Quarterly Report (10-q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q


x			QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2022
OR
o			TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to

Commission File Number 1-10670

HANGER, INC.

(Exact name of registrant as specified in its charter)


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)

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

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


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

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

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

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

Large accelerated filer x

Accelerated filer o

Non-accelerated filer o

Smaller reporting company o

Emerging growth company o

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

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

As of August 3, 2022, the registrant had 39,123,266 shares of its Common Stock outstanding.

TABLE OF CONTENTS


Hanger, Inc.
Part I Financial Information
	Item 1. Condensed Consolidated Financial Statements (unaudited)	1
	Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations	23
	Item 3. Quantitative and Qualitative Disclosures About Market Risk	44
	Item 4. Controls and Procedures	44
Part II Other Information
	Item 1. Legal Proceedings	45
	Item 1A. Risk Factors	45
	Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	47
	Item 3. Defaults Upon Senior Securities	47
	Item 4. Mine Safety Disclosures	47
	Item 5. Other Information	47
	Item 6. Exhibits	47
Exhibits Index		48
Signatures		49

PART 1. FINANCIAL INFORMATION

HANGER, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

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

(Unaudited)


	As of June 30,		As of December 31,
	2022		2021
ASSETS
Current assets:
Cash and cash equivalents	$	24,380	$	61,692
Accounts receivable, net	150,898		152,058
Inventories	88,018		87,462
Income taxes receivable	—		581
Other current assets	19,614		16,536
Total current assets	282,910		318,329
Non-current assets:
Property, plant, and equipment, net	81,015		82,434
Goodwill	377,164		363,554
Other intangible assets, net	25,147		25,892
Deferred income taxes	43,069		45,494
Operating lease right-of-use assets	139,009		144,491
Other assets	18,552		17,945
Total assets	$	966,866	$	998,139
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt	$	15,636	$	14,938
Accounts payable	67,651		63,565
Accrued expenses and other current liabilities	56,151		60,399
Accrued compensation related costs	56,795		54,465
Current portion of operating lease liabilities	34,326		33,438
Total current liabilities	230,559		226,805
Long-term liabilities:
Long-term debt, less current portion	465,022		502,307
Operating lease liabilities	117,230		124,016
Other liabilities	28,847		34,840
Total liabilities	841,658		887,968
Commitments and contingencies (Note P)
Shareholders’ equity:
Common stock, $0.01 par value; 60,000,000 shares authorized; 39,276,679 shares issued and 39,133,858 shares outstanding at 2022, and 38,891,438 shares issued and 38,748,617 shares outstanding at 2021	393		389
Additional paid-in capital	376,717		373,644
Accumulated other comprehensive loss	(1,330)		(11,150)
Accumulated deficit	(249,876)		(252,016)
Treasury stock, at cost; 142,821 shares at both 2022 and 2021	(696)		(696)
Total shareholders’ equity	125,208		110,171
Total liabilities and shareholders’ equity	$	966,866	$	998,139

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

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

(Unaudited)


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2022		2021		2022		2021
Net revenues	$	312,033	$	280,819	$	573,320	$	518,289
Material costs	98,433		89,271		184,025		164,441
Personnel costs	110,275		97,549		211,950		187,429
Other operating costs	38,970		32,788		75,138		64,286
General and administrative expenses	35,444		33,110		67,886		64,013
Depreciation and amortization	8,124		8,007		16,079		16,005
Income from operations	20,787		20,094		18,242		22,115
Interest expense, net	7,524		7,152		14,909		14,492
Non-service defined benefit plan expense	160		167		320		334
Income before income taxes	13,103		12,775		3,013		7,289
Provision for income taxes	2,986		2,616		873		460
Net income	$	10,117	$	10,159	$	2,140	$	6,829

Basic and diluted per common share data:
Basic income per share	$	0.26	$	0.26	$	0.05	$	0.18
Weighted average shares used to compute basic income per share	39,089,865		38,647,042		38,946,937		38,458,733
Diluted income per share	$	0.26	$	0.26	$	0.05	$	0.17
Weighted average shares used to compute diluted income per share	39,250,735		39,208,155		39,293,775		39,216,725

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(dollars in thousands)

(Unaudited)


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2022		2021		2022		2021
Net income	$	10,117	$	10,159	$	2,140	$	6,829

Other comprehensive income:
Unrealized gain on cash flow hedges, net of tax provision of $942, $388, $3,001, and $1,184, respectively	$	2,866	$	1,225	$	9,762	$	3,737
Unrealized gain on defined benefit plan, net of tax provision of $15, $19, $63, and $38, respectively	46		60		58		120
Total other comprehensive income	2,912		1,285		9,820		3,857
Comprehensive income	$	13,029	$	11,444	$	11,960	$	10,686

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(dollars and share amounts in thousands)

(Unaudited)


	Common Shares	Common Shares, Par Value		Additional Paid-in Capital		Accumulated Other Comprehensive Loss		Accumulated Deficit		Treasury Stock		Total
Balance, December 31, 2021	38,749	$	389	$	373,644	$	(11,150)	$	(252,016)	$	(696)	$	110,171
Net loss	—	—		—		—		(7,977)		—		(7,977)
Share-based compensation expense	—	—		2,903		—		—		—		2,903
Issuance of common stock upon vesting of restricted stock units	324	3		(3)		—		—		—		—
Effect of shares withheld to cover taxes	—	—		(3,452)		—		—		—		(3,452)
Total other comprehensive income	—	—		—		6,908		—		—		6,908
Balance, March 31, 2022	39,073	$	392	$	373,092	$	(4,242)	$	(259,993)	$	(696)	$	108,553
Net income	—	—		—		—		10,117		—		10,117
Share-based compensation expense	—	—		3,601		—		—		—		3,601
Issuance in connection with the exercise of stock options	9	—		51		—		—		—		51
Issuance of common stock upon vesting of restricted stock units	52	1		(1)		—		—		—		—
Effect of shares withheld to cover taxes	—	—		(26)		—		—		—		(26)
Total other comprehensive income	—	—		—		2,912		—		—		2,912
Balance, June 30, 2022	39,134	$	393	$	376,717	$	(1,330)	$	(249,876)	$	(696)	$	125,208


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

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

HANGER, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(dollars in thousands)

(Unaudited)


	For the Six Months Ended June 30,
	2022		2021
Cash flows provided by (used in) operating activities:
Net income	$	2,140	$	6,829
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization	16,079		16,005
Benefit from doubtful accounts	(68)		(292)
Share-based compensation expense	6,504		6,418
Deferred income taxes	(734)		232
Amortization of debt discounts and issuance costs	1,044		948
Gain on sale and disposal of fixed assets	(863)		(718)
Changes in operating assets and liabilities, net of acquisitions:
Accounts receivable, net	1,262		5,363
Inventories	309		(5,899)
Other current assets and other assets	(2,197)		(6,202)
Income taxes	584		57
Accounts payable	4,597		(6,577)
Accrued expenses and other current liabilities	1,606		(2,765)
Accrued compensation related costs	2,284		(21,412)
Other liabilities	(1,186)		(522)
Operating lease liabilities, net of amortization of right-of-use assets	(416)		(780)
Changes in operating assets and liabilities:	6,843		(38,737)
Net cash provided by (used in) operating activities	30,945		(9,315)
Cash flows used in investing activities:
Purchase of property, plant, and equipment	(10,596)		(13,339)
Acquisitions, net of cash acquired	(12,490)		(35,349)
Purchase of therapeutic program equipment leased to third parties under operating leases	(1,358)		(870)
Proceeds from sale of property, plant, and equipment	1,392		1,332
Net cash used in investing activities	(23,052)		(48,226)
Cash flows used in financing activities:
Payment of employee taxes on share-based compensation	(3,478)		(4,560)
Payment on Seller Notes	(5,000)		(2,265)
Repayment of term loan	(36,263)		(2,525)
Payments of financing lease obligations	(515)		(529)
Payments under vendor financing arrangements	—		(1,375)
Proceeds from the exercise of options	51		371
Net cash used in financing activities	(45,205)		(10,883)
Decrease in cash and cash equivalents	(37,312)		(68,424)
Cash and cash equivalents at beginning of period	61,692		144,602
Cash and cash equivalents at end of period	$	24,380	$	76,178

Non-cash financing and investing activities:


Purchase of property, plant, and equipment in accounts payable at period end	$	2,732	$	3,349
Seller Notes and other non-cash consideration related to acquisitions	4,002		10,057
Right-of-use assets obtained in exchange for finance lease obligations	223		95

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, Patient Care and Products & Services.

Basis of Presentation

The accompanying interim unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X, and, therefore, do not include all of the information and footnotes required by GAAP for complete financial statements. These financial statements should be read in conjunction with the audited consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2021 (the “2021 Form 10-K”), as previously filed with the Securities and Exchange Commission (the “SEC”).

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

A detailed description of our significant accounting policies and management judgments is contained in our 2021 Form 10-K.

Reclassifications

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

Recent Developments Regarding COVID-19

We are subject to risks and uncertainties as a result of the outbreak of the novel coronavirus (“COVID-19”) pandemic (“COVID-19 pandemic”). The extent and duration of the impact of the COVID-19 pandemic on our operations and financial condition remain uncertain and difficult to predict. As a result of the COVID-19 pandemic, we believe that our patients are continuing to defer visits to our O&P clinics, as well as elective surgical procedures, both of which impact our business volumes through decreased patient encounters and physician referrals. While the emerging variants of the COVID-19 virus continue to contribute to employee absences and our use of temporary labor, we believe the overall adverse impact of the COVID-19 pandemic on our business volumes has diminished and stabilized over time. The United States government has responded with fiscal policy measures intended to support the healthcare industry and economy as a whole, including the passage of the Coronavirus Aid, Relief and Economic Security Act (the “CARES Act”) in March 2020.

CARES Act

The CARES Act established the Public Health and Social Services Emergency Fund, also referred to as the Cares Act Provider Relief Fund, which set aside $203.5 billion to be administered through grants and other mechanisms to hospitals, public entities, not-for-profit entities and Medicare- and Medicaid- enrolled suppliers and institutional providers. The purpose of these funds is to reimburse providers for lost revenue and health-care related expenses that are attributable to the COVID-19 pandemic. In April 2020, the U.S. Department of Health and Human Services (“HHS”) began making payments to healthcare providers from the $203.5 billion appropriation. These are grants, rather than loans, to healthcare providers, and will not need to be repaid.

During the full year of 2021, we recognized a total benefit of $1.1 million in our consolidated statement of operations within Other operating costs in our Patient Care segment for the grant proceeds we received under the CARES Act (“Grants”) from HHS. We accounted for the proceeds from the Grants by analogy to International Accounting Standard (“IAS 20”), Accounting for Government Grants and Disclosure of Government Assistance and its principles surrounding the recognition of grants related to income. We recognize income related to grants on a systematic and rational basis when it becomes probable that we have complied with the terms and conditions of the grant and in the period in which the corresponding costs or income related to the grant are recognized. We are using the Grants for their intended purpose, and are compliant to the reporting requirements set by the terms and conditions of the grant.

The CARES Act also provided for a deferral of the employer portion of payroll taxes incurred during the COVID-19 pandemic through December 2020. The provisions allowed us to defer half of such payroll taxes until December 2021 and the remaining half until December 2022. We paid the first half in September 2021, and deferred $5.9 million of payroll taxes within Accrued compensation related costs in the condensed consolidated balance sheet as of June 30, 2022.

Recent Accounting Pronouncements, Not Yet Adopted

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

Note B — Earnings Per Share

Basic earnings per share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings per 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 computation were 213,957 and 100,387 for the three and six months ended June 30, 2022 and 2,721 and 1,302 for the three and six months ended June 30, 2021.

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

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


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
(in thousands except share and per share amounts)	2022		2021		2022		2021
Net income	$	10,117	$	10,159	$	2,140	$	6,829

Weighted average shares outstanding - basic	39,089,865		38,647,042		38,946,937		38,458,733
Effect of potentially dilutive restricted stock units and options	160,870		561,113		346,838		757,992
Weighted average shares outstanding - diluted	39,250,735		39,208,155		39,293,775		39,216,725

Basic income per share	$	0.26	$	0.26	$	0.05	$	0.18

Diluted income per share	$	0.26	$	0.26	$	0.05	$	0.17

Note C — Revenue Recognition

Patient Care Segment

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

The following table disaggregates revenue from contracts with customers in our Patient Care segment for the three and six months ended June 30, 2022 and 2021:


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
(in thousands)	2022		2021		2022		2021
Patient Care Segment
Medicare	$	83,013	$	74,248	$	148,867	$	131,583
Medicaid	49,334		43,688		88,606		77,736
Commercial insurance / managed care (excluding Medicare and Medicaid managed care)	88,801		79,769		166,144		149,432
VA	25,393		21,633		46,442		41,397
Private Pay	19,129		17,449		35,429		32,321
Total	$	265,670	$	236,787	$	485,488	$	432,469

The impact to revenue related to prior period performance obligations was not material for the three and six months ended June 30, 2022 or 2021.

Products & Services Segment

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

The following table disaggregates revenue from contracts with customers in our Products & Services segment for the three and six months ended June 30, 2022 and 2021:


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
(in thousands)	2022		2021		2022		2021
Products & Services Segment
Distribution services, net of intersegment revenue eliminations	$	35,978	$	33,275	$	67,368	$	63,935
Therapeutic solutions	10,385		10,757		20,464		21,885
Total	$	46,363	$	44,032	$	87,832	$	85,820

Note D — Accounts Receivable, Net

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

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

Our expected loss methodology is developed using historical liquidation rates, current and future economic and market conditions, and a review of the current status of our patients and customers’ trade accounts receivable balances. We also group our receivables into similar risk pools to better measure the risks for each pool. After evaluating the risk for each pool, we have determined that additional credit loss risk is immaterial for the Patient Care segment. For the Products & Services segment, an allowance for doubtful accounts is recorded, which is deducted from gross accounts receivable to arrive at “Accounts receivable, net.” As of June 30, 2022, we have considered the current and future economic and market conditions resulting in a decrease to the allowance for doubtful accounts by approximately $0.1 million since December 31, 2021.

Accounts receivable, net as of June 30, 2022 and December 31, 2021 is comprised of the following:


	As of June 30, 2022						As of December 31, 2021
(in thousands)	Patient Care		Products & Services		Consolidated		Patient Care		Products & Services		Consolidated
Gross charges before estimates for implicit price concessions	$	167,017	$	23,527	$	190,544	$	173,115	$	21,459	$	194,574
Less estimates for implicit price concessions:
Payor disallowances	(30,863)		—		(30,863)		(33,007)		—		(33,007)
Patient non-payments	(6,835)		—		(6,835)		(7,500)		—		(7,500)
Accounts receivable, gross	129,319		23,527		152,846		132,608		21,459		154,067
Allowance for doubtful accounts	—		(1,948)		(1,948)		—		(2,009)		(2,009)
Accounts receivable, net	$	129,319	$	21,579	$	150,898	$	132,608	$	19,450	$	152,058

Note E — Inventories

Our inventories are comprised of the following:


	As of June 30,		As of December 31,
(in thousands)	2022		2021
Raw materials	$	23,850	$	22,759
Work in process	20,772		15,807
Finished goods	43,396		48,896
Total inventories	$	88,018	$	87,462

Note F — Acquisitions

2022 Acquisition Activity

During 2022, we completed the following acquisitions of O&P clinics with the intention of expanding the geographic footprint of our patient care offerings through the acquisitions of these high quality O&P providers. None of the acquisitions were individually material to our financial position, results of operations, or cash flows.

•In the first quarter of 2022, we completed the acquisition of all the outstanding equity interests of an O&P business for total consideration of $5.0 million, of which $4.0 million was cash consideration, net of cash acquired, and $1.0 million was issued in the form of notes to shareholders at fair value.

•In the second quarter of 2022, we completed the acquisitions of all the outstanding equity interests of two O&P businesses for total consideration of $11.7 million, of which $8.5 million was cash consideration, net of cash acquired, and $3.2 million was issued in the form of notes to shareholders at fair value.

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

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

Purchase Price Allocation

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

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


(in thousands)
Cash paid, net of cash acquired	$	12,490
Issuance of Seller Notes at fair value	4,195
Additional consideration	36
Aggregate purchase price	16,721

Accounts receivable	697
Inventories	865
Customer relationships (Weighted average useful life of 5.0 years)	2,270
Non-compete agreements (Weighted average useful life of 5.0 years)	243
Other assets and liabilities, net	(418)
Net assets acquired	3,657
Goodwill	$	13,064

Right-of-use assets and lease liabilities related to operating leases recognized in connection with the acquisitions completed for the six months ended June 30, 2022 were $0.7 million.

During the third quarter of 2022 to date, we completed the acquisitions of two O&P businesses for a total purchase price of $8.1 million. Total consideration transferred for these acquisitions is comprised of $6.3 million in cash consideration and $1.8 million in the form of notes to shareholders at fair value. Due to the proximity in time of these transactions to the filing of this Form 10-Q, it is not practicable to provide a preliminary purchase price allocation of the fair value of the assets purchased and liabilities assumed in the acquisitions. Acquisition-related expenses related to these transactions were not material.

2021 Acquisition Activity

During 2021, we completed the following acquisitions of O&P clinics with the intention of expanding the geographic footprint of our patient care offerings through the acquisition of these high quality O&P providers. None of the acquisitions were individually material to our financial position, results of operations, or cash flows.

•In the first quarter of 2021, we completed the acquisitions of all the outstanding equity interests of three O&P businesses and the assets of one O&P business for total consideration of $24.2 million, of which $19.2 million was cash consideration, net of cash acquired, $4.0 million was issued in the form of notes to shareholders at fair value, and $1.0 million in additional consideration.

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

•In the third quarter of 2021, we completed the acquisitions of all the outstanding equity interests of three O&P businesses and the assets of one O&P business for total consideration of $6.2 million, of which $3.9 million was cash consideration, net of cash acquired, $1.5 million was issued in the form of notes to shareholders at fair value, and $0.8 million in additional consideration.

•In the fourth quarter of 2021, we completed the acquisitions of all the outstanding equity interests of eight O&P businesses for total consideration of $53.1 million, of which $40.8 million was cash consideration, net of cash acquired, and $12.3 million was issued in the form of notes to shareholders at fair value.

Acquisition-related costs are included in general and administrative expenses in our condensed consolidated statements of operations. Total acquisition-related costs incurred during the year ended December 31, 2021 were $2.1 million, which includes those costs for transactions that were in progress or were not completed during the respective period. Acquisition-related costs incurred for the acquisitions completed during the year ended December 31, 2021 were $1.6 million.

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


(in thousands)
Cash paid, net of cash acquired	$	79,927
Issuance of Seller Notes at fair value	22,706
Additional consideration, net	1,925
Aggregate purchase price	104,558

Accounts receivable	6,569
Inventories	4,683
Customer relationships (Weighted average useful life of 5.0 years)	11,745
Non-compete agreements (Weighted average useful life of 5.0 years)	558
Other assets and liabilities, net	(5,121)
Net assets acquired	18,434
Goodwill	$	86,124

Right-of-use assets and lease liabilities related to operating leases recognized in connection with acquisitions completed for the year ended December 31, 2021 were $8.9 million.

Note G — Goodwill and Other Intangible Assets

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

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


	For the Three Months Ended June 30, 2022
(in thousands)	Goodwill, Gross		Accumulated Impairment		Goodwill, Net
As of December 31, 2021	$	792,222	$	(428,668)	$	363,554
Additions from acquisitions	13,064		—		13,064
Measurement period adjustments (1)	546		—		546
As of June 30, 2022	$	805,832	$	(428,668)	$	377,164

(1) Measurement period adjustments primarily relate to 2021 acquisitions of approximately $0.5 million and are primarily attributable to adjustments to the preliminary allocations of acquired assets.

The balances related to intangible assets as of June 30, 2022 are as follows:


	As of June 30, 2022
(in thousands)	Gross Carrying Amount		Accumulated Amortization		Accumulated Impairment		Net Carrying Amount
Customer lists	$	30,894	$	(12,799)	$	—	$	18,095
Trade name	255		(214)		—		41
Patents and other intangibles	9,818		(6,924)		—		2,894
Definite-lived intangible assets	40,967		(19,937)		—		21,030
Indefinite-lived trade name	9,070		—		(4,953)		4,117
Total other intangible assets	$	50,037	$	(19,937)	$	(4,953)	$	25,147

Amortization expense related to other intangible assets was approximately $1.7 million and $3.3 million for the three and six months ended June 30, 2022, respectively, and $1.2 million and $2.2 million for the three and six months ended June 30, 2021, respectively.

Note H — Other Current Assets and Other Assets

Other current assets consist of the following:


	As of June 30,		As of December 31,
(in thousands)	2022		2021
Non-trade receivables	$	6,582	$	7,725
Prepaid maintenance	5,658		4,553
Prepaid insurance	1,706		510
Other prepaid assets	5,668		3,748
Total other current assets	$	19,614	$	16,536

Other assets consist of the following:


	As of June 30,		As of December 31,
(in thousands)	2022		2021
Implementation costs for cloud computing arrangements	$	6,213	$	6,459
Cash surrender value of company-owned life insurance	3,945		4,471
Finance lease right-of-use assets	2,563		2,732
Deposits	2,240		2,178
Non-trade receivables	1,565		1,172
Other	2,026		933
Total other assets	$	18,552	$	17,945

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

Accrued expenses and other current liabilities consist of:


	As of June 30,		As of December 31,
(in thousands)	2022		2021
Patient prepayments, deposits, and refunds payable	$	29,236	$	26,475
Insurance and self-insurance accruals	9,857		8,943
Accrued sales taxes and other taxes	8,272		7,803
Accrued professional fees	1,400		750
Accrued interest payable	774		707
Derivative liability	—		6,425
Other current liabilities	6,612		9,296
Total	$	56,151	$	60,399

Other liabilities consist of:


	As of June 30,		As of December 31,
(in thousands)	2022		2021
Supplemental executive retirement plan obligations	$	18,980	$	20,779
Long-term insurance accruals	7,599		7,112
Derivative liability	—		4,664
Other	2,268		2,285
Total	$	28,847	$	34,840

Note J — Income Taxes

We recorded a provision for income taxes of $3.0 million and $0.9 million for the three and six months ended June 30, 2022, respectively. The effective tax rate was 22.8% and 29.0% for the three and six months ended June 30, 2022, respectively. We recorded a provision for income taxes of $2.6 million and $0.5 million for the three and six months ended June 30, 2021, respectively. The effective tax rate was 20.5% and 6.3% for the three and six months ended June 30, 2021, respectively.

The increase in the effective tax rate for the three months ended June 30, 2022 compared with the three months ended June 30, 2021 is primarily attributable to a windfall from share-based compensation for the three months ended June 30, 2021 compared to a shortfall from share-based compensation for the three months ended June 30, 2022. Our effective tax rate for the three months ended June 30, 2022 is similar to the federal statutory tax rate of 21%, but the difference consists primarily of research and development credits offset by non-deductible expenses and shortfall from share-based compensation. Our effective tax rate for the three months ended June 30, 2021 differed from the federal statutory tax rate of 21% primarily due to research and development credits, non-deductible expenses, and windfall from share-based compensation.

For the year ending December 31, 2022, we estimate a research and development tax credit of $2.7 million, net of tax reserves. We record the tax benefit, net of tax reserves, as a deferred tax asset. For the year ended December 31, 2021, we recognized research and development tax credits of $4.3 million, net of tax reserves.

Note K — Debt and Other Obligations

Debt consists of the following:


	As of June 30,		As of December 31,
(in thousands)	2022		2021
Debt:
Term Loan B	$	449,800	$	486,063
Seller Notes	28,885		29,812
Deferred payment obligation	4,000		4,000
Finance lease liabilities and other	3,112		3,344
Total debt before unamortized discount and debt issuance costs	485,797		523,219
Unamortized discount and debt issuance costs, net	(5,139)		(5,974)
Total debt	$	480,658	$	517,245

Current portion of long-term debt:
Term Loan B	$	5,050	$	5,050
Seller Notes	9,672		8,969
Finance lease liabilities and other	914		919
Total current portion of long-term debt	15,636		14,938
Long-term debt	$	465,022	$	502,307

Credit Agreement and Term B Borrowings

As of June 30, 2022, we have a Senior Credit Facility (the “Credit Agreement”) which provides for (i) a Term Loan B facility with $449.8 million outstanding which is due in quarterly principal installments with all remaining outstanding principal due at maturity in March 2025 and (ii) a revolving credit facility with an availability of $135.0 million which matures on November 23, 2026 (subject to a springing maturity if the term loans outstanding under the Credit Agreement are not repaid prior to the date that is 91 days prior to the stated maturity thereof). In June 2022, in addition to our normal quarterly principal payment of $1.3 million, we made an additional prepayment of $33.7 million, for total repayments of $35.0 million under the Credit Agreement. Availability under the revolving credit facility is reduced by outstanding letters of credit, which were $5.2 million as of June 30, 2022, resulting in approximately $129.8 million in available borrowing capacity.

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, subject to a LIBOR interest rate floor of 0.00% per annum, or (ii) the base rate (which is the highest of (a) Bank of America, N.A.’s prime rate, (b) the federal funds rate plus 0.50% or (c) the sum of 1% plus one-month LIBOR) plus a specified margin. For the three months ended June 30, 2022, the weighted average interest rate on outstanding borrowings under our Term Loan B facility was approximately 4.2%. We have entered into interest rate swap agreements to hedge certain of our interest rate exposures, as more fully disclosed in Note M - “Derivative Financial Instruments.”

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

The Credit Agreement and its amendments contain various restrictions and covenants, including: (i) requirements that we maintain certain financial ratios at prescribed levels, (ii) a prohibition on payment of dividends and other distributions and (iii) restrictions on our ability and certain of our subsidiaries to consolidate or merge, create liens, incur additional indebtedness, dispose of assets, or consummate acquisitions outside the healthcare industry. The Credit Agreement includes the following financial covenants applicable for so long as any revolving loans and/or revolving commitments remain outstanding under the Credit Agreement: (i) a maximum consolidated first lien net leverage ratio (“Net Leverage Ratio”) (defined as, with certain adjustments and exclusions, the ratio of consolidated first-lien indebtedness to consolidated net income before interest, taxes, depreciation, amortization, non-cash charges and certain other items (“EBITDA”) for the most recently ended period of four fiscal quarters for which financial statements are available) shall be up to (a) 5.00 to 1.00 for the fiscal quarters ending June 30, 2022, and September 30, 2022 and (b) 4.75 to 1.00 for the fiscal quarter ending December 31, 2022 and the last day of each fiscal quarter thereafter, (ii) permit, at our election and up to three times during the term of the Credit Agreement, the maximum allowable leverage ratio for covenant purposes to be temporarily increased by an additional 0.50 to 1.00 for four consecutive fiscal quarters in connection with certain material acquisitions, and (iii) a minimum interest coverage ratio (defined as, with certain adjustments, the ratio of our EBITDA to consolidated interest expense to the extent paid or payable in cash) of 2.75 to 1.00 as of the last day of any fiscal quarter.

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

We were in compliance with all covenants at June 30, 2022.

Seller Notes and the Deferred Payment Obligation

We typically issue subordinated promissory notes (“Seller Notes”) as a part of the consideration transferred when making acquisitions. The Seller Notes are unsecured and are presented net of unamortized discount of $0.8 million and $0.9 million as of June 30, 2022 and December 31, 2021, respectively. We measure these instruments at their estimated fair values as of the respective acquisition dates. The stated interest rates on these instruments range from 2.50% to 3.00%. Principal and interest are payable in quarterly or annual installments and mature through May 2027.

Amounts due under the deferred payment obligation to the former shareholders of an acquired O&P business are unsecured and presented net of unamortized discount of $0.4 million as of June 30, 2022 and December 31, 2021. The deferred payment obligation was measured at its estimated fair value as of the acquisition date and accrues interest at a rate of 3.0%. Principal and interest payments under the deferred payment obligation are due in annual installments beginning in 2024 and for three years thereafter.

Note L — Fair Value Measurements

Financial Instruments

The carrying value of our outstanding term loan as of June 30, 2022 (excluding unamortized discounts and debt issuance costs of $4.3 million) was $449.8 million compared to its fair value of $432.9 million. The carrying value of our outstanding term loan as of December 31, 2021 (excluding unamortized discounts and debt issuance costs of $5.1 million) was $486.1 million compared to its fair value of $484.8 million. Our estimates of fair value are based on a discounted cash flow model and an indicative quote using unobservable inputs, primarily, our risk-adjusted credit spread, which represents a Level 3 measurement.

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

We believe that the carrying value of the Seller Notes and the deferred payment obligation approximates their fair values based on a discounted cash flow model using unobservable inputs, primarily, our credit spread for subordinated debt, which represents a Level 3 measurement. The carrying value of our outstanding Seller Notes and the deferred payment obligation issued in connection with past acquisitions as of June 30, 2022 and December 31, 2021 was $32.1 million and $32.9 million, net of unamortized discounts of $0.8 million and $0.9 million, respectively.

Note M — Derivative Financial Instruments

Cash Flow Hedges of Interest Rate Risk

In March 2018, we entered into interest rate swap agreements with notional values of $325.0 million at inception, which reduces $12.5 million annually until the swaps mature on March 6, 2024. As of June 30, 2022 and December 31, 2021, our swaps had a notional value outstanding of $275.0 million and $287.5 million, respectively.

Change in Net Loss on Cash Flow Hedges Included in Accumulated Other Comprehensive Loss

The following table presents the activity of cash flow hedges included in accumulated other comprehensive loss for the three months ended June 30, 2022 and 2021, respectively:


(in thousands)	Cash Flow Hedges
Balance as of March 31, 2022	$	(1,608)
Unrealized gain recognized in other comprehensive income before reclassifications, net of tax	1,481
Reclassification to interest expense, net of tax	1,385
Balance as of June 30, 2022	$	1,258

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

The following table presents the activity of cash flow hedges included in accumulated other comprehensive loss for the six months ended June 30, 2022 and 2021, respectively:


(in thousands)	Cash Flow Hedges
Balance as of December 31, 2021	$	(8,504)
Unrealized gain recognized in other comprehensive income, net of tax	6,501
Reclassification to interest expense, net	3,261
Balance as of June 30, 2022	$	1,258

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

The following table presents the fair value of derivative assets and liabilities within the condensed consolidated balance sheets as of June 30, 2022 and December 31, 2021:


	As of June 30, 2022				As of December 31, 2021
(in thousands)	Assets		Liabilities		Assets		Liabilities
Derivatives designated as cash flow hedging instruments:
Other current assets	$	922	$	—	$	—	$	—
Other assets	751		—		—		—
Accrued expenses and other current liabilities	—		—		—		6,425
Other liabilities	—		—		—		4,664

Note N — Share-Based Compensation

On May 19, 2022, the shareholders approved the Hanger, Inc. 2022 Omnibus Incentive Plan (the “2022 Plan”). The 2022 Plan authorizes the issuance of (a) up to 1,960,000 shares of Common Stock, plus (b) 402,974 shares available for issuance under the Hanger, Inc. 2019 Omnibus Incentive Plan (the “2019 Plan”). Upon approval of the 2022 Plan, the 2019 Plan was no longer available for future awards.

As of June 30, 2022, there were 1,519,125 unvested restricted stock awards outstanding. This was comprised of 1,127,637 employee service-based awards with a weighted average grant date fair value of $20.64 per share and 391,488 employee performance-based awards with a weighted average grant date fair value of $20.58 per share. As of June 30, 2022, there were 253,908 outstanding options exercisable with a weighted average exercise price of $12.77 and average remaining contractual term of 4.9 years.

We recognized approximately $3.6 million and $6.5 million of share-based compensation expense for the three and six months ended June 30, 2022, respectively, and a total of approximately $3.2 million and $6.4 million of share-based compensation expense for the three and six months ended June 30, 2021, respectively. Share-based compensation expense, net of forfeitures, relates to restricted stock units, performance-based restricted stock units, and stock options.

Note O — Supplemental Executive Retirement Plans

Defined Benefit Supplemental Executive Retirement Plan

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

We believe the assumptions used are appropriate; however, changes in assumptions or differences in actual experience may affect our benefit obligation and future expenses. The change in net benefit cost and obligation during the three and six months ended June 30, 2022 and 2021 is as follows:


Change in Benefit Obligation:
(in thousands)	2022		2021
Benefit obligation as of March 31	$	16,273	$	18,079
Service cost	116		123
Interest cost	100		88
Payments	(12)		(12)
Benefit obligation as of June 30	$	16,477	$	18,278

Benefit obligation as of December 31, 2021 and 2020, respectively	$	17,935	$	19,746
Service cost	232		246
Interest cost	199		175
Payments	(1,889)		(1,889)
Benefit obligation as of June 30	$	16,477	$	18,278


Amounts Recognized in the Condensed Consolidated Balance Sheets:
	As of June 30,		As of December 31,
(in thousands)	2022		2021
Current accrued expenses and other current liabilities	$	1,913	$	1,913
Non-current other liabilities	14,564		16,022
Total accrued liabilities	$	16,477	$	17,935

Defined Contribution Supplemental Executive Retirement Plan

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

As of June 30, 2022 and December 31, 2021, the estimated accumulated benefit obligation is $4.5 million and $4.8 million, of which $4.2 million and $4.1 million is funded and $0.3 million and $0.6 million is unfunded at June 30, 2022 and December 31, 2021, respectively.

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

Note P — Commitments and Contingencies

Guarantees and Indemnification

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

Other Matters

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

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

Note Q — Segment and Related Information

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

Patient Care - This segment is primarily comprised of Hanger Clinic, which specializes in comprehensive, outcomes-based design, fabrication, and delivery of custom O&P devices. We also provide payor network contracting services to other O&P providers through this segment. 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 persons with disabilities;

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

•the VA.

Products & Services - This segment is comprised of our distribution services and therapeutic solutions businesses. As a leading provider of O&P products in the United States, we engage in the distribution of a broad catalog of branded and private label O&P devices, products, and components to independent O&P providers nationwide. The other business in our Products & Services segment is our therapeutic solutions business, which develops specialized rehabilitation technologies and provides evidence-based clinical programs for post-acute rehabilitation to patients.

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

The accounting policies of the segments are the same as those described in Note A - “Organization and Summary of Significant Accounting Policies” in our 2021 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 reportable segments is shown in the following tables. Total assets for each of the segments has not materially changed from December 31, 2021.


	Patient Care				Products & Services
	For the Three Months Ended June 30,				For the Three Months Ended June 30,
(in thousands)	2022		2021		2022		2021
Net revenues
Third party	$	265,670	$	236,787	$	46,363	$	44,032
Intersegments	—		—		63,433		54,900
Total net revenues	265,670		236,787		109,796		98,932
Material costs
Third party suppliers	71,623		62,631		26,810		26,640
Intersegments	10,462		9,086		52,971		45,814
Total material costs	82,085		71,717		79,781		72,454
Personnel expenses	93,838		83,198		16,437		14,351
Other expenses	44,426		37,445		6,871		6,763
Depreciation & amortization	4,783		4,787		2,179		1,963
Segment income from operations	$	40,538	$	39,640	$	4,528	$	3,401


	Patient Care				Products & Services
	For the Six Months Ended June 30,				For the Six Months Ended June 30,
(in thousands)	2022		2021		2022		2021
Net revenues
Third party	$	485,488	$	432,469	$	87,832	$	85,820
Intersegments	—		—		118,108		101,905
Total net revenues	485,488		432,469		205,940		187,725
Material costs
Third party suppliers	131,541		114,290		52,484		50,151
Intersegments	21,520		17,349		96,588		84,556
Total material costs	153,061		131,639		149,072		134,707
Personnel expenses	180,247		158,952		31,703		28,477
Other expenses	85,122		73,586		13,928		12,566
Depreciation & amortization	9,527		9,602		4,202		3,898
Segment income from operations	$	57,531	$	58,690	$	7,035	$	8,077

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


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
(in thousands)	2022		2021		2022		2021
Income from operations
Patient Care	$	40,538	$	39,640	$	57,531	$	58,690
Products & Services	4,528		3,401		7,035		8,077
Corporate & other	(24,279)		(22,947)		(46,324)		(44,652)
Income from operations	20,787		20,094		18,242		22,115
Interest expense, net	7,524		7,152		14,909		14,492
Non-service defined benefit plan expense	160		167		320		334
Income before income taxes	13,103		12,775		3,013		7,289
Provision for income taxes	2,986		2,616		873		460
Net income	$	10,117	$	10,159	$	2,140	$	6,829

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


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
(in thousands)	2022		2021		2022		2021
Net revenues
Patient Care	$	265,670	$	236,787	$	485,488	$	432,469
Products & Services	109,796		98,932		205,940		187,725
Corporate & other	—		—		—		—
Consolidating adjustments	(63,433)		(54,900)		(118,108)		(101,905)
Consolidated net revenues	$	312,033	$	280,819	$	573,320	$	518,289

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


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
(in thousands)	2022		2021		2022		2021
Material costs
Patient Care	$	82,085	$	71,717	$	153,061	$	131,639
Products & Services	79,781		72,454		149,072		134,707
Corporate & other	—		—		—		—
Consolidating adjustments	(63,433)		(54,900)		(118,108)		(101,905)
Consolidated material costs	$	98,433	$	89,271	$	184,025	$	164,441

Note R — Subsequent Events

On July 21, 2022, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Hero Parent, Inc., a Delaware corporation (“Parent”), and Hero Merger Sub, Inc., a Delaware corporation and a wholly owned subsidiary of Parent (“Merger Sub”). Parent and Merger Sub are indirect subsidiaries of funds managed and advised by Patient Square Capital, a dedicated health care investment firm. The Merger Agreement provides, among other things and subject to the terms and conditions set forth therein, that Merger Sub will be merged with and into the Company, with the Company surviving as a wholly-owned subsidiary of Parent (the “Merger”). At the Effective Time (as defined in the Merger Agreement), by virtue of the Merger, each share of common stock of the Company issued and outstanding immediately prior to the Effective will be converted automatically into the right to receive $18.75 per share in cash. After the Merger, Hanger’s common stock will no longer be traded on the New York Stock Exchange.

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

Overview of Transaction with Patient Square Capital

On July 21, 2022, Hanger, Inc. entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Hero Parent, Inc., a Delaware corporation (“Parent”), and Hero Merger Sub, Inc., a Delaware corporation and a wholly owned subsidiary of Parent (“Merger Sub”). Parent and Merger Sub are indirect subsidiaries of funds managed and advised by Patient Square Capital, a dedicated health care investment firm. The Merger Agreement provides, among other things and subject to the terms and conditions set forth therein, that Merger Sub will be merged with and into the Company, with the Company surviving as a wholly-owned subsidiary of Parent (the “Merger”). At the Effective Time (as defined in the Merger Agreement), by virtue of the Merger, each share of common stock of the Company issued and outstanding immediately prior to the Effective Time will be converted automatically into the right to receive $18.75 per share in cash. After the Merger, Hanger’s common stock will no longer be traded on the New York Stock Exchange and will be deregistered under the Securities Exchange Act of 1934, as amended.

The descriptions of the Merger Agreement and the transactions contemplated thereby contained in this Quarterly Report on Form 10-Q are summaries only and are qualified in their entirety by reference to the full text of the Merger Agreement, which was included as Exhibit 2.1 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on July 22, 2022.

The closing of the Merger is subject to various closing conditions, including (i) adoption and approval of the Merger Agreement, including the Merger, by holders of a majority of the Company’s shares of common stock then outstanding, (ii) the expiration or early termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, or any other similar approvals, (iii) the consummation of the Merger shall not be restrained, enjoined or prohibited by any law or order that is continuing and remains in effect, and (iv) subject to Company Material Adverse Effect (as defined in the Merger Agreement) and other customary materiality qualifications, the accuracy of the representations and warranties contained in the Merger Agreement and compliance with the covenants and agreements contained in the Merger Agreement. The closing of the Merger is not subject to a financing condition.

Forward-Looking Statements

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

These statements involve risks, estimates, assumptions, and uncertainties that could cause actual results to differ materially from those expressed in these statements and elsewhere in this report. These uncertainties include, but are not limited to, the inability to consummate the Merger within the anticipated time period, or at all, due to any reason, including the failure to obtain required regulatory approvals, satisfy the other conditions to the consummation of the Merger or complete necessary financing arrangements; the risk that the Merger disrupts our current plans and operations or diverts management’s attention from its ongoing business; the effects of the Merger on our business, operating results, and ability to retain and hire key personnel and maintain relationships with customers, suppliers and others with whom we do business; the risk that our stock price may decline significantly if the Merger is not consummated; the nature, cost, and outcome of any legal proceedings related to the Merger, contractual, inflationary, and other general cost increases, including with regard to costs of labor, raw materials, and freight; labor shortages and increased turnover in our employee base; the financial and business impacts of the COVID-19 pandemic on our operations and the operations of our customers, suppliers, governmental and private payors, and others in the healthcare industry and beyond; federal laws governing the health care industry; governmental policies affecting O&P operations, including with respect to reimbursement; failure to successfully implement a new enterprise resource planning system or other disruptions to information technology systems; the inability to successfully execute our acquisition strategy, including integration of recently acquired O&P clinics into our existing business; changes in the demand for our O&P products and services, including additional competition in the O&P services market; disruptions to our supply chain; our ability to enter into and derive benefits from managed-care contracts; our ability to successfully attract and retain qualified O&P clinicians; 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, 2021 (the “2021 Form 10-K”), as well as those described in Part II, Item 1A. “Risk Factors” of this Quarterly Report on Form 10-Q, some of which are beyond our control. Although we believe that the assumptions underlying the forward-looking statements contained therein are reasonable, any of the assumptions could be inaccurate. Therefore, there can be no assurance that the forward-looking statements included in this Quarterly Report on Form 10-Q will prove to be accurate. Actual results could differ materially and adversely from those contemplated by any forward-looking statement. In light of the significant risks and uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives and plans will be achieved. We undertake no obligation to publicly release any revisions to any forward-looking statements in this discussion to reflect events and circumstances occurring after the date hereof or to reflect unanticipated events. Forward-looking statements and our liquidity, financial condition, and results of operations may be affected by the risks set forth in Item 1A. “Risk Factors”, contained in our 2021 Form 10-K, in Part II, Item 1A. “Risk Factors” of this Quarterly Report on Form 10-Q, or by other unknown risks and uncertainties.

Non-GAAP Measures

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

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

Business Overview

General

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

Our Patient Care segment is primarily comprised of Hanger Clinic, which specializes in comprehensive, outcomes-based design, fabrication, and delivery of custom O&P devices through 761 patient care clinics and 117 satellite locations in 48 states, the District of Columbia, and the U.S. Virgin Islands as of June 30, 2022. We also provide payor network contracting services to other O&P providers through this segment.

Our Products & Services segment is comprised of our distribution services and therapeutic solutions businesses. As a leading provider of O&P products in the United States, we engage in the distribution of a broad catalog of branded and private label O&P devices, products, and components to independent O&P providers nationwide. The other business in our Products & Services segment is our therapeutic solutions business, which develops specialized rehabilitation technologies and provides evidence-based clinical programs for post-acute rehabilitation to patients at approximately 3,800 skilled nursing and post-acute providers nationwide.

For the three and six months ended June 30, 2022, our net revenues were $312.0 million and $573.3 million, respectively, and we recorded net income of $10.1 million and $2.1 million, respectively. For the three and six months ended June 30, 2021, our net revenues were $280.8 million and $518.3 million, respectively, and we recorded net income of $10.2 million and $6.8 million, respectively.

Industry Overview

We estimate that approximately $4.3 billion is spent in the United States each year for prescription-based O&P products and services through O&P clinics. We believe our Patient Care segment currently accounts for approximately 24% of the market, providing a comprehensive portfolio of orthotic, prosthetic, and post-operative solutions to patients in acute, post-acute, and patient care clinic settings.

The O&P patient care services market in the United States is highly fragmented and is characterized by regional and local independent O&P businesses operated predominantly by independent operators, but also including two O&P product manufacturers with substantial international patient care services operations. We do not believe that any single competitor accounts for 2.5% or more of the nation’s total estimated O&P clinic revenues.

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

We estimate that approximately $1.8 billion is spent in the United States each year by providers of O&P patient care services for the O&P products, components, devices, and supplies used in their businesses. Our Products & Services segment distributes to independent providers of O&P services. We estimate that our distribution sales account for approximately 7% 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 24% 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 1,660 clinical prosthetists, orthotists, and pedorthists, which we refer to as clinicians, substantially all of which are certified by either the American Board for Certification (“ABC”) or the Board of Certification of Orthotists and Prosthetists, which are the two boards that certify O&P clinicians. To facilitate timely service to our patients, we also employ technicians, fitters, and other ancillary providers to assist our clinicians in the performance of their duties. Through this segment, we additionally provide network contracting services to independent providers of O&P.

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

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

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

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

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

The principal reimbursement sources for our services are:

•Commercial private payors and other non-governmental organizations, which consist of individuals, rehabilitation providers, commercial insurance companies, health maintenance 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 persons with disabilities;

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

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

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

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

Products & Services

Through our wholly-owned subsidiary, Southern Prosthetic Supply, Inc. (“SPS”), we distribute branded and private label devices, products, and components to independent O&P clinics and other customers. Through our wholly-owned subsidiary, Accelerated Care Plus Corp. (“ACP”), our therapeutic solutions business is a leading provider of rehabilitation technologies and integrated clinical programs to skilled nursing and post-acute rehabilitation providers. Our value proposition is to provide our customers with a full-service “total solutions” approach encompassing proven medical technology, evidence-based clinical programs, and ongoing consultative education and training. Our services support increasingly advanced treatment options for a broader patient population and more medically complex conditions. We currently serve approximately 3,800 skilled nursing and post-acute providers nationwide. Through our SureFit subsidiary, we also manufacture and sell therapeutic footwear for diabetic patients in the podiatric market. We also operate the Hanger Fabrication Network, which fabricates custom O&P devices for our patient care clinics, as well as for independent O&P clinics.

Through our internal “supply chain” organization, we purchase, warehouse, and distribute over 350,000 active SKUs from approximately 750 different suppliers through SPS or directly to our own clinics within our Patient Care segment. Our warehousing and distribution facilities provide us with the ability to deliver products to the vast majority of our customers in the United States within two business days. In Q2 2022, we closed the warehouse and distribution facilities in Illinois and Texas, consolidating their operations into our Georgia and Nevada facilities.

Our supply chain organization enables us to:

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

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

•improve inventory quality control;

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

•coordinate new product development efforts with key vendors.

Effects of the COVID-19 Pandemic

We began to see a reduction in business volumes as a result of the COVID-19 pandemic starting in the last weeks of March 2020. As federal, state, and local authorities implemented social distancing and suppression measures to respond to an increasing number of nationwide COVID-19 infections, we experienced a decrease in our patient appointments and general business volumes. In response, during the last week of March 2020, we made certain changes to our operations, implemented a broad number of cost reduction measures, and delayed certain capital investment projects. Although our business volumes have shown gradual improvement from their initial significant decline in mid-2020, our results of operations were adversely affected by COVID throughout 2020, 2021 and into the early months of 2022. The volume effects and our operating responses are discussed further in this section, and the effects of COVID-19 on our financial condition are discussed in the “Financial Condition, Liquidity and Capital Resources” section below. Our results of operations for any quarter during the COVID-19 pandemic may not be indicative of results of operations that may be achieved for a subsequent quarter or the full year, and may not be similar to results of operations experienced in prior years. Additionally, current period comparisons should be viewed in the context of the adverse effects which the COVID-19 pandemic had on comparative prior period results.

Effect on Business Volumes

In the early months of 2021, vaccines for combating COVID-19 were approved by the US Food and Drug Administration, and the US government began a phased roll out. However, the initial quantities of the vaccines were limited, and the US government prioritized distribution to front-line health care workers and other essential workers, followed by individual populations that were most susceptible to the severe effects of COVID-19. The lack of achievement of broad immunity coupled with an increase in infections caused by variants contributed to an increase in the duration and effect of COVID-19 on our business volumes and staffing shortages. Specifically, we experienced increased employee absences, particularly due to the Delta variant in the third quarter of 2021 and the Omicron variant in December of 2021 and January of 2022. We believe our business volumes during those periods were inhibited primarily by reduced medical procedures due to surgical constraints, reduced referral volumes from in-patient and out-patient providers due to decreases in their volumes and the effect of COVID related protocols on their businesses, patient hesitancy to seek care during the pandemic, and increased patient mortality. Additionally, we believe that our patient volumes have been affected by our own labor constraints in technical and administrative positions, employee absences related to COVID-19, as well as decreases in our sales of off-the-shelf orthotic devices. While the emerging variants of the COVID-19 virus continue to contribute to employee absences and our use of temporary labor, we believe the overall adverse impact of the COVID-19 pandemic on our business volumes has diminished and stabilized over time.

Patient appointments in our clinics during the second quarter of 2022 increased by approximately 2% as compared to the corresponding period in 2021. During the quarter, our prosthetics and orthotics day-adjusted sales, excluding acquisitions, increased by 6.2% on a per day basis, when compared to the same period in the prior year.

Operating, Cost Reduction, and Other Responses

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

We recommenced our implementation of supply chain and financial systems, further discussed in the “New Systems Implementations” section, in the second quarter of 2021, after we elected to temporarily delay these activities in 2020 as part of our efforts to preserve liquidity. We also recommenced activities related to the reconfiguration of our distribution facilities in the second quarter of 2021, after they were suspended in 2020, which are still currently ongoing.

Despite the effects of the COVID-19 pandemic on our business volumes, for the foreseeable future, we currently believe that our cash flows from operations and retained cash and cash equivalent balances are sufficient to enable us to fund our operations, capital expenditures and other financial obligations as they become due. Please refer to the “Financial Condition, Liquidity and Capital Resources” section below for a discussion of our liquidity position.

CARES Act

The CARES Act established the Public Health and Social Services Emergency Fund, also referred to as the Cares Act Provider Relief Fund, which set aside $203.5 billion to be administered through grants and other mechanisms to hospitals, public entities, not-for-profit entities and Medicare- and Medicaid-enrolled suppliers and institutional providers. The purpose of these funds is to reimburse providers for lost revenue attributable to the COVID-19 pandemic, such as lost revenues attributable to canceled procedures, as well as to provide support for health-care related expenses. In April 2020, the U.S. Department of Health and Human Services (“HHS”) began making payments to healthcare providers from the $203.5 billion appropriation. These are grants, rather than loans, to healthcare providers, and will not need to be repaid.

During the full year of 2021, we recognized a total benefit of $1.1 million in our consolidated statement of operations within Other operating costs for the Grants we received from HHS. We recognize income related to grants on a systematic and rational basis when it becomes probable that we have complied with the terms and conditions of the grant and in the period in which the corresponding costs or income related to the grant are recognized. We recognized the benefit from the Grants within Other operating costs in our Patient Care segment.

The CARES Act also provided for a deferral of the employer portion of payroll taxes incurred during the COVID-19 pandemic through December 2020. The provisions allowed us to defer half of such payroll taxes until December 2021 and the remaining half until December 2022. We paid the first half in September 2021, and deferred the remaining $5.9 million of payroll taxes within Accrued compensation related costs in the condensed consolidated balance sheet as of June 30, 2022.

Other Products & Services Performance Considerations

As discussed in our 2021 Form 10-K, under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, we generally believe our distribution customers encounter reimbursement pressures similar to those we experience in our own Patient Care segment and, depending on their ability to adapt to the increased claims documentation standards that have emerged in our industry, this may either limit the rate of growth of some of our customers, or otherwise affect the rate of growth we experience in our distribution of O&P componentry to independent providers. In certain circumstances, we may pursue acquisition of inventory in advance to preserve pricing to offset inflation and potential supply chain constraints. During future periods, in addition to the adverse effects of the COVID-19 pandemic discussed above, we currently believe our rate of revenue growth in this segment may decrease as we choose to limit the extent to which we distribute certain low margin orthotic products. Additionally, to the extent that we acquire independent O&P providers who are pre-existing customers of our distribution services, our revenue growth in this segment would be adversely affected as we would no longer recognize external revenue from the components we provide them.

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

Reimbursement Trends

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


	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2022		2021		2022		2021
Medicare	31.2	%	31.4	%	30.7	%	30.4	%
Medicaid	18.6	%	18.5	%	18.3	%	18.0	%
Commercial insurance / managed care (excluding Medicare and Medicaid managed care)	33.4	%	33.7	%	34.2	%	34.6	%
VA	9.6	%	9.1	%	9.6	%	9.6	%
Private Pay	7.2	%	7.3	%	7.2	%	7.4	%
Patient Care	100.0	%	100.0	%	100.0	%	100.0	%

Patient Care constituted 85.1% and 84.7% of our net revenues for the three and six months ended June 30, 2022 and 84.3% and 83.4% for the three and six months ended June 30, 2021. Our remaining net revenues were provided by our Products & Services segment which derives its net revenues from commercial transactions with independent O&P providers, healthcare facilities, and other customers. In contrast to net revenues from our Patient Care segment, payment for these products and services are not directly subject to third party reimbursement from health care payors.

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

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

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

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

Payor disallowances is considered an adjustment to the transaction price. Estimated uncollectible amounts due to us by patients are generally considered implicit price concessions and are presented as a reduction of net revenues. These amounts recorded in net revenues within the Patient Care segment for the three and six months ended June 30, 2022 and 2021 are as follows:


	For the Three Months Ended June 30,						For the Six Months Ended June 30,
(dollars in thousands)	2022			2021			2022			2021
Gross charges	$	277,870		$	245,196		$	507,792		$	446,648
Less estimated implicit price concessions arising from:
Payor disallowances	10,385			6,802			18,770			11,316
Patient non-payments	1,815			1,607			3,534			2,863
Payor disallowances and patient non-payments	12,200			8,409			22,304			14,179
Net revenues	$	265,670		$	236,787		$	485,488		$	432,469

Payor disallowances	$	10,385		$	6,802		$	18,770		$	11,316
Patient non-payments	1,815			1,607			3,534			2,863
Payor disallowances and patient non-payments	$	12,200		$	8,409		$	22,304		$	14,179

Payor disallowances %	3.7		%	2.8		%	3.7		%	2.5		%
Patient non-payments %	0.7		%	0.6		%	0.7		%	0.7		%
Percent of gross charges	4.4		%	3.4		%	4.4		%	3.2		%

Included in the results above, are clinics that have been recently acquired. Acquired clinics typically continue to operate on their legacy systems for the first 90 to 180 day before they are fully integrated over to Hanger’s systems and related processes. While operating on their legacy systems, the rate of payor disallowances and patient non-payments run higher than the rates experienced on Hanger’s systems. Excluding acquisitions since 2020, the percent of payor disallowances and patient non-payments would have been 4.0% and 3.8% for the three and six months ended June 30, 2022, respectively, and 3.2% and 2.8% for the three and six months ended June 30, 2021, respectively.

During 2021, we benefited from reductions in claims denials and increases in our rates of collection compared to prior periods. This has been due to a variety of factors, including increases in our revenue cycle management staffing and an increased focus on collections and liquidity during a period of reduced business volumes, a possible temporary relaxing of payor review procedures during the COVID-19 pandemic, the benefit of CARES Act funds on the ability of patients to pay their portion of claims and other factors relating to our pre-authorization and documentation procedures for devices.

Acquisitions

$1.8 million in the form of notes to shareholders at fair value. Due to the proximity in time of these transactions to the filing of this Form 10-Q, it is not practicable to provide a preliminary purchase price allocation of the fair value of the assets purchased and liabilities assumed in the acquisitions. Acquisition-related expenses related to these transactions were not material.

Acquisition-related costs associated with Hanger’s acquisition of O&P businesses are included in general and administrative expenses in our condensed consolidated statements of operations. Total acquisition-related costs incurred during the three and six months ended June 30, 2022 were $0.3 million and $0.6 million, respectively, which includes those costs for transactions that are in progress or were not completed during the respective period. Acquisition-related costs incurred for the acquisitions completed during the three and six months ended June 30, 2022 were $0.2 million and $0.3 million, respectively. Total acquisition-related costs incurred during the year ended December 31, 2021 were $2.1 million, which includes those costs for transactions that were in progress or not completed during the respective period. Acquisition-related costs incurred for acquisitions completed during the year ended December 31, 2021 were $1.6 million.

New Systems Implementations

During 2019, we commenced the design, planning, and initial implementation of new financial and supply chain systems (“New Systems Implementations”), and planned to invest in new servers and software that operate as a part of our technology infrastructure. We recommenced our New Systems Implementations activities in the second quarter of 2021, and transitioned our corporate financial systems to the Oracle Cloud Financials platform in the third quarter of 2021, after we elected in 2020 to temporarily delay our New Systems Implementations as part of our efforts to preserve liquidity.

In connection with our New Systems Implementations, for the three and six months ended June 30, 2022, we expensed $0.4 million and $0.8 million, respectively, and for the three and six months ended June 30, 2021, we expensed $1.7 million and $2.3 million, respectively. For the year ended December 31, 2021, we expensed $5.2 million. We currently anticipate that we will spend approximately $3 million to $5 million for the full year 2022 on these systems.

As of June 30, 2022, we capitalized $6.8 million of implementation costs for cloud computing arrangements, net of accumulated amortization, and recorded in Other current assets and Other assets in the condensed consolidated balance sheet.

Personnel

While we have traditionally been able to recruit and retain adequate staffing to operate and support our business, our ability to support growth is dependent on our ability to add new personnel. Nevertheless, as are other employers, we are currently finding it difficult to recruit and retain personnel in certain positions, including clinic front office administrative, distribution center, and fabrication center technician positions. In certain cases, we have also found it necessary to make individual market adjustments for clinical and professional staff to attract or retain them. Our inability to successfully recruit and maintain staffing levels for these positions has and could continue to introduce some constraints on our ability to achieve our revenue growth objectives. In cases where we have open clinic administrative or technician positions, or these positions are filled with inexperienced or new personnel, our clinicians find it necessary to augment the activities performed by these roles, which can slow the speed of our patient service.

In order to attract and retain personnel, we may find it necessary to further increase wages in these areas. Additionally, when coupled with the generally fixed nature of our reimbursement arrangements, increases in our personnel costs caused by current inflation conditions may put increasing pressure on our ability to maintain or increase our margins. Please refer to Part II, Item 1A. “Risk Factors” contained in our 2021 Form 10-K.

Seasonality

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

Our results are also affected, to a lesser extent, by our holding of an education fair in the first quarter of each year. This event is conducted to assist our clinicians in maintaining their training and certification requirements and to facilitate a national meeting with our clinical leaders. We also invite manufacturers of the componentry for the devices we fabricate to these annual events so they can demonstrate their products and otherwise assist in our training process. Due to the COVID-19 pandemic, the in-person event was cancelled in the first quarter of 2022, and the event was held virtually in 2021. We anticipate resuming an in-person event in 2023. During the three months ended March 31, 2021, we spent $0.3 million on travel and other costs associated with this 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 period in which this event occurs, which contributes to the lower seasonal revenue level we experience during the first quarter of each year.

Critical Accounting Policies and Estimates

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

•Revenue recognition

•Accounts receivable, net

•Inventories

•Business combinations

•Goodwill and other intangible assets, net

•Income taxes

The use of different estimates, assumptions, or judgments could have a material effect on reported amounts of assets, liabilities, revenue, expenses, and related disclosures as of the date of the financial statements and during the reporting period. Critical accounting policies and estimates are described in our 2021 Form 10-K, under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in Note A - “Organization and Summary of Significant Accounting Policies” contained within these condensed consolidated financial statements. There have been no material updates to those critical accounting policies and estimates as contained in the 2021 Form 10-K.

Reclassifications

Results of Operations

Our results of operations for the three months ended June 30, 2022 and 2021 were as follows (unaudited):


	For the Three Months Ended June 30,				Percent Change
(dollars in thousands)	2022		2021		2022 vs 2021
Net revenues	$	312,033	$	280,819	11.1	%
Material costs	98,433		89,271		10.3	%
Personnel costs	110,275		97,549		13.0	%
Other operating costs	38,970		32,788		18.9	%
General and administrative expenses	35,444		33,110		7.0	%
Depreciation and amortization	8,124		8,007		1.5	%
Operating expenses	291,246		260,725		11.7	%
Income from operations	20,787		20,094		3.4	%
Interest expense, net	7,524		7,152		5.2	%
Non-service defined benefit plan expense	160		167		(4.2)	%
Income before income taxes	13,103		12,775		2.6	%
Provision for income taxes	2,986		2,616		14.1	%
Net income	$	10,117	$	10,159	(0.4)	%

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


	For the Three Months Ended June 30,
	2022		2021
Material costs	31.5	%	31.8	%
Personnel costs	35.3	%	34.7	%
Other operating costs	12.5	%	11.6	%
General and administrative expenses	11.4	%	11.8	%
Depreciation and amortization	2.6	%	2.9	%
Operating expenses	93.3	%	92.8	%

Three Months Ended June 30, 2022 Compared to the Three Months Ended June 30, 2021

Relevance of Second Quarter Results to Comparative and Future Periods. As discussed in “Effects of the COVID-19 Pandemic” above, commencing late in the first quarter of 2020, our revenues and operating results began to be adversely affected by the COVID-19 pandemic, a trend that continued into 2022. The effects of this public health emergency on our revenues and earnings impacted the comparison to our historical financial results. As a result, our comparative financial and operational results when viewed as a whole for the periods impacted by the COVID-19 pandemic may not be indicative of future financial and operational performance. Please refer to the “Effects of the COVID-19 Pandemic” section above and the “Financial Condition, Liquidity and Capital Resources” section below for additional forward-looking information concerning our current expectations regarding the effect of the COVID-19 pandemic on our prospective results and financial condition.

Net revenues. Net revenues for the three months ended June 30, 2022 were $312.0 million, an increase of $31.2 million, or 11.1%, from $280.8 million for the three months ended June 30, 2021. Net revenues by operating segment, after elimination of intersegment activity, were as follows:


	For the Three Months Ended June 30,				Change		Percent Change
(dollars in thousands)	2022		2021
Patient Care	$	265,670	$	236,787	$	28,883	12.2	%
Products & Services	46,363		44,032		2,331		5.3	%
Net revenues	$	312,033	$	280,819	$	31,214	11.1	%

Patient Care net revenues for the three months ended June 30, 2022 were $265.7 million, an increase of $28.9 million, or 12.2%, from $236.8 million for the same period in the prior year. Same clinic revenues increased $14.2 million for the three months ended June 30, 2022 compared to the same period in the prior year, reflecting an increase of 6.2% on a per-day basis. This increase is driven primarily by a 3.6% increase in rate with a smaller increase of 3.3% in volume and mix. The increase is partially offset by a 0.7% increase in disallowed revenue. Net revenues from acquired clinics increased $13.7 million, and revenues from consolidations and other services increased $0.9 million.

Net revenue growth was adversely affected during the period by an increase in the relative rate of disallowed and patient non-payment revenue. As discussed in “Reimbursement Trends” above, these items constituted 4.4% of gross charges in the three month period ended June 30, 2022 compared to 3.4% for the three month period ended June 30, 2021. During the past twelve month period, disallowed and patient non-payment amounts have been 4.2% of gross charges, and as such, we believe the level reported in the second quarter to be more indicative of current trends.

Prosthetics constituted approximately 55.1% of our total Patient Care revenues for the three months ended June 30, 2022 and 53.7% for the same period in 2021, excluding the impact of acquisitions. Prosthetic revenues for the three months ended June 30, 2022 were 8.9% higher, on a per-day basis, than the same period in the prior year, excluding the impact of acquisitions. Orthotics, shoes, inserts, and other products increased by 3.0% on a per-day basis compared to the same comparative prior periods, excluding the impact of acquisitions.

Products & Services net revenues for the three months ended June 30, 2022 were $46.4 million, an increase of $2.3 million, or 5.3% from the same period in the prior year. This was primarily attributable to an increase of $2.7 million, or 8.1%, in the distribution of O&P componentry to independent providers in the period stemming primarily from lower volumes in the same period of 2021 due to the COVID-19 pandemic, as discussed in the “Effects of the COVID-19 Pandemic” section above. The increase is partially offset by a decrease in net revenues from therapeutic solutions of $0.4 million, or 3.5% primarily as a result of historical customer lease cancellations and discounts, partially offset by lease installations.

Material costs. Material costs for the three months ended June 30, 2022 were $98.4 million, an increase of $9.2 million or 10.3%, from the same period in the prior year. Total material costs as a percentage of net revenues for the three months ended June 30, 2022 was 31.5% compared to 31.8% for the three months ended June 30, 2021. While we have not experienced significant inflation in our material costs during the current quarter, we believe the effect of inflation may increase during the remainder of 2022. Material costs by operating segment, after elimination of intersegment activity, were as follows:


	For the Three Months Ended June 30,				Change		Percent Change
(dollars in thousands)	2022		2021
Patient Care	$	82,085	$	71,717	$	10,368	14.5	%
Products & Services	16,348		17,554		(1,206)		(6.9)	%
Material costs	$	98,433	$	89,271	$	9,162	10.3	%

Patient Care material costs increased $10.4 million, or 14.5%, for the three months ended June 30, 2022 compared to the same period in the prior year as a result of the increase in segment net sales, additional costs as a result of our acquisitions, and freight. Freight cost increases have primarily related to increased fuel surcharges and higher container costs. We currently anticipate that higher freight costs will continue to affect our material costs in future periods. Patient Care material costs as a percent of segment net revenues increased to 30.9% for the three months ended June 30, 2022 from 30.3% for the three months ended June 30, 2021.

Products & Services material costs decreased $1.2 million, or 6.9%, for the three months ended June 30, 2022 compared to the same period in the prior year. As a percent of net revenues in the Products & Services segment, material costs were 35.3% for the three months ended June 30, 2022 as compared to 39.9% in the same period of 2021. The decrease in cost of materials as a percent of segment net revenues was primarily due to product mix within the segment. However, in a similar fashion to our Patient Care segment, increases in freight costs have also affected our material costs and margin in this segment, as we rebill only a portion of our freight costs to our third party customers.

Personnel costs. Personnel costs for the three months ended June 30, 2022 were $110.3 million, an increase of $12.7 million, or 13.0%, from $97.5 million for the same period in the prior year. Personnel costs by operating segment were as follows:


	For the Three Months Ended June 30,				Change		Percent Change
(dollars in thousands)	2022		2021
Patient Care	$	93,838	$	83,198	$	10,640	12.8	%
Products & Services	16,437		14,351		2,086		14.5	%
Personnel costs	$	110,275	$	97,549	$	12,726	13.0	%

Personnel costs for the Patient Care segment were $93.8 million for the three months ended June 30, 2022, an increase of $10.6 million, or 12.8%, from $83.2 million in the same period of the prior year. The increase in Patient Care personnel costs during the three months ended June 30, 2022 was primarily related to an increase in salary expense of $7.8 million from the three months ended June 30, 2021. Additionally, incentive compensation, benefits, and other personnel expenses increased $1.4 million, commissions increased $0.8 million, and payroll taxes increased $0.6 million compared to the three months ended June 30, 2021.

Personnel costs in the Products & Services segment were $16.4 million for the three months ended June 30, 2022, an increase of $2.1 million compared to the same period in the prior year. The increase is primarily related to an increase in salary expense of $1.6 million from the three months ended June 30, 2021. Additionally, bonus, commissions, benefits, and other personnel cost increased $0.5 million for the three months ended June 30, 2022 compared to the same period in the prior year.

Other operating costs. Other operating costs for the three months ended June 30, 2022 were $39.0 million, an increase of $6.2 million, or 18.9%, from $32.8 million for the same period in the prior year. The increase is primarily related to an increase in rent, utilities, occupancy, and office expenses of $2.1 million from the three months ended June 30, 2021. Additionally, expenses related to a California wage and hour litigation settlement increased $1.3 million, travel increased $0.8 million, professional fees increased $0.3 million, bad debt expense increased $0.2 million, and other expenses increased $1.5 million as compared to the same period in the prior year.

General and administrative expenses. General and administrative expenses for the three months ended June 30, 2022 were $35.4 million, an increase of $2.3 million, or 7.0%, from the same period in the prior year. The increase is the result of a $1.3 million increase in severance expense, a $0.8 million increase in salary expense, and a $0.5 million increase in other expenses, partially offset by a $0.3 million decrease in incentive compensation and other personnel costs compared to the three months ended June 30, 2021.

Depreciation and amortization. Depreciation and amortization for the three months ended June 30, 2022 were $8.1 million, an increase of $0.1 million, or 1.5% from the same period in the prior year. Amortization expense increased $0.5 million and depreciation expense decreased $0.4 million when compared to the same period in the prior year.

Interest expense, net. Interest expense for the three months ended June 30, 2022 increased 5.2% to $7.5 million from $7.2 million for the same period in the prior year.

Provision for income taxes. The provision for income taxes for the three months ended June 30, 2022 was $3.0 million, or 22.8% of income before income taxes, compared to a provision of $2.6 million, or 20.5% of income before income taxes for the three months ended June 30, 2021. The increase in the effective tax rate for the three months ended June 30, 2022 compared with the three months ended June 30, 2021 is primarily attributable to a windfall from share-based compensation for the three months ended June 30, 2021 compared to a shortfall from share-based compensation for the three months ended June 30, 2022. Our effective tax rate for the three months ended June 30, 2022 is similar to the federal statutory tax rate of 21%, but the difference consists primarily of research and development credits offset by non-deductible expenses and shortfall from share-based compensation. Our effective tax rate for the three months ended June 30, 2021 differed from the federal statutory tax rate of 21% primarily due to research and development credits, non-deductible expenses, and windfall from share-based compensation.

We evaluate our deferred tax assets quarterly to determine whether adjustments to the valuation allowance are appropriate in light of changes in facts or circumstances, such as changes in expected future pre-tax earnings, tax law, interactions with taxing authorities, and developments in case law. Our material assumptions include forecasts of future pre-tax earnings and the nature and timing of future deductions and income represented by the deferred tax assets and liabilities, all of which involve the exercise of significant judgment. As of June 30, 2022, our valuation allowance was approximately $2.1 million.

Our results of operations for the six months ended June 30, 2022 and 2021 were as follows (unaudited):


	For the Six Months Ended June 30,				Percent Change
(dollars in thousands)	2022		2021		2022 vs 2021
Net revenues	$	573,320	$	518,289	10.6

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HNGR