PART 1. FINANCIAL INFORMATION

HANGER, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

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

(Unaudited)

	March 31,			December 31,
	2018			2017			As of September 30,			As of December 31,
							2018			2017
ASSETS
Current assets:
Cash and cash equivalents	$	32,913		$	1,508		$	61,035		$	1,508
Accounts receivable, net	127,010			146,346			132,446			146,346
Inventories	70,051			69,138			72,601			69,138
Income taxes receivable	824			13,079			1,723			13,079
Other current assets	20,004			20,888			20,742			20,888
Total current assets	250,802			250,959			288,547			250,959

Non-current assets:
Property, plant and equipment, net	91,302			93,615			89,424			93,615
Goodwill	196,343			196,343			196,343			196,343
Other intangible assets, net	19,971			21,940			16,637			21,940
Deferred income taxes	75,449			68,126			71,967			68,126
Other assets	10,416			9,440			12,711			9,440
Total assets	$	644,283		$	640,423		$	675,629		$	640,423

LIABILITIES AND SHAREHOLDERS’ DEFICIT
TOTAL LIABILITIES AND SHAREHOLDERS’ DEFICIT
Current liabilities:
Current portion of long-term debt	$	10,312		$	4,336		$	9,027		$	4,336
Accounts payable	50,722			48,269			52,325			48,269
Accrued expenses and other current liabilities	64,695			66,683			54,790			66,308
Accrued compensation related costs	17,216			53,005			32,730			53,380
Total current liabilities	142,945			172,293			148,872			172,293

Long-term liabilities:
Long-term debt, less current portion	505,235			445,928			502,966			445,928
Other liabilities	49,678			50,253			49,395			50,253
Total liabilities	697,858			668,474			701,233			668,474

Commitments and contingent liabilities (Note O)
Commitments and contingencies (Note O)

Shareholders’ deficit:
Common stock, $.01 par value; 60,000,000 shares authorized; 36,887,364 shares issued and 36,744,543 shares outstanding in 2018, and 36,515,232 shares issued and 36,372,411 shares outstanding in 2017	369			365
Common stock, $0.01 par value; 60,000,000 shares authorized; 37,011,135 shares issued and 36,868,314 shares outstanding in 2018, and 36,515,232 shares issued and 36,372,411 shares outstanding in 2017							370			365
Additional paid-in capital	334,169			333,738			340,738			333,738
Accumulated other comprehensive loss	(4,268		)	(1,686		)	(164		)	(1,686		)
Accumulated deficit	(383,149		)	(359,772		)	(365,852		)	(359,772		)
Treasury stock, at cost; 142,821 shares at 2018 and 2017, respectively	(696		)	(696		)	(696		)	(696		)
Total shareholders’ deficit	(53,575		)	(28,051		)	(25,604		)	(28,051		)
Total liabilities and shareholders’ deficit	$	644,283		$	640,423		$	675,629		$	640,423

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

~~AND COMPREHENSIVE LOSS~~

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

(Unaudited)

Three Months Ended March
31,

2018

2017

Net revenue

$
233,995

$
233,681

Material costs

76,356

74,405

Personnel costs

86,108

87,955

Other operating costs

31,096

32,689

General and administrative expenses

25,636

25,386

Professional accounting and legal fees

4,846

12,650

Depreciation and amortization

9,330

10,137

Income (loss) from operations

623

(9,541
)
Interest expense, net

12,263

14,009

Loss on extinguishment of debt

16,998

—

Non-service defined benefit plan expense

176

184

Loss before income taxes

(28,814
)
(23,734
)
Benefit for income taxes

(6,196
)
(6,000
)
Net loss

$
(22,618
)
$
(17,734
)

Other comprehensive loss:

Unrealized loss on cash flow hedges (net of tax benefit of $702 for the three months ended March 31, 2018)

$
(2,290
)
$
—

Unrealized loss on defined benefit plan (net of tax benefit of $105 and $0 for the three months ended March 31, 2018 and 2017, respectively)

(292
)
(17
)
Total other comprehensive loss

(2,582
)
(17
)
Comprehensive loss

$
(25,200
)
$
(17,751
)

Basic and Diluted Per Common Share Data:

Basic and diluted loss per common share

$
(0.62
)
$
(0.49
)
Weighted average shares used to compute basic and diluted earnings per common share

36,498,482

36,084,630

	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2018		2017			2018			2017
Net revenues	$	262,946	$	257,966		$	763,907		$	755,033
Material costs	84,805		82,345			247,677			240,407
Personnel costs	90,853		90,065			266,515			265,851
Other operating costs	30,999		33,184			92,631			97,734
General and administrative expenses	28,308		25,356			80,467			75,969
Professional accounting and legal fees	3,107		7,844			12,189			29,015
Depreciation and amortization	8,950		9,632			27,552			29,594
Income from operations	15,924		9,540			36,876			16,463
Interest expense, net	8,939		15,097			28,519			43,197
Loss on extinguishment of debt	—		—			16,998			—
Non-service defined benefit plan expense	176		184			528			552
Income (loss) before income taxes	6,809		(5,741		)	(9,169		)	(27,286		)
Provision (benefit) for income taxes	2,440		(1,580		)	(3,848		)	(7,028		)
Net income (loss)	$	4,369	$	(4,161	)	$	(5,321	)	$	(20,258	)

Per share data:
Basic income (loss) per share	$	0.12	$	(0.11	)	$	(0.14	)	$	(0.56	)
Weighted average shares outstanding - basic	36,856,881		36,340,089			36,716,568			36,238,816
Diluted income (loss) per share	$	0.12	$	(0.11	)	$	(0.14	)	$	(0.56	)
Weighted average shares outstanding - diluted	37,556,594		36,340,089			36,716,568			36,238,816

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(In thousands)

(Unaudited)

	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
	2018		2017			2018			2017
Net income (loss)	$	4,369	$	(4,161	)	$	(5,321	)	$	(20,258	)

Other comprehensive income (loss):
Unrealized gain on cash flow hedges, net of tax of $533, $0, $541, and $0, respectively	$	1,738	$	—		$	1,762		$	—
Unrealized gain (loss) on defined benefit plan, net of tax of $0, $0, $105, and $0 respectively	26		(17		)	(240		)	(51		)
Total other comprehensive income (loss)	1,764		(17		)	1,522			(51		)
Comprehensive income (loss)	$	6,133	$	(4,178	)	$	(3,799	)	$	(20,309	)

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ DEFICIT

For the ~~Three~~Nine Months Ended ~~March 31,~~September 30, 2018

(~~dollars and share amounts in~~In thousands)

(Unaudited)

	Common Shares	Common Stock		Additional Paid-in Capital			Accumulated Other Comprehensive Loss			Accumulated Deficit			Treasury Stock			Total			Common Shares, Balance	Common Stock, Par Value		Additional Paid-in Capital			Accumulated Other Comprehensive Loss			Accumulated Deficit			Treasury Stock			Total
Balance, December 31, 2017	36,372	$	365	$	333,738		$	(1,686	)	$	(359,772	)	$	(696	)	$	(28,051	)	36,372	$	365	$	333,738		$	(1,686	)	$	(359,772	)	$	(696	)	$	(28,051	)
Cumulative effect of a change in accounting for revenue recognition (Note A)																			—	—		—			—			(759		)	—			(759		)
Balance, January 1, 2018																			36,372	365		333,738			(1,686		)	(360,531		)	(696		)	(28,810		)
Net loss	—	—		—			—			(22,618		)	—			(22,618		)	—	—		—			—			(5,321		)	—			(5,321		)
Employee related equity activity:
Shares based compensation expense																			—	—		9,573			—			—			—			9,573
Issuance of common stock upon vesting of restricted stock units	372	4		(4		)	—			—			—			—			496	5		(5		)	—			—			—			—
Stock-based compensation expense	—	—		2,585			—			—			—			2,585
Cumulative effect of a change in accounting for revenue recognition (Note A)	—	—		—			—			(759		)	—			(759		)
Effect of shares withheld to cover taxes	—	—		(2,150		)	—			—			—			(2,150		)	—	—		(2,568		)	—			—			—			(2,568		)
Total other comprehensive loss	—	—		—			(2,582		)	—			—			(2,582		)
Balance, March 31, 2018	36,744	$	369	$	334,169		$	(4,268	)	$	(383,149	)	$	(696	)	$	(53,575	)
Total other comprehensive income																			—	—		—			1,522			—			—			1,522
Balance, September 30, 2018																			36,868	$	370	$	340,738		$	(164	)	$	(365,852	)	$	(696	)	$	(25,604	)

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(~~dollars in~~In thousands)

(Unaudited)

Three Months Ended
March 31,

2018

2017

Cash flows from operating activities:

Net loss

$
(22,618
)
$
(17,734
)

Adjustments to reconcile net loss to net cash from operating activities:

Depreciation and amortization

9,330

10,137

Provision for doubtful accounts

(94
)
2,360

Stock-based compensation expense

2,585

2,164

Benefit for deferred income taxes

(6,355
)
(6,050
)
Amortization of debt issuance costs

1,701

1,952

Loss on extinguishment of debt

16,998

—

Gain on sale and disposal of fixed assets

(594
)
(672
)

Changes in operating assets and liabilities:

Accounts receivable, net

19,425

15,367

Inventories

1,085

(4,653
)
Other current assets

650

39

Income taxes

12,255

849

Accounts payable

552

6,333

Accrued expenses and other current liabilities

(5,067
)
(683
)
Accrued compensation related costs

(35,789
)
(19,171
)
Other liabilities

(2,537
)
(1,901
)
Net cash used in operating activities

(8,473
)
(11,663
)

Cash flows from investing activities:

Purchase of property, plant and equipment

(4,388
)
(2,348
)
Purchase of therapeutic program equipment leased to third parties under operating leases

(2,034
)
(629
)
Purchase of company-owned life insurance investment

(598
)
(555
)
Proceeds from sale of property, plant and equipment

840

2,179

Net cash used in investing activities

(6,180
)
(1,353
)

Cash flows from financing activities:

Borrowings under term loan, net of discount

501,467

—

Repayment of term loan

(431,875
)
(5,625
)
Borrowings under revolving credit agreement

3,000

49,500

Repayments under revolving credit agreement

(8,000
)
(31,500
)
Payment of employee taxes on stock-based compensation

(2,150
)
(1,338
)
Payment on seller note and other contingent consideration

(1,749
)
(3,498
)
Payment of capital lease obligations

(364
)
(278
)
Payment of debt issuance costs

(6,757
)
—

Payment of debt extinguishment costs

(8,436
)
—

Net cash provided by financing activities

45,136

7,261

Increase (decrease) in cash, cash equivalents and restricted cash

30,483

(5,755
)
Cash, cash equivalents and restricted cash, at beginning of period

4,779

9,412

Cash, cash equivalents and restricted cash, at end of period

$
35,262

$
3,657

~~HANGER, INC.~~

~~CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - (continued)~~

~~(dollars in thousands)~~

~~(Unaudited)~~

	For the Nine Months Ended September 30,
	2018			2017
Cash flows from operating activities:
Net loss	$	(5,321	)	$	(20,258	)
Adjustments to reconcile net loss to net cash from operating activities:
Depreciation and amortization	27,552			29,594
(Benefit) provision for doubtful accounts	(578		)	6,850
Stock-based compensation expense	9,573			8,693
Deferred income taxes	(4,114		)	(7,179		)
Amortization of debt discounts and issuance costs	2,453			6,348
Loss on extinguishment of debt	16,998			—
Gain on sale and disposal of fixed assets	(2,537		)	(1,664		)
Changes in operating assets and liabilities (Note Q)	(6,867		)	(23,392		)
Net cash provided by (used in) operating activities	37,159			(1,008		)
Cash flows from investing activities:
Purchase of property, plant and equipment	(16,435		)	(11,237		)
Purchase of therapeutic program equipment leased to third parties under operating leases	(6,390		)	(3,714		)
Purchase of company-owned life insurance investment	(598		)	(555		)
Proceeds from sale of property, plant and equipment	3,583			4,185
Net cash used in investing activities	(19,840		)	(11,321		)
Cash flows from financing activities:
Borrowings under term loan, net of discount	501,467			—
Repayment of term loan	(434,400		)	(19,688		)
Borrowings under revolving credit agreement	3,000			140,965
Repayments under revolving credit agreement	(8,000		)	(105,965		)
Payment of employee taxes on stock-based compensation	(2,568		)	(1,367		)
Payment on seller notes	(2,116		)	(4,633		)
Payment of capital lease obligations	(942		)	(873		)
Payment of debt issuance costs	(6,757		)	(2,863		)
Payment of debt extinguishment costs	(8,436		)	—
Net cash provided by financing activities	41,248			5,576
Increase (decrease) in cash, cash equivalents and restricted cash	58,567			(6,753		)
Cash, cash equivalents and restricted cash, at beginning of period	4,779			9,412
Cash, cash equivalents and restricted cash, at end of period	$	63,346		$	2,659

	Three Months Ended March 31,				For the Nine Months Ended September 30,
Reconciliation of Cash, Cash Equivalents and Restricted Cash	2018		2017		2018		2017
Cash and cash equivalents, at beginning of period	$	1,508	$	7,157	$	1,508	$	7,157
Restricted cash, at beginning of period	3,271		2,255		3,271		2,255
Cash, cash equivalents, and restricted cash, at beginning of period	$	4,779	$	9,412	$	4,779	$	9,412

Cash and cash equivalents, at end of period	$	32,913	$	1,414	$	61,035	$	460
Restricted cash, at end of period	2,349		2,243		2,311		2,199
Cash, cash equivalents, and restricted cash, at end of period	$	35,262	$	3,657	$	63,346	$	2,659

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

HANGER, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE A — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Description of Business

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

Basis of Presentation

The accompanying interim unaudited ~~interim~~ condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X, and, therefore, do not include all of the information and footnotes required by GAAP for complete financial statements. These financial statements should be read in conjunction with the audited consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2017 (the “2017 Form 10-K”), as previously filed with the Securities and Exchange Commission (“SEC”).

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

A detailed description of our significant accounting policies and management judgments is contained in our 2017 Form 10-K.

Reclassifications

We have reclassified certain amounts in the prior year consolidated financial statements to be consistent with the current year presentation. These relate to classifications within both the condensed consolidated statements of operations and condensed consolidated statement of cash flows, - see “Adoption of New Accounting Standards” for additional information.

Recent Accounting Pronouncements

Adoption of New Accounting Standards

On January 1, 2018, we adopted the following:

· Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606) and related clarifying standards (“ASC 606”), on revenue recognition using the modified retrospective method for all contracts in place at January 1, 2018. This new accounting standard outlines a single comprehensive model to use in accounting for revenue arising from contracts with customers. This standard supersedes existing revenue recognition requirements. The core principle of the revenue recognition standard is to require an entity to recognize as revenue the amount that reflects the consideration to which it expects to be entitled in exchange for goods or services as it transfers control to its customers.

The majority of our contracts are generally short term in nature. Revenue is recognized at the point of time when we transfer control of the good or service to the patient. Under ASC 606, estimated uncollectible amounts due from self-pay patients, as well as co-pays, co-insurance, and deductibles owed to us by patients with insurance are generally considered implicit price concessions and are now presented as a reduction of net revenue. Under prior guidance, these amounts were recognized as bad debt expense and were included in other operating costs. When estimating the variable consideration, we use historical collection experience to estimate amounts not expected to be collected. Conversely, subsequent changes in collectability due to a change in financial condition (i.e. bankruptcy) continues to be recognized as bad debt expense.

The adoption of this standard did not have a material impact on our results of operations. The cumulative effect of implementing this guidance resulted in an increase of $0.8 million to the opening balance of accumulated deficit from establishing a contract liability of $1.0 million for certain performance obligations that must be recognized over time and an increase in deferred tax assets in the amount of $0.3 ~~million.~~million - see “Revenue Recognition” below for additional information.

~~On January 1, 2018, we adopted two new accounting standards that clarify presentation (ASU~~· ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash) and ~~classification (ASU~~ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments) in the statement of cash flows on a retrospective basis. As a result of adoption:

· Amounts generally described as restricted cash and restricted cash equivalents are now presented with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows.

· We added a reconciliation of cash, cash equivalents, and restricted cash to the condensed consolidated statements of cash flows. Restricted cash balances are included in “Other Current Assets” in our condensed consolidated balance sheets - see Note G - “Other Current Assets and Other Assets.”

~~On January 1, 2018, we adopted~~· ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory, which requires the recognition of the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. It was applied on a modified retrospective basis through a cumulative-effect adjustment directly to accumulated deficit as of the beginning of the period of adoption. As a result of adoption, there was no material impact toon our condensed consolidated financial statements.

~~On January 1, 2018, we adopted~~· ASU No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business, which clarifies the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. As a result of adoption, there was no material impact on our condensed consolidated financial statements and we will apply the guidance to any future acquisitions should they occur.

~~On January 1, 2018, we adopted~~· ASU No. 2017-09, Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting, which amends the scope of modification accounting for share-based payment arrangements and provides guidance on the types of changes to the terms or conditions of the share-based payment awards to which an entity would be required to apply modification accounting under Accounting Standards Codification (“ASC”) 718. The amendments in ASU 2017-09 should be applied prospectively to an award modified on or after the adoption date. As a result of adoption, there was no material impact on our condensed consolidated financial statements and we will apply the guidance to any future changes to the terms or conditions of stock-based payment awards should they occur.

~~On January 1, 2018, we adopted~~· ASU No. 2017-07, Compensation - Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost, which amends ASC Topic 715. The amendments in this update require that an employer disaggregate the service cost component from the other components of net benefit cost for an entity’s defined benefit pension and other postretirement plans. The amendments also provide explicit guidance on how to present the service cost component and the other components of net benefit cost in the income statement. The amendments in this update require that an employer report the service cost component in the same line item as other compensation costs arising from services rendered by the pertinent employees during the period. The other components of net benefit costs are required to be presented in the income statement separately from the service cost component and outside of income from operations. Accordingly, we have made certain reclassifications from “General and administrative expenses” to “Non-service ~~pension~~defined benefit plan expense” of $0.2 million and $0.2 million for the three months ended ~~March 31,~~September 30, 2018 and ~~March 31,~~2017, respectively and $0.5 million and $0.6 million for the nine months ended September 30, 2018 and 2017, respectively. Such reclassifications did not have a material effect on our condensed consolidated statement of operations.

~~In August 2017, the FASB issued~~· ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. The objective of this new guidance is to improve the financial reporting of hedging relationships by, among other things, eliminating the requirement to separately measure and record hedge ineffectiveness. ASU 2017-12 is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years with early adoption permitted. We adopted this guidance effective January 1, 2018. The adoption did not have a material impact on our condensed consolidated financial statements or disclosures.

New Accounting Standards Issued, Not Yet Adopted

In ~~February~~August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Topic 220). The ASU is intended to improve the recognition and measurement of financial instruments. The new guidance aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). This ASU is effective for public entities for fiscal years beginning after December 15, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.
In August 2018, the FASB issued ASU No. 2018-14, Compensation - Retirement Benefits - Defined Benefit Plans - General (Topic 715). This ASU modifies the disclosure requirements for defined benefit and other postretirement plans. This ASU eliminates certain disclosures associated with accumulated other comprehensive income, plan assets, related parties, and the effects of interest rate basis point changes on assumed health care costs; while other disclosures have been added to address significant gains and losses related to changes in benefit obligations. This ASU also clarifies disclosure requirements for projected benefit and accumulated benefit obligations. The amendments in this ASU are effective for fiscal years ending after December 15, 2020 and for interim periods therein with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.
In August 2018, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2018-13, Fair Value Measurement (Topic 820), which modifies the disclosures on fair value measurements by removing the requirement to disclose the amount and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy and the policy for timing of such transfers. The ASU expands the disclosure requirements for Level 3 fair value measurements, primarily focused on changes in unrealized gains and losses included in other comprehensive income. The ASU is effective for public entities for fiscal years beginning after December 15, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.
In February 2018, the FASB issued ASU No. 2018-02, Income Statement-Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income~~(ASU 2018-02)~~, which allows companies to reclassify stranded tax effects resulting from the Tax Cuts and Jobs Act of 2017 (the “Tax Act”), which was signed into law on December 22, 2017, from accumulated other comprehensive income to retained earnings. This new standard is effective for us beginning January 1, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which replaces the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. This new standard is effective for us beginning December 15, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). The amendments in ~~this~~ ASU 2016-02, and related clarifying standards, revise the accounting for leases. Under the new guidance, lessees will be required to recognize a lease liability and a right-of-use asset for all leases that extend beyond 12 months. The asset and liability will initially be measured at the present value of the lease payments. The new lease guidance also simplified the accounting for sale and leaseback transactions primarily because lessees must recognize lease assets and lease liabilities. The amendments in this ASU are effective for ~~fiscal year~~us beginning January 1, 2019 and will be applied ~~through~~using a ~~modified retrospective~~cumulative effect adjustment transition approach at the adoption date which includes a number of practical expedients for leases existing at, or entered into after, the ~~beginning of the earliest comparative period presented in the consolidated financial statements. Early~~ adoption ~~is permitted.~~date. We ~~have not yet concluded~~are evaluating how the new standard will impact our condensed consolidated financial ~~statements. Nonetheless, we~~statements, and currently anticipate that there will be a material increase to assets and lease liabilities for existing property leases representing our nationwide retail ~~locations that~~locations. In addition, we are ~~not already included~~evaluating the impact on presentation and timing of lease-related expenses for those leases which are currently recorded as financing leases on our ~~consolidated~~ balance sheet.
Revenue Recognition

Effect of Adoption of ASC 606

On January 1, 2018, we adopted ASC 606 using the modified retrospective method applied to all contracts which were not completed as of January 1, 2018. As a practical expedient, we adopted a portfolio approach in evaluating our sources of revenue for implications of adoption. In accordance with the modified retrospective method, results of operations for the reporting periods after January 1, 2018 are presented under ASC 606, while prior period amounts are not adjusted and continue to be reported in accordance with ASC 605, Revenue Recognition (“ASC 605”).

We recognized the cumulative effect of initially applying the new revenue standard as an adjustment to the opening balance of accumulated deficit. Upon adoption of ASC 606, the cumulative effect of the changes made to our condensed consolidated balance sheet as of January 1, 2018 was as follows:

December 31, 2017

Effects of

January 1, 2018

December 31, 2017

Effects of

January 1, 2018

(in thousands)

As reported

Adoption

After adoption

As reported

Adoption

After adoption

Assets

Deferred income taxes

$
68,126

$
268

$
68,394

$
68,126

$
268

$
68,394

Liabilities

Accrued expenses and other current liabilities

$
66,683

$
1,027

$
67,710

$
66,308

$
1,027

$
67,335

Shareholders’ Deficit

Accumulated deficit

$
(359,772
)
$
(759
)
$
(360,531
)

$
(359,772
)
$
(759
)
$
(360,531
)

In accordance with the new revenue standard requirements, the disclosure of the impact of adoption on our condensed consolidated statement of operations and condensed consolidated balance sheet is as follows:

As of and for the Three Months Ended September 30, 2018

(in thousands)

As Reported

Effects of Adoption

Proforma balance
without the
adoption of
ASC 606

Condensed Consolidated Statement of Operations

Net revenues

$
262,946

$
645

$
263,591

Other operating costs

30,999

736

31,735

Income from operations

15,924

(91
)
15,833

Income before income taxes

6,809

(91
)
6,718

Net income

4,369

(91
)
4,278

Comprehensive income

6,133

(91
)
6,042

Condensed Consolidated Balance Sheet

Assets

Deferred income taxes

$
71,967

$
24

$
71,991

Total assets

675,629

24

675,653

Liabilities

Accrued expenses and other current liabilities

54,790

92

54,882

Total current liabilities

148,872

92

148,964

Total liabilities

701,233

92

701,325

Shareholders’ Deficit

Accumulated deficit

(365,852
)
(68
)
(365,920
)
Total shareholders’ deficit

(25,604
)
(68
)
(25,672
)

As of and for the three months ended March 31, 2018

As of and for the Nine Months Ended September 30, 2018

(in thousands)

As Reported

Effects of Adoption

Proforma balance
without the
adoption of
ASC 606

As Reported

Effects of Adoption

Proforma balance
without the
adoption of
ASC 606

Condensed Consolidated Statement of Operations

Net revenue

$
233,995

$
898

$
234,893

Net revenues

$
763,907

$
2,866

$
766,773

Other operating costs

31,096

868

31,964

92,631

2,937

95,568

Income from operations

623

30

653

36,876

(71
)
36,805

Loss before income taxes

(28,814
)
30

(28,784
)

(9,169
)
(71
)
(9,240
)
Net loss

(22,618
)
30

(22,588
)

(5,321
)
(71
)
(5,392
)
Comprehensive loss

(25,200
)
30

(25,170
)

(3,799
)
(71
)
(3,870
)

Condensed Consolidated Balance Sheet

Assets

Deferred income taxes

$
75,449

$
(276
)
$
75,173

$
71,967

$
(249
)
$
71,718

Total assets

644,283

(276
)
644,007

675,629

(249
)
675,380

Liabilities

Accrued expenses and other current liabilities

64,695

(1,057
)
63,638

54,790

(956
)
53,834

Total current liabilities

142,945

(1,057
)
141,888

148,872

(956
)
147,916

Total liabilities

697,858

(1,057
)
696,801

701,233

(956
)
700,277

Shareholders’ Deficit

Accumulated deficit

(383,149
)
781

(382,368
)

(365,852
)
707

(365,145
)
Total shareholders’ deficit

(53,575
)
781

(52,794
)

(25,604
)
707

(24,897
)

The adoption of ASC 606 resulted in deferring ~~$1.1~~$1.0 million of net revenue from our Patient Care segment as of ~~March 31,~~September 30, 2018 and recognizing ~~net~~deferred revenue ~~for~~of $1.0 million from satisfying performance obligations from the previous period. Estimated uncollectible amounts due from self-pay patients for the three and nine months ended ~~March 31,~~September 30, 2018 were ~~$0.9~~$0.6 million and $2.9 million, respectively, and are considered implicit price concessions under ASC 606 and are recorded as a reduction to net revenue.

Patient Care Segment

Revenue in our Patient Care segment is primarily derived from contracts with third party payors for the provision of O&P devices and is recognized upon the transfer of control of promised products or services to the patient at the time the patient receives the device. At, or subsequent to delivery, we issue an invoice to the third party payor, which primarily consists of commercial insurance companies, Medicare, Medicaid, the U.S. Department of Veterans Affairs, and private or patient pay (“Private Pay”) individuals. We recognize revenue for the amounts we expect to receive from payors based on expected contractual reimbursement rates, which are net of estimated contractual discounts and implicit price concessions. These revenue amounts are further revised as claims are adjudicated, which may result in additional disallowances. As such, these adjustments do not relate to an inability to pay, but to contractual allowances, our failure to ensure that a patient was currently eligible under a payor’s health plan, that the plan provides full O&P benefits, that we received prior authorization, that we filed or appealed the payor’s determination timely, on the basis of our coding, failure by certain classes of patients to pay their portion of a claim, or other administrative issues which are considered as part of the transaction price and recorded as a reduction of revenues.

Our products and services are sold with a 90-day labor and 180-day warranty for fabricated components. Warranties are not considered a separate performance obligation. We estimate warranties based on historical trends and include them in accrued expenses and other current liabilities in the condensed consolidated balance sheet.

A portion of our O&P revenue comes from the provision of cranial devices. In addition to delivering the cranial device, there are patient ~~follow up~~follow-up visits where we assist in treating the patient’s condition by adjusting or modifying the cranial device. We conclude that, for these devices, there are two performance obligations and use the expected cost plus margin approach to estimate for the standalone selling price of each performance obligation. The allocated portion associated with the patient’s receipt of the cranial device is recognized when the patient receives the device while the portion of revenue associated with the ~~follow up~~follow-up visits is initially recorded as deferred revenue. On average, the cranial device ~~follow up~~follow-up visits occur within 90 days after the patient receives the device and the deferred revenue is recognized on a straight line basis over this period.
Medicare and Medicaid regulations and the various agreements we have with other third party payors, including commercial healthcare payors under which these contractual adjustments and disallowed revenue are calculated, are complex and are subject to interpretation and adjustment and may include multiple reimbursement mechanisms for different types of services. Therefore, the particular O&P devices and related services authorized and provided, and the related reimbursement, are subject to interpretation and adjustment that could result in payments that differ from our estimates. Additionally, updated regulations and reimbursement schedules, and contract renegotiations occur frequently, necessitating regular review and assessment of the estimation process by management. As a result, there is a reasonable possibility that recorded estimates could change and any related adjustments will be recorded as adjustments to net revenue when they become known.

The following table disaggregates ~~our Patient Care segment’s~~ revenue from contracts with customers in our Patient Care segment for the three and nine months ended ~~March 31,~~September 30, 2018 and 2017:

For the Three Months Ended March 31,

For the Three Months Ended
September 30,

For the Nine Months Ended
September 30,

(in thousands)

2018

2017

2018

2017

2018

2017

Patient Care Segment

Medicare

$
57,531

$
55,245

$
69,724

$
65,759

$
197,461

$
186,606

Medicaid

29,711

28,292

33,597

32,557

96,993

95,524

Commercial Insurance/Managed Care (excluding Medicare and Medicaid Managed Care)

70,582

74,166

Commercial Insurance/ Managed Care (excluding Medicare and Medicaid Managed Care)

78,333

79,804

226,761

234,866

Veterans Administration

16,731

15,572

19,317

18,662

56,873

52,995

Private Pay

13,952

14,362

13,109

13,855

42,657

44,504

Total

$
188,507

$
187,637

$
214,080

$
210,637

$
620,745

$
614,495

Products & Services Segment

The adoption of ASC 606 did not have a material impact on our Product & Services segment.

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

Distribution services revenues are recognized when obligations under the terms of a contract with our customers are satisfied, which occurs with the transfer of control of our products. This occurs either upon shipment or delivery of goods, depending on whether the terms are FOB Origin or FOB Destination. Payment terms are typically between 30 to 90 days. Revenue is measured as the amount of consideration we expect to receive in exchange for transferring products to a customer (“transaction price”).

To the extent that the transaction price includes variable consideration, such as prompt payment discounts, list price discounts, rebates, and volume discounts, we estimate the amount of variable consideration that should be included in the transaction price utilizing the most likely amount method. Variable consideration is included in the transaction price if, in our judgment, it is probable that a significant future reversal of cumulative revenue under the contract will not occur. Estimates of variable consideration and determination of whether to include estimated amounts in the transaction price are based largely on an assessment of our anticipated performance and all information (historical, current, and forecasted) that is reasonably available.

We reduce revenue by estimates of potential future product returns and other allowances. Provisions for product returns and other allowances are recorded as a reduction to revenue in the period sales are recognized. We make estimates of the amount of sales returns and allowances that will eventually be incurred. Management analyzes sales programs that are in effect, contractual arrangements, market acceptance, and historical trends when evaluating the adequacy of sales returns and allowance accounts.

Therapeutic program equipment and related services revenue are recognized over the applicable term the customer has the right to use the equipment and as the services are provided. Equipment sales revenue is recognized upon delivery, with any related services revenue deferred and recognized as the services are performed. Sales of consumables are recognized upon delivery.

In addition, we estimate amounts recorded to bad debt expense using historical trends and these are presented as a bad debt expense under the operating expense section of our condensed consolidated financial statements.
The following table disaggregates ~~our Product & Services segment’s~~ revenue from contracts with customers in our Product & Services segment for the three and nine months ended ~~March 31,~~September 30, 2018 and 2017:

For the Three Months Ended March 31,

(in thousands)

2018

2017

Products & Services Segment

Distribution services, net of intersegment revenue eliminations

$
31,351

$
30,624

Therapeutic solutions

14,137

15,420

Total

$
45,488

$
46,044

For the Three Months Ended
September 30,

For the Nine Months Ended
September 30,

(in thousands)

2018

2017

2018

2017

Products & Services Segment

Distribution services, net of intersegment revenue eliminations

$
34,666

$
32,439

$
100,700

$
95,030

Therapeutic solutions

14,200

14,890

42,462

45,508

Total

$
48,866

$
47,329

$
143,162

$
140,538

NOTE B — EARNINGS PER SHARE

Basic earnings per ~~common~~ share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings per ~~common~~ share is computed using the weighted average number of common shares outstanding during the period plus any potentially dilutive common shares, such as stock options, restricted stock units, and performance-based units calculated using the treasury stock method. Total anti-dilutive shares excluded from the diluted earnings per share were ~~208,510 of as March 31,~~zero and 48,502 for the three and nine months ended September 30, 2018 and ~~368,796 as of March 31,~~867,930 and 475,905 for the three and nine months ended September 30, 2017.

Our credit agreement restricts the payment of dividends or other distributions to our shareholders with respect to Hanger, Inc., ~~the parent company,~~ or any of its subsidiaries.

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

Three Months Ended March 31,

(in thousands, except share and per share data)

2018

2017

Net loss

$
(22,618
)
$
(17,734
)

Weighted average shares used to compute basic earnings per common share

36,498,482

36,084,630

Effect of potentially dilutive restricted stock units and options (1)

—

—

Weighted average shares used to compute diluted earnings per common share

36,498,482

36,084,630

Basic and diluted loss per common share

$
(0.62
)
$
(0.49
)

For the Three Months Ended
September 30,

For the Nine Months Ended
September 30,

(in thousands except per share data)

2018

2017

2018

2017

Net income (loss)

$
4,369

$
(4,161
)
$
(5,321
)
$
(20,258
)

Weighted average shares outstanding - basic

36,857

36,340

36,717

36,239

Effect of potentially dilutive restricted stock units and options (1)

700

—

—

—

Weighted average shares outstanding - diluted

37,557

36,340

36,717

36,239

Basic income (loss) per share

$
0.12

$
(0.11
)
$
(0.14
)
$
(0.56
)

Diluted income (loss) per share

$
0.12

$
(0.11
)
$
(0.14
)
$
(0.56
)

(1) ~~As we are recognizing~~In accordance with ASC 260 - Earnings Per Share, during periods of a net loss, ~~for the periods presented,~~ shares used to compute diluted per ~~common~~ share ~~amounts excludes 537,497 shares for 2018 and 401,204 shares for 2017 of~~amount exclude potentially dilutive shares related to unvested restricted stock units and unexercised ~~options in accordance with ASC 260 - Earnings Per Share.~~options. For the three months ended September 30, 2017, 224,663 shares were excluded. For the nine month periods ended September 30, 2018 and 2017, shares excluded were 680,444 and 295,089, respectively.

NOTE C — ACCOUNTS RECEIVABLE, NET

Accounts receivable, net ~~represent~~represents outstanding amounts we expect to collect from the transfer of our products and services. Principally, these amounts are comprised of receivables from Medicare, Medicaid, and commercial insurance plans. Under ASC 606, our accounts ~~receivables~~receivable represent amounts outstanding from our gross billings, net of contractual discounts and other implicit price concessions including estimates for payor disallowances, sales returns, and patient non-payments.

Under both ASC 606 and ASC 605, disallowed revenue is considered an adjustment to the transaction price. However, upon adoption of ASC 606, estimated uncollectible amounts due to us by patients are generally considered implicit price concessions and are now presented as a reduction of net revenue. Under prior guidance, these amounts were recognized as bad debt expense in other operating expenses.
An allowance for doubtful accounts is also recorded for our Products & Services segment which is deducted from gross accounts receivable to arrive at “Accounts receivable, net.” Accounts receivable, net as of ~~March 31,~~September 30, 2018, and December 31, 2017 is comprised of the following:

As of March 31, 2018

As of December 31, 2017

(in thousands)

Patient Care

Products &
Services

Consolidated

Patient Care

Products &
Services

Consolidated

Accounts receivable, before allowances

$
170,274

$
23,179

$
193,453

$
193,150

$
23,494

$
216,644

Allowances for estimated implicit price concessions arising from:

Allowance for estimated payor disallowances

(53,370
)
—

(53,370
)
(56,233
)
—

(56,233
)
Allowance for estimated patient non-payments

(8,848
)
—

(8,848
)
—

—

—

Accounts receivable, gross

108,056

23,179

131,235

136,917

23,494

160,411

Allowance for doubtful accounts

—

(4,225
)
(4,225
)
(9,894
)
(4,171
)
(14,065
)
Accounts receivable, net

$
108,056

$
18,954

$
127,010

$
127,023

$
19,323

$
146,346

As of September 30, 2018

As of December 31, 2017

(in thousands)

Patient Care

Products &
Services

Consolidated

Patient Care

Products &
Services

Consolidated

Accounts receivable, before allowances

$
170,030

$
26,105

$
196,135

$
193,150

$
23,494

$
216,644

Allowances for estimated implicit price concessions arising from:

Payor disallowances

(52,267
)
—

(52,267
)
(56,233
)
—

(56,233
)
Patient non-payments

(7,716
)
—

(7,716
)
—

—

—

Accounts receivable, gross

110,047

26,105

136,152

136,917

23,494

160,411

Allowance for doubtful accounts

—

(3,706
)
(3,706
)
(9,894
)
(4,171
)
(14,065
)
Accounts receivable, net

$
110,047

$
22,399

$
132,446

$
127,023

$
19,323

$
146,346

NOTE D — INVENTORIES

Our inventories are comprised of the following:

(in thousands)

March 31, 2018

December 31, 2017

As of September 30, 2018

As of December 31, 2017

Raw materials

$
20,161

$
19,929

$
20,049

$
19,929

Work in process

11,543

8,996

12,649

8,996

Finished goods

38,347

40,213

39,903

40,213

Total inventories

$
70,051

$
69,138

$
72,601

$
69,138

NOTE E — PROPERTY PLANT AND EQUIPMENT, NET

Property, plant, and equipment, net were comprised of the following:

(in thousands)

March 31, 2018

December 31, 2017

As of
September 30, 2018

As of
December 31, 2017

Land

$
644

$
644

$
644

$
644

Buildings

26,458

28,180

25,475

28,180

Furniture and fixtures

13,448

12,968

14,231

12,968

Machinery and equipment

26,963

26,838

27,551

26,838

Therapeutic program equipment leased to third parties under operating leases

30,317

31,100

29,059

31,100

Leasehold improvements

103,136

100,999

106,885

100,999

Computers and software

65,847

65,455

69,105

65,455

Total property, plant, and equipment, gross

266,813

266,184

272,950

266,184

Less: accumulated depreciation

(175,511
)
(172,569
)

(183,526
)
(172,569
)
Total property, plant, and equipment, net

$
91,302

$
93,615

$
89,424

$
93,615

Total depreciation expense was approximately ~~$7.4~~$7.5 million and ~~$7.7~~$7.3 million for the three months ended ~~March 31,~~September 30, 2018 and 2017, respectively and $22.3 million and $22.4 million for the nine months ended September 30, 2018 and 2017, respectively.
NOTE F — GOODWILL AND OTHER INTANGIBLE ASSETS

We assess goodwill and indefinite lived intangible assets for impairment annually on October 1st, and between annual tests if an event occurs, or circumstances change, that would more likely than not reduce the fair value of a reporting unit below its carrying value.
The carrying value of goodwill ~~at March 31,~~as of September 30, 2018 and December 31, 2017 was $196.3 ~~million.~~million and related to our Patient Care segment.
The balances related to intangible assets as of ~~March 31,~~September 30, 2018 and December 31, 2017 are as follows:

March 31, 2018

December 31, 2017

As of September 30, 2018

As of December 31, 2017

(in thousands)

Gross
Carrying
Amount

Accumulated
Amortization

Accumulated
Impairment

Net
Carrying
Amount

Gross
Carrying
Amount

Accumulated
Amortization

Accumulated
Impairment

Net
Carrying
Amount

Gross
Carrying
Amount

Accumulated
Amortization

Accumulated
Impairment

Net
Carrying
Amount

Gross
Carrying
Amount

Accumulated
Amortization

Accumulated
Impairment

Net
Carrying
Amount

Customer lists

$
36,250

$
(25,705
)
$
—

$
10,545

$
36,439

$
(24,267
)
$
—

$
12,172

$
30,563

$
(22,671
)
$
—

$
7,892

$
36,439

$
(24,267
)
$
—

$
12,172

Other intangible assets

15,553

(10,427
)
—

5,126

15,820

(10,352
)
—

5,468

14,996

(10,551
)
—

4,445

15,820

(10,352
)
—

5,468

Definite-lived intangible assets

51,803

(36,132
)
—

15,671

52,259

(34,619
)
—

17,640

45,559

(33,222
)
—

12,337

52,259

(34,619
)
—

17,640

Indefinite life - trade name

9,070

—

(4,770
)
4,300

9,070

—

(4,770
)
4,300

Indefinite-life trade name

9,070

—

(4,770
)
4,300

9,070

—

(4,770
)
4,300

Total other intangible assets

$
60,873

$
(36,132
)
$
(4,770
)
$
19,971

$
61,329

$
(34,619
)
$
(4,770
)
$
21,940

$
54,629

$
(33,222
)
$
(4,770
)
$
16,637

$
61,329

$
(34,619
)
$
(4,770
)
$
21,940

Total intangible amortization expense was approximately ~~$2.0~~$1.5 million and ~~$2.4~~$2.3 million for the three months ended ~~March 31,~~September 30, 2018 and 2017, respectively and $5.3 million and $7.2 million for the nine months ended September 30, 2018 and 2017, respectively.

Estimated aggregate amortization expense for ~~definite lived~~definite-lived intangible assets for each of the next five years ended December 31st31st and thereafter is as follows:

(in thousands)

2018 (remainder of year)

$
4,721

$
1,436

2019

3,714

3,762

2020

3,457

3,509

2021

879

927

2022

817

860

Thereafter

2,083

1,843

Total

$
15,671

$
12,337

NOTE G — OTHER CURRENT ASSETS AND OTHER ASSETS

Other current assets consist of the following:

(in thousands)

March 31, 2018

December 31, 2017

As of September 30, 2018

As of December 31, 2017

Non-trade receivables

$
6,379

$
7,668

$
7,582

$
7,668

Prepaid rent

4,442

4,248

4,454

4,248

Prepaid maintenance

2,896

3,134

3,548

3,134

Restricted cash

2,349

3,271

2,311

3,271

Prepaid other

1,160

1,436

Prepaid insurance

1,627

271

739

271

Prepaid benefits

621

368

Other

1,151

860

1,487

1,928

Total other current assets

$
20,004

$
20,888

$
20,742

$
20,888

Other assets consist of the following:
(in thousands)

As of September 30, 2018

As of December 31, 2017

Cash surrender value of company owned life insurance

$
3,097

$
2,340

Non-trade receivables

2,451

2,407

Surety bond

2,000

2,500

Deposits

2,083

2,193

Derivative asset

2,819

—

Other

261

—

Total other assets

$
12,711

$
9,440

(in thousands)

March 31, 2018

December 31, 2017

Cash surrender value of COLI

$
2,986

$
2,340

Non-trade receivables

2,417

2,407

Deposits

2,221

2,193

Other

2,792

2,500

Total other assets

$
10,416

$
9,440

NOTE H — ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES AND OTHER LIABILITIES

Accrued expenses and other current liabilities consist of:

(in thousands)

March 31, 2018

December 31, 2017

As of September 30, 2018

As of December 31, 2017

Patient prepayments, deposits and refunds payable

$
30,803

$
30,194

$
25,299

$
30,194

Accrued professional fees

6,069

11,612

4,585

11,612

Insurance and self-insurance accruals

9,050

8,901

9,136

8,901

Accrued sales taxes and other taxes

5,991

6,335

6,800

6,335

Derivative liability

515

—

Accrued interest payable

486

845

501

845

Other current liabilities

12,296

8,796

7,954

8,421

Total

$
64,695

$
66,683

Total accrued expenses and other current liabilities

$
54,790

$
66,308

Other liabilities consist of:

(in thousands)

March 31, 2018

December 31, 2017

As of September 30, 2018

As of December 31, 2017

Supplemental executive retirement plan obligations

$
20,396

$
21,842

$
20,751

$
21,842

Long-term insurance accruals

9,531

9,531

9,291

9,531

Deferred tenant improvement allowances

7,601

7,361

8,265

7,361

Unrecognized tax benefits

5,271

5,219

5,404

5,219

Deferred rent

4,735

4,909

4,580

4,909

Other

2,144

1,391

1,104

1,391

Total

$
49,678

$
50,253

Total other liabilities

$
49,395

$
50,253

NOTE I — INCOME TAXES

We recorded a provision from income tax of $2.4 million and a benefit from income tax of ~~$6.2 million and $6.0~~$1.6 million for the three months ended ~~March 31,~~September 30, 2018 and ~~March 31,~~ 2017, respectively. The effective tax rate was ~~21.5%~~35.8% and ~~25.3%~~27.5% for the three months ended ~~March 31,~~September 30, 2018 and ~~March 31,~~2017, respectively. We recorded a benefit from income tax of $3.8 million and a benefit of $7.0 million for the nine months ended September 30, 2018 and 2017, respectively. The effective tax rate was 42.0% and 25.8% for the nine months ended September 30, 2018 and 2017, respectively.

We typically determine our interim income tax provision by using the estimated annual effective tax rate and applying that rate to income/loss on a current year-to-date basis. We have determined that since small changes in estimated ordinary income for 2018 would result in significant changes in the estimated annual effective tax rate, this method would not provide reliable results for the quarter ended March 31, 2018. Therefore, a discrete year-to-date method of reporting was used for the quarter ended March 31, 2018. Under the discrete method, we determined the income tax provision based upon actual results as if the interim period were an annual period.
The ~~decrease~~increase in the effective tax rate for the three months ended ~~March 31,~~September 30, 2018 compared with the three months ended ~~March 31,~~September 30, 2017 is primarily attributable to income before income tax for the three months ended September 30, 2018 compared to loss before income tax for the three months ended September 30, 2017, partially offset by the changes enacted by the Tax ~~Act and using the discrete method for interim reporting for the three months ended March 31, 2018.~~Act. Our effective tax rate for the three months ended ~~March 31,~~September 30, 2018 differed from the federal statutory tax rate of 21% primarily due to non-deductible expenses and the ~~shortfall~~windfall from stock-based compensation recorded as a discrete item during the period. Our effective tax rate for the three months ended ~~March 31,~~September 30, 2017 differed from the federal statutory tax rate of 35% primarily due to non-deductible expenses and the shortfall from stock-based compensation recorded as a discrete item during the period.
The decrease in the income tax benefit for the nine months ended September 30, 2018 compared with the nine months ended September 30, 2017 is largely driven by the decreased loss before taxes for the period, partially offset by increased estimated annual effective tax rate applied to the quarter. The increase in estimated annual effective tax rate was driven by increased estimated permanent differences and decreased estimated loss before taxes. Our effective tax rate for the nine months ended September 30, 2018 differed from the federal statutory tax rate of 21% primarily due to non-deductible expenses and the shortfall from stock based compensation recorded as a discrete item during the period. Our effective tax rate for the nine months ended September 30, 2017 differed from the federal statutory tax rate of 35% primarily due to non-deductible expenses and the shortfall from stock based compensation recorded as a discrete item during the period.

On December 22, 2017, Staff Accounting Bulletin No. 118 (“SAB 118”) was issued to address the application of U.S. GAAP in situations when a registrant does not have the necessary information available, prepared, or analyzed (including computations) in reasonable detail to complete the accounting for certain income tax effects of the Tax Act. In the fourth quarter of 2017, we recorded a provisional amount of $35.0 million of tax expense related to re-measurement of our deferred tax assets and liabilities.
For the ~~three~~nine months ended ~~March 31,~~September 30, 2018, there were no significant adjustments to this amount although it remains provisional. Additional work is still necessary for a more detailed analysis of our deferred tax assets and liabilities. The future issuance of U.S. Treasury Regulations, administrative interpretations or court decisions interpreting the Tax Act may require further adjustments and changes in our estimate. Any subsequent adjustment to these amounts will be recorded to current tax expense in the quarter ofended December 31, 2018 when the analysis is complete.

NOTE J — LONG-TERM DEBT

Long-term debt consists of the following:

(in thousands)

March 31, 2018

December 31, 2017

As of
September 30, 2018

As of
December 31, 2017

Credit Agreement, dated March 6, 2018

Revolving credit facility

$
—

$
—

$
—

$
—

Term loan B

505,000

—

502,475

—

Prior Credit Agreement, dated August 1, 2016

Term loan B

$
—

$
280,000

—

280,000

Prior Credit Agreement, dated June 17, 2013

Revolving credit facility

—

5,000

—

5,000

Term loan

—

151,875

—

151,875

Seller notes

4,163

5,912

3,796

5,912

Financing leases and other

16,812

18,169

15,424

18,169

Total debt before unamortized discount and debt issuance costs

$
525,975

$
460,956

521,695

460,956

Unamortized discount and debt issuance costs, net

(10,428
)
(10,692
)

(9,702
)
(10,692
)
Total debt

$
515,547

$
450,264

511,993

450,264

Less: Current portion of long-term debt

10,312

4,336

Current portion of long-term debt

9,027

4,336

Long-term debt

$
505,235

$
445,928

$
502,966

$
445,928

Refinancing of Credit Agreement and Term B Borrowings

On March 6, 2018, we entered into a new $605.0 million Senior Credit Facility (the “Credit Agreement”).

The Credit Agreement provides for (i) a revolving credit facility with an initial maximum aggregate amount of availability of $100.0 million that matures in March 2023 and (ii) a $505.0 million Term loan B facility due in quarterly principal installments commencing June 29, 2018, with all remaining outstanding principal due at maturity in March 2025. Availability under the revolving credit facility is reduced by outstanding letters of credit, which were approximately $5.9 million as of ~~March 31,~~September 30, 2018. We may (a) increase the aggregate principal amount of any outstanding tranche of term loans or add one or more additional tranches of term loans under the loan documents, and/or (b) increase the aggregate principal amount of revolving commitments or
add one or more additional revolving loan facilities under the loan documents by an aggregate amount of up to the sum of (1) $125.0 million and (2) an amount such that, after giving effect to such incurrence of such amount (but excluding the cash proceeds of such incremental facilities and certain other indebtedness, and treating all commitments in respect of revolving indebtedness as fully drawn), the consolidated first lien net leverage ratio is equal to or less than 3.80 to 1.00, if certain conditions are satisfied, including the absence of a default or an event of default under the Credit Agreement at the time of the increase and that we obtain the consent of each lender providing any incremental facility.

Net proceeds from ~~the~~our initial borrowings under the Credit Agreement, which totaled approximately $501.5 million, were used in part to repay in full all previously existing loans outstanding under our previous credit agreement and Term B credit agreement. Proceeds were also used to pay various transaction costs including fees paid to respective lenders and accrued and unpaid interest. The remainder of the proceeds are being used to provide ongoing working capital and capital for other general corporate purposes.

In connection with the Credit Agreement, we paid debt issuance costs of approximately $6.8 million. As part of the repayment of amounts outstanding under our prior credit agreements, we paid a call premium totaling approximately $8.4 million and expensed outstanding unamortized discount and debt issuance costs totaling approximately $8.6 million. The call
premium and unamortized debt issuance costs on the prior credit agreements are included in “Loss on ~~Extinguishment~~extinguishment of ~~Debt”~~debt” in the condensed consolidated statements of operations for the ~~three~~nine months ended ~~March 31,~~September 30, 2018.

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

Borrowings under the Credit Agreement bear interest at a variable rate equal to (i) LIBOR plus a specified margin, or (ii) the base rate (which is the highest of (a) Bank of America, N.A.’s prime rate, (b) the federal funds rate plus 0.50% or (c) the sum of 1% plus one-month LIBOR) plus a specified margin. ~~At March 31,~~For the three months ended September 30, 2018, the weighted average interest rate on outstanding borrowings under our Term loan B facility was approximately ~~5.4%~~5.6%. We have entered into interest rate swap agreements to hedge certain of our interest rate exposures, as more fully disclosed in Note L - “Derivative Financial Instruments.”

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

The Credit Agreement contains various restrictions and covenants, ~~including~~including: i) requirements that we maintain certain financial ratios at prescribed levels, ii) a prohibition on payment of dividends and other distributions and iii) restrictions on our ability and certain of our subsidiaries to consolidate or merge, create liens, incur additional indebtedness, dispose of assets, or consummate acquisitions ~~make investments and pay dividends and other distributions.~~outside the healthcare industry. The Credit Agreement includes the following financial covenants applicable for so long as any revolving loans and/or revolving commitments remain outstanding under the Credit Agreement: (i) a maximum consolidated first lien net leverage ratio (defined as, with certain adjustments and exclusions, the ratio of consolidated first-lien indebtedness to consolidated net income before interest, taxes, depreciation, amortization, non-cash charges and certain other items (“EBITDA”) for the most recently ended period of four fiscal quarters for which financial statements are available) of 5.00 to 1.00 for the fiscal quarters ended June 30, 2018, September 30, 2018, December 31, 2018 and March 31, 2019; 4.75 to 1.00 for the fiscal quarters ended June 30, 2019 through March 31, 2020; 4.50 to 1.00 for the fiscal quarters ended June 30, 2020 through March 31, 2021; 4.25 to 1.00 for the fiscal quarters ended June 30, 2021 through March 31, 2022; and 3.75 to 1.00 for the fiscal quarter ended June 30, 2022 and the last day of each fiscal quarter thereafter; and (ii) a minimum interest coverage ratio (defined as, with certain adjustments, the ratio of our EBITDA to consolidated interest expense to the extent paid or payable in cash) of 2.75 to 1.00 as of the last day of any fiscal quarter. We were in compliance with all covenants at September 30, 2018.

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

Scheduled maturities of debt at ~~March 31,~~September 30, 2018 were as follows (in thousands):
2018 (remainder of year)

$
7,320

2019

8,095

2020

7,011

2021

5,619

2022

5,720

Thereafter

492,210

Total debt before unamortized discount and debt issuance costs, net

525,975

Unamortized discount and debt issuance costs, net

(10,428
)
Total debt

$
515,547

2018 (remainder of year)

$
2,897

2019

8,480

2020

7,329

2021

6,497

2022

6,098

Thereafter

490,394

Total debt before unamortized discount and debt issuance costs, net

521,695

Unamortized discount and debt issuance costs, net

(9,702
)
Total debt

$
511,993

NOTE K — FAIR VALUE MEASUREMENTS

Fair Value Measurements

We follow the authoritative guidance for financial assets and liabilities, which establishes a framework for measuring fair value and requires enhanced disclosures about fair value measurements. The authoritative guidance requires disclosure about how fair value is determined for assets and liabilities and establishes a hierarchy by which these assets and liabilities must be categorized, based on significant levels of inputs as follows:

Level 1 consists of securities for which there are quoted prices in active markets for identical securities;

Level 2 consists of securities for which observable inputs other than Level 1 inputs are used, such as quoted prices for similar securities in active markets or quoted prices for identical securities in less active markets and model-derived valuations for which the variables are derived from, or corroborated by, observable market data; and

Level 3 consists of securities for which there are no observable inputs to the valuation methodology that are significant to the measurement of the fair value.

The determination of where assets and liabilities fall within this hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

Financial Instruments

We hold investments in money market funds which are measured at fair value on a recurring basis. As of ~~March 31,~~September 30, 2018 and December 31, 2017, $2.3 million and $3.3 million, respectively, of money market funds which are restricted from general use are presented within “Other current assets.” The fair values of our money market funds are based on Level 1 observable market prices and are equivalent to one dollar per share. The carrying value of accounts receivable and accounts payable approximate their fair values based on the short-term nature of these instruments.

In March 2018, we refinanced our credit facilities with the Credit Agreement. The carrying value of our outstanding term loan as of ~~March 31,~~September 30, 2018 was ~~$505.0~~$502.5 million ~~which approximates~~compared to its fair ~~value.~~value of $500.6 million. The carrying value of our outstanding term loan as of December 31, 2017 was $151.9 million compared to its fair value of $149.4 million. The carrying value of our outstanding Term Loan B as of December 31, 2017 was $280.0 million compared to its fair value of $283.5 million. Our estimates of fair value are based on a discounted cash flow model and indicative quote using unobservable inputs, primarily, our risk-adjusted credit spread, which represents a Level 3 measurement.
As of ~~March 31,~~September 30, 2018, we had no amounts outstanding on our revolving credit facility. The carrying value of the amount outstanding on our revolving credit facilities as of December 31, 2017 was $5.0 million compared to the fair value $4.9 million. Our estimates of fair value are based on a discounted cash flow model using unobservable inputs, primarily, our risk-adjusted credit spread, which represents a Level 3 measurement.

In March 2018, we entered into interest rate swap agreements with notional values of ~~$325~~$325.0 million, at inception, which reduces $12.5 million annually until the swaps mature on March 6, 2024. The interest rate swap agreements are designated as cash flow hedges and are measured at fair value based on inputs other than quoted market prices that are observable, which
represents a Level 2 measurement. See Note J - “Long-Term ~~Debt~~Debt”” and Note L - “Derivative Financial Instruments” for further information.

The carrying value of our outstanding subordinated promissory notes issued in connection with acquisitions (“Seller Notes”) as of ~~March 31,~~September 30, 2018 and December 31, 2017 was ~~$4.2~~$3.8 million and $5.9 million, respectively. We believe that the carrying value of the Seller Notes approximates their fair values based on a discounted cash flow model using unobservable inputs, primarily, our credit spread for subordinated debt, which represents a Level 3 measurement.
NOTE L — DERIVATIVE FINANCIAL INSTRUMENTS

We are exposed to certain risks arising from both our business operations and economic conditions. We manage economic risks, including interest rate, liquidity, and credit risk primarily by managing the amount, sources, and duration of our debt funding and the use of derivative financial instruments. Our derivative financial instruments are used to manage differences in the amount, timing, and duration of our known or expected cash payments principally related to our borrowings.

Cash Flow Hedges of Interest Rate Risk

Our objectives in using interest rate derivatives are to add stability to interest expense and to manage our exposure to interest rate movements. To accomplish these objectives, we primarily use interest rate swaps as part of our interest rate risk management strategy. Interest rate swaps designated as cash flow hedges involve the receipt of variable amounts from a counter-party in exchange for us making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount. The change in the fair value of derivatives designated and that qualify as cash flow hedges is recorded on our consolidated balance sheet in accumulated other comprehensive income and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings.

During the three and nine months ended ~~March 31,~~September 30, 2018, such derivatives were used to hedge certain variable cash flows associated with existing variable-rate ~~debt.~~debt, whereby we pay the counter-party a fixed rate of 2.77% and receive floating payments based on the 1-month LIBOR. As of ~~March 31,~~September 30, 2018, our swaps had a notional value outstanding of $325.0 million. The remaining contractual term of the interest rate swap is 5.5 years. We had no swaps outstanding as of December 31, 2017.

Changes in Net Gain or Loss on Cash Flow Hedges Included in Accumulated Other Comprehensive ~~Loss~~Income (Loss)

The following table presents the activity of cash flow hedges included in accumulated other comprehensive ~~loss (“AOCI”) as of December 31, 2017~~income (loss) for the three and ~~March 31,~~nine months ended September 30, 2018:

(in thousands)

Cash Flow Hedges

Balance at December 31, 2017

$
—

Unrealized loss recognized in other comprehensive loss, net of tax

2,538

Reclassification of loss to interest expense, net

(248
)
Balance at March 31, 2018

$
2,290

(in thousands)

Cash Flow Hedges

Balance as of June 30, 2018

$
24

Unrealized gain recognized in other comprehensive income (loss), net of tax

1,171

Reclassification to interest expense, net

567

Balance as of September 30, 2018

$
1,762

Balance as of December 31, 2017

$
—

Unrealized gain recognized in other comprehensive income (loss), net of tax

251

Reclassification to interest expense, net

1,511

Balance as of September 30, 2018

$
1,762

The following table presents the fair value of derivative assets and liabilities within the condensed consolidated balance sheets as of ~~March 31,~~September 30, 2018 and December 31, 2017:

March 31, 2018

December 31, 2017

(in thousands)

Assets

Liabilities

Assets

Liabilities

Derivatives designated as cash flow hedging instruments:

Accrued expenses and other current liabilities

$
—

$
2,053

$
—

$
—

Other liabilities

—

939

—

—

As of September 30, 2018

As of December 31, 2017

(in thousands)

Assets

Liabilities

Assets

Liabilities

Derivatives designated as cash flow hedging instruments:

Other assets

$
2,819

$
—

$
—

$
—

Accrued expenses and other current liabilities

—

515

—

—

NOTE M — STOCK-BASED COMPENSATION

The Hanger, Inc. 2016 Omnibus Incentive Plan (the “2016 Plan”) as ~~originally adopted~~amended by our Board of Directors (the “Board”) in ~~April 2016 authorized 2,250,000~~May 2018 authorizes the issuance of up to 2,625,000 shares of Common Stock, plus (1) the number of shares available for issuance under our prior equity incentive plan, the Hanger, Inc. 2010 Omnibus Incentive Plan (the “2010 Plan”), that had not been made subject to outstanding awards as of the effective date of the 2016 Plan and (2) any shares that would have become available again for new grants under the terms of the 2010 Plan if such plan were still in effect.

We have estimated that the shares available for issuance under the 2016 Plan would not be sufficient to cover the equity award grants expected to be made to our directors, officers and employees through the remainder of 2018 and in connection with our annual equity award grants in March 2019. Therefore, on May 9, 2018, the Board adopted an amendment to the 2016 Plan that authorized the issuance of up to an additional 375,000 shares of our common stock.
~~For the three months ended March 31, 2018 and 2017, we~~ recognized a total of approximately ~~$2.6~~$3.7 million and ~~$2.2~~$3.6 million, respectively, of stock-based compensation ~~expense.~~expense for the three months ended September 30, 2018 and 2017 and a total of approximately $9.6 million and $8.7 million for the nine months ended September 30, 2018 and 2017. Stock compensation expense, net of forfeitures, relates to restricted stock units, performance-based restricted stock units, and stock options.
~~The summary of restricted stock units, performance-based restricted stock units, and weighted average grant date fair values are as follows:~~

Employee Service-Based
Awards

Employee Performance-Based Awards

Director Awards

Units

Weighted
Average
Grant Date
Fair Value

Units

Weighted
Average
Grant Date
Fair Value

Units

Weighted
Average
Grant Date
Fair Value

Nonvested at December 31, 2017

1,183,039

$
14.30

632,636

$
18.87

98,406

$
12.66

Granted

560,657

15.68

267,522

17.93

—

—

Vested

(352,106
)
16.14

(135,200
)
25.95

(21,928
)
12.77

Forfeited

(47,808
)
12.58

(26,479
)
18.38

—

—

Nonvested at March 31, 2018

1,343,782

$
14.45

738,479

$
17.25

76,478

$
12.63

~~There was no option activity during the three months ended March 31, 2018.~~

NOTE N — SUPPLEMENTAL EXECUTIVE RETIREMENT PLANS

Defined Benefit Supplemental Executive Retirement Plan

Our unfunded noncontributory defined benefit plan (“DB SERP”) covers certain senior executives, is administered by us and calls for annual payments upon retirement based on years of service and final average salary. Benefit costs and liability balances are calculated based on certain assumptions including benefits earned, discount rates, interest costs, mortality rates, and other factors. Actual results that differ from the assumptions are accumulated and amortized over future periods, affecting the recorded obligation and expense in future periods.

We believe the assumptions used are appropriate; however, changes in assumptions or differences in actual experience may affect our benefit obligation and future expenses. The DB SERP’s change in net benefit cost and obligation ~~at March 31,~~during the three and nine months ended September 30, 2018 and 2017 is as follows:
Change in Benefit Obligation

(in thousands)

Benefit obligation at December 31, 2017

$
20,793

Service cost

92

Interest cost

150

Payments

(1,877
)
Benefit obligation at March 31, 2018

$
19,158

Benefit obligation at December 31, 2016

$
21,304

Service cost

85

Interest cost

167

Payments

(1,811
)
Benefit obligation at March 31, 2017

$
19,745

(in thousands)

2018

2017

Benefit Obligation as of June 30

$
19,388

$
19,985

Service cost

92

85

Interest cost

150

167

Payments

(13
)
(78
)
Benefit Obligation as of September 30

$
19,617

$
20,159

Benefit obligation as of December 31, 2017 and 2016, respectively

$
20,793

$
21,304

Service cost

275

255

Interest cost

450

501

Payments

(1,901
)
(1,901
)
Benefit obligation as of September 30

$
19,617

$
20,159

Amounts Recognized in the Condensed Consolidated Balance Sheets:

March 31,

December 31,

(in thousands)

2018

2017

September 30, 2018

December 31, 2017

Accrued expenses and other current liabilities

$
1,913

$
1,913

$
1,913

$
1,913

Other liabilities

17,245

18,880

17,704

18,880

Total accrued liabilities

$
19,158

$
20,793

$
19,617

$
20,793

Defined Contribution Supplemental Executive Retirement Plan

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

As of ~~March 31,~~September 30, 2018 and 2017, the estimated accumulated obligation benefit is ~~$3.2~~$2.9 million and ~~$2.3~~$2.5 million, respectively, of which ~~$2.9~~$2.6 million and ~~$2.0~~$2.2 million is funded and $0.3 million and $0.3 million is unfunded at ~~March 31,~~September 30, 2018 and 2017, respectively.

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

NOTE O — COMMITMENTS AND CONTINGENCIES

Commitments

In April 2014, in connection with the settlement of a patent infringement dispute, our wholly-owned subsidiary, Southern Prosthetic Supply, Inc. (“SPS”), entered into a non-cancellable agreement to purchase a total of $4.5 million of prosthetic gel liners in five installments. We determined that a portion of the prosthetic gel liners should be reserved as excess and slow-moving inventory, and we accrued a liability and expensed $3.4 million in 2014. As of ~~March 31,~~September 30, 2018, ~~$1.5~~$1.0 million of the non-cancellable purchase commitment was outstanding ~~with $1.0 million~~ and ~~$0.5 million of purchases~~is due and payable by April of ~~2018 and 2019, respectively.~~2019. As of ~~March 31,~~September 30, 2018, our reserve associated with the non-cancellable purchase commitment was ~~$2.7~~$2.4 million.

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

Securities and Derivative Litigation

In November 2014, a securities class action complaint, City of Pontiac General Employees’ Retirement System v. Hanger, et al., C.A. No. 1:14-cv-01026-SS, was filed against us in the United States District Court for the Western District of Texas. The complaint named us and certain of our current and former officers for allegedly making materially false and misleading statements regarding, inter alia, our financial statements, RAC audit success rate, the implementation of new financial systems, same-store sales growth, and the adequacy of our internal processes and controls. The complaint alleged violations of Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder. The complaint sought unspecified damages, costs, attorneys’ fees, and equitable relief.
On April 1, 2016, the court granted our motion to dismiss the lawsuit for failure to state a claim upon which relief can be granted, and permitted plaintiffs to file an amended complaint. On July 1, 2016, plaintiffs filed an amended complaint. On September 15, 2016, we and certain of the individual defendants filed motions to dismiss the lawsuit. On January 26, 2017, the court granted the defendants’ motions and dismissed with prejudice all claims against all defendants for failure to state a claim. On February 24, 2017, plaintiffs filed a notice of appeal to the United States Court of Appeals for the Fifth Circuit. Appellate briefing was completed on August 18, 2017 and the ~~appeal remains pending. The~~ Court of Appeals held oral argument for the appeal on March 5, 2018. ~~We are now awaiting a ruling from~~On August 6, 2018, the Court of Appeals affirmed in part and reversed in part. The Court of Appeals affirmed the dismissal of the case against individual defendants Vinit Asar, our current President and Chief Executive Officer, and Thomas Kirk, our former President and Chief Executive Officer, but reversed the dismissal of the case against George McHenry, our former Chief Financial Officer, and Hanger, Inc. On August 20, 2018, Hanger, Inc. and George McHenry filed a petition for panel rehearing and a petition for rehearing en banc with the Court of Appeals. On September 10, 2018 the Court of Appeals asked plaintiffs to file a response to the petition for rehearing en banc, and plaintiffs filed an opposition to the petition for rehearing en banc on September 17, 2018. Both petitions are pending with the Court of Appeals. We believe the remaining claims are without merit, and intend to continue to vigorously defend against these claims.

In February and August of 2015, two separate shareholder derivative suits were filed in Texas state court against us related to the announced restatement of certain of our financial statements. The cases were subsequently consolidated into Judy v. Asar, et. al., Cause No. D-1-GN-15-000625. On October 25, 2016, plaintiffs in that action filed an amended complaint, and the case is currently pending before the ~~345~~459th Judicial District Court of Travis County, Texas.

The amended complaint in the consolidated derivative action names us and certain of our current and former officers and directors as defendants. It alleges claims for breach of fiduciary duty based, inter alia, on the defendants’ alleged failure to exercise good faith to ensure that we had in place adequate accounting and financial controls and that disclosures regarding our business, financial performance and internal controls were truthful and accurate. The complaint seeks unspecified damages, costs, attorneys’ fees, and equitable relief.

As disclosed in our Current Report on Form 8-K filed with the SEC on ~~June��~~June 6, 2016, the Board of Directors appointed a Special Litigation Committee of the Board (the “Special Committee”). The Board delegated to the Special Committee the authority to (1) determine whether it is in our best interests to pursue any of the allegations made in the derivative cases filed in Texas state court (which cases were consolidated into the Judy case discussed above), (2) determine whether it is in our best interests to pursue any remedies against any of our current or former employees, officers or directors as a result of the conduct discovered in the Audit Committee investigation concluded on June 6, 2016 (the “Investigation”), and (3) otherwise resolve claims or matters relating to the findings of the Investigation. The Special Committee retained independent legal counsel to assist and advise it in carrying out its duties and reviewed and considered the evidence and various factors relating to our best interests. In accordance with its findings and conclusions, the Special Committee determined that it is not in our best interest to pursue any of the claims in the Judy derivative case. Also in accordance with its findings and conclusions, the Special Committee determined that it is not in our best interests to pursue legal remedies against any of our current or former employees, officers, or directors.

On April 14, 2017, we filed a motion to dismiss the consolidated derivative action based on the resolution by the Special Committee that it is not in our best interest to pursue the derivative claims. Counsel for the derivative plaintiffs opposed that motion and moved to compel discovery. In a hearing held on June 12, 2017, the Travis County court denied plaintiffs’ motion to compel, and held that the motion to dismiss would be considered only after appropriate discovery was concluded.

The plaintiffs ~~have since~~subsequently subpoenaed counsel for the Special Committee, seeking a copy of the full report prepared by the Special Committee and its independent counsel. Counsel for the Special Committee, as well as our counsel, ~~take~~took the position that the full report is not discoverable under Texas law. Plaintiffs’ counsel ~~has~~ filed a motion to compel the Special Committee’s counsel to produce the full report. ~~The hearing on~~We opposed the ~~motion to compel is scheduled for June 28, 2018. We intend to vigorously oppose~~motion. On July 20, 2018, the ~~motion to compel. Upon resolution~~Travis County court ruled that only a redacted version of the ~~discovery dispute~~report is discoverable, and we have provided a redacted version of the report to plaintiff’s counsel. Upon completion of discovery we intend to file a motion to dismiss the consolidated derivative action.

Management intends to continue to vigorously defend against the ~~shareholder derivative~~securities class action and the ~~appeal in the securities class~~shareholder derivative action. At this time, we cannot predict how the Courts will rule on the merits of the claims and/or the scope of the potential loss in the event of an adverse outcome. Should we ultimately be found liable, the resulting damages could have a material adverse effect on our consolidated financial position, liquidity or our results of ~~our~~ operations.
Other Matters
In May 2015, one of our clinics received a civil investigative demand for records relating to a sample of claims submitted to Medicare and Medicaid for reimbursement, and we provided records in response to the subpoena. In May 2017, we were informed by an Assistant United States Attorney that it was investigating whether we properly provided and claimed reimbursement for prosthesis skins and covers from July 2013 (after an industry announcement) to the present. We have reviewed the claims, and have cooperated with the government’s investigation. This matter was resolved in March 2018 and did not have a material impact on the first quarter of 2018.

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

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

~~Guarantees and Indemnifications~~Settlements

InOn May 15, 2018, we received a net favorable settlement of $1.7 million in connection with our long standing damage claims relating to the ~~ordinary course~~“Deepwater Horizon” disaster, and the prior adverse effect which it had on our clinic operations along the Gulf Coast in April of 2010. We do not anticipate receipt of further payments in connection with this matter, as this settlement constituted a full and final satisfaction of our ~~business,~~claims. The benefit of this settlement has been recognized as a reduction to our general and administrative expenses for the nine months ended September 30, 2018.
On June 28, 2018, we ~~may enter~~entered into ~~service agreements~~an agreement with ~~service providers in which we agree~~the State of Delaware, and made payment, to ~~indemnify or limit the service provider against certain losses and liabilities arising from the service provider’s performance~~satisfy all of the ~~agreement. We have reviewed~~State’s abandoned or unclaimed property claims transactions represented within the period of January 1, 2001 through December 31, 2012 which were reportable through December 31, 2017 in the amount of $2.2 million. This agreed upon payment amount was favorable by $0.5 million to the amount we had previously estimated for these liabilities and had the effect of reducing our ~~existing contracts containing indemnification~~general and administrative expenses in the year-to-date period September 30, 2018. Additionally, under the terms of the agreement, we were not required to pay interest on the previously un-remitted cumulative abandoned or ~~clauses~~unclaimed property relating to this twelve year period in the amount of ~~guarantees and do not believe that~~$1.5 million, which had the effect of lowering our ~~liability under such agreements is material.~~interest expense in the year-to-date period ended September 30, 2018 by this accrued interest amount.

NOTE P — SEGMENT AND RELATED INFORMATION

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

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

·                  Commercial private payors and other, which consist of individuals, rehabilitation providers, commercial insurance companies, HMOs, PPOs, hospitals, vocational rehabilitation, workers’ compensation programs and similar sources;

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

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

·                  U.S. Department of Veterans Affairs.

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

Products & Services - This segment consists of our distribution services business, which distributes and fabricates O&P products and components to sell to both the O&P industry and our own patient care clinics, and our therapeutic solutions business. The therapeutic solutions business provides and sells rehabilitation equipment and ancillary consumable supplies combined with equipment maintenance, education, and training. This segment also develops emerging neuromuscular technologies for the O&P and rehabilitation markets.
Corporate & Other - This consists of corporate overhead and includes unallocated expense such as personnel costs, professional fees and corporate offices expenses.

The accounting policies of the segments are the same as those described in Note B - “Significant Accounting ~~Policies~~Policies”” in our 2017 Form 10-K.

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

Summarized financial information concerning our reporting segments is shown in the following tables.

Total assets for each of the segments has not materially changed from December 31, 2017.
(in thousands)

Patient Care

Products &
Services

Corporate &
Other

Consolidating
Adjustments

Total

March 31, 2018

Net revenue

Third party

$
188,507

$
45,488

$
—

$
—

$
233,995

Intersegments

—

42,522

—

(42,522
)
—

Total net revenue

188,507

88,010

—

(42,522
)
233,995

Material costs

Third party suppliers

52,175

24,181

—

—

76,356

Intersegments

5,724

36,798

—

(42,522
)
—

Total material costs

57,899

60,979

—

(42,522
)
76,356

Personnel expenses

73,613

12,495

—

—

86,108

Other expenses

35,004

6,155

20,419

—

61,578

Depreciation & amortization

4,898

2,502

1,930

—

9,330

Income (loss) from operations

17,093

5,879

(22,349
)
—

623

Interest expense, net

7,989

3,265

1,009

—

12,263

Loss on extinguishment of debt

—

—

16,998

—

16,998

Non-service defined benefit plan expense

—

—

176

—

176

Income (loss) before income taxes

9,104

2,614

(40,532
)
—

(28,814
)
Benefit for income taxes

—

—

(6,196
)
—

(6,196
)
Net income (loss)

$
9,104

$
2,614

$
(34,336
)
$
—

$
(22,618
)

(in thousands)

Patient Care

Products &
Services

Corporate &
Other

Consolidating
Adjustments

Total

Patient Care

Products &
Services

Corporate &
Other

Consolidating
Adjustments

Total

March 31, 2017

Three Months Ended September 30, 2018

Net revenue

Third Party

$
187,637

$
46,044

$
—

$
—

$
233,681

Third party

$
214,080

$
48,866

$
—

$
—

$
262,946

Intersegments

—

41,201

—

(41,201
)
—

—

48,945

—

(48,945
)
—

Total net revenue

187,637

87,245

—

(41,201
)
233,681

214,080

97,811

—

(48,945
)
262,946

Material costs

Third party suppliers

50,609

23,796

—

—

74,405

58,395

26,410

—

—

84,805

Intersegments

5,824

35,377

—

(41,201
)
—

6,300

42,645

—

(48,945
)
—

Total material costs

56,433

59,173

—

(41,201
)
74,405

64,695

69,055

—

(48,945
)
84,805

Personnel expenses

75,515

12,440

—

—

87,955

77,806

13,047

—

—

90,853

Other expenses

35,717

6,893

28,115

—

70,725

34,426

6,306

21,682

—

62,414

Depreciation & amortization

5,429

2,670

2,038

—

10,137

4,651

2,564

1,735

—

8,950

Income (loss) from operations

14,543

6,069

(30,153
)
—

(9,541
)

32,502

6,839

(23,417
)
—

15,924

Interest expense, net

8,163

3,332

2,514

—

14,009

7,984

3,233

(2,278
)
—

8,939

Loss on extinguishment of debt

—

—

—

—

—

Non-service defined benefit plan expense

—

—

184

—

184

—

—

176

—

176

Income (loss) before income taxes

6,380

2,737

(32,851
)
—

(23,734
)

24,518

3,606

(21,315
)
—

6,809

Benefit for income taxes

—

—

(6,000
)
—

(6,000
)
Provision for income taxes

—

—

2,440

—

2,440

Net income (loss)

$
6,380

$
2,737

$
(26,851
)
$
—

$
(17,734
)

$
24,518

$
3,606

$
(23,755
)
$
—

$
4,369

(in thousands)

Patient Care

Products &
Services

Corporate &
Other

Consolidating
Adjustments

Total

Three Months Ended September 30, 2017

Net revenue

Third party

$
210,637

$
47,329

$
—

$
—

$
257,966

Intersegments

—

45,114

—

(45,114
)
—

Total net revenue

210,637

92,443

—

(45,114
)
257,966

Material costs

Third party suppliers

56,748

25,597

—

—

82,345

Intersegments

5,997

39,117

—

(45,114
)
—

Total material costs

62,745

64,714

—

(45,114
)
82,345

Personnel expenses

78,161

11,904

—

—

90,065

Other expenses

35,861

6,251

24,272

—

66,384

Depreciation & amortization

5,324

2,429

1,879

—

9,632

Income (loss) from operations

28,546

7,145

(26,151
)
—

9,540

Interest expense, net

8,123

3,275

3,699

—

15,097

Non-service defined benefit plan expense

—

—

184

—

184

Income (loss) before income taxes

20,423

3,870

(30,034
)
—

(5,741
)
Benefit for income taxes

—

—

(1,580
)
—

(1,580
)
Net income (loss)

$
20,423

$
3,870

$
(28,454
)
$
—

$
(4,161
)
(in thousands)

Patient Care

Products &
Services

Corporate &
Other

Consolidating
Adjustments

Total

Nine Months Ended September 30, 2018

Net revenue

Third party

$
620,745

$
143,162

$
—

$
—

$
763,907

Intersegments

—

141,302

—

(141,302
)
—

Total net revenue

620,745

284,464

—

(141,302
)
763,907

Material costs

Third party suppliers

170,559

77,118

—

—

247,677

Intersegments

17,944

123,358

—

(141,302
)
—

Total material costs

188,503

200,476

—

(141,302
)
247,677

Personnel expenses

228,211

38,304

—

—

266,515

Other expenses

104,869

17,944

62,474

—

185,287

Depreciation & amortization

14,547

7,569

5,436

—

27,552

Income (loss) from operations

84,615

20,171

(67,910
)
—

36,876

Interest expense, net

22,429

9,745

(3,655
)
—

28,519

Loss on extinguishment of debt

—

—

16,998

—

16,998

Non-service defined benefit plan expense

—

—

528

—

528

Income (loss) before income taxes

62,186

10,426

(81,781
)
—

(9,169
)
Benefit for income taxes

—

—

(3,848
)
—

(3,848
)
Net income (loss)

$
62,186

$
10,426

$
(77,933
)
$
—

$
(5,321
)
(in thousands)

Patient Care

Products &
Services

Corporate &
Other

Consolidating
Adjustments

Total

Nine Months Ended September 30, 2017

Net revenue

Third party

$
614,495

$
140,538

$
—

$
—

$
755,033

Intersegments

—

131,484

—

(131,484
)
—

Total net revenue

614,495

272,022

—

(131,484
)
755,033

Material costs

Third party suppliers

165,680

74,727

—

—

240,407

Intersegments

17,743

113,741

—

(131,484
)
—

Total material costs

183,423

188,468

—

(131,484
)
240,407

Personnel expenses

229,582

36,269

—

—

265,851

Other expenses

107,124

19,205

76,389

—

202,718

Depreciation & amortization

16,123

7,691

5,780

—

29,594

Income (loss) from operations

78,243

20,389

(82,169
)
—

16,463

Interest expense, net

24,409

9,909

8,879

—

43,197

Non-service defined benefit plan expense

—

—

552

—

552

Income (loss) from operations

53,834

10,480

(91,600
)
—

(27,286
)
Benefit for income taxes

—

—

(7,028
)
—

(7,028
)
Net income (loss)

$
53,834

$
10,480

$
(84,572
)
$
—

$
(20,258
)
NOTE Q — SUPPLEMENTAL CASH FLOW INFORMATION
Changes in operating assets and liabilities on cash flows from operating activities is as follows:

For the Nine Months Ended
September 30,

(in thousands)

2018

2017

Accounts receivable, net

$
14,464

$
1,772

Inventories

(3,463
)
(5,870
)
Other current assets

1,770

1,510

Income taxes

11,356

(584
)
Accounts payable

5,680

(348
)
Accrued expenses and other current liabilities

(13,061
)
(9,690
)
Accrued compensation related costs

(20,650
)
(6,942
)
Other liabilities

(2,963
)
(3,240
)
Changes in operating assets and liabilities on cash flows from operating activities

$
(6,867
)
$
(23,392
)

The supplemental disclosure requirements for the statements of cash flows are as follows:

Three Months Ended March 31,

(in thousands)

2018

2017

Additions to property, plant and equipment acquired through financing obligations

$
1,208

$
623

Retirements of financed property, plant and equipment and related obligations

2,246

—

Purchase of property, plant and equipment in accounts payable at period end

545

1,337

~~NOTE R — SUBSEQUENT EVENTS~~
On May 15, 2018, we received a favorable net settlement of $1.7 million in connection with our long standing damage claims relating to the “Deepwater Horizon” disaster, and the prior adverse effect which it had on our clinic operations along the Gulf Coast in April 2010. We anticipate the receipt of no further payments in connection with this matter as this settlement constituted a full and final satisfaction of our claims. Given that this amount is considered a gain contingency, we did not record income associated with this settlement during the period ending March 31, 2018, or in any prior period. We intend to recognize this settlement amount as income in our condensed consolidated financial statements for the quarter ending June 30, 2018.
~~On May 9, 2018, the Board adopted an amendment to the 2016 Plan, which authorized the issuance of up to an additional 375,000 shares of our common stock. See Note M - “~~~~Stock-based Compensation”~~ ~~for more information.~~

For the Nine Months Ended
September 30,

(in thousands)

2018

2017

Additions to property, plant and equipment acquired through financing obligations

$
1,509

$
1,299

Retirements of financed property, plant and equipment and related obligations

3,558

135

Purchase of property, plant and equipment in accounts payable at period end

2,419

865

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

Forward Looking Statements

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

These statements involve risks, estimates, assumptions, and uncertainties that could cause actual results to differ materially from those expressed in these statements and elsewhere in this report, and any claims, investigations, or proceedings arising as a result, as well as our ability to remediate the material weaknesses in our internal control over financial reporting described in Item 4. “Controls and Procedures” contained elsewhere in this report, changes in the demand for our O&P products and services, uncertainties relating to the results of operations or our acquired O&P patient care clinics, our ability to enter into and derive benefits from managed-care contracts, our ability to successfully attract and retain qualified O&P clinicians, federal laws governing the health care industry, uncertainties inherent in investigations and legal proceedings, governmental policies affecting O&P operations, and other risks and uncertainties generally affecting the health care industry.

Readers are cautioned that all forward-looking statements involve known and unknown risks and uncertainties including, without limitation, those described in Item 1A. “Risk Factors” contained in our Annual Report on Form 10-K for the year ended December 31, 2017 (the “2017 Form 10-K”), some of which are beyond our control. Although we believe that the assumptions underlying the forward-looking statements contained therein are reasonable, any of the assumptions could be inaccurate. Therefore, there can be no assurance that the forward-looking statements included in our Quarterly Report on Form 10-Q will prove to be accurate. Actual results could differ materially and adversely from those contemplated by any forward-looking statement. In light of the significant risks and uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives and plans will be achieved. We undertake no obligation to publicly release any revisions to any forward-looking statements in this discussion to reflect events and circumstances occurring after the date hereof or to reflect unanticipated events. Forward-looking statements and our liquidity, financial condition, and results of operations may be affected by the risks set forth in Item 1A. “Risk Factors” contained in our 2017 Form 10-K or by other unknown risks and uncertainties.

Non-GAAP Measures

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

Adjusted Gross Revenue and Disallowed Revenue - “Adjusted gross revenue” reflects our gross billings after their adjustment to reflect estimated discounts established in our contracts with payors of health care claims. Pursuant to our contracts with payors, a portion of our adjusted gross billings may be disallowed based on factors including physician documentation, patient eligibility, plan design, prior authorization, timeliness of filings or appeal, coding selection, failure by certain patients to pay their portion of claims, computational errors associated with sequestration, and other factors. We refer to these and other amounts as being “disallowed revenue” or “payor disallowances.” Our net revenue reflects adjusted gross revenue after reduction for the estimated aggregate amount of disallowed revenue for the applicable period. To facilitate analysis of the
comparability of our results, we provide these non-GAAP measures due to the significant changes that we have experienced in recent years in disallowed revenue which are further discussed below.
Same Clinic Revenues Per Day - measures the year-over-year change in revenue from clinics that have been open a full calendar year or ~~more, examples~~more. Examples of clinics not included in the same center population are closures and acquisitions. Day-adjusted growth normalizes sales for the number of days a clinic was open in each comparable period.

Overview

Business Overview

General

We are a leading national provider of products and services that assist in enhancing or restoring the physical capabilities of patients with disabilities or injuries. Built on the legacy of James Edward Hanger, the first amputee of the American Civil War, we and our predecessor companies have provided O&P services for over 150 years. We provide O&P services, distribute O&P devices and components, manage O&P networks, and provide therapeutic solutions to patients and businesses in acute, post-acute, and clinic settings. We operate through two segments - Patient Care and Products & Services.

Our Patient Care segment is primarily comprised of Hanger Clinic, which specializes in the design, fabrication, and delivery of custom O&P devices through ~~683~~677 patient care clinics and ~~108~~109 satellite locations in 44 states and the District of Columbia as of ~~March 31,~~September 30, 2018. We also provide payor network contracting services to other O&P providers through this segment.

Our Products & Services segment is comprised of our distribution services and our therapeutic solutions businesses. As a leading provider of O&P products in the United States, we coordinate, through our distribution services business, the procurement and distribution of a broad catalog of O&P parts, componentry, and devices to independent O&P providers nationwide. To facilitate speed and convenience, we deliver these products through our five distribution facilities that are located in Nevada, Georgia, Illinois, Pennsylvania and Texas. The other business in our Products & Services segment is our therapeutic solutions business, which develops specialized rehabilitation technologies and provides evidence-based clinical programs for post-acute rehabilitation to patients at approximately 4,000 skilled nursing and post-acute providers nationwide.

For the three and nine months ended ~~March 31,~~September 30, 2018, our net revenues were $262.9 million and $763.9 million, respectively, and we recorded net income of $4.4 million and a net loss of $5.3 million, respectively. For the three and nine months ended September 30, 2017, our net revenues were ~~$234.0~~$258.0 million and ~~$233.7~~$755.0 million, ~~respectively. We~~respectively, and we recorded ~~income from operations~~net loss of ~~$0.6~~$4.2 million and a net loss of ~~$9.5~~$20.3 million, ~~for the three months ended March 31, 2018 and 2017,~~ respectively.

Industry Overview

We estimate that approximately ~~$4.0~~$4.1 billion is spent in the United States each year for orthotic and prosthetic products and services. We estimate that our Patient Care segment currently accounts for approximately 20% of market share, providing a comprehensive portfolio of orthotic, prosthetic, and post-operative solutions to patients in acute, post-acute, and patient care clinic settings.

The traditional O&P patient care industry is highly fragmented and is characterized by local, independent O&P businesses. We do not believe that any single competitor accounts for more than 2% of the country’s total estimated O&P patient care clinic revenues.

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

We estimate that approximately $1.7 billion is spent in the United States each year by providers of O&P patient care services for the O&P products, components, devices, and supplies used in their businesses. Our Products & Services segment distributes to independent providers of O&P services and to our own patient care clinics. We estimate that our distribution sales account for approximately 8% of the market for O&P products, components, devices, and supplies (excluding sales to our Patient Care segment).
We estimate the market for rehabilitation technologies, integrated clinical programs, and clinician training in skilled nursing facilities (“SNFs”) to be approximately $150 million annually. We currently provide these products and services to approximately 25% of the estimated 15,000 SNFs located in the U.S. We estimate the market for rehabilitation technologies, clinical programs, and training within the broader post-acute rehabilitation markets to be approximately $400 million annually. We do not currently provide a meaningful amount of products and services to this broader market.

Business Description

Patient Care

Our Patient Care segment employs approximately 1,500 clinical prosthetists, orthotists, and pedorthists, which we refer to as clinicians, substantially all of which are certified by either the American Board for Certification (“ABC”) or the Board of Certification of Orthotists and Prosthetists, which are the two boards that certify O&P clinicians. To facilitate timely service to our patients, we also employ technicians, fitters, and other ancillary providers to assist its clinicians in the performance of their duties. Through this segment, we additionally provide network contracting services to independent providers of O&P through our “Linkia” business.

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

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

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

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

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

The principal reimbursement sources for our services are:

·                  Commercial private payors and other non-governmental organizations, which consist of individuals, rehabilitation providers, commercial insurance companies, health management organizations (“HMOs”), preferred provider organizations (“PPOs”), hospitals, vocational rehabilitation centers, workers’ compensation programs, third party administrators, and similar sources;
·                  Medicare, a federally funded health insurance program providing health insurance coverage for persons aged 65 or older and certain disabled persons;
·                  Medicaid, a health insurance program jointly funded by federal and state governments providing health insurance coverage for certain persons based upon financial need, regardless of age, which may supplement Medicare benefits for financially needy persons aged 65 or older; and

·                  the U.S. Department of Veterans Affairs.

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

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

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

Products & Services

Through our wholly-owned subsidiary, Southern Prosthetic Supply, Inc. (“SPS”), we distribute O&P components to ~~both~~ independent ~~customers~~O&P clinics and other customers. Through our ~~own clinics in the Patient Care segment. SPS purchases, warehouses~~internal “supply chain” organization, we purchase, warehouse and ~~distributes~~distribute over 400,000 SKUs from more than 300 different ~~manufacturers. Through~~manufacturers through SPS or directly to our own clinics within our Patient Care segment. Our warehousing and distribution facilities in Nevada, Georgia, Illinois, Pennsylvania, and Texas, ~~we are able~~provide us with the ability to deliver products to the vast majority of our customers in the United States within two business days. Through ~~its~~our SureFit subsidiary, ~~SPS~~we also ~~manufactures~~manufacture and ~~sells~~sell therapeutic footwear for diabetic patients in the podiatric ~~market, and through its National Labs subsidiary it is a fabricator of~~market. We also operate the Hanger Fabrication Network, which fabricates custom O&P devices ~~both~~ for our patient care clinics ~~and competitor~~as well as for independent O&P clinics.

Our distribution services business enables us to:

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

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

·                  improve inventory quality control;

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

·                  coordinate new product development efforts with key vendors.
Through our wholly-owned subsidiary, Accelerated Care Plus Corp., our therapeutic solutions business is a leading provider of rehabilitation technologies and integrated clinical programs to post-acute care and rehabilitation providers. Our ~~unique~~ value proposition is to provide our customers with a full-service “total solutions” approach encompassing proven medical technology, evidence based clinical programs, and ongoing clinician education and training. Our services support increasingly advanced treatment options for a broader patient population and more medically complex conditions. We serve approximately 4,000 skilled nursing and post-acute providers nationwide.
Effect of Delay in Financial Filings

As discussed in our 2017 Form 10-K, due to prior restatements and related issues, we ~~have~~had been delayed in the preparation and filing of our financial statements in recent years. In connection with our efforts to restate our prior financial statements, remediate our material weaknesses, regain our timely filing status, and undertake related activities, we have incurred third party professional fees in excess of the amounts we estimate that we would have otherwise incurred. The estimated professional fees associated with these efforts are as follows:

(in thousands)
For the Three Months Ended

Expensed

Paid

Balance to be Paid
in Future Periods

(in thousands)

Balance to be Paid

For the Three Months Ended

Expensed

Paid

in Future Periods

March 31, 2017

$
11,537

$
14,766

$
19,672

$
11,537

$
14,766

$
19,672

June 30, 2017

7,567

13,765

13,474

7,567

13,765

13,474

September 30, 2017

6,839

6,430

13,883

6,839

6,430

13,883

December 31, 2017

6,358

9,956

10,285

6,358

9,956

10,285

March 31, 2018

3,700

7,755

6,230

3,700

7,755

6,230

June 30, 2018

2,940

5,938

3,232

September 30, 2018

2,230

2,297

3,165

We currently estimate that during 2018, we will expend a total of $13.0 million in excess professional fees. We expect to continue to incur professional fees ~~with the primary purpose for future expenditures relating to our~~as we focus on the remediation of our continuing material weaknesses in internal controls over financial reporting. Due to the ongoing material weaknesses in our controls over financial reporting, we currently undertake additional substantive procedures to test and verify financial statement amounts in connection with the preparation of our financial statements.

With the filing of this Quarterly Report on Form 10-Q, we now have no further unfiled annual or quarterly financial statements relating to prior operating periods. It is our current intention to commence the timely filing of our financial statements with the filing of our Quarterly Report on Form 10-Q for the period ending June 30, 2018. However, in the event that we are not able to complete the procedures necessary to substantiate our financial results for that period, or any subsequent period, we would by necessity delay that financial filing and then work to further address and resolve the causes of such a delay.
Reimbursement Trends

In our Patient Care segment, we are reimbursed primarily through employer-based plans offered by commercial insurance carriers, Medicare, Medicaid, and the VA. Patient Care constitutes ~~80.6%~~81.3% and ~~80.3%~~81.4% of our net revenue for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 and 2017, respectively. Our remaining net revenue is ~~from~~provided by our Products & Services segment which derives its net revenue from commercial transactions with independent O&P providers, healthcare facilities, and other customers. In contrast to net revenues from our Patient Care segment, payment for these products and services are not directly subject to third party reimbursement from health care payors.

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

To receive reimbursement for our work, we must ensure that our clinical, administrative, and billing personnel receive and verify certain medical and health plan information, record detailed documentation regarding the services we provide, and accurately and timely perform a number of claims submission and related administrative tasks. Traditionally, we have
performed these tasks in a manual fashion and on a decentralized basis. In recent years, due to increases in payor pre-authorization processes, documentation requirements, pre-payment reviews and pre- and post-payment audits, our ability to successfully undertake these tasks using our traditional approach has become increasingly challenging. We believe these changes in industry trends have been brought about in part by increased nationwide efforts to reduce health care costs.
A measure of our effectiveness in securing reimbursement for our services can be found in the degree to which payors ultimately disallow payment of our claims. Payors can deny claims due to their determination that a physician who referred a patient to us did not sufficiently document that a device was medically necessary or clearly establish the ambulatory (or “activity”) level of a patient. Claims can also be denied based on our failure to ensure that a patient was currently eligible under a payor’s health plan, that the plan provides full O&P benefits, that we received prior authorization, that we filed or appealed the payor’s determination timely, on the basis of our coding, failure by certain classes of patients to pay their portion of a claim and for various other reasons. If any portion of, or administrative factor within, our claim is found by the payor to be lacking, then the entirety of the claim amount may be denied reimbursement. Due to the increasing demands of these processes, the level and capability of our staffing, as well as our material weaknesses and other considerations, our consolidated disallowed revenue and its relationship to consolidated adjusted gross revenue increased over historical levels to a peak level in 2014.

Commencing in late 2014 and continuing through today, we have taken a number of actions to halt and reverse these disallowed revenue trends. These initiatives included: (i) the retention of consultants and creation of a central revenue cycle management function; (ii) addressing the issues identified in our patient management and electronic health record system; and (iii) the establishment of new clinic-level procedures and training regarding the collection of supporting documentation and the importance of diligence in our claims submission processes. Through 2017, we ~~have seen~~saw significant improvements in these rates. While we intend to continue to work towards further improvements in our procedures through the use of technology within our clinic and revenue cycle functions, we do not currently foresee that future reductions in disallowed revenue will be as achievable or substantial as the improvements realized ~~since 2014.~~during the three year period of 2015 through 2017.

Under both ASC 606 and the previous revenue recognition guidance ASC 605, Revenue Recognition, disallowed revenue is considered an adjustment to the transaction price. However, upon adoption of ASC 606, estimated uncollectible amounts due to us by patients are generally considered implicit price concessions and are now presented as a reduction of net revenue. Under prior guidance, these amounts were recognized as bad debt expense in other operating expenses.

Implicit price concessions such as payor disallowances and patient non-payments for the Patient Care segment for the three and nine months ended ~~March 31,~~September 30, 2018 and 2017 are as follows:

Three Months Ended March 31,

For the Three Months Ended
September 30,

For the Nine Months Ended
September 30,

(dollars in thousands)

2018

2017

2018

2017

2018

2017

Net revenue

$
188,507

$
187,637

$
214,080

$
210,637

$
620,745

$
614,495

Estimated implicit price concessions arising from:

Payor disallowances

8,262

7,116

10,584

9,557

29,306

28,251

Patient non-payments

869

—

736

—

2,937

—

Adjusted gross revenue

$
197,638

$
194,753

$
225,400

$
220,194

$
652,988

$
642,746

Payor disallowances

$
8,262

$
7,116

$
10,584

$
9,557

$
29,306

$
28,251

Patient non-payments

869

—

736

—

2,937

—

Bad debt expense

—

1,802

—

2,267

—

6,551

Payor disallowances, patient non-payments and bad debt expense

$
9,131

$
8,918

$
11,320

$
11,824

$
32,243

$
34,802

Payor disallowances %

4.2
%
3.7
%

4.7
%
4.3
%
4.5
%
4.4
%
Patient non-payments %

0.4
%
—
%

0.3
%
—
%
0.4
%
—
%
Bad debt expense %

—
%
0.9
%

—
%
1.1
%
—
%
1.0
%
Percent of adjusted gross revenue

4.6
%
4.6
%

5.0
%
5.4
%
4.9
%
5.4
%
Settlements
On May 15, 2018, we received a net favorable settlement of $1.7 million in connection with our long standing damage claims relating to the “Deepwater Horizon” disaster, and the prior adverse effect which it had on our clinic operations along the Gulf Coast in April of 2010. We anticipate the receipt of no further payments in connection with this matter as this settlement constituted a full and final satisfaction of our claims. The benefit of this settlement has been recognized as a reduction to our general and administrative expenses for the nine months ended September 30, 2018.
On June 28, 2018, we entered into an agreement with the State of Delaware, and made payment, to satisfy all of the State’s abandoned or unclaimed property claims transactions represented within the period of January 1, 2001 through December 31, 2012 which were reportable through December 31, 2017 in the amount of $2.2 million. This agreed upon payment amount was favorable by $0.5 million to the amount we had previously estimated for these liabilities and had the effect of reducing our general and administrative expenses by this amount for the quarter and year-to-date. Additionally, under the terms of the agreement, we were not required to pay interest on the previously un-remitted cumulative abandoned or unclaimed property relating to this twelve year period in the amount of $1.5 million, which had the effect of lowering our interest expense for the year-to-date period ended September 30, 2018 by this accrued interest amount.
New System Implementation

As discussed in our 2017 Form 10-K, in recent years we have been undertaking the implementation of a new patient management and electronic health record system at our patient care clinics. As of ~~March 31,~~September 30, 2018, we have completed the installation of this system in approximately ~~70%~~88% of our clinic locations. We currently estimate that we will incur approximately ~~$4.6~~$4.5 million in training, travel, and other implementation expense in 2018 related ~~implementation costs in 2018.~~to this implementation.

Acquisitions

~~We did~~During the year-to-date period ending September 30, 2018, we have not ~~complete~~completed any acquisitions, ~~during~~and have not undertaken any acquisitions for a period of time extending from early 2015 through the ~~first quarter~~end of ~~2018 and currently do not anticipate completing an acquisition in the quarter ending June 30, 2018.~~this most recent quarter. However, we ~~currently do believe it likely that we~~ will ~~commence the~~recommence our acquisition of ~~orthotics and prosthetic~~O&P clinics ~~which are~~ similar to those that we operate through our Patient Care segment during the ~~second half~~fourth quarter of this year. We do not believe initial acquisitions undertaken in the fourth quarter will have a material impact on our consolidated financial statements.

Seasonality

We believe our business is affected by the degree to which patients have otherwise met the deductibles for which they are responsible in their medical plans during the course of the year. The first quarter is normally our lowest relative net revenue quarter, followed by the second and third quarters, which are somewhat higher and consistent with one another, and, due to the general fulfillment by patients of their health plan co-payments and deductible requirements towards the year’s end, our fourth quarter is normally our highest revenue producing quarter.

Our results are also affected, to a lesser extent, by our holding of an education fair in the first quarter of each year. This ~~one week~~one-week event is conducted to assist our clinicians in maintaining their training and certification requirements and to facilitate a national meeting with our clinical leaders. We also invite manufacturers of the componentry for the devices we fabricate to these annual events so they can demonstrate their products and otherwise assist in our training process. During the first ~~quarters~~quarter of 2018 and 2017, we spent approximately $2.3 million and $2.0 million, respectively, on travel and other costs associated with this ~~one week~~one-week event. In addition to the costs we incur associated with this annual event, we also lose the productivity of a significant portion of our clinicians during the ~~one week~~one-week period in which this event occurs, which contributes to the lower seasonal revenue level we experience during the first quarter of each year.
Our first quarter cash flows from operations are also adversely affected as compared with other quarters due to the payment of our annual incentive compensation during that period.
Critical Accounting Policies

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

·                  Revenue recognition

·                  Accounts receivable, net

·                  Inventories

·                  Business combinations

·                  Goodwill and other intangible assets, net

·                  Income taxes

The use of different estimates, assumptions, or judgments could have a material effect on reported amounts of assets, liabilities, revenue, expenses, and related disclosures as of the date of the financial statements and during the reporting period. These critical accounting policies are described in more detail in our Annual Report on Form 10-K for the year ended December 31, 2017, under Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations and in Note A - “Organization and Summary of Significant Accounting ~~Policies~~Policies”” contained within these condensed consolidated financial statements.

Results of Operations

Our results of operations for the three months ended September 30, 2018 and 2017 were as follows (unaudited):

For the Three Months
Ended September 30,

Percent
Change

(in thousands)

2018

2017

2018 v 2017

Net revenues

$
262,946

$
257,966

1.9
%
Material costs

84,805

82,345

3.0
%
Personnel costs

90,853

90,065

0.9
%
Other operating costs

30,999

33,184

(6.6
)%
General and administrative expenses

28,308

25,356

11.6
%
Professional accounting and legal fees

3,107

7,844

(60.4
)%
Depreciation and amortization

8,950

9,632

(7.1
)%
Operating expenses

247,022

248,426

(0.6
)%
Income from operations

15,924

9,540

66.9
%
Interest expense, net

8,939

15,097

(40.8
)%
Non-service defined benefit plan expense

176

184

(4.3
)%
Income (loss) before income taxes

6,809

(5,741
)
(218.6
)%
Provision (benefit) for income taxes

2,440

(1,580
)
(254.4
)%
Net income (loss)

$
4,369

$
(4,161
)
(205.0
)%
During these periods, our operating expenses as a percentage of net revenue were as follows:

For the Three Months
Ended September 30,

2018

2017

Material costs

32.3
%
31.9
%
Personnel costs

34.6
%
34.9
%
Other operating costs

11.6
%
13.0
%
General and administrative expenses

10.8
%
9.8
%
Professional accounting and legal fees

1.2
%
3.0
%
Depreciation and amortization

3.4
%
3.7
%
Operating expenses

93.9
%
96.3
%
For the Three Months Ended September 30, 2018 Compared to the Three Months Ended September 30, 2017
Net revenue. Net revenue for the three months ended September 30, 2018 was $262.9 million, an increase of $5.0 million, or 1.9%, from $258.0 million for the three months ended September 30, 2017. Net revenue by operating segment, after elimination of intersegment activity, was as follows:

For the Three Months Ended
September 30,

Percent

(in thousands)

2018

2017

Change

Change

Patient Care

$
214,080

$
210,637

$
3,443

1.6
%
Products & Services

48,866

47,329

1,537

3.2
%
Net revenue

$
262,946

$
257,966

$
4,980

1.9
%
Patient Care net revenue for the three months ended September 30, 2018 was $214.1 million, an increase of $3.4 million, or 1.6%, from $210.6 million for the same period in the prior year. Same clinic revenue increased $4.3 million for the three months ended September 30, 2018 compared to the same period in the prior year, reflecting an increase in same clinic revenue of 2.1%, or 0.5% on a per day basis. During the three months ended September 30, 2018 revenue from prosthetics increased by 3.1% and constituted approximately 54% of our total Patient Care revenue as compared with approximately 53% in the comparable prior year period. In addition to the underlying growth in prosthetic revenue, the change in product mix was partially attributed to a comparatively lower increase in revenue related to certain of our orthotic and shoe products. The increase in revenue was offset by a $0.2 million decrease in revenue associated with clinic closures. Net revenue was also negatively impacted compared to the same period in the prior year by $0.7 million from the adoption of the new revenue accounting standard on January 1, 2018.
Products & Services net revenue for the three months ended September 30, 2018 was $48.9 million, an increase of $1.5 million, or 3.2% from $47.3 million for the same period in the prior year. This increase was comprised of $2.2 million from the distribution of O&P componentry to independent providers offset by a $0.7 million decrease in net revenue from therapeutic solutions, as a result of continued net client cancellations. We anticipate moderation of near-term Products & Services segment growth due primarily to a continuation of these therapeutic solutions revenue trends.
Material costs. Material costs for the three months ended September 30, 2018 were $84.8 million, an increase of $2.5 million or 3.0%, from $82.3 million for the same period in the prior year. Total material costs as a percentage of net revenue increased to 32.3% in 2018 from 31.9% in 2017 due primarily to changes in our Patient Care segment product mix. Material costs by operating segment, after elimination of intersegment activity, were as follows:

For the Three Months Ended
September 30,

Percent

(in thousands)

2018

2017

Change

Change

Patient Care

$
64,695

$
62,745

$
1,950

3.1
%
Products & Services

20,110

19,600

510

2.6
%
Material costs

$
84,805

$
82,345

$
2,460

3.0
%
Patient Care material costs increased $2.0 million, or 3.1%, for the three months ended September 30, 2018 compared to the same period in the prior year. Excluding the $0.7 million effect on net revenue resulting from the adoption of the new revenue accounting standard, Patient Care material costs as a percent of revenue increased slightly to 30.1% in 2018 from 29.8% in 2017, primarily due to increases in sales of higher-cost prosthetic devices, when compared to orthotics.
Products & Services material costs increased $0.5 million, or 2.6%, for the three months ended September 30, 2018 compared to the same period in the prior year. As a percent of revenue, material costs were 41.2% in the three months ended September 30, 2018 as compared to 41.4% in the same period 2017.
Personnel costs. Personnel costs for the three months ended September 30, 2018 were $90.9 million, an increase of $0.8 million, or 0.9%, from $90.1 million for the same period in the prior year. Personnel costs by operating segment were as follows:

For the Three Months Ended September
30,

Percent

(in thousands)

2018

2017

Change

Change

Patient Care

$
77,806

$
78,161

$
(355
)
(0.5
)%
Products & Services

13,047

11,904

1,143

9.6
%
Personnel costs

$
90,853

$
90,065

$
788

0.9
%
Personnel costs for the Patient Care segment were $77.8 million for the three months ended September 30, 2018, a decrease of $0.4 million, or 0.5%, from $78.2 million compared to the same period in the prior year. The decline in Patient Care personnel costs during the third quarter of 2018 was primarily related to a decrease of $0.6 million in benefits expense relating to lower health claims experience, as well as a $0.6 million decrease in bonus and commissions expense, and $0.2 million lower other personnel costs when compared to the prior period. The decreases were offset by an increase in salary expense of $1.0 million.
Personnel costs in the Products & Services segment were $13.0 million for the three months ended September 30, 2018, an increase of $1.1 million, or 9.6% compared to the same period in the prior year. The increase in Products and Services costs during the third quarter was primarily related to an increase in bonus and commissions expense of $0.8 million and an increase in salary expense of $0.3 million.
Other operating costs. Other operating costs for the three months ended September 30, 2018 were $31.0 million, a decrease of $2.2 million, or 6.6% from $33.2 million for the same period in the prior year. Bad debt expense decreased $2.3 million, primarily from the adoption of the new revenue accounting standard under which certain of these expenses were prospectively characterized as implicit price concessions within our Patient Care segment and are now reflected as an adjustment to net revenue. Product and professional liabilities decreased $0.6 million. Offsetting these decreases, was an increase of $0.7 million in professional fees.
General and administrative expenses. General and administrative expenses for the three months ended September 30, 2018 were $28.3 million, an increase of $3.0 million, or 11.6%, from $25.4 million for the same period in the prior year. This increase included $1.0 million in bonus expense, $0.9 million in salary expense, and $1.1 million in other expenses.
Professional accounting and legal fees. Professional accounting and legal fees for the three months ended September 30, 2018 were $3.1 million, a decrease of $4.7 million, or 60.4%, from $7.8 million for the same period in the prior year. Advisory and other fees decreased $4.1 million and audit related fees decreased by $0.6 million, primarily due to decreased utilization of professional fees to assist in the remediation of our material weaknesses, to regain our timely filing status and to undertake related activities.
Depreciation and amortization. Depreciation and amortization for the three months ended September 30, 2018 was $9.0 million, a decrease of $0.7 million, or 7.1%, from $9.6 million for the same period in the prior year. Certain intangible assets became fully amortized prior to the third quarter of 2018, resulting in a decrease in amortization of $0.8 million when compared to the prior period offset by a $0.1 million increase in leasehold improvement and other depreciation.
Interest expense, net. Interest expense for the three months ended September 30, 2018 was $8.9 million, a decrease of $6.2 million, or 40.8%, from $15.1 million for the same period in the prior year. This decrease was primarily due to lower interest rates on outstanding borrowings arising from our debt refinancing in March ~~31,~~2018.
Provision (benefit) for income taxes. The provision for income taxes for the three months ended September 30, 2018 was $2.4 million, or 35.8% of income before income taxes, compared to a benefit of $1.6 million, or 27.5% of loss before income taxes for the three months ended September 30, 2017. The effective tax rate in 2018 consists principally of the 21% federal statutory tax rate and the rate impact from state income taxes and permanent tax differences. The federal statutory tax rate in 2017 was 35%. The increase in the effective tax rate for the three months ended September 30, 2018 compared with the three months ended September 30, 2017 is primarily attributable to pre-tax income for the three months ended September 30, 2018 compared to pre-tax loss for the three months ended September 30, 2017, partially offset by the changes enacted by the Tax Act.
Our results of operations for the nine months ended September 30, 2018 and 2017 were as follows:

For the Three Months
Ended March 31,

Percent Change

For the Nine Months
Ended September 30,

Percent
Change

(dollars in thousands)

2018

2017

2018 v 2017

Net revenue

$
233,995

$
233,681

0.1
%
(in thousands)

2018

2017

2018 v 2017

Net revenues

$
763,907

$
755,033

1.2
%
Material costs

76,356

74,405

2.6
%

247,677

240,407

3.0
%
Personnel costs

86,108

87,955

(2.1
)%

266,515

265,851

0.2
%
Other operating costs

31,096

32,689

(4.9
)%

92,631

97,734

(5.2
)%
General and administrative expenses

25,636

25,386

1.0
%

80,467

75,969

5.9
%
Professional accounting and legal fees

4,846

12,650

(61.7
)%

12,189

29,015

(58.0
)%
Depreciation and amortization

9,330

10,137

(8.0
)%

27,552

29,594

(6.9
)%
Operating expenses

233,372

243,222

(4.0
)%

727,031

738,570

(1.6
)%
Income (loss) from operations

623

(9,541
)
**

Income from operations

36,876

16,463

124.0
%
Interest expense, net

12,263

14,009

(12.5
)%

28,519

43,197

(34.0
)%
Loss on extinguishment of debt

16,998

—

100.0
%

16,998

—

100.0
%
Non-service defined benefit plan expense

176

184

(4.3
)%

528

552

(4.3
)%
Loss before income taxes

(28,814
)
(23,734
)
21.4
%

(9,169
)
(27,286
)
66.4
%
Benefit for income taxes

(6,196
)
(6,000
)
3.3
%

(3,848
)
(7,028
)
45.2
%
Net loss

$
(22,618
)
$
(17,734
)
27.5
%

$
(5,321
)
$
(20,258
)
73.7
%

** Not a meaningful percentage
During these periods, our operating expenses as a percentage of net revenue were as follows:

For the Three Months
Ended March 31,

2018

2017

Material costs

32.6
%
31.8
%
Personnel costs

36.8
%
37.6
%
Other operating costs

13.2
%
14.1
%
General and administrative expenses

11.0
%
10.9
%
Professional accounting and legal fees

2.1
%
5.4
%
Depreciation and amortization

4.0
%
4.3
%
Operating expenses

99.7
%
104.1
%

For the Nine Months
Ended September 30,

2018

2017

Material costs

32.4
%
31.8
%
Personnel costs

34.9
%
35.2
%
Other operating costs

12.2
%
13.0
%
General and administrative expenses

10.5
%
10.1
%
Professional accounting and legal fees

1.6
%
3.8
%
Depreciation and amortization

3.6
%
3.9
%
Operating expenses

95.2
%
97.8
%
~~Three~~For the Nine Months Ended ~~March 31,~~September 30, 2018 Compared to the ~~Three~~Nine Months Ended ~~March 31,~~September 30, 2017

Net revenue. Net revenue for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 was ~~$234.0~~$763.9 million, an increase of ~~$0.3~~$8.9 million, or ~~0.1%~~1.2%, from ~~$233.7~~$755.0 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2017. Net revenue by operating segment, after elimination of intersegment activity was as follows:

For the Three Months Ended March 31,

Percent

For the Nine Months Ended
September 30,

Percent

(dollars in thousands)

2018

2017

Change

Change

(in thousands)

2018

2017

Change

Change

Patient Care

$
188,507

$
187,637

$
870

0.5
%

$
620,745

$
614,495

$
6,250

1.0
%
Products & Services

45,488

46,044

(556
)
(1.2
)%

143,162

140,538

2,624

1.9
%
Net revenue

$
233,995

$
233,681

$
314

0.1
%

$
763,907

$
755,033

$
8,874

1.2
%

Patient Care net revenue for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 was ~~$188.5~~$620.7 million, an increase of ~~$0.9~~$6.3 million, or ~~0.5%~~1.0%, from ~~$187.6~~$614.5 million for the same period in the prior year. Same clinic revenue increased ~~$2.1~~$10.2 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 compared to the same period in the prior year, reflecting an increase in same clinic revenue of 1.7%, or 1.1% on a per day basis. During the nine months ended September 30, 2018, our revenue from prosthetics increased by 3.9% and constituted approximately 53% of ~~1.1%. This~~our total Patient Care revenue as compared with approximately 52% in the comparable prior year period In addition to the underlying growth in prosthetic revenue, the change in product mix was partially attributed to a comparatively lower increase in revenue related to certain of our orthotic and shoe products. The increase in revenue was offset by ~~the effect of~~a $1.0 million decrease in revenue associated with clinic ~~closures which reflected decreased revenue of $0.4 million as compared with the same period in the prior year.~~closures. Net revenue for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 was also negatively impacted as compared to the same period in the prior year by ~~$0.9~~$2.9 million from the adoption of the new revenue accounting standard on January 1, 2018.
Revenue from prosthetic patients increased by 6.0% as compared to the same period in the prior year. This growth was partially offset by revenue declines in orthotics, shoes and shoe inserts. Prosthetic revenue constituted 51% of Patient Care’s revenue in the first quarter as compared with 49% for the same period in the prior year. We believe this growth in prosthetic revenue has been due in part to an increased focus on the demonstration of patient outcomes and related marketing initiatives. Decreases in shoes and shoe inserts relate generally to our de-emphasis of this lower margin category of care.

Products & Services net revenue for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 was ~~$45.5~~$143.2 million, ~~a decrease~~an increase of ~~$0.6~~$2.6 million, or ~~1.2%~~1.9% from ~~$46.0~~$140.5 million for the same period in the prior year. ~~This decrease was comprised~~Distribution of ~~$1.3~~O&P componentry to independent providers increased $5.6 million offset by a $3.0 million decrease in net revenue from therapeutic ~~services, which related~~solutions, as a result of continued net client cancellations. We anticipate moderation of near-term Products & Services segment growth due primarily to ~~client cancellations, partially offset by $0.7 million increase from the distribution~~a continuation of ~~O&P componentry to independent providers.~~these therapeutic solutions revenue trends.

Material costs. Material costs for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 were ~~$76.4~~$247.7 million, an increase of ~~$2.0~~$7.3 million or ~~2.6%~~3.0%, from ~~$74.4~~$240.4 million for the same period in the prior year. ~~Due~~This underlying increase in cost of materials primarily related to changes in our Patient Care segment product mix, with total material costs as a percentage of net revenue ~~increased~~increasing to ~~32.6%~~32.4% in 2018 from 31.8% in 2017. Material costs by operating segment, after elimination of intersegment activity, were as follows:

For the Three Months Ended March 31,

Percent

(dollars in thousands)

2018

2017

Change

Change

Patient Care

$
57,899

$
56,433

$
1,466

2.6
%
Products & Services

18,457

17,972

485

2.7
%
Material costs

$
76,356

$
74,405

$
1,951

2.6
%

For the Nine Months Ended
September 30,

Percent

(in thousands)

2018

2017

Change

Change

Patient Care

$
188,503

$
183,423

$
5,080

2.8
%
Products & Services

59,174

56,984

2,190

3.8
%
Material costs

$
247,677

$
240,407

$
7,270

3.0
%

Patient Care material costs increased ~~$1.5~~$5.1 million, or ~~2.6%~~2.8%, for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 compared to the same period in the prior ~~year, and increased slightly~~year. Excluding the $2.9 million effect on net revenue resulting from the adoption of the new revenue accounting standard, Patient Care material costs as a percent of ~~net~~ revenue increased slightly to ~~30.7%~~30.2% in 2018 from ~~30.1%~~29.8% in ~~2017.~~2017, primarily due to increases in sales of higher-cost prosthetic devices, when compared to orthotics.

Products & Services material costs increased ~~$0.5~~$2.2 million, or ~~2.7%~~3.8%, for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 compared to the same period in the prior ~~year and reflected an increase on~~year. Material costs increased to 41.3% as a percent of net revenue ~~basis, growing to 40.6%~~ in the ~~three~~nine months ended ~~March 31,~~September 30, 2018 from ~~39.0%~~40.5% in the same period in 2017.

Personnel costs. Personnel costs for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 were ~~$86.1~~$266.5 million, ~~a decrease~~an increase of ~~$1.8~~$0.7 million, or ~~2.1%~~0.2%, from ~~$88.0~~$265.9 million for the same period in the prior year. Personnel costs by operating segment were as follows:

For the Three Months Ended March 31,

Percent

(dollars in thousands)

2018

2017

Change

Change

Patient Care

$
73,613

$
75,515

$
(1,902
)
(2.5
)%
Products & Services

12,495

12,440

55

0.4
%
Personnel costs

$
86,108

$
87,955

$
(1,847
)
(2.1
)%

For the Nine Months Ended
September 30,

Percent

(in thousands)

2018

2017

Change

Change

Patient Care

$
228,211

$
229,582

$
(1,371
)
(0.6
)%
Products & Services

38,304

36,269

2,035

5.6
%
Personnel costs

$
266,515

$
265,851

$
664

0.2
%

Personnel costs for our Patient Care segment were ~~$73.6~~$228.2 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018, a decrease ~~$1.9~~of $1.4 million, or ~~2.5%~~0.6%, from ~~$75.5~~$229.6 million for the same period in the prior year. Patient Care personnel costs decreased $1.9 million in benefits expense ~~decreased $2.5~~due to lower health claims experience, as well as $1.8 million ~~from lower medical costs, partially~~in bonus and commissions expense when compared to the prior period. The decreases were offset by ~~a $0.6 million~~an increase in salary expense ~~and other personnel related costs.~~ of $2.3 million.
Personnel costs in the Products & Services segment were ~~relatively flat~~$38.3 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018, ~~compared to~~an increase of $2.0 million, or 5.6% for the same period in the prior year. The growth in Products and Services personnel costs for the nine month period related to an increase in salary expense of $1.0 million and an increase in bonus and commissions expense of $1.4 million. Offsetting these increases is $0.4 million lower benefit costs.

Other operating costs. Other operating costs for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 were ~~$31.1~~$92.6 million, a decrease of ~~$1.6~~$5.1 million, or ~~4.9%,~~5.2% from ~~$32.7~~$97.7 million for the same period in the prior year. Bad debt expense decreased ~~$2.5~~$7.4 million, primarily from the adoption of the new revenue accounting standard under which certain of these expenses were re-characterized as implicit price concessions within our Patient Care segment and are now reflected as an adjustment to net revenue. This decrease in was ~~partially~~ offset by a ~~$0.7~~$1.2 million increase in travel and education related expenses and a ~~$0.2~~$1.1 million increase in other operating costs. During the first quarter of each year, we hold our annual Education Fair, which is a national meeting of approximately 1,000 of our employees, primarily comprised of our clinicians. We incurred $2.3 million in costs associated with the Education Fair during the first quarter of 2018 as compared with $2.0 million of expenses in connection with the meeting held in the first quarter of 2017.office related expenses.

General and administrative expenses. General and administrative expenses for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 were ~~$25.6~~$80.5 million, an increase of ~~$0.3~~$4.5 million, or ~~1.0%~~5.9%, from ~~$25.4~~$76.0 million for the same period in the prior year. This increase included ~~$0.6 million related to a prior year benefit from company owned life insurance and $0.4~~$2.5 million in ~~travel and education related expenses, partially offset by decreases in facilities~~personnel related costs, ~~of $0.6 million and $0.1~~$1.9 million in other ~~expenses.~~expenses, $1.6 million of professional expenses related primarily to growth, revenue cycle and other corporate initiatives, and $0.7 million in advertising costs. Increases in general and administrative expenses for the year-to-date period were offset by a $1.7 million favorable settlement in connection with our long standing claim relating to the “Deepwater Horizon” disaster and $0.5 million in connection with our favorable resolution of outstanding abandoned and unclaimed property claims with the State of Delaware.

Professional accounting and legal fees. Professional accounting and legal fees for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 were ~~$4.8~~$12.2 million, a decrease of ~~$7.8~~$16.8 million, or 58.0%, from ~~$12.7~~$29.0 million for the same period in the prior year. Advisory and other fees decreased ~~$4.8~~$13.6 million, audit related fees decreased $2.7 million, and legal fees decreased ~~$0.3 million.~~$0.5 million, primarily due to decreased utilization of professional fees for assistance in the remediation of our material weaknesses, to regain our timely filing status and to undertake related activities.

Depreciation and amortization. Depreciation and amortization for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 was ~~$9.3~~$27.6 million, a decrease of ~~$0.8~~$2.0 million, or ~~8.0%~~6.9%, from $10.1 million for the same period in the prior year. The decrease included lower amortization of $0.5 million as a result of fully amortized intangible assets, $0.2 million of lower therapeutic equipment depreciation and $0.1 million of lower depreciation on software.
~~Interest expense, net.~~ ~~Interest expense for the three months ended March 31, 2018 was $12.3 million, a decrease of $1.7 million, or 12.5%, from $14.0~~$29.6 million for the same period in the prior year. The decrease was from lower amortization of $1.9 million as a result of fully amortized intangible assets and $0.1 million of other items.
Interest expense, net. Interest expense for the nine months ended September 30, 2018 was $28.5 million, a decrease of $14.7 million, or 34.0%, from $43.2 million for the same period in the prior year. This decrease related primarily ~~due~~ to lower interest rates on outstanding ~~borrowing~~borrowings arising from our debt refinancing in March ~~2018.~~2018 and reflected a $1.5 million decrease related to our settlement of outstanding abandoned and unclaimed property claims with the State of Delaware in a manner that did not require us to pay interest we had previously accrued on long standing unpaid claim amounts.

Loss on extinguishment of debt. Debt extinguishment costs for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 totaled $17.0 million and related to our debt refinancing on March 6, 2018 - see Note J - “Long-term Debt.””

Benefit for income taxes. The benefit for income taxes for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 was ~~$6.2~~$3.8 million, or ~~21.5%~~42.0% of loss ~~from continuing operations~~ before income taxes, compared to a benefit of ~~$6.0~~$7.0 million, or ~~25.3%~~25.8% of loss ~~from continuing operations~~ before income taxes for the ~~three~~nine months ended ~~March 31,~~September 30, 2017. The effective tax rate in 2018 consists principally of the 21% federal statutory tax rate ~~in addition to~~and the rate impact from state income taxes ~~less~~and permanent tax differences. The federal statutory tax rate in 2017 was 35%. The ~~increase~~decrease in ~~benefit for~~the income ~~taxes~~tax benefit was largely driven by ~~an increase in~~decreased loss before ~~income~~ taxes for the period, partially offset by ~~the lower effective tax rate.~~
The income tax provision for the three months ended March 31, 2018 was computed on a discrete period basis due to an exceptional circumstance in which we are anticipating only marginal pre-tax book profitability for the year, but have significant permanent differences that could result in wide variability in estimating theincreased estimated annual effective tax ~~rate. The tax benefit related~~rate applied to the ~~first quarter ordinary~~quarter. The increase in estimated annual effective tax rate was driven by increased estimated permanent differences and decreased estimated loss ~~was therefore recognized in the interim period in which the ordinary loss was reported as permitted under ASC 740.~~before taxes.
Financial Condition, Liquidity and Capital Resources

Liquidity

To provide cash for our operations and capital expenditures, our immediate source of liquidity is our cash and ~~investment balances~~cash equivalents and any amounts we have available for borrowing under our revolving credit facility. We refer to the sum of these two amounts as our “liquidity.”

At ~~March 31,~~September 30, 2018, we had total liquidity of ~~$127.0~~$155.1 million, which reflected an increase of ~~$39.1~~$67.2 million, from the $87.9 million in liquidity we had as of December 31, 2017. Our liquidity at ~~March 31,~~September 30, 2018 was comprised of cash and cash equivalents of ~~$32.9~~$61.0 million and $94.1 million in available borrowing capacity under our ~~$100~~$100.0 million revolving credit facility. This increase in liquidity relates primarily to the net proceeds of $49.7 million from the refinancing of our indebtedness on March 6, 2018.

If we are not compliant with our debt covenants in any period, absent a waiver or amendment of our Credit Agreement, we may be unable to access funds in our revolving credit facility.

Working Capital and Days Sales Outstanding

At ~~March 31,~~September 30, 2018, we had a working capital of ~~$107.9~~$139.7 million compared to working capital of $78.7 million at December 31, 2017. Our working capital increased ~~$29.2~~$61.0 million in 2018 compared to 2017 due to ~~decreases~~a decrease in current liabilities of ~~$29.3~~$23.4 million and ~~increases~~an increase in current assets of ~~$0.2~~$37.6 million.

~~Our~~The decrease in current liabilities ~~decreased~~was primarily ~~due~~attributable to ~~the decreases~~a reduction in ~~the~~ accrued compensation related costs of ~~$35.8~~$20.7 million, ~~primarily~~largely related to the timing of payment of annual bonuses during the first quarter of 2018, a $7.0 million decrease in accrued professional fees, and a $4.9 million decrease in patient refunds. This decrease was offset by ana $4.7 million increase in the current portion of long term debt ~~of $6.0 million.~~and a $4.1 million increase in accounts payable. When comparing these outflows to the prior period, we paid ~~$16.5~~$13.7 million less in annual bonuses and 401(k) matching contributions in the first ~~quarter~~three quarters of 2017 as compared to the amounts we paid in the first ~~quarter~~three quarters of 2018. This was primarily due to ~~our relatively weaker~~attainment of lower incentive compensation targets based on performance for the year ended December 31, 2016 as compared to ~~our performance for~~ the year ended December 31, 2017.

~~Our~~The increase in current assets ~~increased~~was primarily ~~due~~attributable to ~~a $31.4 million~~an increase in cash and cash equivalents and inventory of $59.5 million and 3.5 million, respectively. The increase in current assets was offset by a decrease of ~~$19.3~~$13.9 million in net accounts receivable and a ~~decrease~~reduction of ~~$12.3~~$11.4 million of income tax ~~receivables.~~receivables related to refunds from the IRS. Cash received for income taxes was ~~$12.3~~$11.4 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018, as compared to ~~$0.8~~$0.6 million cash spent for the same period in the prior year. We ~~are anticipating only marginal~~expect to generate limited pre-tax ~~book profitability for the~~income through fiscal year 2018 and ~~expect~~plan to utilize net operating loss carryforwards to offset our expected 2018 federal tax ~~provision such that we expect cash paid for Federal taxes in 2018 to be minimal.~~liability. The decrease in accounts receivable primarily relates to the seasonality of our business ~~whereby~~which is affected by the degree to which patients have otherwise met their deductibles near the end of the year. As a result, the fourth quarter ~~reflects the~~has historically been our highest
~~seasonal~~ revenue producing quarter, ~~and~~resulting in a decline in accounts receivable in the first quarter ~~is the lowest. This sequential quarterly decline in revenue contributes directly to a seasonal drop in our accounts receivable balances from December 31st of each year to March 31st~~ of the ~~next~~following year.

Days sales outstanding (“DSO”) is a calculation that approximates the average number of days between the billing for our services and the date of our receipt of payment, which we estimate using a 90 day rolling period of net revenue. This computation can provide a relative measure of the effectiveness of our billing and collections activities. As of ~~March 31,~~September 30, 2018, our DSO was 4945 days, which compares to a DSO of 4847 days as of ~~March 31,~~September 30, 2017. At December 31, 2017, our DSO was 46 days, which was unchanged from a DSO of 46 days reported as of December 31, 2016. ~~Increases in our DSO from December of each year to March relate primarily to the seasonal decrease in quarterly revenue we experience in the first quarter of each year.~~

Sources and Uses of Cash ~~in Three~~for the Nine Months Ended ~~March 31,~~September 30, 2018 Compared to ~~March 31,~~September 30, 2017

Cash flows ~~used in~~from operating activities ~~decreased $3.2~~increased $38.2 million to ~~$8.5~~an inflow of $37.2 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 from ~~$11.7~~a use of $1.0 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2017. This was due primarily to the changes in working capital in 2018 compared to 2017 which ~~were~~are discussed in the Working Capital and Days Sales Outstanding section above.
Cash flows used in investing activities increased ~~$4.8~~$8.5 million to ~~$6.2~~$19.8 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 from ~~$1.4~~$11.3 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2017. The increase in cash used in investing activities included ~~$2.0~~a $5.2 million increase in purchases of property, plant and equipment, ~~$1.4~~a $2.7 million increase in purchases of therapeutic program equipment, and a ~~$1.3~~$0.6 million decrease in proceeds of sale of property, plant and equipment. We ~~currently~~ anticipate that we will ~~expend an increased amount for~~continue to increase spending on capital expenditures ~~in 2018 as compared with recent years.~~through 2019. In addition to general increases in technology and leasehold improvements, we also plan to increase our purchase of therapy equipment for use in our Products & Services segment. We currently believe that our total capital expenditures related to property, plant and equipment, and therapeutic program equipment purchases will be approximately ~~$34.8~~$30.0 to $35.0 million for the year ended December 31, 2018.

Cash flows provided by financing activities increased ~~$37.9~~$35.7 million to ~~$45.1~~$41.2 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 from ~~$7.3~~$5.6 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2017. This increase ~~included $52.2~~is due to higher net borrowings of $46.8 million under our term loan and revolving credit agreement, primarily related to the refinancing of our indebtedness, when compared to the prior year. The increase in our net borrowings is offset by debt issuance and extinguishment costs of $12.3 million, an increase of $1.2 million related to our refinancing of indebtedness and $1.8 million reduction in payments on seller notes and other contingent consideration, partially offset by $15.2 million in payment of debt issuance costs, extinguishment costs and fees and $0.9 milliontax withholdings for employee stock based compensation, and an increase of $0.1 million for payment of capital lease obligations.

Effect of Indebtedness

Due to the ~~then pending~~then-pending June 17, 2018, maturity of our ~~previously existing~~previous credit agreement, which was scheduled to mature on June 17, 2018 for which we had $151.9 million outstanding at December 31, 2017, and given that we would not have produced operating cash flow sufficient to retire this obligation through cash sources arising from our normal operations, on March 6, 2018 we entered into the Credit Agreement in order to refinance our indebtedness. These changes to our indebtedness are disclosed in Note J - “Long-Term Debt,” in the notes to the condensed consolidated financial ~~statements.~~statements (unaudited) elsewhere in this report. Our new indebtedness bears reduced rates of interest as compared with those ~~that we incurred~~ under our prior indebtedness, and as such, for the year ended December 31, 2018, we ~~currently~~ anticipate that we will report interest expense of approximately ~~$40.0~~$36.5 million as compared with the $57.7 million we reported in 2017. Cash paid for interest totaled ~~$10.6~~$23.7 million and ~~$12.2~~$33.6 million for the ~~three~~nine months ended ~~March 31,~~September 30, 2018 and 2017, respectively.
Scheduled maturities of debt as of September 30, 2018 were as follows (in thousands):
2018 (remainder of year)

$
2,897

2019

8,480

2020

7,329

2021

6,497

2022

6,098

Thereafter

490,394

Total debt before unamortized discount and debt issuance costs, net

521,695

Unamortized discount and debt issuance costs, net

(9,702
)
Total debt

$
511,993

Liquidity Outlook and Going Concern Evaluation

Our Credit Agreement has a term loan facility with ~~$505~~$502 million in principal outstanding at ~~March 31,~~September 30, 2018, due in quarterly principal installments equal to 0.25% of the original aggregate principal amount of $505 million, commencing June 29, 2018, with all remaining outstanding principal due at maturity in March 2025 and a revolving credit facility with no borrowings and a maximum aggregate amount of availability of $100 million at ~~March 31,~~September 30, 2018 that matures in March 2023. We currently believe that our anticipated operating trends, when coupled with anticipated decreases in our payments of interest expense and professional fees, will provide us with sufficient liquidity to meet our financial obligations during the coming twelve months.

ASU 2014-15 Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern requires that we evaluate whether there is substantial doubt about our ability to meet our financial obligations when they become due during the twelve month period from the date these financial statements are available to be issued. We have performed such an evaluation and,
based on the results of that assessment, we are not aware of any relevant conditions or events that raise substantial doubt regarding our ability to continue as a going concern within one year of the date the financial statements are issued.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements that may or could have a current or future material effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital ~~resources, except for $5.9 million of letters of credit outstanding and $3.0 million of interest rate swap liabilities as of March 31, 2018.~~
~~Scheduled maturities of debt at March 31, 2018 were as follows (in thousands):~~
2018 (remainder of year)

$
7,320

2019

8,095

2020

7,011

2021

5,619

2022

5,720

Thereafter

492,210

Total debt before unamortized discount and debt issuance costs, net

525,975

Unamortized discount and debt issuance costs, net

(10,428
)
Total debt

$
515,547

~~Subsequent Events~~
On May 15, 2018, we received a favorable settlement of $1.7 million in connection with our long standing damage claims relating to the “Deepwater Horizon” disaster, and the prior adverse effect which it had on our clinic operations along the Gulf Coast in April of 2010. We anticipate the receipt of no further payments in connection with this matter as this settlement constituted a full and final satisfaction of our claims. Given that this amount is considered a gain contingency, we did not record income associated with this settlement during the period ending March 31, 2018, or in any prior period. We intend to recognize this settlement amount as income in our condensed consolidated financial statements for the quarter ending June 30, 2018.resources.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

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

As of ~~March 31,~~September 30, 2018, we had a combined principal amount of ~~$505.0~~$502.5 million of variable rate debt and a notional amount of $325.0 million of fixed to variable interest rate swap agreements. Based on our hedged and unhedged positions, a hypothetical increase or decrease in interest rates by 1.0% would impact our annual interest expense by $1.8 million.
ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

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

Management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the design and effectiveness of our disclosure controls and procedures as of ~~March 31,~~September 30, 2018. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were not effective as of ~~March 31,~~September 30, 2018 ~~due to~~because of the previously identified material weaknesses in our internal control over financial reporting described in Item 9A ~~- “~~Controls and Procedures~~” in our Annual Report on~~of the Form 10-K for the ~~year ended~~year-ending December 31, ~~2017 (the “2017 10-K”).~~2017.

Changes in Internal Control over Financial Reporting

~~As part of~~Although we have not fully remediated the adoption of ASC 606, we are implementing changes to our internal controls over financial reporting related to revenue recognition to ensure adequate evaluation of contracts and proper recording of revenue. Additionally, due to our ongoing remediation efforts of the aforementioned material weaknesses ~~additional changes to~~described in our ~~internal control over financial reporting are likely to~~Form 10-K for the year ended December 31, 2017, we believe that we have ~~occurred during~~made substantial progress on the ~~period ended March 31, 2018. See~~remediation plans described in our 2017 Form 10-K, Item 9A ~~- “~~Controls and Procedures”.
The following remediation steps were taken by the Company during the quarter:
Account Reconciliations
We have implemented a standard process, including templates, for account reconciliations across the Company, as well as controls to validate all accounts have been reconciled.
Plant, Property and Equipment and Depreciation
We have implemented new controls around the purchasing, sale, and disposal of fixed assets. We have also improved controls related to the calculation of and accounting for depreciation expense.
Share-based Compensation
We have implemented new controls related to the accounting for share-based compensation expense and improved the coordination between our human resources and accounting departments.
Business Combinations
We have designed new processes for any potential acquisition the Company may engage in and have increased the communication between our acquisition and accounting organizations.
We have made improvements to controls in the ~~2017 10-K~~areas of accounts payable and accruals; inventory; leases; goodwill and intangible assets; information technology general controls; and income taxes and are currently evaluating the design and operating effectiveness of these controls. The material weaknesses cannot be considered remediated until the applicable remedial controls operate for ~~additional information regarding~~a period of time sufficient for management to conclude, through testing, that these controls are operating effectively.
Additionally, we have implemented an annual enterprise risk assessment as part of our ~~ongoing~~ remediation ~~efforts.~~of the material weakness related to risk assessment and are evaluating other factors that relate to this material weakness.

Therefore, in accordance with Rule 13a-15(d) of the Exchange Act, management, with the participation of our Chief Executive Officer and our Chief Financial Officer, determined that elements of the changes listed above to our internal control over financial reporting occurred during the period ended ~~March 31,~~September 30, 2018 and have materially affected or are reasonably likely to materially affect our internal control over financial reporting.
PART II.                 OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Securities and Derivative Litigation

In November 2014, a securities class action complaint, City of Pontiac General Employees’ Retirement System v. Hanger, et al., C.A. No. 1:14-cv-01026-SS, was filed against us in the United States District Court for the Western District of Texas. The complaint named us and certain of our current and former officers for allegedly making materially false and misleading statements regarding, inter alia, our financial statements, RAC audit success rate, the implementation of new financial systems, same-store sales growth, and the adequacy of our internal processes and controls. The complaint alleged violations of Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder. The complaint sought unspecified damages, costs, attorneys’ fees, and equitable relief.

On April 1, 2016, the court granted our motion to dismiss the lawsuit for failure to state a claim upon which relief can be granted, and permitted plaintiffs to file an amended complaint. On July 1, 2016, plaintiffs filed an amended complaint. On September 15, 2016, we and certain of the individual defendants filed motions to dismiss the lawsuit. On January 26, 2017, the court granted the defendants’ motions and dismissed with prejudice all claims against all defendants for failure to state a claim. On February 24, 2017, plaintiffs filed a notice of appeal to the United States Court of Appeals for the Fifth Circuit. Appellate briefing was completed on August 18, 2017 and the ~~appeal remains pending. The~~ Court of Appeals held oral argument for the appeal on March 5, 2018. ~~We are now awaiting a ruling from~~On August 6, 2018, the Court of Appeals affirmed in part and reversed in part. The Court of Appeals affirmed the dismissal of the case against individual defendants Vinit Asar, our current President and Chief Executive Officer, and Thomas Kirk, our former President and Chief Executive Officer, but reversed the dismissal of the case against George McHenry, our former Chief Financial Officer, and Hanger, Inc. On August 20, 2018, Hanger, Inc. and George McHenry filed a petition for panel rehearing and a petition for rehearing en banc with the Court of Appeals. On September 10, 2018 the Court of Appeals asked plaintiffs to file a response to the petition for rehearing en banc, and plaintiffs filed an opposition to the petition for rehearing en banc on September 17, 2018. Both petitions are pending with the Court of Appeals. We believe the remaining claims are without merit, and intend to continue to vigorously defend against these claims.

In February and August of 2015, two separate shareholder derivative suits were filed in Texas state court against us related to the announced restatement of certain of our financial statements. The cases were subsequently consolidated into Judy v. Asar, et. al., Cause No. D-1-GN-15-000625. On October 25, 2016, plaintiffs in that action filed an amended complaint, and the case is currently pending before the ~~345th~~459th Judicial District Court of Travis County, Texas.

The amended complaint in the consolidated derivative action names us and certain of our current and former officers and directors as defendants. It alleges claims for breach of fiduciary duty based, inter alia, on the defendants’ alleged failure to exercise good faith to ensure that we had in place adequate accounting and financial controls and that disclosures regarding our business, financial performance and internal controls were truthful and accurate. The complaint seeks unspecified damages, costs, attorneys’ fees, and equitable relief.

As disclosed in our Current Report on Form 8-K filed with the SEC on June 6, 2016, the Board of Directors appointed a Special Litigation Committee of the Board (the “Special Committee”). The Board delegated to the Special Committee the authority to (1) determine whether it is in our best interests to pursue any of the allegations made in the derivative cases filed in Texas state court (which cases were consolidated into the Judy case discussed above), (2) determine whether it is in our best interests to pursue any remedies against any of our current or former employees, officers or directors as a result of the conduct discovered in the Audit Committee investigation concluded on June 6, 2016 (the “Investigation”), and (3) otherwise resolve claims or matters relating to the findings of the Investigation. The Special Committee retained independent legal counsel to assist and advise it in carrying out its duties and reviewed and considered the evidence and various factors relating to our best interests. In accordance with its findings and conclusions, the Special Committee determined that it is not in our best interest to pursue any of the claims in the Judy derivative case. Also in accordance with its findings and conclusions, the Special Committee determined that it is not in our best interests to pursue legal remedies against any of our current or former employees, officers, or directors.

On April 14, 2017, we filed a motion to dismiss the consolidated derivative action based on the resolution by the Special Committee that it is not in our best interest to pursue the derivative claims. Counsel for the derivative plaintiffs opposed that motion and moved to compel discovery. In a hearing held on June 12, 2017, the Travis County court denied plaintiffs’ motion to compel, and held that the motion to dismiss would be considered only after appropriate discovery was concluded.
The plaintiffs ~~have since~~subsequently subpoenaed counsel for the Special Committee, seeking a copy of the full report prepared by the Special Committee and its independent counsel. Counsel for the Special Committee, as well as our counsel, ~~take~~took the position that the full report is not discoverable under Texas law. Plaintiffs’ counsel ~~has~~ filed a motion to compel the Special Committee’s counsel to produce the report. ~~The hearing on the motion to compel is scheduled for June 28, 2018.~~ We ~~intend~~
~~to vigorously oppose~~opposed the motion. ~~Upon resolution~~On July 20, 2018, the Travis County court ruled that only a redacted version of the ~~discovery dispute~~report is discoverable, and we have provided a redacted version of the report to plaintiff’s counsel. Upon completion of discovery we intend to file a motion to dismiss the consolidated derivative action.

Management intends to continue to vigorously defend against the ~~shareholder derivative~~securities class action and the ~~appeal in the securities class~~shareholder derivative action. At this time, we cannot predict how the Courts will rule on the merits of the claims and/or the scope of the potential loss in the event of an adverse outcome. Should we ultimately be found liable, the resulting damages could have a material adverse effect on our consolidated financial position, liquidity or our results of ~~our~~ operations.

Other Matters
In May 2015, one of our clinics received a civil investigative demand for records relating to a sample of claims submitted to Medicare and Medicaid for reimbursement, and we provided records in response to the subpoena. In May 2017, we were informed by an Assistant United States Attorney that it was investigating whether we properly provided and claimed reimbursement for prosthesis skins and covers from July 2013 (after an industry announcement) to the present. We have reviewed the claims, and have cooperated with the government’s investigation. This matter was resolved in March 2018 and did not have a material impact on the first quarter of 2018.

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

We are in a highly regulated industry and receive regulatory agency inquiries from time to time in the ordinary course of our business, including inquiries relating to our billing activities. No assurance can be given that any discrepancies identified during a regulatory review will not have a material adverse effect on our condensed consolidated financial statements.
ITEM 1A. RISK FACTORS

Our business and financial results are subject to numerous risks and uncertainties. The risk and uncertainties have not changed materially from those reported in Item 1A in our Annual Report on Form 10-K for the year ended December 31, 2017, which are incorporated by reference. For additional information regarding risks and uncertainties, see the information provided under the header “Forward Looking ~~Statements~~Statements”” contained in Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of ~~Operations~~Operations”” in this Quarterly Report on Form 10-Q.

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

There has been no share repurchase activity during the quarter ended ~~March 31,~~September 30, 2018.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

There have been no defaults upon senior securities during the quarter ended ~~March 31,~~September 30, 2018.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

None to report.

ITEM 6. EXHIBITS

The documents in the accompanying ~~Exhibit~~Exhibits Index are filed, furnished or incorporated by reference as part of this report and such ~~Exhibit~~Exhibits Index is incorporated herein by reference.
~~SIGNATURES~~
~~Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.~~
~~HANGER, INC.~~
~~Dated: June 14, 2018~~
~~By:~~
~~/s/ THOMAS E. KIRALY~~
~~Thomas E. Kiraly~~
~~Executive Vice President and Chief Financial Officer~~
~~Dated: June 14, 2018~~
~~By:~~
~~/s/ GABRIELLE B. ADAMS~~
~~Gabrielle B. Adams~~
~~Vice President and Chief Accounting Officer~~
EXHIBITS INDEX

Exhibit
No.

Document
31.1

Written Statement of the Chief Executive Officer Pursuant to Section 302 of the Sarbanes Oxley Act of 2002. (Filed herewith.)
31.2

Written Statement of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes Oxley Act of 2002. (Filed herewith.)
32

Written Statement of the Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes Oxley Act of 2002. (Filed herewith.)
101.INS

XBRL Instance Document. (Filed herewith.)
101.SCH

XBRL Taxonomy Extension Schema. (Filed herewith.)
101.CAL

XBRL Taxonomy Extension Calculation Linkbase. (Filed herewith.)
101.LAB

XBRL Taxonomy Extension Label Linkbase. (Filed herewith.)
101.PRE

XBRL Taxonomy Extension Presentation Linkbase. (Filed herewith.)
101.DEF

XBRL Taxonomy Extension Definition Linkbase. (Filed herewith.)
SIGNATURES

45Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
HANGER, INC.
Dated: November 8, 2018
By:
/s/ THOMAS E. KIRALY
Thomas E. Kiraly
Executive Vice President and Chief Financial Officer
Dated: November 8, 2018
By:
/s/ GABRIELLE B. ADAMS
Gabrielle B. Adams
Vice President and Chief Accounting Officer
48

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

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

~~Title of class~~		~~Name of exchange on which registered~~
~~Common Stock, par value $0.01 per share~~		~~OTC Pink (operated by OTC Markets Group Inc.)~~

Hanger, Inc.
~~Explanatory Note~~		ii
Part I Financial Information
	Item 1. Condensed Consolidated Financial Statements (unaudited)		1
	Item 2. Management Discussion and Analysis of Financial Condition and Results of Operations	26	27
	Item 3. Quantitative and Qualitative Disclosures About Market Risk	39	42
	Item 4. Controls and Procedures	40	43
Part II Other Information
	Item 1. Legal Proceedings	41	44
	Item 1A. Risk Factors	43	46
	Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	43	46
	Item 3. Defaults Upon Senior Securities	43	46
	Item 4. Mine Safety Disclosures	43	46
	Item 5. Other Information	43	46
	Item 6. Exhibits	43
~~Signatures~~	4446
Exhibits Index		45	47
Signatures			48

	Three Months Ended March 31,
	2018			2017
Net revenue	$	233,995		$	233,681
Material costs	76,356			74,405
Personnel costs	86,108			87,955
Other operating costs	31,096			32,689
General and administrative expenses	25,636			25,386
Professional accounting and legal fees	4,846			12,650
Depreciation and amortization	9,330			10,137
Income (loss) from operations	623			(9,541		)
Interest expense, net	12,263			14,009
Loss on extinguishment of debt	16,998			—
Non-service defined benefit plan expense	176			184
Loss before income taxes	(28,814		)	(23,734		)
Benefit for income taxes	(6,196		)	(6,000		)
Net loss	$	(22,618	)	$	(17,734	)

Other comprehensive loss:
Unrealized loss on cash flow hedges (net of tax benefit of $702 for the three months ended March 31, 2018)	$	(2,290	)	$	—
Unrealized loss on defined benefit plan (net of tax benefit of $105 and $0 for the three months ended March 31, 2018 and 2017, respectively)	(292		)	(17		)
Total other comprehensive loss	(2,582		)	(17		)
Comprehensive loss	$	(25,200	)	$	(17,751	)

Basic and Diluted Per Common Share Data:
Basic and diluted loss per common share	$	(0.62	)	$	(0.49	)
Weighted average shares used to compute basic and diluted earnings per common share	36,498,482			36,084,630

	Three Months Ended March 31,
	2018			2017

Cash flows from operating activities:
Net loss	$	(22,618	)	$	(17,734	)

Adjustments to reconcile net loss to net cash from operating activities:
Depreciation and amortization	9,330			10,137
Provision for doubtful accounts	(94		)	2,360
Stock-based compensation expense	2,585			2,164
Benefit for deferred income taxes	(6,355		)	(6,050		)
Amortization of debt issuance costs	1,701			1,952
Loss on extinguishment of debt	16,998			—
Gain on sale and disposal of fixed assets	(594		)	(672		)

Changes in operating assets and liabilities:
Accounts receivable, net	19,425			15,367
Inventories	1,085			(4,653		)
Other current assets	650			39
Income taxes	12,255			849
Accounts payable	552			6,333
Accrued expenses and other current liabilities	(5,067		)	(683		)
Accrued compensation related costs	(35,789		)	(19,171		)
Other liabilities	(2,537		)	(1,901		)
Net cash used in operating activities	(8,473		)	(11,663		)

Cash flows from investing activities:
Purchase of property, plant and equipment	(4,388		)	(2,348		)
Purchase of therapeutic program equipment leased to third parties under operating leases	(2,034		)	(629		)
Purchase of company-owned life insurance investment	(598		)	(555		)
Proceeds from sale of property, plant and equipment	840			2,179
Net cash used in investing activities	(6,180		)	(1,353		)

Cash flows from financing activities:
Borrowings under term loan, net of discount	501,467			—
Repayment of term loan	(431,875		)	(5,625		)
Borrowings under revolving credit agreement	3,000			49,500
Repayments under revolving credit agreement	(8,000		)	(31,500		)
Payment of employee taxes on stock-based compensation	(2,150		)	(1,338		)
Payment on seller note and other contingent consideration	(1,749		)	(3,498		)
Payment of capital lease obligations	(364		)	(278		)
Payment of debt issuance costs	(6,757		)	—
Payment of debt extinguishment costs	(8,436		)	—
Net cash provided by financing activities	45,136			7,261

Increase (decrease) in cash, cash equivalents and restricted cash	30,483			(5,755		)
Cash, cash equivalents and restricted cash, at beginning of period	4,779			9,412
Cash, cash equivalents and restricted cash, at end of period	$	35,262		$	3,657

	December 31, 2017			Effects of			January 1, 2018			December 31, 2017			Effects of			January 1, 2018
(in thousands)	As reported			Adoption			After adoption			As reported			Adoption			After adoption
Assets
Deferred income taxes	$	68,126		$	268		$	68,394		$	68,126		$	268		$	68,394
Liabilities
Accrued expenses and other current liabilities	$	66,683		$	1,027		$	67,710		$	66,308		$	1,027		$	67,335
Shareholders’ Deficit
Accumulated deficit	$	(359,772	)	$	(759	)	$	(360,531	)	$	(359,772	)	$	(759	)	$	(360,531	)

	As of and for the Three Months Ended September 30, 2018
(in thousands)	As Reported			Effects of Adoption			Proforma balance without the adoption of ASC 606
Condensed Consolidated Statement of Operations
Net revenues	$	262,946		$	645		$	263,591
Other operating costs	30,999			736			31,735
Income from operations	15,924			(91		)	15,833
Income before income taxes	6,809			(91		)	6,718
Net income	4,369			(91		)	4,278
Comprehensive income	6,133			(91		)	6,042

Condensed Consolidated Balance Sheet
Assets
Deferred income taxes	$	71,967		$	24		$	71,991
Total assets	675,629			24			675,653
Liabilities
Accrued expenses and other current liabilities	54,790			92			54,882
Total current liabilities	148,872			92			148,964
Total liabilities	701,233			92			701,325
Shareholders’ Deficit
Accumulated deficit	(365,852		)	(68		)	(365,920		)
Total shareholders’ deficit	(25,604		)	(68		)	(25,672		)

	As of and for the three months ended March 31, 2018									As of and for the Nine Months Ended September 30, 2018
(in thousands)	As Reported			Effects of Adoption			Proforma balance without the adoption of ASC 606			As Reported			Effects of Adoption			Proforma balance without the adoption of ASC 606
Condensed Consolidated Statement of Operations
Net revenue	$	233,995		$	898		$	234,893
Net revenues										$	763,907		$	2,866		$	766,773
Other operating costs	31,096			868			31,964			92,631			2,937			95,568
Income from operations	623			30			653			36,876			(71		)	36,805
Loss before income taxes	(28,814		)	30			(28,784		)	(9,169		)	(71		)	(9,240		)
Net loss	(22,618		)	30			(22,588		)	(5,321		)	(71		)	(5,392		)
Comprehensive loss	(25,200		)	30			(25,170		)	(3,799		)	(71		)	(3,870		)

Condensed Consolidated Balance Sheet
Assets
Deferred income taxes	$	75,449		$	(276	)	$	75,173		$	71,967		$	(249	)	$	71,718
Total assets	644,283			(276		)	644,007			675,629			(249		)	675,380
Liabilities
Accrued expenses and other current liabilities	64,695			(1,057		)	63,638			54,790			(956		)	53,834
Total current liabilities	142,945			(1,057		)	141,888			148,872			(956		)	147,916
Total liabilities	697,858			(1,057		)	696,801			701,233			(956		)	700,277
Shareholders’ Deficit
Accumulated deficit	(383,149		)	781			(382,368		)	(365,852		)	707			(365,145		)
Total shareholders’ deficit	(53,575		)	781			(52,794		)	(25,604		)	707			(24,897		)

	For the Three Months Ended March 31,				For the Three Months Ended September 30,				For the Nine Months Ended September 30,
(in thousands)	2018		2017		2018		2017		2018		2017
Patient Care Segment
Medicare	$	57,531	$	55,245	$	69,724	$	65,759	$	197,461	$	186,606
Medicaid	29,711		28,292		33,597		32,557		96,993		95,524
Commercial Insurance/Managed Care (excluding Medicare and Medicaid Managed Care)	70,582		74,166
Commercial Insurance/ Managed Care (excluding Medicare and Medicaid Managed Care)					78,333		79,804		226,761		234,866
Veterans Administration	16,731		15,572		19,317		18,662		56,873		52,995
Private Pay	13,952		14,362		13,109		13,855		42,657		44,504
Total	$	188,507	$	187,637	$	214,080	$	210,637	$	620,745	$	614,495

	Three Months Ended March 31,
(in thousands, except share and per share data)	2018			2017

Net loss	$	(22,618	)	$	(17,734	)

Weighted average shares used to compute basic earnings per common share	36,498,482			36,084,630
Effect of potentially dilutive restricted stock units and options (1)	—			—
Weighted average shares used to compute diluted earnings per common share	36,498,482			36,084,630

Basic and diluted loss per common share	$	(0.62	)	$	(0.49	)

	For the Three Months Ended September 30,					For the Nine Months Ended September 30,
(in thousands except per share data)	2018		2017			2018			2017

Net income (loss)	$	4,369	$	(4,161	)	$	(5,321	)	$	(20,258	)

Weighted average shares outstanding - basic	36,857		36,340			36,717			36,239
Effect of potentially dilutive restricted stock units and options (1)	700		—			—			—
Weighted average shares outstanding - diluted	37,557		36,340			36,717			36,239

Basic income (loss) per share	$	0.12	$	(0.11	)	$	(0.14	)	$	(0.56	)

Diluted income (loss) per share	$	0.12	$	(0.11	)	$	(0.14	)	$	(0.56	)

	As of March 31, 2018									As of December 31, 2017
(in thousands)	Patient Care			Products & Services			Consolidated			Patient Care			Products & Services			Consolidated
Accounts receivable, before allowances	$	170,274		$	23,179		$	193,453		$	193,150		$	23,494		$	216,644
Allowances for estimated implicit price concessions arising from:
Allowance for estimated payor disallowances	(53,370		)	—			(53,370		)	(56,233		)	—			(56,233		)
Allowance for estimated patient non-payments	(8,848		)	—			(8,848		)	—			—			—
Accounts receivable, gross	108,056			23,179			131,235			136,917			23,494			160,411
Allowance for doubtful accounts	—			(4,225		)	(4,225		)	(9,894		)	(4,171		)	(14,065		)
Accounts receivable, net	$	108,056		$	18,954		$	127,010		$	127,023		$	19,323		$	146,346

	As of September 30, 2018									As of December 31, 2017
(in thousands)	Patient Care			Products & Services			Consolidated			Patient Care			Products & Services			Consolidated
Accounts receivable, before allowances	$	170,030		$	26,105		$	196,135		$	193,150		$	23,494		$	216,644
Allowances for estimated implicit price concessions arising from:
Payor disallowances	(52,267		)	—			(52,267		)	(56,233		)	—			(56,233		)
Patient non-payments	(7,716		)	—			(7,716		)	—			—			—
Accounts receivable, gross	110,047			26,105			136,152			136,917			23,494			160,411
Allowance for doubtful accounts	—			(3,706		)	(3,706		)	(9,894		)	(4,171		)	(14,065		)
Accounts receivable, net	$	110,047		$	22,399		$	132,446		$	127,023		$	19,323		$	146,346

(in thousands)	March 31, 2018		December 31, 2017		As of September 30, 2018		As of December 31, 2017
Raw materials	$	20,161	$	19,929	$	20,049	$	19,929
Work in process	11,543		8,996		12,649		8,996
Finished goods	38,347		40,213		39,903		40,213
Total inventories	$	70,051	$	69,138	$	72,601	$	69,138

(in thousands)
2018 (remainder of year)	$	4,721	$	1,436
2019	3,714		3,762
2020	3,457		3,509
2021	879		927
2022	817		860
Thereafter	2,083		1,843
Total	$	15,671	$	12,337

2018 (remainder of year)	$	7,320
2019	8,095
2020	7,011
2021	5,619
2022	5,720
Thereafter	492,210
Total debt before unamortized discount and debt issuance costs, net	525,975
Unamortized discount and debt issuance costs, net	(10,428		)
Total debt	$	515,547

2018 (remainder of year)	$	2,897
2019	8,480
2020	7,329
2021	6,497
2022	6,098
Thereafter	490,394
Total debt before unamortized discount and debt issuance costs, net	521,695
Unamortized discount and debt issuance costs, net	(9,702		)
Total debt	$	511,993

(in thousands)	Cash Flow Hedges
Balance at December 31, 2017	$	—
Unrealized loss recognized in other comprehensive loss, net of tax	2,538
Reclassification of loss to interest expense, net	(248		)
Balance at March 31, 2018	$	2,290

(in thousands)	Cash Flow Hedges
Balance as of June 30, 2018	$	24
Unrealized gain recognized in other comprehensive income (loss), net of tax	1,171
Reclassification to interest expense, net	567
Balance as of September 30, 2018	$	1,762

Balance as of December 31, 2017	$	—
Unrealized gain recognized in other comprehensive income (loss), net of tax	251
Reclassification to interest expense, net	1,511
Balance as of September 30, 2018	$	1,762

	Employee Service-Based Awards				Employee Performance-Based Awards				Director Awards
	Units		Weighted Average Grant Date Fair Value		Units		Weighted Average Grant Date Fair Value		Units		Weighted Average Grant Date Fair Value
Nonvested at December 31, 2017	1,183,039		$	14.30	632,636		$	18.87	98,406		$	12.66
Granted	560,657		15.68		267,522		17.93		—		—
Vested	(352,106	)	16.14		(135,200	)	25.95		(21,928	)	12.77
Forfeited	(47,808	)	12.58		(26,479	)	18.38		—		—
Nonvested at March 31, 2018	1,343,782		$	14.45	738,479		$	17.25	76,478		$	12.63

(in thousands)
Benefit obligation at December 31, 2017	$	20,793
Service cost	92
Interest cost	150
Payments	(1,877		)
Benefit obligation at March 31, 2018	$	19,158

Benefit obligation at December 31, 2016	$	21,304
Service cost	85
Interest cost	167
Payments	(1,811		)
Benefit obligation at March 31, 2017	$	19,745

(in thousands) For the Three Months Ended	Expensed		Paid		Balance to be Paid in Future Periods
(in thousands)											Balance to be Paid
For the Three Months Ended							Expensed		Paid		in Future Periods

March 31, 2017	$	11,537	$	14,766	$	19,672	$	11,537	$	14,766	$	19,672
June 30, 2017	7,567		13,765		13,474		7,567		13,765		13,474
September 30, 2017	6,839		6,430		13,883		6,839		6,430		13,883
December 31, 2017	6,358		9,956		10,285		6,358		9,956		10,285
March 31, 2018	3,700		7,755		6,230		3,700		7,755		6,230
June 30, 2018							2,940		5,938		3,232
September 30, 2018							2,230		2,297		3,165

	For the Three Months Ended September 30,					Percent Change
(in thousands)	2018		2017			2018 v 2017
Net revenues	$	262,946	$	257,966		1.9	%
Material costs	84,805		82,345			3.0	%
Personnel costs	90,853		90,065			0.9	%
Other operating costs	30,999		33,184			(6.6	)%
General and administrative expenses	28,308		25,356			11.6	%
Professional accounting and legal fees	3,107		7,844			(60.4	)%
Depreciation and amortization	8,950		9,632			(7.1	)%
Operating expenses	247,022		248,426			(0.6	)%
Income from operations	15,924		9,540			66.9	%
Interest expense, net	8,939		15,097			(40.8	)%
Non-service defined benefit plan expense	176		184			(4.3	)%
Income (loss) before income taxes	6,809		(5,741		)	(218.6	)%
Provision (benefit) for income taxes	2,440		(1,580		)	(254.4	)%
Net income (loss)	$	4,369	$	(4,161	)	(205.0	)%

	For the Three Months Ended September 30,						Percent
(in thousands)	2018		2017		Change		Change
Patient Care	$	214,080	$	210,637	$	3,443	1.6	%
Products & Services	48,866		47,329		1,537		3.2	%
Net revenue	$	262,946	$	257,966	$	4,980	1.9	%

	For the Three Months Ended September 30,							Percent
(in thousands)	2018		2017		Change			Change
Patient Care	$	77,806	$	78,161	$	(355	)	(0.5	)%
Products & Services	13,047		11,904		1,143			9.6	%
Personnel costs	$	90,853	$	90,065	$	788		0.9	%

	For the Three Months Ended March 31,						Percent Change		For the Nine Months Ended September 30,						Percent Change
(dollars in thousands)	2018			2017			2018 v 2017
Net revenue	$	233,995		$	233,681		0.1	%
(in thousands)									2018			2017			2018 v 2017
Net revenues									$	763,907		$	755,033		1.2	%
Material costs	76,356			74,405			2.6	%	247,677			240,407			3.0	%
Personnel costs	86,108			87,955			(2.1	)%	266,515			265,851			0.2	%
Other operating costs	31,096			32,689			(4.9	)%	92,631			97,734			(5.2	)%
General and administrative expenses	25,636			25,386			1.0	%	80,467			75,969			5.9	%
Professional accounting and legal fees	4,846			12,650			(61.7	)%	12,189			29,015			(58.0	)%
Depreciation and amortization	9,330			10,137			(8.0	)%	27,552			29,594			(6.9	)%
Operating expenses	233,372			243,222			(4.0	)%	727,031			738,570			(1.6	)%
Income (loss) from operations	623			(9,541		)	**
Income from operations									36,876			16,463			124.0	%
Interest expense, net	12,263			14,009			(12.5	)%	28,519			43,197			(34.0	)%
Loss on extinguishment of debt	16,998			—			100.0	%	16,998			—			100.0	%
Non-service defined benefit plan expense	176			184			(4.3	)%	528			552			(4.3	)%
Loss before income taxes	(28,814		)	(23,734		)	21.4	%	(9,169		)	(27,286		)	66.4	%
Benefit for income taxes	(6,196		)	(6,000		)	3.3	%	(3,848		)	(7,028		)	45.2	%
Net loss	$	(22,618	)	$	(17,734	)	27.5	%	$	(5,321	)	$	(20,258	)	73.7	%

	For the Nine Months Ended September 30,
	2018		2017
Material costs	32.4	%	31.8	%
Personnel costs	34.9	%	35.2	%
Other operating costs	12.2	%	13.0	%
General and administrative expenses	10.5	%	10.1	%
Professional accounting and legal fees	1.6	%	3.8	%
Depreciation and amortization	3.6	%	3.9	%
Operating expenses	95.2	%	97.8	%

	~~HANGER, INC.~~

~~Dated: June 14, 2018~~	~~By:~~	~~/s/ THOMAS E. KIRALY~~
	~~Thomas E. Kiraly~~
	~~Executive Vice President and Chief Financial Officer~~

~~Dated: June 14, 2018~~	~~By:~~	~~/s/ GABRIELLE B. ADAMS~~
	~~Gabrielle B. Adams~~
	~~Vice President and Chief Accounting Officer~~

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

	HANGER, INC.

Dated: November 8, 2018	By:	/s/ THOMAS E. KIRALY
	Thomas E. Kiraly
	Executive Vice President and Chief Financial Officer

Dated: November 8, 2018	By:	/s/ GABRIELLE B. ADAMS
	Gabrielle B. Adams
	Vice President and Chief Accounting Officer