HANGER, INC. - Quarter Report: 2021 June (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

☒

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2021

☐

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from

Commission File Number 1-10670

HANGER, INC.

(Exact name of registrant as specified in its charter)


Delaware		84-0904275
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)


10910 Domain Drive, Suite 300, Austin, TX		78758
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (512) 777-3800

Securities registered pursuant to Section 12(b) of the Act:


Title of each class	Trading Symbol	Name of each exchange on which registered
Common Stock, par value $0.01 per share	HNGR	New York Stock Exchange

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer ☐

Accelerated filer ☒

Non-accelerated filer ☐

Smaller reporting company ☐

Emerging growth company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

As of July 27, 2021, the registrant had 38,690,454 shares of its Common Stock outstanding.

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TABLE OF CONTENTS


Hanger, Inc.
Part I Financial Information
Item 1. Condensed Consolidated Financial Statements (unaudited)	1
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	24
Item 3. Quantitative and Qualitative Disclosures About Market Risk	44
Item 4. Controls and Procedures	44
Part II Other Information
Item 1. Legal Proceedings	45
Item 1A. Risk Factors	45
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	45
Item 3. Defaults Upon Senior Securities	45
Item 4. Mine Safety Disclosures	45
Item 5. Other Information	45
Item 6. Exhibits	45
Exhibits Index	46
Signatures	47

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PART 1.FINANCIAL INFORMATION

HANGER, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(dollars in thousands, except par value and share amounts)

(Unaudited)


	As of June 30,		As of December 31,
	2021		2020
ASSETS
Current assets:
Cash and cash equivalents	$	76,178	$	144,602
Accounts receivable, net		124,956		128,596
Inventories		83,959		76,429
Income taxes receivable		12,831		12,888
Other current assets		16,702		12,357
Total current assets		314,626		374,872
Non-current assets:
Property, plant, and equipment, net		85,241		84,873
Goodwill		318,383		277,223
Other intangible assets, net		20,751		18,431
Deferred income taxes		53,049		54,877
Operating lease right-of-use assets		122,030		124,741
Other assets		17,564		15,734
Total assets	$	931,644	$	950,751
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt	$	12,257	$	10,085
Accounts payable		58,400		65,091
Accrued expenses and other current liabilities		63,333		62,861
Accrued compensation related costs		51,256		72,541
Current portion of operating lease liabilities		35,586		35,002
Total current liabilities		220,832		245,580
Long-term liabilities:
Long-term debt, less current portion		495,245		493,012
Operating lease liabilities		100,515		104,589
Other liabilities		51,160		56,593
Total liabilities		867,752		899,774
Commitments and contingencies (Note P)
Shareholders’ equity:
Common stock, $0.01 par value; 60,000,000 shares authorized; 38,865,074 shares issued and 38,722,253 shares outstanding at 2021, and 38,321,796 shares issued and 38,178,975 shares outstanding at 2020, respectively		389		383
Additional paid-in capital		367,726		365,503
Accumulated other comprehensive loss		(16,358)		(20,215)
Accumulated deficit		(287,169)		(293,998)
Treasury stock, at cost;142,821 shares at 2021 and 2020, respectively		(696)		(696)
Total shareholders’ equity		63,892		50,977
Total liabilities and shareholders’ equity	$	931,644	$	950,751

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

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HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(dollars in thousands, except share and per share amounts)

(Unaudited)


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
	2021		2020		2021		2020
Net revenues	$	280,819	$	233,434	$	518,289	$	467,173
Material costs		89,271		69,972		164,441		147,213
Personnel costs		97,549		73,822		187,429		163,007
Other operating costs		32,721		8,277		64,181		44,163
General and administrative expenses		33,177		33,623		64,118		65,392
Depreciation and amortization		8,007		8,879		16,005		17,710
Income from operations		20,094		38,861		22,115		29,688
Interest expense, net		7,152		8,636		14,492		16,906
Non-service defined benefit plan expense		167		158		334		316
Income before income taxes		12,775		30,067		7,289		12,466
Provision (benefit) for income taxes		2,616		(987)		460		(2,840)
Net income	$	10,159	$	31,054	$	6,829	$	15,306

Basic and Diluted Per Common Share Data:
Basic income per share	$	0.26	$	0.82	$	0.18	$	0.41
Weighted average shares used to compute basic earnings per common share		38,647,042		37,958,408		38,458,733		37,749,930
Diluted income per share	$	0.26	$	0.81	$	0.17	$	0.40
Weighted average shares used to compute diluted earnings per common share		39,208,155		38,325,872		39,216,725		38,424,334

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

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HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(dollars in thousands)

(Unaudited)


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
	2021		2020		2021		2020
Net income	$	10,159	$	31,054	$	6,829	$	15,306

Other comprehensive income (loss):
Unrealized gain (loss) on cash flow hedges, net of tax provision (benefit) of $388, ($182), $1,184, and ($2,997), respectively	$	1,225	$	(573)	$	3,737	$	(9,475)
Unrealized gain on defined benefit plan, net of tax provision of $19, $9, $38, and $18, respectively		60		27		120		56
Total other comprehensive income (loss)		1,285		(546)		3,857		(9,419)
Comprehensive income	$	11,444	$	30,508	$	10,686	$	5,887

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

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HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(dollars and share amounts in thousands)

(Unaudited)


		Common				Accumulated
	Common	Stock,		Additional		Other
	Shares,	Par		Paid-in		Comprehensive		Accumulated		Treasury
	Balance	Value		Capital		Loss		Deficit		Stock		Total
Balance, December 31, 2020	38,179	$	383	$	365,503	$	(20,215)	$	(293,998)	$	(696)	$	50,977
Net loss	—		—		—		—		(3,330)		—		(3,330)
Share-based compensation expense	—		—		3,179		—		—		—		3,179
Issuance in connection with the exercise of stock options	29		—		366		—		—		—		366
Issuance of common stock upon vesting of restricted stock units	365		4		(4)		—		—		—		—
Effect of shares withheld to cover taxes	—		—		(4,520)		—		—		—		(4,520)
Total other comprehensive income	—		—		—		2,572		—		—		2,572
Balance, March 31, 2021	38,573	$	387	$	364,524	$	(17,643)	$	(297,328)	$	(696)	$	49,244
Net income	—		—		—		—		10,159		—		10,159
Share-based compensation expense	—		—		3,239		—		—		—		3,239
Issuance in connection with the exercise of stock options	80		1		4		—		—		—		5
Issuance of common stock upon vesting of restricted stock units	69		1		(1)		—		—		—		—
Effect of shares withheld to cover taxes	—		—		(40)		—		—		—		(40)
Total other comprehensive income	—		—		—		1,285		—		—		1,285
Balance, June 30, 2021	38,722	$	389	$	367,726	$	(16,358)	$	(287,169)	$	(696)	$	63,892


		Common				Accumulated
	Common	Stock,		Additional		Other
	Shares,	Par		Paid-in		Comprehensive		Accumulated		Treasury
	Balance	Value		Capital		Loss		Deficit		Stock		Total
Balance, December 31, 2019	37,460	$	376	$	354,326	$	(12,551)	$	(331,951)	$	(696)	$	9,504
Cumulative effect of a change in accounting for credit losses	—		—		—		—		(238)		—		(238)
Balance, January 1, 2020	37,460		376		354,326		(12,551)		(332,189)		(696)		9,266
Net loss	—		—		—		—		(15,748)		—		(15,748)
Share-based compensation expense	—		—		3,501		—		—		—		3,501
Issuance of common stock upon vesting of restricted stock units	354		4		(4)		—		—		—		—
Effect of shares withheld to cover taxes	—		—		(4,146)		—		—		—		(4,146)
Total other comprehensive loss	—		—		—		(8,873)		—		—		(8,873)
Balance, March 31, 2020	37,814	$	380	$	353,677	$	(21,424)	$	(347,937)	$	(696)	$	(16,000)
Net income	—		—		—		—		31,054		—		31,054
Share-based compensation expense	—		—		8,984		—		—		—		8,984
Issuance in connection with the exercise of stock options	3		—		38		—		—		—		38
Issuance of common stock upon vesting of restricted stock units	316		3		(3)		—		—		—		—
Effect of shares withheld to cover taxes	—		—		(2,682)		—		—		—		(2,682)
Total other comprehensive loss	—		—		—		(546)		—		—		(546)
Balance, June 30, 2020	38,133	$	383	$	360,014	$	(21,970)	$	(316,883)	$	(696)	$	20,848

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

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HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(dollars in thousands)

(Unaudited)


	For the Six Months Ended June 30,
	2021		2020
Cash flows (used in) provided by operating activities:
Net income	$	6,829	$	15,306
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Depreciation and amortization		16,005		17,710
(Benefit) provision for doubtful accounts		(292)		1,084
Share-based compensation expense		6,418		12,485
Deferred income taxes		232		(9)
Amortization of debt discounts and issuance costs		948		936
Gain on sale and disposal of fixed assets		(718)		(531)
Changes in operating assets and liabilities, net of acquisitions:
Accounts receivable, net		5,363		44,917
Inventories		(5,899)		5,072
Other current assets and other assets		(6,202)		(4,882)
Income taxes		57		(5,278)
Accounts payable		(6,577)		305
Accrued expenses and other current liabilities		(2,765)		2,393
Accrued compensation related costs		(21,412)		(15,536)
Other liabilities		(522)		3,686
Operating lease liabilities, net of amortization of right-of-use assets		(780)		2,403
Changes in operating assets and liabilities:		(38,737)		33,080
Net cash (used in) provided by operating activities		(9,315)		80,061
Cash flows used in investing activities:
Acquisitions, net of cash acquired		(35,349)		(16,788)
Purchase of property, plant, and equipment		(13,339)		(15,742)
Purchase of therapeutic program equipment leased to third parties under operating leases		(870)		(3,065)
Proceeds from sale of property, plant, and equipment		1,332		1,134
Purchase of company-owned life insurance investment		—		(250)
Net cash used in investing activities		(48,226)		(34,711)
Cash flows (used in) provided by financing activities:
Borrowings under revolving credit agreement		—		79,000
Repayment of borrowings under revolving credit agreement		—		(57,000)
Payment of employee taxes on share-based compensation		(4,560)		(6,828)
Repayment of term loan		(2,525)		(2,525)
Payment on Seller Notes		(2,265)		(1,799)
Payments under vendor financing arrangements		(1,375)		(275)
Payments of financing lease obligations		(529)		(314)
Payment of debt issuance costs		—		(214)
Proceeds from the exercise of options		371		39
Net cash (used in) provided by financing activities		(10,883)		10,084
(Decrease) increase in cash and cash equivalents		(68,424)		55,434
Cash and cash equivalents at beginning of period		144,602		74,419
Cash and cash equivalents at end of period	$	76,178	$	129,853

Non-cash financing and investing activities:
Seller Notes and other non-cash consideration related to acquisitions	$	10,057	$	29,393
Purchase of property, plant, and equipment in accounts payable at period end		3,349		4,659
Right-of-use assets obtained in exchange for finance lease obligations		95		1,335

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

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HANGER, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note A — Organization and Summary of Significant Accounting Policies

Description of Business

Hanger, Inc. (“we,” “our,” or “us”) is a leading national provider of products and services that assist in enhancing or restoring the physical capabilities of patients with disabilities or injuries. We provide orthotic and prosthetic (“O&P”) services, distribute O&P devices and components, manage O&P networks, and provide therapeutic solutions to patients and businesses in acute, post-acute, and clinic settings. We operate through two segments, Patient Care and Products & Services.

Basis of Presentation

The accompanying interim unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X, and, therefore, do not include all of the information and footnotes required by GAAP for complete financial statements. These financial statements should be read in conjunction with the audited consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2020 (the “2020 Form 10-K”), as previously filed with the Securities and Exchange Commission (the “SEC”).

In our opinion, the information contained herein reflects all adjustments necessary for a fair statement of our results of operations, financial position, and cash flows. All such adjustments are of a normal, recurring nature. The results of operations for the interim periods are not necessarily indicative of those to be expected for the full year.

A detailed description of our significant accounting policies and management judgments is contained in our 2020 Form 10-K.

Reclassifications

We have reclassified certain amounts in the prior year condensed consolidated financial statements to be consistent with the current year presentation. These relate to classifications within the condensed consolidated statements of operations.

Recent Developments Regarding COVID-19

We are subject to risks and uncertainties as a result of the outbreak of the novel coronavirus (“COVID-19”) pandemic (“COVID-19 pandemic”). The extent and duration of the impact of the COVID-19 pandemic on our operations and financial condition remain uncertain and difficult to predict. As a result of the COVID-19 pandemic, we believe that our patients are deferring visits to our O&P clinics, as well as elective surgical procedures, both of which impact our business volumes through decreased patient encounters and physician referrals. It remains possible that further outbreaks of COVID-19, including the spread of variants,or reinstitution of restrictive measures by federal, state and local governments could cause a recessionary environment impacting the healthcare industry generally, including the O&P industry. The United States government has responded with fiscal policy measures intended to support the healthcare industry and economy as a whole, including the passage of the Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”) in March 2020.

CARES Act

The CARES Act established the Public Health and Social Services Emergency Fund, also referred to as the Cares Act Provider Relief Fund, which set aside $178.0 billion to be administered through grants and other mechanisms to hospitals, public entities, not-for-profit entities and Medicare- and Medicaid- enrolled suppliers and institutional providers. The purpose of these funds is to reimburse providers for lost revenue and health-care related expenses that are attributable to the COVID-19 pandemic. In April 2020, the U.S. Department of Health and Human Services (“HHS”) began making payments to healthcare providers from the $178.0 billion appropriation. These are grants, rather than loans, to healthcare providers, and will not need to be repaid.

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During 2020, we recognized a total benefit of $24.0 million in our consolidated statement of operations within Other operating costs for the grant proceeds we received under the CARES Act (“Grants”) from HHS. We recognize income related to grants on a systematic and rational basis when it becomes probable that we have complied with the terms and conditions of the grant and in the period in which the corresponding costs or income related to the grant are recognized. We recognized the benefit from the Grants within Other operating costs in our Patient Care segment. In April 2021, we recognized an additional $0.7 million in proceeds received from grants under the CARES Act.

The CARES Act also provided for a deferral of the employer portion of payroll taxes incurred during the COVID-19 pandemic through December 2020. The provisions allowed us to defer half of such payroll taxes until December 2021 and the remaining half until December 2022. We deferred $11.8 million of payroll taxes within Accrued compensation related costs and Other liabilities in the condensed consolidated balance sheet as of June 30, 2021.

Recent Accounting Pronouncements, Not Yet Adopted

In March 2020, the FASB issued ASU No. 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting. This ASU, effective beginning on March 12, 2020, provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform if certain criteria are met. The amendments in this update apply only to contracts, hedging relationships, and other transactions that reference London Interbank Offered Rate (“LIBOR”) or another reference rate expected to be discontinued because of reference rate reform. The expedients and exceptions provided by the amendments do not apply to contract modifications made and hedging relationships entered into or evaluated after December 31, 2022, except for hedging relationships existing as of December 31, 2022, that an entity has elected certain optional expedients for and that are retained through the end of the hedging relationship. We are currently evaluating the effects that the adoption of this guidance, and related clarifying standards, will have on our condensed consolidated financial statements and the related disclosures.

Note B — Earnings Per Share

Basic earnings per common share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings per common share is computed using the weighted average number of common shares outstanding during the period plus any potentially dilutive common shares, such as stock options, restricted stock units, and performance-based units calculated using the treasury stock method. Total anti-dilutive shares excluded from the diluted earnings per share were 2,721 and 1,302 for the three and six months ended June 30, 2021, and 118,525 and 17,864 for the three and six months ended June 30, 2020.

Our Credit Agreement (as defined below) restricts the payment of dividends or other distributions to our shareholders by us or any of our subsidiaries. See Note K - “Debt and Other Obligations” within these condensed consolidated financial statements.

The reconciliation of the numerators and denominators used to calculate basic and diluted net income per share are as follows:


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
(in thousands except share and per share amounts)	2021		2020		2021		2020
Net income	$	10,159	$	31,054	$	6,829	$	15,306

Weighted average shares outstanding - basic		38,647,042		37,958,408		38,458,733		37,749,930
Effect of potentially dilutive restricted stock units and options		561,113		367,464		757,992		674,404
Weighted average shares outstanding - diluted		39,208,155		38,325,872		39,216,725		38,424,334

Basic income per share	$	0.26	$	0.82	$	0.18	$	0.41

Diluted income per share	$	0.26	$	0.81	$	0.17	$	0.40

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Note C — Revenue Recognition

Patient Care Segment

Revenue in our Patient Care segment is primarily derived from contracts with third party payors for the provision of O&P devices and is recognized upon the transfer of control of promised products or services to the patient at the time the patient receives the device. At, or subsequent to delivery, we issue an invoice to the third party payor, which primarily consists of commercial insurance companies, Medicare, Medicaid, the U.S. Department of Veterans Affairs (the “VA”), or private or patient pay (“Private Pay”) individuals. We recognize revenue for the amounts we expect to receive from payors based on expected contractual reimbursement rates, which are net of estimated contractual discounts and implicit price concessions. These revenue amounts are further revised as claims are adjudicated, which may result in additional disallowances.

The following table disaggregates revenue from contracts with customers in our Patient Care segment for the three and six months ended June 30, 2021 and 2020:


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
(in thousands)	2021		2020		2021		2020
Patient Care Segment
Medicare	$	74,248	$	64,191	$	131,583	$	125,916
Medicaid		43,688		31,243		77,736		62,071
Commercial Insurance / Managed Care (excluding Medicare and Medicaid Managed Care)		79,769		70,828		149,432		137,268
Veterans Administration		21,633		16,826		41,397		34,718
Private Pay		17,449		12,771		32,321		26,069
Total	$	236,787	$	195,859	$	432,469	$	386,042

The impact to revenue related to prior period performance obligations was not material for the three and six months ended June 30, 2021 and 2020.

Products & Services Segment

Revenue in our Products & Services segment is derived from the distribution of O&P components and from therapeutic solutions which includes the leasing and sale of rehabilitation equipment and ancillary consumable supplies combined with equipment maintenance, education, and training.

The following table disaggregates revenue from contracts with customers in our Products & Services segment for the three and six months ended June 30, 2021 and 2020:


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
(in thousands)	2021		2020		2021		2020
Products & Services Segment
Distribution services, net of intersegment revenue eliminations	$	33,275	$	26,527	$	63,935	$	58,217
Therapeutic solutions		10,757		11,048		21,885		22,914
Total	$	44,032	$	37,575	$	85,820	$	81,131

Note D — Accounts Receivable, Net

Accounts receivable, net represents outstanding amounts we expect to collect from the transfer of our products and services. Principally, these amounts are comprised of receivables from Medicare, Medicaid, and commercial insurance plans. Our accounts receivable

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represent amounts outstanding from our gross charges, net of contractual discounts, sales returns, and other implicit price concessions including estimates for payor disallowances and patient non-payments.

We are exposed to credit losses primarily through our accounts receivable. These receivables are short in nature because their due date varies between due upon receipt of invoice and 90 days. We assess our receivables, divide them into similar risk pools, and monitor our ongoing credit exposure through active review of our aging buckets. Our activities include timely account reconciliations, dispute resolution, and payment confirmations. We also employ collection agencies and legal counsel to pursue recovery of defaulted receivables.

Our expected loss methodology is developed using historical liquidation rates, current and future economic and market conditions, and a review of the current status of our patients and customers’ trade accounts receivable balances. We also grouped our receivables into similar risk pools to better measure the risks for each pool. After evaluating the risk for each pool, we determined that additional credit loss risk was immaterial for the Patient Care segment. For the Products & Services segment, an allowance for doubtful accounts is recorded, which is deducted from gross accounts receivable to arrive at “Accounts receivable, net.” As of June 30, 2021, we have considered the current and future economic and market conditions resulting in a decrease to the allowance for doubtful accounts by approximately $0.5 million since December 31, 2020.

Accounts receivable, net as of June 30, 2021 and December 31, 2020 is comprised of the following:


	As of June 30, 2021						As of December 31, 2020
			Products &						Products &
(in thousands)	Patient Care		Services		Consolidated		Patient Care		Services		Consolidated
Gross charges before estimates for implicit price concessions	$	150,382	$	20,933	$	171,315	$	156,504	$	21,300	$	177,804
Less estimates for implicit price concessions:
Payor disallowances		(37,080)		—		(37,080)		(39,343)		—		(39,343)
Patient non-payments		(6,968)		—		(6,968)		(7,042)		—		(7,042)
Accounts receivable, gross		106,334		20,933		127,267		110,119		21,300		131,419
Allowance for doubtful accounts		—		(2,311)		(2,311)		—		(2,823)		(2,823)
Accounts receivable, net	$	106,334	$	18,622	$	124,956	$	110,119	$	18,477	$	128,596

Note E — Inventories

Our inventories are comprised of the following:


	As of June 30,		As of December 31,
(in thousands)	2021		2020
Raw materials	$	20,502	$	19,716
Work in process		17,905		12,040
Finished goods		45,552		44,673
Total inventories	$	83,959	$	76,429

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Note F — Acquisitions

2021 Acquisition Activity

During 2021, we completed the following acquisitions of O&P clinics, none of which were individually material to our financial position, results of operations, or cash flows:

●

In the first quarter of 2021, we completed the acquisitions of all the outstanding equity interests of three O&P businesses and the assets of one O&P business for total consideration of $24.2 million, of which $19.2 million was cash consideration, net of cash acquired, $4.0 million was issued in the form of notes to shareholders at fair value, and $1.0 million in additional consideration. We completed the acquisitions with the intention of expanding the geographic footprint of our patient care offerings through the acquisition of these high quality O&P providers.

●

In the second quarter of 2021, we completed the acquisitions of all the outstanding equity interests of two O&P businesses for total consideration of $21.0 million, of which $16.0 million was cash consideration, net of cash acquired, $4.9 million was issued in the form of notes to shareholders at fair value, and $0.1 million in additional consideration.

We accounted for these transactions under the acquisition method of accounting and have reported the results of operations of each acquisition as of the respective dates of the acquisitions. We based the estimated fair values of intangible assets on an income approach utilizing the excess earnings method for customer relationships. The income approach utilizes management’s estimates of future operating results and cash flows using a weighted average cost of capital that reflects market participant assumptions. Other significant judgments used in the valuation of tangible assets acquired in the acquisition include estimated selling price of inventory and estimated replacement cost for acquired property, plant, and equipment. For all other assets acquired and liabilities assumed, the fair value reflects the carrying value of the asset or liability due to their short maturity. We recorded the excess of the fair value of the consideration transferred in the acquisitions over the fair value of net assets acquired as goodwill. The goodwill reflects our expectations of favorable future growth opportunities, anticipated synergies through the scale of our O&P operations, and the assembled workforce. We expect that the majority of the goodwill acquired in the first quarter of 2021, which has been assigned to our Patient Care reporting unit, will not be deductible for federal income tax purposes. We expect that substantially all of the goodwill acquired in the second quarter of 2021, which has been assigned to our Patient Care reporting unit, will be deductible for federal income tax purposes.

We have not presented pro forma combined results for these acquisitions because the impact on previously reported statements of operations would not have been material individually or in the aggregate.

Purchase Price Allocation

We have performed a preliminary valuation analysis of the fair market value of the assets acquired and liabilities assumed in the acquisitions. The final purchase price allocations will be determined when we have completed and fully reviewed the detailed valuations and could differ materially from the preliminary allocations. The final allocations may include changes in allocations of acquired intangible assets as well as goodwill and other changes to assets and liabilities, including deferred taxes. The estimated useful lives of acquired intangible assets are also preliminary.

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The aggregate purchase price of these acquisitions were allocated on a preliminary basis as follows:


(in thousands)
Cash paid, net of cash acquired	$	35,199
Issuance of Seller Notes at fair value		8,893
Additional consideration, net		1,101
Aggregate purchase price		45,193

Accounts receivable		2,114
Inventories		1,631
Customer relationships (Weighted average useful life of 5.0 years)		4,495
Other assets and liabilities, net		(3,720)
Net assets acquired		4,520
Goodwill	$	40,673

Right-of-use assets and lease liabilities related to operating leases recognized in connection with the acquisitions completed during the six months ended June 30, 2021 was $2.6 million.

2020 Acquisition Activity

During 2020, we completed the following acquisitions of O&P clinics, none of which were individually material to our financial position, results of operations, or cash flows:

●

In the second quarter of 2020, we acquired all of the outstanding equity interests of an O&P business for total consideration of $46.2 million at fair value, of which $16.8 million was cash consideration, net of cash acquired, $21.9 million was issued in the form of notes to the former shareholders, $3.5 million in the form of a deferred payment obligation to the former shareholders, and $4.0 million in additional consideration. Of the $21.9 million in notes issued to the former shareholders, approximately $18.1 million of the notes were paid in October 2020 in a lump sum payment and the remaining $3.8 million of the notes are payable in annual installments over a period of three years on the anniversary date of the acquisition. Total payments of $4.0 million under the deferred payment obligation are due in annual installments beginning in the fourth year following the acquisition and for three years thereafter. Additional consideration includes approximately $3.6 million in liabilities incurred to the shareholders as part of the business combination payable in October 2020 and is included in Accrued expenses and other liabilities in the consolidated balance sheet. The remaining $0.4 million in additional consideration represents the effective settlement of amounts due to us from the acquired O&P business as of the acquisition date. We completed the acquisition with the intention of expanding the geographic footprint of our patient care offerings through the acquisition of this high quality O&P provider.

●

In the fourth quarter of 2020, we completed the acquisitions of all the outstanding equity interests of four O&P businesses for total consideration of $7.1 million, of which $4.9 million was cash consideration, net of cash acquired, $1.9 million was issued in the form of notes to shareholders at fair value, and $0.3 million in additional consideration.

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The aggregate purchase price of these acquisitions were allocated on a preliminary basis as follows:


(in thousands)
Cash paid, net of cash acquired	$	21,709
Issuance of Seller Notes at fair value		23,766
Deferred payment obligation at fair value		3,468
Additional consideration, net		4,319
Aggregate purchase price		53,262

Accounts receivable		4,224
Inventories		2,276
Customer relationships (Weighted average useful life of 5.0 years)		6,358
Non-compete agreements (Weighted average useful life of 5.0 years)		200
Other assets and liabilities, net		(4,561)
Net assets acquired		8,497
Goodwill	$	44,765

Right-of-use assets and lease liabilities related to operating leases recognized in connection with acquisitions completed for the year ended December 31, 2020 were $5.5 million.

Note G — Goodwill and Other Intangible Assets

We assess goodwill and indefinite-lived intangible assets for impairment annually as of October 1st, and between annual tests if an event occurs, or circumstances change, that would more-likely-than-not reduce the fair value of a reporting unit below its carrying value.

The following table summarizes the activity in goodwill of the Patient Care operating segment for the periods indicated:


	For the Six Months Ended June 30, 2021
	Goodwill,		Accumulated		Goodwill,
(in thousands)	Gross		Impairment		Net
As of December 31, 2020	$	705,891	$	(428,668)	$	277,223
Additions from acquisitions		40,673		—		40,673
Measurement period adjustments ⁽¹⁾		487		—		487
As of June 30, 2021	$	747,051	$	(428,668)	$	318,383

(1)	Measurement period adjustments increasing goodwill relate to 2021 and 2020 acquisitions of approximately $0.1 million and $0.4 million, respectively, and are primarily attributable to adjustments to the preliminary allocations of customer relationship intangibles.


	For the Year Ended December 31, 2020
	Goodwill,		Accumulated		Goodwill,
(in thousands)	Gross		Impairment		Net
As of December 31, 2019	$	660,912	$	(428,668)	$	232,244
Additions from acquisitions		45,144		—		45,144
Measurement period adjustments ⁽¹⁾		(165)		—		(165)
As of December 31, 2020	$	705,891	$	(428,668)	$	277,223

(1)	Measurement period adjustments reducing goodwill relate to acquisitions in the current and prior year of approximately $0.2 million and are primarily attributable to adjustments to the preliminary allocations of customer relationship intangibles.

As of December 31, 2017, goodwill of approximately $139.3 million within the Products & Services operating segment was impaired in full.

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The balances related to intangible assets as of June 30, 2021 and December 31, 2020 are as follows:


	As of June 30, 2021
	Gross Carrying		Accumulated		Accumulated		Net Carrying
(in thousands)	Amount		Amortization		Impairment		Amount
Customer lists	$	21,374	$	(7,664)	$	—	$	13,710
Trade name		255		(189)		—		66
Patents and other intangibles		8,994		(6,136)		—		2,858
Definite-lived intangible assets		30,623		(13,989)		—		16,634
Indefinite-lived trade name		9,070		—		(4,953)		4,117
Total other intangible assets	$	39,693	$	(13,989)	$	(4,953)	$	20,751


	As of December 31, 2020
	Gross Carrying		Accumulated		Accumulated		Net Carrying
(in thousands)	Amount		Amortization		Impairment		Amount
Customer lists	$	16,879	$	(5,845)	$	—	$	11,034
Trade name		255		(176)		—		79
Patents and other intangibles		9,011		(5,810)		—		3,201
Definite-lived intangible assets		26,145		(11,831)		—		14,314
Indefinite-lived trade name		9,070		—		(4,953)		4,117
Total other intangible assets	$	35,215	$	(11,831)	$	(4,953)	$	18,431

Amortization expense related to other intangible assets was approximately $1.2 million and $2.2 million for the three and six months ended June 30, 2021 and $1.6 million and $3.0 million for the three and six months ended June 30, 2020.

Estimated aggregate amortization expense for definite-lived intangible assets for each of the next five years ended December 31, and thereafter is as follows:


(in thousands)
2021 (remainder of the year)	$	2,397
2022		4,729
2023		4,483
2024		2,993
2025		1,804
Thereafter		228
Total	$	16,634

Note H — Other Current Assets and Other Assets

Other current assets consist of the following:


	As of June 30,		As of December 31,
(in thousands)	2021		2020
Non-trade receivables	$	6,116	$	6,063
Prepaid maintenance		4,593		2,942
Prepaid insurance		1,738		266
Other prepaid assets		4,255		3,086
Total other current assets	$	16,702	$	12,357

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Other assets consist of the following:


	As of June 30,		As of December 31,
(in thousands)	2021		2020
Implementation costs for cloud computing arrangements	$	6,540	$	4,811
Cash surrender value of company-owned life insurance		4,344		3,973
Finance lease right-of-use assets		2,729		3,016
Deposits		2,194		2,144
Non-trade receivables		1,339		1,274
Other		418		516
Total other assets	$	17,564	$	15,734

Note I — Accrued Expenses and Other Current Liabilities and Other Liabilities

Accrued expenses and other current liabilities consist of:


	As of June 30,		As of December 31,
(in thousands)	2021		2020
Patient prepayments, deposits, and refunds payable	$	25,738	$	27,195
Accrued sales taxes and other taxes		9,661		9,863
Insurance and self-insurance accruals		8,213		7,651
Derivative liability		7,528		7,686
Accrued professional fees		1,486		1,016
Accrued interest payable		522		440
Other current liabilities		10,185		9,010
Total	$	63,333	$	62,861

Other liabilities consist of:


	As of June 30,		As of December 31,
(in thousands)	2021		2020
Supplemental executive retirement plan obligations	$	20,668	$	21,503
Derivative liability		9,626		14,388
Long-term insurance accruals		7,630		7,326
Deferred payroll taxes		5,918		5,918
Unrecognized tax benefits		5,142		5,465
Other		2,176		1,993
Total	$	51,160	$	56,593

Note J — Income Taxes

We recorded a provision for income taxes of $2.6 million and $0.5 million for the three and six months ended June 30, 2021. The effective tax rate was 20.5% and 6.3% for the three and six months ended June 30, 2021. We recorded a benefit for income taxes of $1.0 million and $2.8 million for the three and six months ended June 30, 2020. The effective tax rate was (3.3)% and (22.8)% for the three and six months ended June 30, 2020.

The increase in the effective tax rate for the three and six months ended June 30, 2021 compared with the three and six months ended June 30, 2020 is primarily attributable to 2017 through 2019 research and development tax credits recognized in the three and six months ended June 30, 2020, partially offset by a windfall from share-based compensation for the three and six months ended June 30, 2021. Our effective tax rate for the three and six months ended June 30, 2021 differed from the federal statutory tax rate of 21% primarily due to research and development credits, non-deductible expenses, and a windfall from share-based compensation. Our effective tax rate for the three and six months ended June 30, 2020 differed from the federal statutory tax rate of 21% primarily due to research and development credits, non-deductible expenses, and a shortfall from share-based compensation.

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For the year ended December 31, 2020, we completed a formal study to identify qualifying research and development expenses resulting in the recognition of federal tax benefits of $2.2 million, net of tax reserves, related to 2020 and $6.1 million, net of tax reserves, related to prior years. We recorded the tax benefit, before tax reserves, as a deferred tax asset. For the year ended December 31, 2021, we estimate a federal tax benefit of $3.0 million, net of tax reserves.

Note K — Debt and Other Obligations

Debt consists of the following:


	As of June 30,		As of December 31,
(in thousands)	2021		2020
Debt:
Term Loan B	$	488,588	$	491,113
Seller Notes		18,105		11,510
Deferred payment obligation		4,000		4,000
Finance lease liabilities and other		3,437		3,869
Total debt before unamortized discount and debt issuance costs		514,130		510,492
Unamortized discount and debt issuance costs, net		(6,628)		(7,395)
Total debt	$	507,502	$	503,097

Current portion of long-term debt:
Term Loan B	$	5,050	$	5,050
Seller Notes		6,303		4,060
Finance lease liabilities and other		904		975
Total current portion of long-term debt		12,257		10,085
Long-term debt	$	495,245	$	493,012

Refinancing of Credit Agreement and Term B Borrowings

On March 6, 2018, we entered into a new $605.0 million Senior Credit Facility (the “Credit Agreement”). The Credit Agreement provides for (i) a revolving credit facility with an initial maximum aggregate amount of availability of $100.0 million that matures in March 2023 and (ii) a $505.0 million Term Loan B facility due in quarterly principal installments commencing June 29, 2018, with all remaining outstanding principal due at maturity in March 2025. Availability under the revolving credit facility is reduced by outstanding letters of credit, which were approximately $5.1 million as of June 30, 2021. We may (a) increase the aggregate principal amount of any outstanding tranche of term loans or add one or more additional tranches of term loans under the loan documents, and/or (b) increase the aggregate principal amount of revolving commitments or add one or more additional revolving loan facilities under the loan documents by an aggregate amount of up to the sum of (1) $125.0 million and (2) an amount such that, after giving effect to such incurrence of such amount (but excluding the cash proceeds of such incremental facilities and certain other indebtedness, and treating all commitments in respect of revolving indebtedness as fully drawn), the consolidated first lien net leverage ratio is equal to or less than 3.80 to 1.00, if certain conditions are satisfied, including the absence of a default or an event of default under the Credit Agreement at the time of the increase and that we obtain the consent of each lender providing any incremental facility.

We had approximately $94.9 million in available borrowing capacity under our $100.0 million revolving credit facility as of June 30, 2021.

Our obligations under the Credit Agreement are currently guaranteed by our material domestic subsidiaries and will from time to time be guaranteed by, subject in each case to certain exceptions, any domestic subsidiaries that may become material in the future. Subject to certain exceptions, the Credit Agreement is secured by first-priority perfected liens and security interests in substantially all of our personal property and each subsidiary guarantor.

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Borrowings under the Credit Agreement bear interest at a variable rate equal to (i) LIBOR plus a specified margin, or (ii) the base rate (which is the highest of (a) Bank of America, N.A.’s prime rate, (b) the federal funds rate plus 0.50% or (c) the sum of 1% plus one-month LIBOR) plus a specified margin. For the three months ended June 30, 2021, the weighted average interest rate on outstanding borrowings under our Term Loan B facility was approximately 3.6%. We have entered into interest rate swap agreements to hedge certain of our interest rate exposures, as more fully disclosed in Note M – “Derivative Financial Instruments.”

We must also pay (i) an unused commitment fee ranging from 0.375% to 0.500% per annum of the average daily unused portion of the aggregate revolving credit commitments under the Credit Agreement, and (ii) a per annum fee equal to (a) for each performance standby letter of credit outstanding under the Credit Agreement with respect to nonfinancial contractual obligations, 50% of the applicable margin over LIBOR under the revolving credit facility in effect from time to time multiplied by the daily amount available to be drawn under such letter of credit, and (b) for each other letter of credit outstanding under the Credit Agreement, the applicable margin over LIBOR under the revolving credit facility in effect from time to time multiplied by the daily amount available to be drawn for such letter of credit.

The Credit Agreement contains various restrictions and covenants, including: (i) requirements that we maintain certain financial ratios at prescribed levels, (ii) a prohibition on payment of dividends and other distributions and (iii) restrictions on our ability and certain of our subsidiaries to consolidate or merge, create liens, incur additional indebtedness, dispose of assets, or consummate acquisitions outside the healthcare industry. The Credit Agreement includes the following financial covenants applicable for so long as any revolving loans and/or revolving commitments remain outstanding under the Credit Agreement (some of which were amended in May 2020 by the Amendment (as defined and described below)): (i) a maximum consolidated first lien net leverage ratio (“Net Leverage Ratio”) (defined as, with certain adjustments and exclusions, the ratio of consolidated first-lien indebtedness to consolidated net income before interest, taxes, depreciation, amortization, non-cash charges and certain other items (“EBITDA”) for the most recently ended period of four fiscal quarters for which financial statements are available) of 4.25 to 1.00 for the fiscal quarters ended June 30, 2021 through March 31, 2022; and 3.75 to 1.00 for the fiscal quarter ended June 30, 2022 and the last day of each fiscal quarter thereafter; and (ii) a minimum interest coverage ratio (defined as, with certain adjustments, the ratio of our EBITDA to consolidated interest expense to the extent paid or payable in cash) of 2.75 to 1.00 as of the last day of any fiscal quarter.

The Credit Agreement also contains customary events of default. If an event of default under the Credit Agreement occurs and is continuing, then the lenders may declare any outstanding obligations under the Credit Agreement to be immediately due and payable; provided, however, that the occurrence of an event of default as a result of a breach of a financial covenant under the Credit Agreement does not constitute a default or event of default with respect to any term facility under the Credit Agreement unless and until the required revolving lenders shall have terminated their revolving commitments and declared all amounts outstanding under the revolving credit facility to be due and payable. In addition, if we or any subsidiary guarantor becomes the subject of voluntary or involuntary proceedings under any bankruptcy, insolvency, or similar law, then any outstanding obligations under the Credit Agreement will automatically become immediately due and payable. Loans outstanding under the Credit Agreement will bear interest at a rate of 2.00% per annum in excess of the otherwise applicable rate (i) upon acceleration of such loans, (ii) while a payment event of default exists or (iii) upon the lenders’ request, during the continuance of any other event of default.

In May 2020, we entered into an amendment to the Credit Agreement (the “Amendment”) that provided for, amongst other things, an increase in the maximum Net Leverage Ratio to 5.00 to 1.00 for the fiscal quarters ended June 30, 2021 through September 30, 2021; and 4.75 to 1.00 for the quarter ended December 31, 2021 and the last day of each fiscal quarter thereafter. In addition, the Amendment changed the definition of EBITDA used in the Net Leverage Ratio and minimum interest coverage ratio to adjust for declines in net revenue attributable to the COVID-19 pandemic. Borrowings under the revolving credit facility will bear interest at a variable rate equal to the greater of LIBOR or 1%, plus 3.75%. In addition, the Amendment contained certain restrictions and covenants that further limit our ability, and certain of our subsidiaries’ ability, to consolidate or merge, create liens, incur additional indebtedness, dispose of assets, or consummate acquisitions not financed with the proceeds of an equity offering, except that certain acquisitions are permitted after September 30, 2020, in the event we maintain certain leverage and liquidity thresholds. We capitalized debt issuance costs of $0.2 million in connection with the Amendment, which were recorded in Other assets.

We were in compliance with all covenants at June 30, 2021.

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Seller Notes and the Deferred Payment Obligation

We typically issue subordinated promissory notes (“Seller Notes”) as a part of the consideration transferred when making acquisitions. The Seller Notes are unsecured and are presented net of unamortized discount of $0.8 million and $0.9 million as of June 30, 2021 and December 31, 2020, respectively. We measure these instruments at their estimated fair values as of the respective acquisition dates. The stated interest rates on these instruments range from 2.50% to 3.00%. Principal and interest are payable in quarterly or annual installments and mature through February 2026.

Amounts due under the deferred payment obligation to the former shareholders of an acquired O&P business are unsecured and presented net of unamortized discount of $0.5 million as of June 30, 2021 and December 31, 2020, respectively. The deferred payment obligation was measured at its estimated fair value as of the acquisition date and accrues interest at a rate of 3.0%. Principal and interest payments under the deferred payment obligation are due in annual installments beginning in 2024 and for three years thereafter.

Scheduled Maturities of Total Debt

Scheduled maturities of debt at June 30, 2021 were as follows:


(in thousands)
2021 (remainder of year)	$	4,955
2022		11,661
2023		11,310
2024		10,697
2025		473,011
Thereafter		2,496
Total debt before unamortized discount and debt issuance costs, net		514,130
Unamortized discount and debt issuance costs, net		(6,628)
Total debt	$	507,502

Note L — Fair Value Measurements

Financial Instruments

The carrying value of our outstanding term loan as of June 30, 2021 (excluding unamortized discounts and debt issuance costs of $5.8 million) was $488.6 million compared to its fair value of $488.0 million. The carrying value of our outstanding term loan as of December 31, 2020 (excluding unamortized discounts and debt issuance costs of $6.5 million) was $491.1 million compared to its fair value of $489.9 million. Our estimates of fair value are based on a discounted cash flow model and an indicative quote using unobservable inputs, primarily, our risk-adjusted credit spread, which represents a Level 3 measurement.

We have interest rate swap agreements designated as cash flow hedges and are measured at fair value based on inputs other than quoted market prices that are observable, which represents a Level 2 measurement. See Note K - “Debt and Other Obligations” and Note M - “Derivative Financial Instruments” for further information.

We believe that the carrying value of the Seller Notes and the deferred payment obligation approximates their fair values based on a discounted cash flow model using unobservable inputs, primarily, our credit spread for subordinated debt, which represents a Level 3 measurement. The carrying value of our outstanding Seller Notes and the deferred payment obligation issued in connection with past acquisitions as of June 30, 2021 and December 31, 2020 was $21.3 million and $14.6 million, net of unamortized discounts of $0.8 million and $0.9 million, respectively.

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Note M — Derivative Financial Instruments

Cash Flow Hedges of Interest Rate Risk

In March 2018, we entered into interest rate swap agreements with notional values of $325.0 million at inception, which reduces $12.5 million annually until the swaps mature on March 6, 2024. As of June 30, 2021 and December 31, 2020, our swaps had a notional value outstanding of $287.5 million and $300.0 million, respectively.

Change in Net Loss on Cash Flow Hedges Including Accumulated Other Comprehensive Income (Loss)

The following table presents the activity of cash flow hedges included in accumulated other comprehensive loss for the three months ended June 30, 2021 and 2020, respectively:


(in thousands)	Cash Flow Hedges
Balance as of March 31, 2021	$	(14,259)
Unrealized loss recognized in other comprehensive loss, net of tax		(712)
Reclassification to interest expense, net		1,937
Balance as of June 30, 2021	$	(13,034)

Balance as of March 31, 2020	$	(19,039)
Unrealized loss recognized in other comprehensive loss, net of tax		(2,290)
Reclassification to interest expense, net		1,717
Balance as of June 30, 2020	$	(19,612)

The following table presents the activity of cash flow hedges included in accumulated other comprehensive loss for the six months ended June 30, 2021 and 2020, respectively:


(in thousands)	Cash Flow Hedges
Balance as of December 31, 2020	$	(16,771)
Unrealized loss recognized in other comprehensive loss, net of tax		(183)
Reclassification to interest expense, net		3,920
Balance as of June 30, 2021	$	(13,034)

Balance as of December 31, 2019	$	(10,137)
Unrealized loss recognized in other comprehensive loss, net of tax		(12,063)
Reclassification to interest expense, net		2,588
Balance as of June 30, 2020	$	(19,612)

The following table presents the fair value of derivative liabilities within the condensed consolidated balance sheets as of June 30, 2021 and December 31, 2020:


	As of June 30, 2021				As of December 31, 2020
(in thousands)	Assets		Liabilities		Assets		Liabilities
Derivatives designated as cash flow hedging instruments:
Accrued expenses and other current liabilities	$	—	$	7,528	$	—	$	7,686
Other liabilities		—		9,626		—		14,388

Note N — Share-Based Compensation

On May 17, 2019, the shareholders approved the Hanger, Inc. 2019 Omnibus Incentive Plan (the “2019 Plan”). The 2019 Plan authorizes the issuance of (a) up to 2,025,000 shares of Common Stock, plus (b) 243,611 shares available for issuance under the Hanger, Inc. 2016 Omnibus Incentive Plan (the “2016 Plan”). Upon approval of the 2019 Plan, the 2016 Plan was no longer available for future awards.

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On May 19, 2017, the Board of Directors approved the Hanger, Inc. Special Equity Plan (the “Special Equity Plan”). The Special Equity Plan authorized up to 1.5 million shares of Common Stock and operates completely independent from our 2016 Omnibus Incentive Plan. All awards under the Special Equity Plan were made on May 19, 2017, which consisted of 0.8 million stock options and 0.3 million performance-based stock awards. No further grants of awards will be authorized or issued under the Special Equity Plan.

As of June 30, 2021, there were 1,423,551 unvested restricted stock awards outstanding. This was comprised of 1,026,979 employee service-based awards with a weighted average grant date fair value of $21.30 per share, 342,017 employee performance-based awards with a weighted average grant date fair value of $21.61 per share, and 54,555 director service-based awards with a weighted average grant date value of $24.67 per share. As of June 30, 2021, there were 324,014 outstanding options exercisable with a weighted average exercise price of $12.77 and average remaining contractual term of 5.1 years.

The 2017 Special Equity Plan was amended in May 2020 to modify the performance period ending date for purposes of the compounded annual growth rate calculation to February 20, 2020, shortening the performance period to approximately 33 months, representing a reduction of three months. This adjustment was considered a modification per ASC 718 Compensation - Stock Compensation and, therefore, any incremental fair value arising from the modification of an award with market conditions would be recognized over the remaining service period. As a result of the modification, we recognized an additional $5.9 million in share-based compensation expense during the second quarter of 2020.

We recognized a total of approximately $3.2 million and $6.4 million of share-based compensation expense for the three and six months ended June 30, 2021 and a total of approximately $9.0 million and $12.5 million for the three and six months ended June 30, 2020, respectively. Share-based compensation expense, net of forfeitures, relates to restricted stock units, performance-based restricted stock units, and stock options.

Note O — Supplemental Executive Retirement Plans

Defined Benefit Supplemental Executive Retirement Plan

Effective January 2004, we implemented an unfunded noncontributory defined benefit plan (“DB SERP”) for certain senior executives. The DB SERP, which we administer, calls for fifteen annual payments upon retirement with the payment amount based on years of service and final average salary. Benefit costs and liability balances are calculated based on certain assumptions including benefits earned, discount rates, interest costs, mortality rates, and other factors. Actual results that differ from the assumptions are accumulated and amortized over future periods, affecting the recorded obligation and expense in future periods.

We believe the assumptions used are appropriate; however, changes in assumptions or differences in actual experience may affect our benefit obligation and future expenses. The change in net benefit cost and obligation during the three and six months ended June 30, 2021 and 2020 is as follows:

Change in Benefit Obligation:


(in thousands)	2021		2020
Benefit obligation as of March 31	$	18,079	$	17,556
Service cost		123		98
Interest cost		88		121
Payments		(12)		(12)
Benefit obligation as of June 30	$	18,278	$	17,763

Benefit obligation as of December 31, 2020 and 2019, respectively	$	19,746	$	19,214
Service cost		246		196
Interest cost		175		242
Payments		(1,889)		(1,889)
Benefit obligation as of June 30	$	18,278	$	17,763

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Amounts Recognized in the Condensed Consolidated Balance Sheets:


	As of June 30,		As of December 31,
(in thousands)	2021		2020
Current accrued expenses and other current liabilities	$	1,913	$	1,913
Non-current other liabilities		16,365		17,833
Total accrued liabilities	$	18,278	$	19,746

Defined Contribution Supplemental Executive Retirement Plan

In 2013, we established a defined contribution plan (“DC SERP”) that covers certain of our senior executives. Each participant is given a notional account to manage his or her annual distributions and allocate the funds among various investment options (e.g. mutual funds). These accounts are tracking accounts only for the purpose of calculating the participant’s benefit. The participant does not have ownership of the underlying mutual funds. When a participant initiates or changes the allocation of his or her notional account, we will generally make an allocation of our investments to match those chosen by the participant. While the allocation of our sub accounts is generally intended to mirror the participant’s account records (i.e. the distributions and gains or losses on those funds), the employee does not have legal ownership of any funds until payout upon retirement. The underlying investments are owned by the insurance company with which we own an insurance policy.

As of June 30, 2021 and December 31, 2020, the estimated accumulated obligation benefit is $4.3 million and $4.5 million, of which $4.0 million and $4.0 million is funded and $0.3 million and $0.5 million is unfunded at June 30, 2021 and December 31, 2020, respectively.

In connection with the DC SERP benefit obligation, we maintain a company-owned life insurance policy (“COLI”). The carrying value of the COLI is measured at its cash surrender value and is presented within “Other assets” in our condensed consolidated balance sheets. See Note H - “Other Current Assets and Other Assets” for additional information.

Note P — Commitments and Contingencies

Guarantees and Indemnification

In the ordinary course of our business, we may enter into service agreements with service providers in which we agree to indemnify or limit the service provider against certain losses and liabilities arising from the service provider’s performance of the agreement. We have reviewed our existing contracts containing indemnification or clauses of guarantees and do not believe that our liability under such agreements is material.

Other Matters

From time to time we are subject to legal proceedings and claims which arise in the ordinary course of our business, and are also subject to additional payments under business purchase agreements. In the opinion of management, the amount of ultimate liability, if any, with respect to these actions will not have a materially adverse effect on our consolidated financial position, liquidity or results of our operations.

We operate in a highly regulated industry and receive regulatory agency inquiries from time to time in the ordinary course of our business, including inquiries relating to our billing activities. No assurance can be given that any discrepancies identified during a regulatory review will not have a material adverse effect on our consolidated financial statements.

Note Q — Segment and Related Information

We have identified two operating segments and both performance evaluation and resource allocation decisions are determined based on each segment’s income from operations. The operating segments are described further below.

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Patient Care — This segment consists of (i) our owned and operated patient care clinics, and (ii) our contracting and network management business. The patient care clinics provide services to design and fit O&P devices to patients. These clinics also instruct patients in the use, care, and maintenance of the devices. The principal reimbursement sources for our services are:

●

Commercial private payors and other, which consist of individuals, rehabilitation providers, commercial insurance companies, health management organizations (“HMOs”), preferred provider organizations (“PPOs”), hospitals, vocational rehabilitation, workers’ compensation programs, and similar sources;

●

Medicare, a federally funded health insurance program providing health insurance coverage for persons aged 65 or older and certain persons with disabilities, which provides reimbursement for O&P products and services based on prices set forth in published fee schedules (generally with either 10 regional pricing areas or state level prices) for prosthetics and orthotics and by state for durable medical equipment (DMEPOS);

●

Medicaid, a health insurance program jointly funded by federal and state governments providing health insurance coverage for certain persons requiring financial assistance, regardless of age, which may supplement Medicare benefits for persons aged 65 or older requiring financial assistance; and

●

the VA.

Our contract and network management business, known as Linkia, is the only network management company dedicated solely to serving the O&P market and is focused on managing the O&P services of national and regional insurance companies. We partner with healthcare insurance companies by securing a national or regional contract either as a preferred provider or to manage their O&P network of providers.

Products & Services - This segment consists of our distribution business, which distributes and fabricates O&P products and components to sell to both the O&P industry and our own patient care clinics, and our therapeutic solutions business. The therapeutic solutions business leases and sells rehabilitation equipment and ancillary consumable supplies combined with equipment maintenance, education, and training.

Corporate & Other - This consists of corporate overhead and includes unallocated expense such as personnel costs, professional fees, and corporate offices expenses.

The accounting policies of the segments are the same as those described in Note A - “Organization and Summary of Significant Accounting Policies” in our 2020 Form 10-K.

Intersegment revenue primarily relates to sales of O&P components from the Products & Services segment to the Patient Care segment. The sales are priced at the cost of the related materials plus overhead.

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Summarized financial information concerning our reporting segments is shown in the following tables. Total assets for each of the segments has not materially changed from December 31, 2020.


	Patient Care				Products & Services
	For the Three Months Ended				For the Three Months Ended
	June 30,				June 30,
(in thousands)	2021		2020		2021		2020
Net revenues
Third party	$	236,787	$	195,859	$	44,032	$	37,575
Intersegments		—		—		54,900		42,866
Total net revenues		236,787		195,859		98,932		80,441
Material costs
Third party suppliers		62,631		50,489		26,640		19,483
Intersegments		9,086		4,747		45,814		38,119
Total material costs		71,717		55,236		72,454		57,602
Personnel expenses		83,198		63,576		14,351		10,246
Other expenses		37,445		13,601		6,763		4,337
Depreciation & amortization		4,787		4,827		1,963		2,498
Segment income from operations	$	39,640	$	58,619	$	3,401	$	5,758


	Patient Care				Products & Services
	For the Six Months Ended				For the Six Months Ended
	June 30,				June 30,
(in thousands)	2021		2020		2021		2020
Net revenues
Third party	$	432,469	$	386,042	$	85,820	$	81,131
Intersegments		—		—		101,905		88,888
Total net revenues		432,469		386,042		187,725		170,019
Material costs
Third party suppliers		114,290		103,613		50,151		43,600
Intersegments		17,349		11,300		84,556		77,588
Total material costs		131,639		114,913		134,707		121,188
Personnel expenses		158,952		139,921		28,477		23,086
Other expenses		73,586		51,749		12,566		12,657
Depreciation & amortization		9,602		9,303		3,898		5,250
Segment income from operations	$	58,690	$	70,156	$	8,077	$	7,838

A reconciliation of the total of the reportable segments’ income from operations to consolidated net loss is as follows:


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
(in thousands)	2021		2020		2021		2020
Income from operations
Patient Care	$	39,640	$	58,619	$	58,690	$	70,156
Products & Services		3,401		5,758		8,077		7,838
Corporate & other		(22,947)		(25,516)		(44,652)		(48,306)
Income from operations		20,094		38,861		22,115		29,688
Interest expense, net		7,152		8,636		14,492		16,906
Non-service defined benefit plan expense		167		158		334		316
Income before income taxes		12,775		30,067		7,289		12,466
Provision (benefit) for income taxes		2,616		(987)		460		(2,840)
Net income	$	10,159	$	31,054	$	6,829	$	15,306

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A reconciliation of the reportable segments’ net revenues to consolidated net revenues is as follows:


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
(in thousands)	2021		2020		2021		2020
Net revenues
Patient Care	$	236,787	$	195,859	$	432,469	$	386,042
Products & Services		98,932		80,441		187,725		170,019
Corporate & other		—		—		—		—
Consolidating adjustments		(54,900)		(42,866)		(101,905)		(88,888)
Consolidated net revenues	$	280,819	$	233,434	$	518,289	$	467,173

A reconciliation of the reportable segments’ material costs to consolidated material costs is as follows:


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
(in thousands)	2021		2020		2021		2020
Material costs
Patient Care	$	71,717	$	55,236	$	131,639	$	114,913
Products & Services		72,454		57,602		134,707		121,188
Corporate & other		—		—		—		—
Consolidating adjustments		(54,900)		(42,866)		(101,905)		(88,888)
Consolidated material costs	$	89,271	$	69,972	$	164,441	$	147,213

Note R — Subsequent Events

During the third quarter of 2021 to date, we completed the acquisitions of two O&P businesses for a total purchase price of $0.8 million. Total consideration transferred for these acquisitions is comprised of $0.6 million in cash consideration, and $0.2 million in the form of notes to the former shareholders. Due to the proximity of these transactions to the filing of this Form 10-Q, it is not practicable to provide a preliminary purchase price allocation of the fair value of the assets purchased and liabilities assumed in these acquisitions. Acquisition-related expenses related to these transactions were not material.

In July 2021, we entered into definitive share purchase agreements in connection with the acquisitions of two O&P businesses for a total purchase price of $5.6 million. Due to the proximity of these transactions to the filing of this Form 10-Q, it is not practicable to provide a preliminary purchase price allocation of the fair value of the assets acquired and liabilities assumed in these acquisitions.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

This report contains statements that are forward-looking statements within the meaning of the federal securities laws. Forward-looking statements include information concerning our liquidity and our possible or assumed future results of operations, including descriptions of our business strategies. These statements often include words such as “believe,” “expect,” “project,” “potential,” “anticipate,” “intend,” “plan,” “estimate,” “seek,” “will,” “may,” “would,” “should,” “could,” “forecasts,” or similar words. These statements are based on certain assumptions that we have made in light of our experience in the industry as well as our perceptions of historical trends, current conditions, expected future developments, and other factors we believe are appropriate in these circumstances. We believe these assumptions are reasonable, but you should understand that these statements are not guarantees of performance or results, and our actual results could differ materially from those expressed in the forward-looking statements due to a variety of important factors, both positive and negative, that may be revised or supplemented in subsequent reports.

These statements involve risks, estimates, assumptions, and uncertainties that could cause actual results to differ materially from those expressed in these statements and elsewhere in this report. These uncertainties include, but are not limited to, the financial and business impacts of the COVID-19 pandemic on our operations and the operations of our customers, suppliers, governmental and private payors, and others in the healthcare industry and beyond; federal laws governing the health care industry; governmental policies affecting O&P operations, including with respect to reimbursement; failure to successfully implement a new enterprise resource planning system or other disruptions to information technology systems; the inability to successfully execute our acquisition strategy, including integration of recently acquired O&P clinics into our existing business; changes in the demand for our O&P products and services, including additional competition in the O&P services market; disruptions to our supply chain; our ability to enter into and derive benefits from managed-care contracts; our ability to successfully attract and retain qualified O&P clinicians; labor shortages and increased turnover in our employee base; contractual, inflationary and other general cost increases, including with regard to costs of labor, raw materials and freight;and other risks and uncertainties generally affecting the health care industry.

Readers are cautioned that all forward-looking statements involve known and unknown risks and uncertainties including, without limitation, those described in Item 1A. “Risk Factors”, contained in our Annual Report on Form 10-K for the year ended December 31, 2020 (the “2020 Form 10-K”), as well as those described in Part II, Item 1A. “Risk Factors” of this Quarterly Report on Form 10-Q,some of which are beyond our control. Although we believe that the assumptions underlying the forward-looking statements contained therein are reasonable, any of the assumptions could be inaccurate. Therefore, there can be no assurance that the forward-looking statements included in this Quarterly Report on Form 10-Q will prove to be accurate. Actual results could differ materially and adversely from those contemplated by any forward-looking statement. In light of the significant risks and uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives and plans will be achieved. We undertake no obligation to publicly release any revisions to any forward-looking statements in this discussion to reflect events and circumstances occurring after the date hereof or to reflect unanticipated events. Forward-looking statements and our liquidity, financial condition, and results of operations may be affected by the risks set forth in Item 1A. “Risk Factors”, contained in our 2020 Form 10-K, in Part II, Item 1A. “Risk Factors” of this Quarterly Report on Form 10-Q,or by other unknown risks and uncertainties.

Non-GAAP Measures

We refer to certain financial measures and statistics that are not in accordance with accounting principles generally accepted in the United States of America (“GAAP”). We utilize these non-GAAP measures in order to evaluate the underlying factors that affect our business performance and trends. These non-GAAP measures should not be considered in isolation and should not be considered superior to, or as a substitute for, financial measures calculated in accordance with GAAP. We have defined and provided a reconciliation of these non-GAAP measures to their most comparable GAAP measures. The non-GAAP measure used in this Management’s Discussion and Analysis is as follows:

Same Clinic Revenues Per Day - measures the year-over-year change in revenue from clinics that have been open a full calendar year or more. Examples of clinics not included in the same center population are closures and acquisitions. Day-adjusted growth normalizes sales for the number of days a clinic was open in each comparable period.

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Business Overview

General

We are a leading national provider of products and services that assist in enhancing or restoring the physical capabilities of patients with disabilities or injuries, and we and our predecessor companies have provided O&P services for nearly 160 years. We provide O&P services, distribute O&P devices and components, manage O&P networks, and provide therapeutic solutions to patients and businesses in acute, post-acute, and clinic settings. We operate through two segments - Patient Care and Products & Services.

Our Patient Care segment is primarily comprised of Hanger Clinic, which specializes in the design, fabrication, and delivery of custom O&P devices through 723 patient care clinics and 112 satellite locations in 46 states and the District of Columbia as of June 30, 2021. We also provide payor network contracting services to other O&P providers through this segment.

Our Products & Services segment is comprised of our distribution services and therapeutic solutions businesses. As a leading provider of O&P products in the United States, we engage in the distribution of a broad catalog of O&P parts, componentry, and devices to independent O&P providers nationwide. The other business in our Products & Services segment is our therapeutic solutions business, which develops specialized rehabilitation technologies and provides evidence-based clinical programs for post-acute rehabilitation to patients at approximately 3,900 skilled nursing and post-acute providers nationwide.

For the three and six months ended June 30, 2021, our net revenues were $280.8 million and $518.3 million, respectively, and we recorded net income of $10.2 million and $6.8 million, respectively. For the three and six months ended June 30, 2020, our net revenues were $233.4 million and $467.2 million, respectively, and we recorded net income of $31.1 million and $15.3 million, respectively.

Industry Overview

We estimate that approximately $4.3 billion is spent in the United States each year for prescription-based O&P products and services through O&P clinics. We believe our Patient Care segment currently accounts for approximately 21% of the market, providing a comprehensive portfolio of orthotic, prosthetic, and post-operative solutions to patients in acute, post-acute, and patient care clinic settings.

The O&P patient care services market in the United States is highly fragmented and is characterized by regional and local independent O&P businesses operated predominantly by independent operators, but also including two O&P product manufacturers with substantial international patient care services operations. We do not believe that any single competitor accounts for 2% or more of the nation’s total estimated O&P clinic revenues.

The industry is characterized by stable, recurring revenues, primarily resulting from new patients as well as the need for periodic replacement and modification of O&P devices. We anticipate that the demand for O&P services will continue to grow as the nation’s population increases, and as a result of several trends, including the aging of the U.S. population, there will be an increase in the prevalence of disease-related disability and the demand for new and advanced devices. We believe the typical replacement time for prosthetic devices is three to five years, while the typical replacement time for orthotic devices varies, depending on the device.

We estimate that approximately $1.8 billion is spent in the United States each year by providers of O&P patient care services for the O&P products, components, devices, and supplies used in their businesses. Our Products & Services segment distributes to independent providers of O&P services. We estimate that our distribution sales account for approximately 9% of the market for O&P products, components, devices, and supplies (excluding sales to our Patient Care segment).

We estimate the market for rehabilitation technologies, integrated clinical programs, and clinician training in skilled nursing facilities (“SNFs”) to be approximately $150 million annually. We currently provide these products and services to approximately 25% of the estimated 15,000 SNFs located in the U.S. We estimate the market for rehabilitation technologies, clinical programs, and training within the broader post-acute rehabilitation markets to be approximately $400 million annually. We do not currently provide a meaningful amount of products and services to this broader market.

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Business Description

Patient Care

Our Patient Care segment employs approximately 1,600 clinical prosthetists, orthotists, and pedorthists, which we refer to as clinicians, substantially all of which are certified by either the American Board for Certification (“ABC”) or the Board of Certification of Orthotists and Prosthetists, which are the two boards that certify O&P clinicians. To facilitate timely service to our patients, we also employ technicians, fitters, and other ancillary providers to assist our clinicians in the performance of their duties. Through this segment, we additionally provide network contracting services to independent providers of O&P.

Patients are typically referred to Hanger Clinic by an attending physician who determines a patient’s treatment and writes a prescription. Our clinicians then consult with both the referring physician and the patient with a view toward assisting in the selection of an orthotic or prosthetic device to meet the patient’s needs. O&P devices are increasingly technologically advanced and custom designed to add functionality and comfort to patients’ lives, shorten the rehabilitation process, and lower the cost of rehabilitation.

Based on the prescription written by a referring physician, our clinicians examine and evaluate the patient and either design a custom device or, in the case of certain orthotic needs, utilize a non-custom device, including, in appropriate circumstances, an “off the shelf” device, to address the patient’s needs. When fabricating a device, our clinicians ascertain the specific requirements, componentry, and measurements necessary for the construction of the device. Custom devices are constructed using componentry provided by a variety of third party manufacturers who specialize in O&P, coupled with sockets and other elements that are fabricated by our clinicians and technicians, to meet the individual patient’s physical and ambulatory needs. Our clinicians and technicians typically utilize castings, electronic scans, and other techniques to fabricate items that are specialized for the patient. After fabricating the device, a fitting process is undertaken and adjustments are made to ensure the achievement of proper alignment, fit, and patient comfort. The fitting process often involves several stages to successfully achieve desired functional and cosmetic results.

Given the differing physical weight and size characteristics, location of injury or amputation, capability for physical activity and mobility, cosmetic, and other needs of each individual patient, each fabricated prosthesis and orthosis is customized for each particular patient. These custom devices are commonly fabricated at one of our regional or national fabrication facilities.

We have earned a reputation within the O&P industry for the development and use of innovative technology in our products, which has increased patient comfort and capability and can significantly enhance the rehabilitation process. We utilize multiple scanning and imaging technologies in the fabrication process, depending on the patient’s individual needs, including our proprietary Insignia scanning system. The Insignia system scans the patient and produces an accurate computer-generated image, resulting in a faster turnaround for the patient’s device and a more professional overall experience.

In recent years, we have established a centralized revenue cycle management organization that assists our clinics in pre-authorization, patient eligibility, denial management, collections, payor audit coordination, and other accounts receivable processes.

The principal reimbursement sources for our services are:

●

Commercial private payors and other non-governmental organizations, which consist of individuals, rehabilitation providers, commercial insurance companies, HMOs, PPOs, hospitals, vocational rehabilitation centers, workers’ compensation programs, third party administrators, and similar sources;

●

Medicare, a federally funded health insurance program providing health insurance coverage for persons aged 65 or older and certain persons with disabilities;

●

the U.S. Department of Veterans Affairs (the “VA”).

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We typically enter into contracts with third party payors that allow us to perform O&P services for a referred patient and to be reimbursed for our services. These contracts usually have a stated term of one to three years and generally may be terminated without cause by either party on 60 to 90 days’ notice, or on 30 days’ notice if we have not complied with certain licensing, certification, program standards, Medicare or Medicaid requirements, or other regulatory requirements. Reimbursement for services is typically based on a fee schedule negotiated with the third party payor that reflects various factors, including market conditions, geographic area, and number of persons covered. Many of our commercial contracts are indexed to the commensurate Medicare fee schedule that relates to the products or services being provided.

Government reimbursement is comprised of Medicare, Medicaid, and the VA. These payors set maximum reimbursement levels for O&P services and products. Medicare prices are adjusted each year based on the Consumer Price Index for All Urban Consumers (“CPI-U”) unless Congress acts to change or eliminate the adjustment. The CPI-U is adjusted further by an efficiency factor known as the “Productivity Adjustment” or the “Multi-Factor Productivity Adjustment” in order to determine the final rate adjustment each year. There can be no assurance that future adjustments will not reduce reimbursements for O&P services and products from these sources.

We, and the O&P industry in general, are subject to various Medicare compliance audits, including Recovery Audit Contractor (“RAC”) audits, Comprehensive Error Rate Testing (“CERT”) audits, Targeted Probe and Educate (“TPE”) audits, Supplemental Medical Review Contractor (“SMRC”) audits, and Unified Program Integrity Contractor (“UPIC”) audits. TPE audits are generally pre-payment audits, while RAC, CERT, and SMRC audits are generally post-payment audits. UPIC audits can be both pre- or post-payment audits, with a majority currently pre-payment. TPE audits replaced the previous Medicare Administrative Contractor audits. Adverse post-payment audit determinations generally require Hanger to reimburse Medicare for payments previously made, while adverse pre-payment audit determinations generally result in the denial of payment. In either case, we can request a redetermination or appeal, if we believe the adverse determination is unwarranted, which can take an extensive period of time to resolve, currently up to six years or more.

Products & Services

Through our wholly-owned subsidiary, Southern Prosthetic Supply, Inc. (“SPS”), we distribute O&P components to independent O&P clinics and other customers. Through our wholly-owned subsidiary, Accelerated Care Plus Corp. (“ACP”), our therapeutic solutions business is a leading provider of rehabilitation technologies and integrated clinical programs to skilled nursing and post-acute rehabilitation providers. Our value proposition is to provide our customers with a full-service “total solutions” approach encompassing proven medical technology, evidence-based clinical programs, and ongoing consultative education and training. Our services support increasingly advanced treatment options for a broader patient population and more medically complex conditions. We currently serve approximately 3,900 skilled nursing and post-acute providers nationwide. Through our SureFit subsidiary, we also manufacture and sell therapeutic footwear for diabetic patients in the podiatric market. We also operate the Hanger Fabrication Network, which fabricates custom O&P devices for our patient care clinics, as well as for independent O&P clinics.

Through our internal “supply chain” organization, we purchase, warehouse, and distribute over 475,000 SKUs from approximately 400 different manufacturers through SPS or directly to our own clinics within our Patient Care segment. Our warehousing and distribution facilities in Nevada, Georgia, Illinois, and Texas provide us with the ability to deliver products to the vast majority of our customers in the United States within two business days. The distribution facility we formerly operated in Pennsylvania ceased operations in September 2020.

Our supply chain organization enables us to:

●

centralize our purchasing and thus lower our material costs by negotiating purchasing discounts from manufacturers;

●

better manage our patient care clinic inventory levels and improve inventory turns;

●

improve inventory quality control;

●

encourage our patient care clinics to use the most clinically appropriate products; and

●

coordinate new product development efforts with key vendors.

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Effects of the COVID-19 Pandemic

As disclosed previously, we began to see a reduction in business volumes as a result of the COVID-19 pandemic starting in the last weeks of March 2020. As federal, state, and local authorities implemented social distancing and suppression measures to respond to an increasing number of nationwide COVID-19 infections, we experienced a decrease in our patient appointments and general business volumes. In response, during the last week of March 2020, we made certain changes to our operations, implemented a broad number of cost reduction measures, and delayed certain capital investment projects. Although our business volumes have shown gradual improvement from their initial significant decline in mid-2020, the adverse impact of the COVID-19 pandemic on our business has continued through the second quarter of 2021. As a result, our comparative financial and operational results when viewed as a whole for the periods impacted by the COVID-19 pandemic, including temporary labor and cost reduction measures largely in place during the second and third quarters of 2020, may not be indicative of future financial and operational performance. The volume effects and our operating responses are discussed further in this section, and the effects of COVID-19 on our financial condition is discussed in the “Financial Condition, Liquidity and Capital Resources” section below. Our results of operations for any quarter during the COVID-19 pandemic may not be indicative of results of operations that may be achieved for a subsequent quarter or the full year, and may not be similar to results of operations experienced in prior years. In addition, results in any given period in 2021 may be different than 2020 as a result of the depressed conditions in 2020 stemming from the COVID-19 pandemic.

Effect on Business Volumes

Patient appointments in our clinics during the second quarter of 2021 increased by approximately 38% as compared to the corresponding period in 2020. During the quarter, our prosthetics and orthotics day-adjusted sales, excluding acquisitions, increased by approximately 4.3% and 40.4%, respectively, with same clinic revenues increasing by 18.2% on a per day basis, when compared to the same period in the prior year. In the quarter ending June 30, 2020, we experienced a relatively lower decline in prosthetic patient volumes as compared with the orthotic patient volumes. We believe the generally more acute nature of conditions that lead to the need for prosthetics, the patient age demographics and the relatively greater impact that the absence of access to these devices can have on a patient’s daily life were the primary reasons that have led to the relatively lower decline in prosthetics patients as compared with orthotic patients in our Patient Care segment during the prior year period. As a result, we are seeing a more modest improvement in prosthetic volumes when compared to the second quarter of 2020. Patient appointments in our clinics during the second quarter of 2021 were approximately 93% of the volumes experienced in the second quarter of 2019 and same clinic revenues were 96% of those reported in the second quarter of 2019.

Billings for componentry delivered to independent providers of orthotics and prosthetics by our distribution services business increased by approximately 26% during the second quarter of 2021, as compared to the same period in 2020. Net revenue from distribution services during the quarter was 89% of the level reported during the second quarter of 2019, primarily due to the continuing effects of COVID-19 on business conditions, and secondarily due to the impact of acquisitions of customers by us and the exit of certain products. Due to significant geographic product mix and timing differences, there can be no assurance that these volumes or billing amounts will be reflective of our future results and are solely provided for the purposes of giving context to the magnitude of the effect of the COVID-19 pandemic on our business during the periods impacted by the COVID-19 pandemic.

In the early months of 2021, vaccines for combating COVID-19 were authorized by the US Food and Drug Administration, and the US government commenced a phased roll out of these vaccines. However, the initial quantities of the vaccines were limited, and the US government prioritized distribution to front-line health care workers and other essential workers, followed by individual populations that are most susceptible to the severe effects of COVID-19. As vaccines became more readily available, social adversity to vaccination and other factors adversely affected the achievement of nationwide vaccination goals. Given the continuing impact of restrictions to mitigate the spread of COVID-19 and unknown challenges with regards to the effectiveness, distribution, and acceptance of COVID-19 vaccines, we believe that the COVID-19 pandemic will continue to affect our business volumes in 2021 when compared to pre- pandemic levels.Nevertheless, the overall adverse impact of the COVID-19 pandemic on our business volumes has diminished over time, and our patient appointment and other business volumes continue to gradually improve as the prevalence of the virus decreases and COVID-19 vaccines become more widely available and accepted. Additionally, we believe that if a patient is initially unable or unwilling to come to one of our clinics to receive their prosthetic or orthotic device, then their ultimate need for that device is not likely to change, and we could accordingly have some favorable volume recovery effect in future periods as the impacts of the COVID-19 pandemic subsides.

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Operating and Cost Reduction Responses

Throughout the periods affected by the COVID-19 pandemic, given that our services are considered essential, we have continued to operate our businesses. However, due to the risks posed to our clinicians, other employees, and patients, we made certain changes to our operating practices in order to promote safety and to minimize the risk of virus transmission. These included the implementation of certain patient screening protocols and the relocation of certain administrative and support personnel to a “work at home” environment.

As a result of the COVID-19 pandemic in 2020, we found it necessary to reduce our personnel costs in response to significant decreases in business volumes. Commencing at the start of April 2020, personnel cost reductions were implemented through (i) an average 32% decrease in the salaries of all of our exempt employees, the percentage of which varied from lower amounts for lower salaried employees up to reduction amounts ranging from 47% to 100% for our senior leadership team; (ii) the furloughing of certain employees on a voluntary and involuntary basis; (iii) the reduction of work hours for non-exempt employees; (iv) modification of bonus, commission, and other variable incentive plans; (v) the reduction of overtime expenses; (vi) the elimination of certain open positions; (vii) a reduction in the use of contract employees, and (viii) the temporary suspension of certain auto allowances. During the period April 2020 through September 2020, salaries were gradually reinstated, with full reinstatement of all exempt employees’ salaries being effective on September 19, 2020. We believe this approach allowed us to retain as many employees as possible to preserve the experience, culture, and patient service capabilities of our workforce for periods subsequent to the COVID-19 pandemic.

In addition to these reductions in operating expenses, we temporarily delayed the implementation of our supply chain and financial systems, further discussed in the “New Systems Implementations” section. We also suspended construction of our new fabrication facility in Tempe, Arizona, and other projects related to the reconfiguration of our distribution facilities. We resumed construction of the Tempe, Arizona fabrication facility in the first quarter of 2021, and recommenced the remaining activities in the second quarter of 2021. These actions to delay activities during 2020 will correspondingly delay our achievement of the financial benefits expected from them into future periods.

CARES Act

The CARES Act established the Public Health and Social Services Emergency Fund, also referred to as the Cares Act Provider Relief Fund, which set aside $178.0 billion to be administered through grants and other mechanisms to hospitals, public entities, not-for-profit entities and Medicare- and Medicaid- enrolled suppliers and institutional providers. The purpose of these funds is to reimburse providers for lost revenue attributable to the COVID-19 pandemic, such as lost revenues attributable to canceled procedures, as well as to provide support for health-care related expenses. In April 2020, HHS began making payments to healthcare providers from the $178.0 billion appropriation. These are grants, rather than loans, to healthcare providers, and will not need to be repaid.

Other Products & Services Performance Considerations

As discussed in our 2020 Form 10-K, under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, several of the larger independent O&P providers we served through the distribution of componentry encountered financial difficulties during the year ended December 31, 2020, which resulted in our discontinuing distribution services to these customers. Generally, we believe our distribution customers encounter reimbursement pressures similar to those we experience in our own Patient Care segment and, depending on their ability to adapt to the increased claims documentation standards that have emerged in our industry, this may either limit the rate of growth of some of our customers, or otherwise affect the rate of growth we experience in our distribution of O&P componentry to independent providers. During future periods, in addition to the adverse effects of the COVID-19 pandemic discussed above, we currently believe our rate of revenue growth in this segment may decrease as we choose to limit the extent to which we distribute certain low margin orthotic products. Additionally, to the extent that we acquire independent O&P providers who are pre-existing customers of our distribution services, our revenue growth in this segment would be adversely affected as we would no longer recognize external revenue from the components we provide them.

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Within our Products & Services segment, in addition to our distribution of products, we provide therapeutic equipment and services to patients at SNFs and other healthcare provider locations. Since 2016, a number of our clients, including several of our larger SNF clients, have been discontinuing their use of our therapeutic services. We believe these discontinuances relate primarily to their overall efforts to reduce the costs they bear for therapy-related services within their facilities. As a part of those terminations of service, in a number of cases, we elected to sell terminating clients the equipment that we had utilized for their locations. Within this portion of our business, we have and continue to respond to these historical trends through the expansion of our products and services offerings.

Reimbursement Trends

In our Patient Care segment, we are reimbursed primarily through employer-based plans offered by commercial insurance carriers, Medicare, Medicaid, and the VA. The following is a summary of our payor mix, expressed as an approximate percentage of net revenues for the periods indicated:


	For the Three Months Ended				For the Six Months Ended
	June 30,				June 30,
	2021		2020		2021		2020
Medicare	31.4	%	32.8	%	30.4	%	32.6	%
Medicaid	18.5	%	16.0	%	18.0	%	16.1	%
Commercial Insurance / Managed Care (excluding Medicare and Medicaid Managed Care)	33.7	%	36.2	%	34.6	%	35.6	%
Veterans Administration	9.1	%	8.6	%	9.6	%	9.0	%
Private Pay	7.3	%	6.4	%	7.4	%	6.7	%
Patient Care	100.0	%	100.0	%	100.0	%	100.0	%

Patient Care constituted 84.3% and 83.4% of our net revenues for the three and six months ended June 30, 2021 and 83.9% and 82.6% for the three and six months ended June 30, 2020. Our remaining net revenues were provided by our Products & Services segment which derives its net revenues from commercial transactions with independent O&P providers, healthcare facilities, and other customers. In contrast to net revenues from our Patient Care segment, payment for these products and services are not directly subject to third party reimbursement from health care payors.

The amount of our reimbursement varies based on the nature of the O&P device we fabricate for our patients. Given the particular physical weight and size characteristics, location of injury or amputation, capability for physical activity, and mobility, cosmetic, and other needs of each individual patient, each fabricated prostheses and orthoses is customized for each particular patient. The nature of this customization and the manner by which our claims submissions are reviewed by payors makes our reimbursement process administratively difficult.

To receive reimbursement for our work, we must ensure that our clinical, administrative, and billing personnel receive and verify certain medical and health plan information, record detailed documentation regarding the services we provide, and accurately and timely perform a number of claims submission and related administrative tasks. It is our belief the increased nationwide efforts to reduce health care costs has driven changes in industry trends with increases in payor pre-authorization processes, documentation requirements, pre-payment reviews, and pre- and post-payment audits, and our ability to successfully undertake these tasks using our traditional approach has become increasingly challenging. For example, the Medicare contractor for Pricing, Data Analysis and Coding (referred to as “PDAC”) recently announced verification requirements and code changes that has reduced the reimbursement level for certain prosthetic feet, and the VA is in the process of reassessing the method it uses to determine reimbursement levels for O&P services and products provided under certain miscellaneous codes.

A measure of our effectiveness in securing reimbursement for our services can be found in the degree to which payors ultimately disallow payment of our claims. Payors can deny claims due to their determination that a physician who referred a patient to us did not sufficiently document that a device was medically necessary or clearly establish the ambulatory (or “activity”) level of a patient. Claims can also be denied based on our failure to ensure that a patient was currently eligible under a payor’s health plan, that the plan provides full O&P benefits, that we received prior authorization, or that we filed or appealed the payor’s determination timely, as well as on the basis of our coding, failure by certain classes of patients to pay their portion of a claim, or for various other reasons. If any portion of, or administrative factor within, our claim is found by the payor to be lacking, then the entirety of the claim amount may be denied reimbursement.

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In recent years, we have taken a number of actions to manage payor disallowance trends. These initiatives included: (i) the creation of a central revenue cycle management function; (ii) the implementation of a patient management and electronic health record system; and (iii) the establishment of new clinic-level procedures and training regarding the collection of supporting documentation and the importance of diligence in our claims submission processes.

Payor disallowances is considered an adjustment to the transaction price. Estimated uncollectible amounts due to us by patients are generally considered implicit price concessions and are presented as a reduction of net revenues. These amounts recorded in net revenues within the Patient Care segment for the three and six months ended June 30, 2021 and 2020 are as follows:


	For the Three Months Ended						For the Six Months Ended
	June 30,						June 30,
(dollars in thousands)	2021			2020			2021			2020
Gross charges	$	245,196		$	202,536		$	446,648		$	402,489
Less estimated implicit price concessions arising from:
Payor disallowances		6,802			6,577			11,316			14,651
Patient non-payments		1,607			100			2,863			1,796
Payor disallowances and patient non-payments		8,409			6,677			14,179			16,447
Net revenues	$	236,787		$	195,859		$	432,469		$	386,042

Payor disallowances	$	6,802		$	6,577		$	11,316		$	14,651
Patient non-payments		1,607			100			2,863			1,796
Payor disallowances and patient non-payments	$	8,409		$	6,677		$	14,179		$	16,447

Payor disallowances %		2.8	%		3.2	%		2.5	%		3.6	%
Patient non-payments %		0.6	%		0.1	%		0.7	%		0.5	%
Percent of gross charges		3.4	%		3.3	%		3.2	%		4.1	%

During 2020 and through the second quarter of 2021, we benefited from reductions in claims denials and increases in our rates of collection. This has been due to a variety of factors, including increases in our revenue cycle management staffing and an increased focus on collections and liquidity during a period of reduced business volumes, a possible temporary relaxing of payor review procedures during the COVID-19 pandemic, the benefit of CARES Act funds on the ability of patients to pay their portion of claims and other factors relating to our pre-authorization and documentation procedures for devices. We do not believe this favorable trend will necessarily be sustainable in future periods as the COVID-19 pandemic subsides and patient volumes and resulting revenues increase.

Acquisitions

During 2021, we completed the following acquisitions of O&P clinics, none of which were individually material to our financial position, results of operations, or cash flows:

●

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During 2020, we completed the following acquisitions of O&P clinics, none of which were individually material to our financial position, results of operations, or cash flows:

●

Acquisition-related costs are included in general and administrative expenses in our condensed consolidated statements of operations. Total acquisition-related costs incurred during the three and six months ended June 30, 2021 were $0.4 million and $0.8 million, respectively, which includes those costs for transactions that are in progress or were not completed during the respective period. Acquisition-related costs incurred for the acquisitions completed during the three and six months ended June 30, 2021 were $0.2 million and $0.4 million, respectively. Total acquisition-related costs incurred during the year ended December 31, 2020 were $0.9 million, which includes those costs for transactions that are in progress or not completed during the respective period. Acquisition-related costs incurred for acquisitions completed during the year ended December 31, 2020 were $0.6 million.

New Systems Implementations

During 2019, we commenced the design, planning, and initial implementation of new financial and supply chain systems (“New Systems Implementations”), and planned to invest in new servers and software that operate as a part of our technology infrastructure. As discussed in the “Effects of the COVID-19 Pandemic” section, we elected in 2020 to temporarily delay our New Systems Implementations as part of our efforts to preserve liquidity. We recommenced these activities in the second quarter of 2021.

In connection with our new financial and supply chain systems, for the three and six month period ended June 30, 2021, we have expensed $1.7 million and $2.3 million, respectively, and for the three and six month period ended June 30, 2020, we expensed $0.6 million and $1.5 million, respectively. For the year ended December 31, 2020, we expensed $2.6 million. We currently anticipate that we will spend $5.9 million for the full year 2021 on these systems.

As of June 30, 2021, we capitalized $7.1 million of implementation costs for cloud computing arrangements, net of accumulated amortization, and recorded in other current assets and other assets in the condensed consolidated balance sheet.

Personnel

While we have traditionally been able to recruit and retain adequate staffing to operate and support our business, our ability to support growth is dependent on our ability to add new personnel. Nevertheless, like many other employers, we are currently finding it difficult to recruit and retain personnel in certain positions, including clinic front office administrative, distribution center, and fabrication center positions. Our inability to successfully recruit and maintain staffing levels for these positions could introduce constraints on our ability to achieve our revenue growth objectives in coming quarters. We may find it necessary to increase wages in these areas in coming quarters if we find that we are unable to attract a sufficient number of personnel. Please refer to Part II, Item 1A. “Risk Factors” in this report for further discussion.

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Seasonality

We believe our business is affected by the degree to which patients have otherwise met the deductibles for which they are responsible in their medical plans during the course of the year. The first quarter is normally our lowest relative net revenue quarter, followed by the second and third quarters, which are somewhat higher and consistent with one another. Due to the general fulfillment by patients of their health plan co-payments and deductible requirements towards the year’s end, our fourth quarter is normally our highest revenue producing quarter. However, historical seasonality patterns have been impacted by the COVID-19 pandemic and may not be reflective of our prospective financial results and operations. Please refer to the “Effects of the COVID-19 Pandemic” section for further discussion.

Our results are also affected, to a lesser extent, by our holding of an education fair in the first quarter of each year. This event is conducted to assist our clinicians in maintaining their training and certification requirements and to facilitate a national meeting with our clinical leaders. We also invite manufacturers of the componentry for the devices we fabricate to these annual events so they can demonstrate their products and otherwise assist in our training process. Due to the COVID-19 pandemic, we conducted our first virtual education fair in 2021. During the three months ended March 31, 2021 and 2020 we spent $0.3 million and $2.3 million on travel and other costs associated with this event, respectively. In addition to the costs we incur associated with this annual event, we also lose the productivity of a significant portion of our clinicians during the period in which this event occurs, which contributes to the lower seasonal revenue level we experience during the first quarter of each year.

Critical Accounting Policies

Our analysis and discussion of our financial condition and results of operations is based upon the condensed consolidated financial statements that have been prepared in accordance with GAAP. The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of revenues and expenses during the reporting period. GAAP provides the framework from which to make these estimates, assumptions, and disclosures. We have chosen accounting policies within GAAP that management believes are appropriate to fairly present, in all material respects, our operating results, and financial position. We believe the following accounting policies are critical to understanding our results of operations and the more significant judgments and estimates used in the preparation of our condensed consolidated financial statements:

●

Revenue recognition

●

Accounts receivable, net

●

Inventories

●

Business combinations

●

Goodwill and other intangible assets, net

●

Income taxes

The use of different estimates, assumptions, or judgments could have a material effect on reported amounts of assets, liabilities, revenue, expenses, and related disclosures as of the date of the financial statements and during the reporting period. These critical accounting policies are described in more detail in our 2020 Form 10-K, under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in Note A - “Organization and Summary of Significant Accounting Policies” contained within these condensed consolidated financial statements.

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Results of Operations

Our results of operations for the three months ended June 30, 2021 and 2020 were as follows (unaudited):


	For the Three Months Ended				Percent
	June 30,				Change ⁽¹⁾
(dollars in thousands)	2021		2020		2021 vs 2020
Net revenues	$	280,819	$	233,434	20.3	%
Material costs		89,271		69,972	27.6	%
Personnel costs		97,549		73,822	32.1	%
Other operating costs		32,721		8,277	295.3	%
General and administrative expenses		33,177		33,623	(1.3)	%
Depreciation and amortization		8,007		8,879	(9.8)	%
Operating expenses		260,725		194,573	34.0	%
Income from operations		20,094		38,861	(48.3)	%
Interest expense, net		7,152		8,636	(17.2)	%
Non-service defined benefit plan expense		167		158	5.7	%
Income before income taxes		12,775		30,067	(57.5)	%
Provision (benefit) for income taxes		2,616		(987)	NM
Net income	$	10,159	$	31,054	(67.3)	%

⁽¹⁾ NM - Not Meaningful

During these periods, our operating expenses as a percentage of net revenues were as follows:


	For the Three Months Ended June 30,
	2021		2020
Material costs	31.8	%	30.0	%
Personnel costs	34.7	%	31.6	%
Other operating costs	11.6	%	3.6	%
General and administrative expenses	11.8	%	14.4	%
Depreciation and amortization	2.9	%	3.8	%
Operating expenses	92.8	%	83.4	%

Three Months Ended June 30, 2021 Compared to the Three Months Ended June 30, 2020

Relevance of Second Quarter Results to Comparative and Future Periods. As discussed in “Effects of the COVID-19 Pandemic” above, commencing late in the first quarter of 2020, our revenues and operating results began to be adversely affected by the COVID-19 pandemic, a trend that continued throughout 2020 and into 2021. The effects of this public health emergency on our revenues and earnings, particularly in 2020, impacted the comparison to our historical financial results. As a result, our comparative financial and operational results when viewed as a whole for the periods impacted by the COVID-19 pandemic, including temporary labor and other cost reduction measures largely in place during the second and third quarters of 2020, may not be indicative of future financial and operational performance. Please refer to the “Effects of the COVID-19 Pandemic” section above and the “Financial Condition, Liquidity and Capital Resources” section below for additional forward-looking information concerning our current expectations regarding the effect of the COVID-19 pandemic on our prospective results and financial condition.

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Net revenues. Net revenues for the three months ended June 30, 2021 were $280.8 million, an increase of $47.4 million, or 20.3%, from $233.4 million for the three months ended June 30, 2020. Net revenues by operating segment, after elimination of intersegment activity, were as follows:


	For the Three Months Ended
	June 30,						Percent
(dollars in thousands)	2021		2020		Change		Change
Patient Care	$	236,787	$	195,859	$	40,928	20.9	%
Products & Services		44,032		37,575		6,457	17.2	%
Net revenues	$	280,819	$	233,434	$	47,385	20.3	%

Patient Care net revenues for the three months ended June 30, 2021 were $236.8 million, an increase of $40.9 million, or 20.9%, from $195.9 million for the same period in the prior year. Same clinic revenues increased $34.3 million for the three months ended June 30, 2021 compared to the same period in the prior year, reflecting an increase of 18.2% on a per-day basis. Net revenues from acquired clinics and consolidations increased $6.7 million, and revenues from other services decreased $0.1 million. During the second quarter we estimate that our same clinic net revenues were approximately 96% of the level we reported in the second quarter of 2019, prior to the pandemic. Given this, we are not currently operating at a level that utilizes our capacity at the same levels as we did prior to the pandemic, and this has been a primary contributing factor to the decrease in our earnings and margins when compared to this pre-pandemic period.

Prosthetics constituted approximately 54% of our total Patient Care revenues for the three months ended June 30, 2021 and 61% for the same period in 2020, excluding the impact of acquisitions. Prosthetic revenues for the three months ended June 30, 2021 were 4.3% higher, on a per-day basis, than the same period in the prior year, excluding the impact of acquisitions. Orthotics, shoes, inserts, and other products increased by 40.4% on a per-day basis compared to the same comparative prior periods, excluding the impact of acquisitions. Revenues in the second quarter of 2020, particularly orthotic revenues, were adversely affected due to a decline in patient appointment volumes as a result of the onset of the COVID-19 pandemic, governmental suppression measures implemented in response to the COVID-19 pandemic, and other factors impacting our business volumes discussed in the “Effects of the COVID-19 Pandemic” section.

Products & Services net revenues for the three months ended June 30, 2021 were $44.0 million, an increase of $6.5 million, or 17.2% from the same period in the prior year. This was primarily attributable to an increase of $6.7 million, or 25.4%, in the distribution of O&P componentry to independent providers in the period stemming primarily from lower volumes in the same period of 2020 due to the COVID-19 pandemic, as discussed in the “Effects of the COVID-19 Pandemic” section above. In addition, net revenues from therapeutic solutions decreased $0.3 million, or 2.6%, primarily as a result of historical customer lease cancellations and discounts, partially offset by lease installations.

Material costs. Material costs for the three months ended June 30, 2021 were $89.3 million, an increase of $19.3 million or 27.6%, from the same period in the prior year. Total material costs as a percentage of net revenues increased to 31.8% in the three months ended June 30, 2021 from 30.0% in the three months ended June 30, 2020 primarily due to changes in our Products & Services segment business and product mix. Material costs by operating segment, after elimination of intersegment activity, were as follows:


	For the Three Months Ended
	June 30,						Percent
(dollars in thousands)	2021		2020		Change		Change
Patient Care	$	71,717	$	55,236	$	16,481	29.8	%
Products & Services		17,554		14,736		2,818	19.1	%
Material costs	$	89,271	$	69,972	$	19,299	27.6	%

Patient Care material costs increased $16.5 million, or 29.8%, for the three months ended June 30, 2021 compared to the same period in the prior year as a result of the increase in segment net sales, additional costs as a result of our acquisitions, and changes in the segment product mix. Patient Care material costs as a percent of segment net revenues increased to 30.3% for the three months ended June 30, 2021 from 28.2% for the three months ended June 30, 2020.

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Products & Services material costs increased $2.8 million, or 19.1%, for the three months ended June 30, 2021 compared to the same period in the prior year. As a percent of net revenues in the Products & Services segment, material costs were 39.9% for the three months ended June 30, 2021 as compared to 39.2% in the same period of 2020. The increase in cost of materials as a percent of segment net revenues was primarily due to a change in business volume and product mix within the segment.

Personnel costs. Personnel costs for the three months ended June 30, 2021 were $97.5 million, an increase of $23.7 million, or 32.1%, from $73.8 million for the same period in the prior year. Personnel costs by operating segment were as follows:


	For the Three Months Ended
	June 30,						Percent
(dollars in thousands)	2021		2020		Change		Change
Patient Care	$	83,198	$	63,576	$	19,622	30.9	%
Products & Services		14,351		10,246		4,105	40.1	%
Personnel costs	$	97,549	$	73,822	$	23,727	32.1	%

Personnel costs for the Patient Care segment were $83.2 million for the three months ended June 30, 2021, an increase of $19.6 million, or 30.9%, from $63.6 million in the same period of the prior year. The increase in Patient Care personnel costs during the three months ended June 30, 2021 was primarily related to an increase in salary expense of $20.2 million from the prior period due to the personnel cost reductions implemented as a result of the COVID-19 pandemic during the three months ended June 30, 2020. Additionally, benefits increased $3.0 million, payroll taxes increased $1.4 million, and commissions increased $0.6 million compared to the three months ended June 30, 2020. These increases were offset by a $1.1 million lower vacation accrual and a decrease in variable compensation and other personnel costs of $4.5 million compared to the same period in the prior year.

Personnel costs in the Products & Services segment were $14.4 million for the three months ended June 30, 2021, an increase of $4.1 million compared to the same period in the prior year. The increase is primarily related to an increase in salary expense of $3.9 million due to the personnel cost reductions implemented as a result of the COVID-19 pandemic during the three months ended June 30, 2020. Bonus, commissions, benefits, and other personnel cost increased $0.2 million for the three months ended June 30, 2021 compared to the same period in the prior year.

Other operating costs. Other operating costs for the three months ended June 30, 2021 were $32.7 million, an increase of $24.4 million, or 295.3%, from $8.3 million for the same period in the prior year. Other operating costs increased by $19.2 million, largely due to the benefit associated with the recognition of $20.5 million in proceeds from grants under the CARES Act included in Other operating costs, as discussed in the “Effects of the COVID-19 Pandemic” section, in the three months ended June 30, 2020. Additionally, travel and other expenses increased $4.4 million as a result of cost mitigation efforts in the prior year period, and bad debt expense increased $0.8 million as compared to the same period in the prior year.

General and administrative expenses. General and administrative expenses for the three months ended June 30, 2021 were $33.2 million, a decrease of $0.4 million, or 1.3%, from the same period in the prior year. The decrease is the result of incremental share-based compensation expense of $5.9 million recognized during the comparative period of 2020 due to the modification of certain equity awards granted in 2017, and a $1.8 million decrease in incentive compensation and other personnel-related costs, offset by increases in salary expense of $4.7 million, professional accounting and legal fees of $0.5 million, and other expenses of $2.1 million compared to the three months ended June 30, 2020.

Depreciation and amortization. Depreciation and amortization for the three months ended June 30, 2021 was $8.0 million, a decrease of $0.9 million, or 9.8%, from the same period in the prior year. Amortization expense decreased $0.5 million and depreciation expense decreased $0.4 million when compared to the same period in the prior year.

Interest expense, net. Interest expense for the three months ended June 30, 2021 decreased 17.2% to $7.2 million from $8.6 million for the same period in the prior year.

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Provision (benefit) for income taxes. The provision for income taxes for the three months ended June 30, 2021 was $2.6 million, or 20.5% of income before income taxes, compared to a benefit of $1.0 million, or (3.3)% of income before income taxes for the three months ended June 30, 2020. The effective tax rate for the three months ended June 30, 2021 consisted principally of the 21% federal statutory tax rate, research and development credits, permanent tax differences, and a windfall from share-based compensation. The increase in the effective tax rate for the three months ended June 30, 2021 compared with the three months ended June 30, 2020 is primarily attributable to 2017 through 2019 research and development tax credits recognized in the three months ended June 30, 2020, partially offset by a windfall from share-based compensation for the three months ended June 30, 2021.

We evaluate our deferred tax assets quarterly to determine whether adjustments to the valuation allowance are appropriate in light of changes in facts or circumstances, such as changes in expected future pre-tax earnings, tax law, interactions with taxing authorities, and developments in case law. Our material assumptions include forecasts of future pre-tax earnings and the nature and timing of future deductions and income represented by the deferred tax assets and liabilities, all of which involve the exercise of significant judgment. As of June 30, 2021, our valuation allowance was approximately $2.1 million.

For the year ending December 31, 2021, we estimate a research and development tax credit of $3.0 million, net of tax reserves. We record the tax benefit, net of tax reserves, as a deferred tax asset. For the year ended December 31, 2020, we recognized research and development tax credits of $2.2 million, net of tax reserves, related to 2020, and $6.1 million, net of tax reserves, related to prior years.

Our results of operations for the six months ended June 30, 2021 and 2020 were as follows (unaudited):


	For the Six Months Ended				Percent
	June 30,				Change ⁽¹⁾
(dollars in thousands)	2021		2020		2021 vs 2020
Net revenues	$	518,289	$	467,173	10.9	%
Material costs		164,441		147,213	11.7	%
Personnel costs		187,429		163,007	15.0	%
Other operating costs		64,181		44,163	45.3	%
General and administrative expenses		64,118		65,392	(1.9)	%
Depreciation and amortization		16,005		17,710	(9.6)	%
Operating expenses		496,174		437,485	13.4	%
Income from operations		22,115		29,688	(25.5)	%
Interest expense, net		14,492		16,906	(14.3)	%
Non-service defined benefit plan expense		334		316	5.7	%
Income before income taxes		7,289		12,466	(41.5)	%
Provision (benefit) for income taxes		460		(2,840)	NM
Net income	$	6,829	$	15,306	(55.4)	%

(1)	NM - Not Meaningful

During these periods, our operating expenses as a percentage of net revenues were as follows:


	For the Six Months Ended
	June 30,
	2021		2020
Material costs	31.7	%	31.5	%
Personnel costs	36.2	%	34.9	%
Other operating costs	12.3	%	9.4	%
General and administrative expenses	12.4	%	14.0	%
Depreciation and amortization	3.1	%	3.8	%
Operating expenses	95.7	%	93.6	%

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Six Months Ended June 30, 2021 Compared to the Six Months Ended June 30, 2020

Relevance of Six Months Ended Results to Comparative and Future Periods. As discussed in “Effects of the COVID-19 Pandemic” above, commencing late in the first quarter of 2020, our revenues and operating results began to be adversely affected by the COVID-19 pandemic, a trend that continued throughout 2020 and into 2021. The effects of this public health emergency on our revenues and earnings in the, particularly in 2020, impacted the comparison to our historical financial results. As a result, our comparative financial and operational results when viewed as a whole for the periods impacted by the COVID-19 pandemic, including temporary labor and other cost reduction measures largely in place during the second and third quarters of 2020, may not be indicative of future financial and operational performance. Please refer to the “Effects of the COVID-19 Pandemic” section above and the “Financial Condition, Liquidity and Capital Resources” section below for additional forward-looking information concerning our current expectations regarding the effect of the COVID-19 pandemic on our prospective results and financial condition.

Net revenues. Net revenues for the six months ended June 30, 2021 were $518.3 million, an increase of $51.1 million, or 10.9%, from $467.2 million for the six months ended June 30, 2020. Net revenues by operating segment, after elimination of intersegment activity, were as follows:


	For the Six Months Ended
	June 30,						Percent
(dollars in thousands)	2021		2020		Change		Change
Patient Care	$	432,469	$	386,042	$	46,427	12.0	%
Products & Services		85,820		81,131		4,689	5.8	%
Net revenues	$	518,289	$	467,173	$	51,116	10.9	%

Patient Care net revenues for the six months ended June 30, 2021 were $432.5 million, an increase of $46.4 million, or 12.0%, from $386.0 million for the same period in the prior year. Same clinic revenues increased $31.0 million for the six months ended June 30, 2021 compared to the same period in the prior year, reflecting an increase of 9.9% on a per-day basis. Net revenues from acquired clinics and consolidations increased $15.7 million, and revenues from other services decreased $0.3 million. For the year-to-date, we estimate that our same clinic net revenues were approximately 97% of the level we reported for the first six months of 2019, prior to the pandemic. Given this, we are not currently operating in a manner that utilizes our capacity at the same levels as we did prior to the pandemic, and this has been a primary contributing factor to the decrease in our earnings and margins when compared to that pre-pandemic period.

Prosthetics constituted approximately 53% of our total Patient Care revenues for the six months ended June 30, 2021 and 57% for the same period in 2020, excluding the impact of acquisitions. Prosthetic revenues for the six months ended June 30, 2021 were 2.9% higher, on a per-day basis, than the same period in the prior year, excluding the impact of acquisitions. Orthotics, shoes, inserts, and other products increased by 19.2% on a per-day basis compared to the same comparative prior periods, excluding the impact of acquisitions. Revenues in the second quarter of 2020, particularly orthotic revenues, were adversely affected due to a decline in patient appointment volumes as a result of the onset of the COVID-19 pandemic, governmental suppression measures implemented in response to the COVID-19 pandemic, and other factors impacting our business volumes discussed in the “Effects of the COVID-19 Pandemic” section.

Products & Services net revenues for the six months ended June 30, 2021 were $85.8 million, an increase of $4.7 million, or 5.8% from the same period in the prior year. This was primarily attributable to an increase of $5.7 million, or 9.8%, in the distribution of O&P componentry in the period to independent providers stemming primarily from lower volumes in the same period of 2020 due to the COVID-19 pandemic, as discussed in the “Effects of the COVID-19 Pandemic” section above, and a $1.0 million, or 4.5%, decrease in net revenues from therapeutic solutions primarily as a result of historical customer lease cancellations and discounts, partially offset by lease installations.

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Material costs. Material costs for the six months ended June 30, 2021 were $164.4 million, an increase of $17.2 million or 11.7%, from the same period in the prior year. Total material costs as a percentage of net revenues increased to 31.7% in the six months ended June 30, 2021 from 31.5% in the six months ended June 30, 2020 due to changes in our Products & Services segment business and product mix. Material costs by operating segment, after elimination of intersegment activity, were as follows:


	For the Six Months Ended
	June 30,						Percent
(dollars in thousands)	2021		2020		Change		Change
Patient Care	$	131,639	$	114,913	$	16,726	14.6	%
Products & Services		32,802		32,300		502	1.6	%
Material costs	$	164,441	$	147,213	$	17,228	11.7	%

Patient Care material costs increased $16.7 million, or 14.6%, for the six months ended June 30, 2021 compared to the same period in the prior year as a result of the increase in segment net sales, additional costs as a result of our acquisitions, and changes in the segment product mix. Patient Care material costs as a percent of segment net revenues increased to 30.4% for the six months ended June 30, 2021 from 29.8% for the six months ended June 30, 2020.

Products & Services material costs increased $0.5 million, or 1.6%, for the six months ended June 30, 2021 compared to the same period in the prior year. As a percent of net revenues in the Products & Services segment, material costs were 38.2% for the six months ended June 30, 2021 as compared to 39.8% in the same period of 2020. The decrease in material costs as a percent of segment net revenues was due to a change in business and product mix within the segment, as well as cost savings related to certain supply chain initiatives.

Personnel costs. Personnel costs for the six months ended June 30, 2021 were $187.4 million, an increase of $24.4 million, or 15.0%, from $163.0 million for the same period in the prior year. Personnel costs by operating segment were as follows:


	For the Six Months Ended
	June 30,						Percent
(dollars in thousands)	2021		2020			Change	Change
Patient Care	$	158,952	$	139,921	$	19,031	13.6	%
Products & Services		28,477		23,086		5,391	23.4	%
Personnel costs	$	187,429	$	163,007	$	24,422	15.0	%

Personnel costs for the Patient Care segment were $159.0 million for the six months ended June 30, 2021, an increase of $19.0 million, or 13.6%, from $139.9 million for the same period in the prior year. The increase in Patient Care personnel costs during the six months ended June 30, 2021 was primarily related to an increase in salary expense of $20.0 million from the prior year period due to the personnel cost reductions implemented as a result of the COVID-19 pandemic during the six months ended June 30, 2020. Additionally, benefits increased $3.7 million, payroll taxes increased $1.2 million, and commissions increased $0.4 million compared to the six months ended June 30, 2020. These increases were offset by a $2.0 million lower vacation accrual and a decrease in variable compensation and other personnel costs of $4.3 million compared to the same period in the prior year.

Personnel costs in the Products & Services segment were $28.5 million for the six months ended June 30, 2021, an increase of $5.4 million compared to the same period in the prior year. The increase is primarily related to an increase in salary expense of $4.3 million due to the personnel cost reductions implemented as a result of the COVID-19 pandemic during the six months ended June 30, 2020. Bonus, commissions, and other personnel cost increased $1.1 million for the six months ended June 30, 2021 compared to the same period in the prior year.

Other operating costs. Other operating costs for the six months ended June 30, 2021 were $64.2 million, an increase of $20.0 million, or 45.3%, from $44.2 million for the same period in the prior year. Other operating costs increased by $20.6 million, largely due to the benefit associated with the recognition of $20.5 million in proceeds from grants under the CARES Act included in Other operating costs, as discussed in the “Effects of the COVID-19 Pandemic” section, in the six months ended June 30, 2020. Additionally rent expense increased $0.7 million and travel and other expenses increased $0.1 million, partially offset by a decrease in bad debt expense of $1.4 million, as compared to the same period in the prior year.

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General and administrative expenses. General and administrative expenses for the six months ended June 30, 2021 were $64.1 million, a decrease of $1.3 million, or 1.9%, from the same period in the prior year. The decrease is the result of incremental share-based compensation expense of $5.9 million recognized during the comparative period of 2020 due to the modification of certain equity awards granted in 2017, a decrease in professional accounting and legal fees of $1.0 million, and a decrease in incentive compensation and other personnel-related costs of $0.4 million, offset by increases in salary expense of $4.3 million, and other expenses of $1.7 million compared to the six months ended June 30, 2020.

Depreciation and amortization. Depreciation and amortization for the six months ended June 30, 2021 was $16.0 million, a decrease of $1.7 million, or 9.6%, from the same period in the prior year. Depreciation expense decreased $1.0 million and amortization expense decreased $0.7 million when compared to the same period in the prior year.

Interest expense, net. Interest expense for the six months ended June 30, 2021 decreased 14.3% to $14.5 million from $16.9 million for the same period in the prior year.

Provision (benefit) for income taxes. The provision for income taxes for the six months ended June 30, 2021 was $0.5 million, or 6.3% of income before income taxes, compared to a benefit of $2.8 million, or (22.8)% of income before income taxes for the six months ended June 30, 2020. The effective tax rate for the six months ended June 30, 2021 consisted principally of the 21% federal statutory tax rate, research and development credits, permanent tax differences, and a windfall from share-based compensation. The increase in the effective tax rate for the six months ended June 30, 2021 compared with the six months ended June 30, 2020 is primarily attributable to 2017 through 2019 research and development tax benefits recognized in the six months ended June 30, 2020, partially offset by a windfall from share-based compensation for the six months ended June 30, 2021.

Financial Condition, Liquidity, and Capital Resources

Liquidity

Our cash and cash equivalents, and any amounts we have available for borrowing under our revolving credit facility, are immediately available to provide cash for our operations and capital expenditures. We refer to the sum of these two amounts as our “liquidity.”

At June 30, 2021, we had total liquidity of $171.1 million, which reflected a decrease of $68.3 million from the $239.4 million in liquidity we had as of December 31, 2020. Our liquidity at June 30, 2021 was comprised of cash and cash equivalents of $76.2 million and $94.9 million in available borrowing capacity under our $100.0 million revolving credit facility. This decrease in liquidity primarily related to a decrease in cash of $68.4 million, comprised of net cash used in operations of $9.3 million, cash paid for acquisitions, net of cash acquired, of $35.3 million, capital expenditures of $14.2 million, and net cash used in financing activities of $10.9 million.

Our Credit Agreement contains customary representations and warranties, as well as financial covenants, including that we maintain compliance with certain leverage and interest coverage ratios. If we are not compliant with our debt covenants in any period, absent a waiver or amendment of our Credit Agreement, we may be unable to access funds under our revolving credit facility. Due to the additional borrowings under our revolving credit facility in March 2020, which were repaid in full during the third quarter of 2020, and in anticipation of the potential economic impact of the COVID-19 pandemic, we entered into an amendment to the Credit Agreement that provided for, among other things, increases in the allowable level of indebtedness we may carry relative to our earnings, changes in the definition of EBITDA used to compute certain financial ratios, certain restrictions regarding investments and payments we made until the completion of the first quarter of 2021 and increases in the interest costs associated with borrowings under our revolving credit facility. We were in compliance with our debt covenants as of June 30, 2021.

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For additional information, please refer to the Liquidity Outlook section below.

Working Capital and Days Sales Outstanding

At June 30, 2021, we had working capital of $93.8 million compared to working capital of $129.3 million at December 31, 2020. Our working capital decreased $35.5 million during the six months ended June 30, 2021 due to a decrease in current assets of $60.2 million, partially offset by a decrease in current liabilities of $24.7 million.

The decrease in current assets of $60.2 million was primarily attributable to a decrease in Cash and cash equivalents of $68.4 million discussed in the “Liquidity” section above, and a decrease in Accounts receivable, net of $3.6 million. The decreases were offset by an increase of approximately $7.5 million in Inventories and $4.3 million in Other current assets.

The decrease in current liabilities of $24.7 million was primarily attributable to a net decrease in accrued incentive compensation related costs of $21.3 million, primarily due to the payment of $42.9 million in annual incentive compensation and the employer 401(k) matching contribution made during the first quarter of the year. The remainder of the decrease is primarily attributable to a decrease of $6.7 million in Accounts payable.

Days sales outstanding (“DSO”) is a calculation that approximates the average number of days between the billing for our services and the date of our receipt of payment, which we estimate using a 90-day rolling period of net revenue. This computation can provide a relative measure of the effectiveness of our billing and collections activities. Clinics acquired during the past 90-day period are excluded from the calculation. As of June 30, 2021, our DSO was 40 days, which compares favorably to a DSO of 45 days as of June 30, 2020. The reduction is attributable to improved collections experience due to the targeted efforts of our centralized revenue cycle management function.

Sources and Uses of Cash for the Six Months Ended June 30, 2021 Compared to June 30, 2020

Net cash flows used in operating activities increased $89.4 million to $9.3 million for the six months ended June 30, 2021 from net cash provided by operating activities of $80.1 million for the six months ended June 30, 2020. The most significant increase in cash used in operating activities was due to a $39.6 million increase in cash used in Accounts receivable, net as revenue volumes increased. In addition, in the second quarter of 2020 we recognized approximately $20.5 million in proceeds from the grants received under the CARES Act within Net income. The remaining increase in cash flows used in operations is largely attributable to cash used in the satisfaction of Accounts payable and Accrued expenses and other current liabilities of $12.0 million, and changes in Inventories of $11.0 million.

Cash flows used in investing activities increased $13.5 million to $48.2 million for the six months ended June 30, 2021, from $34.7 million for the six months ended June 30, 2020. The increase in cash used in investing activities was due to an increase of $18.6 million in cash paid for acquisitions, net of cash acquired, partially offset by $4.6 million less in capital expenditures.

Cash flows used in financing activities was $10.9 million for the six months ended June 30, 2021, as compared to cash provided by financing activities of $10.1 million for the six months ended June 30, 2020. The decrease in cash used in financing activities is primarily due to net borrowings of $22.0 million on our revolving credit facility in 2020, offset by the net effect of activities of $1.0 million.

Effect of Indebtedness

On March 6, 2018, we entered into a $605.0 million Credit Agreement, which provides for (i) a revolving credit facility with an initial maximum aggregate amount of availability of $100.0 million that matures in March 2023 and (ii) a $505.0 million Term Loan B facility due in quarterly principal installments commencing June 29, 2018, with all remaining outstanding principal due at maturity in March 2025. For additional discussion surrounding the Credit Agreement, see Note K - “Debt and Other Obligations,” in the notes to the condensed consolidated financial statements contained elsewhere in this report. Cash paid for interest totaled $13.0 million and $15.0 million for the six months ended June 30, 2021 and 2020, respectively.

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In May 2020, we entered into an amendment to the Credit Agreement (the “Amendment”) that provided for, amongst other things, an increase in the maximum Net Leverage Ratio to 5.25 to 1.00 for the fiscal quarter ended March 31, 2021; 5.00 to 1.00 for the fiscal quarters ended June 30, 2021 through September 30, 2021; and 4.75 to 1.00 for the quarter ended December 31, 2021 and the last day of each fiscal quarter thereafter. In addition, the Amendment changed the definition of EBITDA used in the Net Leverage Ratio and minimum interest coverage ratio to adjust for declines in net revenue attributable to the COVID-19 pandemic through the third quarter of 2020. Borrowings under the revolving credit facility will bear interest at a variable rate equal to the greater of LIBOR or 1.00%, plus 3.75%. In addition, the Amendment contained certain restrictions and covenants that further limited our ability, and certain of our subsidiaries’ ability, to consolidate or merge, create liens, incur additional indebtedness, or dispose of assets. During the fourth quarter of 2020, we recommenced our acquisition of O&P providers as we met certain Amendment parameters around leverage and liquidity thresholds.

Scheduled maturities of debt as of June 30, 2021 were as follows:


(in thousands)
2021 (remainder of year)	$	4,955
2022		11,661
2023		11,310
2024		10,697
2025		473,011
Thereafter		2,496
Total debt before unamortized discount and debt issuance costs, net		514,130
Unamortized discount and debt issuance costs, net		(6,628)
Total debt	$	507,502

Liquidity Outlook

Our Credit Agreement has a term loan facility with $488.6 million in principal outstanding at June 30, 2021, due in quarterly principal installments equal to 0.25% of the original aggregate principal amount of $505.0 million, with all remaining outstanding principal due at maturity in March 2025, and, as of June 30, 2021, a revolving credit facility with no borrowings and available borrowing capacity of $94.9 million that matures in March 2023.

Our primary sources of liquidity are cash and cash equivalents, and available borrowings under our revolving credit facility. Due to the economic and social activity impacts outlined in the “Effects of the COVID-19 Pandemic” section above, we expect the continuing disruption to have an unfavorable impact on our operations, financial condition, and results of operations. While the duration and extent of the impact from the COVID-19 pandemic on our operations and liquidity depends on future developments which cannot be predicted with certainty, we believe that our existing sources of liquidity, when combined with our operating cash flows and other measures taken to enhance our liquidity position and cost structure, will continue to allow us to finance our operations for the foreseeable future. Please refer to the “Effects of the COVID-19 Pandemic” section above for additional discussion.

As business volumes return to more typical pre-pandemic levels, it is likely that we will experience a natural corresponding increase in our investment in working capital. Additionally, during 2021, we currently estimate that we will expend $30 million to $35 million for capital expenditures. We also anticipate that we will continue to pursue acquisitions and other growth initiatives that provide value to our shareholders.

With these factors in mind, we continue to anticipate we will generate positive operating cash flows that, together with our retained cash and revolving credit facility, will allow us to invest in acquisitions and other growth opportunities to provide value to our shareholders. From time to time, we may seek additional funding through the issuance of debt or equity securities to provide additional liquidity to fund acquisitions aligned with our strategic priorities and for other general corporate purposes.

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CARES Act

The CARES Act established the Public Health and Social Services Emergency Fund, also referred to as the Cares Act Provider Relief Fund, which set aside $178.0 billion to be administered through grants and other mechanisms to hospitals, public entities, not-for-profit entities and Medicare- and Medicaid-enrolled suppliers and institutional providers. The purpose of these funds is to reimburse providers for lost revenue and health-care related expenses that are attributable to the COVID-19 pandemic. In April 2020, the U.S. Department of Health and Human Services (“HHS”) began making payments to healthcare providers from the $178.0 billion appropriation. These are payments, rather than loans, to healthcare providers, and will not need to be repaid.

During 2020, we recognized a total benefit of $24.0 million in our condensed consolidated statement of operations within Other operating costs Grants from HHS. We recognize income related to grants on a systematic and rational basis when it becomes probable that we have complied with the terms and conditions of the grant and in the period in which the corresponding costs or income related to the grant are recognized. We recognized the benefit from the Grants within Other operating costs in our Patient Care segment. In April 2021, we recognized an additional $0.7 million in proceeds received from grants under the CARES Act.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements that may or could have a current or future material effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our future financial results are subject to a variety of risks, including interest rate risk. Our interest expense is sensitive to changes in market interest rates. To manage the impact of the interest rate risk associated with our Credit Agreement, we enter into interest rate swaps from time to time, effectively converting a portion of the cash flows related to variable-rate debt into fixed-rate cash flows.

As of June 30, 2021, we had a combined principal amount of $488.6 million of variable rate debt under our Term Loan B and revolving credit facility and a notional amount of $287.5 million of fixed to variable interest rate swap agreements. Based on our hedged and unhedged positions, a hypothetical increase in interest rates of 1.0% would impact our annual interest expense by $2.0 million and a decrease in interest rates of 1.0% would impact our annual interest expense by $0.2 million.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) are designed to ensure that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC rules and forms, and that such information is accumulated and communicated to management, including the Chief Executive Officer and the Chief Financial Officer, to allow timely decisions regarding required disclosures.

Management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the design and effectiveness of our disclosure controls and procedures as of June 30, 2021. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of June 30, 2021.

Changes in Internal Control over Financial Reporting

There have been no material changes to our internal controls over financial reporting during the three month period ended June 30, 2021.

Therefore, in accordance with Rule 13a-15(d) of the Exchange Act and with the participation of our Chief Executive Officer and our Chief Financial Officer, management determined there have been no material changes to our internal control over financial reporting during the three month period ended June 30, 2021.

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PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Not applicable.

ITEM 1A. RISK FACTORS

In addition to the other information set forth in this Quarterly Report on Form 10-Q, you should carefully consider the risk factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2020, which could materially affect our business, financial condition or results of operations. We have also identified the following additional risk factors, which supplement those discussed in our Form 10-K and are grouped within the category of “II. Risks Relating to Our Operations and Strategy”:

Our results of operations can be adversely affected by labor shortages, turnover and labor cost increases.

We have from time-to-time experienced labor shortages and other labor-related issues. These labor shortages have become more pronounced as a result of the COVID-19 pandemic. A number of factors may adversely affect the labor force available to us in one or more of our markets, including high employment levels, federal unemployment subsidies, and other government regulations, which include laws and regulations related to workers’ health and safety, wage and hour practices and immigration. These factors can also impact the cost of labor. Increased turnover rates within our employee base can lead to decreased efficiency and increased costs, such as increased overtime to meet demand and increased wage rates to attract and retain employees. An overall labor shortage or lack of skilled labor, increased turnover or labor inflation could have a material adverse effect on our results of operations.

Our results of operations can be adversely affected by inflation and other general cost increases.

We are subject to both contractual, inflationary, and other general cost increases, including with regard to our labor costs and purchases of raw materials and transportation services. General economic conditions may result in higher inflation, which may increase our exposure to higher costs. If we are unable to offset these cost increases by price increases, growth, and/or cost reductions in our operations, these inflationary and other general cost increases could have a material adverse effect on our results of operations.

In 2020, our total company costs including our materials costs, personnel costs, other operating costs, and general & administrative expenses, totaled $894.4 million. A 1% inflationary increase in this amount would increase costs by approximately $8.9 million.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

There has been no share repurchase activity during the three months ended June 30, 2021.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

There have been no defaults upon senior securities during the three months ended June 30, 2021.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

None to report.

ITEM 6. EXHIBITS

The documents in the accompanying Exhibits Index are filed, furnished, or incorporated by reference as part of this report and such Exhibits Index is incorporated herein by reference.

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EXHIBITS INDEX


Exhibit No.		Document
31.1		Written Statement of the Chief Executive Officer Pursuant to Section 302 of the Sarbanes Oxley Act of 2002. (Filed herewith.)
31.2		Written Statement of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes Oxley Act of 2002. (Filed herewith.)
32		Written Statement of the Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes Oxley Act of 2002. (Filed herewith.)
101.INS		XBRL Instance Document. (Filed herewith.)
101.SCH		XBRL Taxonomy Extension Schema. (Filed herewith.)
101.CAL		XBRL Taxonomy Extension Calculation Linkbase. (Filed herewith.)
101.LAB		XBRL Taxonomy Extension Label Linkbase. (Filed herewith.)
101.PRE		XBRL Taxonomy Extension Presentation Linkbase. (Filed herewith.)
101.DEF		XBRL Taxonomy Extension Definition Linkbase. (Filed herewith.)
104		Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101.)

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.


		HANGER, INC.


Dated: August 4, 2021	By:	/s/ THOMAS E. KIRALY
		Thomas E. Kiraly
		Executive Vice President and Chief Financial Officer
		(Principal Financial Officer)

Dated: August 4, 2021	By:	/s/ GABRIELLE B. ADAMS
		Gabrielle B. Adams
		Vice President and Chief Accounting Officer
		(Principal Accounting Officer)