Hook / Thesis
Encompass Health is the largest pure-play inpatient rehabilitation hospital platform in a fragmented U.S. market. The company is generating strong free cash flow each quarter, showing operating income consistently north of $240m per quarter in 2025 and raising its quarterly dividend to $0.19 (declaration 10/23/2025). At ~ $108 a share today, implied market capitalization (using diluted shares ~102.3m) is roughly $11.0bn and the stock is trading at about 19x our simple 2025 EPS tally - a multiple that leaves room for upside if management preserves pricing discipline and readmission/quality perceptions stabilize.
We see a disciplined, cash-generative business with structural advantages - scale in a fragmented rehab hospital market, predictable payer flows and a modestly increasing dividend - that merits a tactical long. Near-term legal headlines are noisy, but the fundamentals (revenues, operating income, and operating cash flow) are resilient and should support a recovery to prior trading ranges if catalysts materialize.
What the business does and why investors should care
Encompass Health operates a national network of inpatient rehabilitation hospitals concentrated in the eastern U.S. and Texas, delivering specialized post-acute care. That market is inherently local but benefits from scale - centralized clinical protocols, purchasing leverage and the ability to shift beds or resources regionally. For investors, the attraction is a predictable revenue base tied to post-acute demand, historically stable reimbursement flows, and recurring operating cash flow.
Why the market should care:
- Cash generation: the company has run operating cash flow in the range of $250m-$290m per quarter across 2024-2025 (for example, Q1 2025 operating cash flow continuing was $288.6m; Q2 2025 was $270.2m; Q3 2025 $270.8m), which supports dividends and strategic capital allocation.
- Scale advantage: consolidated assets of $6.87bn and equity of $3.13bn (quarter ended 09/30/2025) support clinical, purchasing and payor relationships that are harder for smaller independents to replicate.
- Recurring revenue: revenues for calendar-year 2025 total roughly $5.93bn (sum of Q1-Q4 2025: Q1 $1.455B, Q2 $1.4577B, Q3 $1.4775B, Q4 actual reported $1.5446B), giving a stable top-line base for margin leverage and cash flow conversion.
Recent financials - the evidence
Use the numbers: revenue and profitability are not flickering lights. Revenues by quarter in 2025 were roughly:
- Q1 (ended 03/31/2025): $1.4554bn
- Q2 (ended 06/30/2025): $1.4577bn
- Q3 (ended 09/30/2025): $1.4775bn
- Q4 (reported 02/05/2026 for FY2025 quarter): $1.5446bn
Operating income has stayed solid: Q1 operating income was $267.0m, Q2 $259.1m and Q3 $243.6m. Net income attributable to parent in Q3 2025 was $126.5m. Importantly, operating cash flow remains robust and consistent quarter-to-quarter: Q1 2025 continued operations produced $288.6m, Q2 $270.2m and Q3 $270.8m.
On the balance sheet (09/30/2025): assets $6.8657bn, liabilities $3.6794bn and equity $3.1319bn. Noncurrent liabilities are meaningful (about $2.9174bn in Q3 2025) and should be monitored for maturity and refinancing exposure, but they coexist with steady cash generation.
Valuation framing
There is no explicit market cap line in the source summary, but using the most recent price (~$107.92 at the time of writing) and diluted share count of ~102.3m (diluted average shares reported in Q3 2025), implied market capitalization is roughly $11.0bn. Aggregating EPS across 2025 quarters (diluted EPS: Q1 1.48, Q2 1.39, Q3 1.24, Q4 1.46 actual) yields about $5.57 of diluted EPS for 2025. That implies a P/E near 19x on 2025 results.
That multiple is reasonable for a cash-generative healthcare asset with dividend support (quarterly dividend recently raised to $0.19). Historical price action shows the stock traded in a mid-$120s range in the prior 12 months; the fiscal 2025 EPS profile rationalizes a return toward that band if growth and margin stability continue.
Catalysts (what could drive the stock higher)
- Quality metrics and readmission data that allay investor concerns - a credible improvement in measured outcomes would reduce regulatory/legal overhang and allow multiple expansion.
- Continued margin stability and cash flow conversion - another quarter of operating cash flow in the $250m-$300m band would reinforce the dividend story and leave room for buybacks or targeted M&A.
- Dividend increases or a modest buyback program - management has increased the quarterly payout to $0.19 (declaration 10/23/2025), signaling capital return optionality.
- Resolution or clarity around the legal/investigation headlines - quicker resolution that avoids material financial penalties would remove a key risk discount.
Trade plan - actionable
Direction: Long
Time horizon: Swing/short position-to-position (several weeks to a few months)
Entry: 104 - 108 (accumulate in the gap between current trading and support; current last trade ~107.92)
Stop: 98 (conservative tactical stop below near-term support and below a cluster of recent lows; this is roughly a 9% stop from entry around 108)
Targets:
- Target 1: 125 - first leg target; re-rate toward historical 12-month highs and modest multiple expansion toward 22x if fundamentals hold
- Target 2: 140 - secondary target for a sustained recovery and multiple re-rating
Position sizing note: treat this as a medium-risk swing: allocate size so that a stop at $98 represents a comfortable portfolio-level dollar risk (e.g., risk no more than 1-2% of portfolio value on this single trade).
Risks and counterarguments
Encompass is not risk-free. Key risks to watch:
- Legal and reputational overhang: multiple law firms and news items around investor investigations and potential patient safety/readmission concerns (items surfaced Sep-Oct 2025) create headline risk that can pressure valuation and patient volumes locally.
- Reimbursement pressure & regulatory risk: changes in Medicare/Medicaid post-acute reimbursement or tighter inspections could compress margins quickly. The company’s payor mix and reliance on government payors mean reimbursement policy matters.
- Labor and cost inflation: benefits and wage expense are the largest cost components - benefits costs and expenses totaled $1.2576bn in Q3 2025. Wage inflation or staffing shortages could compress operating income if not offset by pricing.
- Balance sheet leverage: noncurrent liabilities are material (~$2.9174bn at 09/30/2025). While cash flow is strong, adverse rate moves or refinancing risk could be a near-term headwind.
- Operational execution: as the business is geographically fragmented, local clinical or management issues can affect admissions and occupancy in specific markets.
Counterargument to our long thesis
One could reasonably argue that the market is correctly discounting EHC because the legal investigations may presage larger, persistent reputational damage leading to payer scrutiny, lower referrals, and ultimately structural declines in utilization - a scenario where even a solid cash flow run in the last few quarters would not insulate the company. If readmission rates and patient-safety metrics do not improve, or if payors start restricting referrals, valuation should compress substantially below current multiples.
What would change my mind
I would reduce conviction or flip to a neutral/short view if any of the following occur:
- Material adverse findings from the ongoing investigations that result in significant fines or require large provisions.
- Two consecutive quarters of declining operating cash flow below $220m, indicating margin deterioration or utilization weakness.
- A meaningful negative shift in payor terms or regulatory changes that reduce average reimbursement per admission.
Conclusion
Encompass Health is a cash-rich, scale player in a fragmented, local-market industry with room to capitalize on pricing and operational advantages. The 2025 financials show steady revenue (~$5.93bn for FY2025), repeated quarterly operating cash flow of $250m+ and an improving dividend profile. Those fundamentals support a tactical long at current levels, with a defined stop ($98) and reasonable upside targets ($125/$140). That said, legal and reputational issues create legitimate headline risk; trade size accordingly and watch quality metrics and any legal developments closely.
Disclosure: This note is informational and not personalized financial advice. Do your own due diligence and size positions to your risk tolerance.