Eckert Seamans, Mr.
Zimmerman served as Pennsylvania's first elected Attorney General from January
1981 to January 1989, and District Attorney of Dauphin County, Pennsylvania
from to 1965 to 1980.

Patricia A. Rice has served as Executive Vice President of Operations
since November 1999. She served as Senior Vice President of Hospital Operations
from December 1997 to November 1999. She was Executive Vice President of the
Hospital Operations Division for Horizon/CMS Healthcare Corporation from August
1996 until December 1997. Prior to that time, she served in various management
positions at Horizon/CMS Healthcare Corporation from 1987 to 1996.

David W. Cross has served as Senior Vice President & Chief Development
Officer since December 1998. Before joining us, he was President and Chief
Executive Officer of Intensiva Healthcare Corporation from 1994 until we
acquired it. Mr. Cross was a founder, the President and Chief Executive
Officer, and a director of Advanced Rehabilitation Resources, Inc., and served
in each of these capacities from 1990 to 1993. From 1987 to 1990, he was Senior
Vice President of Business Development for RehabCare Group, Inc., a publicly
traded rehabilitation care company, and in 1993 and 1994 served as Executive
Vice President and Chief Development Officer of RehabCare Group, Inc.

S. Frank Fritsch has served as Senior Vice President of Human Resources
since November 1999. He served as our Vice President of Human Resources from
June 1997 to November 1999. Prior to June 1997, he was Senior Vice President--
Human Resources for Integrated Health Services from May 1996 until June 1997.
Prior to that time, Mr. Fritsch was Senior Vice President--Human Resources for
Continental Medical Systems from August 1992 to April 1996. From 1980 to 1992,
Mr. Fritsch held senior human resources positions with Mercy Health Systems,
Rorer Pharmaceuticals, ARA Mark and American Hospital Supply Corporation.

Martin F. Jackson has served as Senior Vice president and Chief Financial
Officer since May 1999. Mr. Jackson previously served as a Managing Director of
the Health Care Investment Banking Group for CIBC Oppenheimer from January 1997
to May 1999. Prior to that time, he served as Senior Vice President, Health
Care Finance with McDonald & Company Securities, Inc. from January 1994 to
January 1997. Prior to 1994, Mr. Jackson held senior financial positions with
Van Kampen Merritt, Touche Ross, Honeywell and L'Nard Associates.

56
<PAGE>

Michael E. Tarvin has served as Senior Vice President, General Counsel
and Secretary since November 1999. He served as our Vice President, General
Counsel and Secretary from February 1997 to November 1999. He was Vice
President--Senior Counsel of Continental Medical Systems from February 1993
until February 1997. Prior to that time, he was Associate Counsel of
Continental Medical Systems from March 1992. Mr. Tarvin was an associate at
the Philadelphia law firm of Drinker Biddle & Reath, LLP from September 1985
until March 1992.

Edward R. Miersch has served as President of our NovaCare Rehabilitation
Division since January 2000. Prior to that time, Mr. Miersch was Vice
President of Ambulatory Services of Mercy Health System from December 1998 to
October 1999. From 1997 until 1998, Mr. Miersch was Senior Vice President and
Chief Operating Officer of U.S. Physicians, Inc., an integrator and manager of
physician practices, which declared bankruptcy in November 1998. From 1996
until 1997, Mr. Miersch served as Vice President -- Operations of U.S.
Physicians, Inc. From 1993 until 1996, Mr. Miersch served as Eastern Region
President of the Outpatient Rehabilitation Division of the former NovaCare,
Inc. He served as President of Sports Physical Therapists, Inc. from 1980
until September 1993, when that company was acquired by RehabClinics, Inc., a
company which was itself in turn acquired by NovaCare, Inc. in early 1994. Mr.
Miersch also served as Director of Physical Therapy and Sports Medicine at
Haverford Community Hospital from 1980 to 1986.

Classes of the Board

Our board of directors is divided into three classes that serve staggered
three-year terms as follows:

<TABLE>
<CAPTION>
Class Expiration Member
------------------------ ---------- -------
<C> <C> <S>
Class I Messrs.
Class II Messrs.
Class III Messrs.
</TABLE>

Board Committees

The compensation committee reviews and makes recommendations to the board
regarding the compensation to be provided to our Chief Executive Officer and
our directors. In addition, the compensation committee reviews compensation
arrangements for our other executive officers. The compensation committee also
administers our equity compensation plans. The current members of the
compensation committee are Messrs. Carson and Cressey.

The audit committee reviews and monitors our corporate financial
reporting, external audits, internal control functions and compliance with
laws and regulations that could have a significant effect on our financial
condition or results of operations. In addition, the audit committee has the
responsibility to consider and recommend the appointment of, and to review fee
arrangements with, our independent auditors. Mr. Feldberg is currently the
sole member of our audit committee. We intend to name two additional
independent directors to our audit committee within 90 days following the
completion of the offering.

Director Compensation and Other Arrangements

We do not pay cash compensation to our employee directors, however they
are reimbursed for the expenses they incur in attending meetings of the board
or board committees. Non-employee directors, other than non-employee directors
appointed by Welsh, Carson, Anderson & Stowe; GTCR Golder Rauner, LLC and
Thoma Cressey Equity Partners, receive cash compensation in the amount of
$5,000 per quarter and $1,250 per board meeting attended. All non-employee
directors are also reimbursed for the expenses they incur in attending
meetings of the board or board committees. In addition, non-employee directors
are eligible to receive options to purchase common stock awarded under our
1997 Stock Option Plan. See "Select Medical Corporation 1997 Amended and
Restated Stock Option Plan."

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<PAGE>

Compensation Committee Interlocks and Insider Participation

Upon completion of this offering, our compensation committee will make
all compensation decisions regarding our executives. Messrs. Carson and Cressey
have served as the only members of the compensation committee since we formed
the committee in 1997.

Executive Compensation

The following table provides summary information concerning the
compensation earned by our Chief Executive Officer and our four most highly
paid executive officers other than our Chief Executive Officer employed by us
during the fiscal year ended December 31, 1999.

Summary Compensation Table

<TABLE>
<CAPTION>
Long-Term
Annual Compensation Compensation
---------------------------------- ------------
Securities
Other Underlying
Name and Principal Position Salary Bonus Compensation (a) Options/SARs
--------------------------- -------- -------- ---------------- ------------
<S> <C> <C> <C> <C>
Rocco A. Ortenzio
Chairman and Chief Executive
Officer....................... $387,222 $193,611 $ -- 1,137,230
Robert A. Ortenzio (b)
President and Chief Operating
Officer....................... 334,669 165,446 3,976 758,154
Patricia A. Rice (b)
Executive Vice President of
Operations.................... 233,450 90,000 4,611 --
David W. Cross (c)
Senior Vice President and
Chief Development Officer..... 190,000 76,000 687,150 --
S. Frank Fritsch
Senior Vice President of Human
Resources (b)................. 183,041 72,000 4,931 --
</TABLE>
--------
(a) The value of certain perquisites and other personal benefits is not
included in the amounts disclosed because it did not exceed for any officer
in the table above the lesser of either $50,000 or 10% of the total annual
salary and bonus reported for such officer.
(b) Other compensation represents employer matching contributions to the 401(k)
plan.
(c) Other compensation paid to Mr. Cross includes $380,000 to terminate his
employment agreement with Intensiva Healthcare Corporation, $300,000 as a
sign-on bonus and $7,150 as a car allowance.

Option Grants During the Year Ended December 31, 1999

The following tables set forth certain information concerning grants to
purchase shares of our common stock of each of the officers named in the
summary compensation table above during the year ended December 31, 1999.

<TABLE>
<CAPTION>
Potential Realizable Value at
Number of Percentage of Exercise Assumed Annual Rates of Stock
Securities Total Options Price Price Appreciation for
Underlying Granted to per Option Term (c)
Options Employees in Share Expiration ------------------------------
Name Granted (a) 1999 (b) Date 5% 10%
---- ---------- ------------- -------- ---------- -------------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Rocco A. Ortenzio....... 1,137,230 51.9% $ 11/18/09
Robert A. Ortenzio...... 758,154 34.6% $ 11/18/09
</TABLE>
--------
(a) All options granted to employees are either incentive stock options or
nonqualified stock options and generally vest over five years at the rate
of 20% of the shares subject to the option per year. Unvested

58
<PAGE>

shares are subject to a right of repurchase upon termination of employment.
Options expire ten years from the date of grant.
(b) We granted options at an exercise price equal to the fair market value of
our common stock on the date of grant, as determined by our board of
directors.
(c) These amounts represent hypothetical gains that could be achieved for the
respective options if exercised at the end of the option term. These gains
are based on assumed rates of stock price appreciation of 5% and 10%
compounded annually from the date the respective options were granted to
their expiration dates based upon an assumed initial public offering price
of $ per share, the midpoint of the range of initial public offering
prices set forth on the cover page of this prospectus. These assumptions
are not intended to forecast future appreciation of our stock price. The
potential realizable value computation does not take into account federal
or state income tax consequences of option exercises or sales of
appreciated stock.

Year End December 31, 1999 Option Values

The following table sets forth certain information concerning option
exercises by each of the officers named in the above summary compensation
table.

<TABLE>
<CAPTION>
Number of Securities
Underlying Unexercised Value of Unexercised In-
Options at Fiscal Year The Money Options at
Shares End Fiscal Year End (a)
Acquired on Value ------------------------- -------------------------
Name Exercise Realized Exercisable Unexercisable Exercisable Unexercisable
---- ----------- -------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Rocco A. Ortenzio....... 0 $ 0 2,787,230 0
Robert A. Ortenzio...... 0 0 1,308,154 0
David W. Cross.......... 0 0 50,000 50,000
</TABLE>
--------
(a) Based on an assumed initial public offering price of $ per share, the
midpoint of the range of initial public offering prices set forth on the
cover page of this prospectus, less the exercise price, multiplied by the
number of shares underlying the option.

Employment Agreements

In March 2000, we entered into three-year employment agreements with
three of our executive officers, Mr. Rocco A. Ortenzio, Mr. Robert A. Ortenzio
and Ms. Patricia A. Rice. Under these agreements, which were amended on August
8, 2000, the executives officers are to be paid an annual salary of $800,000,
$700,000 and $500,000, respectively, subject to adjustment by our board of
directors. In addition, these executives are eligible for bonus compensation.
The employment agreements also provide that the executive officers will
receive long term disability insurance. In the event Mr. Rocco A. Ortenzio's
employment is terminated due to his disability, we must make salary
continuation payments to him equal to 100% of his annual base salary for ten
years after his date of termination or until he is physically able to become
gainfully employed in an occupation consistent with his education, training
and experience. We are also obligated to make disability payments to Mr.
Robert A. Ortenzio and Ms. Patricia A. Rice for the same period, however,
payments to them must equal 50% of their annual base salary. In addition, Mr.
Rocco A. Ortenzio and Mr. Robert A. Ortenzio are each entitled to six weeks
paid vacation. Ms. Patricia A. Rice is entitled to four weeks paid vacation.

Under the terms of each of these executive officers' employment
agreements, their employment term begins on March 1, 2000 and expires on March
1, 2003. At the end of each 12-month period beginning March 1, 2000, the term
of each employment agreement automatically extends for an additional year
unless one of the executives or we give written notice to the other not less
than three months prior to the end of that 12-month period that we or they do
not want the term of the employment agreement to continue. Thus, in the
absence of written notice given by one of the executives or us, the remaining
term of each employment agreement will be three years from each anniversary of
March 1, 2000.

59
<PAGE>

These three employment agreements also contain a change of control
provision. If, in connection with change of control of Select, we terminate Mr.
Rocco A. Ortenzio, Mr. Robert A. Ortenzio or Ms. Patricia A. Rice without
cause, Mr. Rocco A. Ortenzio or Mr. Robert A. Ortenzio terminates his
employment agreement for any reason, or Ms. Patricia A. Rice terminates her
employment agreement for certain specified reasons, we are obligated to pay
them a lump sum cash payment equal to their base salary plus bonus for the
previous three completed calendar years. In addition, all of their unvested and
unexercised stock options will vest. A change in control means, in general, the
acquisition by a person or group (other than our current stockholders who own
12% or more of the common stock) of more than 50% of our common stock; a
business combination following which 50% or more of our voting power is
transferred to the stockholders of the other entity; or our current directors
cease to constitute at least a majority of our board. Notwithstanding the
foregoing, no change in control will be deemed to have occurred unless the
transaction provides our stockholders with consideration equal to or greater
than $ per share of common stock. Otherwise, if any of the executives'
services are terminated by us other than for cause or they terminate their
employment for good reason, we are obligated to pay them a pro-rated bonus for
the year of termination equal to the product of the bonus paid or payable to
them for the year prior to their termination, multiplied by the fraction of the
year of termination they were employed.

Under amendments to Mr. Rocco A. Ortenzio's senior management and
employment agreements, we are obligated to pay premiums on life insurance
policies held in the Rocco A. Ortenzio Irrevocable Trust, provided that Mr.
Ortenzio remains employed by us. We are obligated under these arrangements to
pay approximately $2.0 million in premiums in 2000, and $1.25 million for each
of the years 2001 through 2010. Under a related collateral assignment
agreement, upon Mr. Ortenzio's death, or if the trust surrenders these
policies, we are entitled to be repaid, at our election, by the trust for the
amount of the premiums we have paid over the life of the policies. We can be
paid with the proceeds of a loan, the partial surrender or withdrawal of the
policy.

We have also entered into a deferred compensation agreement with Mr.
Rocco A. Ortenzio, pursuant to which Mr. Ortenzio has deferred all of his
compensation, including his salary and bonus, since March 1, 1997. This amount
accrued interest at a rate of 6% from March 1, 1997 to December 31, 1999, and
no interest thereafter. We will pay these funds to his spouse or his estate
within 60 days after his death. The agreement does not apply to compensation
earned after December 31, 2000.

In December 1998, we entered into a two year employment agreement with
David W. Cross, which was extended until December 31, 2001. Under this
agreement, we granted him options to purchase 100,000 shares of our common
stock at an exercise price of $ per share with 50% of the options vesting
on December 16, 1999 and the other 50% vesting on December 16, 2000. In
addition, Mr. Cross was given a one-time opportunity to purchase up to 75,000
shares of our common stock on or before December 31, 1998 at a purchase price
of $ per share. Mr. Cross is entitled to receive an annual salary of
$190,000 and incentive compensation at the discretion of our chairman or
president. Further, Mr. Cross is entitled to any employment and fringe benefits
under our policies as they exist from time to time and which are no less
favorable than those received by our senior vice presidents. If we terminate
Mr. Cross' employment services other than for cause, we are obligated to pay to
him one-year of his base salary in a lump sum as severance pay.

In March 2000, we entered into a change of control agreement with Mr. S.
Frank Fritsch, which provides that if, in connection with a change of control,
we terminate Mr. Fritsch without cause or Mr. Fritsch terminates his employment
for good reason, we are obligated to pay him a lump sum cash payment equal to
his base salary plus his bonus for the previous three completed calendar years.
In addition, the agreement provides that all unvested stock options will vest
upon termination. A change in control means in general, the acquisition by a
person or group (other than our current stockholders who own 12% or more of the
common stock) of more than 50% of our common stock; a business combination in
which 50% or more of our voting power is transferred to the stockholders of the
other entity; or our current directors cease to constitute at least a majority
of our board. In June 1997, we entered into a senior management agreement with
Mr. Fritsch, which will

60
<PAGE>

continue in effect until termination by either us or Mr. Fritsch. Under this
agreement, Mr. Fritsch is employed as our Vice President of Human Resources at
an annual base salary of $130,000, subject to adjustment by our board of
directors.

Select Medical Corporation Amended and Restated 1997 Stock Option Plan

The board of directors adopted the Select Medical Corporation 1997 Stock
Option Plan effective as of October 30, 1997 and amended and restated as of
October 26, 2000. The plan provides for the grant of stock options to
designated officers, key employees, non-employee directors and consultants of
ours and our subsidiaries.

Purpose. The purpose of the plan is to promote our interests and the
interests of our stockholders by attracting and retaining valued officers, key
employees, non-employee directors and consultants, and to motivate these
persons to exercise their best efforts on our behalf.

Administration. A committee comprised of at least two non-employee,
outside directors, has been appointed by the board of directors to administer
the plan. The committee has full authority, subject to the terms of the plan,
to do the following:

. interpret and administer the plan;

. select who among the eligible individuals will participate in the
plan;

. determine the terms, conditions and types of awards given under the
plan; and

. resolve all controversies and claims arising under the plan.

All determinations made by the committee are conclusive and binding on all
persons.

Eligibility. Any officer, key employee (including any director who is
also an employee), non-employee director or consultant providing services to us
or our subsidiaries is eligible to participate in the plan, provided that non-
employee directors and consultants are not be eligible to receive incentive
stock options.

Number of Shares. The plan provides for the issuance of up to a total of
10,000,000 shares of our common stock, plus any additional amount (the
additional amount will be calculated each year) necessary to make the total
shares available for issuance under the plan equal to the sum of 10,000,000
plus 14% of the total issued and outstanding common stock in excess of
60,000,000 shares, subject to adjustments for stock splits, stock dividends and
similar changes in our capitalization. If any awards expire or otherwise
terminate prior to being exercised, then the shares of common stock subject to
the awards will be available again for grants under the plan. In addition, when
an option is exercised, the number of shares issued in connection with the
option will be added to the amount available under the plan, so that the total
number of shares available for awards under the plan will never be less than
14% of our total outstanding common stock. No individual employee may receive
awards covering more than 10,000,000 shares under the plan during any calendar
year.

Types of Awards. The plan provides for the grant of stock options. A
stock option is a grant by us of the right to purchase a specified number of
shares of our common stock for a specified time period at a fixed price.
Options may be either incentive stock options meeting the requirements of
Section 422 of the Internal Revenue Code or non-qualified stock options. All
options are evidenced by written option agreements containing the term and
conditions of the options.

The exercise price of an option is determined by the committee, but, in
the case of incentive stock options, the exercise price will not be less than
the fair market value of a share of common stock on the date of grant (or 110%
of such fair market value if the option is granted to a person who owns more
than 10% of the voting power of the company at the time the option is granted
to him). The term of an option may not be

61
<PAGE>

greater than ten years (or five years for an incentive stock option granted to
a person who owns more than 10% of the voting power of the company). Options
are generally not transferable during the optionee's lifetime, but the
committee may provide in an option agreement that a non-qualified stock option
is transferable pursuant to limitations and conditions determined by the
committee.

Options may be exercised in several ways, including by payment of the
exercise price in cash or its equivalent, by delivery of qualified shares of
our common stock, or any combination of such methods, or, if permitted by the
committee, with the proceeds of a loan from us. Any such loan could be secured
by the stock acquired pursuant to the exercise of the option or by any other
security as determined by the committee.

Amendment and Termination. The plan will terminate on midnight of October
29, 2007, unless terminated earlier by the board of directors. The board of
directors has authority to amend, suspend or terminate the plan at any time.
However, no termination or amendment of the plan may materially impair the
rights of an option holder without the consent of the holder. In addition, the
following amendments will require prior stockholder approval:

. any amendment that would, if it were not approved by the
stockholders, cause the plan to fail to comply with any requirement
of applicable law or regulation;

. any amendment that requires stockholder approval under the rules and
regulations of the Nasdaq National Market System or any securities
exchange that are applicable to us;

. any amendment that would, if it were not approved by the
stockholders, cause us, under the Internal Revenue Code, to be unable
to grant incentive stock options under the plan; or

. any amendment for which shareholder approval is required pursuant to
Treas. Reg. Section 1.162-27(e)(4)(vi) or its successor.

62
<PAGE>

RELATED PARTY TRANSACTIONS

Rocco A. Ortenzio and Robert A. Ortenzio, two of our directors and
executive officers, Golder, Thoma, Cressey, Rauner Fund V L.P. ("Golder Thoma")
and Welsh, Carson, Anderson & Stowe ("Welsh Carson"), were involved in our
founding and organization and may be considered our promoters. In December of
1998 Rocco A. Ortenzio and Robert A. Ortenzio received options under our 1997
Stock Option Plan to purchase 1,650,000 and 550,000 shares of our common stock,
respectively, at an exercise price of $ per share. In November 1999, Rocco
A. Ortenzio and Robert A. Ortenzio received additional options to purchase
1,137,230 and 758,154 shares of our common stock, respectively, at an exercise
price of $ per share.

Rocco A. Ortenzio, Robert A. Ortenzio, Golder Thoma and Welsh Carson
participated in our initial funding and from time to time since our founding
have each purchased common and preferred stock from us. The following table
sets forth the number of shares of our common and preferred stock (as adjusted
for subsequent stock splits) purchased by Rocco A. Ortenzio, Robert A.
Ortenzio, Golder Thoma and its affiliates, and Welsh Carson and its affiliates,
the date of each purchase and the amounts received by us from each of the
purchases of our capital stock. As adjusted for stock splits, our common stock
was sold for $ per share until December 15, 1998, $ per share until
November 19, 1999 and for $ per share thereafter. Our Class A Preferred
Stock was sold for $1,000 per share, and our Class B Preferred Stock was sold
for $ per share.

<TABLE>
<CAPTION>
Shares of Shares of
Shares of Class A Class B Amount
Common Preferred Preferred Received
Stock Stock Stock by
Name Date Purchased Purchased Purchased Select
---- -------- --------- --------- --------- --------
<S> <C> <C> <C> <C> <C>
Rocco A. Ortenzio (a).......... 2/5/97 2,255,251 -- -- $
5/7/97 256,221 128 --
6/18/97 -- 109 --
2/9/98 -- 502 --
4/29/98 -- 355 --
6/3/98 -- 563 --
6/30/98 -- 173 --
7/20/98 244,511 -- --
10/21/98 -- 468 --
12/16/98 630,615 -- --
2/29/00 67,000 -- --

Robert A. Ortenzio (b)......... 2/5/97 1,379,114 -- --
5/7/97 153,247 66 --
6/18/97 -- 56 --
2/9/98 -- 257 --
4/29/98 -- 182 --
6/3/98 -- 288 --
6/30/98 -- 89 --
10/21/98 -- 239 --
12/16/98 138,654 -- --
2/29/00 33,400 -- --
</TABLE>

63
<PAGE>

<TABLE>
<CAPTION>
Shares of Shares of
Shares of Class A Class B
Common Preferred Preferred Amount
Stock Stock Stock Received by
Name Date Purchased Purchased Purchased Select
---- -------- ---------- --------- --------- -----------
<S> <C> <C> <C> <C> <C>
Welsh, Carson Anderson & 2/5/97 5,185,740 -- -- $
Stowe.................. 5/7/97 1,949,760 1,254 --
6/18/97 -- 1,069 --
2/9/98 -- 4,940 --
4/29/98 -- 3,494 --
6/3/98 -- 5,535 --
6/30/98 -- 1,704 --
10/21/98 -- 4,603 --
12/16/98 10,698,058(c) -- --
11/19/99 1,667,000(d) -- 7,531,424

GTCR Golder Rauner, 2/5/97 5,450,640 -- --
LLC.................... 5/7/97 2,049,360 1,319 --
6/18/97 -- 1,123 --
2/9/98 -- 5,193 --
4/29/98 -- 3,671 --
6/3/98 -- 5,819 --
6/30/98 -- 1,791 --
10/21/98 -- 4,837 --
12/16/98 4,260,714 -- --
11/19/99 -- -- 1,983,333

</TABLE>
--------
(a) Includes 388,099 common shares and 526 Class A Preferred shares originally
purchased by Select Investments II and 753,619 common shares and 1,769
Class A Preferred shares originally purchased by Select Partners, L.P.,
which were later distributed to Rocco A. Ortenzio upon the dissolution of
those partnerships.
(b) Includes 339,587 common shares and 461 Class A Preferred shares originally
purchased by Select Investments II and 304,037 common shares and 714 Class
A Preferred shares originally purchased by Select Partners, L.P., which
were later distributed to Robert A. Ortenzio upon the dissolution of those
partnerships.
(c) Includes 2,653,060 common shares that were purchased along with $35 million
principal amount Senior Subordinated Note for $35 million.
(d) Includes 1,667,000 common shares that were purchased along with $25 million
principal amount Senior Subordinated Note us for $25 million. If we repay
this Note in full prior to November 19, 2001, which we plan to do with a
portion of the proceeds of this offering, Welsh Carson will return to us
416,750 of these shares.

In 1997 we entered into a shareholders agreement with our principal
stockholders, including Welsh Carson, Golder Thoma, Mr. Rocco A. Ortenzio and
Mr. Robert A. Ortenzio. The shareholders agreement terminates by its terms upon
the completion of this offering. Members of our management have also been
granted preemptive rights with respect to our capital stock. These arrangements
will be terminated prior to or upon completion of this offering.

Pursuant to the Warrant Agreement dated June 30, 1998, as amended on
February 9, 1999 and amended and restated on November 19, 1999, to induce our
financial sponsors, Welsh Carson and Golder Thoma to partially guarantee our
senior debt, Rocco A. Ortenzio and Robert A. Ortenzio each agreed to make
contributions to those financial sponsors if those guarantees were enforced by
our senior lenders. In exchange

64
<PAGE>

for the promise of these guarantees by our financial sponsors and the promise
of contributions by Rocco A. Ortenzio and Robert A. Ortenzio, we have issued
warrants to purchase shares of our common stock to Golder Thoma, Rocco A.
Ortenzio, Robert A. Ortenzio and two affiliates of Welsh Carson. The following
table sets forth the dates of the grants and the number of shares issuable on
exercise of the warrants. All warrants expire on June 30, 2003 and are
exercisable at $ per share.

<TABLE>
<CAPTION>
Golder, Thoma,
Welsh, Carson, WCAS Capital Cressey,
Date of Anderson & Stowe, Partners, III, Rauner Fund Rocco A. Robert A.
Issue VII, L.P. L.P. V, L.P. Ortenzio Ortenzio
------- ----------------- -------------- -------------- -------- ---------
<S> <C> <C> <C> <C> <C>
06/30/98 376,370 -- 376,370 -- 78,080
07/11/98 -- -- -- 169,180 --
10/31/98 188,185 -- 188,185 84,590 39,040
01/29/99 188,185 -- 188,185 84,590 39,040
04/30/99 17,923 3,238 21,161 9,512 4,390
07/31/99 38,610 6,975 45,585 20,490 9,457
10/31/99 38,837 7,015 45,852 20,610 9,512
01/31/00 82,957 15,644 98,601 32,228 15,203
04/30/00 94,710 18,040 112,750 33,550 15,950
07/31/00 94,710 18,040 112,750 33,550 15,950
09/22/00 54,561 10,393 64,954 19,328 9,188
--------- ------ --------- ------- -------
1,175,048 79,345 1,254,393 507,628 235,810
</TABLE>

On December 15, 1998, we issued an aggregate of 21,224,489 shares of our
common stock. Of this amount, 4,067,857 common shares were purchased by Thoma
Cressey Fund VI, L.P., 142,857 shares were purchased by Bryan C. Cressey and
119,151 common shares were purchased by Russell L. Carson. Also, Select
Healthcare Investors, L.P., in which the general partner is partially owned by
Rocco A. Ortenzio and Robert A. Ortenzio, purchased 428,572 common shares. WCAS
Capital Partners III, L.P. purchased 2,653,060 of these shares and a 10% Senior
Subordinated Note for an aggregate purchase price of $35 million. WCAS Capital
Partners III, L.P. then purchased an additional $30 million principal amount of
Senior Subordinated Notes from us for $30 million in cash. These 10% Senior
Subordinated Notes are due December 15, 2008. We paid Welsh Carson, Golder
Thoma, Mr. Rocco A. Ortenzio and Mr. Robert A. Ortenzio an investment fee equal
to 1% of the cash consideration they and their affiliates paid for the
securities purchased in this offering.

On November 19, 1999, in connection with the NovaCare acquisition, we
issued an aggregate of 16,000,000 shares of our Class B Preferred Stock at a
price of $ per share. Of this amount, 7,531,424 shares were purchased by
affiliates of Welsh Carson, 111,216 shares were purchased by Russell L. Carson,
1,983,333 shares were purchased by affiliates of Golder Thoma and 5,950,000
shares were purchased by Thoma Cressey. At the same time, WCAS Capital Partners
III, L.P. purchased 1,667,000 shares of our common stock and a 10% Senior
Subordinated Note for an aggregate purchase price of $25 million. The Note is
due November 19, 2009, however, if we repay the principal amount and all
accrued and unpaid interest in full by November 19, 2001, WCAS Capital Partners
III, L.P. will transfer 416,750 shares of our common stock to us. We plan to
repay this Note in full with the proceeds of this offering. We paid Welsh
Carson and Golder Thoma an investment fee equal to 1% of the cash consideration
they and their affiliates paid for the securities purchased in this offering.

On May 5, 1999 we loaned $120,000 to Martin F. Jackson, our Chief
Financial Officer, to assist him in purchasing 34,286 shares of our common
stock at a price of $ per share. The loan is interest-free, and will be
forgiven in principal amounts of $20,000 every six months from the date of the
loan. As of the date of this prospectus, $80,000 remains outstanding on this
loan.

65
<PAGE>

In April 2000, we sold all of the assets of Georgia Health Group, Inc. to
Concentra Health Services, Inc. for $5 million. Welsh Carson beneficially owns
a majority of the capital stock of Concentra Health Services. We believe the
terms of this transaction were no less favorable to us than they would have
been in an arm's length transaction with a third party.

In 1997, in connection with a terminated acquisition, we were entitled to
a break-up fee of $19,415,000. Of this amount, in consideration of their
financing commitment, $9,120,400 was paid to Welsh Carson, $1,884,480 was paid
to Golder Thoma, $89,170 was paid to Rocco A. Ortenzio, $55,089 was paid to
Robert A. Ortenzio and $121,500 was paid to partnerships owned partially owned
by Rocco A. Ortenzio and Robert A. Ortenzio, which have since been liquidated.

We currently lease our corporate office space in Mechanicsburg,
Pennsylvania from Old Gettysburg Associates I and Old Gettysburg Associates
III, two general partnerships that are partially owned by Rocco A. Ortenzio and
Robert A. Ortenzio, our Chairman and Chief Executive Officer, and our President
and Chief Operations Officer, respectively. Our lease for 43,919 square feet of
office space at 4716 Old Gettysburg Road expires on December 31, 2014, and our
lease for 12,400 square feet of office space at 4718 Old Gettysburg Road
expires on May 31, 2004. We pay approximately $992,000 per year in rent for
this office space. We believe that these leases are on terms no less favorable
to us than those that would be available to us in an arm's length transaction
with a third party.

We also lease office equipment and furnishings from Select Capital
Corporation, a company in which Rocco A. Ortenzio and Robert A. Ortenzio are
stockholders and each own 25%. This lease commenced on April 1, 1997, and
terminates on March 31, 2002. We have the option to extend the lease for an
additional year on the same terms. We pay approximately $58,000 per under the
agreement. We believe that the lease is on terms no less favorable to us than
those that would be available to us in an arm's length transaction with a third
party.

On December 1, 1999, we purchased all of the stock of Select Air
Corporation, a Delaware corporation, from Rocco A. Ortenzio for $2.7 million.
The only asset of Select Air Corporation was one HS 125 400-731 aircraft. We
obtained an appraisal at the time of purchase that supported the price we paid
for Select Air. In October 2000, we sold the airplane to an unaffiliated third
party. Pursuant to a Cost Sharing Agreement also dated December 1, 1999, we pay
$3,250 each month to Select Transport, Inc., a company owned by Rocco A.
Ortenzio, for expenses relating to the storage, maintenance and operation of
the aircraft. Rocco A. Ortenzio also pays us fees from time to time under this
agreement, for the use of pilots who are our employees.

We also have entered into compensatory and other employment-related
contracts with Mr. Rocco A. Ortenzio and Mr. Robert A. Ortenzio. See
"Management--Employment Agreements."

The law firm of Eckert Seamans Cherin & Mellot, LLC, of which LeRoy S.
Zimmerman was formerly a member, has in the past provided, and may continue to
provide, legal services to us and our subsidiaries.

66
<PAGE>

PRINCIPAL STOCKHOLDERS

The following table sets forth certain information regarding beneficial
ownership of our common stock as of September 30, 2000, and as adjusted to
reflect the sale of common stock pursuant to the offering. The table includes:

. each person (or group of affiliated persons) who is known by us to
own more than five percent of the outstanding shares of our common
stock;

. each of our executive officers and directors; and

. all of our executive officers and directors as a group.

Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission and generally includes voting or investment
power with respect to securities. Unless otherwise noted, we believe that all
persons named in the table have sole voting and sole investment power with
respect to all shares beneficially owned by them. All share amounts include
shares of common stock issuable upon the exercise of options or warrants
exercisable within 60 days of the date of this prospectus. Options or warrants
that are exercisable for common stock and other ownership rights in common
stock that vest within 60 days of the date of this prospectus are deemed to be
outstanding and to be beneficially owned by the person holding such options or
warrants for the purpose of computing the percentage ownership of such person
but are not treated as outstanding for the purpose of computing the percentage
ownership of any other person. The table below also assumes that all of the
Class A Preferred Stock will be redeemed upon the completion of this offering
and gives effect to the conversion of all of the Class B Preferred Stock into
shares of common stock upon the completion of this offering.

<TABLE>
<CAPTION>
Number and Percent of Shares
------------------------------------------ Number and Percent
Class A Preferred Class B Preferred of Shares
Common Stock Shares Beneficially Shares Outstanding After
Beneficially Owned Owned Beneficially Owned the Offering
------------------ ---------------------- ------------------ ------------------
Number Percent Number Percent Number Percent Number Percent
---------- ------- ----------- ---------- ---------- ------- ---------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
5% Beneficial Owners,
Directors, Nominees for
Director and Named
Executive Officers
Entities affiliated with
Welsh, Carson, Anderson
& Stowe (a)............ 20,338,201 45.1% 22,596 42.8% 7,531,424 47.1% 27,869,625
Entities affiliated with
GTCR Golder, Rauner,
LLC (b)................ 13,015,107 28.9 23,750 44.9 1,983,333 12.4 14,998,440
Entities affiliated with
Thoma Cressey Fund VI,
L.P. (c)............... 4,067,857 9.3 -- -- 5,950,000 37.2 10,017,857
Rocco A. Ortenzio (d)... 7,177,027 15.2 2,295 4.3 -- -- 7,177,027
Robert A. Ortenzio (e).. 3,676,950 8.1 1,734 2.2 -- -- 3,676,950
Russell L. Carson (f)... 20,562,352 45.6 22,929 43.4 7,642,640 47.8 28,204,992
Bryan C. Cressey (g).... 4,210,714 9.6 -- -- 5,950,000 37.2 10,160,714
Donald J. Edwards (h)... 13,015,107 28.9 23,750 44.9 1,983,333 12.4 14,998,440
Meyer Feldberg.......... -- -- -- -- -- -- -- --
LeRoy S. Zimmerman (i).. 24,200 * -- -- -- -- 24,200 *
Patricia A. Rice (j).... 424,796 * 143 * -- -- 424,796 *
S. Frank Fritsch (k).... 145,925 * 95 * -- -- 145,925 *
David W. Cross (l)...... 209,200 * -- -- -- -- 209,200 *
---------- ---- ----------- -------- ---------- ---- ---------- ---
All executive officers
and directors as a
group.................. 49,777,096 96.6% 504,078 95.4% 15,575,973 97.3% 65,353,069
========== ==== =========== ======== ========== ==== ========== ===
</TABLE>
--------
* Less than 1%
(a) Common shares held include 3,903,310 shares and warrants to purchase 7,934
shares held by WCAS Capital Partners III, L.P., 14,684,784 shares and
warrants to purchase 1,175,048 shares held by Welsh, Carson, Anderson &
Stowe VII, L.P. and 495,714 shares held by Welsh, Carson, Anderson & Stowe
Healthcare Partners, L.P. Class A Preferred shares held include 21,931
shares held by Welsh, Carson, Anderson & Stowe VII, L.P. and 665 shares
held by Welsh, Carson, Anderson & Stowe Healthcare

67
<PAGE>

Partners, L.P. Class B Preferred Shares held include 7,284,932 shares held
by WCAS Capital Partners III, L.P. and 246,492 shares held by Welsh,
Carson, Anderson & Stowe Healthcare Partners, L.P. Excludes 416,750 shares
of common stock currently owned by WCAS Capital Partners III, L.P. that
must be transferred to us if we repay in full the $25 million 10% senior
Subordinated Note due November 19, 2009, which we intend to do with the
proceeds of this offering. The general partners of Welsh, Carson, Anderson
& Stowe VII, L.P. and WCAS Capital Partners III, L.P. are Bruce K.
Anderson, Russell L. Carson, Anthony J. DeNicola, Thomas E. McInerney,
Robert A. Minicucci, Paul B. Queally, Rudolph E. Rupert, Lawrence B.Sorrel
and Patrick J. Welsh. The general partners of WCAS Healthcare Partners,
L.P. are Russell L. Carson and Patrick J. Welsh. Accordingly, each of the
individuals listed above may be deemed the beneficial owners of the shares
owned by these entities. Welsh, Carson, Anderson & Stowe's business
address is 320 Park Avenue, Suite 2500, New York, New York 10022.
(b) Common shares held include 18,069 shares held by GTCR Associates V, L.P.,
3,148 shares held by GTCR Associates VI, L.P., 1,390,455 shares held by
GTCR Fund VI, L.P., 9,968 shares held by GTCR VI Executive Fund L.P. and
10,339,074 shares and warrants to purchase 1,254,393 shares owned by
Golder, Thoma, Cressey, Rauner Fund V, L.P. Class A Preferred shares held
include 42 shares held by GTCR Associates V, L.P. and 23,709 shares held
by Golder, Thoma, Cressey, Rauner Fund V, L.P. Class B Preferred shares
held include 4,449 shares held by GTCR Associates VI, L.P., 1,964,799
shares held by GTCR Fund VI, L.P. and 14,085 shares held by GTCR VI
Executive Fund, L.P. GTCR Golder Rauner, LLC's business address is 6100
Sears Tower, 233 S. Wacker Drive, Chicago, IL 60606-6402.
(c) Common shares held include 4,027,585 shares held by Thoma Cressey Fund VI,
L.P. and 40,272 shares held by Thoma Cressey Friends Fund VI, L.P. Class B
Preferred Shares held include 5,891,095 shares owned by Thoma Cressey Fund
VI, L.P. and 58,905 shares held by Thoma Cressey Friends Fund VI, L.P.
Thoma Cressey Fund VI, L.P.'s business address is Sears Tower, 44th Floor,
233 S. Wacker Drive, Chicago, IL 60606-6402.
(d) Includes options to purchase 2,787,230 common shares that are currently
exercisable or exercisable within 60 days of the date of this prospectus,
warrants to purchase 507,628 common shares and 428,572 common shares owned
by Select Healthcare Investors I, L.P. Select Capital Corporation, of
which Mr. Ortenzio is a 25% owner, Director and Chief Executive Officer,
is the general partner of Select Healthcare Investors I, L.P. Mr. Ortenzio
disclaims beneficial ownership of the shares held by Select Healthcare
Investors I, L.P. Rocco A. Ortenzio's business address is 4716 Old
Gettysburg Road, P.O. Box 2034, Mechanicsburg, PA 17055.
(e) Includes options to purchase 1,308,154 common shares that are currently
exercisable or exercisable within 60 days of the date of this prospectus
and warrants to purchase 235,810 common shares. Also includes 57,142
common shares owned by the Ortenzio Family Partnership, L.P., of which
Robert A. Ortenzio is the general partner, and 428,572 common shares owned
by Select Healthcare Investors I, L.P. Select Capital Corporation, of
which Mr. Ortenzio is a 25% owner, Director and President, is the general
partner of Select Healthcare Investors I, L.P. Mr. Ortenzio disclaims
beneficial ownership of the shares held by Select Healthcare Investors I,
L.P.
(f) Includes 20,338,201 common shares, 22,596 Class A Preferred shares and
27,869,655 Class B Preferred shares owned by affiliates of Welsh, Carson,
Anderson & Stowe. Mr. Carson can be considered an affiliate of Welsh,
Carson, Anderson & Stowe.
(g) Includes 4,067,857 common shares and 5,950,000 Class B Preferred shares
owned by Thoma Cresssey Fund VI, L.P. and its affiliates. Mr. Cressey can
be considered an affiliate of Thoma Cressey Fund VI, L.P. Mr. Cressey
disclaims beneficial ownership of any shares that exceed his pecuniary
interest therein.
(h) Includes 13,015,107 common shares, 23,750 Class A Preferred shares and
1,983,333 Class B Preferred shares owned by affiliates of GTCR Golder,
Rauner, LLC. Mr. Edwards can be considered an affiliate of GTCR Golder
Rauner, LLC. Mr. Edwards disclaims beneficial ownership of any shares that
exceed his pecuniary interest therein.
(i) Includes options to purchase 10,000 common shares which are currently
exercisable or exercisable within 60 days of the date of this prospectus.
(j) Includes 28,572 common shares issued to Patricia A. Rice and Jesse W. Rice
as Trustees under the Patricia Ann Rice Living Trust, 57,000 common shares
held in an I.R.A. with Mellon PSFS as custodian for the benefit of
Patricia A. Rice and options to purchase 60,000 common shares that are
currently exercisable or exercisable within 60 days of the date of this
prospectus.
(k) Includes 20,000 common shares held in an I.R.A. with Mellon PSFS as
custodian for the benefit of S. Frank Fritsch and options to purchase
30,000 common shares that are currently exercisable or exercisable within
60 days of the date of this prospectus.
(l) Includes options to purchase 130,000 common shares which are currently
exercisable or exercisable within 60 days of the date of this prospectus.

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DESCRIPTION OF CAPITAL STOCK

General

Our authorized capital stock consists of 78,000,000 shares of common
stock, par value $.01 per share, and 16,055,000 shares of preferred stock. We
currently have Class A Preferred Stock and Class B Preferred Stock outstanding.
Simultaneously with the completion of this offering, we intend to redeem all of
the outstanding shares of Class A Preferred Stock. The 16,000,000 shares of
Class B Preferred Stock outstanding will automatically convert into 16,000,000
shares of our common stock. Upon completion of this offering, we will have
approximately shares ( shares if the underwriters' over-allotment option is
exercised in full) of common stock and no shares of preferred stock issued and
outstanding.

The following is qualified in its entirety by reference to our
certificate of incorporation and bylaws, copies of which are filed as exhibits
to the registration statement of which this prospectus is a part.

Common Stock

As of September 30, 2000, there were 44,228,138 shares of our common
stock issued and outstanding. Upon completion of the offering, there will be
shares of common stock issued and outstanding.

The holders of our common stock are entitled to dividends as our board of
directors may declare from funds legally available therefor, subject to the
preferential rights of the holders of our preferred stock, if any, and any
contractual limitations on our ability to declare and pay dividends. The
holders of our common stock are entitled to one vote per share on any matter to
be voted upon by stockholders. Our certificate of incorporation does not
provide for cumulative voting in connection with the election of directors, and
accordingly, holders of more than 50% of the shares voting will be able to
elect all of the directors. No holder of our common stock will have any
preemptive right to subscribe for any shares of capital stock issued in the
future.

Upon any voluntary or involuntary liquidation, dissolution, or winding up
of our affairs, the holders of our common stock are entitled to share ratably
in all assets remaining after payment of creditors and subject to prior
distribution rights of our preferred stock, if any. All of the outstanding
shares of common stock are, and the shares offered by us will be, fully paid
and non-assessable.

Preferred Stock

As of the closing of this offering, no shares of our preferred stock will
be outstanding. Our certificate of incorporation provides that our board of
directors may by resolution establish one or more classes or series of
preferred stock having the number of shares and relative voting rights,
designation, dividend rates, liquidation, and other rights, preferences, and
limitations as may be fixed by them without further stockholder approval. The
holders of our preferred stock may be entitled to preferences over common
stockholders with respect to dividends, liquidation, dissolution, or our
winding up in such amounts as are established by our board of directors'
resolutions issuing such shares.

The issuance of our preferred stock may have the effect of delaying,
deferring or preventing a change in control of us without further action by the
holders and may adversely affect voting and other rights of holders of our
common stock. In addition, issuance of preferred stock, while providing
desirable flexibility in connection with possible acquisitions and other
corporate purposes, could make it more difficult for a third party to acquire a
majority of the outstanding shares of voting stock. At present, we have no
plans to issue any shares of preferred stock.

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Registration Rights

Welsh Carson, Golder Thoma, Thoma Cressey, Rocco A. Ortenzio, Robert A.
Ortenzio and certain other stockholders possess registration rights with
respect to our common stock. These stockholders who are currently the holders
of 58,374,341 shares of our common stock after the completion of this offering
have the right to demand that we register the resale of their shares under the
Securities Act. We are not obligated to register any shares held by these
stockholders upon their request for 180 days from the date of this prospectus.
Subject to the terms of lock-up agreements between these stockholders and the
underwriters, however, if we file a registration statement to register sales of
our common stock (other than under our employee benefit plans) during that
time, these stockholders will be entitled to register any portion or all of
their shares to be included in that offering. After the expiration of this 180
day period, these stockholders may demand that we register any portion or all
of their shares at any time. At any time, if we propose to register any of our
securities under the Securities Act, these stockholders are entitled to notice
of the registration and, subject to customary conditions and limitations, are
entitled to include their shares in our registration. These stockholders may
request up to four registrations on Form S-1 or any similar long-form
registration in which we shall pay all registration expenses. These
stockholders may also request at their own expense an unlimited number of
additional long-form registrations, as well as registrations on Forms S-2 or S-
3 or any similar short-form registrations, if we are able to register
securities on those forms at that time. We are required to use our best efforts
to effect these registrations, subject to customary conditions and limitations.

Section 203 of the Delaware General Corporation Law; Certain Anti Takeover,
Limited Liability and Indemnification Provisions

The following is a description of certain provisions of the Delaware
General Corporation Law, and our certificate of incorporation and bylaws. This
summary does not purport to be complete and is qualified in its entirety by
reference to the Delaware General Corporation Law, and our certificate of
incorporation and bylaws.

Section 203 of the Delaware General Corporation Law

We are subject to the provisions of Section 203 of the Delaware General
Corporation Law. Section 203 of the Delaware General Corporation Law prohibits
a publicly held Delaware corporation from engaging in a "business combination"
with an "interested stockholder" for a period of three years after the date of
the transaction in which the person became an "interested stockholder," unless
the business combination is approved in a prescribed manner. A "business
combination" includes certain mergers, asset sales, and other transactions
resulting in a financial benefit to the "interested stockholder." Subject to
certain exceptions, an "interested stockholder" is a person who, together with
affiliates and associates, owns, or within the past three years did own, 15% of
the corporation's voting stock.

Certificate of Incorporation and Bylaws

Certain provisions of our certificate of incorporation and bylaws could
have anti-takeover effects. These provisions are intended to enhance the
likelihood of continuity and stability in the composition of our corporate
policies formulated by our board of directors. In addition, these provisions
also are intended to ensure that our board of directors will have sufficient
time to act in what the board of directors believes to be in the best interests
of us and our stockholders. These provisions also are designed to reduce our
vulnerability to an unsolicited proposal for our takeover that does not
contemplate the acquisition of all of our outstanding shares or an unsolicited
proposal for the restructuring or sale of all or part of us. The provisions are
also intended to discourage certain tactics that may be used in proxy fights.
However, these provisions could delay or frustrate the removal of incumbent
directors or the assumption of control of us by the holder of a large block of
common stock, and could also discourage or make more difficult a merger, tender
offer, or proxy contest, even if such event would be favorable to the interest
of our stockholders.

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Classified Board of Directors. Our certificate of incorporation provides
for our board of directors to be divided into three classes of directors, with
each class as nearly equal in number as possible, serving staggered three-year
terms (other than directors which may be elected by holders of preferred
stock). As a result, approximately one-third of our board of directors will be
elected each year. The classified board provision will help to assure the
continuity and stability of our board of directors and our business strategies
and policies as determined by our board of directors. The classified board
provision could have the effect of discouraging a third party from making an
unsolicited tender offer or otherwise attempting to obtain control of us
without the approval of our board of directors. In addition, the classified
board provision could delay stockholders who do not like the policies of our
board of directors from electing a majority of our board of directors for two
years.

No Stockholder Action by Written Consent; Special Meetings. Our
certificate of incorporation provides that stockholder action can only be taken
at an annual or special meeting of stockholders and prohibits stockholder
action by written consent in lieu of a meeting. Our bylaws provide that special
meetings of stockholders may be called only by our board of directors or our
Chief Executive Officer. Our stockholders are not permitted to call a special
meeting of stockholders or to require that our board of directors call a
special meeting.

Advance Notice Requirements for Stockholder Proposals and Director
Nominees. Our bylaws establish an advance notice procedure for our stockholders
to make nominations of candidates for election as directors or to bring other
business before an annual meeting of our stockholders. The stockholder notice
procedure provides that only persons who are nominated by, or at the direction
of, our board of directors or its Chairman, or by a stockholder who has given
timely written notice to our Secretary or any Assistant Secretary prior to the
meeting at which directors are to be elected, will be eligible for election as
our directors. The stockholder notice procedure also provides that at an annual
meeting only such business may be conducted as has been brought before the
meeting by, or at the direction of, our board of directors or its Chairman or
by a stockholder who has given timely written notice to our Secretary of such
stockholder's intention to bring such business before such meeting. Under the
stockholder notice procedure, if a stockholder desires to submit a proposal or
nominate persons for election as directors at an annual meeting, the
stockholder must submit written notice to us not less than 90 days nor more
than 120 days prior to the first anniversary of the previous year's annual
meeting. In addition, under the stockholder notice procedure, a stockholder's
notice to us proposing to nominate a person for election as a director or
relating to the conduct of business other than the nomination of directors must
contain certain specified information. If the chairman of a meeting determines
that business was not properly brought before the meeting, in accordance with
the stockholder notice procedure, such business shall not be discussed or
transacted.

Number of Directors; Removal; Filling Vacancies. Our certificate of
incorporation and bylaws provide that our board of directors will consist of
not less than five or more than nine directors (other than directors elected by
holders of our preferred stock), the exact number to be fixed from time to time
by resolution adopted by our directors. Further, subject to the rights of the
holders of any series of our preferred stock, if any, our certificate of
incorporation and bylaws authorize our board of directors to elect additional
directors under specified circumstances and fill any vacancies that occur in
our board of directors by reason of death, resignation, removal, or otherwise.
A director so elected by our board of directors to fill a vacancy or a newly
created directorship holds office until the next election of the class for
which such director has been chosen and until his successor is elected and
qualified. Subject to the rights of the holders of any series of our preferred
stock, if any, our certificate of incorporation and bylaws also provide that
directors may be removed only for cause and only by the affirmative vote of
holders of a majority of the combined voting power of our then outstanding
stock. The effect of these provisions is to preclude a stockholder from
removing incumbent directors without cause and simultaneously gaining control
of our board of directors by filling the vacancies created by such removal with
its own nominees.

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Indemnification. We have included in our certificate of incorporation and
bylaws provisions to (i) eliminate the personal liability of our directors for
monetary damages resulting from breaches of their fiduciary duty to the extent
permitted by the Delaware General Corporation Law and (ii) indemnify our
directors and officers to the fullest extent permitted by Section 145 of the
Delaware General Corporation Law, including circumstances in which
indemnification is otherwise discretionary. We believe that these provisions
are necessary to attract and retain qualified persons as directors and
officers.

Amendments to Certificate of Incorporation. The provisions of our
certificate of incorporation that could have anti-takeover effects as described
above are subject to amendment, alteration, repeal, or rescission either by (i)
our board of directors without the assent or vote of our stockholders or (ii)
the affirmative vote of the holder of not less than two-thirds (66 2/3%) of the
outstanding shares of voting securities. This requirement makes it more
difficult for stockholders to make changes to the provisions in our certificate
of incorporation which could have anti-takeover effects by allowing the holders
of a minority of the voting securities to prevent the holders of a majority of
voting securities from amending these provisions of our certificate of
incorporation.

Amendments to Bylaws. Our certificate of incorporation provides that our
bylaws are subject to adoption, amendment, alteration, repeal, or rescission
either by (i) our board of directors without the assent or vote of our
stockholders or (ii) the affirmative vote of the holders of not less than two-
thirds (66 2/3%) of the outstanding shares of voting securities. This provision
makes it more difficult for stockholders to make changes in our bylaws by
allowing the holders of a minority of the voting securities to prevent the
holders of a majority of voting securities from amending our bylaws.

Transfer Agent and Registrar

The Transfer Agent and Registrar for our common stock is ChaseMellon
Shareholder Services, L.L.C. The Transfer Agent's address is 85 Challenger
Road, Ridgefield Park, New Jersey 07660, and its telephone number is (800) 756-
3353.

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SHARES ELIGIBLE FOR FUTURE SALE

Upon completion of this offering, there will be shares of our common
stock outstanding (assuming no exercise of the underwriters' over-allotment
option and no exercise of outstanding options and warrants). Of these shares,
the shares sold in this offering will be freely transferable without
restriction or further registration under the Securities Act, except for any
shares held by an existing "affiliate" of ours, as that term is defined by the
Securities Act (an "Affiliate"), which shares will be subject to the resale
limitations of Rule 144 adopted under the Securities Act.

Upon completion of this offering, 59,811,388 "restricted shares" as
defined in Rule 144 will be outstanding. None of these shares will be eligible
for sale in the public market as of the effective date of this registration
statement. Beginning 180 days after the date of this prospectus approximately
additional shares will become eligible for sale subject to compliance with
Rule 144 upon the expiration of agreements not to sell such shares entered into
between the underwriters and certain of our stockholders, including the
officers and directors. Restrictions pursuant to such agreements not to sell
may be waived by Merrill Lynch, Pierce, Fenner & Smith Incorporated. See
"Underwriting."

In general, under Rule 144 as currently in effect, beginning 90 days
after the offering, a person (or persons whose shares are aggregated) who owns
shares that were purchased from us (or any Affiliate) at least one year
previously, including a person who may be deemed our Affiliate, is entitled to
sell within any three-month period a number of shares that does not exceed the
greater of (i) 1% of the then outstanding shares of our common stock
(approximately shares immediately after the offering) or (ii) the average
weekly trading volume of our common stock on the Nasdaq National Market during
the four calendar weeks preceding the date on which notice of the sale is filed
with the Securities and Exchange Commission. Sales under Rule 144 are also
subject to certain manner of sale provisions, notice requirements and the
availability of current public information about us. Any person (or persons
whose shares are aggregated) who is not deemed to have been our Affiliate at
any time during the 90 days preceding a sale, and who owns shares within the
definition of "restricted securities" under Rule 144 under the Securities Act
that were purchased from us (or any Affiliate) at least two years previously,
would be entitled to sell such shares under Rule 144(k) without regard to the
volume limitations, manner of sale provisions, public information requirements
or notice requirements.

We have agreed not to offer, sell or otherwise dispose of any shares of
our common stock or any securities convertible into or exercisable or
exchangeable for our common stock or any rights to acquire our common stock for
a period of 180 days after the date of this prospectus, without the prior
written consent of the representatives of the underwriters, subject to certain
limited exceptions. See "Underwriting."

The holders of 58,374,341 shares of our common stock have demand and
piggy-back registration rights. We are not obligated to register any shares
held by these stockholders upon their request for 180 days from the date of
this prospectus. However, subject to the prior written consent of the
underwriters, if we file a registration statement to register sales of our
common stock (other than under our employee benefit plans) during that time,
these stockholders will be entitled to register any portion or all of their
shares to be included in that offering. After the expiration of this 180 day
period, these stockholder may demand that we register any portion or all of
their shares at any time.

After such period, if such holders cause a large number of shares to be
registered and sold in the public market, such sales could have an adverse
effect on the market price for the common stock.

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UNITED STATES FEDERAL TAX CONSIDERATIONS FOR NON-UNITED STATES HOLDERS

The following is a general discussion of the principal United States
federal income and estate tax consequences of the ownership and disposition of
our common stock by a non-U.S. holder. As used in this discussion, the term
"non-U.S. holder" means a beneficial owner of our common stock that is not, for
U.S. federal income tax purposes:

. an individual who is a citizen or resident of the United States;

. a corporation or other entity taxable as a corporation created or
organized in or under the laws of the United States or of any
political subdivision of the United States;

. an estate whose income is includible in gross income for U.S. federal
income tax purposes regardless of its source; or

. a trust, in general, if a U.S. court is able to exercise primary
supervision over the administration of the trust and one or more U.S.
persons have authority to control all substantial decisions of the
trust.

An individual may be treated as a resident of the United States in any
calendar year for U.S. federal income tax purposes, instead of a nonresident,
by, among other ways, being present in the United States on at least 31 days in
that calendar year and for an aggregate of at least 183 days during a three-
year period ending in the current calendar year. For purposes of this
calculation, you would count all of the days present in the current year, one-
third of the days present in the immediately preceding year and one-sixth of
the days present in the second preceding year. Residents are taxed for U.S.
federal income purposes as if they were U.S. citizens. If a partnership holds
our common stock, the United States federal income tax treatment of a partner
generally will depend upon the status of the partner and upon the activities of
the partnership. Partners of partnerships holding common stock should consult
their tax advisors.

This discussion does not consider:

. U.S. state and local or non-U.S. tax consequences;

. specific facts and circumstances that may be relevant to a particular
non-U.S. holder's tax position, such as being an expatriate;

. the tax consequences for the shareholders or beneficiaries of a non-
U.S. holder;

. special tax rules that may apply to particular non-U.S. holders, such
as financial institutions, insurance companies, tax-exempt
organizations, broker-dealers, and traders in securities; or

. special tax rules that may apply to a non-U.S. holder that holds our
common stock as part of a "straddle," "hedge," "conversion
transaction," "synthetic security" or other integrated investment.

The following discussion is based on provisions of the U.S. Internal
Revenue Code of 1986, as amended, applicable U.S. Treasury regulations and
administrative and judicial interpretations, all as in effect on the date of
this prospectus, and all of which are subject to change, retroactively or
prospectively. The following summary assumes that a non-U.S. Holder holds our
common stock as a capital asset. Each non-U.S. holder should consult a tax
advisor regarding the U.S. federal, state, local and non-U.S. income and other
tax consequences of acquiring, holding, and disposing of shares of our common
stock.

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Dividends

We do not anticipate paying cash dividends on our common stock in the
foreseeable future. See "Dividend Policy." In the event, however, that we pay
dividends on our common stock, we will have to withhold a U.S. federal
withholding tax at a rate of 30%, or a lower rate under an applicable income
tax treaty, from the gross amount of the dividends paid to a non-U.S. holder.
Non-U.S. holders should consult their tax advisors regarding their entitlement
to benefits under a relevant income tax treaty.

Dividends paid prior to 2001 to an address in a foreign country are
presumed, absent actual knowledge to the contrary, to be paid to a resident of
such country for purposes of the withholding discussed above and for purposes
of determining the applicability of a tax treaty rate. For dividends paid after
2000:

. a non-U.S. holder who claims the benefit of an applicable income tax
treaty rate generally will be required to satisfy applicable
certification and other requirements;

. in the case of common stock held by a foreign partnership as
determined under U.S. Treasury regulations, the certification
requirement will generally be applied to the partners of the
partnership and the partnership will be required to provide certain
information, including a U.S. employer identification number, if
applicable; and

. look-through rules will be applied for tiered partnerships.

A non-U.S. holder that is eligible for a reduced rate of U.S. federal
withholding tax under an income tax treaty may obtain a refund or credit of any
excess amounts withheld by filing an appropriate claim for a refund with the
U.S. Internal Revenue Service.

Dividends paid to a non-U.S. holder that are effectively connected with a
non-U.S. holder's conduct of a trade or business in the United States or, if an
income tax treaty applies, attributable to a permanent establishment in the
United States, are taxed on a net income basis at the regular graduated rates
and in the manner applicable to U.S. persons. In that case, we will not have to
withhold U.S. federal withholding tax if the non-U.S. holder complies with
applicable certification and disclosure requirements. In addition, a "branch
profits tax" may be imposed at a 30% rate, or a lower rate under an applicable
income tax treaty, on dividends received by a foreign corporation that are
effectively connected with the conduct of a trade or business in the United
States.

Gain On Disposition of Common Stock

A non-U.S. holder generally will not be taxed on gain recognized on a
disposition of our common stock unless:

. the gain is effectively connected with the non-U.S. holder's conduct
of a trade or business in the United States or, alternatively, if an
income tax treaty applies, is attributable to a permanent
establishment maintained by the non-U.S. holder in the United States;
in these cases, the gain will be taxed on a net income basis at the
regular graduated rates and in the manner applicable to U.S. persons
and, if the non-U.S. holder is a foreign corporation, the "branch
profits tax" described above may also apply; or

. the non-U.S. holder is an individual who holds our common stock as a
capital asset, is present in the United States for 183 or more days
in the taxable year of the disposition and meets other requirements.

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Federal Estate Tax

Common stock owned or treated as owned by an individual who is a non-U.S.
holder at the time of death will be included in the individual's gross estate
for U.S. federal estate tax purposes, unless an applicable estate tax or other
treaty provides otherwise and, therefore, may be subject to U.S. federal estate
tax.

Information Reporting and Backup Withholding Tax

We must report annually to the U.S. Internal Revenue Service and to each
non-U.S. holder the amount of dividends paid to that holder and the tax
withheld from those dividends. Copies of the information returns reporting
those dividends and withholding may also be made available to the tax
authorities in the country in which the non-U.S. holder is a resident under the
provisions of an applicable income tax treaty or agreement.

Under some circumstances, U.S. Treasury regulations require additional
information reporting and backup withholding at a rate of 31% on some payments
on common stock. Under currently applicable law, non-U.S. holders generally
will be exempt from these additional information reporting requirements and
from backup withholding on dividends paid prior to 2001 if we either were
required to withhold a U.S. federal withholding tax from those dividends or we
paid those dividends to an address outside the United States. After 2000,
however, the gross amount of dividends paid to a non-U.S. holder that fails to
certify its non-U.S. holder status in accordance with applicable U.S. Treasury
regulations generally will be reduced by backup withholding at a rate of 31%.

The payment of the proceeds of the disposition of common stock by a non-
U.S. holder to or through the U.S. office of a broker or a non-U.S. office of a
U.S. broker generally will be reported to the U.S. Internal Revenue and reduced
by backup withholding at a rate of 31% unless the non-U.S. holder either
certifies its status as a non-U.S. holder under penalties of perjury or
otherwise establishes an exemption and the broker has no actual knowledge to
the contrary. The payment of the proceeds of the disposition of common stock by
a non-U.S. holder to or through a non-U.S. office of a non-U.S. broker will not
be reduced by backup withholding or reported to the U.S. Internal Revenue
Service unless the non-U.S. broker has certain enumerated connections with the
United States. In general, the payment of proceeds from the disposition of
common stock by or through a non-U.S. office of a broker that is a U.S. person
or has certain enumerated connections with the United States will be reported
to the U.S. Internal Revenue Service and, after 2000, may be reduced by backup
withholding at a rate of 31%, unless the broker receives a statement from the
non-U.S. holder, signed under penalty of perjury, certifying its non-U.S.
status or the broker has documentary evidence in its files that the holder is a
non-U.S. holder and the broker has no actual knowledge to the contrary.

Non-U.S. holders should consult their own tax advisors regarding the
application of the information reporting and backup withholding rules to them,
including changes to these rules that will become effective after 2000.

Any amounts withheld under the backup withholding rules from a payment to
a non-U.S. holder will be refunded, or credited against the holder's U.S.
federal income tax liability, if any, provided that the required information is
furnished to the U.S. Internal Revenue Service.

76
<PAGE>

UNDERWRITING

We intend to offer the shares in the U.S. and Canada through the U.S.
underwriters and elsewhere through the international managers. Merrill Lynch,
Pierce, Fenner & Smith Incorporated, Chase Securities Inc., J.P. Morgan
Securities Inc., CIBC World Markets Corp., SG Cowen Securities Corporation and
First Union Securities, Inc. are acting as U.S. representatives of the U.S.
underwriters named below. Subject to the terms and conditions described in a
U.S. purchase agreement between us and the U.S. underwriters, and concurrently
with the sale of shares to the international managers, we have agreed to
sell to the U.S. underwriters, and the U.S. underwriters severally have agreed
to purchase from us, the number of shares listed opposite their names below.

<TABLE>
<CAPTION>
Number
U.S. Underwriter of Shares
---------------- ---------
<S> <C>
Merrill Lynch, Pierce, Fenner & Smith,
Incorporated..............................................
Chase Securities Inc. .............................................
J.P. Morgan Securities Inc. .......................................
CIBC World Markets Corp. ..........................................
SG Cowen Securities Corporation....................................
First Union Securities, Inc. ......................................
---------
Total.........................................................
=========
</TABLE>

We have also entered into an international purchase agreement with the
international managers for sale of the shares outside the U.S. and Canada for
whom Merrill Lynch International, Chase Manhattan International Limited, J.P.
Morgan Securities Ltd., CIBC World Markets Corp., SG Cowen Securities
Corporation and First Union Securities, Inc. are acting as lead managers.
Subject to the terms and conditions in the international purchase agreement,
and concurrently with the sale of shares to the U.S. underwriters pursuant
to the U.S. purchase agreement, we have agreed to sell to the international
managers, and the international managers severally have agreed to purchase
shares from us. The initial public offering price per share and the total
underwriting discount per share are identical under the U.S. purchase agreement
and the international purchase agreement.

The U.S. underwriters and the international managers have agreed to
purchase all of the shares sold under the U.S. and international purchase
agreements if any of these shares are purchased. If an underwriter defaults,
the U.S. and international purchase agreements provide that the purchase
commitments of the nondefaulting underwriters may be increased or the purchase
agreements may be terminated. The closings for the sale of shares to be
purchased by the U.S. underwriters and the international managers are
conditioned on one another.

We have agreed to indemnify the U.S. underwriters and the international
managers against certain liabilities, including liabilities under the
Securities Act, or to contribute to payments the U.S. underwriters and
international managers may be required to make in respect of those liabilities.

The underwriters are offering the shares, subject to prior sale, when,
as, and if issued to and accepted by them, subject to approval of legal matters
by their counsel, including the validity of the shares, and other conditions
contained in the purchase agreements, such as the receipt by the underwriters
of officer's certificates and legal opinions. The underwriters reserve the
right to withdraw, cancel, or modify offers to the public and to reject orders
in whole or in part.

Commissions and Discounts

The U.S. representatives have advised us that the U.S. underwriters
propose initially to offer the shares to the public at the initial public
offering price on the cover page of this prospectus and to dealers at that
price less a concession not in excess of $ per share. The U.S. underwriters
may allow, and the dealers may reallow, a discount not in excess of $ per
share to other dealers. After the initial public offering, the public offering
price, concession and discount may be changed.

77
<PAGE>

The following table shows the public offering price, underwriting
discount and proceeds before our expenses. The information assumes either no
exercise or full exercise by the U.S. underwriters and the international
managers of their over-allotment options.

<TABLE>
<CAPTION>
Without
Per Share Option With Option
--------- ------- -----------
<S> <C> <C> <C>
Public offering price... $ $ $
Underwriting discount... $ $ $
Proceeds before expenses
to Select Medical...... $ $ $
</TABLE>

The expenses of the offering, not including the underwriting discount, are
estimated at $1.5 million and are payable by us.

Over-Allotment Option

We have granted options to the U.S. underwriters to purchase up to
additional shares at the public offering price less the underwriting discount.
The U.S. underwriters may exercise these options for 30 days from the date of
this prospectus solely to cover any overallotments. If the U.S. underwriters
exercise these options, each will be obligated, subject to conditions contained
in the purchase agreements, to purchase a number of additional shares
proportionate to that U.S. underwriter's initial amount reflected in the above
table.

We have also granted options to the international managers, exercisable
for 30 days from the date of this prospectus, to purchase up to additional
shares to cover any over-allotments on terms similar to those granted to the
U.S. underwriters.

Intersyndicate Agreement

The U.S. underwriters and the international managers have entered into an
intersyndicate agreement that provides for the coordination of their
activities. Under the intersyndicate agreement, the U.S. underwriters and the
international managers may sell shares to each other for purposes of resale at
the initial public offering price, less an amount not greater than the selling
concession. Under the intersyndicate agreement, the U.S. underwriters and any
dealer to whom they sell shares will not offer to sell or sell shares to
persons who are non-U.S. or non-Canadian persons or to persons they believe
intend to resell to persons who are non-U.S. or non-Canadian persons, except in
the case of transactions under the intersyndicate agreement. Similarly, the
international managers and any dealer to whom they sell shares will not offer
to sell or sell shares to U.S. persons or Canadian persons or to persons they
believe intend to resell to U.S. or Canadian persons, except in the case of
transactions under the intersyndicate agreement.

Reserved Shares

At our request, the underwriters have reserved for sale, at the initial
public offering price, up to 5% of the shares offered for sale in the offering
for sale to some of our directors, officers, employees, business associates,
and related persons. If these persons purchase reserved shares, this will
reduce the number of shares available for sale to the general public. Any
reserved shares that are not orally confirmed for purchase within one day of
the pricing of the offering will be offered by the underwriters to the general
public on the same terms as the other shares offered by this prospectus. There
is no expectation or requirement that any person who purchases reserved shares
will refer, either directly or indirectly, any patients to our specialty acute
care hospitals or outpatient rehabilitation clinics.

78
<PAGE>

No Sales of Similar Securities

We and our executive officers and directors and substantially all of our
existing stockholders have agreed, with exceptions, not to sell or transfer any
common stock for 180 days after the date of this prospectus without first
obtaining the written consent of Merrill Lynch. Specifically, we and these
other individuals have agreed not to directly or indirectly

. offer, pledge, sell or contract to sell any common stock;

. sell any option or contract to purchase any common stock;

. purchase any option or contract to sell any common stock;

. grant any option, right or warrant for the sale of any common stock;

. lend or otherwise dispose of or transfer any common stock;

. request or demand that we file a registration statement related to
the common stock; or

. enter into any swap or other agreement that transfers, in whole or in
part, the economic consequence of ownership of any common stock
whether any such swap or transaction is to be settled by delivery of
shares or other securities, in cash or otherwise.

This lockup provision applies to common stock and to securities
convertible into or exchangeable or exercisable for or repayable with common
stock. It also applies to common stock owned now or acquired later by the
person executing the agreement or for which the person executing the agreement
later acquires the power of disposition. This lockup provision does not limit
our ability to grant options to purchase common stock under stock option plans
or to issue common stock under our employee stock purchase plan.

Nasdaq National Market Listing

We expect the shares to be approved for quotation on the Nasdaq National
Market, subject to notice of issuance, under the symbol "SLMC."

Before the offering, there has been no public market for our common
stock. The initial public offering price will be determined through
negotiations among us and the U.S. representatives and lead managers. In
addition to prevailing market conditions, the factors to be considered in
determining the initial public offering price are:

. the valuation multiples of publicly traded companies that the U.S.
representatives and the lead managers believe to be comparable to us;

. our financial information;

. the history of, and the prospects for, us and the industry in which
we compete;

. an assessment of our management, its past and present operations, and
the prospects for, and timing of, our future revenues;

. the present state of our development; and

. the above factors in relation to market values and various valuation
measures of other companies engaged in activities similar to ours.

An active trading market for the shares may not develop. It is also
possible that after the offering the shares will not trade in the public market
at or above the initial public offering price.

The underwriters do not expect to sell more than 5% of the shares in the
aggregate to accounts over which they exercise discretionary authority.

79
<PAGE>

NASD Regulations

It is anticipated that more than ten percent of the proceeds of the
offering will be applied to pay down debt obligations owed to affiliates of
Chase Securities Inc., CIBC World Markets Corp., First Union Securities, Inc.,
J.P. Morgan Securities Inc., Merrill Lynch, Pierce, Fenner & Smith Incorporated
and SG Cowen Securities Corporation. Because more than ten percent of the net
proceeds of the offering may be paid to members or affiliates of members of the
National Association of Securities Dealers, Inc. participating in the offering,
the offering will be conducted in accordance with NASD Conduct Rule 2710(c)(8).
This rule requires that the public offering price of an equity security be no
higher than the price recommended by a qualified independent underwriter which
has participated in the preparation of the registration statement and performed
its usual standard of due diligence with respect to that registration
statement. has agreed to act as qualified independent underwriter
for the offering. The price of the shares will be no higher than that
recommended by .

Price Stabilization, Short Positions and Penalty Bids

Until the distribution of the common stock is completed, SEC rules may
limit the underwriters from bidding for or purchasing our common stock.
However, the representatives may engage in transactions that stabilize the
price of the common stock, such as bids or purchases that peg, fix or maintain
that price.

The underwriters may purchase and sell the common stock in the open
market. These transactions may include short sales, stabilizing transactions
and purchases to cover positions created by short sales. Short sales involve
the sale by the underwriters of a greater number of shares than they are
required to purchase in the offering. "Covered" short sales are sales made in
an amount not greater than the underwriters' option to purchase additional
shares from the issuer in the offering. The underwriters may close out any
covered short position by either exercising their option to purchase additional
shares or purchasing shares in the open market. In determining the source of
shares to close out the covered short position, the underwriters will consider,
among other things, the price of shares available for purchase in the open
market as compared to the price at which they may purchase shares through the
over-allotment option. "Naked" short sales are any sales in excess of such
option. The underwriters must close out any naked short position by purchasing
shares in the open market. A naked short position is more likely to be created
if the underwriters are concerned that there may be downward pressure on the
price of the common shares in the open market after pricing that could
adversely affect investors who purchase in the offering. Stabilizing
transactions consist of various bids for or purchases of common shares made by
the underwriters in the open market prior to the completion of the offering.

The underwriters may also impose a penalty bid. This occurs when a
particular underwriter repays to the underwriters a portion of the underwriting
discount received by it because the representatives have repurchased shares
sold by or for the account of such underwriter in stabilizing or short covering
transactions.

Similar to other purchase transactions, the underwriters' purchases to
cover the syndicate short sales may have the effect of raising or maintaining
the market price of the common stock or preventing or retarding a decline in
the market price of the common stock. As a result, the price of the common
stock may be higher than the price that might otherwise exist in the open
market.

Neither we nor any of the underwriters make any representation or
prediction as to the direction or magnitude of any effect that the transactions
described above may have on the price of the common stock. In addition, neither
we nor any of the representatives make any representation that the
representatives will engage in these transactions or that these transactions,
once commenced, will not be discontinued without notice.

Other Relationships

Some of the underwriters and their affiliates have engaged in, and may in
the future engage in, investment banking and other commercial dealings in the
ordinary course of business with us. They have

80
<PAGE>

received customary fees and commissions for these transactions. In particular,
an affiliate of Chase Securities Inc. acts as administrative agent, and
affiliates of Chase Securities Inc., CIBC World Markets Corp., First Union
Securities, Inc., J.P. Morgan Securities Inc., Merrill Lynch, Pierce Fenner &
Smith Incorporated and SG Cowen Securities Corporation are lenders under our
credit facility. We will use a portion of the proceeds from this offering to
repay amounts outstanding under this credit facility.

Internet Delivery of Prospectus

Merrill Lynch will be facilitating internet distribution for the offering
to some of its internet subscription customers. Merrill Lynch intends to
allocate a limited number of shares for sale to its online brokerage customers.
An electronic prospectus is available on the website maintained by Merrill
Lynch. Other than the prospectus in electronic format, the information on the
Merrill Lynch website relating to the offering is not a part of this
prospectus.

81
<PAGE>

LEGAL MATTERS

The validity of our common stock offered hereby will be passed upon for
us by Dechert, Philadelphia, Pennsylvania. Debevoise & Plimpton, New York, New
York, will pass upon certain legal matters for the underwriters.

EXPERTS

The financial statements of Select Medical Corporation as of December 31,
1999 and December 31, 1998 and for each of the three years in the period ended
December 31, 1999 included in this prospectus have been so included in reliance
on the reports of PricewaterhouseCoopers LLP, independent accountants, given on
the authority of said firm as experts in auditing and accounting.

The combined financial statements of NovaCare Physical Rehabilitation and
Occupational Health Group as of November 19, 1999, June 30, 1999 and 1998 and
for the period from July 1, 1999 to November 19, 1999 and the years ended June
30, 1999, 1998 and 1997 included in this prospectus have been included in
reliance of the reports of PricewaterhouseCoopers LLP, independent certified
public accountants, upon the authority of said firm as experts in auditing and
accounting.

The consolidated financial statements of Intensiva Healthcare Corporation
and subsidiaries as of December 15, 1998 and December 31, 1997 and for the
period from January 1, 1998 to December 15, 1998 and the year ended December
31, 1997 included in this prospectus have been included in reliance on the
report of KPMG LLP, independent certified public accountants, upon the
authority of said firm as experts in auditing and accounting.

The consolidated financial statements of American Transitional Hospitals,
Inc. as of June 29, 1998 and for the period from January 1, 1998 to June 29,
1998 included in this prospectus have been included in reliance on the report
of Ernst & Young LLP, independent auditors, given on the authority of said firm
as experts in auditing and accounting.

WHERE YOU CAN FIND MORE INFORMATION

We have filed with the Commission, Washington, D.C. 20549, a Registration
Statement on Form S-1 under the Securities Act with respect to our common stock
offered hereby. This prospectus does not contain all of the information set
forth in the registration statement and the exhibits and schedules to the
registration statement. For further information with respect to Select Medical
Corporation and our common stock offered hereby, reference is made to the
Registration Statement and the exhibits and schedules filed as a part of the
Registration Statement. Statements contained in this prospectus concerning the
contents of any contract or any other document are not necessarily complete;
reference is made in each instance to the copy of such contract or any other
document filed as an exhibit to the registration statement. Each such statement
is qualified in all respects by such reference to such exhibit. The
registration statement, including exhibits and schedules thereto, may be
inspected without charge at the Commission's principal office in Washington,
D.C., and copies of all or any part thereof may be obtained from the Public
Reference Section of the Commission, 450 Fifth Street, N.W., Washington, D.C.
20549, and at the Commission's regional offices located at Citicorp Center, 500
West Madison Street, Suite 1400, Chicago, Illinois 60661 and at 7 World Trade
Center, 13th Floor, New York, New York 10048 after payment of fees prescribed
by the Commission. The Commission also maintains a World Wide Web site which
provides online access to reports, proxy and information statements and other
information regarding registrants that file electronically with the Commission
at the address http://www.sec.gov.

82
<PAGE>

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
Page
----
<S> <C>
SELECT MEDICAL CORPORATION

Consolidated Financial Statements:
Report of Independent Accountants....................................... F-2
Consolidated Balance Sheets............................................. F-3
Consolidated Statements of Operations................................... F-4
Consolidated Statements of Changes in Stockholder's Equity.............. F-5
Consolidated Statements of Cash Flows................................... F-6
Notes to Consolidated Financial Statements.............................. F-7

NOVACARE PHYSICAL REHABILITATION AND OCCUPATIONAL HEALTH GROUP

Combined Financial Statements as of November 19, 1999 and for the Period
July 1, 1999 to November 19, 1999.......................................
Report of Independent Accountants...................................... F-29
Combined Balance Sheet................................................. F-30
Combined Statement of Operations....................................... F-31
Combined Statement of NovaCare, Inc. Net Investment.................... F-32
Combined Statement of Cash Flows....................................... F-33
Notes to Consolidated Financial Statements............................. F-34

NOVACARE PHYSICAL REHABILITATION AND OCCUPATIONAL HEALTH GROUP

Combined Financial Statements as of June 30, 1999 and for June 30, 1998
and for the Three Years Ended June 30, 1999.............................
Report of Independent Accountants...................................... F-46
Combined Balance Sheets................................................ F-47
Combined Statements of Operations...................................... F-48
Combined Statements of NovaCare, Inc. Net Investment................... F-49
Combined Statements of Cash Flows...................................... F-50
Notes to Consolidated Financial Statements............................. F-51

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

Independent Auditors' Report............................................. F-63
Consolidated Balance Sheets.............................................. F-64
Consolidated Statements of Operations.................................... F-65
Consolidated Statements of Stockholders' Equity.......................... F-66
Consolidated Statements of Cash Flows.................................... F-67
Notes to Consolidated Financial Statements................................ F-68

AMERICAN TRANSITIONAL HOSPITALS, INC.

Report of Independent Auditors........................................... F-78
Consolidated Balance Sheet............................................... F-79
Consolidated Statement of Operations..................................... F-80
Consolidated Statement of Changes in Equity of Parent.................... F-81
Consolidated Statement of Cash Flows..................................... F-82
Notes to Consolidated Financial Statements............................... F-83
</TABLE>

F-1
<PAGE>

Report of Independent Accountants

To the Board of Directors and Stockholders
of Select Medical Corporation

In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, changes in stockholders' equity
and cash flows present fairly, in all material respects, the financial position
of Select Medical Corporation and its subsidiaries (the Company) at December
31, 1999 and 1998, and the results of their operations and their cash flows for
each of the three years in the period ended December 31, 1999, in conformity
with accounting principles generally accepted in the United States of America.
These consolidated financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these consolidated
financial statements based on our audits. We conducted our audits of these
statements in accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for the opinion expressed above.

/s/ PricewaterhouseCoopers LLP
Harrisburg, Pennsylvania

October 26, 2000

F-2
<PAGE>

Select Medical Corporation

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

<TABLE>
<CAPTION>
December 31, Proforma
------------------ June 30, June 30,
1998 1999 2000 2000
-------- -------- ----------- -----------
(unaudited) (unaudited)
<S> <C> <C> <C> <C>
Assets
Current Assets:
Cash and cash equivalents........ $ 13,001 $ 4,067 $ 5,096
Escrow receivable................ -- 29,948 29,948
Accounts receivable, net of
allowance for doubtful accounts
of $15,701, $69,492 and $65,076
(unaudited) in 1998, 1999 and
2000, respectively.............. 85,640 184,148 177,681
Prepaid income taxes............. 588 283 --
Assets held for sale............. -- 13,000 1,250
Other current assets............. 6,537 21,264 24,810
-------- -------- --------
Total Current Assets.............. 105,766 252,710 238,785
Property and equipment, net....... 51,104 85,072 86,846
Intangible assets................. 171,378 258,079 252,415
Other assets...................... 8,701 24,857 31,659
-------- -------- --------
Total Assets...................... $336,949 $620,718 $609,705
======== ======== ========
<CAPTION>
<S> <C> <C> <C> <C>
Liabilities and Stockholders'
Equity
Current Liabilities:
Bank overdrafts.................. $ 2,073 $ 6,966 $ 9,315
Current portion of long-term debt
and notes payable............... 8,354 21,127 22,326
Accounts payable................. 21,490 27,489 25,379
Accrued payroll.................. 6,302 17,865 21,009
Accrued vacation................. 2,407 4,065 7,275
Accrued restructuring............ 7,648 9,357 5,291
Accrued other.................... 11,545 15,621 21,293
Due to third party payors........ 6,140 17,622 12,171
-------- -------- --------
Total Current Liabilities......... 65,959 120,112 124,059
Long-term debt, net of current
portion........................... 147,726 319,694 295,212
-------- -------- --------
Total liabilities................. 213,685 439,806 419,271
Commitments and Contingencies
(Note 15)
Minority interest in consolidated
subsidiary companies.............. 6,927 10,671 11,206
Preferred stock--Class A, non-
voting, $1,000 per share
redemption value
Authorized shares--55,000, Issued
and outstanding shares--52,848.. 55,843 60,398 62,854
Convertible preferred stock--Class
B, non-voting, $3.75 per share
redemption value Authorized
shares--16,000,000, Issued and
outstanding shares--16,000,000
shares in 1999 and 2000.......... -- 60,406 62,221
Stockholders' Equity:
Common stock--$.01 per value:
Authorized shares--63,000,000 in
1998, 78,000,000 in 1999 and
2000 respectively, Issued and
outstanding shares--42,349,
44,314,000 and 44,560,000
(unaudited) in 1998, 1999 and
2000, respectively.............. 423 443 446 606
Capital in excess of par......... 76,509 79,314 77,195 137,035
Accumulated deficit.............. (16,363) (29,469) (22,445) (22,445)
Treasury stock, at cost--28,000,
328,000 and 381,000 (unaudited)
shares in 1998, 1999 and 2000,
respectively.................... (48) (829) (1,028) (1,028)
Cumulative translation
adjustment...................... (27) (22) (15) (15)
-------- -------- -------- -------
Total Stockholders' Equity........ 60,494 49,437 54,153 114,153
-------- -------- -------- -------
Total Liabilities and
Stockholders' Equity.............. $336,949 $620,718 $609,705
======== ======== ========
</TABLE>

The accompanying notes are an integral part of these financial statements.

F-3
<PAGE>

Select Medical Corporation

Consolidated Statements of Operations
(in thousands, except per share amounts)

<TABLE>
<CAPTION>
For the Year Ended Six Months Ended
December 31, June 30,
--------------------------- ------------------
1997 1998 1999 1999 2000
------- -------- -------- -------- --------
(unaudited)
<S> <C> <C> <C> <C> <C>
Net operating revenues....... $11,194 $149,043 $455,975 $208,031 $397,422
------- -------- -------- -------- --------
Costs and expenses:
Cost of services........... 10,285 128,910 383,453 174,732 322,418
General and
administrative............ 3,276 12,526 21,420 9,277 14,768
Bad debt expense........... 179 4,014 8,858 3,067 12,633
Depreciation and
amortization.............. 285 4,942 16,741 6,825 14,095
Special charge............. -- 10,157 5,223 -- --
------- -------- -------- -------- --------
Total costs and expenses..... 14,025 160,549 435,695 193,901 363,914
------- -------- -------- -------- --------
Income (loss) from
operations................... (2,831) (11,506) 20,280 14,130 33,508
Other income and expense:
Other income................. (6,022) -- -- -- --
Interest income.............. (247) (406) (362) (199) (222)
Interest expense............. 183 5,382 21,461 8,828 18,300
------- -------- -------- -------- --------
Income (loss) before minority
interests and income taxes.. 3,255 (16,482) (819) 5,501 15,430
Minority interest in
consolidated subsidiary
companies................... -- 1,744 3,662 2,144 2,178
------- -------- -------- -------- --------
Income (loss) before income
taxes........................ 3,255 (18,226) (4,481) 3,357 13,252
Income tax expense
(benefit).................... 1,308 (182) 2,811 3,430 6,228
------- -------- -------- -------- --------
Net income (loss) before
extraordinary item........... 1,947 (18,044) (7,292) (73) 7,024
Extraordinary item........... -- -- 5,814 -- --
------- -------- -------- -------- --------
Net income (loss)............ $ 1,947 $(18,044) $(13,106) $ (73) $ 7,024
Less: Preferred dividends.... (266) (2,540) (5,175) (2,122) (4,271)
------- -------- -------- -------- --------
Net income (loss) available
to common stockholders....... $ 1,681 $(20,584) $(18,281) $ (2,195) $ 2,753
======= ======== ======== ======== ========
Net income (loss) per common
share:
Basic:
Net income (loss) before
extraordinary item...... $ 0.15 $ (0.95) $ (0.29) $ (0.05) $ 0.06
Extraordinary item....... -- -- (0.14) -- --
------- -------- -------- -------- --------
Net income (loss)........ $ 0.15 $ (0.95) $ (0.43) $ (0.05) $ 0.06
Diluted:
Net income (loss) before
extraordinary item...... $ 0.15 $ (0.95) $ (0.29) $ (0.05) $ 0.06
Extraordinary item....... -- -- (0.14) -- --
------- -------- -------- -------- --------
Net income (loss)........ $ 0.15 $ (0.95) $ (0.43) $ (0.05) $ 0.06
Weighted average shares
outstanding:
Basic...................... 11,383 21,731 42,633 42,517 44,180
Diluted.................... 11,395 21,731 42,633 42,517 49,681
</TABLE>

The accompanying notes are an integral part of these financial statements.

F-4
<PAGE>

Select Medical Corporation

Consolidated Statements of Changes in Stockholders' Equity

<TABLE>
<CAPTION>
Common Retained
Stock Capital Earnings/ Cumulative
Common Par in Excess (Accumulated Treasury Translation Comprehensive
Stock Value of Par Deficit) Stock Adjustment Income (Loss)
------ ------ --------- ------------ -------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1996.................... -- $ -- $ -- $ -- $ -- $ --
Net income............. -- -- -- 1,947 -- -- $ 1,947
Cumulative translation
adjustment............ -- -- -- -- -- -- --
--------
Total comprehensive
income................ -- -- -- -- -- -- $ 1,947
========
Issuance of common
stock................. 5,000 50 2,450 -- -- --
Two-for-one stock
split................. 5,000 50 (50) -- -- --
Issuance of common
stock................. 3,524 35 846 -- -- --
Three-for-two stock
split................. 6,762 68 (68) -- -- --
Preferred stock
dividends............. -- -- -- (266) -- --
------ ---- ------- -------- ------- ----
Balance at December 31,
1997.................... 20,286 $203 $ 3,178 $ 1,681 $ -- $ --
Net loss............... -- -- -- (18,044) -- -- (18,044)
Cumulative translation
adjustment............ -- -- -- -- -- (27) (27)
--------
Total comprehensive
loss.................. -- -- -- -- -- -- $(18,071)
========
Issuance of common
stock................. 22,063 220 74,785 -- -- --
Issuance of warrants... -- -- 1,086 -- -- --
Purchase of treasury
stock................. -- -- -- -- (48) --
Preferred stock
dividends............. -- -- (2,540) -- -- --
------ ---- ------- -------- ------- ----
Balance at December 31,
1998.................... 42,349 $423 $76,509 $(16,363) $ (48) $(27)
Net loss............... -- -- -- (13,106) -- -- (13,106)
Cumulative translation
adjustment............ -- -- -- -- -- 5 5
--------
Total comprehensive
loss.................. -- -- -- -- -- -- $(13,101)
========
Issuance of common
stock................. 1,965 20 6,230 -- -- --
Accretion of preferred
stock issuance costs.. -- -- (639) -- -- --
Issuance of warrants... -- -- 2,389 -- -- --
Purchase of treasury
stock................. -- -- -- -- (781) --
Preferred stock
dividends............. -- -- (5,175) -- -- --
------ ---- ------- -------- ------- ----
Balance at December 31,
1999.................... 44,314 443 79,314 (29,469) (829) (22)
<CAPTION>
Unaudited
------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Net income............. -- -- -- 7,024 -- -- 7,024
Cumulative translation
adjustment............ -- -- -- -- -- 7 7
--------
Total comprehensive
income................ -- -- -- -- -- -- $ 7,031
========
Issuance of common
stock................. 246 3 919 -- (199) --
Valuation of non-
employee options...... -- -- 91 -- -- --
Preferred stock
dividends............. -- -- (4,271) -- -- --
------ ---- ------- -------- ------- ----
Balance at June 30,
2000.................... 44,560 $446 $76,053 $(22,445) $(1,028) $(15)
====== ==== ======= ======== ======= ====

<CAPTION>
Unaudited
------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1998.................... 42,349 $423 $76,509 $(16,363) $ (48) $(27)
Net loss............... -- -- -- (73) -- -- (73)
Cumulative translation
adjustment............ -- -- -- -- -- 5 5
--------
Total comprehensive
loss.................. -- -- -- -- -- -- $ (68)
========
Issuance of common
stock................. 202 2 778 -- -- --
Purchase of treasury
stock................. -- -- -- -- (140) --
Preferred stock
dividends............. -- -- (2,122) -- -- --
------ ---- ------- -------- ------- ----
Balance at June 30,
1999.................... 42,551 $425 $75,165 $(16,436) $ (188) $(22)
</TABLE>

The accompanying notes are an integral part of these financial statements.

F-5
<PAGE>

Select Medical Corporation

Consolidated Statements of Cash Flows

<TABLE>
<CAPTION>
For the Year Ended Six Months Ended
December 31, June 30,
----------------------------- ------------------
1997 1998 1999 1999 2000
------- --------- --------- -------- --------
(unaudited)
<S> <C> <C> <C> <C> <C>
Operating activities
Net income (loss).......... $ 1,947 $ (18,044) $ (13,106) $ (73) $ 7,024
Adjustments to reconcile
net income (loss) to net
cash provided by (used in)
operating activities:
Depreciation and
amortization............. 285 4,942 16,741 6,825 14,095
Provision for bad debts... 179 4,014 8,858 3,067 12,633
Special charge............ -- 10,157 5,223 -- --
Extraordinary item........ -- -- 5,814 -- --
Gain on sale of assets.... -- -- (215) (215) --
Break-up fee.............. (6,022) -- -- -- --
Deferred income taxes..... (790) -- -- (179) --
Minority interests........ -- 1,744 3,662 2,144 2,178
Changes in operating
assets and liabilities,
net of effects from
acquisition
of businesses:
Accounts receivable..... (866) (17,513) (47,290) (43,189) (6,786)
Other current assets.... 190 3,229 (1,728) (107) (3,247)
Other assets............ (57) (1,539) (10,868) (7,918) (3,583)
Accounts payable........ 103 (2,591) 29 (4,932) (2,109)
Due to third-party
payors................. 367 (1,279) 8,715 14,746 (5,701)
Accrued expenses........ 1,061 (5,535) (2,688) (3,543) 5,392
Income taxes............ 1,236 (2,287) 1,696 431 5,659
------- --------- --------- -------- --------
Net cash provided by (used
in) operating activities... (2,367) (24,702) (25,157) (32,943) 25,555
------- --------- --------- -------- --------
Investing activities
Purchases of property and
equipment, net............. (1,319) (6,423) (10,896) (2,366) (10,183)
Proceeds from disposal of
assets held for sale....... -- -- -- -- 11,750
Proceeds from disposal of
assets..................... 5 -- 988 988 --
Earnout payments........... -- -- -- -- (1,959)
Break-up fee............... 6,022 -- -- -- --
Acquisition of businesses,
net of cash acquired....... (5,379) (203,058) (171,354) (6,780) (965)
------- --------- --------- -------- --------
Net cash used in investing
activities................. (671) (209,481) (181,262) (8,158) (1,357)
------- --------- --------- -------- --------
Financing activities
Proceeds from issuance of
debt....................... -- 135,071 154,849 44,325 --
Principal payments on
debt....................... (924) (6,482) (10,064) (5,592) (25,152)
Net proceeds from issuance
of Class A redeemable
preferred stock............ 5,440 47,616 -- -- --
Net proceeds from issuance
of Class B convertible
preferred stock............ -- -- 59,361 -- --
Proceeds from issuance of
common stock............... 3,381 65,719 1,041 780 922
Purchase of treasury
stock...................... -- (48) (781) (140) (199)
Redemption of preferred
stock...................... -- (19) (214) -- --
Proceeds from (repayment
of) bank overdrafts........ -- 2,073 4,893 4,679 2,348
Payment of deferred
financing costs............ -- (1,314) (10,883) (1,852) --
Distributions to minority
interests.................. -- (318) (722) (542) (1,095)
------- --------- --------- -------- --------
Net cash (used in) provided
by financing activities.... 7,897 242,298 197,480 41,658 (23,176)
------- --------- --------- -------- --------
Effect of exchange rate
changes on cash and cash
equivalents................ -- 27 5 5 7
------- --------- --------- -------- --------
Net increase (decrease) in
cash and cash equivalents.. 4,859 8,142 (8,934) 562 1,029
Cash and cash equivalents
at beginning of period..... -- 4,859 13,001 13,001 4,067
------- --------- --------- -------- --------
Cash and cash equivalents
at end of period........... $ 4,859 $ 13,001 $ 4,067 $ 13,563 $ 5,096
======= ========= ========= ======== ========
</TABLE>

The accompanying notes are an integral part of these financial statements.

F-6
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

1. Organization and Accounting Policies

Business Description

Select Medical Corporation and its subsidiaries (the "Company") was
formed in December 1996 and commenced operations during February 1997 upon the
completion of its first acquisition. The Company provides long-term acute care
hospital services through its Select Specialty Hospital division and provides
physical, occupational, and speech rehabilitation services through its
outpatient divisions. Select Specialty Hospital division owns and operates
long-term acute care hospitals. These hospitals, which average approximately 35
to 40 beds in size, operate generally in space leased within general acute care
hospitals. These hospitals offer intensive nursing care, vent weaning, and
therapy services to high acuity patients who require long lengths of hospital
care before being discharged to a nursing home or home care environment. At
December 31, 1998, December 31, 1999 and June 30, 2000, the Company operated
39, 44 and 49 long-term acute care hospitals, respectively. The Company's
outpatient divisions provide rehabilitation services in outpatient clinics
owned or managed by the Company and under therapy contracts with nursing homes,
schools, hospitals, and home care agencies. At December 31, 1998, December 31,
1999 and June 30, 2000, the Company had operations in Canada and 19, 33 and 37
states, respectively.

The financial information presented as of and for the periods ending June
30, 2000 and 1999 has been prepared from the books and records without audit.
Such financial information does not include all disclosures required by
generally accepted accounting principles. In the opinion of management, all
adjustments, consisting of normal recurring adjustments necessary for a fair
presentation of financial information for any interim periods presented have
been included. The results of the Company's operations for any interim period
are not necessarily indicative of the results attained for a full fiscal year.
The data disclosed in these notes to the consolidated financial statements
related to the interim periods are also unaudited.

Principles of Consolidation

The consolidated financial statements include the accounts of the
Company, its majority owned subsidiaries, limited liability companies and
limited partnerships the Company and its subsidiaries control through ownership
of general and limited partnership interests. All significant intercompany
balances and transactions are eliminated in consolidation. The Company does not
consolidate professional corporations where it has a long-term management
contract because the Company does not have a long-term controlling interest in
the affiliated practices as defined in "Emerging Issues Task Force No 97-2."
Instead the Company reports management services revenue earned under the terms
of the agreements.

Use of Estimates

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

Cash and Cash Equivalents

The Company considers all highly liquid investments with a maturity of
three months or less when purchased to be cash equivalents. Cash equivalents
are stated at cost which approximates market.

F-7
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

1. Organization and Accounting Policies (continued)

Property and Equipment

Property and equipment are stated at cost net of accumulated
depreciation. Depreciation and amortization are computed using the straight-
line method over the estimated useful lives of the assets or the term of the
lease, as appropriate. The general range of useful lives is as follows:

<TABLE>
<S> <C>
Leasehold improvements....................................... 5 years
Furniture and equipment...................................... 2--10 years
Buildings.................................................... 40 years
</TABLE>

Unamortized software costs totaled $1,416,000, $2,541,000 and $2,319,000
at December 31, 1998, December 31, 1999 and June 30, 2000, respectively.

Concentration of Credit Risk

Financial instruments that potentially subject the Company to
concentration of credit risk consist primarily of cash balances and trade
receivables. The Company invests its excess cash with large banks.

Assets Held for Sale

Assets held for sale are stated at their net realizable value. The
results of operations related to the assets held for sale are excluded from the
Company's operating results and will be reflected as an adjustment to the
purchase price when the assets are sold. No depreciation or amortization is
recognized on the assets held for sale.

Income Taxes

Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes.
Management provides a valuation allowance for net deferred tax assets when it
is more likely than not that a portion of such net deferred tax assets will not
be recovered.

Intangible Assets

Identifiable assets and liabilities acquired in connection with business
combinations accounted for under the purchase method are recorded at their
respective fair values. Deferred taxes have been recorded to the extent of
differences between the fair value and the tax basis of the assets acquired and
liabilities assumed. The excess of the purchase price over the fair value of
tangible net assets acquired is amortized on a straight-line basis over the
estimated useful life of the intangible assets. Company management performed
allocation of intangible assets between identifiable intangibles and goodwill
with the assistance of independent appraisers. Intangible assets other than
goodwill primarily consist of the values assigned to trademarks and assembled
work force. Management Service Agreements ("MSA's") represent consideration
paid to therapists groups for entering into MSA's with the Company. The
Company's MSA's are for a term of 20 years with renewal options. Intangible
assets are amortized over an average of 37 years. Management believes that the
estimated useful lives established at the dates of each transaction were
reasonable based on the economic factors applicable to each of the businesses.

F-8
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

1. Organization and Accounting Policies (continued)

The Company adopted Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to be Disposed Of" ("SFAS 121"), which establishes accounting standards for the
impairment of long-lived assets, certain identified intangible assets and
goodwill related to those assets to be held and used and for long-lived assets
and certain intangible assets to be disposed. In accordance with SFAS 121, the
Company reviews the realizability of long-lived assets, certain intangible
assets and goodwill whenever events or circumstances occur which indicate
recorded costs may not be recoverable. In addition, the Company also analyzes
the recovery of long-lived assets on an enterprise basis.

If the expected future cash flows (undiscounted) are less than the
carrying amount of such assets, the Company recognizes an impairment loss for
the difference between the carrying amount of the assets and their estimated
fair value (Note 9).

Due to Third-Party Payors

Due to third-party payors represents the difference between amounts
received under interim payment plans from third-party payors for services
rendered and amounts estimated to be reimbursed by those third-party payors
upon settlement of cost reports.

Minority Interests

The interests held by other parties in subsidiaries, limited liability
companies and limited partnerships owned and controlled by the Company are
reported on the consolidated balance sheets as minority interests. Minority
interests reported in the consolidated statements of operations reflect the
respective interests in the income or loss of the subsidiaries, limited
liability companies and limited partnerships attributable to the other parties.

Treasury Stock

Treasury stock is carried at cost, determined by the first-in, first-out
method.

Revenue Recognition

Net operating revenues consists of patient, contract therapy, and
management services revenues and are recognized as services are rendered.

Patient service revenue is reported at the net realizable amounts from
patients and third party payors. The Company has agreements with third-party
payors that provide for payments to the Company at amounts different from its
established rates. Payment arrangements include prospectively determined rates
per discharge, reimbursed costs, discounted charges, and per diem payments. Net
patient service revenue is reported at the estimated net realizable amounts
from patients, third-party payors, and others for services rendered, including
retroactive adjustments under reimbursement agreements with third-party payors.
Retroactive adjustments are accrued on an estimated basis in the period the
related services are rendered and adjusted in future periods as final
settlements are determined. Net operating revenues generated directly from the
Medicare program represented approximately 25%, 38%, 48%, 50% and 33% of the
Company's consolidated net operating

F-9
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

1. Organization and Accounting Policies (continued)

revenues for the years ended December 31, 1997, 1998 and 1999 and the six
months ended June 30, 1999 and 2000, respectively. Approximately 42% and 33% of
the Company's gross accounts receivable at December 31, 1998 and December 31,
1999, respectively, are from this payor source.

Management services revenues represent revenues earned under management
service agreements with professional corporations and associations in the
business of providing physical, occupational, and speech therapy.

Significant reductions in the patient service revenues generated in a
hospital may occur if the Company is unable to maintain the certification of
the hospital as a long-term acute care hospital (LTACH) in accordance with
Medicare regulations. Additionally, the majority of the Company's hospitals
operate in space leased from general acute care hospitals (host hospitals);
consequently, these hospitals are also subject to Medicare "Hospital within
Hospital" (HIH) regulations in addition to the general LTACH regulations. The
HIH regulations are designed to ensure that the hospitals are organizationally
and functionally independent of their host hospital. If an LTACH located in a
host hospital fails to meet the HIH regulations it also loses its status as an
LTACH. These determinations are made on an annual basis. Management believes
its LTACH's are in compliance with the Medicare regulations regarding HIH's and
LTACH's and that it will be able to meet the tests to maintain the future
status of its hospitals as LTACH's under the current Medicare regulations.

Other Income

Other income in 1997 consists principally of a transaction break-up fee.

Foreign Currency Translations

The Company uses the local currency as the functional currency for its
Canadian operations. All assets and liabilities of foreign operations are
translated into U.S. dollars at year-end exchange rates. Income statement items
are translated at average exchange rates prevailing during the year. The
resulting translation adjustments impacting comprehensive income (loss) are
recorded as a separate component of stockholders' equity.

Basic and Diluted Net Income (Loss) Per Share

Basic net income (loss) per common share is based on the weighted average
number of shares of common stock outstanding during each year. Diluted net
income (loss) per common share is based on the weighted average number of
shares of common stock outstanding during each year, adjusted for the effect of
common stock equivalents arising from the assumed exercise of stock options,
warrants and convertible preferred stock, if dilutive.

Derivatives and Hedging Activities

In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and hedging activities. It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement for financial position and measure those
instruments at fair value. SFAS No. 137, issued by the FASB in July 1999,
establishes a new effective date for SFAS No. 133. This statement, as amended
by SFAS No. 137, is effective for all fiscal quarters of fiscal years beginning
after June 15, 2000 and is therefore effective for the Company beginning with
its fiscal quarter ending March 31, 2001. Based upon the nature of the
financial

F-10
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

1. Organization and Accounting Policies (continued)

instruments and hedging activities in effect as of the date of this filing,
this pronouncement would require the Company to reflect the fair value of its
derivative instruments on the consolidated balance sheet. Changes in fair value
of these instruments will be reflected as a component of comprehensive income.
In June 2000, FASB issued SFAS No. 138, "Accounting for Certain Derivative
Instruments and Hedging Activities--an amendment of FASB Statement No. 133."
SFAS No.138 addresses a limited number of issues causing implementation
difficulties for SFAS No. 133. SFAS No. 138 is required to be adopted
concurrently with SFAS No. 133 and is therefore effective for the Company
beginning with its fiscal quarter ending March 31, 2001. Management is
currently evaluating the impact of SFAS No. 133 and SFAS No. 138 on the
consolidated financial statements.

2. Acquisitions, Disposal and Management Services Agreements

For the year ended December 31, 1997

On February 7, 1997, the Company acquired all of the outstanding stock of
Sports and Orthopedic Rehabilitation Services, P.A. (SORS). SORS owns and
operates outpatient clinics that provide sports and orthopedic rehabilitation
services.

On May 7, 1997, the Company acquired all of the outstanding stock of West
Penn Rehabilitation Services, Inc. (WPRS) and Physio Associates, Ltd. (PAL).
WPRS owns and operates outpatient clinics, which provide sports and orthopedic
rehabilitation services, and provides therapy services to patients in one long-
term care facility. PAL provides contract therapy services to hospitals, long-
term care facilities, health clinics and home health providers.

Effective June 30, 1997, the Company and a wholly owned subsidiary
acquired a combination of assets and stock and assumed certain liabilities of a
group of six business entities providing outpatient and contract rehabilitation
services and doing business under the name RehabSolutions. The acquisition
consisted of assets of Allegany Rehabilitation Associates, LLC, Haystack
Holding Company, and Enhanced Rehab, LLC, 90% of the outstanding stock of
Allegany Hearing and Speech, Inc., 90% of the membership interests of Mountain
Top Rehab, LLC, and all the membership interests of Allegany Sports Medicine,
LLC (ASM).

For the year ended December 31, 1998

On January 16, 1998, the Company acquired an 80% undivided interest in
certain assets of NW Rehabilitation Associates, Inc. and Medical Temporary
Specialists, Inc. These and the remaining 20% undivided interests were then
contributed to NW Rehabilitation Associates, LLC (NW Rehab), which is 80% owned
by the Company. NW Rehab provides rehabilitation services to third parties on a
contract basis and to various homecare providers.

On February 28, 1998, the Company acquired approximately 73% of the
outstanding stock of Canadian Back Institute Limited (CBIL). CBIL provides
rehabilitation services in clinics across Canada. CBIL carries on these
activities through various limited partnerships and corporations. In some cases
CBIL is the general partner only (through its wholly owned subsidiaries), in
certain other cases CBIL is also a limited partner (either directly or through
its wholly owned subsidiaries) and in other cases CBIL carries on its
activities through wholly owned or partially-owned subsidiaries.

F-11
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

2. Acquisitions, Disposal and Management Services Agreements (continued)

On June 4, 1998, the Company acquired 80% of the outstanding common stock
of PT Services, Inc. (PTS). PTS operates rehabilitation clinics and provides
contract therapy services.

On June 30, 1998, the Company acquired 100% of the outstanding stock of
American Transitional Hospitals (ATH), a wholly-owned subsidiary of Beverly
Enterprises, Inc., for $62,800,000 cash and $14,944,000 liabilities assumed.
ATH provides long-term acute care hospital services.

On December 16, 1998, the Company completed a public tender of the
outstanding stock of Intensiva Healthcare Corporation (Intensiva) for
$103,600,000 cash. The purchase was funded through the issuance of 18,571,429
shares of Select common stock and subordinate and bank debt. As part of the
acquisition, the Company accrued $7.6 million of costs related principally of
severance and other restructuring costs. Intensiva provides long-term acute
care hospital services.

During 1998, the Company acquired controlling interests in two outpatient
therapy businesses. The Company also acquired the non-medical assets of three
outpatient therapy businesses and executed long-term Management Services
Agreements (MSA) with the related professional corporations. Outpatient therapy
acquisitions consisted of The Summit Group on May 1, 1998 and Avalon
Rehabilitation on October 30, 1998. MSA's were executed with H&M Hecker, P.T,
P.C. on January 31, 1998, Professional Management Bureau, Inc. on February 28,
1998 and Cedar Bridge Physical Therapy, P.C., Cedar Bridge Rehab Services,
Inc., and KC Services, Inc. (collectively Cedar Bridge) on May 1, 1998.

For the Year Ended December 31, 1999

On January 8, 1999, the Company acquired 80% of the undivided interest in
the business and certain assets of Kentucky Orthopedic Rehab Team, PSC (KORT).
KORT operates rehabilitation clinics.

On November 19, 1999, the Company acquired 100% of the outstanding stock
of NovaCare Physical Rehabilitation and Occupational Health Group (NovaCare)
for $160,416,000 cash and $64,734,000 of liabilities assumed. The purchase was
funded through the issuance of 16,000,000 shares of Select Class B Convertible
Preferred stock and subordinate and bank debt. The Company is indemnified
against certain risks including receivables collection and certain joint
venture agreements through a $36,800,000 escrow account (see Note 19). In
November 1999, the Company recorded a $29,948,000 receivable related to the
receivable collection indemnification. As a part of the acquisition, the
Company accrued $5.7 million of costs related to the planned closure of
approximately 60 outpatient rehab clinics, the downsizing and relocation of the
NovaCare corporate headquarters and transaction-related expenses. NovaCare
provides outpatient physical therapy and rehabilitation services.

The Company planned to divest the Occupational Health segment of NovaCare
with total sale proceeds estimated at $13,000,000. Sales completed as of June
30, 2000 totaled $11,750,000. The sale of the remaining clinics is expected to
be completed in 2000. The expected net proceeds of this sale and the cash flows
of this segment until it is sold were allocated to assets held for sale in the
allocation of the NovaCare purchase price. Differences between the actual and
expected amount will result in an adjustment of goodwill unless there is a
difference caused by a post-acquisition event.

F-12
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

2. Acquisitions, Disposal and Management Services Agreements (continued)

During 1999, the Company acquired controlling interests in four
outpatient therapy businesses. Outpatient therapy acquisitions consisted of
Sports Rehabilitation and Physical Therapy Center, P.A. on March 1, 1999,
Senior Rehab, Inc. on March 31, 1999, Central Jersey Rehabilitation Services,
Inc. on May 15, 1999 and Hunsel Physical Therapy Services, Inc. on July 15,
1999.

The acquisitions were accounted for using the purchase method of
accounting, and results of operations from acquired companies are included in
these financial statements from the dates of acquisition.

The following unaudited results of operations have been prepared assuming
all acquisitions consummated on or before December 31, 1999 had occurred as of
the beginning of the periods presented. These results are not necessarily
indicative of results of future operations nor of the results that would have
occurred had the acquisitions been consummated as of the beginning of the
periods presented.

<TABLE>
<CAPTION>
For the year ended December 31,
----------------------------------------
1997 1998 1999
------------ ------------ ------------
(unaudited) (unaudited) (unaudited)
<S> <C> <C> <C>
Revenues.............................. $535,637,000 $572,021,000 $720,116,000
Loss before extraordinary items....... (11,198,000) (26,764,000) 78,569,000
Net loss.............................. (11,198,000) (26,764,000) 84,383,000
</TABLE>

Information with respect to businesses acquired in purchase transactions
is as follows:

<TABLE>
<CAPTION>
For the year ended December 31,
-------------------------------------
1997 1998 1999
----------- ------------ ------------
<S> <C> <C> <C>
Cash paid (net of cash acquired)......... $ 5,379,000 $203,058,000 $171,354,000
Notes issued............................. 2,540,000 18,343,000 7,783,000
Other consideration...................... -- 785,000 --
----------- ------------ ------------
7,919,000 222,186,000 179,137,000
Liabilities assumed...................... 3,830,000 105,286,000 65,744,000
----------- ------------ ------------
11,749,000 327,472,000 244,881,000
Fair value of assets acquired,
principally accounts receivable and
property and equipment.................. 5,528,000 159,554,000 144,623,000
Trademarks............................... -- -- 40,000,000
Management services agreements........... -- 8,829,000 1,520,000
Assembled workforce...................... -- 8,480,000 9,200,000
----------- ------------ ------------
Cost in excess of fair value of net
assets acquired......................... $ 6,221,000 $150,609,000 $ 49,538,000
=========== ============ ============
</TABLE>

F-13
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

3. Property and Equipment

Property and equipment consists of the following:

<TABLE>
<CAPTION>
December 31,
-------------------------- June 30,
1998 1999 2000
------------ ------------ ------------
<S> <C> <C> <C>
Land................................ $ 1,488,000 $ 501,000 $ 501,000
Leasehold improvements.............. 14,331,000 19,800,000 24,697,000
Buildings........................... 17,000,000 17,000,000 17,000,000
Furniture and equipment............. 23,047,000 64,572,000 70,821,000
Construction in progress............ 602,000 661,000 519,000
------------ ------------ ------------
56,468,000 102,534,000 113,538,000
Less: accumulated depreciation and
amortization....................... 5,364,000 17,462,000 26,692,000
------------ ------------ ------------
Total property and equipment........ $ 51,104,000 $ 85,072,000 $ 86,846,000
============ ============ ============

4. Intangible Assets

Intangible assets consist of the following:

<CAPTION>
December 31,
-------------------------- June 30,
1998 1999 2000
------------ ------------ ------------
<S> <C> <C> <C>
Goodwill............................ $156,056,000 $198,254,000 $195,383,000
Trademarks.......................... -- 40,000,000 40,000,000
Management services agreements...... 8,829,000 10,343,000 10,343,000
Assembled workforce................. 8,480,000 17,544,000 17,544,000
------------ ------------ ------------
173,365,000 266,141,000 263,270,000
Less: accumulated amortization...... 1,987,000 8,062,000 10,855,000
------------ ------------ ------------
Total intangible assets............. $171,378,000 $258,079,000 $252,415,000
============ ============ ============

The following summarizes the Company's intangible asset activity:

<CAPTION>
December 31,
-------------------------- June 30,
1998 1999 2000
------------ ------------ ------------
<S> <C> <C> <C>
Beginning balance of intangibles,
net................................ $ 5,907,000 $171,378,000 $258,079,000
Intangibles recorded for companies
purchased in current year.......... 167,918,000 100,258,000 3,212,000
Intangibles adjusted for companies
purchased in prior year for:
Asset impairments................... -- (3,691,000) --
Income tax benefits recognized...... -- (1,314,000) (5,375,000)
Translation adjustment.............. (676,000) 671,000 (267,000)
Other............................... -- (3,471,000) 691,000
Earn out payments, net.............. -- -- 687,000
Amortization........................ (1,771,000) (5,752,000) (4,612,000)
------------ ------------ ------------
Net increase (decrease) in
intangibles........................ 165,471,000 86,701,000 (5,664,000)
------------ ------------ ------------
Ending balance of intangibles, net.. $171,378,000 $258,079,000 $252,415,000
============ ============ ============
</TABLE>

F-14
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

5. Restructuring Charges

During 1998, the Company recorded a $7,648,000 restructuring reserve in
connection with the acquisition of Intensiva. The Company also recorded a
restructuring reserve in 1999 related to the NovaCare acquisition of
$5,743,000. The reserves primarily included costs associated with workforce
reductions of 25 and 162 employees in 1998 and 1999, respectively, and lease
buyouts in accordance with the Company's qualified restructuring plan. These
reserves were recorded as part of the purchase price under EITF 95-3.
Additionally, $3,187,000 of lease termination liabilities were assumed through
acquisitions.

The following summarizes the Company's restructuring activity:

<TABLE>
<CAPTION>
Lease
Termination
Costs Severance Other Total
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
January 1, 1998........... $ -- $ -- $ -- $ --
1998 acquisition
restructuring costs...... 536,000 5,914,000 1,198,000 7,648,000
----------- ----------- ----------- -----------
December 31, 1998......... 536,000 5,914,000 1,198,000 7,648,000
Amounts paid in 1999...... (109,000) (5,914,000) (1,198,000) (7,221,000)
1999 restructuring
liabilities assumed...... 3,187,000 -- -- 3,187,000
1999 acquisition
restructuring costs...... 3,600,000 700,000 1,443,000 5,743,000
----------- ----------- ----------- -----------
December 31, 1999......... 7,214,000 700,000 1,443,000 9,357,000
Amounts paid in 2000...... (2,482,000) (150,000) (1,434,000) (4,066,000)
----------- ----------- ----------- -----------
June 30, 2000............. $ 4,732,000 $ 550,000 $ 9,000 $ 5,291,000
=========== =========== =========== ===========
</TABLE>

Management expects to pay out the remaining restructuring reserves
through 2003.

6. Long-Term Debt and Notes Payable

The components of long-term debt and notes payable are shown in the
following table:

<TABLE>
<CAPTION>
December 31,
------------------------- June 30,
1998 1999 2000
------------ ------------ ------------
<S> <C> <C> <C>
Credit facility......................... $ 98,338,000 $209,076,000 $199,094,000
10% Senior Subordinated Notes, net of
discount of $9,286,000, $14,096,000 and
$13,660,000 in 1998, 1999 and 2000,
respectively........................... 25,714,000 75,904,000 76,340,000
Seller notes............................ 19,299,000 53,702,000 40,049,000
Assumed Intensiva debt.................. 10,554,000 -- --
Other................................... 2,175,000 2,139,000 2,055,000
------------ ------------ ------------
Total debt.............................. 156,080,000 340,821,000 317,538,000
Less: current maturities................ 8,354,000 21,127,000 22,326,000
------------ ------------ ------------
Total long-term debt.................... $147,726,000 $319,694,000 $295,212,000
============ ============ ============
</TABLE>

On November 19, 1999, the Company entered into a $225 million credit
facility which expires on November 19, 2002. This credit facility replaced the
Company's U.S. Credit Facility and its Canadian Credit

F-15
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

6. Long-Term Debt and Notes Payable (continued)

Facility dated February 9, 1999. Proceeds from the facility were used for
acquisitions and hospital development activities. The facility consists of a
$200 million Term Commitment and a $25 million Revolving Commitment. Borrowings
bear interest at LIBOR plus 3.5% or Base Rate (approximately 10% at December
31, 1999) as defined in the agreement. The unused portion of the Revolving
Commitment at December 31, 1999 was approximately $12 million. The credit
facility included restrictions on certain payments by the Company including
dividend payments, minimum net worth requirements and other covenants. The Term
Commitment decreases by $3,861,413 quarterly beginning on December 31, 2000
until December 31, 2001, and $5,516,304 per quarter from March 31, 2002 through
September 30, 2002. The Revolving Commitment is payable in full on November 19,
2002. A commitment fee of .5% per annum is charged on the unused portion of the
credit facility. The Company is authorized to issue up to $10,000,000 in
letters of credit. Letters of credit reduce the capacity under the Revolving
Commitment and bear interest at 3.5%. Approximately $2,700,000 in letters of
credit was available at December 31, 1999.

The Senior Subordinated Notes were issued to a principal stockholder of
the Company and have common shares attached which were recorded at the
estimated fair market value on the date of issuance. The common shares issued
were recorded as a discount to the Senior Subordinated Notes and will be
amortized over the life of the debt using the interest method. Senior
Subordinated Notes were issued as follows during 1999 and 1998:

<TABLE>
<CAPTION>
Shares Share
Date of issuance Principal issued value Discount Maturity
---------------- ----------- --------- ----- ----------- -----------------
<S> <C> <C> <C> <C> <C>
December 16, 1998.... $35,000,000 2,653,060 $3.50 $ 9,285,710 December 31, 2008
February 9, 1999..... 30,000,000 -- -- -- December 31, 2008
November 19, 1999.... 25,000,000 1,667,000 3.75 5,209,375 November 19, 2009
----------- --------- ----- -----------
Total................ $90,000,000 4,320,060 $3.75 $14,495,085
</TABLE>

In the event the Company repays the November 19, 1999 promissory notes on
or before November 19, 2001, 416,750 shares of common stock attached to the
notes will be transferred back to the Company.

The Company's obligations under its current and previous credit
agreements are collateralized by guarantees of two of the Company's principal
stockholders. In connection with the debt guarantees, the Company and certain
shareholders entered into a warrant agreement. The Company issued 799 and 1,500
warrants to these shareholders in 1999 and 1998, respectively, that entitle the
holder of each warrant to purchase one share of common stock at an exercise
price of $3.50 per share or at a price equal to the lowest selling price of
common shares sold by the Company after June 30, 1998. The warrants expire on
June 30, 2003. The value of the warrants is being accounted for as financing
costs and the related amortization is included as a component of interest
expense.

The Seller Notes relate to the acquisition of related businesses and
require periodic payments of principal, generally over three years, and
interest through maturity. Also, certain of the notes contain minimum net worth
requirements. Interest rates are at 6% to 9% per annum.

In connection with the Intensiva acquisition, the Company assumed
$10,554,000 of bank notes. The note agreement had a change of ownership
provision which resulted in the entire balance becoming

F-16
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

6. Long-Term Debt and Notes Payable (continued)

immediately payable due to the change in ownership. This note was refinanced
through the Company's credit facility on January 13, 1999.

Maturities of long-term debt for the years after 2000 are approximately
as follows:

<TABLE>
<S> <C>
2001........................................................ $ 26,202,000
2002........................................................ 211,608,000
2003........................................................ 3,198,000
2004........................................................ 1,478,000
2005 and beyond............................................. 77,208,000
</TABLE>

The Company refinanced its existing credit facility in September 2000.
The new credit agreement consists of a $175 million term commitment and a $55
million revolving commitment. The term debt begins quarterly amortization in
September 2001, with a final maturity date of September 2005. The revolving
commitment, which also matures in September 2005, can be increased at the
Company's discretion by $20 million before November 21, 2001. Borrowings under
the facility bear interest at either LIBOR or Prime rate, plus applicable
margins based on financial covenant ratio tests. Deferred financing costs of
approximately $6,000,000 will be charged to expense as an extraordinary item in
the quarter ending September 30, 2000.

Maturities of long-term debt at December 31, 1999 modified under the new
credit agreement for the years after 2000 are approximately as follows:

<TABLE>
<S> <C>
2001........................................................ $ 22,702,000
2002........................................................ 32,661,000
2003........................................................ 43,245,000
2004........................................................ 51,421,000
2005 and beyond............................................. 169,665,000
</TABLE>

7. Redeemable Preferred Stock and Stockholders' Equity

Class A Preferred Stock

The Company is authorized to issue 55,000 shares of cumulative, non-
voting Class A Preferred Stock (53,000 shares outstanding at December 31, 1999
and 1998). The Company sold 48,000 shares of Class A Preferred Stock during
1998 with total proceeds of $47,616,000 used primarily to fund acquisitions and
provide working capital. The Class A Preferred Stock ranks senior to the Common
Stock as to dividends, liquidation, and redemption rights. The Company may at
any time and from time to time redeem all or any portion of the shares of Class
A Preferred Stock. The Company is required to redeem 50% of the outstanding
shares of Class A Preferred Stock on December 31, 2004 and 50% on December 31,
2005. At the request of the holders of a majority of the Class A Preferred
Stock, the Company is required to (i) apply the net cash proceeds from any
Public Offering to redeem shares of Class A Preferred Stock and (ii) redeem
shares of Class A Preferred Stock upon a change in control or other events as
defined. The redemption price per share is $1,000 plus all accrued and unpaid
dividends thereon. The Class A Preferred Stock has an annual cash dividend rate
of 8% per share, which accrues on a daily basis. Included in the Class A
Preferred Stock amount at December 31, 1998,

F-17
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

7. Redeemable Preferred Stock and Stockholders' Equity (continued)

December 31, 1999 and June 30, 2000 are $2,805,000, $7,550,000 and $10,007,000,
respectively, of accrued and undeclared dividends.

Class B Preferred Stock

In connection with the NovaCare acquisition (Note 2), the Company sold
16,000 shares of Class B Preferred Stock at a price of $3.75 per share for net
proceeds of $59,361. The Class B Preferred Stock ranks senior to the Class A
Preferred Stock and Common Stock as to dividends, liquidation, and redemption
rights. The Company may at any time and from time to time redeem all or any
portion of the shares of Class B Preferred Stock. At the request of the holders
of a majority of the Class B Preferred Stock, the Company is required to (i)
apply the net cash proceeds from any Public Offering to redeem shares of Class
B Preferred Stock and (ii) redeem shares of Class B Preferred Stock upon a
change in control or other events as defined. The redemption price per share is
$3.75 plus all accrued and unpaid dividends thereon. Each share of Class B
preferred stock is convertible at any time, at the option of the stockholder,
into one share of common stock. The Class B Preferred Stock has an annual cash
dividend rate of 6% per share, which accrues on a daily basis. Included in the
Class B Preferred Stock amount at December 31, 1999 and June 30, 2000 are
$406,000 and $2,221,000, respectively, of accrued and undeclared dividends.

If at any time the Company effects a public offering of its Common Stock
in which (i) the price per share paid by the public is at least $5.63 and (ii)
the aggregate price paid for such shares is at least $25,000,000 (Qualified
Public Offering), each share of the outstanding Class B Preferred Stock
automatically converts into one share of Common Stock. Since the Company
expects that the proceeds and per share price of the planned public offering
will be a Qualified Public Offering. The effects of the mandatory conversion
have been reflected as pro forma unaudited amounts in the accompanying
Consolidated Balance Sheet.

Common Stock

Shares of common stock issued during 1997 totaled 20,286,000. The shares
were issued to management at $.17 (adjusted for stock splits) for proceeds
totaling $3,381,000. The Certificate of Incorporation was amended on February
7, 1997 to allow for a two-for-one split in the shares of common stock and
again on July 24, 1997 to allow for a three-for-two split of the shares of
common stock.

In order to raise proceeds for the Intensiva acquisition in December
1998, the Company sold 18,571,429 shares of common stock at a price of $3.50
for proceeds, net of issuance costs of $685,000 totaling $64,362,000. In
addition, 2,653,000 shares of common stock were issued in conjunction with the
Senior Subordinated Notes to fund the acquisition of Intensiva (Note 6). Other
shares of common stock issued in 1998 totaled 839,000. These shares were issued
to management at prices ranging from $.17 (adjusted for stock splits) to $3.50
cash for proceeds totaling $1,357,000.

Shares of common stock sold in 1999 totaled 297,000. The shares were
issued to management at prices ranging from $3.50 to $3.75 for proceeds
totaling $1,041,000. The Company purchased 300,000 shares as treasury stock
during 1999 for $781,000. In addition, 1,667,000 shares of common stock were
issued in conjunction with the Senior Subordinated Notes dated November 19,
1999 (Note 6).

F-18
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

7. Redeemable Preferred Stock and Stockholders' Equity (continued)

A Restated Certificate of Incorporation was amended on August 28, 1998,
December 15, 1998, and November 19, 1999 to increase the authorized shares of
common stock to 24,000,000, 63,000,000 and 78,000,000, respectively. The
November 19, 1999 amendment also authorized the issuance of 16,000,000 shares
of Class B Preferred Stock.

8. Stock Option Plan

The Company has a 1997 Stock Option Plan that provides for the granting
of options to purchase shares of Company stock to certain executives, employees
and directors.

Under the 1997 Stock Option Plan, options to acquire up to 10,000,000
shares of the stock may be granted. Options under the plan carry various
restrictions. Under the Plan, certain options granted to employees will be
qualified incentive stock options within the meaning of Section 422A of the
Internal Revenue Code and other options will be considered nonqualified stock
options. Both incentive stock options and nonqualified stock options may be
granted for no less than market value at the day of the grant and expire no
later than ten years after the date of the grant.

Transactions and other information related to the Stock Option Plan are
as follows:

<TABLE>
<CAPTION>
Price
Per Share Shares
------------- ---------
<S> <C> <C>
Balance, December 31, 1997............................. $ 1.00 71,000
Granted.............................................. 3.50 2,721,000
Exercised............................................ -- --
Forfeited............................................ 1.00 to 3.50 (51,000)
------------- ---------
Balance, December 31, 1998............................. 1.00 to 3.50 2,741,000
Granted.............................................. 3.50 to 3.75 2,608,000
Exercised............................................ -- --
Forfeited............................................ 1.00 to 3.50 (153,000)
------------- ---------
Balance, December 31, 1999............................. 1.00 to 3.75 5,196,000
Granted.............................................. 3.75 1,920,000
Exercised............................................ 3.50 (4,000)
Forfeited............................................ 1.00 to 3.75 (79,000)
------------- ---------
Balance, June 30, 2000................................. $1.00 to 3.75 7,033,000
============= =========
</TABLE>

F-19
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

8. Stock Option Plan (continued)

Additional information with respect to the outstanding options as of
December 31, 1997, 1998 and 1999 and the six months ended June 30, 2000 is as
follows:

<TABLE>
<CAPTION>
Range of Exercise Prices
-----------------------------
0.00-1.00 1.01-3.50 3.51-3.75
--------- --------- ---------
<S> <C> <C> <C>
Number outstanding at December 31, 1997......... 71,000 -- --
Options outstanding weighted average remaining
contractual life............................... 9.83 -- --
Weighted average exercise price................. $1.00 -- --
Number outstanding at December 31, 1998......... 31,000 2,710,000 --
Options outstanding weighted average remaining
contractual life............................... 8.86 9.91 --
Weighted average exercise price................. $1.00 $3.50 --
Number outstanding at December 31, 1999......... 31,000 2,841,000 2,324,000
Options outstanding weighted average remaining
contractual life............................... 7.86 8.97 9.90
Weighted average exercise price................. $1.00 $3.50 $3.75
Number of exercisable........................... 11,400 2,300,700 2,324,000
Unaudited
---------
Number outstanding at June 30, 2000............. 30,000 2,806,000 4,197,000
Options outstanding weighted average remaining
contractual life............................... 7.36 8.48 9.49
Weighted average exercise price................. $1.00 $3.50 $3.75
</TABLE>

The Company adopted Statement of Financial Accounting Standards No. 123,
"Accounting for Stock Based Compensation" (SFAS 123). As permitted by SFAS 123,
the Company has chosen to apply APB Opinion No 25, "Accounting for Stock Issued
to Employees" (APB 25) and related interpretations in accounting for its Plan.
Had compensation costs for the Plan been determined based on the fair value at
the grant dates for awards under the Plan consistent with the method of SFAS
123, approximately $1,300,000, $1,020,000 and $351,000 of additional
compensation expense, net of tax, would have been recognized during the years
ended December 31, 1998 and 1999 and the six months ended June 30, 2000,
respectively.

The fair value of each option grant is estimated on the date of the grant
using the Black-Scholes option pricing model assuming no dividend yield or
volatility, an expected life of four years from the date of vesting and a risk
free interest rate of 4.6%.

For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The Company's
pro forma net earnings and earnings per share were as follows:

<TABLE>
<CAPTION>
Six months
ended
June 30,
1997 1998 1999 2000
------ -------- -------- ----------
<S> <C> <C> <C> <C>
Net income (loss)--as reported.......... $1,947 $(18,044) $(13,106) $7,024
Net income (loss)--pro forma............ 1,947 (19,344) (14,126) 6,673
Basic earnings (loss) per share--as
reported............................... 0.15 (0.95) (0.43) 0.06
Basic earnings (loss) per share--pro
forma.................................. 0.15 (1.01) (0.45) 0.05
Diluted earnings (loss) per share--as
reported............................... 0.15 (0.95) (0.43) 0.06
Diluted earnings (loss) per share--pro
forma.................................. 0.15 (1.01) (0.45) 0.05
</TABLE>

F-20
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

9. Income Taxes

Significant components of the Company's tax provision (benefit) for the
years ended December 31, 1997, 1998 and 1999 are as follows:

<TABLE>
<CAPTION>
1997 1998 1999
---------- --------- ----------
<S> <C> <C> <C>
Current:
Federal.................................... $1,244,000 $ -- $1,314,000
State and local............................ 318,000 755,000 1,497,000
Foreign.................................... -- -- --
---------- --------- ----------
Total current................................ 1,562,000 755,000 2,811,000
Deferred:
Federal.................................... (202,000) (937,000) --
State and local............................ (52,000) -- --
---------- --------- ----------
Total deferred............................... (254,000) (937,000) --
---------- --------- ----------
Total income tax provision (benefit)......... $1,308,000 $(182,000) $2,811,000
========== ========= ==========
</TABLE>

The difference between the expected income tax provision at the federal
statutory rate of 34% and the income tax benefit recognized in the financial
statements is as follows:

<TABLE>
<CAPTION>
1997 1998 1999
---- ----- -----
<S> <C> <C> <C>
Expected federal tax rate................................. 34.0% (34.0%) (34.0%)
State taxes, net of federal benefit....................... 5.4 2.7 22.1
Non-deductible goodwill................................... -- 2.0 36.4
Other permanent differences............................... 0.8 0.4 5.2
Foreign taxes............................................. -- 1.0 (1.1)
Valuation allowance....................................... -- 26.6 32.6
Other..................................................... -- 0.3 1.5
---- ----- -----
Total..................................................... 40.2% (1.0%) 62.7%
==== ===== =====
</TABLE>

Undistributed earnings of the Company's foreign subsidiary are
permanently reinvested. Accordingly, no deferred taxes have been provided on
these earnings.

F-21
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

9. Income Taxes (continued)

A summary of deferred tax assets and liabilities is as follows:

<TABLE>
<CAPTION>
1997 1998 1999
--------- ------------ ------------
<S> <C> <C> <C>
Deferred tax assets (liabilities)--
current
Allowance for doubtful accounts........ $ 292,000 $ 8,516,000 $ 13,735,000
Compensation and benefit related
accruals.............................. 125,000 877,000 2,972,000
Expenses not currently deductible for
tax................................... (440,000) 2,014,000 --
--------- ------------ ------------
Net deferred tax asset (liability)--
current............................... (23,000) 11,407,000 16,707,000
--------- ------------ ------------
Deferred tax assets (liabilities)--non
current
Expenses not currently deductible for
tax................................... 61,000 2,899,000 2,786,000
Net operating loss carry forwards...... -- 9,128,000 18,698,000
Depreciation and amortization.......... (60,000) (3,630,000) 1,687,000
Other.................................. 1,000 -- --
--------- ------------ ------------
Net deferred tax asset--non current.... 2,000 8,397,000 23,171,000
--------- ------------ ------------
Net deferred tax asset (liability)
before valuation allowance............ (21,000) 19,804,000 39,878,000
Valuation allowance.................... -- (18,867,000) (38,941,000)
--------- ------------ ------------
$ (21,000) $ 937,000 $ 937,000
========= ============ ============
</TABLE>

The Company provided, in 1998 and 1999, a valuation allowance for
substantially all net deferred tax assets. This was based on management's
judgement, after weighing the negative historical information and the positive
future information, that it is more likely than not that such deferred tax
assets will not be realized.

The increase in the valuation allowance in 1999 is related to the
increase in deferred tax assets primarily related to acquisitions. The Company
has approximately $33,800,000 in federal net operating loss carry forwards.
Such carry forwards expire as follows:

<TABLE>
<S> <C>
2001......................................................... $ 441,000
2002......................................................... 461,000
2003......................................................... --
2004......................................................... --
Thereafter through 2019...................................... 32,898,000
</TABLE>

As a result of the acquisition of Intensiva, ATH and NovaCare, the
Company is subject to the provisions of Section 382 of the Internal Revenue
Code which provide for annual limitations on the deductibility of acquired net
operating losses and certain tax deductions. These limitations apply until the
earlier of utilization or expiration of the net operating losses. Additionally,
if certain substantial changes in the Company's ownership should occur, there
would be an annual limitation on the amount of the carryforwards that can be
utilized.

F-22
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

10. Special Charge

The special charge consists of the following components:

<TABLE>
<CAPTION>
1998 1999
----------- ----------
<S> <C> <C>
Asset impairments................................. $ 6,331,000 $5,223,000
Litigation settlement............................. 3,826,000 --
----------- ----------
Total special charge.............................. $10,157,000 $5,223,000
=========== ==========
</TABLE>

The 1998 impaired asset charge of $6,331,000 resulted from assets that
were identified in accordance with the Company's policy on impairments based
upon a review of the facts and circumstances related to the assets. The amount
of the charge was determined based upon the comparison of the future discounted
cash flows resulting from the assets and the carrying value of these assets.
The impairment related to assets acquired in May 1998. These assets were
adversely affected by changes in the composition of the businesses at and
immediately subsequent to the acquisitions.

During May 1999, the Company and two of its subsidiaries participated in
the settlement of litigation related to the alleged breach of non-compete
agreements initiated during 1997 by Horizon/CMS Healthcare Corporation and
certain of its affiliates against the Company, Messrs. Rocco Ortenzio, Chairman
and CEO, and Robert Ortenzio, President and COO, and certain other officers and
employees of the Company. The Company's portion of the settlement was
$3,000,000 and its share of the related legal costs was $826,000, both of which
were recognized as a special charge in December 1998 and were paid in 1999.

The 1999 special charge consists of asset impairments of $5,223,000. The
charge relates to the impairment of goodwill, leasehold improvements and
equipment that resulted from closures and relocations of certain hospitals and
clinics in December 1999.

11. Extraordinary item

On November 19, 1999, the Company entered into a new $225 million credit
facility as part of the NovaCare acquisition (Note 6). This credit facility
replaced the Company's $155 million credit facility from February 9, 1999. The
extraordinary item consists of the unamortized deferred financing costs of
$5,814,000 related to the February 9, 1999 credit facility.

12. Retirement Savings Plan

Beginning March 1, 1998, the Company sponsored a defined contribution
retirement savings plan for substantially all of its employees. Employees may
elect to defer up to 15% of their salary. The Company matches 50% of the first
6% of compensation employees contribute to the plan. The employees vest in the
employer contributions over a three-year period beginning on employee hire
date. The expense incurred by the Company related to this plan was $620,000,
$1,728,000, $805,000 and $2,073,000 during the years ended December 31, 1998
and 1999 and the six months ended June 30, 1999 and 2000, respectively.

A subsidiary sponsored a noncontributory defined contribution retirement
plan for its employees. The subsidiary contributed 9.25% and 7.60% of employee
salaries up to a maximum contribution of $15,000 and

F-23
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

12. Retirement Savings Plan (continued)

$13,000 per employee in 1998 and 1999, respectively. Approximately $700,000,
$560,000, $131,000 and $175,000 of contributions related to this plan were
expensed during the years ended December 31, 1998 and 1999 and the six months
ended June 30, 1999 and 2000, respectively.

13. Segment Information

SFAS No. 131, "Disclosure about Segments of an Enterprise and Related
Information," establishes standards for reporting information about operating
segments and related disclosures about products and services, geographic areas
and major customers. The adoption of SFAS No. 131 did not affect the Company's
results of operations or financial position.

The Company's segments consist of (i) inpatient hospitals and (ii)
outpatient rehabilitation. The inpatient hospitals were acquired beginning
July 1, 1998 and therefore, the Company consisted of only one segment for the
year ended December 31, 1997.

The accounting policies of the segments are the same as those described
in the summary of significant accounting policies. The Company evaluates
performance based on EBITDA of the respective business units. EBITDA is
defined as earnings before interest, minority interest, income taxes,
extraordinary items, special charges, depreciation and amortization. All
segment revenues are from external customers.

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

<TABLE>
<CAPTION>
Year Ended December 31, 1998
------------------------------------------------------
Inpatient Outpatient
Hospitals Rehabilitation All Other Total
------------ -------------- ------------ ------------
<S> <C> <C> <C> <C>
Net revenue.............. $ 62,715,000 $ 83,059,000 $ 3,269,000 $149,043,000
EBITDA................... 3,147,000 12,598,000 (12,150,000) 3,595,000
Total assets............. 240,266,000 90,267,000 6,416,000 336,949,000
<CAPTION>
Year Ended December 31, 1999
------------------------------------------------------
Inpatient Outpatient
Hospitals Rehabilitation All Other Total
------------ -------------- ------------ ------------
<S> <C> <C> <C> <C>
Net revenue.............. $307,464,000 $141,740,000 $ 6,771,000 $455,975,000
EBITDA................... 35,929,000 22,697,000 (16,382,000) 42,244,000
Total assets............. 250,034,000 350,419,000 20,265,000 620,718,000
<CAPTION>
Six Months Ended June 30, 1999
------------------------------------------------------
Inpatient Outpatient
Hospitals Rehabilitation All Other Total
------------ -------------- ------------ ------------
<S> <C> <C> <C> <C>
Net revenue.............. $148,235,000 $ 56,292,000 $ 3,504,000 $208,031,000
EBITDA................... 17,168,000 10,991,000 (7,204,000) 20,955,000
Total assets............. 246,323,000 125,901,000 17,276,000 389,500,000
</TABLE>

F-24
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

13. Segment Information (continued)

<TABLE>
<CAPTION>
Six Months Ended June 30, 2000
----------------------------------------------------
Inpatient Outpatient
Hospitals Rehabilitation All Other Total
------------ -------------- ---------- ------------
<S> <C> <C> <C> <C>
Net revenue................ $178,309,000 $214,110,000 $5,003,000 $397,422,000
EBITDA..................... 20,942,000 36,433,000 (9,772,000) 47,603,000
Total assets............... 246,297,000 350,453,000 12,955,000 609,705,000
</TABLE>

A reconciliation of EBITDA to net income is as follows:

<TABLE>
<CAPTION>
Six months Six months
ended ended
June 30, June 30,
1998 1999 1999 2000
------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
EBITDA.................. $ 3,593,000 $ 42,244,000 $20,955,000 $ 47,603,000
Depreciation and
amortization........... (4,942,000) (16,741,000) (6,825,000) (14,095,000)
Special charge.......... (10,157,000) (5,223,000) -- --
Interest income......... 406,000 362,000 199,000 222,000
Interest expense........ (5,382,000) (21,461,000) (8,828,000) (18,300,000)
Minority interest....... (1,744,000) (3,662,000) (2,144,000) (2,178,000)
Income tax (expense)
benefit................ 182,000 (2,811,000) (3,430,000) (6,228,000)
Extraordinary item...... -- (5,814,000) -- --
------------ ------------ ----------- ------------
Net income (loss)....... $(18,044,000) $(13,106,000) $ (73,000) $ 7,024,000
============ ============ =========== ============
</TABLE>

14. Net Income per Share

Under SFAS No. 128, "Earnings per Share" (EPS), the Company's granting of
certain stock options, warrants and convertible preferred stock resulted in
potential dilution of basic EPS. The following table sets forth for the periods
indicated the calculation of net income (loss) per share in the Company's
consolidated Statement of Operations and the differences between basic weighted
average shares outstanding and diluted weighted average shares outstanding used
to compute diluted EPS:

F-25
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

14. Net Income per Share (continued)

The following table sets forth for the periods indicated the calculation
of net income (loss) per share in the Company's consolidated Statement of
Operations.

<TABLE>
<CAPTION>
For the year ended December 31, June 30,
-------------------------------------- ------------------------
1997 1998 1999 1999 2000
----------- ------------ ------------ ----------- -----------
<S> <C> <C> <C> <C> <C>
Numerator:
Income (loss) before
extraordinary item..... $ 1,947,000 $(18,044,000) $ (7,292,000) $ (73,000) $ 7,024,000
Extraordinary item...... -- -- (5,814,000) -- --
----------- ------------ ------------ ----------- -----------
Net income (loss)...... 1,947,000 (18,044,000) (13,106,000) (73,000) 7,024,000
Less: Preferred stock
dividends............. 266,000 2,540,000 5,175,000 2,122,000 4,271,000
----------- ------------ ------------ ----------- -----------
Numerator for basic
earnings per share-
income (loss)
available to common
stockholders.......... $ 1,681,000 $(20,584,000) $(18,281,000) $(2,195,000) $ 2,753,000
=========== ============ ============ =========== ===========
Denominator:
Denominator for basic
earnings per share-
weighted average
shares................ 11,383,000 21,731,000 42,633,000 42,517,000 44,180,000
Effect of dilutive
securities:
a) Stock options....... 12,000 -- -- -- 2,778,000
b) Warrants............ -- -- -- -- 2,723,000
----------- ------------ ------------ ----------- -----------
Denominator for diluted
earnings per share-
adjusted weighted
average shares and
assumed conversions.... 11,395,000 21,731,000 42,633,000 42,517,000 49,681,000
=========== ============ ============ =========== ===========
Basic earnings (loss)
per share:
Income (loss) before
extraordinary item..... $ 0.15 $ (0.95) $ (0.29) $ (0.05) $ 0.06
Extraordinary item..... -- -- (0.14) -- --
----------- ------------ ------------ ----------- -----------
Income (loss) per
common share.......... $ 0.15 $ (0.95) $ (0.43) $ (0.05) $ 0.06
=========== ============ ============ =========== ===========
Diluted earnings (loss)
per share.............. $ 0.15 $ (0.95) $ (0.43) $ (0.05) $ 0.06
=========== ============ ============ =========== ===========
</TABLE>

Although the amounts are excluded from the computation in loss years
since their inclusion would be anti-dilutive they are shown here for
informational and comparative purposes only:

<TABLE>
<CAPTION>
For the year ended
December 31, June 30,
---------------------- --------------------
1997 1998 1999 1999 2000
---- ------- --------- --------- ----------
<S> <C> <C> <C> <C> <C>
a) Stock options............. -- 22,000 213,000 22,000 --
b) Warrants.................. -- 708,000 2,133,000 2,028,000 --
c) Convertible preferred
stock....................... -- -- 1,973,000 -- 16,000,000
</TABLE>

F-26
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

15. Fair Value of Financial Instruments

Financial instruments include cash and cash equivalents, notes payable,
long-term debt and preferred stock. The carrying amount of cash and cash
equivalents approximates fair value because of the short-term maturity of these
instruments.

The fair market value of the Company's notes payable and long-term debt
approximates its carrying value and was based on borrowing rates currently
available to the Company for bank loans and similar items and maturities.

16. Related Party Transactions

The Company has been party to various rental and other agreements with
companies affiliated through common ownership. The Company made rental and
other payments aggregating $390,000, $463,000, $1,228,000, $320,000 and
$589,000 during the years ended December 31, 1997, 1998 and 1999 and the six
months ended June 30, 1999 and 2000, respectively, to the affiliated companies.

As of December 31, 1999, future rental commitments under outstanding
agreements with the affiliated companies are approximately as follows:

<TABLE>
<S> <C>
2000......................................................... $ 912,000
2001......................................................... 912,000
2002......................................................... 912,000
2003......................................................... 912,000
2004......................................................... 828,000
Thereafter................................................... 7,686,000
-----------
$12,162,000
===========
</TABLE>

In December 1999, the Company acquired Select Air Corporation from a
related party for consideration of $2,700,000, net of cash acquired.

17. Commitments and Contingencies

Leases

The Company leases facilities and equipment from unrelated parties under
operating leases. Minimum future lease obligations on long-term non-cancelable
operating leases in effect at December 31, 1999 are approximately as follows:

<TABLE>
<S> <C>
2000........................................................ $ 46,786,000
2001........................................................ 39,834,000
2002........................................................ 29,284,000
2003........................................................ 16,777,000
2004........................................................ 9,624,000
Thereafter.................................................. 9,142,000
------------
$151,447,000
============
</TABLE>

F-27
<PAGE>

Select Medical Corporation

Notes to Consolidated Financial Statements--(Continued)

(Information as of June 30, 2000 and for the six months
ended June 30, 1999 and 2000 is unaudited)

17. Commitments and Contingencies (continued)

Total rent expense for operating leases for the years ended December 31,
1997, 1998 and 1999 and the six months ended June 30, 1999 and 2000 was
approximately $1,572,000, $11,132,000, $35,929,000, $16,853,000 and
$33,027,000, respectively.

Other

A subsidiary of the Company has entered into a naming, promotional and
sponsorship agreement in which the subsidiary pays $900,000 per year until the
complex officially opens. The naming, promotional and sponsorship agreement is
in effect for 25 years after the opening of the complex. The subsidiary is
required to make payments in accordance with the contract terms over 25 years
ranging from $1,400,000 to $1,963,000 per year and provide physical therapy and
training services after the official opening. The official opening of the
complex is currently scheduled for February 2001. The subsidiary also has
various other contracts that require the subsidiary to provide physical therapy
services in exchange for promotion rights.

Litigation

The Company is subject to legal proceedings and claims that have arisen
in the ordinary course of its business and have not been finally adjudicated,
which include malpractice claims covered under the Company's insurance policy.
In the opinion of management, the outcome of these actions will not have a
material effect on the financial position or results of operations of the
Company.

Laws and regulations governing the Medicare program are complex and
subject to interpretation. The Company believes that it is in compliance with
all applicable laws and regulations through the year ended December 31, 1999.
Compliance with such laws and regulations can be subject to government review
and interpretation as well as significant regulatory action including fines,
penalties, and exclusion from the Medicare program.

18. Supplemental Disclosures of Cash Flow Information

Non-cash investing and financing activities are comprised of the
following for the nine months ended December 31, 1998 and the year ended
December 31, 1999:

<TABLE>
<CAPTION>
For the six
Months ended
June 30,
Description of Transaction 1997 1998 1999 2000
-------------------------- ---------- ------------ ----------- ------------
<S> <C> <C> <C> <C>
Acquisitions paid for in
stock (Note 2).............. $ -- $ 785,000 $ -- $ --
Liabilities assumed with
acquisitions (Note 2)....... $3,830,000 $105,286,000 $65,744,000 $ 50,000
Long-term debt discount (Note
6).......................... $ -- $ 9,286,000 $ 5,209,000 $ --
Issuance of warrants (Note
6).......................... $ -- $ 1,086,000 $ 2,389,000 $1,142,000
Intensiva bank note
refinancing (Note 6)........ $ -- $ -- $10,554,000 $ --
Related party acquisition
(Note 2).................... $ -- $ -- $ 2,700,000 $ --
</TABLE>

19. Subsequent Event

On July 6, 2000, the Company received proceeds of $29,948,000 from an
escrow account established in connection with its acquisition of NovaCare from
NovaCare's former parent, NAHC, Inc. The Company also received $1.95 million in
notes in satisfaction of certain severance and other obligations NAHC, Inc. had
to the Company under the purchase agreement.

F-28
<PAGE>

Report of Independent Accountants

To the Board of Directors of
NovaCare, Inc.

In our opinion, the accompanying combined balance sheet and the related
combined statements of operations, of NovaCare, Inc. net investment and of cash
flows present fairly, in all material respects, the financial position of
NovaCare Physical Rehabilitation and Occupational Health Group ("the Group") at
November 19, 1999 and the results of their operations and their cash flows for
the period July 1, 1999 to November 19, 1999, in conformity with accounting
principles which are generally accepted in the United States. These financial
statements are the responsibility of the Group's management; our responsibility
is to express an opinion on these financial statements based on our audit. We
conducted our audit of these statements in accordance with generally accepted
auditing standards in the United States, which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for the
opinion expressed above.

As discussed in Note 13, NovaCare, Inc. completed the sale of the Group
to Select Medical Corporation on November 19, 1999.

/s/ PricewaterhouseCoopers LLP
Philadelphia Pennsylvania
July 6, 2000

F-29
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Balance Sheet
(In thousands)

<TABLE>
<CAPTION>
As of
November 19,
1999
------------
<S> <C>
Assets
Current assets:
Cash and cash equivalents....................................... $ 1,705
Accounts receivable, net of allowance of $53,493................ 69,357
Deferred income taxes........................................... 9,996
Other current assets............................................ 11,294
--------
Total current assets.......................................... 92,352
Property and equipment, net....................................... 37,848
Excess cost of net assets acquired, net........................... 386,389
Investment in joint ventures...................................... 14,419
Other assets...................................................... 2,338
--------
$533,346
========
Liabilities and NovaCare, Inc. Net Investment
Current liabilities:
Current portion of financing arrangements--third parties........ $ 13,307
Current portion of financing arrangements--related parties...... 166,743
Accounts payable and accrued expenses--related parties.......... 279,797
Accounts payable and accrued expenses--third parties............ 30,785
--------
Total current liabilities..................................... 490,632
Deferred income tax:
Financing arrangements, net of current portion-third parties...... 23,578
Deferred income taxes............................................. 14,767
Other............................................................. 1,190
--------
Total liabilities............................................. 530,167
Commitments and contingencies..................................... --
NovaCare, Inc. net investment..................................... 3,179
--------
Total liabilities of NovaCare, Inc. Net Investment................ $538,117
========
</TABLE>

The accompanying Notes to Combined Financial Statements are an integral part of
these statements.

F-30
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Statement of Operations
(In thousands)

<TABLE>
<CAPTION>
For the Period
July 1, 1999 to
November 19, 1999
-----------------
<S> <C>
Net revenues................................................ $127,481
Cost of services............................................ 84,792
--------
Gross profit.............................................. 42,689
Selling, general and administrative expenses................ 28,105
Selling, general and administrative allocated from related
party...................................................... 3,554
Provision for uncollectible accounts........................ 41,964
Amortization of excess cost of net asset acquired........... 4,583
--------
Loss from operations...................................... (35,517)
Interest expense-related party.............................. 5,366
Interest expense-third parties.............................. 1,233
Royalty expense-related party............................... 5,596
--------
Loss before income taxes.................................. (47,712)
Income taxes................................................
--------
Net loss.................................................. $(47,712)
========
</TABLE>

The accompanying Notes to Combined Financial Statements are
an integral part of these statements.

F-31
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Statement of NovaCare, Inc. Net Investment
(In thousands)

<TABLE>
<CAPTION>
NovaCare, Inc.
net investment
--------------
<S> <C>
Balance at June 30, 1999......................................... $ 43,751
Net contributions from NovaCare, Inc. ......................... 7,140
Net loss....................................................... (47,712)
--------
Balance at November 19, 1999..................................... $ 3,179
========
</TABLE>

The accompanying Notes to Consolidated Financial Statements are
an integral part of these statements.

F-32
<PAGE>

Novacare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Statement of Cash Flows
(In thousands)

<TABLE>
<CAPTION>
For the Period
July 1, 1999 to
November 19,
1999
---------------
<S> <C>
Cash flows from operating activities:
Net loss...................................................... $(47,712)
Adjustments to reconcile net loss to net cash flows used in
operating activities:
Loss from joint ventures.................................... 100
Depreciation and amortization............................... 9,350
Provision for uncollectible accounts........................ 41,964
Minority interest........................................... 37
Changes in assets and liabilities, net of effects from
acquisitions:
Accounts receivable....................................... (12,259)
Other current assets...................................... (2,275)
Accounts payable and accrued expenses--third parties...... 2,702
Other, net................................................ (69)
--------
Net cash flows used in operating activities............... (8,162)
--------
Cash flows from investing activities:
Payments for businesses acquired, net of cash acquired........ (7,159)
Additions to property and equipment........................... (2,302)
Other, net.................................................... 238
--------
Net cash flows used in investing activities................. (9,223)
--------
Cash flows from financing activities:
Payment of long-term debt and credit arrangements--third
parties...................................................... (7,359)
Net advances from related party............................... 20,657
--------
Net cash flows provided by financing activities............. 13,298
--------
Net decrease in cash and cash equivalents................... (4,087)
Cash and cash equivalents, beginning of period.............. 5,792
--------
Cash and cash equivalents, end of period.................... $ 1,705
========
</TABLE>

The accompanying Notes to Combined Financial Statements are an integral part of
these statements.

F-33
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements

November 19, 1999
(In thousands)

1. Summary of Significant Accounting Policies

Nature of Operations: NovaCare Physical Rehabilitation and Occupational
Health Group includes RehabClinics, Inc., NovaCare Outpatient Rehabilitation
East, Inc., NovaCare Outpatient Rehabilitation West, Inc., NovaCare
Occupational Health Services, Inc., CMC Center Corporation and Industrial
Health Care Company (collectively "the Group") all of which are wholly-owned
subsidiaries of NC Resources, Inc., a Delaware holding company and a wholly-
owned subsidiary of NovaCare, Inc., a Delaware corporation ("Parent").

Business Profile: The Group is a provider of freestanding outpatient
physical therapy and rehabilitation services and occupational health services.
Outpatient physical therapy and rehabilitation services include: (i) general
physical rehabilitation, which is designed to return injured and post-operative
patients to their optimal functional capacity, (ii) sports medicine, which is
designed to minimize the "downtime" of injured sports participants and safely
return them to sports activities, (iii) enhanced performance training, which is
designed to improve the muscular and cardiovascular performance of both
professional caliber athletes and "weekend warriors" as well as the "senior
citizen" population, (iv) industrial rehabilitation, which is designed to
reduce work-related injuries and rehabilitate and strengthen injured patients
to allow a rapid, safe and productive return to normal job activities and (v)
hospital-based services, which involve providing inpatient and outpatient
rehabilitation services on a contract basis to acute care hospitals.
Occupational health services comprise treatment for work-related injuries and
illnesses, physical and occupational rehabilitation therapy, pre-placement
physical examinations and evaluations, case management, diagnostic testing and
other employer-requested or government-mandated work related health care
services.

Basis of Presentation: The financial statements of the Group include the
combined financial position, results of operations and cash flows of the Group.
The Parent's historical cost basis of assets and liabilities has been reflected
in the Group's financial statements. The financial information in these
financial statements is not necessarily indicative of results of operations,
financial position and cash flows that would have occurred if the Group had
been a separate stand-alone entity during the periods presented or of future
results.

Principles of Combination: The combined financial statements include the
accounts of the Group companies. Investments of 20% to 50% of the voting
interest of affiliates are accounted for using the equity method. All
significant intercompany accounts and transactions between the companies
comprising the Group have been eliminated. The Group recognizes a minority
interest in its balance sheet and statement of operations for the portion of
majority-owned subsidiaries attributable to its minority owners.

Use of Estimates: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
During the period July 1, 1999 to November 19, 999, the Company recorded a
$29,358 charge as a change in estimate to increase the allowance for doubtful
accounts to record the accounts receivable at its net realizable value.

F-34
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

Concentration of Credit Risks: Financial instruments which subject the
Group to concentrations of credit risk consist primarily of trade receivables
from workers' compensation programs, health and managed care companies, self-
pay individuals, Medicare, Medicaid and litigation settlements from various
payors located throughout the United States. The Group generally does not
require collateral from its customers. Such credit risk is considered by
management to be limited due to the Group's broad customer base.

Net Revenues: Net revenues are reported at the net realizable amounts
from customers and third-party payors and includes estimated retroactive
revenue adjustments due to future audits, reviews, and investigations.
Retroactive adjustments are considered in the recognition of revenue on an
estimated basis in the period the related services are rendered, and such
amounts are adjusted in future periods as adjustments become known or as years
are no longer subject to such audits, reviews, and investigations. Net revenues
generated directly from Medicare and Medicaid reimbursement programs
represented 8% of the Group's combined net revenues for the period July 1, 1999
to November 19, 1999

Property and Equipment: Property and equipment are stated at cost.
Depreciation is provided on a straight-line basis over the estimated useful
lives of the assets, which range principally from three to seven years for
property and equipment and 30 to 40 years for buildings. Leasehold improvements
are amortized over the lesser of the lease term or the asset's estimated useful
life. Property and equipment also include external and incremental internal
costs incurred to develop major computer systems. Costs for computer software
developed or purchased for internal use are capitalized and amortized over an
estimated useful life ranging from five to ten years. Costs of software
maintenance and training, as well as the cost of software that does not add
functionality to existing systems are expensed as incurred.

Excess Cost of Net Assets Acquired: Assets and liabilities acquired in
connection with business combinations accounted for under the purchase method
are recorded at their respective fair values. Deferred taxes have been recorded
to the extent of the difference between the fair value and the tax basis of the
assets acquired and liabilities assumed. The excess of the purchase price over
the fair value of net assets acquired consists of non-compete agreements,
customers lists and goodwill and is amortized on a straight-line basis over the
estimated useful lives of the assets which range from five to 40 years, with an
average life of approximately 37 years.

F-35
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

Impairment of Long Lived Assets: Effective July 1, 1997, the Group
adopted Statement of Financial Accounting Standards (SFAS) No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to be
Disposed of" which establishes accounting standards for the impairment of long-
lived assets, certain identified intangible assets and goodwill related to
those assets to be held and used and for long-lived assets and certain
intangible assets to be disposed of. In accordance with SFAS No. 121, the Group
reviews the realizability of long-lived assets, certain intangible assets and
goodwill whenever events or circumstances occur which indicate recorded cost
may not be recoverable. The Group also reviews the overall recoverability of
goodwill on an annual basis. The analyses are based primarily on estimated
future undiscounted cash flows.

If the expected future cash flows (undiscounted) are less than the
carrying amount of such assets, the Group recognizes an impairment loss for the
difference between the carrying amount of the assets and their estimated fair
value. In estimating future cash flows for determining whether an asset is
impaired, and in measuring assets that are impaired, assets are grouped by
geographic region, which is the lowest level of operational reporting used by
management.

Other Assets: Other assets consist principally of non-compete agreements
and security deposits. Non-compete agreements are principally agreements with
former owners not to compete with the Group within a specified geographical
area for a specified period of time. The asset is amortized over the life of
the agreement.

2. Related Party Transactions

The Group entered into several arrangements with the Parent where fees
are charged to the Group for services provided. These services included
selling, general and administrative and financing services. Upon a change of
control of the Group, certain of these arrangements may be voided and the Group
will no longer be subject to the related fees. The Group will, however, be
responsible for obtaining independent financing and will incur selling, general
and administrative expenses.

Trademarks: The Group is charged a fee of approximately 5.0% of revenues
for the use of the "NovaCare" name and trademark. Fees are settled with the
Parent on a quarterly basis in accordance with the trademark agreement.

Advances and Financing Arrangements: The Group participates in the
Parent's centralized cash management system to finance operations and
acquisitions. The Group's cash deposits are transferred to the Parent on a
daily basis. The Parent funds the Group's disbursement bank accounts as
required. When disbursements exceed deposits, the Parent advances the
difference to the Group through an interest-free intercompany account. Assuming
a LIBOR plus 1.5% borrowing rate, which approximates the Parent's borrowing
rate, interest expense on net advances from the Parent would have been $8,826
for the period July 1, 1999 to November 19, 1999.

F-36
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

In addition, certain advances from the Parent to the Group are funded
through a line of credit arrangement. The annual interest rate on the line of
credit is the prime rate of the Parent's lending bank plus 1.5%. As of November
19, 1999, the interest rate for the Group was 9.25%. Interest due to the Parent
is settled quarterly in accordance with the loan agreement. Interest expense
related to this financing arrangement was $5,366 for the period July 1, 1999 to
November 19, 1999.

Selling, General and Administrative Expenses Allocated from Related
Party: During fiscal 1999 and 1998, the Parent provided certain selling,
general and administrative services to the Group, that included shared
management, legal, information systems, finance and human resource services and
leased office space. These costs were allocated to the Group from the Parent,
based on number of personnel or fiscal 1999's net revenues. While Novacare has
divested of certain of its businesses since June 30, 1999, the level of effort
required by the Parent for each of the businesses was essentially the same for
period July 1, 1999 to November 19, 1999 as it was in fiscal 1999. During the
period July 1, 1999 to November 19, 1999, these allocated costs were $3,554.

The expenses allocated to the Group are not necessarily indicative of
amounts that would have been incurred if the Group had been a separate,
independent entity that either managed these functions or contracted the
services from an unrelated third party. Allocations were based on methodologies
considered reasonable by management.

Benefits and Payroll Service Fees: Beginning in February 1997, the Group
contracted with NovaCare Employee Services (NCES), a majority owned subsidiary
of the Parent, to provide payroll and benefit services. Under the agreement,
the Group reimburses NCES for all payroll and related benefit costs, in
addition to an administrative fee. Administrative fees incurred, related to
this agreement, were $1,963 for the period July 1, 1999 to November 19, 1999.
The amount for the period July 1, 1999 to November 19, 1999, is included in
selling, general and administrative expenses. Additionally, payroll and related
benefits expense disbursed by NCES for PROH approximated $65,932 for the period
July 1, 1999 to November 19, 1999. As of November 19, 1999 the Group owed NCES
$1,337 for payroll and related benefit costs. These amounts are included in
accounts payable and accrued expenses--related parties.

Insurance Reserves: The Parent maintains insurance coverage for the
Group, including workers' compensation and general business insurance.
Insurance reserves have been specifically allocated to the Group and the
amounts owed to the Parent for such reserves are included in accounts payable
and accrued expenses--related parties. As of November 19, 1999, the Group owed
the Parent $225 for general business insurance.

F-37
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

3. Provision for Restructure

During fiscal 1999, the Group recorded a provision for restructure
totaling $30,225 consisting of:

<TABLE>
<S> <C>
Writedown of excess cost of net assets acquired, net.............. $28,300
Employee severance and related costs.............................. 1,925
-------
Total........................................................... $30,225
=======
</TABLE>

During fiscal 1999, the Group decided to exit certain non-strategic
markets. The markets consisted of 40 clinics. This decision resulted in a
write-down of the value of the related assets to estimated net realizable
value as these were held for disposal. The estimated net realizable value of
the Group's assets held for disposal (principally excess cost of net assets
acquired, net) was determined by reference to the Group's experience with
purchases and sales of comparable assets over the past several years and in
consultation with financial advisors. The clinics to be disposed of had
annualized net revenues of approximately $16,600 and annualized operating
profit of approximately $200. At November 19, 1999, five of the clinics have
been sold for proceeds totaling $923. The net book value of the remaining
assets to be sold is approximately $4,991. The decision to dispose of these
clinics is being evaluated in light of the sale of the Group.

In addition, the Group implemented a revised physical therapist staffing
model to provide therapist services at lower costs while maintaining quality
care. The new staffing model calls for an estimated reduction of 364 physical
therapists. At November 19, 1999, a reduction of 267 physical therapists has
taken place, 193 through attrition and 74 through severance arrangements.

The activity in the Group's reserves for restructure is as follows:

<TABLE>
<CAPTION>
Period
July 1, 1999 to
November 19,
1999
---------------
<S> <C>
Beginning balance.......................................... $ 625
Payments................................................... (532)
-----
Ending balance............................................. $ 93
=====
</TABLE>

F-38
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

4. Acquisition Transactions

Information with respect to businesses acquired in purchase transactions
was as follows:

<TABLE>
<CAPTION>
As of
November 19,
1999
------------
<S> <C>
Excess cost of net assets acquired............................ $431,446
Less: accumulated amortization................................ (45,057)
--------
$386,389
========
</TABLE>

Certain purchase agreements require additional payments to the former
owners if specific financial targets are met. At November 19, 1999 aggregate
contingent payments in connection with all acquisitions of approximately
$24,529, in cash, have not been included in the initial determination of cost
of the businesses acquired since the amount of such contingent consideration
that may be paid in the future, if any, is not presently determinable. In
connection with businesses acquired in prior years, the Group paid $7,110 cash
in the period July 1, 1999 to November 19, 1999.

5. Property and Equipment

The components of property and equipment were as follows:

<TABLE>
<CAPTION>
As of
November 19,
1999
------------
<S> <C>
Buildings..................................................... $ 1,232
Property, equipment and furniture............................. 43,558
Capitalized software.......................................... 22,637
Leasehold improvements........................................ 18,008
--------
85,435
Less: accumulated depreciation and amortization............... (47,587)
--------
$ 37,848
========
</TABLE>

Depreciation expense, including depreciation expense allocated by the
Parent, for the period July 1, 1999 to November 19, 1999, was $4,767.

F-39
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

6. Investment in Joint Ventures

The Group has 50% ownership interests in GP Therapy, Inc., LLC (a joint
venture with Columbia/HCA Healthcare Corp), Mercy Joyner Associates (a joint
venture with Mercy Regional Health Systems), Gill Balsano Consulting, LLC (a
joint venture with a Health Care consulting firm), Langhorne PC (a joint
venture with Delaware Valley Medical Corporation), and South Philadelphia PC (a
joint venture with Mt. Sinai Hospital).

At November 19, 1999 the Group's investment in joint venture for GP
Therapy, Inc., LLC was $10,644. The Group's investment in Mercy Joyner
Associates, was acquired as part of a larger acquisition in fiscal year 1998.
At November 19, 1999 the Group's investment in joint venture for Mercy Joyner
Associates was $455. The Group's investment in Gill Balsano Consulting, LLC was
transferred from the Parent in fiscal year 1999. At November 19, 1999 the
Group's investment in Gill Balsano was $1,596. The Group's investment in the
Langhorne PC and South Philadelphia PC were acquired as part of a larger
acquisition in fiscal year 1998. At November 19, 1999 the Group's investment in
joint venture for both the Langhorne PC and South Philadelphia PC was $1,724.

7. Accounts Payable and Accrued Expenses--Third Parties

Accounts payable and accrued expenses are summarized as follows:

<TABLE>
<CAPTION>
As of
November 19,
1999
------------
<S> <C>
Accrued contingent earn-outs.................................. $ 3,077
Accrued compensation and benefits............................. 6,480
Accounts payable.............................................. 7,072
Bank overdraft................................................ 4,864
Accrued acquisition costs..................................... 3,748
Accrued interest.............................................. 1,198
Accrued restructure costs..................................... 93
Other......................................................... 4,253
-------
$30,785
=======
</TABLE>

F-40
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

8. Financing Arrangements

Financing arrangements consisted of the following:

<TABLE>
<CAPTION>
As of
November 19,
1999
------------
<S> <C>
Line of credit--related party, due November 30, 1999........ $ 166,743
Subordinated promissory notes (6% to 9%), Payable through
2007....................................................... 35,277
Other....................................................... 1,608
---------
203,628
Less: current portion of financing arrangements--related
parties.................................................... (166,743)
Less: current portion of financing arrangements--third
parties.................................................... (13,307)
---------
$ 23,578
=========
</TABLE>

Subordinated promissory notes consist primarily of notes to former owners
of businesses acquired. The carrying values of the notes approximate fair
value.

Financing arrangements with related party is comprised of a $180,000 line
of credit with a subsidiary of the Parent. The Group periodically draws from
the line and is charged interest at a rate of the Parent's lending bank's prime
rate plus 1.5% on the daily outstanding balance (See Note 2). As of November
19, 1999, the interest rate for the Group was 9.25%. As of November 19, 1999
the Group had $13,257 available under this line of credit.

At November 19, 1999, aggregate annual maturities of financing
arrangements were as follows for the next five fiscal years and thereafter:

<TABLE>
<CAPTION>
Fiscal Year
-----------
<S> <C>
2000............................................................. $180,050
2001............................................................. 12,731
2002............................................................. 5,163
2003............................................................. 2,976
2004............................................................. 1,404
Thereafter....................................................... 1,304
--------
$203,628
========
</TABLE>

Interest paid on debt during the period July 1, 1999 to November 19, 1999
was $11,460.

F-41
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

9. Leases

The Group rents office and clinical space and transportation and therapy
equipment under non-cancelable operating leases.

Future minimum lease commitments for all non-cancelable leases as of
November 19, 1999 are as follows:

<TABLE>
<CAPTION>
Operating
Fiscal Year Leases
----------- ---------
<S> <C>
2000............................................................ $26,553
2001............................................................ 21,036
2002............................................................ 15,281
2003............................................................ 8,571
2004............................................................ 3,693
Thereafter...................................................... 4,608
-------
Total minimum lease payments.................................... $79,742
=======
</TABLE>

Total rent expense for all operating leases during the period July 1,
1999 to November 19, 1999 was $12,308.

F-42
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

10. Income Taxes

The components of income tax benefit were as follows:

<TABLE>
<CAPTION>
Period
July 1, 1999 to
November 19, 1999
-----------------
<S> <C>
Current:
Federal................................................ $--
State.................................................. --
---
--
---
Deferred:
Federal................................................ --
State.................................................. --
---
--
---
--
===
</TABLE>

The components of net deferred tax assets (liabilities) as of November
19, 1999 were as follows:

<TABLE>
<CAPTION>
As of
November 19,
1999
------------
<S> <C>
Accruals and reserves not currently deductible for tax
purposes.................................................. $ 12,054
Restructure reserves....................................... 6,557
Federal and state net operating loss....................... 13,784
--------
32,395
Less: valuation allowance.................................. (22,399)
Total deferred tax assets, net of valuation allowance.... 9,996
Gross deferred tax liabilities, depr. & cap. leases........ (14,767)
--------
Net deferred tax liability............................... $ (4,771)
========
</TABLE>

F-43
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

The reconciliation of the expected tax benefit (computed by applying the
Federal statutory tax rate to income before income taxes) to the actual tax
benefit was as follows:

<TABLE>
<CAPTION>
Period
July 1, 1999 to
November 19, 1999
-----------------
<S> <C>
Expected Federal income tax benefit.................... $(16,699)
State income tax benefit, less Federal benefit......... (2,691)
Non-deductible nonrecurring items...................... 25
Non-deductible amortization of excess cost of net
assets acquired....................................... 574
Increase in valuation allowance........................ 18,923
Other, net............................................. (132)
--------
$ --
========
</TABLE>

The deferred tax consequences of temporary differences in reporting items
for financial statement and income tax purposes are recognized, if appropriate.
Realization of the future tax benefits related to the deferred tax assets is
dependent on many factors, including the Group's ability to generate taxable
income within the net operating loss carryforward period. Management has
considered these factors in reaching its conclusion as to the valuation
allowance for financial reporting purpose and the Group has recorded a full
valuation allowance to reflect the estimated amount of deferred tax assets
which may not be realized.

11. Benefit Plans

Retirement Plans: Through the Parent, the Group participates in defined
contribution 401(k) plans covering substantially all of its employees. The
Group's portion of contributions made to the plans by the Parent for the period
July 1, 1999 to November 19, 1999 were $442.

Stock Option Plans: Certain employees of the Group participate in the
Parent's employee stock option plans. Under the plans, substantially all of the
options granted under the plan vest ratably over five years and are granted for
a term of up to ten years. The exercise price of the options equals the fair
value of the Parent's common stock at the date of grant. The Parent has adopted
the disclosure-only provision of SFAS 123. Accordingly, no compensation expense
has been recognized for option grants under the plans by the Parent or the
Group. Had compensation cost for options granted been determined based on the
fair value at the date of grant awards consistent with the provisions of SFAS
123, the Group's net loss would not have been materially different from the
amounts reported in these financial statements.

F-44
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

November 19, 1999
(In thousands)

12. Commitments and Contingencies

The Group is subject to legal proceedings and claims that arise in the
ordinary course of business. Management believes that the amount of any
liability related to these matters will not have a material adverse effect on
the Group's financial position or results of operations.

The Group has entered into a naming, promotional and sponsorship
agreement in which the Group pays $900 per year until the complex officially
opens. The naming, promotional and sponsorship agreement is in effect for 25
years after the opening of the complex. The Group is required to make payments
in accordance with the contract terms over 25 years ranging from $1,400 to
$1,963 per year after the official opening. At this time the Group cannot
estimate the date of the official opening of the complex.

The Group has various other promotional exchange contracts that require
the Group to provide physical therapy services in exchange for promotional
rights.

13. Sale of the Group

On November 19, 1999, the Parent completed the sale of the Group to
Select Medical Corporation ("Select"). The sales price for the Group was
$200,000, the cash proceeds of which were reduced by the amount of Group debt
assumed by Select. Of the remainder, $36,800 of the purchase price was placed
in escrow for two years in support of representations relating to minimum
working capital, collectibility of accounts receivable, and certain contingent
earnout payments and litigation matters. Following the closing of the Group
sale and continuing through June 2000, Select presented to the Parent claims
for disbursement of portions of the escrowed funds to Select. The Parent and
Select disagreed on certain of these claims. On July 6, 2000, the Parent
entered into a settlement agreement with regard to the accounts receivable
representation, contingent earnout obligations and certain other differences
and disagreements between the Parent and Select related to the Group purchase
and sale agreement and the escrows established as part of that agreement. As a
result of the settlement, the remaining funds in escrow accounts, including
interest, were disbursed to the parties with $4.5 million being returned to the
Parent. In addition, as part of the settlement, the Parent agreed to reimburse
Select approximately $1.3 million in respect of certain of its obligations set
forth in the purchase and sale agreement and up to $1.8 million for Medicare
liabilities, if any, that relate to periods prior to the Group sale. The Parent
collateralized certain future payments to Select with the Parent's accounts
receivable that pertain primarily to the Parent's former long-term care
services business. Also as part of the settlement agreement, certain of the
representations, warranties and indemnifications in the Group purchase and sale
agreement were released by the parties and certain provisions, principally
relating to tax obligations, remain binding on the parties. In conjunction with
the Group sale, the "NovaCare" name was also sold and the Parent changed its
name to NAHC, Inc. effective March 28, 2000.

F-45
<PAGE>

Report of Independent Accountants

To the Board of Directors of
NovaCare, Inc.

In our opinion, the accompanying combined balance sheets and the related
combined statements of operations, of NovaCare, Inc. net investment and of cash
flows present fairly, in all material respects, the financial position of
NovaCare Physical Rehabilitation and Occupational Health Group ("the Group") at
June 30, 1999 and 1998, and the results of their operations and their cash
flows for each of the three years in the period ended June 30, 1999, in
conformity with generally accepted accounting principles. These financial
statements are the responsibility of the Group's management; our responsibility
is to express an opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with generally accepted
auditing standards, which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for the opinion expressed above.

The accompanying combined financial statements have been prepared
assuming that the Group will continue as a going concern. The Group has
historically been dependent on NovaCare, Inc. (the "Parent") for financial
support. Additionally, the Group is indebted to the Parent for significant
currently payable amounts. As discussed in Note 13 to the combined financial
statements, the Parent has $175 million of convertible subordinated debentures
due on January 15, 2000. To enable the Parent to generate sufficient funds to
make the required payment on the convertible debentures, the Parent's Board of
Directors on August 5, 1999 voted to seek approval from its shareholders for
the sale of the Parent's two remaining business units, including the Group, and
the adoption of a restructuring proposal. In a proxy statement dated August 13,
1999 (as amended through September 10, 1999) the Parent's shareholders have
been asked to consider and vote upon these proposals at a special meeting of
shareholders to be held on September 21, 1999. All of the proposals were
adopted by the shareholders at the special meeting. The adoption of these
proposals could result in the ultimate liquidation of the Parent. Should these
matters not be approved, or should the transactions not be consummated as set
forth in the proxy statement, the Parent's management would need to seek other
means to obtain sufficient funds to repay the convertible debentures when due.
These matters, coupled with the Group's continuing operating losses, raise
substantial doubt about the Group's ability to continue as a going concern.
Management's plans in regard to these matters are described in Note 13. The
combined financial statements do not include any adjustments that might result
from the outcome of these uncertainties.

/s/ PricewaterhouseCoopers LLP
Philadelphia, PA
September 21, 1999

F-46
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Balance Sheets
(In thousands)

<TABLE>
<CAPTION>
As of June 30,
-----------------
1999 1998
-------- --------
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents.................................. $ 5,792 $ 2,037
Accounts receivable, net of allowance at June 30, 1999 and
1998 of $32,891 and $23,864, respectively................. 99,060 93,156
Deferred income taxes...................................... 8,561 439
Other current assets....................................... 8,498 9,498
-------- --------
Total current assets..................................... 121,911 105,130
Property and equipment, net.................................. 40,065 40,422
Excess cost of net assets acquired, net...................... 387,180 356,044
Investment in joint ventures................................. 15,120 13,062
Other assets................................................. 2,948 3,376
-------- --------
$567,224 $518,054
======== ========
Liabilities and NovaCare, Inc. Net Investment
Current liabilities:
Current portion of financing arrangements--third parties... $ 14,706 $ 13,620
Current portion of financing arrangements--related
parties................................................... 165,202 --
Accounts payable and accrued expenses--related parties..... 268,128 186,330
Accounts payable and accrued expenses--third parties....... 31,399 25,532
-------- --------
Total current liabilities................................ 479,435 225,482
Financing arrangements--related party........................ -- 165,507
Financing arrangements, net of current portion--third
parties..................................................... 29,226 35,319
Deferred income taxes........................................ 13,332 9,865
Other ....................................................... 1,480 2,052
-------- --------
Total liabilities........................................ 523,473 438,225
Commitments and contingencies................................ -- --
NovaCare, Inc. net investment................................ 43,751 79,829
-------- --------
$567,224 $518,054
======== ========
</TABLE>

The accompanying Notes to Combined Financial Statements are an integral part of
these statements.

F-47
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Statements of Operations
(In thousands)

<TABLE>
<CAPTION>
For the Years Ended June
30,
----------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Net revenues.................................... $339,708 $281,550 $214,936
Cost of Services................................ 234,350 193,860 152,860
-------- -------- --------
Gross profit.................................. 105,358 87,690 62,076
Selling, general and administrative expenses.... 56,743 40,360 29,947
Selling, general and administrative allocated
from related party............................. 27,444 20,823 8,882
Provision for uncollectible accounts............ 24,130 14,806 10,091
Amortization of excess cost of net assets
acquired....................................... 11,865 9,138 6,464
Provision for restructure....................... 30,225 -- --
-------- -------- --------
(Loss) income from operations................. (45,049) 2,563 6,692
Interest expense-related party.................. 15,518 15,990 27,568
Interest expense-third parties.................. 3,157 2,435 1,081
Royalty expense-related party................... 17,059 14,293 10,660
-------- -------- --------
Loss before income taxes...................... (80,783) (30,155) (32,617)
Income tax benefit.............................. (21,564) (7,618) (10,726)
-------- -------- --------
Net loss...................................... $(59,219) $(22,537) $(21,891)
======== ======== ========
</TABLE>

The accompanying Notes to Combined Financial Statements are an integral part of
these statements.

F-48
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Statements of NovaCare, Inc. Net Investment
(In thousands)

<TABLE>
<CAPTION>
NovaCare, Inc.
net investment
--------------
<S> <C>
Balance at June 30, 1996......................................... $(34,135)
Net contributions from NovaCare, Inc. ......................... 143,134
Net loss....................................................... (21,891)
--------
Balance at June 30, 1997......................................... 87,158
Net contributions from NovaCare, Inc. ......................... 15,208
Net loss....................................................... (22,537)
--------
Balance at June 30, 1998......................................... 79,829
Net contributions from NovaCare, Inc. ......................... 23,141
Net loss....................................................... (59,219)
--------
Balance at June 30, 1999......................................... $ 43,751
========
</TABLE>

The accompanying Notes to Consolidated Financial Statements are an integral
part of these statements.

F-49
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Combined Statements of Cash Flows
(In thousands)

<TABLE>
<CAPTION>
For the Years Ended June
30,
-----------------------------
1999 1998 1997
-------- --------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss....................................... $(59,219) $ (22,537) $(21,891)
Adjustments to reconcile net loss to net cash
flows used in operating activities:
(Income) loss from joint ventures............ 514 (16) 78
Depreciation and amortization................ 25,974 20,697 15,487
Provision for restructure.................... 30,225
Provision for uncollectible accounts......... 24,130 14,806 10,091
Minority interest............................ 117 69 105
Deferred income taxes........................ (4,432) 6,251 3,849
Changes in assets and liabilities, net of
effects from acquisitions:
Accounts receivable........................ (26,050) (29,417) (24,946)
Other current assets....................... 417 (1,722) (66)
Accounts payable and accrued expenses--
third parties............................. (13,982) (5,289) (8,427)
Other, net................................. (3,309) (196) (1,048)
-------- --------- --------
Net cash used in operating activities...... (25,615) (17,354) (26,768)
-------- --------- --------
Cash flows from investing activities:
Payments for businesses acquired, net of cash
acquired...................................... (48,038) (94,357) (58,685)
Additions to property and equipment............ (19,906) (8,170) (17,269)
Proceeds from sale of property and equipment... 913 -- 52
Other, net..................................... 452 85 569
-------- --------- --------
Net cash flows used in investing activities.. (66,579) (102,442) (75,333)
-------- --------- --------
Cash flows from financing activities:
Payment of long-term debt and credit
arrangements--third parties................... (14,878) (6,591) (5,015)
Net advances from related party................ 110,827 122,363 110,143
-------- --------- --------
Net cash flows provided by financing
activities.................................. 95,949 115,772 105,128
-------- --------- --------
Net increase (decrease) in cash and cash
equivalents................................... 3,755 (4,024) 3,027
Cash and cash equivalents, beginning of year... 2,037 6,061 3,034
-------- --------- --------
Cash and cash equivalents, end of year......... $ 5,792 $ 2,037 $ 6,061
======== ========= ========
</TABLE>

The accompanying Notes to Combined Financial Statements are an integral part of
these statements.

F-50
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements

June 30, 1999
(In thousands)

1. Summary of Significant Accounting Policies

Business Profile: The Group is a provider of freestanding outpatient
physical therapy and rehabilitation services and occupational health services.
Outpatient physical therapy and rehabilitation services include: (i) general
physical rehabilitation, which is designed to return injured and post-operative
patients to their optimal functional capacity, (ii) sports medicine, which is
designed to minimize the "downtime" of injured sports participants and safely
return them to sports activities, (iii) enhanced performance training, which is
designed to improve the muscular and cardiovascular performance of both
professional caliber athletes and "weekend warriors" as well as the "senior
citizen" population, (iv) industrial rehabilitation, which is designed to
reduce work-related injuries and rehabilitate and strengthen injured patients
to allow a rapid, safe and productive return to normal job activities and (v)
hospital-based services, which involve providing inpatient and outpatient
rehabilitation services on a contract basis to acute care hospitals.
Occupational health services comprise treatment for work-related injuries and
illnesses, physical and occupational health services comprise treatment for
work-related injuries and illnesses, physical and occupational rehabilitation
therapy, pre-placement physical examinations and evaluations, case management,
diagnostic testing and other employer-requested or government-mandated work
related health care services.

Principles of Combination: The combined financial statements include the
accounts of the Group companies. Investments of 20% to 50% of the voting
interest of affiliates are accounted for using the equity method. All
significant intercompany accounts and transactions between the companies
comprising the Group have been eliminated. The Group recognizes a minority
interest in its balance sheets and statements of operations for the portion of
majority-owned subsidiaries attributable to its minority owners.

F-51
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

1. Summary of Significant Accounting Policies (continued)

throughout the United States. The Group generally does not require collateral
from its customers. Such credit risk is considered by management to be limited
due to the Group's broad customer base.

Statement of Cash Flows: The Group considers its holdings of highly
liquid debt and money-market instruments to be cash equivalents if the
securities mature within 90 days from the date of acquisition. These
investments are carried at cost, which approximates fair value. Non-cash
investing and financing activities in fiscal years 1999 and 1998 of $10,355 and
$24,875, respectively, consist principally of acquired debt and subordinated
promissory notes issued to former owners at closing. There were no non-cash
investing and financing activities in fiscal 1997. Non-cash contributions from
the Parent in fiscal year 1997 were $102,595 for forgiveness of debt. There
were no non-cash contributions in fiscal years 1999 and 1998.

Net Revenues: Net revenues are reported at the net realizable amounts
from customers and third-party payors and includes estimated retroactive
revenue adjustments due to future audits, reviews and investigations.
Retroactive adjustments are considered in the recognition of revenue on an
estimated basis in the period the related services are rendered, and such
amounts are adjusted in future periods as adjustments become known or as years
are no longer subject to such audits, reviews and investigations. Net revenues
generated directly from Medicare and Medicaid reimbursement programs
represented 8%, 9% and 10% of the Group's combined net revenues for fiscal
years 1999, 1998 and 1997 respectively.

Impairment of Long Lived Assets: Effective July 1, 1997, the Group
adopted Statement of Financial Accounting Standards (SFAS) No. 121, "Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to be
Disposed of" which establishes accounting standards for the impairment of long-
lived assets, certain identified intangible assets and goodwill related to
those assets to be held and used and for long-lived assets and certain
intangible assets to be disposed of. In accordance with SFAS No. 121, the Group
reviews the realizability of long-lived assets, certain intangible assets and
goodwill whenever events or circumstances occur which indicate recorded cost
may not be recoverable. The Group also reviews the overall recoverability of
goodwill on an annual basis. These analyses are based primarily on estimated
future undiscounted cash flows.

F-52
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

1. Summary of Significant Accounting Policies (continued)

Income Taxes: The Group is included in the consolidated Federal income
tax return of the Parent. All tax payments are made by the Parent on behalf of
the Group. The Group includes its portion of tax obligations in accounts
payable and accrued expenses--related parties. Current and deferred tax
benefit, included in these statements, was calculated as if the Group had filed
consolidated income tax returns for the Group on a stand alone basis. Under a
tax sharing agreement with the Parent, the Group is entitled to the income tax
benefits, attributable to the Group's losses, which are used in the Parent's
consolidated return. Were the Group to apply the separate company tax return
method the income taxes would have been an expense of $641, $2,192 and $1,182
and net loss as adjusted would have been $81,424, $32,347 and $33,799 for the
years ended June 30, 1999, 1998 & 1997, respectively.

2. Related Party Transactions

Advances and Financing Arrangements: The Group participates in the
Parent's centralized cash management system to finance operations and
acquisitions. The Group's cash deposits are transferred to the Parent on a
daily basis. The Parent funds the Group's disbursement bank accounts as
required. When disbursements exceed deposits, the Parent advances the
difference to the Group through an interest-free intercompany account. Assuming
a LIBOR plus 1.5% borrowing rate, which approximates the Parent's borrowing
rate, interest expense on net advances from the Parent would have been $17,284,
$10,137 and $4,242 for the years ended June 30, 1999, 1998 and 1997,
respectively.

In addition, certain advances from the Parent to the Group are funded
through a line of credit arrangement. The annual interest rate on the line of
credit is the prime rate of the Parent's lending bank plus 1.5%. As of June 30,
1999, the interest rate for the Group was 9.25%. Interest due to the Parent is
settled quarterly in accordance with the loan agreement. Interest expense
related to this financing arrangement was $15,518, $15,990 and $27,568 for
fiscal 1999, 1998, and 1997, respectively.

F-53
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

2. Related Party Transactions (continued)

Selling, General and Administrative Expenses Allocated from Related
Party: During fiscal 1999, 1998 and 1997, the Parent provided certain selling,
general and administrative services to the Group, that included shared
management, legal, information systems, finance and human resource services and
leased office space. These costs were allocated to the Group from the Parent,
based on specific identification, net revenue or utilization. During 1999, 1998
and 1997, these allocated costs were $15,671, $16,294 and $7,306, respectively.

Benefits and Payroll Service Fees: Beginning in February 1997, the Group
contracted with NovaCare Employee Services (NCES), a 67% owned subsidiary of
the Parent, to provide payroll and benefit services. Under the agreement, the
Group reimburses NCES for all payroll and related benefit costs, in addition to
an administrative fee. Administrative fees incurred, related to this agreement,
were $10,957, $3,986 and $952 for fiscal 1999, 1998 and 1997, respectively.
These amounts are included in Selling, General and Administrative Expenses
Allocated from Related Party. Additionally, payroll and related benefits
expense disbursed by NCES for PROH approximated $175,000, $141,000 and $108,000
for fiscal 1999, 1998 and 1997, respectively. As of June 30, 1999 and 1998 the
Group owed NCES $5,222 and $3,839 for payroll and related benefit costs. These
amounts are included in accounts payable and accrued expenses--related parties.

Insurance Reserves: The Parent maintains insurance coverage for the
Group, including workers' compensation and general business insurance.
Insurance reserves have been specifically allocated to the Group and the
amounts owed to the Parent for such reserves are included in accounts payable
and accrued expenses--related parties. As of June 30, 1999 and 1998, the Group
owed the Parent the following amounts:

<TABLE>
<CAPTION>
As of
June 30,
---------
1999 1998
---- ----
<S> <C> <C>
Workers compensation.................................................. $421 $273
General business...................................................... 274 226
---- ----
$695 $499
==== ====
</TABLE>

3. Provision for Restructure

During fiscal 1999, the Group's operations recorded a provision for
restructure totaling $30,225 consisting of:

<TABLE>
<S> <C>
Writedown of excess cost of net assets acquired, net............ $28,300
Employee severance and related costs............................ 1,925
-------
Total........................................................... $30,225
=======
</TABLE>

F-54
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

3. Provision for Restructure (continued)

During fiscal 1999, the Group decided to exit certain non-strategic
markets. The markets consisted of 40 clinics. This decision resulted in a
write-down of the value of the related assets to estimated net realizable value
as these were considered held for disposal. The estimated net realizable value
of the Group's assets held for disposal (principally excess cost of net assets
acquired, net) was determined by reference to the Company's experience with
purchases and sales of comparable assets over the past several years and in
consultation with financial advisors. The clinics to be disposed of had
annualized net revenues of approximately $16,600 and annualized operating
profit of approximately $200. At June 30, 1999, five of the clinics have been
sold for proceeds totaling $923. The net book value of the remaining assets to
be sold is approximately $4,991. The decision to dispose of these clinics is
being evaluated in light of the possible sale of the Group.

In addition, the Group has implemented a revised physical therapist
staffing model to provide therapist services at lower costs while maintaining
quality care. The new staffing model calls for an estimated reduction of 364
physical therapists. At June 30, 1999, a reduction of 231 physical therapists
has taken place, 173 through attrition and 58 through severance arrangements.
The Group's plan will be fully implemented by December 31, 1999, utilizing the
remaining restructure reserve.

The activity in the Group's reserves for restructure is as follows:

<TABLE>
<CAPTION>
Years Ended June
30,
-----------------
1999 1998
-------- -------
<S> <C> <C>
Beginning balance............................................ $ 1,137 $ 3,217
Provision for restructure.................................... 30,225 --
Payments..................................................... (2,437) (2,080)
Non-cash reductions, principally asset write-offs............ (28,300) --
-------- -------
Ending balance............................................... $ 625 $ 1,137
======== =======
</TABLE>

4. Acquisition Transactions

During the years ended June 30, 1999 and 1998 the Group acquired five and
48 businesses, respectively. The following unaudited pro forma combined results
of the operations of the Group give effect to each of the acquisitions as if
they occurred on July 1, 1997:

<TABLE>
<CAPTION>
Years Ended June
30,
------------------
1999 1998
-------- --------
<S> <C> <C>
Net Revenues............................................... $339,889 $344,277
======== ========
Loss before income taxes................................... $(80,734) $(29,945)
======== ========
Net loss................................................... $(59,170) $(22,327)
======== ========
</TABLE>

The above pro forma information is not necessarily indicative of the
results of operations that would have occurred had the acquisition been made as
of July 1, 1997, or the results that may occur in the future.

F-55
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

4. Acquisition Transactions (continued)

Information with respect to businesses acquired in purchase transactions
was as follows:

<TABLE>
<CAPTION>
As of June 30,
------------------
1999 1998
--------- --------
<S> <C> <C>
Excess cost of net assets acquired......................... $ 427,654 $384,653
Less: accumulated amortization............................. (40,474) (28,609)
--------- --------
$ 387,180 $356,044
========= ========
<CAPTION>
Years Ended June
30,
------------------
1999 1998
--------- --------
<S> <C> <C>
Cash paid (net of cash acquired)........................... $ 40,089 $ 78,164
Notes issued............................................... 4,825 24,875
Other consideration........................................ 2,238 6,920
--------- --------
47,152 109,959
Liabilities assumed........................................ 17,342 36,751
--------- --------
64,497 146,710
Fair value of assets acquired, principally accounts
receivable and property and equipment..................... (5,091) (29,488)
--------- --------
Cost in excess of fair value of net assets acquired........ $ 59,403 $117,222
========= ========
</TABLE>

Certain purchase agreements require additional payments to the former
owners if specific financial targets are met. Aggregate contingent payments in
connection with all acquisitions at June 30, 1999 of approximately $34,884, in
cash, have not been included in the initial determination of cost of the
businesses acquired since the amount of such contingent consideration that may
be paid in the future, if any, is not presently determinable. In connection
with businesses acquired in prior years, the Group paid $5,711 and $10,423 cash
in fiscal years ended June 30, 1999 and 1998 respectively. Additionally, the
Parent issued 43 and 130 shares of its common stock on behalf of the Group
during the fiscal years ended June 30, 1999 and 1998, respectively, in
settlement of earn-out payments to former owners.

F-56
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

5. Property and Equipment

The components of property and equipment were as follows:

<TABLE>
<CAPTION>
As of June 30,
------------------
1999 1998
-------- --------
<S> <C> <C>
Buildings................................................... $ 1,232 $ 1,232
Property, equipment and furniture........................... 46,752 41,808
Capitalized software........................................ 16,066 12,916
Leasehold improvements...................................... 17,314 14,927
-------- --------
81,364 70,883
Less: accumulated depreciation and amortization............. (41,299) (30,441)
-------- --------
$ 40,065 $ 40,442
======== ========
</TABLE>

Depreciation expense, including depreciation expense allocated by the
Parent, for the fiscal years 1999, 1998 and 1997 was $14,109, $11,559 and
$9,023, respectively.

6. Investment in Joint Ventures

At June 30, 1999 and 1998, the Group's investment in joint venture for GP
Therapy, Inc., LLC was $10,728 and $10,889, respectively. The Group's
investment in Mercy Joyner Associates, was acquired as part of a larger
acquisition in fiscal year 1998. At June 30, 1999 and 1998, the Group's
investment in joint venture for Mercy Joyner Associates was $378 and $231,
respectively. The Group's investment in Gill Balsano Consulting, LLC was
transferred from the Parent in fiscal year 1999. At June 30, 1999 the Group's
investment in Gill Balsano was $2,078. The Group's investment in the Langhorne
PC and South Philadelphia PC were acquired as part of a larger acquisition in
fiscal year 1998. At June 30, 1999 and 1998, the Group's investment in joint
venture for both the Langhorne PC and South Philadelphia PC was $1,936 and
$1,942, respectively.

F-57
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

7. Accounts Payable and Accrued Expenses--Third Parties

Accounts payable and accrued expenses are summarized as follows:

<TABLE>
<CAPTION>
As of June 30,
---------------
1999 1998
------- -------
<S> <C> <C>
Accrued contingent earn-outs................................... $ 7,256 $ 3,294
Accrued compensation and benefits.............................. 5,809 5,034
Accounts payable............................................... 4,397 4,407
Bank overdraft................................................. 4,206 2,216
Accrued acquisition costs...................................... 3,842 394
Accrued interest............................................... 2,026 1,843
Accrued restructure costs...................................... 625 1,137
Other.......................................................... 3,238 7,207
------- -------
$31,399 $25,532
======= =======
</TABLE>

8. Financing Arrangements

Financing arrangements consisted of the following:

<TABLE>
<CAPTION>
As of June 30,
-------------------
1999 1998
--------- --------
<S> <C> <C>
Line of credit--related party, due November 30, 1999..... $ 165,202 $165,507
Subordinated promissory notes (6% to 9%),
Payable through 2007.................................... 41,615 47,291
Other.................................................... 2,317 1,648
--------- --------
209,134 214,446
Less: current portion of financing arrangements-related
parties................................................. (165,202) --
Less: current portion of financing arrangements-third
parties................................................. (14,706) (13,620)
--------- --------
$ 29,226 $200,826
========= ========
</TABLE>

Subordinated promissory notes consist primarily of notes to former owners
of businesses acquired. The carrying values of the notes approximate fair
value.

Financing arrangements with related party is comprised of a $180,000 line
of credit with a subsidiary of the Parent. The Group periodically draws from
the line and is charged interest at a rate of the Parent's lending bank's prime
rate plus 1.5% on the daily outstanding balance (See Note 2). As of June 30,
1999, the interest rate for the Group was 9.25%. As of June 30, 1999 the Group
had $14,798 available under this line of credit.

F-58
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

8. Financing Arrangements (continued)

At June 30, 1999, aggregate annual maturities of financing arrangements
were as follows for the next five fiscal years and thereafter:

<TABLE>
<CAPTION>
Fiscal Year
-----------
<S> <C>
2000............................................................ $179,908
2001............................................................ 13,157
2002............................................................ 10,040
2003............................................................ 3,333
2004............................................................ 1,494
Thereafter...................................................... 1,202
--------
$209,134
========
</TABLE>

Interest paid on debt during the fiscal years 1999, 1998 and 1997 was
$18,132, $17,518 and $10,537, respectively.

9. Leases

The Group rents office and clinical space and transportation and therapy
equipment under non-cancelable operating leases.

Future minimum lease commitments for all non-cancelable leases as of June
30, 1999 are as follows:

<TABLE>
<CAPTION>
Operating
Fiscal Year Leases
----------- ---------
<S> <C>
2000........................................................... $27,807
2001........................................................... 21,378
2002........................................................... 16,557
2003........................................................... 10,191
2004........................................................... 4,208
Thereafter..................................................... 5,341
-------
Total minimum lease payments................................... $85,482
=======
</TABLE>

Total rent expense for all operating leases during fiscal years 1999,
1998 and 1997 was $29,610, $22,071 and $16,514 respectively.

F-59
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

10. Income Taxes

The components of income tax benefit were as follows:

<TABLE>
<CAPTION>
Years Ended June 30,
----------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Current:
Federal......................................... $(17,500) $(14,676) $(15,143)
State........................................... 950 776 260
-------- -------- --------
(16,500) (13,900) (14,883)
-------- -------- --------
Deferred:
Federal......................................... (4,705) 4,890 3,235
State........................................... (309) 1,392 922
-------- -------- --------
(5,014) 6,282 4,157
-------- -------- --------
$(21,564) $ (7,618) $(10,726)
======== ======== ========
</TABLE>

The components of net deferred tax assets (liabilities) as of June 30,
1999 and 1998 were as follows:

<TABLE>
<CAPTION>
As of June 30,
-----------------
1999 1998
-------- -------
<S> <C> <C>
Accruals and reserves not currently deductible for tax
purposes.................................................. $ (1,113) $ 439
Restructure reserves....................................... 6,775 --
Federal and state net operating loss....................... 2,899 --
-------- -------
Gross deferred tax assets................................ 8,561 439
Depreciation and capital leases............................ (13,332) (9,865)
-------- -------
Gross deferred tax liabilities........................... (13,332) (9,865)
-------- -------
Net deferred tax liability............................... $ (4,771) $(9,426)
======== =======
</TABLE>

The reconciliation of the expected tax benefit (computed by applying the
Federal statutory tax rate to income before income taxes) to actual tax
expense was as follows:

<TABLE>
<CAPTION>
Years Ended June 30,
----------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Expected Federal income tax benefit ............ $(28,274) $(10,554) $(11,416)
State income taxes benefit, less Federal
benefit........................................ 416 1,679 870
Non-deductible nonrecurring items............... 95 428 61
Non-deductible amortization of excess
cost of net assets acquired.................... 6,025 1,358 988
Other, net...................................... 174 (529) (1,229)
-------- -------- --------
$(21,564) $ (7,618) $(10,726)
======== ======== ========
</TABLE>

F-60
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

11. Benefit Plans

Retirement Plans: Through the Parent, the Group participates in defined
contribution 401(k) plans covering substantially all of its employees. The
Group's portion of contributions made to the plans by the Parent for fiscal
1999, 1998 and 1997 were $1,189, $1,056 and $841, respectively.

Stock Option Plans: Certain employees of the Group participate in the
Parent's employee stock option plans. Under the plans, substantially all of the
options granted under the plan vest ratably over five years and are granted for
a term of up to ten years. The exercise price of the options equal the fair
value of the Parent's common stock at the date of grant. The Parent has adopted
the disclosure-only provision of SFAS 123. Accordingly, no compensation expense
has been recognized for option grants under the plans by the Parent or the
Group. Had compensation cost for options granted been determined based on the
fair value at the date of grant awards consistent with the provisions of SFAS
123, the Group's net loss would not have been materially different from the
amounts reported in these financial statements.

12. Commitments and Contingencies

13. Parent's Restructure Proposal

The accompanying combined financial statements have been prepared on a
going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. As shown in the
combined financial statements for the three years ended June 30, 1999, the
Group has reported substantial net operating losses; has significant excess of
current liabilities over current assets at June 30, 1999; and, is dependent on
the Parent to provide financial support.

The Parent has $175,000 of convertible subordinated debentures due on
January 15, 2000. The Parent's ability to make its scheduled debt payments when
due is dependent on a number of future actions, the outcome of which are
uncertain. The Parent's management has proposed a financial restructuring plan
to its shareholders in a proxy statement dated August 13, 1999, as amended
through September 10, 1999. A special meeting of the Parent's shareholders was
held on September 21, 1999 (the "Special Meeting") and the shareholders voted
to approve (i) the sale of the Group, (ii) the sale of the Parent's interest in
an affiliated company and (iii) the adoption of a restructuring proposal.

The Parent is in the process of seeking buyers for the Group. While to
date no definitive agreement has been entered into with respect to the sale of
the Group, the Parent received shareholder approval at the Special Meeting to
proceed with the sale when a suitable buyer is identified and a definitive
agreement (which meets all of the conditions of the proposal included in the
proxy) is negotiated with such buyer. The sale of the Group could result in
material adjustments to the assets and liabilities reflected in the
accompanying combined financial statements.

F-61
<PAGE>

NovaCare Physical Rehabilitation and Occupational Health Group
(Wholly-owned by NovaCare, Inc.)

Notes to Combined Financial Statements--(Continued)

June 30, 1999
(In thousands)

13. Parent's Restructure Proposal (continued)

The Parent's ability to repay the $175,000 convertible subordinated
debentures is dependent on the sale of the Group or the Parent's ability to
secure refinancing in the event the Group is not sold. The Parent is unable to
predict the sale of the Group as set forth in the proxy or likelihood of
successfully concluding any other available alternative. As a result, the
Company is unable to predict the Parent's ability to continue to provide
financial support to the Group.

F-62
<PAGE>

Independent Auditors' Report

The Board of Directors and Stockholders
Intensiva HealthCare Corporation:

We have audited the accompanying consolidated balance sheets of Intensiva
HealthCare Corporation and subsidiaries as of December 15, 1998 and December
31, 1997, and the related consolidated statements of operations, stockholders'
equity, and cash flows for the period from January 1, 1998 through December 15,
1998 and the year ended December 31, 1997. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Intensiva
HealthCare Corporation and subsidiaries as of December 15, 1998 and December
31, 1997, and the results of their operations and their cash flows for the
period from January 1, 1998 through December 15, 1998 and the year ended
December 31, 1997, in conformity with auditing standards generally accepted in
the United States of America.

/s/ KPMG LLP

St. Louis, Missouri
April 9, 1999

F-63
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

December 15, 1998 and December 31, 1997

<TABLE>
<CAPTION>
December 15, December 31,
1998 1997
------------ ------------
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents ......................... $ -- 1,433,812
Accounts receivable, less allowance for doubtful
accounts of $2,767,735 and $1,736,367, respective-
ly................................................ 52,138,563 31,876,315
Inventories ....................................... 1,023,466 781,317
Prepaid expenses .................................. 848,937 855,429
----------- ----------
Total current assets ............................ 54,010,966 34,946,873
Property and equipment, net ......................... 10,531,377 6,882,957
Organizational and preopening costs, net ............ 751,864 382,777
Other assets ........................................ 673,620 1,047,842
----------- ----------
$65,967,827 43,260,449
=========== ==========
Liabilities and Stockholders' Equity
Current liabilities:
Bank overdraft .................................... $ 1,769,407 --
Current portion of long-term obligations .......... 748,283 781,315
Current portion of revolving credit facility ...... 10,884,847 1,649,394
Accounts payable and accrued expenses ............. 9,413,078 7,589,180
Accrued salaries, wages, and benefits ............. 5,155,739 2,245,741
Estimated third-party payor settlements ........... 21,534,681 2,652,585
----------- ----------
Total current liabilities ....................... 49,506,035 14,918,215
----------- ----------
Long-term obligations, less current portion ......... 1,533,641 1,312,234
Revolving credit facility, less current portion ..... -- 1,935,575
Deferred rent expense ............................... 1,516,001 1,301,984
----------- ----------
Total liabilities ............................... 52,555,677 19,468,008
Commitments and contingencies
Stockholders' equity:
Convertible preferred stock, $0.001 par value:
Series A, 3,465,000 shares authorized, none
outstanding in 1998 and 1997...................... -- --
Series B, 2,232,962 shares authorized, none
outstanding in 1998 and 1997...................... -- --
Common stock, $0.001 par value, 70,000,000 shares
authorized, 10,086,079 and 9,969,045 shares issued
and outstanding, respectively..................... 10,086 9,969
Additional paid-in capital ........................ 30,251,901 30,193,647
Accumulated deficit ............................... (16,849,837) (6,411,175)
----------- ----------
Total stockholders' equity ...................... 13,412,150 23,792,441
----------- ----------
$65,967,827 43,260,449
=========== ==========
</TABLE>

See accompanying notes to consolidated financial statements.

F-64
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

Period from January 1, 1998 through December 15, 1998 and year ended December
31, 1997

<TABLE>
<CAPTION>
Period from
January 1, 1998
through Year ended
December 15, December 31,
1998 1997
--------------- ------------
<S> <C> <C>
Net patient service revenues ...................... $ 98,848,514 69,589,496
Costs and expenses:
Operating expenses .............................. 95,099,777 59,913,263
General and administrative ...................... 7,485,093 4,605,961
Provision for doubtful accounts ................. 1,818,152 1,951,890
Depreciation and amortization ................... 2,835,004 1,565,004
------------- ----------
Total costs and expenses ...................... 107,238,026 68,036,118
------------- ----------
Operating income (loss) ....................... (8,389,512) 1,553,378
Interest income ................................... -- 412,706
Interest expense .................................. (1,203,126) (235,171)
------------- ----------
Income (loss) before income taxes ............. (9,592,638) 1,730,913
Provision for income taxes ........................ 846,024 93,557
------------- ----------
Net income (loss) ............................. $ (10,438,662) 1,637,356
============= ==========
</TABLE>

See accompanying notes to consolidated financial statements.

F-65
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

Period from January 1, 1998 through December 15, 1998 and year ended December
31, 1997

<TABLE>
<CAPTION>
Common stock
------------------
Preferred stock Additional Total
----------------- Number of paid-in Accumulated stockholders'
Series A Series B shares Amount capital deficit equity
-------- -------- ---------- ------- ---------- ----------- --------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1996 .................. $ -- -- 9,905,062 $ 9,905 30,184,544 (8,048,531) 22,145,918
Issuance of shares of
common stock in
connection with
exercise of stock
options ............... -- -- 63,983 64 9,103 -- 9,167
Net income ............. -- -- -- -- -- 1,637,356 1,637,356
------ ----- ---------- ------- ---------- ----------- ----------- ---
Balance at December 31,
1997 .................. -- -- 9,969,045 9,969 30,193,647 (6,411,175) 23,792,441
Issuance of shares of
common stock in
connection with
exercise of stock
options ............... -- -- 117,034 117 58,254 -- 58,371
Net loss ............... -- -- -- -- -- (10,438,662) (10,438,662)
------ ----- ---------- ------- ---------- ----------- -----------
Balance at December 15,
1998 .................. $ -- -- 10,086,079 $10,086 30,251,901 (16,849,837) 13,412,150
====== ===== ========== ======= ========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.

F-66
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

Period from January 1, 1998 through December 15, 1998 and year ended December
31, 1997

<TABLE>
<CAPTION>
Period from
January 1,
1998
through Year ended
December 15, December 31,
1998 1997
------------ ------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) ................................ $(10,438,662) 1,637,356
Adjustments to reconcile net income (loss) to net
cash used in operating activities:
Depreciation and amortization .................. 2,835,004 1,565,004
Provision for doubtful accounts ................ 1,818,152 1,951,890
Increase in accounts receivable ................ (22,580,074) (25,344,570)
Increase in inventories, prepaid expenses, and
other assets .................................. (363,816) (784,274)
Increase in accounts payable and accrued
expenses ...................................... 1,823,898 4,511,854
Increase in accrued salaries, wages, and
benefits ...................................... 2,909,998 1,209,670
Increase in estimated third-party payor
settlements ................................... 19,381,770 1,748,872
Increase in accrued rent differential .......... 214,017 216,684
------------ -----------
Net cash used in operating activities ........ (4,399,713) (13,287,514)
------------ -----------
Cash flows from investing activities:
Additions to property and equipment .............. (4,318,103) (3,323,707)
Organizational and preopening costs .............. (965,436) (542,742)
Maturities of short-term investments ............. -- 12,987,220
------------ -----------
Net cash provided by (used in) investing
activities .................................. (5,283,539) 9,120,771
------------ -----------
Cash flows from financing activities:
Bank overdraft ................................... 1,769,407 --
Proceeds from exercise of stock options .......... 58,371 9,167
Net borrowings under revolving credit facility ... 7,299,878 3,584,969
Debt issuance costs incurred ..................... -- (140,322)
Payments on long-term obligations ................ (878,216) (738,236)
------------ -----------
Net cash provided by financing activities .... 8,249,440 2,715,578
------------ -----------
Decrease in cash and cash equivalents ........ (1,433,812) (1,451,165)
Cash and cash equivalents, beginning of period ..... 1,433,812 2,884,977
------------ -----------
Cash and cash equivalents, end of period ........... $ -- 1,433,812
============ ===========
Supplemental cash flow information:
Cash paid for interest ........................... $ 1,203,126 235,171
Cash paid for income taxes ....................... 644,246 43,000
============ ===========
Supplemental information--noncash investing and
financing activities:
Acquisition of software license through long-
term obligation ............................... $ -- 555,034
Acquisition of equipment through capital leases
............................................... 1,066,591 1,156,824
============ ===========
</TABLE>
See accompanying notes to consolidated financial statements.

F-67
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 15, 1998 and December 31, 1997

(1) Business and Summary of Significant Accounting Policies and Practices

(a) Description of Business

Intensiva HealthCare Corporation and subsidiaries (the Company) was
incorporated in Delaware on July 18, 1994. The Company operates a
network of long-term care hospitals in certain health care markets
across the United States.

On November 10, 1998, Select Medical Corporation of Mechanicsburg (a
wholly owned subsidiary of Select Medical Corporation) (Select)
initiated a cash tender offer of $9.625 per outstanding share of the
Company's common stock. On December 15, 1998, Select acquired
approximately 95% of the Company's outstanding common stock. The
remaining 5% of the outstanding stock was acquired on December 18, 1998.
Total cash tendered by Select for the Company's common stock was
$97,078,511. Additionally, Select paid $4,688,712 to retire options
vested under the Intensiva HealthCare Corporation Stock Option Plan and
Intensiva HealthCare Corporation Directors Stock Option Plan and to
retire warrants held by a third party. Approximately $1.8 million of
costs incurred by the Company related to the sale of the Company's
common stock to Select are included in general and administrative
expense in the accompanying consolidated statement of operations for the
period from January 1, 1998 through December 15, 1998. Effective
December 16, 1998, the Company became part of the Select consolidated
group of subsidiaries.

(b) Principles of Consolidation

The consolidated financial statements of the Company include all of its
wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.

Cash and cash equivalents consist of interest-bearing money market
accounts and debt instruments with original maturities of three months
or less.

(d) Depository Receipts Account

The Company maintains a depository receipts account at a local financial
institution to which substantially all cash receipts are received. In
accordance with the terms of the revolving credit facility, the balance
of the depository receipts account is swept daily by the lender to
reduce the balance outstanding on the Company's revolving credit
facility.

(e) Financial Instruments

Financial instruments, consisting of cash and cash equivalents, accounts
receivable, current liabilities, long-term obligations, and revolving
credit facility are reported at amounts in the accompanying consolidated
balance sheets that approximate fair value at the balance sheet dates.

(f) Inventories

Inventories, which consist principally of medical supplies, are stated
at the lower of cost or market. Cost is determined using the first-in,
first-out method.

F-68
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

(g) Property and Equipment

Property and equipment are stated at cost. Equipment under capital
leases is stated at the present value of minimum lease payments.
Property and equipment of the Company are reviewed for impairment
whenever events or circumstances indicate that the asset's undiscounted
expected cash flows are not sufficient to recover its carrying amount.
The Company measures an impairment loss by comparing the fair value of
the asset to its carrying amount. Fair value of an asset is estimated
using the present value of expected future cash flows.

Depreciation and amortization is calculated using the straight-line
method over the estimated useful lives of the assets. Useful lives for
equipment range from 3-15 years. Leasehold improvements are amortized
over the shorter of the lease term or estimated useful life of the
asset, approximately five years.

(h) Organizational and Preopening Costs

Organizational and preopening costs consist of legal, consulting, and
other costs incurred by the Company during the development phase of a
new hospital. These costs are capitalized and amortized to expense over
a period of twelve months beginning when the new hospital is opened and
begins to admit patients. Costs related to marketing and development of
new hospitals at the corporate level are expensed as incurred.

(i) Other Assets

Other assets primarily consist of software license agreements with a
book value of approximately $487,000 and $879,000 at December 15, 1998
and December 31, 1997, respectively. The software licenses are being
amortized into expense over the three-year estimated useful lives of the
licenses.

(j) Bank Overdraft

The balance of the bank overdraft at December 15, 1998 represents
outstanding checks written on the Company's operating and payroll bank
accounts in excess of the cash balance of those accounts. Subsequent to
the balance sheet date, sufficient funds were transferred to the
Company's operating and payroll bank accounts from the revolving credit
facility to satisfy outstanding obligations.

(k) Deferred Rent Expense

Certain of the leases on the Company's health care facilities include
scheduled base rent increases over the terms of the leases. The total
base rent payments are being charged to expense on the straight-line
method over the term of the leases. Deferred rent expense represents the
excess of rent expense over cash payments since inception of the leases.

(l) Income Taxes

Deferred taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective
tax bases and operating loss and tax credit carryforwards. Deferred tax
assets and liabilities are measured using enacted tax rates in effect
for the year in which those differences are expected to be recovered or
settled.

F-69
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

(m) Revenue Recognition

The Company recognizes revenue as services are provided to patients.

The Company has agreements with third-party payors that provide for
patient care reimbursement at rates that may differ from the customary
charges for such care. During the qualification period to become
certified as a long-term care hospital (which historically has been
approximately six to seven months from the opening of the facility for
the Company), the Medicare program reimburses the Company under either
the Prospective Payment System, which provides for payment at
predetermined amounts based on the discharge diagnosis, or under a cost-
based methodology. Upon obtaining certification as a long-term care
hospital, the Company's hospitals receive cost-based reimbursement,
subject to certain limitations specific to long-term care hospitals,
from the Medicare program. Payment for patient services covered by
certain commercial insurance carriers, health maintenance organizations,
and preferred provider organizations are based upon reimbursement
agreements which include negotiated rates for specific services,
discounts from established charges, and prospectively determined per
diem rates.

Net patient service revenues and related accounts receivable are
reported at the estimated net realizable amounts from patients, third-
party payors, and others for services rendered. Retroactive adjustments
are accrued on an estimated basis in the period the related services are
rendered and adjusted in future periods as final settlements are
determined. Final settlements are determined after submission of annual
cost reports by the Company and audits thereof by the Medicare fiscal
intermediary.

(n) Medicare Credit Risk and Payor Concentration

Approximately 69% and 77% of the Company's net patient service revenues
for the period from January 1, 1998 through December 15, 1998 and the
year ended December 31, 1997, respectively, were derived from funds
under the Medicare program, and approximately 68% and 75% of the
Company's net accounts receivable at December 15, 1998 and December 31,
1997, respectively, are from this payor source.

Sixteen of the Company's facilities, which have been certified by
Medicare as long-term care hospitals at December 15, 1998, accounted for
approximately $96 million of net patient services revenues in the period
from January 1, 1998 through December 15, 1998. Significant reductions
in the level of revenues attributable to these facilities may occur if
the Company is unable to maintain the certification of these facilities
as long-term care hospitals in accordance with Medicare rules and
regulations, including the maintenance of an average length of stay of
at least 25 days at each individual facility. Also, the Company's
facilities operate in space leased from general acute care hospitals
(host hospitals), consequently, all of its 22 facilities in operation at
December 15, 1998 are subject to Medicare "hospital within hospitals"
(HIH) rules and regulations. These rules and regulations are designed to
ensure that the Company's facilities are organizationally and
functionally independent of their host hospitals. For purposes of
measuring independence, the Medicare rules and regulations include
requirements that the Company's facilities either purchase no more than
15% of their total operating expenses from the host hospitals or receive
no more than 25% of patient referrals from the host hospitals.
Significant reductions in the Company's level of revenues attributable
to its facilities may occur if the Company is unable to maintain its
facilities' status as HIH's in accordance with Medicare rules and
regulations.

F-70
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

Management believes that all its facilities are in compliance with the
Medicare rules and regulations covering long-term care hospitals and HIH
facilities. However, in light of the lack of regulatory guidance and
scarcity of case law interpreting these regulations, there can be no
assurance that the Company's facilities will have been found to be in
compliance with these regulations and, if so, whether any sanctions
imposed would have a material adverse effect on the consolidated
financial position or results of operations of the Company.

(o) Use of Estimates

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

(p) Net Income (Loss) Per Share

In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards (SFAS) No. 128, Earnings Per Share, (SFAS
128). SFAS 128 replaces the previously reported primary and fully
diluted earnings per share with basic and diluted earnings per share.
Unlike primary earnings per share, basic earnings per share excludes any
dilutive effects of options, warrants and convertible securities.
Diluted earnings per share is very similar to the previously reported
fully diluted earnings per share. All earnings per share amounts for all
periods have been presented to conform to SFAS 128 requirements.

Basic and diluted income (loss) per share was computed using net income
(loss) and the weighted average number of shares of common stock and
common stock equivalents, if dilutive. The weighted average numbers of
shares of common stock used in the computation of basic and diluted loss
per share for the period from January 1, 1998 through December 15, 1998
was 10,019,679. Common stock equivalents totaling 685,117 at December
15, 1998 are not included in the computation of diluted loss per share
because they have an anti-dilutive effect. The weighted average numbers
of shares of common stock and common stock equivalents used in the
computation of basic and diluted income per share for the year ended
December 31, 1997 were 9,929,598 and 10,463,800, respectively. The
difference between the two amounts relates to the effect of dilutive
stock options and warrants.

(q) Stock-Based Compensation

The Company uses the intrinsic value method prescribed by Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees (APB 25), and related interpretations in accounting for its
stock options. The Company has adopted the pro forma disclosures-only
provisions of SFAS No. 123, Accounting for Stock-Based Compensation.

(r) Recent Accounting Pronouncements

The Company adopted the provisions of SFAS No. 130, Reporting
Comprehensive Income, on January 1, 1998, which requires reporting of
comprehensive income (earnings) and its components in the statements of
operations and statements of equity, including net income as a
component. Comprehensive income is the change in equity of a business
from transactions and other events and circumstances from nonowner
sources.

F-71
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

In April 1998, the American Institute of Certified Public Accountants
issued Statement of Position (SOP) 98-5, Reporting on the Costs of
Start-up Activities. SOP 98-5 requires costs of start-up activities and
organizational costs to be expensed as incurred. The Company is required
to adopt SOP 98-5 on January 1, 1999 as a cumulative effect of a change
in accounting principle. The total amount of unamortized organizational
and preopening costs at December 15, 1998 was $751,864.

(2) Allowance for Doubtful Accounts

Activity in the allowance for doubtful accounts is as follows:

<TABLE>
<CAPTION>
Period from
January 1, 1998
through Year ended
December 15, December 31,
1998 1997
--------------- ------------
<S> <C> <C>
Balance at beginning of period................... $1,736,367 1,270,478
Provision for doubtful accounts.................. 1,818,152 1,951,890
Accounts written-off............................. (786,784) (1,486,001)
---------- ----------
Balance at end of period......................... $2,767,735 1,736,367
========== ==========
</TABLE>
(3) Property and Equipment
Property and equipment are as follows:
<TABLE>
<CAPTION>
December 15, December 31,
1998 1997
------------ ------------
<S> <C> <C>
Leasehold improvements.............................. $ 6,207,343 4,329,372
Equipment........................................... 3,740,547 1,954,120
Equipment under capital leases...................... 3,825,685 2,109,393
----------- ---------
13,773,575 8,392,885
Less accumulated depreciation and amortization...... 3,242,198 1,509,928
----------- ---------
Property and equipment, net $10,531,377 6,882,957
=========== =========
</TABLE>

(4) Sale Leaseback Agreement

In 1996, the Company entered into a sale leaseback agreement with a
third party to take advantage of favorable borrowing rates and maintain
liquidity. This third party received warrants to purchase 15,950 shares of the
Company's common stock. As part of this agreement, the Company obtained a $1
million commitment from the third party to finance additional capital
expenditures. In November 1998, this agreement was amended to extend an
additional commitment of $500,000 through February 15, 1999. The long-term
obligations under this arrangement are secured by certain equipment, bear
interest at 8%, and are repayable monthly through July 2002. Borrowings
outstanding of approximately $645,500 and $820,000 are included in capital
lease obligations at December 15, 1998 and December 31, 1997, respectively.
The unutilized borrowing capacity under the additional commitment was
approximately $219,000 and $413,000 at December 15, 1998 and December 31,
1997, respectively. The warrants were retired by the Company in connection
with the acquisition of the Company's common stock by Select (see note 1).

F-72
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

(5) Long-term Obligations

Long-term obligations consist of the following:
<TABLE>
<CAPTION>
December 15, December 31,
1998 1997
------------ ------------
<S> <C> <C>
Capital lease obligations, interest rates ranging
from 8% to 15%,
payable monthly through 2002.................... $2,129,603 1,645,218
Notes payable, interest at 6.5%,
payable monthly through June 1999............... 152,321 448,331
---------- ---------
2,281,924 2,093,549
Less current portion............................. 748,283 781,315
---------- ---------
$1,533,641 1,312,234
========== =========
</TABLE>

Capital lease obligations are secured by various medical equipment at
each facility, such as ventilators, x-ray machines, IV pumps, and cardiac
monitors. The net book value of equipment under capital leases was
approximately $2,400,000 and $1,700,000 at December 15, 1998 and December 31,
1997, respectively. The notes payable relate to software license agreements.

The aggregate maturities of long-term obligations at December 15, 1998
are as follows:

<TABLE>
<S> <C>
1999 $1,000,244
2000 769,946
2001 524,037
2002 327,746
2003 and thereafter 160,247
----------
2,782,220
Less interest on capital lease obligations 500,296
----------
$2,281,924
==========
</TABLE>

(6) Revolving Credit Facility

In November 1997, the Company entered into a Loan and Security Agreement
(Initial Loan Agreement) to obtain a $20 million revolving credit facility that
was secured by a first security interest in the Company's accounts receivable
and other assets. The Initial Loan Agreement provided for maximum borrowings up
to the lesser of the activated loan amount or the borrowing base as defined in
the Initial Loan Agreement, and bore interest at either the higher of (i) the
prime rate or federal funds rate (whichever was greater) plus .25%, or (ii) the
30-day LIBOR rate plus 2.5%. The Initial Loan Agreement included restrictive
covenants involving limitations on capital expenditures and other borrowings,
adherence to certain financial measurements, and restrictions on the payment of
dividends. The unused availability on the Initial Loan Agreement at December
31, 1997 was approximately $8,212,000. The Initial Loan Agreement was
terminated in April 1998, upon the execution of a second revolving credit
facility with another lender.

The Second Loan and Security Agreement (Second Loan Agreement) was for a
$20 million revolving credit facility with a term of three years. Under the
Second Loan Agreement, the Company pays a monthly loan management fee of $2,000
as well as a monthly usage fee of 0.24% per annum on the average amount by
which the available loan amount, as defined by the agreement, exceeds the
outstanding principal balance. The

F-73
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

unused availability on the Second Loan Agreement at December 15, 1998 was
approximately $9,115,000. The Second Loan Agreement includes restrictive
covenants on other borrowings and transfer of ownership provisions. Advances
under the New Loan agreement bear interest at 1% above the prime rate (8.75% at
December 15, 1998), and are secured by a first security interest in the
Company's accounts receivable and other assets.

As a result of the acquisition of the Company's common stock by Select,
an event of default occurred under the Second Loan Agreement, with the lender
electing to terminate the agreement. Accordingly, the balance outstanding on
the Second Loan Agreement at December 15, 1998 of $10,884,847 was classified as
a current liability in the accompanying consolidated balance sheets. In January
1999, Select rendered payment in full to the lender including a termination fee
of $600,000.

The Company paid interest at a weighted average interest rate of 11% and
8.75% for the period from January 1, 1998 through December 15, 1998 and the
year ended December 31, 1997, respectively.

(7) Stockholders' Equity

The Company has two stock option plans which provide for the issuance of
options to key employees .and directors. Under the Intensiva HealthCare
Corporation Stock Option Plan (1995 Plan), established in 1995, up to 785,400
options to purchase common shares may be issued to employees and directors.
Under the Intensiva HealthCare Corporation Directors Stock Option Plan (1997
Plan), established in 1997, up to 60,000 options to purchase common shares may
be issued to directors. Both plans require that the exercise price of options
issued must be at least equal to the fair market value of the shares of stock
at the date of grant and the term of the options may not exceed 10 years.

Aggregate information relating to stock option activity under the 1995
Plan and the 1997 Plan is as follows:

<TABLE>
<CAPTION>
Period from
January 1, 1998
through Year ended
December 15, December 31,
1998 1997
--------------- ------------
<S> <C> <C>
Number of shares under stock options:
Outstanding at beginning of period............... 687,367 575,850
Granted.......................................... 140,500 181,000
Exercised........................................ (117,034) (63,983)
Forfeited........................................ (25,716) (5,500)
-------- -------
Outstanding at end of period..................... 685,117 687,367
Exercisable at end of period..................... 353,766 267,973
======== =======
Weighted average exercise price:
Granted.......................................... $ 5.97 7.21
Exercised........................................ 0.50 0.14
Forfeited........................................ 7.08 6.00
Outstanding at end of period..................... 3.09 2.21
Exercisable at end of period..................... 2.01 0.70
</TABLE>

F-74
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

In accordance with the stock option plans, all employees were to become
fully vested in their options upon a change in ownership. The vested options
under the 1995 Plan and the 1997 Plan were settled by Select for $4,688,712 in
connection with their acquisition of the Company (see note 1).

No compensation expense relating to stock option grants was recorded in
1998 and 1997 as the option exercise prices were equal to fair value of the
Company's common stock at the respective dates of grant.

Pro forma information regarding net loss is required by SFAS No. 123, and
has been determined as if the Company had accounted for its stock options under
the fair value method of SFAS No. 123. The fair value was estimated at the date
of grant using a Black-Scholes option pricing model with the following weighted
average assumptions:

<TABLE>
<CAPTION>
December 15, December 31,
1998 1997
------------ ------------
<S> <C> <C>
Risk-free interest rate............................. 4.7% 5.8%
Dividend yield...................................... -- --
Volatility factor................................... 0.64 0.77
Weighted average expected life...................... 5 years 5 years
======= =======
</TABLE>

The Company's pro forma income (loss) compared to reported amounts are as
follows:

<TABLE>
<CAPTION>
Period from
January 1, 1998
through Year ended
December 15, December 31,
1998 1997
--------------- ------------
<S> <C> <C>
Net income (loss):
As reported................................... $ (10,438,662) 1,637,356
Pro forma..................................... (11,598,489) 1,509,944
Basic and diluted income (loss) per share:
As reported................................... (1.04) 0.16
Pro forma:
Basic....................................... (1.16) 0.15
Diluted..................................... (1.16) 0.14
Weighted average fair value of options granted
during the period.............................. 3.47 4.77
============= =========
</TABLE>

(8) Employee Benefits

The Company sponsors a voluntary defined contribution 401(k) plan (the
Plan) that is available to substantially all employees. Each participant may
make an annual contribution to their account of an amount not to exceed 15% of
their compensation, subject to certain limitations. The Company makes a
matching contribution of 25% of participant contributions, and may make
additional annual discretionary contributions to the Plan not to exceed 15% of
the total compensation of all plan participants. Participants vest in the
Company's matching portion at a rate of 20% per year. Expense for this Plan
totaled approximately $250,000 and $106,500 for the period from January 1, 1998
through December 15, 1998 and the year ended December 31, 1997, respectively.

F-75
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

(9) Income Taxes

The provision for income taxes for the period from January 1, 1998
through December 15, 1998 and for the year ended December 31, 1997 consisted
primarily of current state income taxes.

The difference between the effective income tax rate for financial
statement purposes and the U.S. federal income tax rate of 34% is as follows:

<TABLE>
<CAPTION>
Period from
January 1, 1998
through Year ended
December 15, December 31,
1998 1997
--------------- ------------
<S> <C> <C>
Expected provision (benefit) at statutory tax
rate........................................... $ (3,261,496) 588,510
State taxes, net of federal tax benefit......... 514,955 93,557
Transaction costs incurred by the Company re-
lated to the acquisition by Select............ 617,055 --
Change in valuation allowance................... 2,875,722 (623,050)
Other........................................... 99,788 34,540
------------ ---------
$ 846,024 93,557
============ =========

The tax effects of temporary differences that give rise to significant
portions of deferred tax assets are as follows:

<CAPTION>
December 15, December 31,
1998 1997
--------------- ------------
<S> <C> <C>
Net operating loss carryforwards................ $ 2,331,659 936,032
Allowance for doubtful accounts and contractual
allowances..................................... 3,543,120 590,365
Accrued expenses................................ 242,098 198,581
Difference between book and tax basis deprecia-
tion and amortization.......................... 354,314 276,330
------------ ---------
6,471,191 2,001,308
Less valuation allowance........................ 6,471,191 2,001,308
------------ ---------
$ -- --
============ =========
</TABLE>

A valuation allowance is necessary for deferred tax assets if, based on
the weight of available evidence, it is more likely than not that some portion
or all of the deferred tax asset will not be realized. The ultimate realization
of deferred tax assets is dependent upon the generation of future taxable
income during the period in which those temporary differences become
deductible. Management considers the scheduled reversal of deferred tax
liabilities, projected future taxable income, and tax planning strategies in
making this assessment. The Company has approximately $6,900,000 of net
operating loss carryforwards for income tax purposes, which, if unused, will
begin to expire in the year 2009.

Compensation expense related to stock options in excess of amounts
recognized for financial reporting purposes resulted in a $1,594,162 increase
in net operating loss carryforwards with a corresponding increase in additional
paid-in capital. A corresponding increase in the valuation allowance was
recorded by the Company and charged to additional paid-in capital.

F-76
<PAGE>

INTENSIVA HEALTHCARE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

December 15, 1998 and December 31, 1997

(10) Commitments and Contingencies

The Company's health care facilities are located in space leased from
acute care health care providers (host hospitals) under operating lease
agreements with Host Hospitals of initial terms of five or more years, with
varying renewal terms. The Company leases corporate office space under a
noncancellable operating lease which expires in the year 2002.

Minimum annual lease payments on noncancellable operating leases with
maturities in excess of one year are as follows: $8,889,280 in 1999, $9,043,049
in 2000, $8,779,123 in 2001, $6,939,253 in 2002, and $3,518,510 thereafter.
Total rent expense was approximately $10,989,000 and $7,381,000 for the period
from January 1, 1998 through December 15, 1998 and the year ended December 31,
1997, respectively.

(11) Year 2000

The Year 2000 issue is the result of computer programs being written
using two digits rather than four to define the applicable year. Any of the
Company's computer programs that have date-sensitive software may recognize a
"00" date" as the year 1900 rather than the year 2000. This could result in
system failures or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions or
engage in normal business activities. The Company has developed a Year 2000
remediation plan and has begun testing and converting its computer systems and
applications in order to identify and solve significant Year 2000 issues. In
addition, the Company is discussing with its vendors the possibility of any
communication difficulties or other disruptions that may affect the Company.

F-77
<PAGE>

Report of Independent Auditors

Board of Directors
American Transitional Hospitals, Inc.

We have audited the accompanying consolidated balance sheet of American
Transitional Hospitals, Inc. (the "Company"), a wholly-owned subsidiary of
Beverly Enterprises, Inc., as of June 29, 1998, and the related consolidated
statements of operations, changes in equity of Parent, and cash flows for the
period from January 1, 1998 to June 29, 1998. These financial statements are
the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audit.

We conducted our audit in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of American
Transitional Hospitals, Inc. at June 29, 1998, and the consolidated results of
their operations and their cash flows for the period from January 1, 1998 to
June 29, 1998 in conformity with accounting principles generally accepted in
the United States.

November 18, 1998
Nashville, Tennessee

/s/ Ernst & Young LLP

F-78
<PAGE>

American Transitional Hospitals, Inc.

Consolidated Balance Sheet

June 29, 1998
(In Thousands)

<TABLE>
<S> <C>
Assets
Current assets:
Cash and cash equivalents............................................ $ 677
Accounts receivable--less allowance for doubtful accounts of
$11,937............................................................. 19,670
Due from Parent's affiliate.......................................... 4,002
Inventories.......................................................... 1,447
Prepaid expenses and other........................................... 141
-------
25,937
Property and equipment, net............................................ 20,162
Pre-opening costs...................................................... 3,366
Other assets, net...................................................... 540
-------
$50,005
=======
Liabilities and equity of Parent
Current liabilities:
Accounts payable..................................................... $ 9,547
Accrued wages and related liabilities................................ 5,101
Other accrued liabilities............................................ 227
Current portion of long-term obligations............................. 247
-------
15,122
Long-term obligations.................................................. 2,110
Equity of Parent....................................................... 32,773
-------
$50,005
=======
</TABLE>

See accompanying notes.

F-79
<PAGE>

American Transitional Hospitals, Inc.

Consolidated Statement of Operations

Period from January 1, 1998 to June 29, 1998
(In Thousands)

<TABLE>
<S> <C>
Net operating revenues................................................ $53,341
Operating and administrative expenses:
Wages and related................................................... 30,026
Other............................................................... 25,190
Depreciation and amortization......................................... 1,577
Management fees....................................................... 835
Interest.............................................................. 91
-------
57,719
Loss before provision for income taxes................................ (4,378)
-------
Provision for income taxes............................................ --
-------
Net loss.............................................................. $(4,378)
=======
</TABLE>

See accompanying notes.

F-80
<PAGE>

American Transitional Hospitals, Inc.

Consolidated Statement of Changes in Equity of Parent

Period from January 1, 1998 to June 29, 1998
(In Thousands)

<TABLE>
<S> <C>
Balance at January 1, 1998............................................. $31,427
Cash management activity--net........................................ 2,666
Allocation of Parent costs........................................... 3,058
Net loss............................................................. (4,378)
-------
Balance at June 29, 1998............................................... $32,773
=======
</TABLE>

See accompanying notes.

F-81
<PAGE>

American Transitional Hospitals, Inc.

Consolidated Statement of Cash Flows

Period from January 1, 1998 to June 29, 1998
(In Thousands)

<TABLE>
<S> <C>
Cash flows from operating activities
Net loss............................................................. $(4,378)
Adjustments to reconcile net income to net cash used in operating
activities:
Depreciation and amortization...................................... 1,577
Changes in operating assets and liabilities:
Accounts receivable, net.......................................... (7,423)
Inventories....................................................... (214)
Prepaid expenses and other current assets......................... (5)
Accounts payable and other accrued expenses....................... 7,875
-------
Net cash used in operating activities................................ (2,568)
Cash flows from investing activities
Capital expenditures................................................. (3,462)
Other, net........................................................... (1,239)
-------
Net cash used in investing activities................................ (4,701)
Cash flows from financing activities
Payments on long-term obligations.................................... (130)
Net transfers from Parent............................................ 5,724
-------
Net cash provided by financing activities............................ 5,594
-------
Decrease in cash and cash equivalents................................ (1,675)
Cash and cash equivalents at beginning of period..................... 2,352
-------
Cash and cash equivalents at end of period........................... $ 677
=======
Supplemental information
Interest payments.................................................. $ 96
=======
</TABLE>

See accompanying notes.

F-82
<PAGE>

American Transitional Hospitals, Inc.

Notes to Consolidated Financial Statements

Period from January 1, 1998 to June 29, 1998

1. Summary of Significant Accounting Policies

Basis of Presentation

The consolidated financial statements include the accounts of those
entities comprising American Transitional Hospitals, Inc. (the Company) at June
29, 1998. All significant intercompany transactions have been eliminated. The
Company is a wholly-owned subsidiary of Beverly Enterprises, Inc. (Beverly or
Parent). Beverly provides long-term healthcare in 31 states and the District of
Columbia.

As more fully described in Note 9, the Company was acquired on June 30,
1998 by Select Medical Corporation.

The Company provides long-term acute care to chronically ill patients.
The Company receives payment for patient services from the federal government
primarily under the Medicare program, health maintenance organizations,
preferred provider organizations and other private insurers and directly from
patients.

Use of Estimates

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.

Cash Equivalents

Highly liquid investments with original maturities of three months or
less when purchased are considered to be cash equivalents.

Inventories

Inventory consists principally of pharmaceuticals and other supplies and
are stated at the lower of cost (first-in, first-out) or market.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation.
Depreciation is computed by the straight-line method over the estimated useful
lives of the assets.

Pre-opening Costs

Pre-opening costs (stated at cost less accumulated amortization of
$2,133,000) is being amortized over 5 years using the straight-line method. On
an ongoing basis, the Company reviews the carrying value of its intangible
assets in light of any events or circumstances that indicate they may be
impaired or that the amortization period may need to be adjusted. If such
circumstances suggest the intangible value cannot be recovered, calculated
based on undiscounted cash flows over the remaining amortization period, the
carrying value of the intangible will be reduced by such shortfall.

F-83
<PAGE>

American Transitional Hospitals, Inc.

Notes to Consolidated Financial Statements--(Continued)

1. Summary of Significant Accounting Policies (continued)

In April 1998, the Accounting Standards Executive Committee of the
American Institute of Certified Public Accountants issued Statement of Position
98-5, "Reporting on the Costs of Start-Up Activities," (SOP 98-5) which is
required to be adopted in financial statements for periods beginning after
December 15, 1998. SOP 98-5 requires costs of start-up activities and
organization costs to be expensed as incurred. Initial application of SOP 98-5
will require the Company to report all previously capitalized pre-opening costs
as a cumulative effect of a change in accounting principle. Upon adoption the
Company will be required to write-off all unamortized pre-opening costs.

Insurance

Beverly insures auto liability, general liability and workers'
compensation risks, in most states, through insurance policies with third
parties, some of which may be subject to reinsurance agreements between the
insurer and Beverly Indemnity, Ltd., a wholly-owned subsidiary of Beverly.
Beverly maintains reserves for estimated incurred losses not covered by third
parties and charges premiums to the Company. Accordingly, no reserve for
liability risks is recorded on the accompanying consolidated balance sheet.

Income Taxes

The Company files as part of the consolidated federal tax return of
Beverly. The Company accounts for income taxes under the liability method.
Under this method, deferred tax assets and liabilities are determined based
upon differences between financial reporting and tax basis of assets and
liabilities and are measured using the enacted tax laws that will be in effect
when the differences are expected to reverse.

Revenues

The Company's revenues are derived primarily from providing long-term
healthcare services. Approximately 67% of the Company's net operating revenues
for the period from January 1, 1998 to June 29, 1998 were derived from funds
under federal medical assistance programs, and approximately 43% of the
Company's net accounts receivable at June 29, 1998 are due from such programs.
These revenues and receivables are reported at their estimated net realizable
amounts and are subject to audit and retroactive adjustment. Provisions for
estimated third-party payor settlements are provided in the period the related
services are rendered and are adjusted in the period of settlement. In the
opinion of management, adequate provision has been made for any adjustments
that may result from such audits.

Equity of Parent and Transactions with Parent

Equity of parent represents the net investment in and advances to the
Company by Beverly. It includes common stock, additional paid-in-capital, net
earnings(loss) and net intercompany accounts with Beverly. There are no
settlement terms or interest charges associated with intercompany account
balances. Generally, this balance is increased by cash transfers from Beverly,
management fees (allocated based on a percentage of revenues), certain direct
expenses paid by Beverly such as payroll and net earnings. The balance is
decreased by daily cash deposits to Beverly's bank accounts.

During the period from January 1, 1998 to June 29, 1998, the Company
provided services to certain nursing homes affiliated with Beverly. The net
revenue recognized for these services was $4,618,000.

F-84
<PAGE>

American Transitional Hospitals, Inc.

Notes to Consolidated Financial Statements--(Continued)

1. Summary of Significant Accounting Policies (continued)

Concentration of Credit Risk

The Company has significant accounts receivable whose collectibility or
realizability is dependent upon the performance of certain governmental
programs, primarily Medicare. These receivables represent the only
concentration of credit risk for the Company. The Company does not believe
there are significant credit risks associated with these governmental programs.
The Company believes that an adequate provision has been made for the
possibility of these receivables proving uncollectible and continually monitors
and adjusts these allowances as necessary.

2. Property and Equipment

Following is a summary of property and equipment and related accumulated
depreciation, by major classification, at June 29, 1998 (in thousands):

<TABLE>
<S> <C>
Land............................................................ $ 1,204
Buildings and improvements...................................... 12,052
Furniture and equipment......................................... 11,670
Construction in progress........................................ 1,463
-------
26,389
Less accumulated depreciation................................... (6,227)
-------
$20,162
=======
</TABLE>

The Company provides depreciation using the straight-line method over the
following estimated useful lives:

<TABLE>
<CAPTION>
Estimated
Lives
-----------
<S> <C>
Land improvements............................................ 10 years
Buildings.................................................... 35 years
Building improvements........................................ 3--15 years
Furniture and equipment...................................... 3--15 years
</TABLE>

Depreciation expense related to property and equipment for the period
from January 1, 1998 to June 29, 1998 was $1,104,000.

3. Long-Term Obligations

Long-term obligations consist of the following at June 29, 1998 (in
thousands):

<TABLE>
<S> <C>
7.75% Secured Promissory Note, $106 payable quarterly............ $2,346
Other............................................................ 11
------
2,357
Less amounts due within one year................................. (247)
------
$2,110
======
</TABLE>

F-85
<PAGE>

American Transitional Hospitals, Inc.

Notes to Consolidated Financial Statements--(Continued)

3. Long-Term Obligations (continued)

In connection with the purchase of one of the Company's facilities in
September 1994, the Company entered into a $2,941,000 promissory note. The
note bears interest at a fixed rate of 7.75% over 11 years and is secured by
the property and equipment purchased. These assets had a carrying value of
$7,463,000 at June 29, 1998.

The Company, along with certain other Beverly affiliates, guarantees
various long-term obligations of Beverly. In the event Beverly is unable to
make repayments, the guarantors are obligated for the borrowings. At June 29,
1998 there is $195 million outstanding under these obligations. The Company's
guarantee of these obligations was released effective June 30, 1998 in
connection with the acquisition of the Company by Select Medical Corporation
(Select).

Maturities of long-term obligations are as follows (in thousands): $247
in 1999, $280 in 2000, $303 in 2001, $327 in 2002, $353 in 2003 and $600
thereafter.

4. Operating Leases

Future minimum rental commitments required by all noncancelable operating
leases with initial or remaining terms in excess of one year as of June 29,
1998, are as follows (in thousands):

<TABLE>
<S> <C>
1999............................................................ $ 5,965
2000............................................................ 3,748
2001............................................................ 2,517
2002............................................................ 2,093
2003............................................................ 233
Thereafter...................................................... --
-------
Total minimum rental commitments................................ $14,556
=======
</TABLE>

Rental expense for the period from January 1, 1998 to June 29, 1998 was
approximately $3,070,000.

F-86
<PAGE>

American Transitional Hospitals, Inc.

Notes to Consolidated Financial Statements--(Continued)

5. Income Taxes

Deferred income taxes reflect the impact of temporary differences between
the carrying amounts of assets and liabilities for financial reporting purposes
and the amounts used for income tax purposes. The tax effects of temporary
differences giving rise to the Company's deferred tax assets and liabilities at
June 29, 1998 are as follows (in thousands):

<TABLE>
<S> <C>
Deferred Compensation............................................ $ 5
Capital leases................................................... (151)
Developmental costs.............................................. (792)
Bad debt expenses................................................ 5,364
Depreciation and amortization.................................... (743)
Operating supplies............................................... (322)
Prepaid expenses................................................. (4)
Net operating loss carryforwards................................. 5,935
------
Net deferred tax asset........................................... 9,292
Valuation allowance.............................................. (9,292)
------
Net deferred tax asset........................................... $ --
======
</TABLE>

As of June 29, 1998, the Company had federal and state net operating loss
carryforwards of $14,148,000 which expire between 2001 and 2018. The use of any
federal net operating loss carryforwards will be limited by Internal Revenue
Code Section 382.

The Company had an annual effective tax rate of 0% for the period from
January 1, 1998 to June 29, 1998. A reconciliation of the provision for income
taxes, computed at the statutory rate, to the Company's annual effective tax
rate is summarized as follows (in thousands):

<TABLE>
<S> <C>
Federal tax.................................................... $(1,532)
State income taxes (net of federal)............................ (217)
Net operating loss utilized by parent.......................... --
Other.......................................................... 13
Change in valuation allowance.................................. 1,736
-------
$--
=======
</TABLE>

6. Retirement Plans

The Company participates in Beverly's defined contribution retirement
plans, which cover substantially all employees. Benefits are determined
primarily as a percentage of a participant's earned income. In addition,
Beverly may make profit sharing contributions on behalf of certain employees.
Retirement expense for the period from January 1, 1998 to June 29, 1998 was
approximately $48,000.

7. Commitments and Contingencies

In May 1998, the Parent was served with a subpoena which was issued by
the Office of the Inspector General (OIG) in Texas in a qui tam case, which is
under seal. The purpose of the subpoena was to allow the government to perform
an investigation prior to making a decision as to whether it will intervene as
a plaintiff

F-87
<PAGE>

American Transitional Hospitals, Inc.

Notes to Consolidated Financial Statements--(Continued)

7. Commitments and Contingencies (continued)

in the case. The Parent has shared information voluntarily and cooperated with
the OIG in its investigation. In addition, the Parent has been notified that a
federal grand jury in San Francisco is currently investigating practices which
are the subject of the above civil investigation. To date, five current
employees of the Parent have appeared as witnesses before the grand jury. While
it is not possible to predict the outcome of this investigation, a
determination that the Parent has violated these regulations could have a
material adverse effect on the Parent's and Company's business or operating
results. If the outcome were unfavorable, the Parent and Company could be
subject to fines, penalties and damages and also could be excluded from
Medicare and other government reimbursement programs which could have a
material adverse effect on the Parent's and Company's financial condition or
results of operations.

The Company currently has capital projects underway at various
facilities. Total estimated expenditures for these capital projects are
$2,489,000. Funds expended to date for the projects total approximately
$1,358,000.

8. Impact of Year 2000 (Unaudited)

As with most other industries, hospitals use information systems that may
misidentify dates beginning January 1, 2000 and result in system or equipment
failures or miscalculations. Information systems include computer programs,
building infrastructure components and computer-aided biomedical equipment. The
Company has a Year 2000 strategy that includes phases for education, inventory
and assessment of applications and equipment at risk, analysis and planning,
testing, conversion/remediation/replacement and post-implementation. The
Company can provide no assurance that applications and equipment the Company
believes to be Year 2000 compliant will not experience difficulties or that the
Company will not experience difficulties obtaining resources needed to make
modifications to or replace the Company affected systems and equipment. Failure
by the Company or third parties on which it relies to resolve Year 2000 issues
could have a material adverse effect on the Company's results of operations and
its ability to provide health care services. Consequently, the Company can give
no assurances that issues related to Year 2000 will not have a material adverse
effect on the Company's financial condition or results of operations.

9. Subsequent Event

Effective June 30, 1998, Select purchased the Company for cash of
approximately $65,300,000 and assumed debt of approximately $2,400,000. In
connection with this transaction, Beverly has indemnified Select for previously
filed cost reports and any pending litigation or legal proceedings.

F-88
<PAGE>

[Inside back cover: Various photographs depicting some of Select
Medical Corporation's specialty acute care hospitals and patients
receiving therapy.]

<PAGE>

--------------------------------------------------------------------------------
--------------------------------------------------------------------------------

Through and including , 2001 (the 25th day after the date of this
prospectus), all dealers effecting transactions in these securities, whether or
not participating in this offering, may be required to deliver a prospectus.
This is in addition to the dealers' obligation to deliver a prospectus when
acting as underwriters and with respect to the unsold allotments or
subscriptions.

[LOGO OF SELECT MEDICAL CORPORATION]

Common Stock

--------------
PROSPECTUS
--------------

Merrill Lynch & Co.

Chase H&Q

J.P. Morgan & Co.

CIBC World Markets

SG Cowen

First Union Securities, Inc.

, 2000

--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<PAGE>

Subject to Completion
Preliminary Prospectus dated October 27, 2000

PROSPECTUS

[LOGO OF SELECT MEDICAL CORPORATION]
Common Stock

-----------

This is Select Medical Corporation's initial public offering. Select
Medical Corporation is selling all of the shares. The international managers
are offering shares outside of the U.S. and Canada and the U.S. underwriters
are offering shares in the U.S. and Canada.

We expect the public offering price to be between $ and $ per share.
Currently, no public market exists for the shares. After pricing of the
offering, we expect the shares will trade on the Nasdaq National Market under
the symbol "SLMC."

Investing in our common stock involves risks which are described in the
"Risk Factors" section beginning on page 8 of this prospectus.

-----------

<TABLE>
<CAPTION>
Per Share Total
--------- -----
<S> <C> <C>
Public offering price................................. $ $
Underwriting discount................................. $ $
Proceeds, before expenses, to Select Medical
Corporation.......................................... $ $
</TABLE>

The international mangers may also purchase up to an additional shares
from us at the public offering price, less the underwriting discount, within 30
days from the date of this prospectus to cover over-allotments. The U.S.
underwriters may similarly purchase up to an additional shares from us.

The shares will be ready for delivery on or about , 2000.

-----------
Merrill Lynch International_____________Chase H&_______________J.P.QMorgan & Co.

CIBC World Markets SG Cowen First Union Securities, Inc.
-----------

The date of this prospectus is , 2000.
<PAGE>

UNDERWRITING

We intend to offer the shares outside the U.S. and Canada through the
international managers and in the U.S. and Canada through the U.S.
Underwriters. Merrill Lynch International, Chase Manhattan International
Limited, J.P. Morgan Securities Ltd., CIBC World Markets Corp., SG Cowen
Securities Corporation and First Union Securities, Inc. are acting as lead
managers for the international managers named below. Subject to the terms and
conditions described in an international purchase agreement between us and the
international managers, and concurrently with the sale of shares to the
U.S. underwriters, we have agreed to sell to the international managers, and
the international managers severally have agreed to purchase from us, the
number of shares listed opposite their names below.

<TABLE>
<CAPTION>
Number
of
International Managers Shares
---------------------- ------
<S> <C>
Merrill Lynch International...........................................
Chase Manhattan International Limited.................................
J.P. Morgan Securities Ltd. ..........................................
CIBC World Markets Corp. .............................................
SG Cowen Securities Corporation.......................................
First Union Securities, Inc. .........................................
-----
Total............................................................
=====
</TABLE>

We have also entered into a U.S. purchase agreement with the U.S.
underwriters for sale of the shares in the U.S. and Canada for whom Merrill
Lynch, Pierce, Fenner & Smith Incorporated, Chase Securities Inc., J.P. Morgan
Securities Inc., CIBC World Markets Corp., SG Cowen Securities Corporation and
First Union Securities, Inc. are acting as U.S. representatives. Subject to the
terms and conditions in the U.S. purchase agreement, and concurrently with the
sale of shares to the international managers pursuant to the international
agreement, we have agreed to sell to the U.S. underwriters, and the U.S.
underwriters severally have agreed to purchase shares from us. The initial
public offering price per share and the total underwriting discount per share
are identical under the international purchase agreement and the U.S. purchase
agreement.

The international managers and the U.S. underwriters and have agreed to
purchase all of the shares sold under the international and U.S. purchase
agreements if any of these shares are purchased. If an underwriter defaults,
the international and U.S. purchase agreements provide that the purchase
commitments of the nondefaulting underwriters may be increased or the purchase
agreements may be terminated. The closings for the sale of shares to be
purchased by the international managers and the U.S. underwriters are
conditioned on one another.

We have agreed to indemnify the international managers and the U.S.
underwriters against certain liabilities, including liabilities under the
Securities Act, or to contribute to payments the international managers and the
U.S. underwriters may be required to make in respect of those liabilities.

Commissions and Discounts

The lead managers have advised us that the international managers propose
initially to offer the shares to the public at the initial public offering
price on the cover page of this prospectus and to dealers at that price

ALT-1
<PAGE>

less a concession not in excess of $ per share. The international managers
may allow, and the dealers may reallow, a discount not in excess of $ per
share to other dealers. After the initial public offering, the public offering
price, concession and discount may be changed.

The following table shows the public offering price, underwriting
discount and proceeds before our expenses. The information assumes either no
exercise or full exercise by the international managers and the U.S.
underwriters of their over-allotment options.

<TABLE>
<CAPTION>
Without
Per Share Option With Option
--------- ------- -----------
<S> <C> <C> <C>
Public offering Price... $ $ $
Underwriting Discount... $ $ $
Proceeds before expenses
to Select Medical...... $ $ $
</TABLE>

The expenses of the offering, not including the underwriting discount,
are estimated at $1.5 million and are payable by us.

Over-Allotment Option

We have granted options to the international managers to purchase up to
additional shares at the public offering price less the underwriting
discount. The international managers may exercise these options for 30 days
from the date of this prospectus solely to cover any overallotments. If the
international managers exercise these options, each will be obligated, subject
to conditions contained in the purchase agreements, to purchase a number of
additional shares proportionate to that international manager's initial amount
reflected in the above table.

We have also granted options to the U.S. underwriters, exercisable for 30
days from the date of this prospectus, to purchase up to additional shares
to cover any over-allotments on terms similar to those granted to the
international managers.

Intersyndicate Agreement

The international managers and the U.S. underwriters have entered into an
intersyndicate agreement that provides for the coordination of their
activities. Under the intersyndicate agreement, the international managers and
the U.S. underwriters may sell shares to each other for purposes of resale at
the initial public offering price, less an amount not greater than the selling
concession. Under the intersyndicate agreement, the international managers and
any dealer to whom they sell shares will not offer to sell or sell shares to
persons who are U.S. or Canadian persons or to persons they believe intend to
resell to persons who are U.S. or Canadian persons, except in the case of
transactions under the intersyndicate agreement. Similarly, the U.S.
underwriters and any dealer to whom they sell shares will not offer to sell or
sell shares to non-U.S. persons or non-Canadian persons or to persons they
believe intend to resell to non-U.S. or non-Canadian persons, except in the
case of transactions under the intersyndicate agreement.

Reserved Shares

ALT-2
<PAGE>

No Sales of Similar Securities

. offer, pledge, sell or contract to sell any common stock;

. sell any option or contract to purchase any common stock;

. purchase any option or contract to sell any common stock;

. grant any option, right or warrant for the sale of any common stock;

. lend or otherwise dispose of or transfer any common stock;

. request or demand that we file a registration statement related to
the common stock; or

Nasdaq National Market Listing

We expect the shares to be approved for quotation on the Nasdaq National
Market, subject to notice of issuance, under the symbol "SLMC."

Before the offering, there has been no public market for our common
stock. The initial public offering price was determined through negotiations
among us and the U.S. representatives and lead managers. In addition to
prevailing market conditions, the factors to be considered in determining the
initial public offering price are

. the valuation multiples of publicly traded companies that the U.S.
representatives and the lead managers believe to be comparable to us;

. our financial information;

. the history of, and the prospects for, us and the industry in which
we compete;

. an assessment of our management, its past and present operations, and
the prospects for, and timing of, our future revenues;

. the present state of our development; and

. the above factors in relation to market values and various valuation
measures of other companies engaged in activities similar to ours.

An active trading market for the shares may not develop. It is also
possible that after the offering the shares will not trade in the public market
at or above the initial public offering price.

The underwriters do not expect to sell more than 5% of the shares in the
aggregate to accounts over which they exercise discretionary authority.

ALT-3
<PAGE>

Price Stabilization, Short Positions and Penalty Bids

Until the distribution of the common shares is completed, SEC rules may
limit the underwriters from bidding for or purchasing our common shares.
However, the representatives may engage in transactions that stabilize the
price of the common shares, such as bids or purchases that peg, fix or maintain
that price.

The underwriters may purchase and sell the common shares in the open
market. These transactions may include short sales, stabilizing transactions
and purchases to cover positions created by short sales. Short sales involve
the sale by the underwriters of a greater number of shares than they are
required to purchase in the offering. "Covered" short sales are sales made in
an amount not greater than the underwriters' option to purchase additional
shares from the issuer in the offering. The underwriters may close out any
covered short position by either exercising their option to purchase additional
shares or purchasing shares in the open market. In determining the source of
shares to close out the covered short position, the underwriters will consider,
among other things, the price of shares available for purchase in the open
market as compared to the price at which they may purchase shares through the
over-allotment option. "Naked" short sales are any sales in excess of such
option. The underwriters must close out any naked short position by purchasing
shares in the open market. A naked short position is more likely to be created
if the underwriters are concerned that there may be downward pressure on the
price of the common stock in the open market after pricing that could adversely
affect investors who purchase in the offering. Stabilizing transactions consist
of various bids for or purchases of common stock made by the underwriters in
the open market prior to the completion of the offering.

Similar to other purchase transactions, the underwriters' purchases to
cover the syndicate short sales may have the effect of raising or maintaining
the market price of the common stock or preventing or retarding a decline in
the market price of the common stock. As a result, the price of the common
shares may be higher than the price that might otherwise exist in the open
market.

UK Selling Restrictions

Each international manager has agreed that

. it has not offered or sold and will not offer or sell any shares of
common stock to persons in the United Kingdom, except to persons
whose ordinary activities involve them in acquiring, holding,
managing, or disposing of investments (as principal or agent) for the
purposes of their businesses or otherwise in circumstances which do
not constitute an offer to the public in the United Kingdom with the
meaning of the Public Offers of Securities Regulations 1995;

. it has complied and will comply with all applicable provisions of the
Financial Services Act 1986 with respect to anything done by it in
relation to the common stock in, from, or otherwise involving the
United Kingdom; and

ALT-4
<PAGE>

. it has only issued or passed on and will only issue or pass on in the
United Kingdom any document received by it in connection with the
issuance of common stock to a person who is of a kind described in
Article 11(3) of the Financial Services Act 1986 (Investment
Advertisements)(Exemptions) Order 1996 as amended by the Financial
Services Act of 1986 (Investment Advertisements)(Exemptions) Order
1997 or is a person to whom such document may otherwise lawfully be
issued or passed on.

No Public Offering Outside The United States

No action has been or will be taken in any jurisdiction (except in the
United States) that would permit a public offering of the shares of common
stock, or the possession, circulation, or distribution of this prospectus or
any other material relating to our company, or shares of our common stock in
any jurisdiction where action for that purpose is required. Accordingly, the
shares of our common stock may not be offered or sold, directly or indirectly,
and neither this prospectus nor any other offering materials or advertisements
in connection with the shares of common stock may be distributed or published,
in or from any country or jurisdiction except in compliance with any applicable
rules and regulations or any such country or jurisdiction.

Purchasers or the shares offered by this prospectus may be required to
pay stamp taxes and other charges in accordance with the laws and practices of
the country of purchase in addition to the offering price on the cover page of
this prospectus.

NASD Regulations

It is anticipated that more than ten percent of the proceeds of the
offering will be applied to pay down debt obligations owed to affiliates of
Chase Securities Inc., CIBC World Markets Corp., First Union Securities, Inc.,
J.P. Morgan Securities Inc., Merrill Lynch, Pierce, Fenner & Smith Incorporated
and SG Cowen Securities Corporation. Because more than ten percent of the net
proceeds of the offering may be paid to members or affiliates of members of the
National Association of Securities Dealers, Inc. participating in the offering,
the offering will be conducted in accordance with NASD Conduct Rule 2710(c)(8).
This rule requires that the public offering price of an equity security be no
higher than the price recommended by a qualified independent underwriter which
has participated in the preparation of the registration statement and performed
its usual standard of due diligence with respect to that registration
statement. has agreed to act as qualified independent
underwriter for the offering. The price of the shares will be no higher than
that recommended by .

Other Relationships

Some of the underwriters and their affiliates have engaged in, and may in
the future engage in, investment banking and other commercial dealings in the
ordinary course of business with us. They have received customary fees and
commissions for these transactions. In particular, an affiliate of Chase
Securities Inc. acts as administrative agent, and affiliates of Chase
Securities Inc., CIBC World Markets Corp., First Union Securities, Inc., J.P.
Morgan Securities Inc., Merrill Lynch, Pierce Fenner & Smith Incorporated and
SG Cowen Securities Corporation are lenders under our credit facility. We will
use a portion of the proceeds from this offering to repay amounts outstanding
under this credit facility.

Internet Delivery of Prospectus

Merrill Lynch will be facilitating Internet distribution for this
offering to certain of its internet subscription customers. Merrill Lynch
intends to allocate a limited number of shares for sale to its online brokerage
customers. An electronic prospectus is available on the website maintained by
Merrill Lynch. Other than the prospectus in electronic format, the information
on the Merrill Lynch website relating to this offering is not a part of this
prospectus.

ALT-5
<PAGE>

--------------------------------------------------------------------------------
--------------------------------------------------------------------------------

Common Stock

--------------
PROSPECTUS
--------------

Merrill Lynch International

Chase H&Q

J.P. Morgan & Co.

CIBC World Markets

SG Cowen

First Union Securities, Inc.

, 2000

--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<PAGE>

PART II

INFORMATION NOT REQUIRED IN PROSPECTUS

Item 13. Other Expenses of Issuance and Distribution

The expenses to be paid by Select Medical Corporation in connection with
the distribution of the securities being registered, other than underwriting
discounts and commissions, are as follows:

<TABLE>
<CAPTION>
Amount (1)
----------
<S> <C>
Securities and Exchange Commission Registration Fee............ $ 52,800
NASD Filing Fee................................................ 20,500
Nasdaq National Market Listing Fee............................. 95,000
Accounting Fees and Expenses................................... 400,000
Blue Sky Fees and Expenses..................................... 10,000
Legal Fees and Expenses........................................ 350,000
Transfer Agent and Registrar Fees and Expenses................. 25,000
Printing and Engraving Expenses................................ 250,000
Miscellaneous Fees and Expenses................................ 296,700
----------
Total...................................................... $1,500,000
==========
</TABLE>
--------
(1) All amounts are estimates except the SEC filing fee, the NASD filing fee
and the Nasdaq National Market listing fee.

Item 14. Indemnification of Directors and Officers

Under Section 145 of the General Corporate Law of the State of Delaware,
Select Medical Corporation has broad powers to indemnify its directors and
officers against liabilities they may incur in such capacities, including
liabilities under the Securities Act of 1933, as amended (the "Securities
Act"). Select Medical Corporation's bylaws (Exhibit 3.2) also provide for
mandatory indemnification of its directors and executive officers, and
permissive indemnification of its employees and agents, to the fullest extent
permissible under Delaware law.

Select Medical Corporation's certificate of incorporation (Exhibit 3.1)
provides that the liability of its directors for monetary damages shall be
eliminated to the fullest extent permissible under Delaware law. Pursuant to
Delaware law, this includes elimination of liability for monetary damages for
breach of the directors' fiduciary duty of care to Select Medical Corporation
and its stockholders. These provisions do not eliminate the directors' duty of
care and, in appropriate circumstances, equitable remedies such as injunctive
or other forms of non-monetary relief will remain available under Delaware law.
In addition, each director will continue to be subject to liability for breach
of the director's duty of loyalty to Select Medical Corporation, for acts or
omissions not in good faith or involving intentional misconduct, for knowing
violations of law, for any transaction from which the director derived an
improper personal benefit, and for payment of dividends or approval of stock
repurchases or redemptions that are unlawful under Delaware law. The provision
also does not affect a director's responsibilities under any other laws, such
as the federal securities laws or state or federal environmental laws.

Select Medical Corporation maintains a policy of directors' and officers'
liability insurance that insures the Company's directors and officers against
the cost of defense, settlement or payment of a judgment under certain
circumstances.

The U.S. and International purchase agreements (Exhibits 1.1 and 1.2)
provide for indemnification by the underwriters of Select Medical Corporation
and its officers and directors for certain liabilities arising under the
Securities Act or otherwise.

II-1
<PAGE>

Item 15. Recent Sales of Unregistered Securities

In the past three years, the Registrant has issued and sold unregistered
securities in the transactions described below.

In January of 1998, the Registrant sold to two employees 215,170.5 shares
of common stock, par value $.01 per share ("Common Stock"), and 15.63 shares of
Class A Preferred Stock for an aggregate purchase price of $ .

On February 9, 1998, the Registrant sold to certain investors and
employees 11,600.01 shares of Class A Preferred Stock for an aggregate purchase
price of $ .

On April 29, 1998, the Registrant sold to certain investors and employees
8,200 shares of Class A Preferred Stock for an aggregate purchase price of
$ .

On June 3, 1998, the Registrant sold to certain investors and employees
13,000.03 shares of Class A Preferred Stock for an aggregate purchase price of
$ .

On June 30, 1998, the Registrant sold to certain investors and employees
3,999.98 shares of Class A Preferred Stock for an aggregate purchase price of
$ .

On July 20, 1998 the Registrant sold to Rocco A. Ortenzio 244,510.50
shares of Common Stock for an aggregate purchase price of $ .

On October 21, 1998 the Registrant sold to certain investors and
employees 10,800.43 shares of Class A Preferred Stock for an aggregate purchase
price of $ .

On November 9, 1998 the Registrant sold to certain employees 379,370
shares of Common Stock for an aggregate purchase price of $ .

On December 15, 1998, in connection with the Intensiva Healthcare
Corporation acquisition, the Registrant issued an aggregate of 21,224,489
shares of its common stock, par value $.01 per share for a price of $ per
share. Of this amount, 8,044,998 shares were purchased by affiliates of Welsh,
Carson, Anderson & Stowe (other than WCAS Capital Partners III, L.P.),
4,260,714 shares were purchased by affiliates of GTCR Golder Rauner, LLC and
4,067,857 shares were purchased by Thoma Cressey Equity Partners. The aggregate
amount issued also included 2,653,060 shares of common stock that were
purchased by WCAS Capital Partners III, L.P. and a 10% Senior Subordinated Note
for an aggregate purchase price of $35 million. WCAS Capital Partners III, L.P.
then purchased an additional $30 million principal amount of Senior
Subordinated Notes from the Registrant for $30 million in cash. These 10%
Senior Subordinated Notes are due December 15, 2008.

On January 31, 1999 the Registrant sold to certain investors and
employees 222,859 shares of Common Stock for an aggregate purchase price of
$ .

On August 20, 1999 the Registrant sold to Martin F. Jackson 74,286 shares
of Common Stock for an aggregate purchase price of $ . The Registrant loaned
Mr. Jackson $120,000 to purchase these shares.

Pursuant to the Warrant Agreement dated June 30, 1998, as amended on
February 9, 1999 and amended and restated on November 19, 1999, the Registrant
has issued warrants to purchase shares of Common Stock to Golder Thoma, Rocco
A. Ortenzio, Robert A. Ortenzio and two affiliates of Welsh Carson. On January
31, 2000 and for each three months thereafter, the Registrant has issued or
will issue additional warrants to each of these parties, for so long as any of
the Registrant's loans are guaranteed or supported by these parties. Under this
agreement to date, the Registrant has issued warrants to purchase
1,254,392.50 common shares. All warrants expire on June 30, 2003 and are
exercisable at $ per share.

II-2
<PAGE>

On November 19, 1999, in connection with the NovaCare acquisition, the
Registrant issued an aggregate of 16,000,000 shares of Class B Preferred Stock
at a price of $ per share. Of this amount, 7,531,424 shares were purchased
by affiliates of Welsh Carson, 1,983,333 shares were purchased by affiliates of
Golder Thoma and 5,950,000 shares were purchased by Thoma Cressey. At the same
time, WCAS Capital Partners III, L.P. purchased 1,667,000 shares of Common
Stock and a 10% Senior Subordinated Note for an aggregate purchase price of $25
million. The Note is due November 19, 2009. However if the Registrant repays
the principal amount and all unpaid and accrued interest in full by November
19, 2001, WCAS Capital Partners III, L.P. will transfer 416,750 Common Shares
to the Registrant.

On February 29, 2000 the Registrant sold to certain employees 242,514
shares of Common Stock for an aggregate purchase price of $ .

On June 20, 2000 the Registrant sold to certain employees 50,000 shares
of Common Stock for an aggregate purchase price of $ .

Employees of the Company have exercised options to purchase 6,100 shares
of our Common Stock under our 1997 Stock Option Plan for an aggregate exercise
price of $ .

The sale and issuance of securities in the transactions described above
were exempt from registration under the Securities Act in reliance on Section
4(2) of the Securities Act or Regulation D promulgated thereunder as
transactions by an issuer not involving a public offering, where the purchasers
were sophisticated investors who represented their intention to acquire
securities for investment only and not with a view to distribution and received
or had access to adequate information about the Registrant.

Appropriate restrictive legends were affixed to the stock certificates
issued in the above transactions. Similar legends were imposed in connection
with any subsequent sales of any such securities. No underwriters were employed
in any of the above transactions.

Item 16. Exhibits and Financial Statement Schedules

(a) Exhibits

<TABLE>
<CAPTION>
Exhibit
Number Document
------- --------
<C> <S>
1.1* Form of U.S. Purchase Agreement.

1.2* Form of International Purchase Agreement.

2.1 Stock Purchase Agreement dated as of May 29, 1998 by and among Select
Medical Corporation, Beverly Enterprises, Inc. and American
Transitional Hospitals, Inc.

2.2 Agreement and Plan of Merger dated as of November 9, 1998 by and among
Select Medical Corporation, Select Medical of Mechanicsburg, Inc. and
Intensiva HealthCare Corporation.

2.3 Stock Purchase Agreement dated as of October 1, 1999 by and among
Select Medical Corporation, NC Resources, Inc. and NovaCare, Inc.

2.4 First Amendment dated as of November 14, 1999 to Stock Purchase
Agreement dated as of October 1, 1999 by and among Select Medical
Corporation, NC Resources, Inc. and NovaCare, Inc.

3.1* Restated Certificate of Incorporation.

3.2* Amended and Restated Bylaws.

4.1 10% Senior Subordinated Note due December 15, 2008, dated as of
December 15, 1998.

4.2 10% Senior Subordinated Note due December 15, 2008, dated as of
February 9, 1999.
</TABLE>

II-3
<PAGE>

<TABLE>
<CAPTION>
Exhibit
Number Document
------- --------
<C> <S>
5.1* Opinion of Dechert as to the legality of the shares of Common Stock
being registered.

10.1 Registration Agreement dated as of February 5, 1997 by and among
Select Medical Corporation; Golder, Thoma, Cressey, Rauner Fund V,
L.P.; Welsh, Carson, Anderson & Stowe VII, L.P., Rocco A. Ortenzio and
Robert A. Ortenzio.

10.2 Amendment No. 1 dated as of December 15, 1998 to Registration
Agreement dated as of February 5, 1997 by and among Select Medical
Corporation; Golder, Thoma, Cressey, Rauner Fund V, L.P.; Welsh,
Carson, Anderson & Stowe VII, L.P., Rocco A. Ortenzio and Robert A.
Ortenzio.

10.3 Amendment No. 2 dated as of November 19, 1999 to Registration
Agreement dated as of February 5, 1997 by and among Select Medical;
Golder, Thoma, Cressey, Rauner Fund V, L.P.; Welsh, Carson, Anderson &
Stowe VII, L.P., Rocco A. Ortenzio and Robert A. Ortenzio.

10.4 Credit Agreement dated as of September 22, 2000 among Select Medical
Corporation, Canadian Back Institute Limited, The Chase Manhattan
Bank, The Chase Manhattan Bank of Canada, Banc of America Securities,
LLC and CIBC, Inc.

10.5 Securities Purchase Agreement dated as of December 15, 1998 by and
among Select Medical Corporation; Welsh, Carson, Anderson & Stowe VII,
L.P.; WCAS Capital Partners III, L.P.; GTCR Fund VI, L.P., Golder,
Thoma, Cressey, Rauner Fund V, L.P.; GTCR Associates V, Thoma Cressey
Fund VI, L.P.; GTCR Associates VI; and GTCR VI Executive Fund, L.P.

10.6 Securities Purchase Agreement dated as of November 19, 1999 by and
among Select Medical Corporation; Welsh, Carson, Anderson & Stowe VII,
L.P.; WCAS Capital Partners III, L.P.; Thoma Cressey Fund VI, L.P.;
and GTCR Fund VI, L.P.

10.7 Professional Services Agreement dated as of November 19, 1999 by and
among Select Medical Corporation; Golder, Thoma, Cressey, Rauner,
Inc.; Thoma Cressey Equity Partners, Inc.; and WCA Management
Corporation.

10.8 Employment Agreement dated as of December 16, 1998 between Select
Medical Corporation and David W. Cross.

10.9 Other Senior Management Agreement dated as of June 2, 1997 between
Select Medical Corporation and Frank Fritsch.

10.10 Change of Control Agreement dated as of March 1, 2000 between Select
Medical Corporation and S. Frank Fritsch.

10.11 Change of Control Agreement dated as of March 1, 2000 between Select
Medical Corporation and Martin F. Jackson.

10.12 Employment Agreement dated as of December 21, 1999 between
RehabClinics, Inc. and Edward R. Miersch.

10.13 Change of Control Agreement dated as of March 1, 2000 between Select
Medical Corporation and Edward R. Miersch.

10.14 Employment Agreement dated as of March 1, 2000 between Select Medical
Corporation and Robert A. Ortenzio.

10.15 Amendment dated as of August 8, 2000 to Employment Agreement dated as
of March 1, 2000 between Select Medical Corporation and Robert A.
Ortenzio.

10.16 Employment Agreement dated as of March 1, 2000 between Select Medical
Corporation and Rocco A. Ortenzio.

10.17 Amendment dated as of August 8, 2000 to Employment Agreement dated as
of March 1, 2000 between Select Medical Corporation and Rocco A.
Ortenzio.

10.18 Split Dollar Agreement dated as of October 6, 2000 between Select
Medical Corporation, Michael E. Salerno and Rocco A. Ortenzio.
</TABLE>

II-4
<PAGE>

<TABLE>
<CAPTION>
Exhibit
Number Document
------- --------
<C> <S>
10.19 Employment Agreement dated as of March 1, 2000 between Select Medical
Corporation and Patricia A. Rice.

10.20 Amendment dated as of August 8, 2000 to Employment Agreement dated as
of March 1, 2000 between Select Medical Corporation and Patricia A.
Rice.

10.21 Other Senior Management Agreement dated as of March 28, 1997 between
Select Medical Corporation and Michael E. Tarvin.

10.22 Change of Control Agreement dated as of March 1, 2000 between Select
Medical Corporation and Michael E. Tarvin.

10.23 Employment Agreement dated as of May 22, 2000 between Select Medical
Corporation and LeRoy S. Zimmerman.

10.24 Office Lease Agreement dated as of May 18, 1999 between Select Medical
Corporation and Old Gettysburg Associates I.

10.25 First Addendum dated June 1999 to Office Lease Agreement dated as of
May 18, 1999 between Select Medical Corporation and Old Gettysburg
Associates I.

10.26 Second Addendum dated as of February 1, 2000 to Office Lease Agreement
dated as of May 18, 1999 between Select Medical Corporation and Old
Gettysburg Associates I.

10.27 Office Lease Agreement dated as of June 17, 1999 between Select
Medical Corporation and Old Gettysburg Associates III.

10.28 Equipment Lease Agreement dated as of April 1, 1997 between Select
Medical Corporation and Select Capital Corporation.

10.29 First Amendment dated as of December 8, 1997 to Equipment Lease
Agreement dated as of April 1, 1997 between Select Medical Corporation
and Select Capital Corporation.

10.30 Second Amendment dated as of January 28, 2000 to Equipment Lease
Agreement dated as of April 1, 1997 between Select Medical Corporation
and Select Capital Corporation.

10.31* Amended and Restated 1997 Stock Option Plan.

10.32 Second Amended and Restated Warrant Agreement dated as of November 19,
1999 by and among Select Medical Corporation, Welsh, Carson, Anderson
& Stowe, VII, L.P., WCAS Capital Partners III, L.P., Golder, Thoma,
Cressey, Rauner Fund V, L.P., Mr. Rocco A. Ortenzio and Mr. Robert A.
Ortenzio.

10.33 First Amendment dated as of October 15, 2000 to Employment Agreement
dated as of December 16, 1998 between Select Medical Corporation and
David W. Cross

10.34 Amended and Restated Senior Management Agreement dated as of May 7,
1997 between Select Medical Corporation, John Ortenzio, Martin
Ortenzio, Select Investments II, Select Partners, L.P. and Rocco
Ortenzio.

10.35 Amendment No. 1 dated as of January 1, 2000 to Amended and Restated
Senior Management Agreement dated May 7, 1997 between Select Medical
Corporation and Rocco Ortenzio.

10.36* Naming, Promotional and Sponsorship Agreement dated as of October 1,
1997 between NovaCare, Inc. and the Philadelphia Eagles Limited
Partnership, assumed by Select Medical Corporation in a Consent and
Assumption Agreement dated November 19, 1999 by and among NovaCare,
Inc., Select Medical Corporation and the Philadelphia Eagles Limited
Partnership.

21.1 Subsidiaries of Select Medical Corporation.

23.1 Consent of PricewaterhouseCoopers LLP.

23.2 Consent of Ernst & Young LLP.
</TABLE>

II-5
<PAGE>

<TABLE>
<S> <C>
23.3 Consent of KPMG LLP.

23.4* Consent of Dechert, included in Exhibit 5.1.

23.5 Report of Independent Accountants

23.6 Consent of PriceWaterhouseCoopers LLP

24.1 Power of Attorney, included on the signature page hereof.

27.1 Financial Data Schedule.
</TABLE>
--------
* To be filed by amendment.

(b) Financial Statement Schedule

Report of Independent Accountants on
Financial Statement Schedule

To the Board of Directors
of Select Medical Corporation:

Our audits of the consolidated financial statements referred to in our report
dated October 26, 2000 appearing in this Registration Statement on Form S 1 also
included an audit of the financial statement schedule listed in Item 16(b) of
this Form S 1. In our opinion, this financial statement schedule presents
fairly, in all material respects, the information set forth therein when read in
conjunction with the related consolidated financial statements.

/s/ PricewaterhouseCoopers LLP
Harrisburg, Pennsylvania
October 27, 2000

Schedule II-Valuation and Qualifying Accounts

Balance Balance
at Charged to at
Beginning Cost and Acquisi End of
Description of Year Expenses tions (A) Write off Year

Year ended December
31, 1999 allowance for
doubtful accounts $ 15,701 $ 8,858 $ 53,989 $ (9,056) $69,492

Year ended December
31, 1998 allowance for
doubtful accounts $ 773 $ 4,014 $ 16,431 $ (5,517) $15,701

Year ended December
31, 1997 allowance for
doubtful accounts $ - $ 179 $ 722 $ (128) $ 773

(A) Represents opening balance sheet reserves resulting from purchase accounting
entries.

None.

Item 17. Undertakings

(a) The undersigned Registrant hereby undertakes to provide the
underwriters at the closing specified in the purchase agreements, certificates
in such denominations and registered in such names as required by the
underwriters to permit prompt delivery to each purchaser.

(b) Insofar as indemnification for liabilities arising under the
Securities Act may be permitted to directors, officers and controlling persons
of the Registrant pursuant to the foregoing provisions, or otherwise, the
Registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the
Securities Act and is, therefore, unenforceable.

In the event that a claim for indemnification against such liabilities
(other than the payment by the Registrant of expenses incurred or paid by a
director, officer or controlling person of the Registrant in the successful
defense of any action, suit or proceeding) is asserted by such director,
officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the
matter has been settled by controlling precedent, submit to a court of
appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in the Securities Act and will be governed
by the final adjudication of such issue.

(1) For purposes of determining any liability under the Securities
Act, the information omitted from the form of prospectus filed as part
of this Registration Statement in reliance upon Rule 430A and contained
in a form of prospectus filed by the Registrant pursuant to Rule
424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to
be part of this registration statement as of the time it was declared
effective.

(2) For purposes of determining any liability under the Securities
Act, each post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the
securities therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.

II-6
<PAGE>

SIGNATURES

Pursuant to the requirements of the Securities Act of 1933, the
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of
Philadelphia, Commonwealth of Pennsylvania on the 27th day of October, 2000.

Select Medical Corporation

/s/ Robert A. Ortenzio
By: _________________________________
Robert A. Ortenzio
President and Chief Operating
Officer

POWER OF ATTORNEY

KNOW BY ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Rocco A. Ortenzio, Robert A. Ortenzio
and Michael E. Tarvin, and each of them, as his true and lawful attorneys-in-
fact and agents, with full power of substitution and resubstitution, for him
and in his name, place and stead, in any and all capacities, to sign any and
all amendments (including post-effective amendments) to this Registration
Statement and sign any registration statement for the same offering covered by
the Registration Statement that is to be effective upon filing pursuant to Rule
462 promulgated under the Securities Act of 1933, and to file the same, with
all exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and
agents, and each of them, full power and authority to do and perform each and
every act and thing requisite and necessary to be done in connection therewith
and about the premises, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said attorneys-in-
fact and agents, or any of them, or their or his substitute or substitutes, may
lawfully do or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated.

<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----

<S> <C> <C>
/s/ Rocco A. Ortenzio Chairman, Chief Executive October 27, 2000
______________________________________ Officer (principal
Rocco A. Ortenzio executive officer)

/s/ Robert A. Ortenzio Director, Chief Operating October 27, 2000
______________________________________ Officer
Robert A. Ortenzio

/s/ Martin F. Jackson Chief Financial Officer October 27, 2000
______________________________________ (principal financial
Martin F. Jackson officer)

/s/ Scott A. Romberger Controller (principal October 27, 2000
______________________________________ accounting officer)
Scott A. Romberger

/s/ Russell L. Carson Director October 27, 2000
______________________________________
</TABLE> Russell L. Carson

<PAGE>

<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----

<S> <C> <C>
/s/ Bryan C. Cressey Director October 27, 2000
______________________________________
Bryan C. Cressey

/s/ Donald J. Edwards Director October 27, 2000
______________________________________
Donald J. Edwards

/s/ Meyer Feldberg Director October 27, 2000
______________________________________
Meyer Feldberg

/s/ LeRoy S. Zimmerman Director October 27, 2000
______________________________________
LeRoy S. Zimmerman
</TABLE>

II-8