Encompass Health: Capturing Growth in a Fragmented Post-Acute Market

The core investment thesis for Encompass Health is built on two powerful, converging forces: a demographic tsunami and a fragmented, consolidating market. The company is positioned to capture durable growth from both.

The demographic tailwind is undeniable. The U.S. population aged 65 and older is projected to swell from 58 million in 2022 to 82 million by 2050, a 47% increase. This aging cohort drives demand for post-acute care, including inpatient rehabilitation and home health services. The global market for these services is set to follow, expanding from $284.97 billion in 2024 to $522.79 billion by 2032 at a compound annual rate of 7.88%. This isn't just growth; it's a structural shift in healthcare delivery toward home and community-based models.

Encompass Health's scale provides a defensible competitive advantage within this expanding pie. As the nation's largest owner and operator of inpatient rehabilitation hospitals, it commands a critical mass. The company operates 170 inpatient rehabilitation hospitals and serves approximately one in three patients receiving such care in the United States. This footprint creates a powerful network effect, enabling the company to leverage its clinical expertise, negotiate with payors, and deploy capital more efficiently than smaller, regional players.

The bottom line is that Encompass Health is not just riding a trend; it is built to win in it. Its size allows it to invest in technology and workforce development, while its scale provides a durable moat against a fragmented competitive landscape. The event-driven opportunity is to own a leader in a market that is both growing rapidly and becoming more concentrated.

Strategic Focus: The Enhabit Spin-Off and Scalability

The 2022 spin-off of Enhabit Home Health & Hospice was a pivotal strategic move that allowed Encompass Health to sharpen its focus and capital allocation on its core inpatient rehabilitation growth engine. The company's board explicitly stated that separating the two businesses would improve the strategic and operational flexibility of each business and allow each to adopt a capital structure best suited to its needs. By spinning off the home health and hospice operations, Encompass Health shed a lower-growth, capital-intensive segment, freeing up management attention and financial resources to concentrate on its dominant position in inpatient rehab.

This focused strategy is now demonstrating strong scalability. In the second quarter of 2025, the company's core business showed robust operational leverage. Revenue grew 12.0% year-over-year to $1.46 billion, driven by a 7.2% increase in patient discharges and a 4.2% rise in net revenue per discharge. More importantly, this top-line growth translated directly into cash generation. Adjusted free cash flow surged 30.5% to $185.9 million, a clear signal of the model's efficiency and the successful execution of the post-spin strategy.

The bottom line is that the spin-off created a cleaner, more agile platform. With the home health business now an independent entity, Encompass Health can deploy capital more aggressively into its inpatient rehab network-evidenced by recent capacity expansions like the new 60-bed hospital in Florida. The recent financial performance shows this focused capital deployment is working, driving both revenue growth and, crucially, strong cash flow expansion. For an event-driven investor, the catalyst was the spin-off itself; the ongoing performance is the validation of the new, streamlined strategy.

Execution and Financial Strength

The company's operational model is built on a clear cycle of capacity expansion and financial execution. In the second quarter, management demonstrated this by opening a new 60-bed hospital in Fort Myers, Florida, and adding 26 beds to an existing facility. This targeted growth directly addresses patient demand, contributing to a 7.2% increase in total discharges and a 4.7% same-store discharge growth. The financial results followed, with adjusted earnings per share of $1.40 and a 30.5% increase in adjusted free cash flow. This is the engine: adding beds drives patient volume, which boosts revenue and cash generation, funding the next round of expansion.

That cycle has now been validated by a raised full-year outlook. Following the strong Q2 performance, the company increased its full-year adjusted EPS guidance to a range of $5.12 to $5.34, up from the previous $4.85 to $5.10. This upward revision is a direct signal of confidence in the growth trajectory, showing that the capacity additions are translating into bottom-line results faster than anticipated. The raised guidance, coupled with the operational momentum, suggests the company's model is not just working but accelerating.

The market's view on this potential remains cautiously optimistic. Despite the strong execution, analyst consensus holds a "Buy" rating with an average price target implying roughly 34% upside. This gap between current price and the average target suggests the market has not yet fully digested the implications of the raised guidance and the company's demonstrated ability to execute its expansion plan. For an event-driven strategist, this is the setup: the company is executing its playbook with tangible results, and the valuation still appears to lag the improved financial trajectory. The next catalyst will be whether the third-quarter results can meet or exceed this new, higher bar.

Catalysts, Risks, and What to Watch

The bullish thesis for Encompass Health now hinges on execution against its raised guidance and the sustainability of its discharge growth. The key near-term catalyst is the upcoming third-quarter earnings report. Investors will scrutinize whether the company is on track to meet its updated full-year targets, which were increased in August to a range of $5.12 to $5.34 for adjusted earnings per share. More critically, they will look for confirmation that the robust same-store discharge growth of 4.7% seen in the second quarter is holding steady. Any deceleration here would signal that the current momentum is not sustainable and could pressure the full-year outlook.

A primary risk to this setup is the intensifying regulatory and audit environment in the post-acute care space. The hospice industry is already feeling the heat, with the Centers for Medicare & Medicaid Services implementing a new Special Focus Program and auditing activity by Medicare Administrative Contractors unlikely to slow down. While Encompass Health operates in inpatient rehab, the broader trend of tightened oversight creates a headwind. Increased scrutiny could pressure margins through compliance costs or divert management focus from growth initiatives. The company's strong operational execution will be tested against this backdrop of rising regulatory friction.

For an event-driven strategist, the key metric to monitor is the discharge growth trajectory. The 4.7% same-store growth is a powerful indicator of underlying demand and market share gains. Watch for any signs of this figure slowing in the third quarter. Combined with the raised earnings guidance, consistent discharge growth would confirm the thesis that Encompass Health is successfully scaling its capacity and capturing patient volume. A stumble on this front, however, would challenge the narrative of durable, high-quality growth and likely trigger a reassessment of the stock's premium valuation.