ZYNEX INC - Quarter Report: 2012 June (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON , D.C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended: June 30, 2012

OR

For the transition period from                  to                 

Commission file number 33-26787-D

Zynex, Inc.

(Exact name of registrant as specified in its charter)

(303) 703-4906

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

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  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files).    Yes  x    No  ¨

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

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

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ZYNEX, INC. AND SUBSIDIARIES

INDEX TO FORM 10-Q

PART I – FINANCIAL INFORMATION

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PART I – FINANCIAL INFORMATION

ZYNEX, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES)

See accompanying notes to unaudited condensed consolidated financial statements.

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ZYNEX, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED, AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

See accompanying notes to unaudited condensed consolidated financial statements.

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ZYNEX, INC.

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY

(UNAUDITED, AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)

See accompanying notes to unaudited condensed consolidated financial statements

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ZYNEX, INC.

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY

(UNAUDITED, AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)

See accompanying notes to unaudited condensed consolidated financial statements.

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(1) UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Zynex, Inc. and its wholly-owned subsidiaries, Zynex Medical, Inc. (“ZMI”), Zynex NeuroDiagnostics, Inc. (“ZND”), Zynex Monitoring Solutions Inc. (“ZMS”) and Zynex Europe ApS (“ZEU”) are collectively referred to as the “Company.” The unaudited condensed consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission and accounting principles generally accepted in the United States (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included herein are adequate to make the information presented not misleading. A description of the Company’s accounting policies and other financial information is included in the audited consolidated financial statements as filed with the Securities and Exchange Commission (“SEC”) in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011. Amounts as of December 31, 2011 are derived from those audited consolidated financial statements. These interim condensed consolidated financial statements should be read in conjunction with the annual audited financial statements, accounting policies and notes thereto, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2011, which has previously been filed with the SEC.

In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of the Company as of June 30, 2012 and the results of operations and cash flows for the periods presented. All such adjustments are of a normal recurring nature. The results of operations for the six months ended June 30, 2012 are not necessarily indicative of the results that may be achieved for a full fiscal year and cannot be used to indicate financial performance for the entire year.

(2) SIGNIFICANT ACCOUNTING POLICIES

PRINCIPLES OF CONSOLIDATION

The accompanying unaudited condensed consolidated financial statements include the accounts of the Company’s wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

USE OF ESTIMATES

Preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The most significant management estimates used in the preparation of the accompanying consolidated financial statements are associated with the allowance for contractual adjustments and uncollectible accounts receivable, the reserve for obsolete and damaged inventory, stock-based compensation and income taxes.

REVENUE RECOGNITION, ALLOWANCE FOR CONTRACTUAL ADJUSTMENTS AND COLLECTIBILITY

The Company recognizes revenue when each of the following four conditions are met 1) a contract or sales arrangement exists 2) products have been shipped and title has transferred, or rental services have been rendered; 3) the price of the products or services is fixed or determinable; and 4) collectability is reasonably assured. Accordingly, the Company recognizes revenue, both rental and sales, when products have been delivered to the patient and the patient’s insurance (if the patient has insurance) has been verified. For medical products that are sold from inventories consigned at clinic locations, the Company recognizes revenue when it receives notice that the product has been prescribed and delivered to the patient and the patient’s insurance coverage has been verified or preauthorization has been obtained from the insurance company, when required. Revenue from the rental of products is normally on a month-to-month basis and is recognized ratably over the products’ rental period. Revenue from sales to distributors is recognized when the Company ships its products, which fulfills its order and transfers title. Revenue is reported net, after adjustments for estimated insurance company or governmental agency (collectively “Third-party Payors”) reimbursement deductions. The deductions are known throughout the health care industry as “contractual adjustments” whereby the Third-party Payors unilaterally reduce the amount they reimburse for the Company’s products.

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(2) SIGNIFICANT ACCOUNTING POLICIES (continued)

A significant portion of the Company’s revenues are derived, and the related receivables are due, from Third-party Payors. The nature of these receivables within this industry has typically resulted in long collection cycles. The process of determining what products will be reimbursed by Third-Party Payors and the amounts that they will reimburse is complex and depends on conditions and procedures that vary among providers and may change from time to time. The Company maintains an allowance for contractual adjustments and records additions to the allowance to account for the risk of nonpayment. Contractual adjustments result from reimbursements from Third-party Payors that are less than amounts claimed, where the amount claimed by the Company exceeds the Third-party Payors usual, customary and reasonable reimbursement rate. The Company determines the amount of the allowance, and adjusts it at the end of each reporting period, based on a number of factors, including historical rates of collection, the aging of the receivables, trends in the historical rates of collection and current relationships and experience with the Third-party Payors. If the rates of collection of past-due receivables recorded for previous fiscal periods changes, or if there is a trend in the rates of collection on those receivables, the Company may be required to change the rate at which it provides for additions to the allowance. A change in the rates of the Company’s collections can result from a number of factors, including experience and training of billing personnel, changes in the reimbursement policies or practices of Third-party Payors, or changes in industry rates of reimbursement. Accordingly, changes to the allowance for contractual adjustments, which are recorded in the income statement as a reduction of revenue, have historically fluctuated and may continue to fluctuate significantly from quarter to quarter.

Due to the nature of the industry and the reimbursement environment in which the Company operates, estimates are required to record net revenues and accounts receivable at their net realizable values. Inherent in these estimates is the risk that they will have to be revised or updated as additional information becomes available. Specifically, the complexity of third-party billing arrangements and the uncertainty of reimbursement amounts for certain products or services from Third-party Payors may result in adjustments to amounts originally recorded. Due to continuing changes in the health care industry and third-party reimbursement, it is possible that management’s estimates could change in the near term, which could have an impact on results of operations and cash flows. Any differences between estimated settlements and final determinations are reflected as an increase or a reduction to revenue in the period when such final determinations are known.

The Company frequently receives refund requests from insurance providers relating to specific patients and dates of service. Billing and reimbursement disputes are very common in the Company’s industry. For example, on April 26, 2010, the Company received a refund request from Anthem Blue Cross Blue Shield (“Anthem”) covering the period from October 1, 2008 (the date of the last retrospective audit by Anthem) through March 12, 2010. These requests are sometimes related to a limited number of patients or products; at other times, they include a significant number of refund claims in a single request. The Company reviews and evaluates these requests and determines if any refund request is appropriate. The Company also reviews these refund claims when it is rebilling or pursuing reimbursement from that insurance provider. The Company frequently has significant offsets against such refund requests, and sometimes amounts are due to the Company in excess of the amounts of refunds requested by the insurance providers. Therefore, at the time of receipt of such refund requests, the Company is generally unable to determine if a refund request is valid and should be accrued.

On September 22, 2011, the Company and Anthem reached a settlement resolving all issues, claims and disputes between the parties in the amount of $226 (the “Settlement”). As of June 30, 2012, the Company had an outstanding liability of $42 related to the Settlement.

As of June 30, 2012, the Company believes it has an adequate allowance for contractual adjustments relating to all known insurance disputes and refund requests. However, no assurances can be given with respect to such estimates of reimbursements and offsets or the ultimate outcome of any refund requests.

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(2) SIGNIFICANT ACCOUNTING POLICIES (continued)

In addition to the allowance for contractual adjustments, the Company records an allowance for uncollectible accounts receivable. Uncollectible accounts receivable are primarily a result of the following: non-payment from patients who have been direct billed for co-payments or deductibles, lack of appropriate insurance coverage and disallowances of charges by Third-party Payors. If there is a change to a material insurance provider contract or policy, application by a provider, a decline in the economic condition of providers or a significant turnover of Company billing personnel resulting in diminished collection effectiveness, the estimate of the allowance for uncollectible accounts receivable may not be adequate and may result in an increase in the future.

At June 30, 2012 and December 31, 2011, the allowance for uncollectible accounts receivable is $1,784 and $1,680, respectively.

FAIR VALUE OF FINANCIAL INSTRUMENTS

The Company’s financial instruments at June 30, 2012 include cash, accounts receivable and accounts payable, for which current carrying amounts approximate fair value due to their short-term nature. Financial instruments at June 30, 2012 also include the line of credit and notes payable, the carrying value of which approximates fair value because the interest rates on the outstanding borrowings are at rates that approximate market rates for borrowings with similar terms and average maturities.

INVENTORY

Inventories, which primarily represent finished goods, are valued at the lower of cost (average) or market. Finished goods include products held at the Company’s headquarters and at different locations by health care providers or other third parties for rental or sale to patients. Total (gross) inventories at June 30, 2012 included $5,650 of finished goods, $825 of parts, and $889 of supplies.

The Company monitors inventory for turnover and obsolescence, and records losses for excess and obsolete inventory as appropriate. At June 30, 2012, the Company had an allowance for obsolete and damaged inventory of approximately $810 and an allowance for obsolete and damaged inventory of approximately $686 at December 31, 2011. The Company had $3,190 of open purchase commitments at June 30, 2012.

PROPERTY AND EQUIPMENT

Property and equipment as of June 30, 2012 and December 31, 2011 are as follows:

GOODWILL AND INTANGIBLE ASSETS

Goodwill represents the excess of the purchase price over the fair value of the net assets of the business acquired. Authoritative guidance requires that goodwill be tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis and between annual tests when circumstances indicate

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(2) SIGNIFICANT ACCOUNTING POLICIES (continued)

GOODWILL AND INTANGIBLE ASSETS (continued)

that the recoverability of the carrying amount of goodwill may be in doubt. Application of the goodwill impairment test requires judgment, including the identification of reporting units, assigning assets and liabilities to reporting units, assigning goodwill to reporting units, and determining the fair value. Significant judgments are required to estimate the fair value of a reporting unit including estimating future cash flows, determining appropriate discount rates and other assumptions. The Company adopted Accounting Standards Update (ASU) No. 2011-08, Intangibles-Goodwill and Other (Topic 350) which permits an entity to make a qualitative assessment of whether it is more likely than not that a reporting unit’s fair value is less than its carrying value before applying the more quantitative two-step impairment test. There were no events during the second quarter of 2012 that indicated that an impairment of goodwill exists.

Intangible assets with estimable lives are amortized in a pattern consistent with the asset’s identifiable cash flows or using a straight-line method over their remaining estimated benefit periods if the pattern of cash flows is not estimable. The Company reviews the carrying value of intangible and other long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of long-lived assets is measured by comparison of their carrying amounts to the undiscounted cash flows that the asset or asset group is expected to generate. If the carrying amount of the assets exceeds the undiscounted cash flows the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds its fair value.

On March 9, 2012, the Company acquired the assets and assumed certain liabilities of NeuroDyne Medical Corp. (“NeuroDyne”) for approximately $538 (Note 3). At June 30, 2012, intangible assets consist of the following:

(3) BUSINESS ACQUISITION

On March 9, 2012, ZND entered into an asset purchase agreement and simultaneously closed with NeuroDyne to acquire substantially all of NeuroDyne’s assets for the sum of $303 payable at closing ($145 in cash and 266,478 shares of restricted common stock valued at $158), and an additional $100 in cash paid sixty days from the close date (the “Transaction”). In addition, the transaction also provides for additional contingent consideration, based on a declining percentage of net revenue (ranging from 10% to 0.5%) generated by NeuroDyne products over the next seven years. The potential undiscounted amount of all future payments that the Company could be required to make under the contingent consideration arrangement is between $0 and $344. The fair value of the contingent consideration arrangement was estimated to be $135 at the acquisition date using a discounted cash flow model. Key assumptions include a discount rate of 24% and a range of NeuroDyne net revenues of between $210 and $3,500 per year. The acquisition was accounted for under the acquisition method of accounting. In accordance with authoritative guidance for business combinations, the contingent consideration is considered to be a liability and accordingly will be subject to further valuation and re-measurement at interim reporting dates with any changes recognized in earnings (Note 6).

NeuroDyne is a manufacturer of advanced medical devices for non-invasive measurement of surface electromyography (“sEMG”) and autonomic nervous systems. The devices are used for evaluation and treatment of neurological and neuromuscular disorders as well as education and research. NeuroDyne’s products include medical instruments, sensors, disposable electrodes and software. The products are sold world wide and are used by healthcare providers, educators and researchers. ZND intends to utilize NeuroDyne’s distribution network for the already developed products within NeuroDyne, subject to the U.S. Food and Drug Administration (“FDA”) regulation, and NeuroDyne sales channels to more rapidly penetrate the neurodiagnostics market.

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(3) BUSINESS ACQUISITION (continued)

Allocation of the purchase price was made by the Company among the specific assets and liabilities acquired, as well as among goodwill and other intangible assets identified as acquired by the Company. The goodwill of $251 arising from the acquisition consists largely of the synergies and economies of scale expected from combining the operations of NeuroDyne and the Company. All of the goodwill was assigned to the Company’s acquiring segment, ZND. Goodwill is expected to be deductible for tax purposes.

The estimated fair values allocated to the assets and liabilities acquired at the date of the acquisition were as follows:

Results of operations of NeuroDyne for the period from acquisition through June 30, 2012 are insignificant. Pro forma disclosure of the results of operations as though the Company and NeuroDyne had combined at January 1, 2012 and 2011 is not presented as this information would not be materially different from the information on the statements of operations as it is currently presented.

(4) EARNINGS PER SHARE

Basic earnings per share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding and the number of dilutive potential common share equivalents during the period, calculated using the treasury-stock method.

The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2012 and 2011 is as follows:

Potential common share equivalents as of June 30, 2012 and June 30, 2011 of 1,041,000 and 1,120,500, respectively, related to certain outstanding stock options were not included in the computation of diluted earnings per share because the effect would have been anti-dilutive, as the option exercise prices exceeded the average market price of the Company’s common stock. The effect of these shares, if any, on the diluted earnings per share calculation may vary significantly depending on fluctuations in the stock price.

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(5) STOCK-BASED COMPENSATION PLANS

The Company has reserved 3,000,000 shares of common stock for issuance under its 2005 Stock Option Plan (the “Option Plan”). Vesting provisions are determined by the Board of Directors. All stock options under the Option Plan expire no later than ten years from the date of grant.

In the three months ended June 30, 2012 and 2011, the Company recorded compensation expense related to stock options of $44 and $68, respectively. In the six months ended June 30, 2012 and 2011, the Company recorded compensation expense related to stock options of $90 and $146, respectively. Stock-based compensation recorded in the accompanying condensed consolidated statement of operations for the three months ended June 30, 2012 and 2011 included $6 and $6, respectively, in cost of goods sold and $38 and $62, respectively, in selling, general and administrative expenses. Stock-based compensation recorded in the accompanying condensed consolidated statement of operations for the six months ended June 30, 2012 and 2011 included $13 and $15, respectively, in cost of goods sold and $77 and $131, respectively, in selling, general and administrative expenses.

In the six months ended June 30, 2012, the Company did not grant options to employees to purchase shares of common stock. In the six months ended June 30, 2011, the Company granted options to purchase up to 173,500 shares of common stock to employees at exercise prices that ranged from $0.62 to $1.06 per share.

The Company used the Black Scholes option pricing model to determine the fair value of stock option grants, using the following assumptions during the six months ended June 30, 2011:

The weighted average expected term of stock options represents the period of time that the stock options granted are expected to be outstanding based on historical exercise trends. The weighted average expected volatility is based on the historical price volatility of the Company’s common stock. The weighted average risk-free interest rate represents the U.S. Treasury bill rate for the expected term of the related stock options. The dividend yield represents the Company’s anticipated cash dividend over the expected term of the stock options. Forfeitures of share-based payment awards are estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The estimated average forfeiture rate for the six months ended June 30, 2012 and 2011 was 33% and 35%, respectively.

A summary of stock option activity under the Option Plan for the six months ended June 30, 2012 is presented below:

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(5) STOCK-BASED COMPENSATION PLANS (continued)

A summary of status of the Company’s non-vested share awards as of and for the six months ended June 30, 2012 is presented below:

As of June 30, 2012, the Company had approximately $221 of unrecognized compensation expense related to stock options that will be recognized over a weighted-average period of approximately 1.9 years.

(6) FAIR VALUE MEASUREMENTS

The Company measures certain assets and liabilities pursuant to accounting guidance which establishes a three-tier fair value hierarchy and prioritizes the inputs used in measuring fair value. Theses tiers include:

The following table presents information about the Company’s financial assets and liabilities that are measured at fair value on a recurring basis as of June 30, 2012, and indicates the fair value hierarchy of the valuation techniques the Company utilized to determine such fair value:

The fair value of the contingent consideration was determined using a discounted cash flow model at the acquisition date and is revalued at each reporting date or more frequently if circumstances dictate based on changes in the discount periods and rates, changes in the timing and amount of the revenue estimates and changes in probability assumptions with respect to the likelihood of achieving the obligations. The changes in the fair value of this obligation and the accretion expense related to the increase in the net present value of the contingent liabilities was $6 for the three and six months ended June 30, 2012. The Company did not have any Level 3 liabilities at June 30, 2011. Level 3 liabilities increased by $6 and $135, respectively during the three and six months ended June 30, 2012. No contingent payments were made during the period.

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(7) INCOME TAXES

The provision for income taxes is recorded at the end of each interim period based on the Company’s best estimate of its effective income tax rate expected to be applicable for the full fiscal year. The Company’s income tax expense for the six months ended June 30, 2012 was partially offset by a state income tax refund, which resulted in a lower effective tax rate for the period. The Company’s effective income tax rate for the six months ended June 30, 2012 was 36%. The Company paid income taxes of $365 during the first six months of 2012, which was included in income taxes payable at December 31, 2011. Included in income tax payable at June 30, 2012 (recorded December 2010) was $257 of penalties and interest from 2010. The Company received notice during the three months ended June 30, 2012 that such penalties and interest would not be abated. The Company paid the full amount of penalties and interest in July 2012.

(8) LINE OF CREDIT

On December 19, 2011, the Company entered into a Loan and Security Agreement (the “Doral Agreement”) with Doral Healthcare Finance, a division of Doral Money, Inc. The Doral Agreement provides for an asset-backed revolving credit facility of up to $7,000, subject to reserves and reductions to the extent of changes in the Company’s asset borrowing base. Borrowings under the Doral Agreement bear interest at a variable rate equal to the greater of (i) the British Bankers’ Association LIBOR rate as published in The Wall Street Journal for dollar deposits in the amount of $1,000 with a maturity of one month or (ii) 3% per annum, plus, in each case, a margin of 3.75%. The Doral Agreement will mature on December 19, 2014. The Company may terminate the Doral Agreement at any time prior to the maturity date upon thirty (30) days’ prior written notice and upon payment in full of all outstanding obligations under the Doral Agreement. If the Company terminates the Doral Agreement after December 19, 2012 but before the maturity date, the Company must pay a specified early termination fee. As of June 30, 2012, $5,201 was outstanding under the Doral Agreement and $1,757 was available for borrowing.

As of June 30, 2012, the effective interest rate under the Doral Agreement was 9% (7% interest rate and 2% fees).

The Doral Agreement contains certain customary restrictive and financial covenants for asset-backed credit facilities. As of June 30, 2012, the Company was in compliance with the financial covenants under the Doral Agreement.

(9) CONCENTRATIONS

The Company sourced approximately 15% of its electrotherapy products from one contract manufacturer in the six months ended

June 30, 2012. Management believes that its relationships with suppliers are strong; however, if necessary these relationships can be replaced. If the relationships were to be replaced, there may be a short-term disruption to operations, a period of time in which products may not be available and additional expenses may be incurred.

The Company had receivables from a private health insurance carrier at June 30, 2012 that made up approximately 29% of the net accounts receivable balance. The same private health insurance carrier made up approximately 30% of net accounts receivable at December 31, 2011.

(10) LITIGATION

A lawsuit was filed against the Company, its President and Chief Executive Officer and its former Chief Financial Officer on April 6, 2009, in the United States District Court for the District of Colorado (Marjorie and David Mishkin v. Zynex, Inc. et al.). On April 9 and 10, 2009, two other lawsuits were filed in the same court against the same defendants. These lawsuits alleged substantially the same matters and have been consolidated. On April 19, 2010, plaintiffs filed a Consolidated Class Action Complaint (Civil Action No. 09-cv-00780-REB-KLM). The consolidated lawsuit refers to the April 1, 2009 announcement by the Company that it would restate its unaudited interim financial statements for the first three quarters of 2008. The lawsuit purports to be a class action on behalf of purchasers of the Company’s securities between May 21, 2008 and June 30, 2009. The lawsuit alleges, among other things, that the defendants violated Section 10 and Rule 10b-5 of the Securities Exchange Act of 1934 by making intentionally or recklessly untrue statements of material fact and/or failing to disclose material facts regarding the financial results and

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(10) LITIGATION (continued)

operating conditions for the first three quarters of 2008 and other misleading statements. The plaintiffs ask for a determination of class action status, unspecified damages and costs of the legal action. On May 17, 2010, the Company filed a Motion to Dismiss. The plaintiffs filed an Opposition to Defendant’s Motion to Dismiss, and on July 5, 2010, the Company filed a Reply in Support of Defendant’s Motion to Dismiss. On March 30, 2011, the United States District Court of Colorado entered an Order denying the Company’s motion to dismiss. On November 8, 2011, the parties entered into an agreement to settle the lawsuit for a payment of $2.5 million to the plaintiff class in exchange for the dismissal with prejudice of all claims against all defendants in the litigation. The settlement is expected to be fully funded by insurance and is subject to final approval of the court. The final approval hearing is currently scheduled for September 14, 2012.

Litigation is subject to inherent uncertainties, and if an unfavorable resolution of these matters occurs beyond the amount accrued, the Company’s business, results of operations, and financial condition could be adversely affected.

On July 28, 2011, a stockholder derivative suit was filed in the United States District Court for the District of Colorado against the Company’s President and Chief Executive Officer, its former Chief Financial Officer and certain of its directors (Stephen Hatch, derivatively, on behalf of Zynex Inc. v. Thomas Sandgaard et. al., 11-CV-01964). The lawsuit alleges breach of fiduciary duty by the Company’s officers and directors in connection with the restatement of the Company’s unaudited interim financial statements for the first three quarters of 2008. The plaintiff is seeking, on behalf of the Company, an undisclosed amount of damages and equitable relief. On October 11, 2011, the Company and the individual defendants filed a motion to dismiss, which is currently pending before the District Court. On October 18, 2011, certain individual defendants filed a motion requesting the plaintiff to post a security bond pursuant to Nevada law.

On March 15, 2012, the parties reached an agreement in principle to settle the stockholder derivative suit. Under the terms of the settlement, the Company will implement certain corporate governance reforms, the claims asserted in the lawsuit will be released, and the lawsuit will be dismissed with prejudice. The Company and its directors’ and officers’ liability insurer have agreed to pay up to $95 ($15 from the Company and $80 from the Company’s director and officer insurer) to plaintiff’s counsel for their attorneys’ fees. On June 27, 2012, the Court approved the settlement, and the lawsuit was dismissed. As of June 30, 2012, the Company accrued $15 relating to this litigation.

The Company is not a party to any other material pending legal proceedings.

(11) SEGMENT REPORTING

At June 30, 2012, the Company has determined that its subsidiaries, ZMI, ZND and ZMS each represent reporting segments. This determination was made based on the nature of the products and services offered to customers or the nature of the function in the organization. The accounting policies for each of these segments are the same as those described in Note 2, and inter-segment transactions are eliminated. Net revenue was primarily generated from sales in the United States.

Zynex Medical (ZMI):

ZMI designs, manufactures and markets FDA cleared medical devices that treat chronic and acute pain, as well as activate and exercise muscles for rehabilitative purposes with electrical stimulation. ZMI devices are intended for pain management to reduce reliance on drugs and medications and provide rehabilitation and increased mobility through the utilization of non-invasive muscle stimulation, electromyography technology, interferential current (“IF”), neuromuscular electrical stimulation (“NMES”) and transcutaneous electrical nerve stimulation (“TENS”). ZMI products require a physician’s prescription, authorization or order before they can be dispensed in the U.S. ZMI considers the physician’s prescription as an “order”, and it is on this basis that product is provided to the patient and ZMI either bills the patient directly, bills the patient’s private insurance or bills Medicare or Medicaid for payment.

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ZYNEX, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(AMOUNTS IN THOUSANDS, EXCEPT NUMBER OF SHARES AND PER SHARE DATA)

THREE AND SIX MONTH PERIODS ENDED JUNE 30, 2012 AND 2011

(11) SEGMENT REPORTING (continued)

Zynex NeuroDiagnostics (ZND):

ZND was formed to market, through product development and acquisitions, EMG, EEG, sleep pattern, auditory and nerve conductivity neurological diagnosis devices to hospitals and clinics worldwide, through the utilization of existing ZMI diagnostic EMG technology. As described in Note 3, on March 9, 2012, ZND acquired NeuroDyne. NeuroDyne is a manufacturer of advanced medical devices for non-invasive measurement of sEMG and autonomic nervous systems.

Zynex Monitoring Solutions (ZMS):

ZMS was formed to develop and market medical devices for non-invasive cardiac monitoring. ZMS activities to date represent research and product development, specifically related to a non-invasive blood volume monitor. The blood volume monitor is a non-invasive medical device for monitoring central blood volume that would be used in operating and recovery rooms to detect blood loss during surgery and internal bleeding during recovery.

The tables below summarize information about reported segments for the three and six months ended June 30, 2012 and 2011.

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Special Cautionary Notice Regarding Forward-Looking Statements

This quarterly report contains statements that are forward-looking, such as statements relating to plans for future expansion and other business development activities, as well as the impact of reimbursement trends, other capital spending and financing sources. Such forward-looking information involves important risks and uncertainties that could significantly affect anticipated results in the future and, accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company. These risks include the need for additional capital in order to grow our business, our ability to engage additional sales representatives, the need to obtain Federal Drug and Administration (“FDA”) clearance and Certificate European (“CE”) marking of new products, the acceptance of new products as well as existing products by doctors and hospitals, our dependence on the reimbursement from insurance companies for products sold or rented to our customers, acceptance of our products by health insurance providers for reimbursement, larger competitors with greater financial resources, the need to keep pace with technological changes, our dependence on third-party manufacturers to produce our goods on time and to our specifications, implementation of our sales strategy including a strong direct sales force, the uncertain outcome of pending material litigation and other risks described herein, in our Annual Report on Form 10-K for the year ended December 31, 2011 and our Quarterly Report on Form 10-Q for the quarter ended March 31, 2012.

These interim financial statements should be read in conjunction with the annual audited financial statements, accounting policies and financial notes thereto, included in the Company’s 2011 Annual Report on Form 10-K, which has previously been filed with the Securities and Exchange Commission.

The Company currently has four wholly-owned subsidiaries; Zynex Medical, Inc. (ZMI), Zynex NeuroDiagnostics, Inc. (ZND), Zynex Monitoring Solutions Inc. (ZMS) and Zynex Europe ApS (ZEU) (established in 2012). ZMI represents the majority of the Company’s revenue. ZND and ZEU had insignificant revenues and ZMS did not produce any revenues for the three and six months ended June 30, 2012.

RESULTS OF OPERATIONS (Amounts in thousands):

Revenue

Our products may be rented on a monthly basis or purchased. Renters and purchasers are primarily patients and healthcare insurance providers on behalf of patients. Our products may also be purchased by dealers. If a patient is covered by health insurance, the third-party payor typically determines whether the patient will rent or purchase a unit depending on the anticipated time period for its use. If contractually arranged, a rental continues until an amount equal to the purchase price is paid when we transfer ownership of the product to the patient and cease rental charges. We also sell consumable supplies, consisting primarily of surface electrodes and batteries that are used in conjunction with our electrotherapy products.

Revenue is reported net, after adjustments for estimated insurance company reimbursement deductions. The deductions are known throughout the health care industry as “contractual adjustments” whereby the healthcare insurers unilaterally reduce the amount they reimburse for our products as compared to the rental rates and sales prices charged by us. The deductions from gross revenue also take into account the estimated denials of claims for our products placed with patients which may affect collectability. See Note 2 to the Unaudited Condensed Consolidated Financial Statements in this quarterly report for a more complete explanation of our revenue recognition policies.

On January 16, 2009, the United States Department of Health and Human Services (“HHS”) released the final rule mandating that everyone covered by HIPAA must implement ICD-10 (International Classification of Diseases, 10th Edition) for medical reimbursement coding of insurance claims by October 1, 2013. ICD-10 codes contain significantly more information than the ICD-9 codes previously used for medical coding and requires covered entities, including the Company, to code with much greater detail and specificity than ICD-9 codes. In a related final rule released the same day, HHS mandated that the HIPAA transaction standards required by HIPAA for all electronic health care claims must switch to Version 5010 from Version 4010/4010A on April 1, 2012. HHS adopted version 5010 to replace the current standards that covered entities must use when conducting claims submissions and other electronic transactions covered by HIPAA. The transition to Version 5010, which began late in 2011, has resulted in several providers, including us, having a more difficult time receiving

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payment from Third-party Payors. During the first six months of 2012, we experienced a decline in our cash collections due to this issue. We have identified and are closely monitoring claims submitted under Version 5010. No assurance can be given that our claims will be paid in a timely manner or at all. As of June 30, 2012, we have recorded adjustments to our net revenue to account for the Version 5010 issue but those adjustments may prove to be inadequate. Depending on how and whether the industry rectifies the Version 5010 issue and the ultimate outcome of our claims submitted under Version 5010, our net revenue and cash collections may continue to be adversely impacted in future periods.

Total Net Revenue (Rental and Sale).

Total net revenue increased $1,631, or 19%, to $10,026 for the three months ended June 30, 2012, from $8,395 for the three months ended June 30, 2011. Total net revenue increased $3,942 or 26% to $18,970 for the six months ended June 30, 2012, from $15,028 for the six months ended June 30, 2011.

The increase was due primarily to a 42% and 47% increase in prescriptions (orders) for our electrotherapy products, for the respective three and six month periods in 2012 as compared to the same period in 2011, and a 29% and 35% increase in our recurring consumable supplies (surface electrodes and batteries) for the three and six months ended June 30, 2012, respectively, as compared to the same periods in 2011. The overall increase in total net revenue for the three and six months ended June 30, 2012 was partially offset by adjustments made to account for reimbursement trends and specific provisions for the Version 5010 industry transition. The increased orders are directly related to our continued addition of industry-experienced sales representatives, which benefit us by serving markets that we had not yet penetrated and providing greater awareness of our products to end users and physicians. As of June 30, 2012, we had over 200 field sales representatives versus just over 175 field sales representatives as of June 30, 2011. The increased sales of consumable supplies are directly related to the increased number of products currently in the market.

We believe the incremental addition of industry-experienced sales representatives allowed us to increase our market presence and increase orders during the first three and six months of 2012. Orders for our products lead to (1) rental income, which we anticipate receiving on a recurring basis over the time patients use our products, (2) direct sales of our products, and (3) corresponding recurring sales of electrodes and other supplies for our products, all of which are subject to our ability to collect payment due to contractual adjustments by insurers. Our products are subject to reimbursement policies of Third-party Payors, which we may not be able to determine with any certainty. These Third-party Payor policies typically dictate whether our products will be purchased or rented. Therefore, our revenue mix of net rental and net sales revenue may fluctuate from time to time and may not be an indicator of the overall demand for our products. We are unable to determine if the reimbursement policy trend towards purchasing rather than renting our products will continue or change in the future, as it is based on many market and Third-party Payor factors. However, we believe that based on the current demand for our products, a change in reimbursement policy will not have a significant impact on our total revenue, as we believe it will only shift our revenue mix. Shifts in our revenue mix may also have a material impact on our overall gross margin, as product sales result in a lower gross profit because their cost of sales is higher than that from rentals (cost of sales associated with rentals is primarily depreciation).

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Net Rental Revenue

Net Rental Revenue decreased $10, or less than 1%, to $2,437 for the three months ended June 30, 2012, from $2,447 for the three months ended June 30, 2011. Net Rental Revenue decreased $396 or 8% to $4,499 for the six months ended June 30, 2012, from $4,895 for the six months ended June 30, 2011.

Net Rental Revenue for the three and six months ended June 30, 2012 represented 24% of total net revenue compared to 29% and 33%, respectively, for the three and six months ended June 30, 2011. The decrease in net rental revenue for the three and six months ended June 30, 2012 is primarily due to the continued shift in our revenue mix (from rentals to direct purchase) and adjustments made to account for reimbursement trends and specific provisions for the Version 5010 industry transition.

Net Sales Revenue

Net Sales Revenue increased $1,641, or 28% to $7,589 for the three months ended June 30, 2012, from $5,948 for the three months ended June 30, 2011. Net Sales Revenue increased $4,338 or 43% to $14,471 for the six months ended June 30, 2012, from $10,133 for the six months ended June 30, 2011.

Net Sales Revenue for the three and six months ended June 30, 2012 represented 76% of total net revenue compared to 71% and 67%, respectively, for the three and six months ended June 30, 2011. Net Sales Revenue is comprised of two primary components: sales of electrotherapy devices and private-labeled distributed products, representing 36% and 35%, respectively, of total net revenue for the three and six months ended June 30, 2012, and sales of recurring device consumables (batteries and electrodes), representing 40% and 41%, respectively, of total net revenue for the three and six months ended June 30, 2012. This compares to the sale of electrotherapy devices and private-labeled distributed products representing 34% and 29%, respectively of total net revenue for the three and six months ended June 30, 2012 and sale of device consumables representing 37% and 38%, respectively, of total net revenue for the three and six months ended June 30, 2012. The increase in Net Sales Revenue for the three and six months ended June 30, 2012 was primarily due to a 42% and 47%, respectively, increase in orders over the same three and six month periods in 2011, the current change in third-party payor reimbursement trends, in favor of purchasing products rather than renting them, and the increased number of units in the market (previously sold or actively being rented). These additional units in the market resulted in a 29% and 35%, respectively, increase of sales of our recurring consumable supplies over the comparable three and six month periods in 2011. The increase in net sales revenue was partially offset by adjustments made to account for reimbursement trends and specific provisions for the Version 5010 industry transition.

Gross Profit

Total gross profit for the three months ended June 30, 2012 was $8,240 (or 82% of total net revenue) compared to $6,668 (or 79% of total net revenue) in the three months ended June 30, 2011. Total gross profit for the six months ended June 30, 2012 was $15,371 (or 81% of total net revenue) compared to $11,857 (or 79% of total net revenue) in the six months ended June 30, 2011.

Total gross profit percentage for the three and six months ended June 30, 2012 increased 3% and 2%, respectively, over the three and six months ended June 30, 2011. The increase in our total gross profit percentage for the three and six months ended June 30, 2012 was primarily due to the increase in total net revenue and change in revenue mix. During the three and six months ended June 30, 2012, we experienced a 19% and 26%, respectively, increase in total net revenue over the comparable three and six month periods in 2011. The total net revenue increase for the periods positively impacted our gross profit percentage, as we had incremental net revenue that exceeded fixed costs in manufacturing. Our revenue mix for the three months ended June 30, 2012 consisted of 24% product rentals, 36% product sales and 40% consumable supplies as compared to 29% product rentals, 34% product sales and 37% consumable supplies in the 2011 period. Our revenue mix for the six months ended June 30, 2012 consisted of 24% product rentals, 35% product sales and 41% consumable supplies as compared to 33% product rentals, 29% product sales and 38% consumable supplies in the 2011 period. Our revenue mix for the first three and six months of 2012 positively impacted our gross margins, as we experienced an increase in sales of consumable supplies, which typically yield a higher gross profit margin, and our product sales included a large portion of our next generation TENS unit, the NexWave (introduced late in 2011), which carries a lower material cost than our previous generation TENS devices.

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Selling, General and Administrative (“SG&A”)

Total SG&A expenses increased $1,539, or 27%, to $7,308 for the three months ended June 30, 2012 from $5,769 for the three months ended June 30, 2011. Total SG&A expenses increased $2,856, or 26%, to $13,953 for the six months ended June 30, 2012 from $11,097 for the six months ended June 30, 2011.

A summary of expenses by department for the three and six months ended June 30, 2012 and 2011 is provided below: