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, 2017 (the "2017 Form 10-K"), as previously filed with the Securities and Exchange Commission (“SEC”).

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

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

Reclassifications

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

Recent Accounting Pronouncements

Adoption of New Accounting Standards

On January 1, 2018, we adopted the following:

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

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

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

ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash and ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments in the statement of cash flows on a retrospective basis. As a result of adoption:

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

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

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

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

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

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

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

New Accounting Standards Issued, Not Yet Adopted

In August 2018, the FASB issued ASU 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Topic 220). The ASU is intended to improve the recognition and measurement of financial instruments. The new guidance aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). This ASU is effective for public entities for fiscal years beginning after December 15, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.

In August 2018, the FASB issued ASU No. 2018-14, Compensation - Retirement Benefits - Defined Benefit Plans - General (Topic 715). This ASU modifies the disclosure requirements for defined benefit and other postretirement plans. This ASU eliminates certain disclosures associated with accumulated other comprehensive income, plan assets, related parties, and the effects of interest rate basis point changes on assumed health care costs; while other disclosures have been added to address significant gains and losses related to changes in benefit obligations. This ASU also clarifies disclosure requirements for projected benefit and accumulated benefit obligations. The amendments in this ASU are effective for fiscal years ending after December 15, 2020 and for interim periods therein with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.

In August 2018, the Financial Accounting Standards Board ("FASB") issued ASU No. 2018-13, Fair Value Measurement (Topic 820), which modifies the disclosures on fair value measurements by removing the requirement to disclose the amount and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy and the policy for timing of such transfers. The ASU expands the disclosure requirements for Level 3 fair value measurements, primarily focused on changes in unrealized gains and losses included in other comprehensive income. The ASU is effective for public entities for fiscal years beginning after December 15, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.

In February 2018, the FASB issued ASU No. 2018-02, Income Statement-Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, which allows companies to reclassify stranded tax effects resulting from the Tax Cuts and Jobs Act of 2017 (the "Tax Act"), which was signed into law on December 22, 2017, from accumulated other comprehensive income to retained earnings. This new standard is effective for us beginning January 1, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which replaces the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. This new standard is effective for us beginning December 15, 2019, with early adoption permitted. We are currently evaluating the effects that the adoption of this guidance will have on our condensed consolidated financial statements and the related disclosures.

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). The amendments in ASU 2016-02, and related clarifying standards, revise the accounting for leases. Under the new guidance, lessees will be required to recognize a lease liability and a right-of-use asset for all leases that extend beyond 12 months. The asset and liability will initially be measured at the present value of the lease payments. The new lease guidance also simplified the accounting for sale and leaseback transactions primarily because lessees must recognize lease assets and lease liabilities. The amendments in this ASU are effective for us beginning January 1, 2019 and will be applied using a cumulative effect adjustment transition approach at the adoption date which includes a number of practical expedients for leases existing at, or entered into after, the adoption date. We are evaluating how the new standard will impact our condensed consolidated financial statements, and currently anticipate that there will be a material increase to assets and lease liabilities for existing property leases representing our nationwide retail locations. In addition, we are evaluating the impact on presentation and timing of lease-related expenses for those leases which are currently recorded as financing leases on our balance sheet.

Revenue Recognition

Effect of Adoption of ASC 606

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

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


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

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


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

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


	As of and for the Nine Months Ended September 30, 2018
					Proforma balance
					without the
					adoption of
(in thousands)	As Reported		Effects of Adoption		ASC 606
Condensed Consolidated Statement of Operations
Net revenues	$	763,907	$	2,866	$	766,773
Other operating costs		92,631		2,937		95,568
Income from operations		36,876		(71)		36,805
Loss before income taxes		(9,169)		(71)		(9,240)
Net loss		(5,321)		(71)		(5,392)
Comprehensive loss		(3,799)		(71)		(3,870)

Condensed Consolidated Balance Sheet
Assets
Deferred income taxes	$	71,967	$	(249)	$	71,718
Total assets		675,629		(249)		675,380
Liabilities
Accrued expenses and other current liabilities		54,790		(956)		53,834
Total current liabilities		148,872		(956)		147,916
Total liabilities		701,233		(956)		700,277
Shareholders' Deficit
Accumulated deficit		(365,852)		707		(365,145)
Total shareholders' deficit		(25,604)		707		(24,897)

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

Patient Care Segment

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

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

A portion of our O&P revenue comes from the provision of cranial devices. In addition to delivering the cranial device, there are patient follow-up visits where we assist in treating the patient’s condition by adjusting or modifying the cranial device. We conclude that, for these devices, there are two performance obligations and use the expected cost plus margin approach to estimate for the standalone selling price of each performance obligation. The allocated portion associated with the patient’s receipt of the cranial device is recognized when the patient receives the device while the portion of revenue associated with the follow-up visits is initially recorded as deferred revenue. On average, the cranial device follow-up visits occur within 90 days after the patient receives the device and the deferred revenue is recognized on a straight line basis over this period.

Medicare and Medicaid regulations and the various agreements we have with other third party payors, including commercial healthcare payors under which these contractual adjustments and disallowed revenue are calculated, are complex and are subject to interpretation and adjustment and may include multiple reimbursement mechanisms for different types of services. Therefore, the particular O&P devices and related services authorized and provided, and the related reimbursement, are subject to interpretation and adjustment that could result in payments that differ from our estimates. Additionally, updated regulations and reimbursement schedules, and contract renegotiations occur frequently, necessitating regular review and assessment of the estimation process by management. As a result, there is a reasonable possibility that recorded estimates could change and any related adjustments will be recorded as adjustments to net revenue when they become known.

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


	For the Three Months Ended				For the Nine Months Ended
	September 30,				September 30,
(in thousands)	2018		2017		2018		2017
Patient Care Segment
Medicare	$	69,724	$	65,759	$	197,461	$	186,606
Medicaid		33,597		32,557		96,993		95,524
Commercial Insurance/ Managed Care (excluding Medicare and Medicaid Managed Care)		78,333		79,804		226,761		234,866
Veterans Administration		19,317		18,662		56,873		52,995
Private Pay		13,109		13,855		42,657		44,504
Total	$	214,080	$	210,637	$	620,745	$	614,495

Products & Services Segment

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

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

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

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

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

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

In addition, we estimate amounts recorded to bad debt expense using historical trends and these are presented as a bad debt expense under the operating expense section of our condensed consolidated financial statements.

The following table disaggregates revenue from contracts with customers in our Product & Services segment for the three and nine months ended September 30, 2018 and 2017:


	For the Three Months Ended				For the Nine Months Ended
	September 30,				September 30,
(in thousands)	2018		2017		2018		2017
Products & Services Segment
Distribution services, net of intersegment revenue eliminations	$	34,666	$	32,439	$	100,700	$	95,030
Therapeutic solutions		14,200		14,890		42,462		45,508
Total	$	48,866	$	47,329	$	143,162	$	140,538