<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2000
---------------------------------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
------------------------ -------------------
Commission file number 1-10670
-------------------
HANGER ORTHOPEDIC GROUP, INC.
-------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 84-0904275
-------------------------------------------------------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
Two Bethesda Metro Center, Suite 1200, Bethesda, MD 20814
--------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
(301) 986-0701
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
Former name, former address and former fiscal year, if changed since last
report.
Indicate by check 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 .
--------------- ---------------
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares
outstanding of each of the issuer's classes of common stock, as of November 1,
2000; 18,910,002 shares of common stock, $.01 par value per share.
<PAGE> 2
HANGER ORTHOPEDIC GROUP, INC.
INDEX
Page No.
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets - September 30, 2000
(unaudited) and December 31, 1999 1
Consolidated Statements of Income for the three
months ended September 30, 2000 and 1999 (unaudited) 3
Consolidated Statements of Income for the nine
months ended September 30, 2000 and 1999 (unaudited) 4
Consolidated Statements of Cash Flows for the nine
months ended September 30, 2000 and 1999 (unaudited) 5
Notes to Consolidated Financial Statements (unaudited) 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 15
Item 3. Quantitative and Qualitative Disclosures About Market Risk 24
Part II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 25
SIGNATURES 26
<PAGE> 3
HANGER ORTHOPEDIC GROUP, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars In Thousands, Except Shares and Per Share Amounts)
<TABLE>
<CAPTION>
September 30, December 31,
2000 1999
----- ----
(unaudited)
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 7,828 $ 5,735
Accounts receivable less allowances for
Doubtful accounts of $16,569 and $17,866
in 2000 and 1999, respectively 119,443 103,125
Inventories 69,889 59,915
Prepaid expenses and other assets 10,474 8,866
Deferred income taxes 11,411 11,778
-------- --------
Total current assets 219,045 189,419
-------- --------
PROPERTY, PLANT AND EQUIPMENT
Land 4,177 4,177
Buildings 8,898 8,886
Machinery and equipment 30,278 26,677
Furniture and fixtures 9,820 8,629
Leasehold improvements 16,255 13,004
-------- --------
69,428 61,373
Less accumulated depreciation and amortization 22,302 15,269
-------- --------
47,126 46,104
-------- --------
INTANGIBLE ASSETS
Excess of cost over net assets acquired 482,022 498,612
Non-compete agreements 1,570 2,019
Patents 9,734 9,768
Assembled Work Force 7,000 7,000
Other intangible assets 17,014 15,833
-------- --------
517,340 533,232
Less accumulated amortization 31,755 20,412
-------- --------
485,585 512,820
-------- --------
OTHER ASSETS
Other 1,560 1,738
-------- --------
TOTAL ASSETS $753,316 $750,081
======== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
1
<PAGE> 4
HANGER ORTHOPEDIC GROUP, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars In Thousands, Except Shares and Per Share Amounts)
<TABLE>
<CAPTION>
September 30, December 31,
2000 1999
---- ----
(unaudited)
<S> <C> <C>
LIABILITIES, REDEEMABLE PREFERRED STOCK AND
SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Current portion of long-term debt $ 29,848 $ 25,406
Accounts payable 16,412 16,714
Accrued expenses 8,152 5,445
Accrued interest payable 12,063 4,768
Accrued compensation related cost 15,636 18,658
Deferred revenue 174 ---
---------- ---------
Total current liabilities 82,285 70,991
---------- ---------
Long-term debt 416,220 426,211
Deferred income taxes 13,481 13,481
Other liabilities 3,352 5,141
7% Redeemable Convertible Preferred Stock,
liquidation preference of $1,000 per share 64,904 61,343
SHAREHOLDERS' EQUITY
Common stock, $.01 par value; 60,000,000 shares
authorized, 19,043,497 and 19,043,497 shares
issued, and 18,910,002 and 18,910,002 shares
outstanding in 2000 and 1999 190 190
Additional paid-in capital 146,498 146,498
Retained earnings 27,042 26,882
---------- ---------
173,730 173,570
Treasury stock, at cost (133,495 shares) (656) (656)
---------- ---------
173,074 172,914
---------- ---------
TOTAL LIABILITIES, REDEEMABLE PREFERRED STOCK AND SHAREHOLDERS' EQUITY $ 753,316 $750,081
========== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
2
<PAGE> 5
HANGER ORTHOPEDIC GROUP, INC.
CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED September 30, 2000 and 1999
(Dollars In Thousands, Except Shares and Per Share Amounts)
(unaudited)
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
Net Sales $ 125,252 $ 124,922
Cost of products and services sold 60,822 59,578
---------- ----------
Gross profit 64,430 65,344
Selling, general & administrative 41,748 38,678
Depreciation and amortization 2,914 2,283
Amortization of excess cost over net assets acquired 3,037 2,963
Integration and restructuring costs 305 3,917
---------- ----------
Income from operations 16,426 17,503
Other (expense) income:
Interest expense, net (12,170) (10,487)
Other (108) (6)
---------- ----------
Income before income taxes 4,148 7,010
Provision for income taxes 2,552 3,561
---------- ----------
Net income $ 1,596 $ 3,449
========== ==========
Basic Per Common Share Data
---------------------------
Net income $ .02 $ .13
========== ==========
Shares used to compute basic per common
share amounts 18,910,002 18,862,071
========== ==========
Diluted Per Common Share Data
-----------------------------
Net income * $ .02 $ .12
========== ==========
Shares used to compute diluted per common share
amounts * 18,997,841 19,895,853
========== ==========
</TABLE>
* Excludes the effect of the conversion of common stock into which shares of 7%
Redeemable Preferred Stock are convertible as it is considered anti-dilutive.
The accompanying notes are an integral part of the consolidated financial
statements.
3
<PAGE> 6
HANGER ORTHOPEDIC GROUP, INC.
CONSOLIDATED STATEMENTS OF INCOME
FOR THE NINE MONTHS ENDED September 30, 2000 and 1999
(Dollars In Thousands, Except Shares and Per Share Amounts)
(unaudited)
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
Net Sales $ 365,992 $ 230,484
Cost of products and services sold 178,316 112,021
----------- ----------
Gross profit 187,676 118,463
Selling, general & administrative 123,756 73,784
Depreciation and amortization 8,570 4,244
Amortization of excess cost over net assets acquired 8,825 4,461
Integration and restructuring costs 1,393 3,917
----------- ----------
Income from operations 45,132 32,057
Other (expense) income:
Interest expense, net (34,278) (11,585)
Other income (expense) (142) (151)
----------- ----------
Income before income taxes 10,712 20,321
Provision for income taxes 6,990 8,876
----------- ----------
Net income $ 3,722 $ 11,445
=========== ==========
Basic Per Common Share Data
---------------------------
Net income $ .01 $ .55
=========== ==========
Shares used to compute basic per common
share amounts 18,910,002 18,836,485
=========== ==========
Diluted Per Common Share Data
-----------------------------
Net income * $ .01 $ .52
=========== ==========
Shares used to compute diluted per common
share amounts * 19,095,191 20,088,833
=========== ==========
</TABLE>
* Excludes the effect of the conversion of common stock into which shares of 7%
Redeemable Preferred Stock are convertible as it is considered anti-dilutive.
The accompanying notes are an integral part of the consolidated financial
statements.
4
<PAGE> 7
HANGER ORTHOPEDIC GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED September 30, 2000 and 1999
(Dollars In Thousands, Except Shares and Per Share Amounts)
(unaudited)
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income $ 3,722 $ 11,445
Adjustments to reconcile net income to net cash provided by operating
activities:
Provision for bad debt 12,986 7,788
Depreciation and amortization 8,570 4,244
Amortization of excess cost over net
assets acquired 8,825 4,461
Amortization of debt discount 1,474
Restructuring costs -- 1,305
Changes in assets and liabilities, net
of effect from acquired companies:
Accounts receivable (28,899) (15,255)
Inventory (9,774) (6,406)
Prepaid and other assets 232 (1,204)
Other assets 545 (1,042)
Accounts payable 115 1,854
Accrued expenses 7,789 5,118
Accrued wages and payroll taxes (3,070) (3,613)
Other liabilities (1,612) (20)
--------- ---------
Total adjustments (2,819) (2,770)
--------- ---------
Net cash provided by operating activities 903 8,675
--------- ---------
Cash flows from investing activities:
Purchase of fixed assets (7,965) (5,054)
Acquisitions, net of cash acquired (6,773) (424,409)
Cash received pursuant to purchase price adjustment 22,850 ---
Other intangibles (27) (350)
--------- ---------
Net cash provided by (used in) investing activities 8,085 (429,813)
--------- ---------
</TABLE>
Continued
The accompanying notes are an integral part of the consolidated financial
statements.
5
<PAGE> 8
HANGER ORTHOPEDIC GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED September 30, 2000 and 1999
(Dollars In Thousands, Except Shares and Per Share Amounts)
(unaudited)
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
Cash flows from financing activities:
Net borrowings under revolving credit facility $ 10,300 $ 30,000
Repayment of term loans (5,500) --
Proceeds from sale of common stock -- 611
Proceeds from sale of preferred stock, net -- 59,188
Proceeds from long-term debt -- 350,000
Repayment of long-term debt (10,536) (5,365)
Increase in debt issue costs (1,159) (13,907)
------------- -----------
Net cash provided by (used in) financing activities (6,895) 420,527
------------- -----------
Net change in cash and cash equivalents for the period 2,093 (611)
Cash and cash equivalents at beginning of period 5,735 9,683
------------- ------------
Cash and cash equivalents at end of period $ 7,828 $ 9,072
============= ============
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 26,167 $ 4,148
============= ============
Taxes $ 2,237 $ 8,630
============= ============
Non-cash financing and investing activities:
Issuance of common stock in connection with
Acquisitions $ -- $ 500
============= ============
Issuance of notes in connection with acquisitions $ 2,174 $ 1,026
============= ============
Issuance of common stock in repayment of debt $ -- $ 168
============= ============
Accretion of preferred stock $ 55 $ 18
============= ============
Dividends declared on preferred stock $ 3,506 $ 1,050
============= ============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
6
<PAGE> 9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars In Thousands, Except Shares and Per Share Amounts)
NOTE A -- BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in
accordance with Rule 10-01 of Regulation S-X. They do not include all of the
information and notes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments,
consisting of a normal recurring nature, considered necessary for a fair
presentation have been included. Certain reclassifications of prior year's data
have been made to improve comparability.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
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.
These financial statements should be read in conjunction with the financial
statements of Hanger Orthopedic Group, Inc. (the "Company") and notes thereto
included in the Annual Report on Form 10-K for the year ended December 31, 1999,
filed by the Company with the Securities and Exchange Commission.
NOTE B - SEGMENT AND RELATED INFORMATION
The Company evaluates segment performance and allocates resources based on
the segments' EBITDA. "EBITDA" is defined as income from operations before
depreciation and amortization. EBITDA is not a measure of performance under
Generally Accepted Accounting Principles ("GAAP"). While EBITDA should not be
considered in isolation or as a substitute for net income, cash flows from
operating activities and other income or cash flow statement data prepared in
accordance with GAAP, or as a measure of profitability or liquidity, management
understands that EBITDA is customarily used as a criteria in evaluating heath
care companies. Moreover, substantially all of the Company's financing
agreements contain covenants in which EBITDA is used as a measure of financial
performance. EBITDA is presented for each reported segment before
reclassifications between EBITDA and other income (expense) made for external
reporting purposes. "Other" EBITDA not directly attributable to reportable
segments is primarily related to corporate general and administrative expenses.
7
<PAGE> 10
Summarized financial information concerning the Company's reportable
segments is shown in the following table:
<TABLE>
<CAPTION>
PRACTICE
MANAGEMENT
AND PATIENT
CARE CENTERS MANUFACTURING DISTRIBUTION OTHER TOTAL
----------- ------------- ------------ ------------- ------------
THREE MONTHS
------------
ENDED SEPTEMBER 30, 2000
------------------------
<S> <C> <C> <C> <C> <C>
Net Sales
Customers $ 115,609 $ 2,269 $ 7,374 $ --- $ 125,252
=========== ============ ============ ============= ============
Intersegments $ --- $ 4,075 $ 12,756 $ (16,831) $ ---
=========== ============ ============ ============= ============
EBITDA $ 26,312 $ (280) $ 1,929 $ (5,279) $ 22,682
Integration costs $ 147 $ --- $ --- $ 158 $ 305
Depreciation and
amortization 5,062 510 91 288 5,951
Interest expense, (income) 12,733 4 --- (567) 12,170
Other expense 88 17 --- 3 108
----------- ------------ ------------ ------------- ------------
Income before taxes $ 8,282 $ (811) $ 1,838 $ (5,161) $ 4,148
=========== ============ ============ ============= ============
</TABLE>
<TABLE>
<CAPTION>
PRACTICE
MANAGEMENT
AND PATIENT
CARE CENTERS MANUFACTURING DISTRIBUTION OTHER TOTAL
------------ ------------- ------------ ------------- ------------
THREE MONTHS
------------
ENDED SEPTEMBER 30, 1999
------------------------
<S> <C> <C> <C> <C> <C>
Net Sales
Customers $ 115,151 $ 2,949 $ 6,822 $ --- $ 124,922
=========== ============ ============ ============= ============
Intersegments $ --- $ 1,461 $ 12,147 $ (13,608) $ ---
=========== ============ ============ ============= ============
EBITDA $ 26,625 $ 571 $ 2,365 $ (2,895) $ 26,666
Integration and restructuring costs $ 3,775 $ 124 $ --- $ 18 $ 3,917
Depreciation and
amortization 4,721 421 40 64 5,246
Interest expense, (income) 10,542 4 --- (59) 10,487
Other expense (income) (41) 15 1 31 6
----------- ------------ ------------ ------------- ------------
Income before taxes $ 7,628 $ 7 $ 2,324 $ (2,949) $ 7,010
=========== ============ ============ ============= ============
</TABLE>
8
<PAGE> 11
<TABLE>
<CAPTION>
PRACTICE
MANAGEMENT
AND PATIENT
CARE CENTERS MANUFACTURING DISTRIBUTION OTHER TOTAL
----------- ------------- ------------ ----------- ------------
NINE MONTHS
-----------
ENDED SEPTEMBER 30, 2000
------------------------
<S> <C> <C> <C> <C> <C>
Net Sales
Customers $ 337,068 $ 7,259 $ 21,665 $ --- $ 365,992
=========== ============ ============ ============ ============
Intersegments $ --- $ 11,699 $ 39,279 $ (50,978) $ ---
=========== ============ ============ ============ ============
EBITDA $ 75,945 $ (1,502) $ 5,646 $ (16,169) $ 63,920
Integration costs $ 895 $ --- $ 6 $ 492 $ 1,393
Depreciation and
amortization 14,979 1,411 243 762 17,395
Interest expense, (income) 37,779 11 - (3,512) 34,278
Other expense 102 36 1 3 142
----------- ------------ ------------ ----------- ------------
Income before taxes $ 22,190 $ (2,960) $ 5,396 $ (13,914) $ 10,712
=========== ============ ============ =========== ============
</TABLE>
<TABLE>
<CAPTION>
PRACTICE
MANAGEMENT
AND PATIENT
CARE CENTERS MANUFACTURING DISTRIBUTION OTHER TOTAL
----------- ------------- ------------ ----------- ------------
NINE MONTHS
-----------
ENDED SEPTEMBER 30, 1999
------------------------
<S> <C> <C> <C> <C> <C>
Net Sales
Customers $ 200,258 $ 8,772 $ 21,454 $ --- $ 230,484
=========== ============ ============ =========== ============
Intersegments $ --- $ 3,696 $ 23,394 $ (27,090) $ ---
=========== ============ ============ =========== ============
EBITDA $ 45,322 $ 1,449 $ 5,113 $ (7,205) $ 44,679
Integration and restructuring costs $ 3,775 $ 124 $ --- $ 18 $ 3,917
Depreciation and
amortization 7,211 1,207 122 165 8,705
Interest expense, (income) 11,939 13 - (367) 11,585
Other expense (income) (25) 57 (4) 123 151
----------- ------------ ----------- ----------- ------------
Income before taxes $ 22,422 $ 48 $ 4,995 $ (7,144) $ 20,321
=========== ============ =========== =========== ============
</TABLE>
NOTE C -- INVENTORY
Inventories at September 30, 2000 and December 31, 1999 were comprised
of the following:
<TABLE>
<CAPTION>
September 30, 2000 December 31, 1999
------------------ -----------------
(unaudited)
<S> <C> <C>
Raw materials $40,962 $31,715
Work-in-process 17,254 17,172
Finished goods 11,673 11,028
-------- --------
$69,889 $59,915
======== ========
</TABLE>
NOTE D - ACQUISITIONS
9
<PAGE> 12
During the first nine months of 2000, the Company acquired four orthotic
and prosthetic companies. The aggregate purchase price, excluding potential
earn-out provisions, was $3,000, comprised of $1,600 in cash and $1,400 in
promissory notes.
On July 1, 1999, the Company acquired all of the outstanding stock of
NovaCare Orthotics and Prosthetics, Inc. ("NovaCare O&P") from NovaCare, Inc.
pursuant to the terms of a Stock Purchase Agreement (the "Agreement"). Under the
terms of the Agreement, the aggregate consideration totaled $445,000, which
consisted of the assumption of liabilities and other obligations of $38,400 and
the balance in cash. Of the cash portion, $15,000 was placed in escrow pending
the determination of any potential post closing adjustments relating to working
capital. On May 22, 2000, an arbitrator awarded the Company $25,100 as a result
of the working capital deficiency from the purchase of NovaCare O&P. During the
second quarter 2000, the Company received $15,000 of the award from escrow, and
approximately $600 in interest on the escrow was recorded as interest income.
Also during the second quarter of 2000, Hanger executed an agreement to settle
the balance of the arbitration award with NovaCare, Inc. for $9,700, of which
$6,000 was received on July 3, 2000, and $3,700 was in the form of a promissory
note to be paid by the end of the fiscal year. The promissory note is secured
and paid on a monthly basis of approximately $617 plus interest computed at a
per annum rate of 7%. As of September 30, 2000, approximately $1,800 of the
above noted $3,700 promissory note had been received. Amounts received and to be
received under the arbitration and settlement agreements of $24,700 have been
recorded as a reduction to "Excess cost over net assets acquired" in the
accompanying consolidated balance sheet at September 30, 2000.
Hanger required approximately $430,200 in cash to close the acquisition, to
pay approximately $20,000 of related fees and expenses, including debt issue
costs of approximately $16,000, and to refinance existing debt of approximately
$2,500. The funds were raised by Hanger through (i) borrowing approximately
$230,000 of revolving credit and term loans under a new bank facility; (ii)
selling $150,000 principal amount of 11.25% Senior Subordinated Notes due 2009;
and (iii) selling $60,000 of 7% Redeemable Preferred Stock. The new bank credit
facility consists of a $100,000 revolving credit facility, of which $30,000 was
drawn on in connection with the acquisition of NovaCare O&P, an A term facility
and a tranche B term facility. The 7% Redeemable Preferred Stock accrues annual
dividends, compounded quarterly, equal to 7%, is subject to put rights and will
not require principal payments prior to maturity. Such Preferred Stock is
convertible into shares of the Company's non-voting common stock at a price of
$16.50 per share.
The acquisition of NovaCare O&P has been accounted for as a business
combination in accordance with the purchase method. The results of operations
for this acquisition have been included in the Company's results since July 1,
1999.
The following table summarizes the unaudited consolidated pro forma
information, assuming the acquisition had occurred at the beginning of the
following period:
10
<PAGE> 13
<TABLE>
<CAPTION>
----------------------------------------------------- ---------------------------
Nine Months Ended
-----------------
September 30, 1999
------------------
----------------------------------------------------- ---------------------------
----------------------------------------------------- ---------------------------
<S> <C>
Net sales $366,160
----------------------------------------------------- ---------------------------
Net (loss) (1,150)
----------------------------------------------------- ---------------------------
Net loss per common share - diluted (1) $ (.23)
----------------------------------------------------- ---------------------------
</TABLE>
(1) Excludes the effect of the conversion of common stock into which shares of
7% Redeemable Preferred Stock are convertible as it is anti-dilutive. All
outstanding options and warrants are anti-dilutive due to the net loss for
the Company for the nine months ended September 30, 1999.
Adjustments made in arriving at the unaudited consolidated pro forma
results include increased interest expense on acquisition debt, amortization of
goodwill, adjustments to the fair value of assets acquired and depreciable
lives, preferred stock dividends and related tax adjustments.
The unaudited consolidated pro forma results do not necessarily represent
results which would have occurred if the acquisition had taken place at the
beginning of the period, nor are they indicative of the results of future
combined operations or trends.
Additionally, the Company paid during the nine month period ending
September 30, 2000, approximately $5,000 and issued $750 in notes related to 53
orthotic and prosthetic companies acquired in years prior to 2000. The payments
were primarily made pursuant to earnout and working capital provisions contained
in the respective acquisition agreements. The Company has accounted for these
amounts as additional purchase price resulting in an increase to excess of cost
over net assets acquired in the amount of $5,700. Additional amounts aggregating
up to approximately $14,600 may be paid in connection with earnout provisions
contained in previous acquisition agreements.
NOTE E -INTEGRATION & RESTRUCTURING COSTS
In connection with the acquisition of NovaCare O&P, the Company implemented
a restructuring plan on July 1, 1999. The plan contemplated lease termination
and severance costs associated with the closure of certain redundant
patient-care centers and corporate functions of the Company and NovaCare O&P.
The costs associated with the former NovaCare O&P centers were recorded in
connection with the purchase price allocation on July 1, 1999. The costs
associated with the existing Hanger centers were charged to operations during
the third quarter of 1999.
The restructuring plan provided for the closure of 54 patient-care centers
and the termination of the employment of 225 employees. Through September 30,
2000, 44 of the patient-care centers had been closed and the employment of 210
employees had been terminated. Management expects to have the remaining 10
patient-care centers closed and the employment of the remaining 15 employees
terminated by the end of 2000. Lease payments on closed patient care centers are
expected to be paid through 2003.
11
<PAGE> 14
The components of the total restructuring reserve through September 30,
2000 are as follows:
<TABLE>
<CAPTION>
Lease
Employee Termination and Total
Severance Other Exit Restructuring
Costs Costs Reserve
---------- --------------- --------------
<S> <C> <C> <C>
Balance at December 31, 1999 $ 1,600 $ 2,992 $ 4,592
Year-to-date Spending (1,363) (646) $ (2,009)
---------- --------------- --------------
Balance at September 30, 2000 $ 237 $ 2,346 $ 2,583
========== =============== ==============
</TABLE>
Additionally, during the three and nine-month periods ended September 30,
2000, the Company recorded integration costs of $305 and $1,400, respectively,
related to the acquisition of NovaCare O&P. Integration costs include costs of
changing patient care center names, payroll and related benefits conversion
costs, stay-pay bonuses and related benefits for transitional employees and
certain other costs related to the acquisition. These costs are expensed as
incurred.
NOTE F - NET INCOME PER COMMON SHARE
12
<PAGE> 15
The following sets forth the calculation of the basic and diluted income
per common share amounts for the three month periods ended September 30, 2000
and 1999 and the nine month periods ended September 30, 2000 and 1999.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- ---------------------
2000 1999 2000 1999
----- ----- ----- -----
<S> <C> <C> <C> <C>
Net income $1,596 $3,449 $3,722 $11,445
Less preferred stock accretion and
dividends declared (1,257) (1,068) (3,561) (1,068)
------ ------ ------ -------
Income available to common stockholders
used to compute basic per common
share amounts 339 2,381 161 10,377
Add back interest expense on convertible
note payable, net of tax 15 12 50 39
------ ------ ------ -------
Income available to common stockholders
plus assumed conversions used to com-
pute diluted per common share amounts $354 $2,393 $211 $10,416
====== ====== ====== =======
Average shares of common stock
outstanding used to compute basic per
common share amounts 18,910,002 18,862,071 18,910,002 18,836,485
Effect of convertible note payable 69,430 92,572 69,430 92,572
Effect of dilutive options 18,405 459,960 55,927 621,532
Effect of dilutive warrants 4 481,250 59,832 538,244
---------- ----------- ----------- -----------
Shares used to compute dilutive per
common share amounts (1) 18,997,841 19,895,853 19,095,191 20,088,833
========== =========== =========== ===========
Basic income per common share $ .02 $ .13 $ .01 $ .55
Diluted income per common share $ .02 $ .12 $ .01 $ .52
</TABLE>
(1) Excludes the effect of the conversion of common stock into which shares
of 7% Redeemable Preferred Stock are convertible as it is anti-dilutive.
Options to purchase 4,341,167 and 1,463,750 shares of common stock were
outstanding at September 30, 2000 and 1999, respectively, but were not included
in the computation of diluted income per share for the three months ended
September 30, 2000 and 1999 because the options' exercise prices were greater
than the average market price of the common shares.
Options to purchase 2,826,666 and 450,000 shares of common stock were
outstanding at September 30, 2000 and 1999, respectively, but were not included
in the computation of diluted income per common share for the nine months ended
September 30, 2000 and 1999 because the options' exercise prices were greater
than the average market price of the common shares.
NOTE G - LONG TERM DEBT
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<PAGE> 16
On June 16, 1999, the Company issued, in a private offering, $150,000 of
Senior Subordinated Notes, bearing interest of 11.25%, and maturing on June 15,
2009. Interest is payable on June 15 and December 15, commencing on December 15,
1999.
In connection with the acquisition of NovaCare O&P, the Company replaced
its bank credit facility existing at June 30, 1999 with a new facility. The New
Bank Credit Facility consists of a $100,000 Revolving Credit Facility, a
$100,000 Tranche A Term Facility and a $100,000 Tranche B Term Facility. The
Revolving Credit Facility and the Tranche A Term Facility will mature six years
after the closing of the NovaCare O&P acquisition and carry an interest rate of
adjusted LIBOR plus 3.0% or ABR plus 2.0%. The Tranche B Term Facility will
mature seven years and six months after the closing of the NovaCare O&P
acquisition and carries an interest rate of adjusted LIBOR plus 4.0% or ABR plus
3.0%. The Bank Credit Facility is collateralized by substantially all of the
Company's assets, restricts the payment of dividends on common stock and
contains certain affirmative and negative covenants customary in an agreement of
this nature.
The Company's total long term debt at September 30, 2000, including a
current portion of approximately $29,800, was approximately $446,100. Such
indebtedness included: (i) $150,000 senior subordinated notes; (ii) $65,300
under the Revolving Credit Facility; (iii) $95,000 under the Tranche A Term
Facility; (iv) $99,500 under the Tranche B Term Facility; and (v) a total of
$36,300 of other indebtedness.
NOTE H - COMMITMENTS AND CONTINGENCIES
The Company is subject to legal proceedings and claims which arise in the
ordinary course of its business, including claims related to alleged contingent
additional payments under business purchase agreements. Many of these legal
proceedings and claims existed in the NovaCare O&P business prior to the
Company's acquisition of NovaCare O&P. 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 the financial position, liquidity or results of
operations of the Company.
NOTE I - NEW ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standard Board issued SFAS 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS 133, as
amended, requires that an entity recognize all derivative instruments as either
assets or liabilities on its balance sheet at their fair value. Changes in the
fair value of derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designated as part of
a hedge transaction, and, if it is, the type of hedge transaction. The Company
will adopt SFAS 133 by the first quarter of 2001. Due to the Company's limited
use of derivative instruments, SFAS 133 is not expected to have a material
effect on the financial position or results of operations of the Company.
In December 1999, the Staff of the Securities and Exchange Commission
("SEC") issued Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue
Recognition in Financial Statements." SAB 101 summarizes some of the SEC's
interpretations of the application of generally accepted
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<PAGE> 17
accounting principles to revenue recognition. The Company has reviewed SAB 101
and does expect it to have a material impact on the existing revenue recognition
policies.
NOTE J - SUBSEQUENT EVENTS
During the third quarter of 2000, the Company signed a letter of intent to
sell its manufacturing division, Seattle Limb ("SOGI"). The transaction is
expected to close in December 2000, with the Company receiving approximately
$75,000 in gross proceeds ($50,000 after tax). These proceeds are expected to be
used by management to pay down portions of the Tranche A and Tranche B Credit
Facilities in accordance with the financing agreement. The sale of SOGI is not
expected to have a materially adverse effect to the consolidated financial
statements of the Company, as SOGI revenues are approximately 2% of the
consolidated revenues of the Company for the nine months ended September 30,
2000, and are included in Income from Operations.
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<PAGE> 18
Management's Discussion and Analysis of Financial
Condition and Results of Operations
Results of Operations
The following table sets forth for the periods indicated certain items of
the Company's Statements of Income and their percentage of the Company's net
sales:
<TABLE>
<CAPTION>
Nine Months Three Months
Ended September 30, Ended September 30,
------------------- -------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 100.0%
Cost of products and services sold 48.7 48.6 48.6 47.7
Gross profit 51.3 51.4 51.4 52.3
Selling, general & administrative
expenses 33.8 32.0 33.3 31.0
Depreciation and amortization 2.3 1.8 2.3 1.8
Amortization of excess cost over net
assets acquired 2.4 1.9 2.4 2.4
Integration and restructuring costs .4 1.7 .2 3.1
Income from operations 12.3 13.9 13.1 14.0
Interest expense 9.4 5.0 9.7 8.4
Provision for income taxes 1.9 3.9 2.0 2.9
Net income 1.0 5.0 1.3 2.8
</TABLE>
Three Months Ended September 30, 2000 Compared to the Three Months Ended
September 30, 1999
Net Sales
Net sales for the quarter ended September 30, 2000, were approximately
$125.3 million, an increase of approximately $.3 million, or .3%, over net sales
of approximately $124.9 million for the quarter ended September 30, 1999. The
increase was primarily attributable to (i) a 6.4% increase in net sales at
patient-care centers owned and operated by Hanger during both quarters (i.e.,
same store sales), assuming 1999 revenue is adjusted for certain losses of sales
resulting from the acquisition, and (ii) net sales at patient-care facilities
acquired by Hanger subsequent to September 30, 1999.
Gross Profit
Gross profit in the quarter ended September 30, 2000 was approximately
$64.4 million, a decrease of approximately $.9 million, or 1.4%, from gross
profit of approximately $65.3 million for the quarter ended September 30, 1999.
Gross profit as a percentage of net sales decreased to 51.4% in the third
quarter of 2000 from 52.3% in the third quarter of 1999.
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Selling, General and Administrative Expenses
Selling, general and administrative expenses in the quarter ended September
30, 2000 increased by approximately $3.1 million, or 7.9%, compared to the
quarter ended September 30, 1999. Selling, general and administrative expenses
as a percentage of net sales increased to 33.3% in the third quarter of 2000
compared to 31.0% for same period in 1999. The increase in selling, general and
administrative expenses was primarily the result of (i) an increase of
approximately $1.8 million in labor costs primarily at patient-care centers
previously acquired from NovaCare O&P and (ii) an increase of approximately $1.3
million in the provision for bad debts. The Company plans to effect a decrease
in labor costs prior to the end of 2000.
Integration and Restructuring Costs
During the quarter ended September 30, 2000, the Company recognized
approximately $.3 million of one-time integration costs in connection with its
acquisition on July 1, 1999 of NovaCare O&P, a substantial decrease from the
$3.9 million of integration and restructuring costs recognized in the prior
year's comparable quarter. The $.3 million integration costs recorded in the
quarter ended September 30, 2000 consisted primarily of software, hardware and
consulting costs associated with the new human resource and payroll information
system. Additional information relating to integration and restructuring costs
is set forth below under "Integration and Restructuring Costs."
Income from Operations
Principally as a result of the above, income from operations in the quarter
ended September 30, 2000 was approximately $16.4 million, a decrease of $1.1
million, or 6.2%, from the prior year's comparable quarter. Income from
operations as a percentage of net sales decreased to 13.1% in the third quarter
of 2000 from 14.0% for the prior year's comparable period.
Interest Expense
Net interest expense in the third quarter of 2000 was approximately $12.2
million, an increase of approximately $1.7 million over the approximately $10.5
million incurred in the third quarter of 1999. Interest expense as a percentage
of net sales in the third quarter of 2000 increased to 9.7% from 8.4% for the
same period a year ago. The increase in interest expense was primarily
attributable to the increase during the fourth quarter of 1999 in the interest
rates under the Company's Bank Credit Facility that is described below.
Income Taxes
The Company's effective tax rate was 62% in the third quarter of 2000
versus 51% in the third quarter of 1999. The increase in the effective tax rate
in 2000 was principally a result of the effect of non-deductible goodwill
amortization, and low levels of pre-tax income. The provision for income taxes
in the third quarter of 2000 was approximately $2.5 million compared to
approximately $3.6 million for the third quarter of 1999.
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<PAGE> 20
Net Income
As a result of the above, the Company recorded net income of $1.6 million,
or $.02 per dilutive common share, in the quarter ended September 30, 2000,
compared to net income of $3.4 million, or $.12 per dilutive common share, in
the quarter ended September 30, 1999. Net income for the quarter ended September
30, 2000, excluding the integration costs, would have been $1.8 million, or $.03
per dilutive common share.
Nine Months Ended September 30, 2000 Compared to the Nine Months Ended September
30, 1999
Net Sales
Net sales for the nine months ended September 30, 2000 were approximately
$366.0 million, an increase of approximately $135.5 million, or 59%, over net
sales of approximately $230.5 million for the nine months ended September 30,
1999. The increase was primarily attributable to (i) the acquisition of NovaCare
on July 1, 1999, (ii) a 7.9% increase in net sales at patient-care centers owned
and operated by Hanger during both periods (i.e., same store sales), and (iii)
net sales at patient-care facilities acquired by Hanger subsequent to September
30, 1999.
Gross Profit
Gross profit for the nine months ended September 30, 2000 was approximately
$187.7 million, an increase of approximately $69.2 million, or 58%, over gross
profit of approximately $118.5 million for the nine months ended September 30,
1999. The increase was primarily attributable to the increase in net sales
which, in turn, was primarily attributable to the Company's acquisition of
NovaCare O&P on July 1, 1999. Gross profit as a percentage of net sales was
51.3% in the first nine months of 2000 compared to 51.4% in the first nine
months of 1999.
Selling, General and Administrative Expenses
Selling, general and administrative expenses in the nine months ended
September 30, 2000 increased by approximately $50.0 million, or 67.7%, compared
to the nine months ended September 30, 1999. Selling, general and administrative
expenses as a percentage of net sales increased to 33.8% in the nine months
ended September 30, 2000, from 32.0% for the same period in 1999. The increase
in selling, general and administrative expenses, both in dollar amount and as a
percent of net sales, was primarily the result of an increase in labor costs
primarily at patient care centers previously acquired from NovaCare O&P and an
increase in the provision for bad debts.
Integration and Restructuring Costs
The Company recognized approximately $1.4 million of one-time integration
costs during the nine months ended September 30, 2000 in connection with the
Company's acquisition on July 1, 1999 of NovaCare O&P, a substantial decrease
from the $3.9 million of such costs recognized in the prior year's comparable
period. The approximately $1.4 million of integration costs recognized
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<PAGE> 21
during the nine months ended September 30, 2000, included (i) the $.3 million of
computer conversion, consulting and related costs recognized during the quarter
ended September 30, 2000 and discussed above, and (ii) approximately $1.1
million of costs of changing patient care center names, payroll and related
benefit conversion, stay-bonuses and related benefits for transitional employees
and certain other costs relating to the acquisition recognized during the six
months ended June 30, 2000. Additional information relating to the integration
and restructuring costs is set forth below under "Integration and Restructuring
Costs."
Income from Operations
Principally as a result of the above, income from operations in the nine
months ended September 30, 2000 was approximately $45.1 million, an increase of
approximately $13.1 million, or 40.8%, over the prior year's comparable period.
Income from operations as a percentage of net sales decreased to 12.3% in the
nine months ended September 30, 2000 from 13.9% in the nine months ended
September 30, 1999.
Interest Expense
Net interest expense for the first nine months of 2000 was approximately
$34.3 million, an increase of approximately $22.7 million over approximately
$11.6 million incurred in the first nine months of 1999. Interest expense as a
percentage of net sales increased to 9.4% in the nine months ended September 30,
2000 from 5.0% for the same period one year ago. The increase in interest
expense was primarily attributable to $230.0 million borrowed under the
Company's Bank Credit Facility and $150.0 million in senior subordinated notes
issued to acquire NovaCare O&P on July 1, 1999.
Income Taxes
The Company's effective tax rate was 65% in the first nine months of 2000
versus 44% in the comparable period of 1999. The increase in the effective tax
rate in 2000 is principally a result of the effect of non-deductible goodwill
amortization, and low levels of pre-tax income. The provision for income taxes
for the nine months ended September 30, 2000 was approximately $7.0 million
compared to approximately $8.9 million for the nine months ended September 30,
1999.
Net Income
As a result of the above, the Company recorded net income of approximately
$3.7 million, or $.01 per dilutive common share, in the first nine months of
2000, compared to net income of approximately $11.4 million, or $.52 per
dilutive common share, in the first nine months of 1999. Net income for the nine
months ended September 30, 2000, excluding the integration costs, would have
been $4.6 million, or $.05 per dilutive common share.
Liquidity and Capital Resources
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<PAGE> 22
The Company's consolidated working capital at September 30, 2000 was
approximately $136.8 million and cash and cash equivalents available were
approximately $7.8 million. The Company's cash resources were satisfactory to
meet its obligations for the quarter ended September 30, 2000, and are expected
to be sufficient to meet the Company's obligations from operations for the next
year.
On July 1, 1999, the Company entered into a new credit agreement (the
"Credit Agreement") with The Chase Manhattan Bank, Bankers Trust Company,
Paribas and certain other banks (the "Banks"), which consists of a $100.0
million Revolving Credit Facility, a $100.0 million Tranche A Term Facility and
$100.0 million Tranche B Term Facility (collectively, the "Bank Credit
Facility"). The Tranche A Term Facility and the Revolving Credit Facility mature
on July 1, 2005 and the Tranche B Term Facility matures on January 1, 2007. The
Credit Agreement, as originally entered into, provided that the Tranche A Term
Facility and the Revolving Credit Facility would carry an annual interest rate
of adjusted LIBOR plus 2.50% or ABR plus 1.50%, and that the Tranche B Term
Facility would carry an annual interest rate of adjusted LIBOR plus 3.50% or ABR
plus 2.50%. In consideration for the Banks' waiver of the Company's
non-compliance with certain of the covenants under the Credit Agreement in the
fourth quarter of 1999, and a relaxation of certain of the financial covenants
relating to 2000 and 2001, an amendment to the Credit Agreement was entered into
and provides for an increase in the Tranche A Term Facility and the Revolving
Credit Facility annual interest note to adjusted LIBOR plus 3.00% or ABR plus
2.00%, and an increase in the Tranche B Term Facility annual interest rate to
adjusted LIBOR plus 4.00% or ABR plus 3.00%. The Revolving Credit Facility is
available to Hanger for use in connection with future acquisitions and for
working capital and general corporate purposes.
The Company's total long term debt at September 30, 2000, including a
current portion of approximately $29.8 million, was approximately $446.1
million. Such indebtedness included: (i) $150.0 million of 11.25% million Senior
Subordinated Notes due 2009 (ii) $65.3 million for the Revolving Credit
Facility; (iii) $95.0 million for Tranche A Term Facility; (iv) $99.5 million
for Tranche B Term Facility; and (v) a total of $36.3 million of other
indebtedness.
The Bank Credit Facility is collateralized by substantially all the assets
of the Company, restricts the payment of dividends, and contains certain
affirmative and negative covenants customary in an agreement of this nature.
All or any portion of outstanding loans under the Credit Agreement may be
repaid at any time and commitments may be terminated in whole or in part at the
option of the Company without premium or penalty, except that LIBOR-based loans
may only be repaid at the end of the applicable interest period. Mandatory
prepayments will be required in the event of certain sales of assets, debt or
equity financings and under certain other circumstances.
On July 1, 1999, the Company acquired all of the outstanding capital stock
of NovaCare O&P from NovaCare, Inc. pursuant to the terms of a Stock Purchase
Agreement (the "Agreement"). Under the terms of the Agreement, the aggregate
consideration totaled $445.0 million, which consisted of the assumption of
liabilities and other obligations of $38.4 million and the balance in cash. Of
the cash portion, $15.0 million was placed in escrow pending the determination
of any
20
<PAGE> 23
potential post closing adjustments relating to working capital. Reference is
made to the discussion under "Arbitration of Dispute Regarding Adjusted Working
Capital of NovaCare O&P and Subsequent Litigation" below for information
regarding post closing adjustments.
The Company also has 7% Redeemable Preferred Stock which accrues annual
dividends, compounded quarterly, equal to 7%, is subject to put rights and will
not require principal payments prior to its maturity, July 1, 2010. Such
Preferred Stock is convertible into shares of the Company's non-voting common
stock at a price of $16.50 per share. During the quarter ended September 30,
1999, the Mandatorily Redeemable Preferred Stock Class F, of which no shares had
been issued, was retired.
The Company plans to finance future acquisitions through internally
generated funds or borrowings under the Revolving Credit Facility, the issuance
of notes or shares of Common Stock of the Company, or through a combination
thereof.
The Company is actively engaged in ongoing discussions with prospective
acquisition candidates. The Company plans to continue to expand its operations
through acquisitions.
Integration and Restructuring Costs
The Company has been implementing a plan of restructuring relating to its
acquisition of NovaCare O&P on July 1, 1999. The plan contemplated lease
termination and severance costs associated with the closure of certain redundant
patient-care centers and corporate functions. The Company has transitioned
patients being cared for at a closed patient-care center to another patient-care
center generally located within proximity to the closed branch. During 1999, the
Company recorded approximately $5.6 million in restructuring liabilities for the
costs associated with the restructuring of the NovaCare O&P operations and
allocated such costs to the purchase price of NovaCare O&P in accordance with
purchase accounting requirements. Also during 1999, the Company accrued
approximately $1.3 million ($.8 million after tax) for the costs associated with
the restructuring of Hanger operations.
The restructuring plan provided for the closure of 54 patient-care centers,
consisting of 29 Hanger and 25 NovaCare O&P locations, and the termination of
the employment of 225 employees. Through September 30, 2000, 44 of the
patient-care centers had been closed and the employment of 210 employees had
been terminated. Management expects to have the remaining 10 patient-care
centers closed and the employment of the remaining 15 employees terminated by
the end of 2000. Lease payments on closed patient-care centers are expected to
be paid through 2003. Implementation of the plan of restructuring was
substantially complete as of September 30, 2000, and the Company does not expect
to accrue a material amount of additional restructuring costs in the future.
The Company estimates that when the plan of restructuring is completed, it
will generate annual cost savings of approximately $13.0 million ($8.0 million
after tax) on a full year basis, excluding anticipated reductions in material
purchase costs. The above restructuring charges and the related cost savings
represent the Company's best estimate, but necessarily make numerous
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<PAGE> 24
assumptions with respect to industry performance, general business and economic
conditions, raw materials and product pricing levels, government legislation,
the timing of implementation of the restructuring and related employee
reductions and patient-care center closings and other matters, many of which are
outside of the Company's control. The Company's estimate of cost savings is not
necessarily indicative of future performance, which may be significantly more or
less favorable than as set forth and is subject to the considerations relating
to forward-looking statements that are set forth below in the third paragraph
under "Other."
The Company also has expensed integration costs relating to the integration
of the acquired NovaCare O&P patient-care centers. During 1999, the Company
expensed approximately $5.0 million of integration costs and during the nine
months ended September 30, 2000, the Company expensed approximately $1.4 million
of integration costs, of which approximately $.3 million were recognized during
the quarter ended September 30, 2000. Such integration costs include costs of
changing patient-care center names, payroll and related benefits conversion
costs, stay-paid bonuses and related benefits for transitional employees and
certain other costs relating to the acquisition. Integration costs are expensed
as incurred.
Proposed Sale of Manufacturing Business
In September 2000, the Company entered into a letter of intent to sell
substantially all of the O&P component manufacturing assets of its wholly-owned
subsidiary, Seattle Orthopedic Group, Inc., to Otto Bock Orthopedic Industry,
Inc., a United States subsidiary of a German manufacturer of O&P components. The
purchase price is expected to be approximately $75.0 million and the Company
plans to use the estimated $50.0 million of after-tax proceeds of the sale to
pay down a portion of its Tranche A and Tranche B Term Loans. As a result of
that transaction, which is expected to close during December 2000, subject to
entering into a definitive purchase agreement, the Company expects to reduce its
interest expenses by approximately $5.0 million per year.
Arbitration of Dispute Regarding Adjusted Working Capital of NovaCare O&P and
Subsequent Litigation
As stated above, on July 1, 1999, Hanger acquired all of the outstanding
capital stock of NovaCare O&P from NovaCare, Inc. ("NovaCare") pursuant to a
Stock Purchase Agreement, dated April 2, 1999 and amended on May 19, 1999 and
June 30, 1999, by and among NovaCare, NC Resources, Inc., Hanger and HPO
Acquisition Corporation (the "Agreement"). The purchase price paid by Hanger was
$445.0 million, subject to adjustment to the extent that NovaCare O&P's adjusted
working capital at June 30, 1999 was less or greater than $94.0 million. Of the
purchase price paid by Hanger, $15.0 million was placed in escrow with U.S. Bank
Trust National Association (the "Exchange Agent") pending the determination of
such amount of adjusted working capital. Hanger and NovaCare disagreed regarding
the determination of the amount of NovaCare O&P adjusted working capital and on
February 25, 2000, Hanger and NovaCare submitted the matter to the independent
accounting firm of KPMG LLP ("KPMG") in accordance with the dispute resolution
arbitration mechanism provided under the Agreement. The Agreement provided that
such arbitrator's determination would be conclusive and binding upon the
parties.
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On May 22, 2000, KPMG issued its report concluding that NovaCare O&P's
adjusted working capital at June 30, 1999 was approximately $68.9 million and
that Hanger was entitled to the working capital deficiency of approximately
$25.1 million, representing the required decrease in the purchase price
previously paid by Hanger for NovaCare O&P. On May 25, 2000, at the request of
Hanger and in view of the conclusion in KPMG's report that the "Total Working
Capital Deficiency shall be returned to Hanger Orthopedic Group, Inc.," the
Escrow Agent released the $15.0 million of escrowed funds to Hanger. Pursuant to
the Agreement, Hanger was entitled to receive the approximately $10.1 million
balance of the working capital deficiency on or before June 21, 2000, which was
30 days after the date of the KPMG determination.
On June 5, 2000 NovaCare (the name of which was recently changed to NAHC,
Inc.), filed a Complaint in the Court of Chancery of the State of Delaware in
and for New Castle County against Hanger, its subsidiary HPO Acquisition Corp.
and the Escrow Agent alleging the wrongful release of the escrowed funds and
seeking the return of such escrowed funds to the Escrow Agent. On June 9, 2000,
Hanger filed an answer and counterclaim requesting the Court to dismiss the
Complaint and confirm the entire KPMG award.
On June 30, 2000, Hanger entered into a Settlement Agreement with NovaCare
providing for dismissal of the litigation and execution of a mutual release
relating to currently unknown matters arising from the acquisition. In addition,
the Settlement Agreement provided that of the $10.1 million owed by NovaCare to
Hanger, $6.0 million would be paid immediately by NovaCare to Hanger and
NovaCare would execute a collateralized promissory note in the principal amount
of $3.7 million, plus 7% annual interest, payable monthly over the following six
months. Actual payment of the $6.0 million was received by Hanger on July 3,
2000. In connection with the settlement, Hanger was confident that it would have
prevailed in the litigation. However, in view of the time that would have been
involved in obtaining a favorable result and NovaCare's inability to pay the
full $10.1 million at the time the Settlement Agreement was entered into, Hanger
determined it would be prudent to enter into such agreement, under which Hanger
gave NovaCare a $.4 million discount in exchange for the immediate payment of
$6.0 million and the greater certainty of receiving $3.7 million under the
promissory note.
Other
Inflation has not had a significant effect on the Company's operations, as
increased costs to the Company generally have been offset by increased prices of
products and services sold.
Based on the Company's experience in 2000, its operations have not been
adversely affected to date by Year 2000 or leap year problems. The total costs
for the Company's Year 2000 program were approximately $1.3 million, which was
expended during 1999.
New Accounting Standards
In June 1998, the Financial Accounting Standard Board issued SFAS 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS 133, as
amended, requires that an entity recognize all derivative instruments as either
assets or liabilities on its balance sheet at their fair
23
<PAGE> 26
value. Changes in the fair value of derivatives are recorded each period in
current earnings or other comprehensive income, depending on whether a
derivative is designated as part of a hedge transaction, and, if it is, the type
of hedge transaction. The Company will adopt SFAS 133 by the first quarter of
2001. Due to the Company's limited use of derivative instruments, SFAS 133 is
not expected to have a material effect on the financial position or results of
operations of the Company.
In December 1999, the Staff of the Securities and Exchange Commission
("SEC") issued Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue
Recognition in Financial Statements." SAB 101 summarizes some of the SEC's
interpretations of the application of generally accepted accounting principles
to revenue recognition. The Company has reviewed SAB 101 and does expect it to
have a material impact on the existing revenue recognition policies.
Forward Looking Statements
This report contains forward-looking statements setting forth the Company's
beliefs or expectations relating to future revenues. Actual results may differ
materially from projected or expected results due to changes in the demand for
the Company's O&P services and products, uncertainties relating to the results
of operations or recently acquired and newly acquired O&P patient care
practices, the Company's ability to attract and retain qualified O&P
practitioners, governmental policies affecting O&P operations and other risks
and uncertainties affecting the health-care industry generally. Readers are
cautioned not to put undue reliance on forward-looking statements. The Company
disclaims any intent or obligation to up-date publicly these forward-looking
statements, whether as a result of new information, future events or otherwise.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not applicable.
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PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits. The following exhibits are filed herewith:
Exhibit No. Document
27 Financial Data Schedule.
(b) Forms 8-K. No reports on Form 8-K were filed during the quarter
ended September 30, 2000.
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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 ORTHOPEDIC GROUP, INC.
Date: November 13, 2000 IVAN R. SABEL
------------------------------------------
Ivan R. Sabel
Chairman of the Board, President and
Chief Executive Officer
Date: November 13, 2000 RICHARD A. STEIN
------------------------------------------
Richard A. Stein
Executive Vice President - Finance,
Principal Financial and
Accounting Officer
#84065
26
