Table of Contents

 

 

 

**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 April 2, 2011**

 

**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: 333-142188**

 

**DJO Finance LLC**

(Exact name of Registrant as specified in its charter)

 

| **State of Delaware**                                            | ** ** | **20-5653965**                          |
|------------------------------------------------------------------|------------|-----------------------------------------|
| (State or other jurisdiction of   incorporation or organization) |       | (I.R.S. Employer Identification Number) |
|                                                             |       |                                    |
| **1430 Decision Street   Vista, California**                | ** ** | **92081**                               |
| (Address of principal executive offices)                         |       | (Zip Code)                              |

 

Registrant’s telephone number, including area code: **(800) 336-5690**

 

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 o  No x (Note: As a voluntary filer not subject to the filing requirements of Section 13 or 15(d) of the Exchange Act, the registrant has filed all reports pursuant to Section 13 or 15(d) of the Exchange Act during the preceding 12 months as if it were subject to filing requirements)

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes o  No o (Note: The registrant has not yet been phased into the interactive data requirements)

 

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

 

| Large accelerated filer o                |   | Accelerated filer o         |
|-----------------------------------------------|--------|----------------------------------|
|                                          |   |                             |
| Non-accelerated filer x                  |   | Smaller reporting company o |
| (Do not check if a smaller reporting company) |   |                             |

 

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 May 16, 2011, 100% of the issuer’s membership interests were owned by DJO Holdings LLC.

 

 

 

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**DJO Finance LLC**

 

**INDEX**

 
| ** **                                   | ** **                                                                                                                                      | **Page   Number** |
|----------------------------------------------|-------------------------------------------------------------------------------------------------------------------------------------------------|-------------------|
| **PART I—FINANCIAL   INFORMATION** |                                                                                                                                            |
|                                         |                                                                                                                                            |              |
| Item   1.                                    | Financial   Statements                                                                                                                          |              |
|                                         | Unaudited Condensed Consolidated Balance Sheets as of   April 2, 2011 and December 31, 2010                                      | 1                 |
|                                         | Unaudited Condensed Consolidated Statements of   Operations for the three months ended April 2, 2011 and April 3,   2010              | 2                 |
|                                         | Unaudited Condensed Consolidated Statement of Equity   for the three months ended April 2, 2011                                       | 3                 |
|                                         | Unaudited Condensed Consolidated Statements of   Comprehensive Loss for the three months ended April 2, 2011 and   April 3, 2010 | 4                 |
|                                         | Unaudited Condensed Consolidated Statements of Cash   Flows for the three months ended April 2, 2011 and April 3, 2010                | 5                 |
|                                         | Notes to Unaudited Condensed Consolidated Financial   Statements                                                                                | 6                 |
| Item 2.                                      | Management’s   Discussion and Analysis of Financial Condition and Results of Operations                                                    | 30                |
| Item 3.                                      | Quantitative   and Qualitative Disclosures About Market Risk                                                                                    | 40                |
| Item 4.                                      | Controls and Procedures                                                                                                                         | 41                |
| **PART II—OTHER   INFORMATION**    |                                                                                                                                            |
|                                         |                                                                                                                                            |              |
| Item 1.                                      | Legal Proceedings                                                                                                                               | 42                |
| Item 1A.                                     | Risk Factors                                                                                                                                    | 44                |
| Item 6.                                      | Exhibits                                                                                                                                        | 44                |

 

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**DJO Finance LLC**

**Unaudited Condensed Consolidated Balance Sheets**

**(in thousands)**

 
| ** **                                              | ** ** | **April 2,   2011** | ** ** | **December 31,   2010** | ** ** |
|---------------------------------------------------------|------------|--------------------------|------------|------------------------------|------------|
| **Assets**                                              |       |                     |       |                         |       |
| Current assets:                                         |       |                     |       |                         |       |
| Cash and cash equivalents                               |       | $                        | 38,591     |                         | $          | 38,132 |   |
| Accounts receivable, net                                |       | 160,472                  |       | 145,523                      |       |
| Inventories, net                                        |       | 111,535                  |       | 103,100                      |       |
| Deferred tax assets, net                                |       | 47,984                   |       | 48,061                       |       |
| Prepaid expenses and other current assets               |       | 23,253                   |       | 23,419                       |       |
| Total current assets                                    |       | 381,835                  |       | 358,235                      |       |
| Property and equipment, net                             |       | 93,903                   |       | 85,020                       |       |
| Goodwill                                                |       | 1,221,206                |       | 1,188,887                    |       |
| Intangible assets, net                                  |       | 1,121,722                |       | 1,110,841                    |       |
| Other assets                                            |       | 35,798                   |       | 36,807                       |       |
| Total assets                                            |       | $                        | 2,854,464  |                         | $          | 2,779,790 |   |
|                                                    |       |                     |       |                         |       |
| **Liabilities and Equity**                              |       |                     |       |                         |       |
| Current liabilities:                                    |       |                     |       |                         |       |
| Accounts payable                                        |       | $                        | 55,782     |                         | $          | 48,947 |   |
| Accrued interest                                        |       | 41,583                   |       | 15,578                       |       |
| Current portion of debt and capital lease   obligations |       | 8,822                    |       | 8,821                        |       |
| Other current liabilities                               |       | 94,365                   |       | 81,709                       |       |
| Total current liabilities                               |       | 200,552                  |       | 155,055                      |       |
| Long-term debt and capital lease obligations            |       | 1,856,245                |       | 1,816,291                    |       |
| Deferred tax liabilities, net                           |       | 294,606                  |       | 289,913                      |       |
| Other long-term liabilities                             |       | 12,523                   |       | 11,712                       |       |
| Total liabilities                                       |       | 2,363,926                |       | 2,272,971                    |       |
|                                                    |       |                     |       |                         |       |
| Commitments and contingencies                           |       |                     |       |                         |       |
|                                                    |       |                     |       |                         |       |
| Equity:                                                 |       |                     |       |                         |       |
| DJO Finance LLC membership equity:                      |       |                     |       |                         |       |
| Member capital                                          |       | 829,900                  |       | 830,994                      |       |
| Accumulated deficit                                     |       | (346,046                 | )          | (324,807                     | )          |
| Accumulated other comprehensive income (loss)           |       | 4,203                    |       | (2,048                       | )          |
| Total membership equity                                 |       | 488,057                  |       | 504,139                      |       |
| Noncontrolling interests                                |       | 2,481                    |       | 2,680                        |       |
| Total equity                                            |       | 490,538                  |       | 506,819                      |       |
| Total liabilities and equity                            |       | $                        | 2,854,464  |                         | $          | 2,779,790 |   |

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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**DJO Finance LLC**

**Unaudited Condensed Consolidated Statements of Operations**

**(in thousands)**

 
| ** **                                                                                                                                                                      | ** ** | **Three Months Ended** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                                                                                                      | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
|                                                                                                                                                                            |       |                             |       |   |   |
| Net sales                                                                                                                                                                       |       | $                                | 249,711    |   | $ | 240,076 |   |
| Cost of sales (exclusive   of amortization of intangible assets of $9,358 and $8,919 for the three   months ended April 2, 2011 and April 3, 2010, respectively) |       | 93,156                           |       | 87,354 |   |
| Gross profit                                                                                                                                                                    |       | 156,555                          |       | 152,722 |   |
|                                                                                                                                                                            |       |                             |       |   |   |
| Operating expenses:                                                                                                                                                             |       |                             |       |   |   |
| Selling, general and   administrative                                                                                                                                           |       | 117,064                          |       | 110,526 |   |
| Research and development                                                                                                                                                        |       | 7,143                            |       | 5,571 |   |
| Amortization of   intangible assets                                                                                                                                             |       | 20,429                           |       | 19,054 |   |
|                                                                                                                                                                            |       | 144,636                          |       | 135,151 |   |
| Operating income                                                                                                                                                                |       | 11,919                           |       | 17,571 |   |
|                                                                                                                                                                            |       |                             |       |   |   |
| Other income (expense):                                                                                                                                                         |       |                             |       |   |   |
| Interest expense                                                                                                                                                                |       | (41,127                          | )          | (40,439 | ) |
| Interest income                                                                                                                                                                 |       | 110                              |       | 80 |   |
| Loss on modification of   debt                                                                                                                                                  |       | (2,065                           | )          | (1,096 | ) |
| Other income, net                                                                                                                                                               |       | 2,772                            |       | 316 |   |
|                                                                                                                                                                            |       | (40,310                          | )          | (41,139 | ) |
| Loss before income taxes                                                                                                                                                        |       | (28,391                          | )          | (23,568 | ) |
| Income tax benefit   (expense)                                                                                                                                                  |       | 7,467                            |       | (9,768 | ) |
| Net loss                                                                                                                                                                        |       | (20,924                          | )          | (33,336 | ) |
| Net income attributable   to noncontrolling interests                                                                                                                           |       | (315                             | )          | (322 | ) |
| Net loss attributable to   DJO Finance LLC                                                                                                                                      |       | $                                | (21,239    | ) | $ | (33,658 | ) |

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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**DJO Finance LLC**

**Unaudited Condensed Consolidated Statement of Equity**

**(in thousands)**

 
| ** **                                                          | ** ** | **DJO Finance LLC** | ** ** | ** **      | ** ** | ** **             | ** ** |
|---------------------------------------------------------------------|------------|-------------------------------|------------|-----------------|------------|------------------------|------------|
| ** **                                                          | ** ** | ** **                    | ** ** | ** **      | ** ** | **Accumulated**        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                          | ** ** | ** **                    | ** ** | ** **      | ** ** | **other**              | ** ** | **Total** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                                          | ** ** | **Member**                    | ** ** | **Accumulated** | ** ** | **comprehensive**      | ** ** | **membership** | ** ** | **Noncontrolling** | ** ** | **Total** | ** ** |
| ** **                                                          | ** ** | **capital**                   | ** ** | **deficit**     | ** ** | **(loss) income** | ** ** | **equity** | ** ** | **interests** | ** ** | **equity** | ** ** |
|                                                                |       |                          |       |            |       |                   |       |   |   |   |   |   |   |
| Balance at December 31,   2010                                 |       | $                             | 830,994    |            | $          | (324,807               | )          | $ | (2,048 | ) | $ | 504,139 |   | $ | 2,680 |   | $ | 506,819 |   |
| Net loss                                                            |       | —                        |       | (21,239         | )          | —                 |       | (21,239 | ) | 315 |   | (20,924 | ) |
| Other comprehensive   income, net of taxes                     |       | —                        |       | —          |       | 6,251                  |       | 6,251 |   | 168 |   | 6,419 |   |
| Agreement to repurchase rollover options                            |       | (2,000                        | )          | —          |       | —                 |       | (2,000 | ) | — |   | (2,000 | ) |
| Stock-based compensation                                            |       | 906                           |       | —          |       | —                 |       | 906 |   | — |   | 906 |   |
| Dividend paid by   subsidiary to owners of noncontrolling interests |       | —                        |       | —          |       | —                 |       | — |   | (682 | ) | (682 | ) |
| Balance at April 2,   2011                                     |       | $                             | 829,900    |            | $          | (346,046               | )          | $ | 4,203 |   | $ | 488,057 |   | $ | 2,481 |   | $ | 490,538 |   |

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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** **

**DJO Finance LLC**

**Unaudited Condensed Consolidated Statements of Comprehensive Loss**

**(in thousands)**

 
| ** **                                                                                                                                                                                                           | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                                                                                                                                           | ** ** | **April 2,********2011**    | ** ** | **April 3,********2010** | ** ** |
|                                                                                                                                                                                                                 |       |                             |       |   |   |
| Net loss                                                                                                                                                                                                             |       | $                                | (20,924    | ) | $ | (33,336 | ) |
|                                                                                                                                                                                                                 |       |                             |       |   |   |
| Other comprehensive   income (loss), net of taxes:                                                                                                                                                                   |       |                             |       |   |   |
| Foreign currency   translation adjustments, net of tax benefit (expense) of $(3,461) and $4,770   for the three months ended April 2, 2011 and April 3, 2010,   respectively                          |       | 5,473                            |       | (7,430 | ) |
| Unrealized loss on cash   flow hedges, net of tax benefit of $92 and $1,495 for the three months ended   April 2, 2011 and April 3, 2010, respectively                                                     |       | (145                             | )          | (2,328 | ) |
| Reclassification   adjustment for losses on cash flow hedges included in net loss, net of tax   benefit of $690 and $1,249 for the three months ended April 2, 2011   and April 3, 2010, respectively |       | 1,091                            |       | 1,946 |   |
| Other comprehensive   income (loss)                                                                                                                                                                                  |       | 6,419                            |       | (7,812 | ) |
| Comprehensive loss                                                                                                                                                                                                   |       | (14,505                          | )          | (41,148 | ) |
| Comprehensive income   attributable to noncontrolling interests                                                                                                                                                      |       | (483                             | )          | (198 | ) |
| Comprehensive loss   attributable to DJO Finance LLC                                                                                                                                                                 |       | $                                | (14,988    | ) | $ | (41,346 | ) |

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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**DJO Finance LLC**

**Unaudited Condensed Consolidated Statements of Cash Flows**

**(in thousands)**

 
| ** **                                                                                                                | ** ** | **Three Months Ended** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                                                | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
| Cash Flows From Operating Activities:                                                                                     |       |                             |       |   |   |
| Net loss                                                                                                                  |       | $                                | (20,924    | ) | $ | (33,336 | ) |
|                                                                                                                      |       |                             |       |   |   |
| Adjustments to reconcile net loss to net cash   provided by (used in) operating activities:                               |       |                             |       |   |   |
| Depreciation                                                                                                              |       | 6,757                            |       | 6,795 |   |
| Amortization of intangible assets                                                                                         |       | 20,429                           |       | 19,054 |   |
| Amortization of debt issuance costs and non-cash   interest expense                                                       |       | 1,959                            |       | 5,313 |   |
| Stock-based compensation expense                                                                                          |       | 906                              |       | 495 |   |
| Loss on disposal of assets, net                                                                                           |       | 236                              |       | 494 |   |
| Deferred income tax (benefit) expense                                                                                     |       | (8,410                           | )          | 8,736 |   |
| Provision for doubtful accounts and sales returns                                                                         |       | 6,351                            |       | 8,957 |   |
| Inventory reserves                                                                                                        |       | 1,846                            |       | 1,727 |   |
| Changes in operating assets and liabilities, net   of acquired assets and liabilities:                                    |       |                             |       |   |   |
| Accounts receivable                                                                                                       |       | (14,940                          | )          | (14,515 | ) |
| Inventories                                                                                                               |       | (5,409                           | )          | (905 | ) |
| Prepaid expenses and other assets                                                                                         |       | 1,102                            |       | (11,582 | ) |
| Accrued interest                                                                                                          |       | 26,001                           |       | 26,013 |   |
| Accounts payable and other current liabilities                                                                            |       | 13,260                           |       | 2,614 |   |
| Net cash provided by operating activities                                                                                 |       | 29,164                           |       | 19,860 |   |
|                                                                                                                      |       |                             |       |   |   |
| Cash Flows From Investing Activities:                                                                                     |       |                             |       |   |   |
| Cash paid in connection with acquisitions, net of   cash acquired                                                         |       | (59,644                          | )          | (810 | ) |
| Purchases of property and equipment                                                                                       |       | (9,841                           | )          | (4,111 | ) |
| Other investing activities, net                                                                                           |       | 285                              |       | (524 | ) |
| Net cash used in investing activities                                                                                     |       | (69,200                          | )          | (5,445 | ) |
|                                                                                                                      |       |                             |       |   |   |
| Cash Flows from Financing Activities:                                                                                     |       |                             |       |   |   |
| Proceeds from issuance of debt                                                                                            |       | 57,000                           |       | 105,130 |   |
| Repayments of debt and capital lease obligations                                                                          |       | (17,207                          | )          | (106,411 | ) |
| Payment of debt issuance costs                                                                                            |       | (23                              | )          | (3,097 | ) |
| Dividend paid by subsidiary to owners of   noncontrolling interests                                                       |       | (682                             | )          | (529 | ) |
| Net cash provided by   (used in) financing activities                                                                     |       | 39,088                           |       | (4,907 | ) |
| Effect of exchange rate changes on cash and cash   equivalents                                                            |       | 1,407                            |       | (80 | ) |
| Net increase in cash and cash equivalents                                                                                 |       | 459                              |       | 9,428 |   |
| Cash and cash equivalents at beginning of period                                                                          |       | 38,132                           |       | 44,611 |   |
| Cash and cash equivalents at end of period                                                                                |       | $                                | 38,591     |   | $ | 54,039 |   |
|                                                                                                                      |       |                             |       |   |   |
| Supplemental disclosures of cash flow information:                                                                        |       |                             |       |   |   |
| Cash paid for interest                                                                                                    |       | $                                | 9,020      |   | $ | 11,331 |   |
| Cash paid (refunded) for taxes, net                                                                                       |       | $                                | (5,767     | ) | $ | 1,602 |   |
|                                                                                                                      |       |                             |       |   |   |
| Non-cash investing and financing activities:                                                                              |       |                             |       |   |   |
| Increase in other current liabilities in   connection with agreement to repurchase rollover options                       |       | $                                | 2,000      |   | $ | — |   |
| Increases in property and equipment and in other   current liabilities in connection with capitalized software costs |       | $                                | 602        |   | $ | 2,275 |   |
| Increase in other current liabilities in   connection with acquisition of ETI                                             |       | $                                | 616        |   |   | — |   |

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

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**DJO Finance LLC**

**Notes to Unaudited Condensed Consolidated Financial Statements**

 

**1.  ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

***Organization and Business***

 

We are a global developer, manufacturer and distributor of medical devices and services that provide solutions for musculoskeletal health, vascular health and pain management. Our products address the continuum of patient care from injury prevention to rehabilitation after surgery, injury or from degenerative disease, enabling people to regain or maintain their natural motion. Our products are used by orthopedic specialists, spine surgeons, primary care physicians, pain management specialists, physical therapists, podiatrists, chiropractors, athletic trainers and other healthcare professionals. Our product lines include rigid and soft orthopedic bracing, hot and cold therapy, bone growth stimulators, vascular therapy systems and compression garments, electrical stimulators used for pain management and physical therapy products. Our surgical implant business offers a comprehensive suite of reconstructive joint products for the hip, knee and shoulder. Substantially all business activities of DJO Global, Inc. (DJO) are conducted by DJO Finance LLC (DJOFL) and its wholly owned subsidiaries. Except as otherwise indicated, references to “us,” “we,” “DJOFL,” “our,” or “the Company,” refers to DJOFL and its consolidated subsidiaries.

 

***Fiscal Year***

 

We operate our business on a manufacturing calendar, with our fiscal year always ending on December 31. Each quarter is 13 weeks, consisting of two four-week periods and one five-week period. Our first and fourth quarters may have more or fewer shipping days from year to year based on the days of the week on which holidays and December 31 fall. The quarters ended April 2, 2011 and April 3, 2010 included 65 shipping days and 64 shipping days, respectively.

 

***Segment Reporting***

 

During the first quarter of 2011, we changed the name of our Bracing and Supports Segment to Bracing and Vascular Segment to reflect the addition of our recent acquisitions, which have increased our focus on the vascular market. This segment includes the U.S. results of operations attributable to ETI, Circle City and BetterBraces.com, from their respective dates of acquisition (See Note 2). This change had no impact on previously reported segment information.

 

We market and distribute our products through four operating segments, Recovery Sciences, Bracing and Vascular, Surgical Implant, and International. Our Recovery Sciences, Bracing and Vascular and Surgical Implant segments generate their revenues within the United States. Our Recovery Sciences Segment offers home electrotherapy, iontophoresis, home traction products, bone growth stimulation products, and clinical therapy equipment. Our Bracing and Vascular Segment offers rigid knee braces, orthopedic soft goods, cold therapy products, vascular systems, and compression therapy products. Our Surgical Implant Segment offers a comprehensive suite of reconstructive joint products for the knee, hip and shoulder. Our International segment offers all of our products to customers outside the United States. See Note 15 for additional information about our reportable segments.

 

***Use of Estimates***

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Estimates and assumptions are used in accounting for, among other things, contractual allowances, rebates, product returns, warranty obligations, allowances for doubtful accounts, valuation of inventories, self-insurance reserves, income taxes, loss contingencies, fair values of derivative instruments, fair values of long-lived assets and any related impairments, capitalization of costs associated with internally developed software and stock-based compensation. Actual results could differ from those estimates.

 

***Basis of Presentation***

 

We consolidate the results of operations of our 50% owned subsidiary Medireha GmbH (Medireha) and reflect the 50% share of results not owned by us as noncontrolling interests in our consolidated statements of operations. We maintain control of Medireha through certain rights that enable us to prohibit certain business activities that are not consistent with our plans for the business and provide us with exclusive distribution rights for products manufactured by Medireha.

 

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The accompanying unaudited condensed consolidated financial statements include our accounts and all voting interest entities where we exercise a controlling financial interest through the ownership of a direct or indirect majority voting interest. All significant intercompany accounts and transactions have been eliminated in consolidation.

 

Our unaudited condensed consolidated financial statements have been prepared in accordance with GAAP and with the instructions to Form 10-Q and Article 10 of Regulation S-X for interim financial information. Accordingly, these financial statements do not include all of the information required by GAAP or Securities and Exchange Commission (SEC) rules and regulations for complete financial statements. In the opinion of management, these financial statements reflect all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of the results of operations for the interim periods presented. The results of operations for any interim period are not necessarily indicative of results for the full year. These unaudited condensed consolidated financial statements should be read in conjunction with our consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2010.

 

Certain prior period amounts have been reclassified to conform to the current year presentation.

 

***Recent Accounting Standards***

 

We do not believe that any recently issued accounting standards will have a material impact on our condensed consolidated financial statements.

 

**2.  ACQUISITIONS**

 

We account for acquisitions in accordance with the acquisition method of accounting, with the results of operations attributable to each acquisition included in our condensed consolidated financial statements from the date of acquisition. During the three months ended April 2, 2011 we made the following acquisitions, all of which are included in our Bracing and Vascular Segment with the exception of the international activities of ETI which are included in our International Segment:

 

On January 4, 2011, we entered into a stock purchase agreement with Elastic Therapy, Inc. (ETI) and its shareholders and completed the purchase of all of the outstanding shares of capital stock of ETI. ETI is a designer and manufacturer of private label medical compression therapy products used to treat and prevent a wide range of venous disorders. The purchase price was $46.4 million, of which a total of $3.6 million was deposited in escrow for up to one year to fund indemnity claims. An additional $1.0 million was deposited in escrow for the retention of certain key employees. Direct acquisition costs associated with the ETI acquisition of $0.3 million are included in selling, general and administrative expense in our unaudited condensed consolidated statement of operations. The acquisition was financed using cash on hand, and a draw of $35 million on our revolving line of credit. On January 5, 2011, we converted ETI to a limited liability company.

 

On February 4, 2011, we purchased certain assets of an e-commerce business (BetterBraces.com) which offers various bracing, cold therapy and electrotherapy products, for total consideration of $3.0 million. Of the total purchase price, $1.8 million was paid in cash at closing, $0.4 million was offset against accounts receivable due from the seller, $0.5 million was retained to fully repay outstanding principal and accrued interest due from the seller under a revolving convertible promissory note, and $0.3 million was held back as security for potential indemnification claims, and will be paid to the seller in February 2012 if there are no such claims. The acquisition was financed using cash on hand.

 

On March 10, 2011, we entered into an asset purchase agreement with Circle City Medical, Inc. (Circle City) and its sole shareholder and completed the purchase of substantially all of the assets of Circle City. Circle City markets orthopedic soft goods and medical compression therapy products to independent pharmacies and home healthcare dealers. The purchase price was $11.7 million, of which $1.3 million was withheld from the closing date payment and was paid to a third party escrow agent to secure the indemnity obligations of the seller. An additional $1.3 million was deposited into escrow for the retention of a key employee. Direct acquisition costs associated with the Circle City acquisition of $0.1 million are included in selling, general and administrative expense in our unaudited condensed consolidated statement of operations. We financed the acquisition with cash on hand and a draw of $7.0 million on our revolving line of credit.

 

Up to an additional $2.0 million may be earned by the sole shareholder of Circle City as a royalty payment based on future sales of a specific product line over the next six years. This royalty payment was recognized separately from the acquisition of the assets and liabilities of Circle City, and the royalty payments will be expensed as they are earned.

 

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The purchase price for each of these acquisitions was allocated to the fair values of the net tangible and intangible assets acquired as follows (in thousands):

 
| ** **                          | ** ** | **ETI** | ** ** | **BetterBraces.com** | ** ** | **Circle City** | ** ** | **Weighted   Average Useful   Life (years)** | ** ** |
|-------------------------------------|------------|---------|------------|----------------------|------------|----------------------|------------|--------------------------------------------------------|------------|
| Cash                                |       | $       | 817        |                 | $          | —               |       | $                                                      | —     |   |   |   |
| Accounts receivable                 |       | 3,690   |       | —               |       | 572                  |       |                                                   |       |
| Inventory                           |       | 2,133   |       | —               |       | 1,736                |       |                                                   |       |
| Other current assets                |       | 1,542   |       | —               |       | —               |       |                                                   |       |
| Property and equipment              |       | 7,230   |       | —               |       | —               |       |                                                   |       |
| Other non-current assets            |       | 394     |       | —               |       | —               |       |                                                   |       |
| Liabilities assumed                 |       | (11,421 | )          | —               |       | (406                 | )          |                                                   |       |
| Identifiable intangible assets (1): |       |    |       |                 |       |                 |       |                                                   |       |
| Customer-based                      |       | 13,400  |       | 75                   |       | 3,700                |       | 6.5                                                    |       |
| Technology-based                    |       | 6,000   |       | 1,120                |       | —               |       | 4.7                                                    |       |
| Non-compete                         |       | 1,600   |       | 185                  |       | 200                  |       | 4.0                                                    |       |
| Trademarks and trade names          |       | —  |       | 50                   |       | 1,400                |       | 9.7                                                    |       |
| Goodwill (2)                        |       | 21,021  |       | 1,570                |       | 4,469                |       |                                                   |       |
| Total purchase price                |       | $       | 46,406     |                 | $          | 3,000                |       | $                                                      | 11,671     |   |   |   |

 

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(1)     The purchase price allocation included values assigned to certain specific identifiable intangible assets aggregating $27.7 million. An aggregate value of $17.2 million was assigned to customer relationships with major pharmaceutical and home healthcare distributors, and certain other customers existing on the acquisition date based upon an estimate of the future discounted cash flows that would be derived from those customers. An aggregate value of $7.1 million was assigned to patents and existing technology, determined primarily by estimating the present value of future royalty costs that will be avoided due to our ownership of the patents and technology acquired. A value of $2.0 million was assigned to non-compete agreements entered into with certain executive officers and senior management by estimating the present value of the cash flows associated with having these agreements in place. An aggregate value of $1.4 million was assigned to trademarks and trade names, determined primarily by estimating the present value of future royalty costs that will be avoided due to our ownership of the trade names and trademarks acquired.

 

(2)     Goodwill represents the excess purchase price over the fair value of the identifiable net assets acquired. Among the factors which resulted in the recognition of goodwill for ETI were expected benefits from the vertical integration into the ETI facility of products we currently outsource to a third party manufacturer and expected cost savings related to the implementation of lean manufacturing methodology. Among the factors which resulted in the recognition of goodwill for BetterBraces.com were expected cost savings resulting from production and distribution efficiencies and from reduction of redundant general and administrative expenses. Among the factors which resulted in the recognition of goodwill for Circle City were consolidation of warehouse facilities and expected cost savings from reduction of redundant general and administrative expenses. Goodwill related to our BetterBraces.com and Circle City acquisitions is expected to be deductible for tax purposes.

 

Pro forma results of operations for these acquisitions have not been presented because the effects of the acquisitions individually and in the aggregate, were not material to our consolidated financial results.

 

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**3.  ACCOUNTS RECEIVABLE RESERVES**

 

A summary of activity in our accounts receivable reserves for doubtful accounts and sales returns is presented below (in thousands):

 
| ** **                                        | ** ** | **Three Months Ended** | ** ** |
|---------------------------------------------------|------------|----------------------------------|------------|
| ** **                                        | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
| Balance, beginning of period                      |       | $                                | 53,076     |   | $ | 48,306 |   |
| Provision for doubtful accounts and sales returns |       | 6,351                            |       | 8,957 |   |
| Write-offs, net of recoveries                     |       | (10,488                          | )          | (6,322 | ) |
| Balance, end of period                            |       | $                                | 48,939     |   | $ | 50,941 |   |

 

**4.  INVENTORIES**

 

Inventories consist of the following (in thousands):

 
| ** **                    | ** ** | **April 2,   2011** | ** ** | **December 31,   2010** | ** ** |
|-------------------------------|------------|--------------------------|------------|------------------------------|------------|
| Components and raw materials  |       | $                        | 31,223     |                         | $          | 27,287 |   |
| Work in process               |       | 6,963                    |       | 5,478                        |       |
| Finished goods                |       | 61,543                   |       | 60,596                       |       |
| Inventory held on consignment |       | 25,320                   |       | 22,592                       |       |
|                          |       | 125,049                  |       | 115,953                      |       |
| Less inventory reserves       |       | (13,514                  | )          | (12,853                      | )          |
|                          |       | $                        | 111,535    |                         | $          | 103,100 |   |

 

As of April 2, 2011, $1.5 million and $1.7 million relate to inventory acquired through our acquisitions of ETI and Circle City, respectively (see Note 2).

 

A summary of the activity in our reserves for estimated slow moving, excess, obsolete and otherwise impaired inventory is presented below (in thousands):

 
| ** **                         | ** ** | **Three Months Ended** | ** ** |
|------------------------------------|------------|----------------------------------|------------|
| ** **                         | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
| Balance, beginning of period       |       | $                                | 12,853     |   | $ | 12,511 |   |
| Provision charged to cost of sales |       | 1,846                            |       | 1,727 |   |
| Write-offs, net of recoveries      |       | (1,185                           | )          | (3,510 | ) |
| Balance, end of period             |       | $                                | 13,514     |   | $ | 10,728 |   |

 

The write-offs to the reserve were primarily related to the disposition of fully reserved inventory.

 

**5.  LONG-LIVED ASSETS**

 

***Goodwill***

 

Changes in the carrying amount of our goodwill for the three months ended April 2, 2011 are presented below (in thousands):

 
| Balance, beginning of period |   | $      | 1,188,887 |   |
|------------------------------|--------|--------|-----------|--------|
| Acquisitions (see Note 2)    |   | 27,060 |      |
| Translation adjustments      |   | 5,259  |      |
| Balance, end of period       |   | $      | 1,221,206 |   |

 

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***Intangible assets, net***

 

Identifiable intangible assets consisted of the following (in thousands):

 
| **April 2, 2011**         | ** ** | **Gross Carrying   Amount** | ** ** | **Accumulated   Amortization** | ** ** | **Intangible   Assets, Net** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|-----------------------------------|------------|
| Definite-lived intangible assets:   |       |                             |       |                           |       |                              |       |
| Customer-based                      |       | $                                | 506,001    |                           | $          | (142,617                          | )          | $ | 363,384 |   |
| Technology-based                    |       | 456,322                          |       | (129,535                       | )          | 326,787                           |       |
| Trademarks and trade names          |       | 1,450                            |       | (20                            | )          | 1,430                             |       |
|                                |       | $                                | 963,773    |                           | $          | (272,172                          | )          | 691,601 |   |
| Indefinite-lived intangible assets: |       |                             |       |                           |       |                              |       |
| Trademarks and trade names          |       |                             |       |                           |       | 430,121                           |       |
| Net identifiable intangible assets  |       |                             |       |                           |       | $                                 | 1,121,722  |   |

 
| **December 31, 2010**     | ** ** | **Gross Carrying   Amount** | ** ** | **Accumulated   Amortization** | ** ** | **Intangible   Assets, Net** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|-----------------------------------|------------|
| Definite-lived intangible assets:   |       |                             |       |                           |       |                              |       |
| Customer-based                      |       | $                                | 485,363    |                           | $          | (130,973                          | )          | $ | 354,390 |   |
| Technology-based                    |       | 447,437                          |       | (119,985                       | )          | 327,452                           |       |
|                                |       | $                                | 932,800    |                           | $          | (250,958                          | )          | 681,842 |   |
| Indefinite-lived intangible assets: |       |                             |       |                           |       |                              |       |
| Trademarks and trade names          |       |                             |       |                           |       | 428,999                           |       |
| Net identifiable intangible assets  |       |                             |       |                           |       | $                                 | 1,110,841  |   |

 

Our definite-lived intangible assets are being amortized using the straight-line method over their remaining weighted average useful lives of 11.1 years for technology-based assets, 9.7 years for trademarks and trade names and 8.8 years for customer-based assets. Based on our amortizable intangible asset balance as of April 2, 2011, we estimate that amortization expense will be as follows for the next five years and thereafter (in thousands):

 
| Remaining 2011 |   | $       | 61,876  |   |
|----------------|--------|---------|---------|--------|
| 2012           |   | 81,198  |    |
| 2013           |   | 75,249  |    |
| 2014           |   | 73,185  |    |
| 2015           |   | 68,701  |    |
| Thereafter     |   | 331,392 |    |
|           |   | $       | 691,601 |   |

 

**6.  OTHER CURRENT LIABILITIES**

 

Other current liabilities consist of the following (in thousands):

 
| ** **                     | ** ** | **April 2,   2011** | ** ** | **December 31,   2010** | ** ** |
|--------------------------------|------------|--------------------------|------------|------------------------------|------------|
| Wages and related expenses     |       | $                        | 30,888     |                         | $          | 23,723 |   |
| Commissions and royalties      |       | 10,521                   |       | 12,138                       |       |
| Interest rate swap derivatives |       | 5,163                    |       | 6,707                        |       |
| Other accrued liabilities      |       | 47,793                   |       | 39,141                       |       |
|                           |       | $                        | 94,365     |                         | $          | 81,709 |   |

 

**7.  DERIVATIVE INSTRUMENTS**

 

We use derivative financial instruments to manage interest rate risk related to our variable rate credit facilities and risk related to foreign currency exchange rates. Our objective is to reduce the risk to earnings and cash flows associated with changes in interest rates and changes in foreign currency exchange rates. Before acquiring a derivative instrument to hedge a specific risk, we evaluate potential natural hedges. Factors considered in the decision to hedge an underlying market exposure include the materiality of the risk, the volatility of the market, the duration of the hedge, and the availability, effectiveness and cost of derivative instruments. We do not use derivative instruments for speculative or trading purposes.

 

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All derivatives, whether designated as hedging relationships or not, are recorded on the balance sheet at fair value. The fair value of our derivatives is determined through the use of models that consider various assumptions, including time value, yield curves and other relevant economic measures which are inputs that are classified as Level 2 in the valuation hierarchy. The classification of gains and losses resulting from changes in the fair values of derivatives is dependent on the intended use of the derivative and its resulting designation. Our interest rate swap agreements are designated as cash flow hedges, and accordingly, effective portions of changes in the fair value of the derivatives are recorded in accumulated other comprehensive income (loss) and subsequently reclassified into our consolidated statement of operations when the hedged forecasted transaction affects income (loss). Ineffective portions of changes in the fair value of cash flow hedges are recognized in income (loss). Our foreign exchange contracts have not been designated as hedges, and accordingly, changes in the fair value of the derivatives are recorded in income (loss).

 

*Interest Rate Swap Agreements*.  Our senior secured credit facilities are subject to floating interest rates. We manage the risk of unfavorable movements in interest rates by hedging a portion of the outstanding loan balance, thereby locking in a fixed rate on a portion of the principal, reducing the effect of possible rising interest rates and making interest expense more predictable over the term of the credit facilities. We have five interest rate swap agreements which we have designated as cash flow hedges for accounting purposes, and the hedges are considered effective. As such, the effective portion of the gain or loss on the derivative instrument is reported as a component of accumulated other comprehensive income (loss) and is reclassified into interest expense in our unaudited condensed consolidated statement of operations in the period in which it affects income (loss).

 

Information regarding our interest rate swap agreements as of April 2, 2011 is presented below (in thousands):

 
| **Maturity Date ** | ** ** | **Notional   Amount** | ** ** | **Pay   Fixed** | ** ** | **Receive   Floating**  | ** **              | **Estimated loss   expected to be   reclassified into   earnings within the   next twelve months** | ** ** |
|------------------------------|------------|-----------------------|------------|-----------------|------------|-------------------------|-------------------------|--------------------------------------------------------------------------------------------------------------------------------------------|------------|
| December 2011           |       | $                     | 75,000     |            | 2.55       | %                       | 1 month LIBOR |                                                                                                                                       | $          | 1,272 |   |
| December 2011           |       | 75,000                |       | 2.60            | %          | 1 month LIBOR |                    | 1,301                                                                                                                                      |       |
| December 2011           |       | 75,000                |       | 2.585           | %          | 1 month LIBOR |                    | 1,292                                                                                                                                      |       |
| December 2011           |       | 75,000                |       | 2.595           | %          | 1 month LIBOR |                    | 1,298                                                                                                                                      |       |
|                         |       |                  |       |            |       |                    |                    | $                                                                                                                                          | 5,163      |   |
|                              |            |                       |            |                 |            |                         |                         |                                                                                                                                            |            |  |  |

 

*Foreign Exchange Rate Contracts*.  We utilize Mexican Peso (MXP) foreign exchange forward contracts to hedge a portion of our exposure to fluctuations in foreign exchange rates, as our Mexico-based manufacturing operations incur costs that are largely denominated in MXP. Foreign exchange forward contracts as of April 2, 2011 expire weekly through June 2011. While our foreign exchange forward contracts act as economic hedges, we have not designated such instruments as hedges for accounting purposes. Therefore, gains and losses resulting from changes in the fair values of these derivative instruments are recorded in other income, net, in our unaudited condensed consolidated statements of operations.

 

Information regarding the notional and fair value of our foreign exchange forward contracts is presented in the table below (in thousands):

 
| **April 2, 2011**   | ** ** | **December 31, 2010** | ** ** |
|-------------------------------|------------|---------------------------------|------------|
| **Notional Value   MXP** | ** ** | **Notional Value   USD**   | ** ** | **Fair Value   USD** | ** ** | **Notional Value   MXP** | ** ** | **Notional Value   USD** | ** ** | **Fair Value   USD** | ** ** |
| 19,500                        |       | $                               | 1,437      |   | $ | 1,640 |   | 116,910 |   | $ | 9,054 |   | $ | 9,428 |   |
|                               |            |                                 |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

The following table summarizes the fair value of derivative instruments in our unaudited condensed consolidated balance sheets (in thousands):

 
| ** **                                                                             | ** ** | **Balance Sheet Location** | ** ** | **April 2,   2011** | ** ** | **December 31,   2010** | ** ** |
|----------------------------------------------------------------------------------------|------------|--------------------------------------|------------|--------------------------|------------|------------------------------|------------|
| **Derivative Assets:**                                                                 | ** ** | ** **                           | ** ** | ** **               | ** ** | ** **                   | ** ** |
| Foreign exchange forward contracts not designated   as hedges                          |       | Other   current assets               |       | $                        | 203        |                         | $          | 374 |   |
| ** **                                                                             | ** ** | ** **                           | ** ** | ** **               | ** ** | ** **                   | ** ** |
| **Derivative Liabilities:**                                                            | ** ** | ** **                           | ** ** | ** **               | ** ** | ** **                   | ** ** |
| Current portion of interest rate swap agreements   designated as cash flow hedges |       | Other   current liabilities          |       | $                        | 5,163      |                         | $          | 6,707 |   |

 

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The following table summarizes the effect of derivative instruments on our unaudited condensed consolidated statements of operations (in thousands):

 
| ** **                                                     | ** ** | ** **                     | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------|------------|--------------------------------|------------|----------------------------------|------------|
| ** **                                                     | ** ** | **Location of loss** | ** ** | **April 2,********2011**    | ** ** | **April 3,********2010** | ** ** |
| Interest rate swap agreements designated as cash   flow hedges |       | Interest   expense (1)         |       | $                                | (1,780     | ) | $ | (3,195 | ) |
| Foreign exchange forward contracts not designated   as hedges  |       | Other   income, net            |       | (171                             | )          | 1,039 |   |
|                                                           |       |                           |       | $                                | (1,951     | ) | $ | (2,156 | ) |

 

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(1)          Represents the loss on derivative instruments designated as cash flow hedges, which has been reclassified from accumulated other comprehensive income (loss) into interest expense during the periods presented.

 

The pre-tax loss on derivative instruments designated as cash flow hedges recognized in accumulated other comprehensive income (loss) is presented below (in thousands):

 
| ** **                                         | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------|------------|----------------------------------|------------|
| ** **                                         | ** ** | **April 2,********2011**    | ** ** | **April 3,********2010** | ** ** |
| Interest rate swaps designated as cash flow hedges |       | $                                | 236        |   | $ | 3,823 |   |
|                                                    |            |                                  |            |  |  |  |  |

 

As of April 2, 2011, the cumulative amount included in accumulated other comprehensive income (loss) related to derivative instruments designated as cash flow hedges was $3.2 million (net of tax).

 

**8.  FAIR VALUE MEASUREMENTS**

 

Financial assets and liabilities are classified based on the lowest level of input that is significant to the fair value measurements. Our assessment of the significance of a particular input to the fair value measurements requires judgment, and may affect the valuation of the assets and liabilities being measured and their placement within the fair value hierarchy. The following tables present the balances of assets and liabilities measured at fair value on a recurring basis (in thousands):

 
| **As of April 2, 2011**                   | ** ** | **Level 1 (1)** | ** ** | **Level 2 (2)** | ** ** | **Level 3 (3)** | ** ** | **Total** | ** ** |
|---------------------------------------------------------------|------------|---------------------------|------------|---------------------------|------------|---------------------------|------------|-----------|------------|
| **Total Assets:**                                             |       |                      |       |                      |       |                      |       |      |       |
| Foreign exchange forward contracts not designated   as hedges |       | $                         | —     |                      | $          | 203                       |       | $         | —     |   | $ | 203 |   |
|                                                          |       |                      |       |                      |       |                      |       |      |       |
| **Total Liabilities:**                                        |       |                      |       |                      |       |                      |       |      |       |
| Interest rate swap agreements designated as cash   flow hedge |       | $                         | —     |                      | $          | 5,163                     |       | $         | —     |   | $ | 5,163 |   |

 
| **As of December 31, 2010**                | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|----------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| **Total Assets:**                                              |       |       |       |       |       |       |       |       |       |
| Foreign exchange forward contracts not designated   as hedges  |       | $          | —     |       | $          | 374        |       | $          | —     |   | $ | 374 |   |
|                                                           |       |       |       |       |       |       |       |       |       |
| **Total Liabilities:**                                         |       |       |       |       |       |       |       |       |       |
| Interest rate swap agreements designated as cash   flow hedges |       | $          | —     |       | $          | 6,707      |       | $          | —     |   | $ | 6,707 |   |

 

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(1)          Fair value measurements based on quoted prices in active markets for identical assets or liabilities.

 

(2)          Fair value measurements based on observable inputs other than quoted prices in active markets for identical assets and liabilities.

 

(3)          No observable valuation inputs in the market.

 

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** **

**9.  DEBT AND CAPITAL LEASE OBLIGATIONS**

 

Debt and capital lease obligations consists of the following (in thousands):

 
| ** **                                                                                                                            | ** ** | **April 2,   2011** | ** ** | **December 31,   2010** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|------------------------------|------------|
| Senior Secured Credit Facility:                                                                                        |       |                     |       |                         |       |
| $100.0 million revolving credit facility                                                                                              |       | $                        | 42,000     |                         | $          | — |   |
| Term loan facility, net of unamortized original   issue discount of $5.6 million and $6.0 million,   respectively |       | 843,979                  |       | 845,792                      |       |
| 10.875% Senior Notes, including unamortized   original issue premium of $4.0 million and $4.2 million, respectively              |       | 679,017                  |       | 679,239                      |       |
| 9.75% Senior Subordinated Notes                                                                                                       |       | 300,000                  |       | 300,000                      |       |
| Capital lease obligations and other                                                                                                   |       | 71                       |       | 81                           |       |
| Total debt and capital lease obligations                                                                                              |       | 1,865,067                |       | 1,825,112                    |       |
| Current maturities                                                                                                                    |       | (8,822                   | )          | (8,821                       | )          |
| Long-term debt and capital lease obligations                                                                                          |       | $                        | 1,856,245  |                         | $          | 1,816,291 |   |

 

***Senior Secured Credit Facility***

 

On November 20, 2007, we entered into the Senior Secured Credit Facility consisting of a $1,065.0 million term loan facility maturing May 2014 and a $100.0 million revolving credit facility maturing November 2013. We issued the term loan facility at a 1.2% discount, resulting in net proceeds of $1,052.4 million. We are amortizing the $12.6 million discount using the effective interest method, thereby increasing the reported outstanding balance through the maturity date.

 

We have subsequently entered into three amendments to the Senior Secured Credit Facility. The first amendment, entered into in January 2010 permitted us to issue $100.0 million in aggregate principal amount of new 10.875% senior notes, as long as the net cash proceeds were used to make a voluntary prepayment of the term loans. In connection with this amendment, we incurred $1.1 million of arrangement and lender consent fees, which are included in loss on modification of debt in our unaudited condensed consolidated statement of operations. The second amendment, entered into in October 2010 permitted us to issue $300. 0 million of new senior subordinated notes and repurchase or redeem all of our then existing 11.75% senior subordinated notes, prepay a portion of the term loans under our Senior Secured Credit Facility and pay related premiums, fees and expenses, all without utilizing existing debt incurrence capacity under our Senior Secured Credit Facility.

 

The third amendment, entered into in February 2011 increased the Total Leverage Ratio limitation in the Permitted Acquisitions covenant from 6.0x to 7.0x, and deemed the ETI acquisition to have been made as a Permitted Acquisition. The Permitted Acquisitions covenant has no limit on the dollar amount of acquisitions we are permitted to make, as long as the acquired entity becomes a loan party under the Senior Secured Credit Facility, and we are in compliance with this 7.0x total net leverage ratio requirement, with our senior secured leverage ratio requirement, and are not in default. In connection with this amendment, we incurred $2.1 million of expenses which are included in loss on modification of debt in our unaudited condensed consolidated statement of operations.

 

As of April 2, 2011 the market values of our term loan facility and revolving credit facility were $843.2 million and $39.5 million, respectively. We determine market value using trading prices for our credit facilities on or near that date.

 

*Interest Rates.*  Borrowings under the Senior Secured Credit Facility bear interest at a rate equal to an applicable margin plus, at our option, either (a) a base rate determined by reference to the higher of (1) the prime rate, as defined and (2) the federal funds rate plus 0.50% or (b) the Eurodollar rate determined by reference to the costs of funds for deposits in U.S. dollars for the interest period relevant to each borrowing adjusted for required reserves. The initial applicable margin for borrowings under the term loan facility and the revolving credit facility is 2.00% with respect to base rate borrowings and 3.00% with respect to Eurodollar borrowings. The applicable margin for borrowings under the term loan facility and the revolving credit facility may be reduced subject to our attaining certain leverage ratios. We use interest rate swap agreements in an effort to hedge our exposure to fluctuating interest rates related to a portion of our Senior Secured Credit Facility (see Note 7).

 

*Fees.*  In addition to paying interest on outstanding principal under the Senior Secured Credit Facility, we are required to pay a commitment fee to the lenders under the revolving credit facility with respect to the unutilized commitments thereunder. The current commitment fee rate is 0.50% per annum. The commitment fee rate may be reduced subject to our attaining certain leverage ratios. We must also pay customary letter of credit fees.

 

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*Principal Payments.*  We are required to pay annual payments in equal quarterly installments on the term loan facility in an amount equal to 1.00% of the funded total principal amount through February 2014, with any remaining amount payable in full at maturity in May 2014.

 

*Prepayments.*  The Senior Secured Credit Facility requires us to prepay outstanding term loans, subject to certain exceptions, with (1) 50% (which percentage can be reduced to 25% or 0% upon our attaining certain leverage ratios) of our annual excess cash flow, as defined; (2) 100% of the net cash proceeds above an annual amount of $25.0 million from non-ordinary course asset sales (including insurance and condemnation proceeds) by DJOFL and its restricted subsidiaries, subject to certain exceptions to be agreed upon, including a 100% reinvestment right if reinvested or committed to reinvest within 15 months of such sale or disposition so long as reinvestment is completed within 180 days thereafter; and (3) 100% of the net cash proceeds from issuance or incurrence of debt by DJOFL and its restricted subsidiaries, other than proceeds from debt permitted to be incurred under the Senior Secured Credit Facility and related amendments. Any mandatory prepayments are applied to the term loan facility in direct order of maturity. We may voluntarily prepay outstanding loans under the Senior Secured Credit Facility at any time without premium or penalty, provided that voluntary prepayments of Eurodollar loans made on a date other than the last day of an interest period applicable thereto shall be subject to customary breakage costs. We were not required to make any prepayments in 2011 related to our 2010 excess cash flow calculation.

 

*Guarantee and Security.*  All obligations under the Senior Secured Credit Facility are unconditionally guaranteed by DJO Holdings LLC (DJO Holdings) and each existing and future direct and indirect wholly-owned domestic subsidiary of DJOFL other than immaterial subsidiaries, unrestricted subsidiaries and subsidiaries that are precluded by law or regulation from guaranteeing the obligations (collectively, the Guarantors).

 

All obligations under the Senior Secured Credit Facility, and the guarantees of those obligations, are secured by pledges of 100% of the capital stock of DJOFL, 100% of the capital stock of each wholly owned domestic subsidiary and 65% of the capital stock of each wholly owned foreign subsidiary that is, in each case, directly owned by DJOFL or one of the Guarantors; and a security interest in, and mortgages on, substantially all tangible and intangible assets of DJO Holdings, DJOFL and each Guarantor.

 

*Certain Covenants and Events of Default.*  The Senior Secured Credit Facility contains covenants that, among other things, restrict, subject to certain exceptions, our and our subsidiaries’ ability to:

 

·                  incur additional indebtedness;

 

·                  create liens on assets;

 

·                  change fiscal years;

 

·                  enter into sale and leaseback transactions;

 

·                  engage in mergers or consolidations;

 

·                  sell assets;

 

·                  pay dividends and other restricted payments;

 

·                  make investments, loans or advances;

 

·                  repay subordinated indebtedness;

 

·                  make certain acquisitions;

 

·                  engage in certain transactions with affiliates;

 

·                  restrict the ability of restricted subsidiaries that are not Guarantors to pay dividends or make distributions;

 

·                  amend material agreements governing our subordinated indebtedness; and

 

·                  change our lines of business.

 

In addition, the Senior Secured Credit Facility requires us to maintain a maximum senior secured leverage ratio of 3.50:1 for the trailing twelve months ended April 2, 2011, stepping down to 3.25:1 at the end of 2011. The Senior Secured Credit Facility also contains certain customary affirmative covenants and events of default. As of April 2, 2011, our maximum senior secured leverage ratio was 3.14:1, and we were in compliance with all other applicable covenants.

 

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***10.875% Senior Notes***

 

On November 20, 2007 and January 20, 2010, DJOFL and DJO Finance Corporation (DJO Finco) (collectively, the Issuers) issued 10.875% Senior Notes due 2014, with an aggregate principal amount of $575.0 million and $100.0 million, respectively (the 10.875% Notes), under an agreement dated as of November 20, 2007 (the 10.875% Indenture) among the Issuers, the guarantors party thereto and The Bank of New York Mellon (formerly known as The Bank of New York), as trustee. The $100.0 million of 10.875% Notes were issued at a 5.0% premium, and we are amortizing the premium over the term of notes using the effective interest method, thereby decreasing the reported outstanding balance through the maturity date.

 

As of April 2, 2011, the market value of the 10.875% Notes was $739.1 million. We determine market value using trading prices for the 10.875% Notes on or near that date. We believe the trading prices reflect certain differences between prevailing market terms and conditions and the actual terms of our 10.875% Notes.

 

*Optional Redemption.*  Under the 10.875% Indenture, prior to November 15, 2011, the Issuers have the option to redeem some or all of the 10.875% Notes for cash at a redemption price equal to 100% of the then outstanding principal balance plus an applicable make-whole premium plus accrued and unpaid interest. Beginning on November 15, 2011, the Issuers may redeem some or all of the 10.875% Notes at a redemption price of 105.438% of the then outstanding principal balance plus accrued and unpaid interest. The redemption price decreases to 102.719% and 100% of the then outstanding principal balance at November 2012 and November 2013, respectively.

 

*Change of Control.*  Upon the occurrence of a change of control, unless DJOFL has previously sent or concurrently sends a notice exercising its optional redemption rights with respect to all of the then-outstanding 10.875% Notes, DJOFL will be required to make an offer to repurchase all of the then-outstanding 10.875% Notes at 101% of their principal amount, plus accrued and unpaid interest.

 

*Covenants.*  The 10.875% Indenture contains covenants limiting, among other things, our and our restricted subsidiaries’ ability to incur additional indebtedness or issue certain preferred and convertible shares, pay dividends on, redeem, repurchase or make distributions in respect of the capital stock of DJO, or make other restricted payments, make certain investments, sell certain assets, create liens on certain assets to secure debt, consolidate, merge, sell or otherwise dispose of all or substantially all of our assets, enter into certain transactions with affiliates, and designate our subsidiaries as unrestricted subsidiaries. As of April 2, 2011, we were in compliance with all applicable covenants.

 

***9.75% Senior Subordinated Notes***

 

On October 18, 2010, the Issuers issued $300.0 million aggregate principal amount of 9.75% senior subordinated notes (9.75% Notes) maturing on October 15, 2017. The 9.75% Notes are guaranteed jointly and severally and on an unsecured senior basis by each of DJOFL’s existing and future direct and indirect wholly owned domestic subsidiaries that guarantee any of DJOFL’s indebtedness or any indebtedness of DJOFL’s domestic subsidiaries or by any of DJOFL’s subsidiaries that are an obligor under DJOFL’s Senior Secured Credit Facility.

 

As of April 2, 2011, the market value of the 9.75% Notes was $317.3 million. We determined market value using trading prices for the 9.75% Notes on or near that date. We believe the trading prices reflect certain differences between prevailing market terms and conditions and the actual terms of our 9.75% Notes.

 

*Optional Redemption.*  Under the Indenture to the 9.75% Notes (the 9.75% Indenture), prior to October 15, 2013, the Issuers have the option to redeem some or all of the 9.75% Notes for cash at a redemption price equal to 100% of the then outstanding principal balance plus an applicable make-whole premium plus accrued and unpaid interest. Beginning on October 15, 2013, the Issuers may redeem some or all of the 9.75% Notes at a redemption price of 107.313% of the then outstanding principal balance plus accrued and unpaid interest. The redemption price decreases to 104.875%, 102.438% and 100% of the then outstanding principal balance at October 15, 2014, 2015 and 2016, respectively. Additionally, from time to time, before October 15, 2013, the Issuers may redeem up to 35% of the 9.75% Notes at a redemption price equal to 109.75% of the principal amount then outstanding, plus accrued and unpaid interest, in each case, with proceeds we raise, or a direct or indirect parent company raises, in certain offerings of equity of DJOFL or its direct or indirect parent companies, as long as at least 65% of the aggregate principal amount of the notes issued remains outstanding.

 

*Change of Control.*  Upon the occurrence of a change of control, unless DJOFL has previously sent or concurrently sends a notice exercising its optional redemption rights with respect to all of the then-outstanding 9.75% Notes, DJOFL will be required to make an offer to repurchase all of the then-outstanding 9.75% Notes at 101% of their principal amount, plus accrued and unpaid interest.

 

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*Covenants.*  The 9.75% Indenture contains covenants limiting, among other things, our and our restricted subsidiaries’ ability to incur additional indebtedness or issue certain preferred and convertible shares, pay dividends on, redeem, repurchase or make distributions in respect of the capital stock of DJO or make other restricted payments, make certain investments, sell certain assets, create liens on certain assets to secure debt, consolidate, merge, sell or otherwise dispose of all or substantially all of our assets, enter into certain transactions with affiliates, and designate our subsidiaries as unrestricted subsidiaries. As of April 2, 2011, we were in compliance with all applicable covenants.

 

Our ability to continue to meet the covenants related to our indebtedness specified above in future periods will depend, in part, on events beyond our control, and we may not continue to meet those ratios. A breach of any of these covenants in the future could result in a default under the Senior Secured Credit Facility, the 10.875% Indenture, and the 9.75% Indenture (collectively, the Indentures), at which time the lenders could elect to declare all amounts outstanding under the Senior Secured Credit Facility to be immediately due and payable. Any such acceleration would also result in a default under the Indentures.

 

***Debt Issuance Costs***

 

As of April 2, 2011 and December 31, 2010, we had $32.3 million and $34.1 million, respectively, of unamortized debt issuance costs which were included in other assets in our unaudited condensed consolidated balance sheets. During the three months April 3, 2010, we incurred $3.1 million of debt issuance costs which were capitalized, in connection with the sale of $100.0 million aggregate principal of 10.875% Notes. For the three months ended April 2, 2011 and April 3, 2010, amortization of debt issuance costs was $1.8 million and $5.3 million, respectively, and was included in interest expense in our unaudited condensed consolidated statements of operations.

 

**10.  INCOME TAXES**

 

Income taxes for the interim periods presented have been included in our unaudited condensed consolidated financial statements on the basis of an estimated annual effective tax rate, adjusted for discrete items. The income tax benefit for these periods differed from the amount which would have been recorded using the U.S. statutory tax rate due primarily to the impact of nondeductible expenses, foreign taxes, deferred taxes on the assumed repatriation of foreign earnings, and the existence of valuation allowances in foreign jurisdictions.

 

For the three months ended April 2, 2011 we recorded an income tax benefit of $7.5 million on a pre-tax loss of $28.4 million, resulting in an effective tax rate of 26.3%. For the three months ended April 3, 2010, we recorded income tax expense of $9.8 million on a pre-tax loss of $23.6 million, resulting in a negative 41.5% effective tax rate. The difference in the tax benefit and tax expense recorded during the first quarter of 2011 and the first quarter of 2010 is primarily due to differences in the projected annualized effective tax rates for each year as determined by the Company. Given the relationship between fixed dollar tax items and pre-tax financial results, the projected annual effective tax rate can change materially based on small variations of income.

 

We and our subsidiaries file income tax returns in the U.S. federal jurisdiction and various states and foreign jurisdictions. With few exceptions, we are no longer subject to U.S. federal, state and local, or non-U.S. income tax examinations by tax authorities for years before 2006. The Internal Revenue Service (IRS) completed its field examination of the 2005 and 2006 tax years during the first half of 2010. The IRS has proposed material adjustments related to transaction cost, stock option, and bad debt deductions included in our 2006 tax return. We have entered into the IRS appeals process and plan on defending each of the proposed adjustments vigorously. The timing of the completion of the appeals process is unclear at this time. Should the IRS’ proposed adjustments be upheld upon completion of the appeals process, a material reduction in our currently unreserved net operating losses could result.

 

At December 31, 2010, our gross unrecognized tax benefits were $17.7 million. For the three months ended April 2, 2011, we increased our gross unrecognized tax benefits by $0.6 million. As of April 2, 2011, our total gross unrecognized tax benefits were $18.3 million. As of April 2, 2011, we have $2.6 million accrued for interest and penalties. To the extent our gross unrecognized tax benefits are recognized in the future, a reduction of $2.8 million of U.S. Federal tax benefit for related state income tax deductions would result. There is a reasonable possibility that the finalization of the IRS appeals process could result in a material reduction to our unrecognized tax benefits within the next twelve months. Due to the fact that the appeals process has not been finalized, the amount of the unrecognized tax benefits that may be reduced cannot be reasonably estimated. The majority of our unrecognized tax benefits will impact the effective tax rate upon recognition; however, $1.2 million of unrecognized tax benefits related to prior acquisitions will impact other balance sheet accounts due to various indemnification provisions.

 

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**11.  STOCK OPTION PLANS AND STOCK-BASED COMPENSATION**

 

We have one active equity compensation plan, the DJO 2007 Incentive Stock Plan (the 2007 Stock Incentive Plan), under which we are authorized to grant awards of stock, options, and other stock-based awards for up to 7,500,000 shares of Common Stock of our indirect parent, DJO, subject to adjustment in certain events.

 

Options issued under the 2007 Stock Incentive Plan can be either incentive stock options or non-qualified stock options. The exercise price of stock options granted will not be less than 100% of the fair market value of the underlying shares on the date of grant, and will expire no more than ten years from the date of grant. We adopted a form of non-statutory stock option agreement (the DJO Form Option Agreement) for employee stock option awards under the 2007 Stock Incentive Plan. Under the DJO Form Option Agreement, one-third of each stock option grant will vest over a specified period of time (typically five years from the date of grant) contingent solely upon the awardees’ continued employment with us (the Time-Based Tranche). As initially adopted, another one-third of stock options were to vest over a specified performance period (typically five years) from the date of grant upon the achievement of certain pre-determined performance targets based on Adjusted EBITDA and free cash flow, as defined (the Performance-Based Tranche). As amended in March 2009, the final one-third of stock options will vest based upon achieving a minimum internal rate of return (IRR) and a minimum return of money on invested capital (MOIC), as defined; each with respect to Blackstone’s aggregate investment in DJO’s capital stock, to be achieved by Blackstone following a liquidation of all or a portion of its investment in DJO’s capital stock (the Enhanced Market Return Tranche).

 

In March 2010, DJO’s Compensation Committee of the Board of Directors approved further modifications to the terms of the outstanding options and the DJO Form Option Agreements. The vesting terms of the Time-Based Tranche and Enhanced Market Return Tranche remain the same as discussed above. As modified, the financial performance targets for future years of the Performance-Based Tranche were replaced by new IRR and MOIC targets, similar to the Enhanced Market Return Tranche, each measured with respect to Blackstone’s aggregate investment in DJO’s capital stock, to be achieved by Blackstone following a liquidation of all or a portion of its investment in DJO capital stock (referred to hereafter as the Market Return Tranche). As a result of this modification, the Market Return Tranche has both a performance component and a market condition component.

 

Options granted under the 2007 Stock Incentive Plan contain change-in-control provisions that would result in accelerated vesting of the Time-Based Tranche upon the occurrence of a change-in-control. Specifically, the Time-Based Tranche would become immediately exercisable upon the occurrence of a change-in-control if the optionee remains in continuous employment of the Company until the consummation of the change-in-control. However, this change-in-control provision does not apply to the Market Return or Enhanced Market Return Tranches.

 

During the three months ended April 2, 2011 we did not grant any stock options. During the three months ended April 3, 2010, we granted 194,050 stock options with a weighted average grant date fair value of $6.61 per share for options in the Time-Based Tranche, and an exercise price of $16.46 per share.

 

The following table summarizes certain assumptions we used to estimate the fair value of the Time-Based Tranche of stock options granted during the three months ended April 3, 2010:

 
| Expected volatility           |   | 34.5 | %      |
|-------------------------------|--------|------|--------|
| Risk-free interest rate       |   | 3.0  | %      |
| Expected years until exercise |   | 6.4  |   |
| Expected dividend yield       |   | 0.0  | %      |

 

We recorded non-cash stock-based compensation expense of $0.8 million and $0.4 million for the three months ended April 2, 2011 and April 3, 2010, respectively, for options granted to employees. During each of the periods presented, we only recognized non-cash compensation expense for options in the Time-Based Tranche, as the performance and market components of the Market-Return and Enhanced Market-Return Tranches are not deemed probable at this time. Included in stock-based compensation expense for the three months ended April 2, 2011 is $0.3 million of incremental expense associated with the modification of the terms of options granted to an executive officer.

 

During each of the three months ended April 2, 2011 and April 3, 2010, we recognized non-cash compensation expense of $0.1 million for options granted to non-employees.

 

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** **

**12. EQUITY**

 

In connection with the DJO Merger in November 2007, certain members of DJO management elected to rollover certain options held by them that had not been exercised at or prior to the effective time of the DJO Merger. Such rollover options were converted to options to purchase 1,912,577 shares of DJO’s common stock under the 2007 Stock Incentive Plan on a tax-deferred basis (Rollover Options). The fair value of these fully vested Rollover Options was $15.2 million and was recorded as a component of the cost of the DJO Merger.

 

During the three months ended April 2, 2011, we entered into an agreement to repurchase a total of 355,155 shares of fully vested Rollover Options from an executive officer for total cash consideration of $2.0 million, which represents the excess of the fair market value of the shares over their exercise price. This amount is included in member capital in our unaudited condensed consolidated balance sheet as of April 2, 2011.

 

**13.  RELATED PARTY TRANSACTIONS**

 

Blackstone Management Partners V L.L.C. (BMP), an affiliate of our major shareholder, provides certain monitoring, advisory and consulting services to us for an annual monitoring fee equal to the greater of $7.0 million or 2% of consolidated EBITDA as defined in the Transaction and Monitoring Fee Agreement, payable in the first quarter of each year. The monitoring fee agreement will continue until the earlier of November 2019, or such date as DJO and BMP may mutually determine. DJO has agreed to indemnify BMP and its affiliates, directors, officers, employees, agents and representatives from and against all liabilities relating to the services contemplated by the Transaction and Monitoring Fee Agreement and the engagement of BMP pursuant to, and the performance of BMP and its affiliates of the services contemplated by, the Transaction and Monitoring Fee Agreement. At any time in connection with or in anticipation of a change of control of DJO, a sale of all or substantially all of DJO’s assets or an initial public offering of common stock of DJO, BMP may elect to receive, in lieu of remaining annual monitoring fee payments, a single lump sum cash payment equal to the then-present value of all then-current and future annual monitoring fees payable under the Transaction and Monitoring Fee Agreement, assuming a hypothetical termination date of the agreement to be November 2019. For each of the three month periods presented, we recognized $1.75 million related to the annual monitoring fee, which is recorded as a component of selling, general and administrative expense in our unaudited condensed consolidated statements of operations.

 

**14.  COMMITMENTS AND CONTINGENCIES**

 

The manufacture and sale of orthopedic devices and related products exposes us to a significant risk of product liability claims. From time to time, we have been, and we are currently, subject to a number of product liability claims alleging that the use of our products resulted in adverse effects. Even if we are successful in defending against any liability claims, such claims could nevertheless distract our management, result in substantial costs, harm our reputation, adversely affect the sales of all our products and otherwise harm our business. If there is a significant increase in the number of product liability claims, our business could be adversely affected.

 

*Pain Pump Litigation*

 

We are currently named as one of several defendants in a number of product liability lawsuits involving approximately 80 plaintiffs, including a lawsuit in Canada seeking class action status, related to a disposable drug infusion pump product (pain pump) manufactured by two third party manufacturers that we distributed through our Bracing and Vascular Segment. We sold pumps manufactured by one manufacturer from 1999 to 2003 and then sold pumps manufactured by a second manufacturer from 2003 to 2009. We discontinued our sale of these products in the second quarter of 2009. These cases have been brought against the manufacturers and certain distributors of these pumps, and in some cases, the manufacturers of the anesthetics used in these pumps. All of these lawsuits allege that the use of these pumps with certain anesthetics for prolonged periods after certain shoulder surgeries has resulted in cartilage damage to the plaintiffs. The lawsuits allege damages ranging from unspecified amounts to claims of up to $10 million. Many of the lawsuits which have been filed in the past three years have named multiple pain pump manufacturers and distributors without having established which manufacturer manufactured or sold the pump in issue. In the past three years, we have been dismissed from a large number of cases when product identification was later established showing that we did not sell the pump at issue. At present, we are named in approximately 20 lawsuits in which product identification has yet to be determined and, as a result, we believe that we will be dismissed from a meaningful number of such cases in the future. In addition, we are named in approximately 6 cases in which it appears we did not distribute the pump in issue and expect to be dismissed in the future. To date, we are aware of only two pain pump trials which have gone to verdict, one in early 2010 which involved a manufacturer whose pump we did not sell and one in September 2010 involving pain pumps that DJO sold to two plaintiffs. In the earlier trial, the plaintiff obtained a verdict of approximately $5.5 million against the manufacturer. In the second trial involving DJO, the jury rendered a verdict in favor of DJO and its manufacturer on all counts as to two plaintiffs and a verdict on all counts for the manufacturer as to a third plaintiff who had sued only the manufacturer. In the past six months, we have entered into settlements with plaintiffs in approximately 30 pain pump lawsuits. Of these, we have settled approximately 20 cases in joint settlements involving our first manufacturer and we have settled approximately 8 cases involving our second manufacturer. In each of these settlements, the manufacturer’s carrier has made some contribution to our settlement amount or any joint settlement, but we are seeking indemnity for the balance of our costs.

 

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*Indemnity and Insurance Coverage Related to Pain Pump Claims*

 

We have sought indemnity and tendered the defense of the pain pump cases to the two manufacturers who supplied these pumps to us, to their products liability carriers and to our products liability carriers. These lawsuits are about equally divided between the two manufacturers. Both manufacturers have rejected our tenders of indemnity. Until early 2010, the base policy for one of the manufacturers was paying for our defense, but that policy has been exhausted by defense costs of the Company and the manufacturer and by settlements. A second policy covering later policy periods has been significantly eroded by defense costs of the Company and the manufacturer and settlements, and we have been informed that no amounts remain under that policy. This manufacturer has ceased operations, has little assets and no additional insurance coverage. The Company has asserted indemnification rights against the successor to this manufacturer. The base policy for the other manufacturer has been exhausted and the excess liability carriers for that manufacturer have not accepted coverage for the Company and are not expected to provide for its defense. The Company and this manufacturer have been cooperating in jointly negotiating settlements of those lawsuits in which both parties are named. Our products liability carriers have accepted coverage of these cases, subject to a reservation of the right to deny coverage for customary matters, including punitive damages and off-label promotion. In August 2010, one of our excess carriers for the period ending July 1, 2010 and for the supplemental extended reporting period (SERP) discussed below, which is insuring $10 million in excess of $25 million, informed us that it has reserved its right to rescind the policy based on an alleged failure by us and our insurance broker to disclose material information. We disagree with this allegation and are seeking to resolve the issue with this carrier. We could be exposed to material liabilities if our insurance coverage is not available or inadequate and the resources of the two manufacturers, including their respective products liability insurance policies, are unavailable or insufficient to pay the defense costs and settlements or judgments in these cases.

 

*Pain Pump-Related Health Insurance Portability and Accountability Act (HIPAA) Subpoena*

 

On August 2, 2010, we were served with a subpoena under HIPAA seeking numerous documents related to our activities involving the pain pumps discussed above. The subpoena which was issued by the United States Attorney’s Office, Central District of California, refers to an official investigation by the DOJ and the FDA of Federal health care offenses. We have produced documents that are responsive to the subpoena. We believe that our actions related to our prior distribution of these pain pumps have been in compliance with applicable legal standards. We can make no assurance as to the resources that will be needed to respond to any follow-up requests to the subpoena or as to the final outcome of any investigation or further action.

 

*Cold Therapy Litigation*

 

Since mid-2010, we have been named in seven multi-plaintiff lawsuits involving a total of 180 plaintiffs, alleging that the plaintiffs had been injured following use of certain cold therapy products manufactured by the Company. These lawsuits are in their early stages of discovery. The complaints are not specific as to the nature of the injuries, but allege various product liability theories, including inadequate warnings regarding the risks associated with the use of cold therapy and failure to incorporate certain safety features into the design. No specific dollar amounts of damages are alleged and as of April 2, 2011, we cannot estimate a range of potential loss. We intend to defend these matters aggressively.

 

*Our Product Liability Insurance Coverage*

 

We maintain product liability insurance that is subject to annual renewal. Our current policy covers claims reported between July 1, 2010 and June 30, 2011. No carriers were prepared to cover claims for this reporting period related to the pain pump products described above and therefore our current policies exclude coverage for those products. For the current policy year, we maintain coverage limits (together with excess policies) of up to $50 million, with self-insured retentions of $500,000 per claim for claims relating to our cold therapy units, $500,000 per claim for claims relating to invasive products, $75,000 per claim for claims relating to non-invasive products other than our cold therapy products, and an aggregate self-insured retention of $2.25 million. We purchased SERP coverage for our $80 million limit product liability policy that expired on June 30, 2010, and this supplemental coverage allows us to report pain pump claims beyond the end of the prior policy. Except for the additional excess coverage mentioned below, this SERP coverage does not provide additional limits to the aggregate $80 million limits on the prior policy but it does provide that these limits will remain available for pain pump claims reported for an extended period of time. Specifically, pain pump claims may be reported under the $10 million base policy for an indefinite period of time and for a period of five years under the excess layers (until such limits are eroded). We also purchased additional coverage of $25 million in excess of the $80 million limits with a five year reporting period. Thus, the SERP coverage has a total limit of $105 million (less amounts paid for claims reported under the prior policy period). This coverage is subject to a self-insured retention of $500,000 per claim for claims related to pain pumps, which has

 

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been satisfied. Our two product liability policies prior to the policy that expired on June 30, 2010 cover claims reported between July 1, 2007 and February 15, 2008 and between February 15, 2008 and July 1, 2009, respectively. The 2007-2008 policy provides for coverage (together with excess policies) of up to a limit of $20 million and the 2008-2009 policy provides for coverage (together with excess policies) of up to a limit of $25 million. Certain of the pain pump cases described above were reported under and are covered by these two policies, with the majority of cases covered by the 2009-2010 policy. Based on the claims made to date, two defense verdicts on matters which have proceeded to trial and several settlements, we believe we have adequate insurance coverage for our product liability claims. However, if a product liability claim or series of claims is brought against us for uninsured liabilities or there is an increase in claims which is in excess of our available insurance coverage, our business could suffer materially.

 

*BGS Qui Tam Action and HIPAA Subpoena*

 

On April 15, 2009, we became aware of a *qui tam*action filed in Federal Court in Boston, Massachusetts in March 2005 and amended in December 2007 that names us as a defendant along with each of the other companies that manufactures and sells external bone growth stimulators, as well as The Blackstone Group L.P., an affiliate of our principal stockholder, and the principal stockholder of one of the other companies in the bone growth stimulation business. This case is captioned United States *ex rel.*Beirman v. Orthofix International, N.V., *et al.*, Civil Action No. 05-10557 (D. Mass.). The case was sealed when originally filed and unsealed in March 2009. The plaintiff, or relator, alleges that the defendants have engaged in Medicare fraud and violated Federal and state false claims acts from the time of the original introduction of the devices by each defendant to the present by seeking reimbursement for bone growth stimulators as a purchased item rather than a rental item. The relator also alleges that the defendants are engaged in other marketing practices constituting violations of the Federal and various state anti-kickback statutes. On December 4, 2009, we filed a motion to dismiss the relator’s complaint. The relator filed a second amended complaint in May 2010 that, among other things, dropped The Blackstone Group as a defendant. We filed another motion to dismiss directed at the second amended complaint, and that motion has been denied. The case is proceeding to the discovery phase. Shortly before becoming aware of the *qui**tam*action, we were advised that our bone growth stimulator business was the subject of an investigation by the DOJ, and on April 10, 2009, we were served with a subpoena under HIPAA seeking numerous documents relating to the marketing and sale by us of bone growth stimulators. On September 21, 2009, we were served with a second HIPAA subpoena related to this DOJ investigation seeking additional documents relating to the marketing and sale by us of bone growth stimulators. We believe that these subpoenas are related to the DOJ’s investigation of the allegations in the *qui tam*action, although the DOJ has decided not to intervene in the *qui tam*action at this time. We believe that our marketing practices in the bone growth stimulation business are in compliance with applicable legal standards and we intend to defend this case and investigation vigorously. We can make no assurance as to the resources that will be needed to respond to these matters or the final outcome of such action, and as of April 2, 2011, we cannot estimate a range of potential loss, fines or damages.

 

**15. SEGMENT AND GEOGRAPHIC INFORMATION**

 

We provide a broad array of orthopedic rehabilitation and regeneration products, as well as surgical implants to customers in the United States and abroad.

 

During the first quarter of 2011, we changed the name of our Bracing and Supports Segment to Bracing and Vascular Segment to reflect the addition of our recent acquisitions, which have increased our focus on the vascular market. This segment includes the U.S. results of operations attributable to ETI, Circle City and BetterBraces.com, from their respective dates of acquisition (See Note 2). This change had no impact on previously reported segment information.

 

We currently develop, manufacture and distribute our products through the following four operating segments:

 

***Recovery Sciences Segment***

 

Our Recovery Sciences Segment, which generates its revenues in the United States, is divided into four main businesses:

 

·                  *Empi.*  Our Empi business unit offers our home electrotherapy, iontophoresis, and home traction products. We primarily sell these products directly to patients or to physical therapy clinics. For products sold to patients, we arrange billing to the patients and their third party payors.

 

·                  *Regeneration*.  Our Regeneration business unit primarily sells our bone growth stimulation products. We sell these products either directly to patients or to independent distributors. For products sold to patients, we arrange billing to the patients and their third party payors.

 

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·                  *Chattanooga.*  Our Chattanooga business unit offers products in the clinical rehabilitation market in the categories of clinical electrotherapy devices, clinical traction devices, and other clinical products and supplies such as treatment tables, continuous passive motion (CPM) devices and dry heat therapy.

 

·                  *Athlete Direct.*  Our Athlete Direct business unit offers consumers ranging from fitness enthusiasts to competitive athletes our Compex electrostimulation device, which is used in athletic training programs to aid muscle development and to accelerate muscle recovery after training sessions.

 

***Bracing and Vascular Segment***

 

Our Bracing and Vascular Segment, which generates its revenues in the United States, offers our rigid knee bracing products, orthopedic soft goods, cold therapy products, vascular systems, and compression therapy products, primarily under our DonJoy, ProCare and Aircast brands. This segment also includes our OfficeCare business, through which we maintain an inventory of soft goods and other products at healthcare facilities, primarily orthopedic practices, for immediate distribution to patients.

 

***International Segment***

 

Our International Segment, which generates most of its revenues in Europe, sells all of our products and certain third party products through a combination of direct sales representatives and independent distributors.

 

***Surgical Implant Segment***

 

Our Surgical Implant Segment, which generates its revenues in the United States, develops, manufactures and markets a wide variety of knee, hip and shoulder implant products that serve the orthopedic reconstructive joint implant market.

 

Information regarding our reportable business segments is presented below (in thousands). Segment results exclude the impact of amortization of intangible assets, certain general corporate expenses, and charges related to various integration activities, as defined by management. The accounting policies of the reportable segments are the same as the accounting policies of the Company. We allocate resources and evaluate the performance of segments based on net sales, gross profit, operating income and other non-GAAP measures as defined. We do not allocate assets to reportable segments because a significant portion of our assets are shared by segments.

 
| ** **                                            | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                            | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
| **Net sales:**                                        |       |                             |       |   |   |
| Recovery Sciences Segment                             |       | $                                | 85,158     |   | $ | 84,204 |   |
| Bracing and Vascular Segment                          |       | 78,179                           |       | 75,016 |   |
| International Segment                                 |       | 69,865                           |       | 63,894 |   |
| Surgical Implant Segment                              |       | 16,509                           |       | 16,962 |   |
|                                                  |       | $                                | 249,711    |   | $ | 240,076 |   |
| **Gross profit:**                                     |       |                             |       |   |   |
| Recovery Sciences Segment                             |       | $                                | 64,754     |   | $ | 62,611 |   |
| Bracing and Vascular Segment                          |       | 42,687                           |       | 41,361 |   |
| International Segment                                 |       | 39,549                           |       | 37,729 |   |
| Surgical Implant Segment                              |       | 11,888                           |       | 13,462 |   |
| Expenses not allocated to segments and   eliminations |       | (2,323                           | )          | (2,441 | ) |
|                                                  |       | $                                | 156,555    |   | $ | 152,722 |   |
| **Operating income:**                                 |       |                             |       |   |   |
| Recovery Sciences Segment                             |       | $                                | 23,679     |   | $ | 25,013 |   |
| Bracing and Vascular Segment                          |       | 14,396                           |       | 15,635 |   |
| International Segment                                 |       | 13,203                           |       | 15,318 |   |
| Surgical Implant Segment                              |       | 343                              |       | 2,748 |   |
| Expenses not allocated to segments and   eliminations |       | (39,702                          | )          | (41,143 | ) |
|                                                  |       | $                                | 11,919     |   | $ | 17,571 |   |

 

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**Geographic Area**

 

Following are our net sales by geographic area, based on location of customer (in thousands):

 
| ** **                           | ** ** | **Three Months Ended** | ** ** |
|--------------------------------------|------------|----------------------------------|------------|
| ** **                           | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
| **Net sales:**                       |       |                             |       |   |   |
| United States                        |       | $                                | 179,792    |   | $ | 172,504 |   |
| Germany                              |       | 23,200                           |       | 21,072 |   |
| Other Europe, Middle East and Africa |       | 27,689                           |       | 25,806 |   |
| Asia Pacific                         |       | 5,685                            |       | 6,233 |   |
| Other                                |       | 13,345                           |       | 14,461 |   |
|                                 |       | $                                | 249,711    |   | $ | 240,076 |   |

 

**16.  SUPPLEMENTAL GUARANTOR CONDENSED CONSOLIDATING FINANCIAL STATEMENTS**

 

DJOFL and its direct wholly owned subsidiary, DJO Finco, issued the 10.875% Notes with an aggregate principal amount of $575.0 million and $100.0 million on November 20, 2007 and January 20, 2010, respectively. In October 2010, DJOFL and DJO Finco issued $300.0 million aggregate principal amount of 9.75% Notes, and used a portion of the proceeds to repurchase $200.0 million aggregate principal amount of 11.75% Notes, which were issued on November 3, 2006. DJO Finco was formed solely to act as a co-issuer of the notes, has only nominal assets and does not conduct any operations. The Indentures generally prohibit DJO Finco from holding any assets, becoming liable for any obligations, or engaging in any business activity. The 10.875% Notes are jointly and severally, fully and unconditionally guaranteed, on an unsecured senior basis by all of DJOFL’s domestic subsidiaries (other than the co-issuer) that are 100% owned, directly or indirectly, by DJOFL (the Guarantors). The 9.75% Notes are jointly and severally, fully and unconditionally guaranteed, on an unsecured senior subordinated basis by the Guarantors. Our foreign subsidiaries (the Non-Guarantors) do not guarantee our notes. The Guarantors also unconditionally guarantee the Senior Secured Credit Facility.

 

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The following tables present the financial position, results of operations and cash flows of DJOFL, the Guarantors, the Non-Guarantors and certain eliminations for the periods presented.

 

**DJO Finance LLC**

**Unaudited Condensed Consolidating Balance Sheets**

**As of April 2, 2011**

(in thousands)

 
| ** **                                              | ** ** | **DJOFL** | ** ** | **Guarantors** | ** ** | **Non -   Guarantors** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|---------------------------------------------------------|------------|-----------|------------|----------------|------------|-----------------------------|------------|------------------|------------|------------------|------------|
| **Assets**                                              |       |      |       |           |       |                        |       |             |       |             |       |
| Current assets:                                         |       |      |       |           |       |                        |       |             |       |             |       |
| Cash and cash equivalents                               |       | $         | 10,153     |           | $          | 2,206                       |       | $                | 26,232     |             | $          | — |   | $ | 38,591 |   |
| Accounts receivable, net                                |       | —    |       | 118,761        |       | 41,711                      |       | —           |       | 160,472          |       |
| Inventories, net                                        |       | —    |       | 92,253         |       | 26,857                      |       | (7,575           | )          | 111,535          |       |
| Deferred tax assets, net                                |       | —    |       | 47,700         |       | 430                         |       | (146             | )          | 47,984           |       |
| Prepaid expenses and other current assets               |       | 120       |       | 17,354         |       | 3,149                       |       | 2,630            |       | 23,253           |       |
| Total current assets                                    |       | 10,273    |       | 278,274        |       | 98,379                      |       | (5,091           | )          | 381,835          |       |
| Property and equipment, net                             |       | —    |       | 85,257         |       | 14,201                      |       | (5,555           | )          | 93,903           |       |
| Goodwill                                                |       | —    |       | 1,135,763      |       | 116,994                     |       | (31,551          | )          | 1,221,206        |       |
| Intangible assets, net                                  |       | —    |       | 1,084,231      |       | 37,491                      |       | —           |       | 1,121,722        |       |
| Investment in subsidiaries                              |       | 1,297,699 |       | 1,674,527      |       | 151,466                     |       | (3,123,692       | )          | —           |       |
| Intercompany receivables                                |       | 1,059,392 |       | —         |       | —                      |       | (1,059,392       | )          | —           |       |
| Other non-current assets                                |       | 32,336    |       | 1,997          |       | 1,465                       |       | —           |       | 35,798           |       |
| Total assets                                            |       | $         | 2,399,700  |           | $          | 4,260,049                   |       | $                | 419,996    |             | $          | (4,225,281 | ) | $ | 2,854,464 |   |
|                                                    |       |      |       |           |       |                        |       |             |       |             |       |
| **Liabilities and Equity**                              |       |      |       |           |       |                        |       |             |       |             |       |
| Current liabilities:                                    |       |      |       |           |       |                        |       |             |       |             |       |
| Accounts payable                                        |       | $         | —     |           | $          | 47,487                      |       | $                | 8,295      |             | $          | — |   | $ | 55,782 |   |
| Current portion of debt and capital lease   obligations |       | 8,782     |       | 40             |       | —                      |       | —           |       | 8,822            |       |
| Other current liabilities                               |       | 46,646    |       | 62,236         |       | 24,673                      |       | 2,393            |       | 135,948          |       |
| Total current liabilities                               |       | 55,428    |       | 109,763        |       | 32,968                      |       | 2,393            |       | 200,552          |       |
| Long-term debt and capital lease obligations            |       | 1,856,215 |       | 29             |       | 1                           |       | —           |       | 1,856,245        |       |
| Deferred tax liabilities, net                           |       | —    |       | 282,522        |       | 12,084                      |       | —           |       | 294,606          |       |
| Intercompany payables, net                              |       | —    |       | 852,532        |       | 206,860                     |       | (1,059,392       | )          | —           |       |
| Other long-term liabilities                             |       | —    |       | 11,921         |       | 602                         |       | —           |       | 12,523           |       |
| Total liabilities                                       |       | 1,911,643 |       | 1,256,767      |       | 252,515                     |       | (1,056,999       | )          | 2,363,926        |       |
| Noncontrolling interests                                |       | —    |       | —         |       | 2,481                       |       | —           |       | 2,481            |       |
| Total membership equity                                 |       | 488,057   |       | 3,003,282      |       | 165,000                     |       | (3,168,282       | )          | 488,057          |       |
| Total liabilities and equity                            |       | $         | 2,399,700  |           | $          | 4,260,049                   |       | $                | 419,996    |             | $          | (4,225,281 | ) | $ | 2,854,464 |   |

 

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**DJO Finance LLC**

**Unaudited Condensed Consolidating Statements of Operations**

**For the Three Months Ended April 2, 2011**

(in thousands)

 
| ** **                                                                 | ** ** | **DJOFL** | ** ** | **Guarantors** | ** ** | **Non -   Guarantors** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------------------------------|------------|-----------|------------|----------------|------------|-----------------------------|------------|------------------|------------|------------------|------------|
|                                                                       |       |      |       |           |       |                        |       |             |       |             |       |
| Net sales                                                                  |       | $         | —     |           | $          | 203,089                     |       | $                | 65,828     |             | $          | (19,206 | ) | $ | 249,711 |   |
| Cost of sales (exclusive of amortization of   intangible assets of $9,358) |       | —    |       | 76,175         |       | 41,577                      |       | (24,596          | )          | 93,156           |       |
| Gross profit                                                               |       | —    |       | 126,914        |       | 24,251                      |       | 5,390            |       | 156,555          |       |
|                                                                       |       |      |       |           |       |                        |       |             |       |             |       |
| Operating expenses:                                                        |       |      |       |           |       |                        |       |             |       |             |       |
| Selling, general and administrative                                        |       | —    |       | 94,220         |       | 22,844                      |       | —           |       | 117,064          |       |
| Research and development                                                   |       | —    |       | 5,900          |       | 1,243                       |       | —           |       | 7,143            |       |
| Amortization of intangible assets                                          |       | —    |       | 19,417         |       | 1,012                       |       | —           |       | 20,429           |       |
|                                                                       |       | —    |       | 119,537        |       | 25,099                      |       | —           |       | 144,636          |       |
| Operating income (loss)                                                    |       | —    |       | 7,377          |       | (848                        | )          | 5,390            |       | 11,919           |       |
|                                                                       |       |      |       |           |       |                        |       |             |       |             |       |
| Other income (expense):                                                    |       |      |       |           |       |                        |       |             |       |             |       |
| Interest expense                                                           |       | (41,031   | )          | (7             | )          | (89                         | )          | —           |       | (41,127          | )          |
| Interest income                                                            |       | 4         |       | 77             |       | 29                          |       | —           |       | 110              |       |
| Loss on modification of debt                                               |       | (2,065    | )          | —         |       | —                      |       | —           |       | (2,065           | )          |
| Other income, net                                                          |       | —    |       | 1,342          |       | 1,430                       |       | —           |       | 2,772            |       |
| Intercompany income (expense)                                              |       | 6,539     |       | (5,765         | )          | (1,337                      | )          | 563              |       | —           |       |
| Equity in income of subsidiaries, net                                      |       | 15,314    |       | —         |       | —                      |       | (15,314          | )          | —           |       |
|                                                                       |       | (21,239   | )          | (4,353         | )          | 33                          |       | (14,751          | )          | (40,310          | )          |
| Income (loss) before income taxes                                          |       | (21,239   | )          | 3,024          |       | (815                        | )          | (9,361           | )          | (28,391          | )          |
| Income tax benefit (expense)                                               |       | —    |       | 8,290          |       | (823                        | )          | —           |       | 7,467            |       |
| Net income (loss)                                                          |       | (21,239   | )          | 11,314         |       | (1,638                      | )          | (9,361           | )          | (20,924          | )          |
| Net income attributable to noncontrolling   interests                      |       | —    |       | —         |       | (315                        | )          | —           |       | (315             | )          |
| Net income (loss) attributable to DJOFL                                    |       | $         | (21,239    | )              | $          | 11,314                      |       | $                | (1,953     | )                | $          | (9,361 | ) | $ | (21,239 | ) |

 

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**DJO Finance LLC**

**Unaudited Condensed Consolidating Statements of Cash Flows**

**For the Three Months Ended April 2, 2011**

(in thousands)

 
| ** **                                                                                                     | ** ** | **DJOFL** | ** ** | **Guarantors** | ** ** | **Non-   Guarantors** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|-----------|------------|----------------|------------|-----------------------|------------|------------------|------------|------------------|------------|
| Cash Flows From Operating Activities:                                                                          |       |      |       |           |       |                  |       |             |       |             |       |
| Net income (loss)                                                                                              |       | $         | (21,239    | )              | $          | 11,314                |       | $                | (1,638     | )                | $          | (9,361 | ) | $ | (20,924 | ) |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Adjustments to reconcile net income (loss)   to net cash provided by (used in) operating activities: |       |      |       |           |       |                  |       |             |       |             |       |
| Depreciation                                                                                                   |       | —    |       | 5,450          |       | 1,304                 |       | 3                |       | 6,757            |       |
| Amortization of intangible assets                                                                              |       | —    |       | 19,417         |       | 1,012                 |       | —           |       | 20,429           |       |
| Amortization of debt issuance costs and non-cash   interest expense                                            |       | 1,959     |       | —         |       | —                |       | —           |       | 1,959            |       |
| Stock-based compensation expense                                                                               |       | —    |       | 906            |       | —                |       | —           |       | 906              |       |
| Loss on disposal of assets, net                                                                                |       | —    |       | 128            |       | 108                   |       | —           |       | 236              |       |
| Deferred income tax benefit                                                                                    |       | (598      | )          | (7,692         | )          | (120                  | )          | —           |       | (8,410           | )          |
| Provision for doubtful accounts and sales returns                                                              |       | —    |       | 6,151          |       | 200                   |       | —           |       | 6,351            |       |
| Inventory reserves                                                                                             |       | —    |       | 1,137          |       | 709                   |       | —           |       | 1,846            |       |
| Equity in income of subsidiaries, net                                                                          |       | (15,314   | )          | —         |       | —                |       | 15,314           |       | —           |       |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Changes in operating assets and liabilities:                                                                   |       |      |       |           |       |                  |       |             |       |             |       |
| Accounts receivable                                                                                            |       | —    |       | (8,399         | )          | (6,541                | )          | —           |       | (14,940          | )          |
| Inventories                                                                                                    |       | —    |       | (5,931         | )          | 3,803                 |       | (3,281           | )          | (5,409           | )          |
| Prepaid expenses and other assets                                                                              |       | 44        |       | 1,579          |       | (523                  | )          | 2                |       | 1,102            |       |
| Accounts payable and other current liabilities                                                                 |       | 23,956    |       | 13,906         |       | 916                   |       | 483              |       | 39,261           |       |
| Net cash provided by (used in)   operating activities                                                     |       | (11,192   | )          | 37,966         |       | (770                  | )          | 3,160            |       | 29,164           |       |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Cash Flows From Investing Activities:                                                                          |       |      |       |           |       |                  |       |             |       |             |       |
| Cash paid in connection with acquisitions, net of   cash acquired                                              |       | —    |       | (59,644        | )          | —                |       | —           |       | (59,644          | )          |
| Purchases of property and equipment                                                                            |       | —    |       | (8,151         | )          | (1,688                | )          | (2               | )          | (9,841           | )          |
| Other investing activities, net                                                                                |       | —    |       | 284            |       | 1                     |       | —           |       | 285              |       |
| Net cash used in investing activities                                                                     |       | —    |       | (67,511        | )          | (1,687                | )          | (2               | )          | (69,200          | )          |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Cash Flows From Financing Activities:                                                                          |       |      |       |           |       |                  |       |             |       |             |       |
| Intercompany                                                                                                   |       | (35,038   | )          | 31,141         |       | 7,055                 |       | (3,158           | )          | —           |       |
| Proceeds from issuance of debt                                                                                 |       | 57,000    |       | —         |       | —                |       | —           |       | 57,000           |       |
| Repayments of debt and capital lease obligations                                                               |       | (17,195   | )          | (11            | )          | (1                    | )          | —           |       | (17,207          | )          |
| Payment of debt issuance costs                                                                                 |       | (23       | )          | —         |       | —                |       | —           |       | (23              | )          |
| Dividend paid by subsidiary to owners of   noncontrolling interests                                            |       | —    |       | —         |       | (682                  | )          | —           |       | (682             | )          |
| Net cash provided by financing activities                                                                      |       | 4,744     |       | 31,130         |       | 6,372                 |       | (3,158           | )          | 39,088           |       |
| Effect of exchange rate changes on cash   and cash equivalents                                            |       | —    |       | —         |       | 1,407                 |       | —           |       | 1,407            |       |
| Net increase (decrease) in cash and cash   equivalents                                                         |       | (6,448    | )          | 1,585          |       | 5,322                 |       | —           |       | 459              |       |
| Cash and cash equivalents at beginning of period                                                               |       | 16,601    |       | 621            |       | 20,910                |       | —           |       | 38,132           |       |
| Cash and cash equivalents at end of period                                                                     |       | $         | 10,153     |           | $          | 2,206                 |       | $                | 26,232     |             | $          | — |   | $ | 38,591 |   |

 

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**DJO Finance LLC**

**Condensed Consolidating Balance Sheets**

**As of December 31, 2010**

(in thousands)

 
| ** **                                              | ** ** | **DJOFL** | ** ** | **Guarantors** | ** ** | **Non-   Guarantors** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|---------------------------------------------------------|------------|-----------|------------|----------------|------------|-----------------------|------------|------------------|------------|------------------|------------|
| **Assets**                                              |       |      |       |           |       |                  |       |             |       |             |       |
| Current assets:                                         |       |      |       |           |       |                  |       |             |       |             |       |
| Cash and cash equivalents                               |       | $         | 16,601     |           | $          | 621                   |       | $                | 20,910     |             | $          | — |   | $ | 38,132 |   |
| Accounts receivable, net                                |       | —    |       | 112,250        |       | 33,273                |       | —           |       | 145,523          |       |
| Inventories, net                                        |       | —    |       | 84,569         |       | 29,611                |       | (11,080          | )          | 103,100          |       |
| Deferred tax assets, net                                |       | —    |       | 47,805         |       | 402                   |       | (146             | )          | 48,061           |       |
| Prepaid expenses and other current assets               |       | 162       |       | 18,199         |       | 2,418                 |       | 2,640            |       | 23,419           |       |
| Total current assets                                    |       | 16,763    |       | 263,444        |       | 86,614                |       | (8,586           | )          | 358,235          |       |
| Property and equipment, net                             |       | —    |       | 77,216         |       | 13,357                |       | (5,553           | )          | 85,020           |       |
| Goodwill                                                |       | —    |       | 1,108,703      |       | 109,693               |       | (29,509          | )          | 1,188,887        |       |
| Intangible assets, net                                  |       | —    |       | 1,074,388      |       | 36,453                |       | —           |       | 1,110,841        |       |
| Investment in subsidiaries                              |       | 1,296,776 |       | 1,663,969      |       | 127,148               |       | (3,087,893       | )          | —           |       |
| Intercompany receivables                                |       | 1,003,751 |       | —         |       | —                |       | (1,003,751       | )          | —           |       |
| Other assets                                            |       | 34,115    |       | 1,177          |       | 1,479                 |       | 36               |       | 36,807           |       |
| Total assets                                            |       | $         | 2,351,405  |           | $          | 4,188,897             |       | $                | 374,744    |             | $          | (4,135,256 | ) | $ | 2,779,790 |   |
|                                                    |       |      |       |           |       |                  |       |             |       |             |       |
| **Liabilities and Equity**                              |       |      |       |           |       |                  |       |             |       |             |       |
| Current liabilities:                                    |       |      |       |           |       |                  |       |             |       |             |       |
| Accounts payable                                        |       | $         | —     |           | $          | 40,893                |       | $                | 8,054      |             | $          | — |   | $ | 48,947 |   |
| Current portion of debt and capital lease   obligations |       | 8,782     |       | 39             |       | —                |       | —           |       | 8,821            |       |
| Other current liabilities                               |       | 22,234    |       | 52,150         |       | 20,263                |       | 2,640            |       | 97,287           |       |
| Total current liabilities                               |       | 31,016    |       | 93,082         |       | 28,317                |       | 2,640            |       | 155,055          |       |
| Long-term debt and capital leases obligations           |       | 1,816,250 |       | 41             |       | —                |       | —           |       | 1,816,291        |       |
| Deferred tax liabilities, net                           |       | —    |       | 277,135        |       | 11,657                |       | 1,121            |       | 289,913          |       |
| Intercompany payables, net                              |       | —    |       | 825,647        |       | 178,104               |       | (1,003,751       | )          | —           |       |
| Other long-term liabilities                             |       | —    |       | 10,160         |       | 1,552                 |       | —           |       | 11,712           |       |
| Total liabilities                                       |       | 1,847,266 |       | 1,206,065      |       | 219,630               |       | (999,990         | )          | 2,272,971        |       |
| Noncontrolling interests                                |       | —    |       | —         |       | 2,680                 |       | —           |       | 2,680            |       |
| Total membership equity                                 |       | 504,139   |       | 2,982,832      |       | 152,434               |       | (3,135,266       | )          | 504,139          |       |
| Total liabilities and equity                            |       | $         | 2,351,405  |           | $          | 4,188,897             |       | $                | 374,744    |             | $          | (4,135,256 | ) | $ | 2,779,790 |   |

 

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** **

**DJO Finance LLC**

**Unaudited Condensed Consolidating Statements of Operations**

**For the Three Months Ended April 3, 2010**

(in thousands)

 
| ** **                                                                 | ** ** | **DJOFL** | ** ** | **Guarantors** | ** ** | **Non-   Guarantors** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------------------------------|------------|-----------|------------|----------------|------------|-----------------------|------------|------------------|------------|------------------|------------|
| Net sales                                                                  |       | $         | —     |           | $          | 210,811               |       | $                | 70,349     |             | $          | (41,084 | ) | $ | 240,076 |   |
| Cost of sales (exclusive of amortization of   intangible assets of $8,919) |       | —    |       | 83,564         |       | 43,688                |       | (39,898          | )          | 87,354           |       |
| Gross profit                                                               |       | —    |       | 127,247        |       | 26,661                |       | (1,186           | )          | 152,722          |       |
| Operating expenses:                                                        |       |      |       |           |       |                  |       |             |       |             |       |
| Selling, general and administrative                                        |       | —    |       | 90,095         |       | 20,431                |       | —           |       | 110,526          |       |
| Research and development                                                   |       | —    |       | 4,732          |       | 839                   |       | —           |       | 5,571            |       |
| Amortization of intangible assets                                          |       | —    |       | 18,077         |       | 977                   |       | —           |       | 19,054           |       |
|                                                                       |       | —    |       | 112,904        |       | 22,247                |       | —           |       | 135,151          |       |
| Operating income                                                           |       | —    |       | 14,343         |       | 4,414                 |       | (1,186           | )          | 17,571           |       |
|                                                                       |       |      |       |           |       |                  |       |             |       |             |       |
| Other income (expense):                                                    |       |      |       |           |       |                  |       |             |       |             |       |
| Interest expense                                                           |       | (40,342   | )          | (39            | )          | (58                   | )          | —           |       | (40,439          | )          |
| Interest income                                                            |       | 2         |       | 47             |       | 31                    |       | —           |       | 80               |       |
| Loss on modification of debt                                               |       | (1,096    | )          | —         |       | —                |       | —           |       | (1,096           | )          |
| Other income (expense), net                                                |       | —    |       | 1,085          |       | (731                  | )          | (38              | )          | 316              |       |
| Intercompany income (expense)                                              |       | 25,706    |       | (36,585        | )          | (756                  | )          | 11,635           |       | —           |       |
| Equity in loss of subsidiaries, net                                        |       | (17,928   | )          | —         |       | —                |       | 17,928           |       | —           |       |
|                                                                       |       | (33,658   | )          | (35,492        | )          | (1,514                | )          | 29,525           |       | (41,139          | )          |
| Income (loss) before income taxes                                          |       | (33,658   | )          | (21,149        | )          | 2,900                 |       | 28,339           |       | (23,568          | )          |
| Income tax expense                                                         |       | —    |       | (8,784         | )          | (984                  | )          | —           |       | (9,768           | )          |
| Net income (loss)                                                          |       | (33,658   | )          | (29,933        | )          | 1,916                 |       | 28,339           |       | (33,336          | )          |
| Net income attributable to   noncontrolling interests                 |       | —    |       | —         |       | (322                  | )          | —           |       | (322             | )          |
| Net income (loss) attributable to DJO Finance LLC                          |       | $         | (33,658    | )              | $          | (29,933               | )          | $                | 1,594      |             | $          | 28,339 |   | $ | (33,658 | ) |

 

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** **

**DJO Finance LLC**

**Unaudited Condensed Consolidating Statements of Cash Flows**

**For the Three Months Ended April 3, 2010**

(in thousands)

 
| ** **                                                                                                     | ** ** | **DJOFL** | ** ** | **Guarantors** | ** ** | **Non-   Guarantors** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|-----------|------------|----------------|------------|-----------------------|------------|------------------|------------|------------------|------------|
| Cash Flows From Operating Activities:                                                                          |       |      |       |           |       |                  |       |             |       |             |       |
| Net income (loss)                                                                                              |       | $         | (33,658    | )              | $          | (29,933               | )          | $                | 1,916      |             | $          | 28,339 |   | $ | (33,336 | ) |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Adjustments to reconcile net income (loss)   to net cash provided by (used in) operating activities: |       |      |       |           |       |                  |       |             |       |             |       |
| Depreciation                                                                                                   |       | —    |       | 5,625          |       | 1,218                 |       | (48              | )          | 6,795            |       |
| Amortization of intangible assets                                                                              |       | —    |       | 18,077         |       | 977                   |       | —           |       | 19,054           |       |
| Amortization of debt issuance costs and non-cash   interest expense                                            |       | 5,313     |       | —         |       | —                |       | —           |       | 5,313            |       |
| Stock-based compensation expense                                                                               |       | —    |       | 495            |       | —                |       | —           |       | 495              |       |
| Loss on disposal of assets, net                                                                                |       | —    |       | 530            |       | 30                    |       | (66              | )          | 494              |       |
| Deferred income tax expense                                                                                    |       | —    |       | 8,094          |       | 642                   |       | —           |       | 8,736            |       |
| Provision for doubtful accounts and   sales returns                                                       |       | —    |       | 8,762          |       | 195                   |       | —           |       | 8,957            |       |
| Inventory reserves                                                                                             |       | —    |       | 1,397          |       | 330                   |       | —           |       | 1,727            |       |
| Equity in loss of subsidiaries, net                                                                            |       | 17,928    |       | —         |       | —                |       | (17,928          | )          | —           |       |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Changes in operating assets and liabilities,   net of acquired assets and liabilities:                    |       |      |       |           |       |                  |       |             |       |             |       |
| Accounts receivable                                                                                            |       | —    |       | (10,918        | )          | (3,597                | )          | —           |       | (14,515          | )          |
| Inventories                                                                                                    |       | —    |       | 997            |       | (1,993                | )          | 91               |       | (905             | )          |
| Prepaid expenses and other assets                                                                              |       | 49        |       | 11,140         |       | (22,771               | )          | —           |       | (11,582          | )          |
| Accounts payable and other current liabilities                                                                 |       | 26,182    |       | 1,130          |       | 1,316                 |       | (1               | )          | 28,627           |       |
| Net cash provided by (used in)   operating activities                                                     |       | 15,814    |       | 15,396         |       | (21,737               | )          | 10,387           |       | 19,860           |       |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Cash Flows From Investing Activities:                                                                          |       |      |       |           |       |                  |       |             |       |             |       |
| Cash paid in connection with acquisitions, net of   cash acquired                                              |       | —    |       | (810           | )          | —                |       | —           |       | (810             | )          |
| Purchases of property and equipment                                                                            |       | —    |       | (3,124         | )          | (1,724                | )          | 737              |       | (4,111           | )          |
| Other investing activities, net                                                                                |       | —    |       | (283           | )          | (241                  | )          | —           |       | (524             | )          |
| Net cash used in investing activities                                                                     |       | —    |       | (4,217         | )          | (1,965                | )          | 737              |       | (5,445           | )          |
|                                                                                                           |       |      |       |           |       |                  |       |             |       |             |       |
| Cash Flows From Financing Activities:                                                                          |       |      |       |           |       |                  |       |             |       |             |       |
| Intercompany                                                                                                   |       | (14,805   | )          | 4,881          |       | 21,048                |       | (11,124          | )          | —           |       |
| Proceeds from issuance of debt                                                                                 |       | 105,000   |       | —         |       | 130                   |       | —           |       | 105,130          |       |
| Repayments of debt and capital lease obligations                                                               |       | (105,899  | )          | (287           | )          | (225                  | )          | —           |       | (106,411         | )          |
| Payment of debt issuance costs                                                                                 |       | (3,097    | )          | —         |       | —                |       | —           |       | (3,097           | )          |
| Dividend paid by subsidiary to owners of   noncontrolling interests                                            |       | —    |       | —         |       | (529                  | )          | —           |       | (529             | )          |
| Net cash provided by (used in) financing   activities                                                          |       | (18,801   | )          | 4,594          |       | 20,424                |       | (11,124          | )          | (4,907           | )          |
| Effect of exchange rate changes on cash   and cash equivalents                                            |       | —    |       | —         |       | (80                   | )          | —           |       | (80              | )          |
| Net increase (decrease) in cash and   cash equivalents                                                    |       | (2,987    | )          | 15,773         |       | (3,358                | )          | —           |       | 9,428            |       |
| Cash and cash equivalents at beginning of period                                                               |       | 6,999     |       | 17,389         |       | 20,223                |       | —           |       | 44,611           |       |
| Cash and cash equivalents at end of period                                                                     |       | $         | 4,012      |           | $          | 33,162                |       | $                | 16,865     |             | $          | — |   | $ | 54,039 |   |

 

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**17.  SUBSEQUENT EVENTS**

 

On April 7, 2011, the Issuers issued $300.0 million aggregate principal amount of 7.75% Senior Notes (7.75% Notes) maturing on April 15, 2018. Semi-annual interest of approximately $11.6 million, related to the 7.75% Notes will be payable in cash on April 15 and October 15 of each year, commencing on April 15, 2011, and will accrue from and including April 7, 2011. The 7.75% Notes are guaranteed jointly and severally and on an unsecured senior basis by each of DJOFL’s existing and future direct and indirect wholly owned domestic subsidiaries that guarantee any of DJOFL’s indebtedness or any indebtedness of DJOFL’s domestic subsidiaries or is an obligor under DJOFL’s Senior Secured Credit Facility.

 

On April 7, 2011, we acquired Rikco International, LLC, D/B/A Dr. Comfort (Dr. Comfort), a provider of therapeutic footwear, for $258.4 million using proceeds from the 7.75% Notes. The remaining proceeds from issuance of the 7.75% Notes, along with cash on hand, were used to pay $20.3 million of fees and expenses related to the acquisition of Dr. Comfort and the issuance of the 7.75% Notes, and to repay $25.4 million of borrowings outstanding under the revolving credit facility of our Senior Secured Credit Facility. We expect to complete the initial purchase price allocation during the second quarter of 2011. Fees and expenses related to the acquisition of Dr. Comfort and the issuance of the 7.75% Notes included $3.9 million of bridge financing fees paid to Credit Suisse, and $5.0 million of transaction and advisory fees paid to Blackstone Advisory Partners, L.P., an affiliate of our major shareholder, which we expensed in April 2011.

 

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

 

**Introduction**

 

This management’s discussion and analysis of financial condition and results of operations is intended to provide an understanding of our results of operations, financial condition and where appropriate, factors that may affect future performance. The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and related notes thereto as well as the other financial data included elsewhere in this Form 10-Q.

 

**Forward Looking Statements**

 

The following management’s discussion and analysis contains “forward looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that represent our expectations or beliefs concerning future events, including, but not limited to, statements regarding growth in sales of our products, profit margins and the sufficiency of our cash flow for future liquidity and capital resource needs. These forward-looking statements are further qualified by important factors that could cause actual results to differ materially from those in the forward-looking statements. The section entitled “Risk Factors” in Part II, Item 1A of this report and in our 2010 Annual Report on Form 10-K filed with the Securities and Exchange Commission (SEC) on March 3, 2011, describes these and other important risk factors that may affect our business, financial condition, results of operations, and/or liquidity. Results actually achieved may differ materially from expected results included in these statements as a result of these or other factors.

 

**Overview of Business**

 

We are a global developer, manufacturer and distributor of medical devices and services that provide solutions for musculoskeletal health, vascular health and pain management. Our products address the continuum of patient care from injury prevention to rehabilitation after surgery, injury or from degenerative disease, enabling people to regain or maintain their natural motion. Our products are used by orthopedic specialists, spine surgeons, primary care physicians, pain management specialists, physical therapists, podiatrists, chiropractors, athletic trainers and other healthcare professionals. In addition, many of our medical devices and related accessories are used by athletes and patients for injury prevention and at-home physical therapy treatment. Our product lines include rigid and soft orthopedic bracing, hot and cold therapy, bone growth stimulators, vascular therapy systems and compression garments, electrical stimulators used for pain management and physical therapy products. Our surgical implant business offers a comprehensive suite of reconstructive joint products for the hip, knee and shoulder. Our products are marketed under a portfolio of brands including Aircast®, DonJoy®, ProCare®, CMFTM, Empi®, ChattanoogaTM, DJO Surgical and Compex®.

 

**Operating Segments**

 

During the first quarter of 2011, we changed the name of our Bracing and Supports Segment to Bracing and Vascular Segment to reflect the addition of our recent acquisitions, which have increased our focus on the vascular market. This segment includes the U.S. results of operations attributable to ETI, Circle City and BetterBraces.com, from their respective dates of acquisition. This change had no impact on previously reported segment information.

 

We currently develop, manufacture and distribute our products through the following four operating segments:

 

***Recovery Sciences Segment***

 

Our Recovery Sciences Segment, which generates its revenues in the United States, is divided into four main businesses:

 

·                  *Empi.*Our Empi business unit offers our home electrotherapy, iontophoresis, and home traction products. We primarily sell these products directly to patients or to physical therapy clinics. For products sold to patients, we arrange billing to the patients and their third party payors.

 

·                  *Regeneration*. Our Regeneration business unit sells our bone growth stimulation products. We sell these products either directly to patients or to independent distributors. For products sold to patients, we arrange billing to the patients and their third party payors.

 

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·*                 **Chattanooga.*Our Chattanooga business unit offers products in the clinical rehabilitation market in the category of clinical electrotherapy devices, clinical traction devices, and other clinical products and supplies such as treatment tables, continuous passive motion (CPM) devices and dry heat therapy.

 

·                  *Athlete Direct.*Our Athlete Direct business unit offers consumers ranging from fitness enthusiasts to competitive athletes our Compex electrostimulation device, which is used in athletic training programs to aid muscle development and to accelerate muscle recovery after training sessions.

 

***Bracing and Vascular Segment***

 

Our Bracing and Vascular Segment, which generates its revenues in the United States, offers our rigid knee bracing products, orthopedic soft goods, cold therapy products, vascular systems, and compression therapy products, primarily under our DonJoy, ProCare and Aircast brands. This segment also includes our OfficeCare business, through which we maintain an inventory of soft goods and other products at healthcare facilities, primarily orthopedic practices, for immediate distribution to patients.

 

***International Segment***

 

Our International Segment, which generates most of its revenues in Europe, sells all of our products and certain third party products through a combination of direct sales representatives and independent distributors.

 

***Surgical Implant Segment***

 

Our Surgical Implant Segment, which generates its revenues in the United States, develops, manufactures and markets a wide variety of knee, hip and shoulder implant products that serve the orthopedic reconstructive joint implant market.

 

Our four operating segments enable us to reach a diverse customer base through multiple distribution channels and give us the opportunity to provide a wide range of medical devices and related products to orthopedic specialists and other healthcare professionals operating in a variety of patient treatment settings. These four segments constitute our reportable segments. See Note 15 to our unaudited condensed consolidated financial statements for additional information regarding our segments.

 

**Recent Acquisitions**

 

On January 4, 2011, we entered into a stock purchase agreement with Elastic Therapy, Inc. (ETI) and its shareholders and completed the purchase of all of the outstanding shares of capital stock of ETI. ETI is a designer and manufacturer of private label medical compression therapy products used to treat and prevent a wide range of venous disorders. The purchase price was $46.4 million. The domestic and international results of ETI are included within our Bracing and Vascular and International Segments, respectively.

 

On February 4, 2011, we purchased the assets of an e-commerce business (BetterBraces.com) which offers various bracing, cold therapy and electrotherapy products, for total consideration of $3.0 million. The results of BetterBraces.com are included within our Bracing and Vascular Segment.

 

On March 10, 2011, we entered into an asset purchase agreement with Circle City Medical, Inc. (Circle City) and its sole shareholder and completed the purchase of substantially all of the assets of Circle City. Circle City markets orthopedic soft goods and medical compression therapy products to independent pharmacies and home healthcare dealers. The purchase price was $11.7 million. The results of Circle City are included within our Bracing and Vascular Segment.

 

On April 7, 2011, we acquired Rikco International, LLC, D/B/A Dr. Comfort, a provider of therapeutic footwear, for a total purchase price of $258.4 million (see Note 17 to our unaudited condensed consolidated financial statements). We will begin reporting the results of this business within our Bracing and Vascular Segment in our Quarterly Report on Form 10-Q for the quarter ended July 2, 2011.

 

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The tables below present financial information for our reportable segments for the periods presented. Segment results exclude the impact of amortization and impairment of intangible assets, impairment of assets held for sale, certain general corporate expenses, and charges related to various integration activities, as defined by management. All prior periods presented have been restated to reflect our current reportable segments.

 
| ** **                                         | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------|------------|----------------------------------|------------|
| **($ in thousands)**                     | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
| **Recovery Sciences:**                             |       |                             |       |   |   |
| Net sales                                          |       | $                                | 85,158     |   | $ | 84,204 |   |
| Gross profit                                       |       | $                                | 64,754     |   | $ | 62,611 |   |
| Gross profit margin                                |       | 76.0                             | %          | 74.4 | % |
| Operating income                                   |       | $                                | 23,679     |   | $ | 25,013 |   |
| Operating income as a percent of net segment sales |       | 27.8                             | %          | 29.7 | % |
|                                               |       |                             |       |   |   |
| **Bracing and Vascular:**                          |       |                             |       |   |   |
| Net sales                                          |       | $                                | 78,179     |   | $ | 75,016 |   |
| Gross profit                                       |       | $                                | 42,687     |   | $ | 41,361 |   |
| Gross profit margin                                |       | 54.6                             | %          | 55.1 | % |
| Operating income                                   |       | $                                | 14,396     |   | $ | 15,635 |   |
| Operating income as a percent of net segment sales |       | 18.4                             | %          | 20.8 | % |
|                                               |       |                             |       |   |   |
| **International:**                                 |       |                             |       |   |   |
| Net sales                                          |       | $                                | 69,865     |   | $ | 63,894 |   |
| Gross profit                                       |       | $                                | 39,549     |   | $ | 37,729 |   |
| Gross profit margin                                |       | 56.6                             | %          | 59.0 | % |
| Operating income                                   |       | $                                | 13,203     |   | $ | 15,318 |   |
| Operating income as a percent of net segment sales |       | 18.9                             | %          | 24.0 | % |
|                                               |       |                             |       |   |   |
| **Surgical Implant:**                              |       |                             |       |   |   |
| Net sales                                          |       | $                                | 16,509     |   | $ | 16,962 |   |
| Gross profit                                       |       | $                                | 11,888     |   | $ | 13,462 |   |
| Gross profit margin                                |       | 72.0                             | %          | 79.4 | % |
| Operating income                                   |       | $                                | 343        |   | $ | 2,748 |   |
| Operating income as a percent of net segment sales |       | 2.1                              | %          | 16.2 | % |

 

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** **

**Results of Operations**

 

We operate our business on a manufacturing calendar, with our fiscal year always ending on December 31. Each quarter is 13 weeks, consisting of two four-week periods and one five-week period. Our first and fourth quarters may have more or fewer shipping days from year to year based on the days of the week on which holidays and December 31 fall. The quarters ended April 2, 2011 and April 3, 2010 included 65 shipping days and 64 shipping days, respectively.

 

The following table sets forth our statement of operations as a percentage of net sales ($ in thousands):

 
| ** **                                                                | ** ** | **Three Months Ended** | ** ** |
|---------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                | ** ** | **April 2,   2011**         | ** ** | **April 3,   2010** | ** ** |
|                                                                      |       |                             |       |   |   |   |   |   |   |
| Net sales                                                                 |       | $                                | 249,711    |   | 100.0 | % | $ | 240,076 |   | 100.0 | % |
| Cost of sales (exclusive of amortization of   intangible assets (1)) |       | 93,156                           |       | 37.3 |   | 87,354 |   | 36.4 |   |
| Gross profit                                                              |       | 156,555                          |       | 62.7 |   | 152,722 |   | 63.6 |   |
|                                                                      |       |                             |       |   |   |   |   |   |   |
| Operating expenses:                                                       |       |                             |       |   |   |   |   |   |   |
| Selling, general and administrative                                       |       | 117,064                          |       | 46.9 |   | 110,526 |   | 46.0 |   |
| Research and development                                                  |       | 7,143                            |       | 2.9 |   | 5,571 |   | 2.3 |   |
| Amortization of intangible assets                                         |       | 20,429                           |       | 8.2 |   | 19,054 |   | 7.9 |   |
|                                                                      |       | 144,636                          |       | 58.0 |   | 135,151 |   | 56.2 |   |
| Operating income                                                          |       | 11,919                           |       | 4.7 |   | 17,571 |   | 7.4 |   |
|                                                                      |       |                             |       |   |   |   |   |   |   |
| Other income (expense):                                                   |       |                             |       |   |   |   |   |   |   |
| Interest expense                                                          |       | (41,127                          | )          | (16.5 | ) | (40,439 | ) | (16.8 | ) |
| Interest income                                                           |       | 110                              |       | 0.0 |   | 80 |   | 0.0 |   |
| Loss on modification of debt                                              |       | (2,065                           | )          | (0.8 | ) | (1,096 | ) | (0.5 | ) |
| Other income, net                                                         |       | 2,772                            |       | 1.1 |   | 316 |   | 0.0 |   |
|                                                                      |       | (40,310                          | )          | (16.2 | ) | (41,139 | ) | (17.3 | ) |
| Loss before income taxes                                                  |       | (28,391                          | )          | (11.5 | ) | (23,568 | ) | (9.9 | ) |
| Income tax benefit (expense)                                              |       | 7,467                            |       | 3.0 |   | (9,768 | ) | (4.1 | ) |
| Net loss                                                                  |       | (20,924                          | )          | (14.5 | ) | (33,336 | ) | (14.0 | ) |
| Net income attributable to   noncontrolling interest                 |       | (315                             | )          | (0.1 | ) | (322 | ) | (0.1 | ) |
| Net loss attributable to DJO Finance LLC                             |       | $                                | (21,239    | ) | (14.6 | )% | $ | (33,658 | ) | (14.1 | )% |

 

----

(1)          Cost of sales is exclusive of amortization of intangible assets of $9,358 and $8,919 for the three months ended April 2, 2011 and April 3, 2010, respectively.

 

***Three Months Ended April 2, 2011 (first quarter 2011) compared to Three Months Ended April 3, 2010 (first quarter 2010)***

 

*Net Sales.*  Net sales for first quarter 2011 were $249.7 million as compared to $240.1 million for first quarter 2010, representing a 4.0% increase. This increase was driven primarily by increased sales across most of our business units, including the benefit of sales from our acquisitions of ETI, BetterBraces.com, and Circle City. The following table sets forth the mix of our net sales ($ in thousands):

 
| ** **                   | ** ** | **2011** | ** ** | **% of Net   Sales** | ** ** | **2010** | ** ** | **% of Net   Sales** | ** ** | **Increase   (Decrease)** | ** ** | **% Increase   (Decrease)** | ** ** |
|------------------------------|------------|----------|------------|--------------------------------|------------|----------|------------|--------------------------------|------------|---------------------------|------------|----------------------------------|------------|
| Recovery Sciences Segment    |       | $        | 85,158     |                           | 34.1       | %        | $          | 84,204                         |       | 35.1                      | %          | $                                | 954        |   | 1.1 | % |
| Bracing and Vascular Segment |       | 78,179   |       | 31.3                           |       | 75,016   |       | 31.3                           |       | 3,163                     |       | 4.2                              |       |
| International Segment        |       | 69,865   |       | 28.0                           |       | 63,894   |       | 26.6                           |       | 5,971                     |       | 9.3                              |       |
| Surgical Implant Segment     |       | 16,509   |       | 6.6                            |       | 16,962   |       | 7.0                            |       | (453                      | )          | (2.7                             | )          |
|                         |       | $        | 249,711    |                           | 100.0      | %        | $          | 240,076                        |       | 100.0                     | %          | $                                | 9,635      |   | 4.0 | % |

 

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Net sales in our Recovery Sciences Segment were $85.2 million for first quarter 2011, and $84.2 million for first quarter 2010. The increase in sales was due to increased sales in our Regeneration business unit, partially offset by decreased sales in our Empi business unit.

 

Net sales in our Bracing and Vascular Segment were $78.1 million for first quarter 2011, and $75.0 million for first quarter 2010. The increase was driven by increased revenue under our soft goods contract with the Novation group purchasing organization, and sales from our newly acquired ETI, BetterBraces.com, and Circle City businesses.

 

Net sales in our International Segment were $69.9 million for first quarter 2011, and $63.9 million for first quarter 2010. The increase was attributable to increased sales across most product lines, including the benefit of sales from our newly acquired ETI business. In addition, sales in our International Segment were favorably impacted by foreign exchange rates in effect in during first quarter 2011, compared to foreign exchange rates in effect during first quarter 2010. The improvement in foreign exchange rates increased net sales by $0.5 million.

 

Net sales in our Surgical Implant Segment were $16.5 million for first quarter 2011, and $17.0 million for first quarter 2010. The decrease was primarily due to the loss of a few key customers resulting in decreased sales of our hip and knee products. These decreases were partially offset by increased sales of our shoulder products.

 

*Gross Profit.*  Consolidated gross profit as a percentage of net sales was 62.7%, for first quarter 2011, compared to 63.6% for first quarter 2010.

 

Gross profit in our Recovery Sciences Segment as a percentage of net sales increased to 76.0% for first quarter 2011, from 74.4% for first quarter 2010. The increase was primarily driven by cost savings resulting from the integration of our Chattanooga business operations and a higher margin mix of products sold in this segment.

 

Gross profit in our Bracing and Vascular Segment as a percentage of net sales was 54.6% for first quarter 2011, compared to 55.1% for first quarter 2010. The decrease was primarily due to a lower margin mix of products sold, including sales from our recently acquired businesses.

 

Gross profit in our International Segment as a percentage of net sales decreased to 56.6% for first quarter 2011, from 59.0% for first quarter 2010. The decrease was primarily driven by lower margin mix of products sold, including sales from our recently acquired businesses.

 

Gross profit in our Surgical Implant Segment as a percentage of net sales decreased to 72.0% for first quarter 2011, compared to 79.4% for first quarter 2010. The decrease was primarily driven by lower sales volume.

 

*Selling, General and Administrative (SG&A).* SG&A increased to $117.1 million for first quarter 2011, from $110.5 million for first quarter 2010. Our SG&A expenses were impacted by significant non-recurring integration charges and other adjustments related to our ongoing restructuring activities and acquisitions. We incurred the following SG&A expenses in connection with such activities during the periods presented (in thousands):

 
| ** **                                        | ** ** | **First Quarter   2011** | ** ** | **First Quarter   2010** | ** ** |
|---------------------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|
| Integration charges:                              |       |                          |       |                          |       |
| Employee severance and relocation                 |       | $                             | 845        |                          | $          | 1,404 |   |
| U.S commercial sales and marketing reorganization |       | 792                           |       | 1,922                         |       |
| Chattanooga integration                           |       | 66                            |       | 3,020                         |       |
| Acquisition related expenses and integration      |       | 1,202                         |       | —                        |       |
| CEO transition                                    |       | 1,327                         |       | —                        |       |
| Other integration                                 |       | 688                           |       | 1,126                         |       |
| Litigation costs and settlements, net             |       | 1,613                         |       | 1,516                         |       |
| Additional product liability insurance            |       | 195                           |       | 845                           |       |
| ERP implementation                                |       | 9,630                         |       | 3,277                         |       |
|                                              |       | $                             | 16,358     |                          | $          | 13,110 |   |

 

*Research and Development (R&D).*  R&D increased to $7.1 million for first quarter 2011, from $5.6 million for first quarter 2010. As a percentage of net sales, R&D increased to 2.9% for first quarter 2011, from 2.3% for first quarter 2010. First quarter 2011 included $0.9 million related to the write off of an abandoned product under development in our Surgical Implant segment.

 

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*Amortization of Intangible Assets.* Amortization of intangible assets was $20.4 million and $19.1 million for first quarter 2011 and first quarter 2010, respectively.

 

*Interest Expense.*  Interest expense was $41.1 million for first quarter 2011, and $40.4 million for first quarter 2010. Lower weighted average interest rates on outstanding borrowings during first quarter 2011, as compared to first quarter 2010 were offset by an increase in the total amount of outstanding borrowings.

 

*Loss on Modification of Debt.*  During first quarter 2011 and first quarter 2010, we recognized $2.1 million and $1.1 million of expenses, respectively, related to amendments to our Senior Secured Credit Facility.

 

*Other Income, Net.*  Other income was $2.8 million and $0.3 million for first quarter 2011 and first quarter 2010, respectively. Results for both periods were primarily associated with net realized and unrealized foreign currency transaction gains.

 

*Income Tax Benefit (Expense).*  For first quarter 2011, we recorded an income tax benefit of $7.5 million on a pre-tax loss of $28.4 million, resulting in an effective tax rate of 26.3%. For first quarter 2010, we recorded income tax expense of $9.8 million on a pre-tax loss of $23.6 million. The difference in the tax benefit and tax expense recorded during first quarter 2011 and first quarter 2010 is primarily attributable to differences in the projected annualized effective tax rates for each year as determined by the Company. Given the relationship between fixed dollar tax items and pre-tax financial results, the projected annual effective tax rate can change materially based on small variations of income.

 

**Liquidity and Capital Resources**

 

As of April 2, 2011, our primary source of liquidity consisted of cash and cash equivalents totaling $38.6 million and our $100.0 million revolving credit facility, of which $58.0 million was available as of April 2, 2011. Working capital at April 2, 2011 was $181.3 million. We believe that our existing cash, plus the amounts we expect to generate from operations and amounts available through our revolving credit facility, will be sufficient to meet our operating needs for the next twelve months, including working capital requirements, capital expenditures, and debt repayment and interest obligations. While we currently believe that we will be able to meet all of our financial covenants imposed by our Senior Secured Credit Facility, there is no assurance that we will in fact be able to do so or that, if we do not, we will be able to obtain waivers of default or amendments to the Senior Secured Credit Facility in the future. We and our subsidiaries, affiliates or significant shareholders (including Blackstone and its affiliates) may from time to time, in our or their sole discretion, purchase, repay, redeem or retire any of our outstanding debt or equity securities (including any publicly issued debt securities), in privately negotiated or open market transactions, by tender offer or otherwise.

 

A summary of our cash flow activity is presented below (in thousands):

 
| ** **                                                     | ** ** | **First Quarter   2011** | ** ** | **First Quarter   2010** | ** ** |
|----------------------------------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|
| Cash provided by operating activities                          |       | $                             | 29,164     |                          | $          | 19,860 |   |
| Cash used in investing activities                              |       | (69,200                       | )          | (5,445                        | )          |
| Cash provided by (used in) financing activities                |       | 39,088                        |       | (4,907                        | )          |
| Effect of exchange rate changes on cash and cash   equivalents |       | 1,407                         |       | (80                           | )          |
| Net increase in cash and cash equivalents                      |       | $                             | 459        |                          | $          | 9,428 |   |

 

***Cash Flows***

 

Operating activities provided cash of $29.2 million in first quarter 2011, and $19.9 million in first quarter 2010. Cash provided by operating activities for both periods primarily reflected our net loss, adjusted for non-cash expenses. Cash paid for interest was $9.0 million and $11.3 million in first quarter 2011 and first quarter 2010, respectively.

 

Investing activities used $69.2 million and $5.4 million of cash in first quarter 2011 and first quarter 2010, respectively. Cash used in investing activities for first quarter 2011 primarily consisted of $59.6 million of net cash paid for acquisitions, including $44.9 million, $11.7 million, and $3.0 million for the acquisitions of ETI, Circle City, and BetterBraces.com, respectively. In addition, investing activities used $9.8 million of cash in first quarter 2011 for purchases of property and equipment, including $2.4 million paid for our ERP system. Cash used in investing activities for first quarter 2010 included $4.1 million for purchases of property and equipment, which was primarily related to our ERP system, and a $0.8 million payment related to an earn-out provision associated with our 2009 acquisition of an Australian distributor.

 

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Financing activities provided $39.1 million of cash for first quarter 2011 and used $4.9 million of cash for first quarter 2010. Cash provided by financing activities in first quarter 2011 was primarily related to net borrowings of $42.0 million from our revolving credit facility which, together with cash on hand, were used to fund the acquisitions of ETI and Circle City. Cash used in financing activities for first quarter 2010 consisted primarily of long-term debt payments of $106.4 million and the payment of $3.1 million in debt issuance costs incurred in connection with the issuance of our $100.0 million aggregate principal of 10.875% Senior Notes, which was partially offset by proceeds of $105.1 million primarily from the 10.875% Senior Notes.

 

For the remainder of 2011, we expect to spend total cash of approximately $175.0 million for the following:

 

· $34.3 million for scheduled principal and estimated interest payments on our senior secured credit facility;

 

· $73.4 million for scheduled interest payments on our 10.875% senior notes;

 

· $29.0 million for scheduled interest payments on our 9.75% senior subordinated notes;

 

· $12.1 million for scheduled interest payments on our 7.75% senior notes issued on April 7, 2011; and

 

· $26.2 million for capital expenditures, including $5.3 million for our ERP system.

 

***Indebtedness***

 

As of April 2, 2011, total indebtedness was $1,866.7 million, exclusive of net unamortized original issue discount of $1.6 million.

 

*Senior Secured Credit Facility*

 

*Overview.*  The Senior Secured Credit Facility originally provided senior secured financing of $1,165.0 million, consisting of a $1,065.0 million term loan facility and a $100.0 million revolving credit facility. We issued the term loan facility at a 1.2% discount, resulting in net proceeds of $1,052.4 million. As of April 2, 2011, the balance outstanding under the term loan facility was $849.6 million, exclusive of $5.6 million of unamortized original issue discount, and there was $42.0 million of borrowings outstanding under the revolving credit facility.

 

*Interest Rate and Fees.*  Borrowings under the Senior Secured Credit Facility bear interest at a rate equal to an applicable margin plus, at our option, either (a) a base rate determined by reference to the higher of (1) the prime rate as defined, and (2) the federal funds rate plus 0.50% or (b) the Eurodollar rate determined by reference to the costs of funds for deposits in U.S. dollars for the interest period relevant to each borrowing adjusted for required reserves. The initial applicable margins for borrowings under the term loan facility and the revolving credit facility is 2.00% with respect to base rate borrowings and 3.00% with respect to Eurodollar borrowings. The applicable margin for borrowings under the term loan facility and the revolving credit facility may be reduced subject to us attaining certain leverage ratios.

 

We use interest rate swap agreements in an effort to hedge our exposure to fluctuating interest rates related to a portion of our Senior Secured Credit Facility (see Note 7 to our unaudited condensed consolidated financial statements). As of April 2, 2011, our weighted average interest rate for all borrowings under the Senior Secured Credit Facility was 4.03%.

 

In addition to paying interest on outstanding principal under the Senior Secured Credit Facility, we are required to pay a commitment fee to the lenders under the revolving credit facility in respect of the unutilized commitments there under. The initial commitment fee rate is 0.50% per annum. The commitment fee rate may be reduced subject to us attaining certain leverage ratios. We must also pay customary letter of credit fees.

 

*Amortization.*  We are required to pay annual amortization (payable in equal quarterly installments) on the loans under the term loan facility in an amount equal to 1.00% of the funded total principal amount through February 2014 with the remaining amount payable in May 2014. Principal amounts outstanding under the revolving credit facility are due and payable in full at maturity, which is six years from the date of the closing of the Senior Secured Credit Facility.

 

*Certain Covenants and Events of Default.*  The Senior Secured Credit Facility contains a number of covenants that, among other things, restrict, subject to certain exceptions, our and our subsidiaries’ ability to:

 

·                  incur additional indebtedness;

 

·                  create liens on assets;

 

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·                  change fiscal years;

 

·                  enter into sale and leaseback transactions;

 

·                  engage in mergers or consolidations;

 

·                  sell assets;

 

·                  pay dividends and make other restricted payments;

 

·                  make investments, loans or advances;

 

·                  repay subordinated indebtedness;

 

·                  make certain acquisitions;

 

·                  engage in certain transactions with affiliates;

 

·                  restrict the ability of restricted subsidiaries that are not Guarantors to pay dividends or make distributions;

 

·                  amend material agreements governing our subordinated indebtedness; and

 

·                  change our lines of business.

 

Pursuant to the terms of the credit agreement relating to the Senior Secured Credit Facility, we are required to maintain a maximum senior secured leverage ratio of consolidated senior secured debt to Adjusted EBITDA of 3.50:1 stepping down to 3.25:1 at the end of 2011. Adjusted EBITDA is defined as net income (loss) attributable to DJOFL, plus (income) loss from discontinued operations, interest expense, net, income tax benefit and depreciation and amortization, further adjusted for certain non-cash items, non-recurring items and other adjustment items, as permitted in calculating covenant compliance under our Senior Secured Credit Facility and the Indentures governing our 10.875% Notes and 9.75% Notes. Adjusted EBITDA is a material component of these covenants. As of April 2, 2011, our actual senior secured leverage ratio was within the required ratio at 3.14:1.

 

Adjusted EBITDA should not be considered as an alternative to net income (loss) or other performance measures presented in accordance with GAAP, or as an alternative to cash flow from operations as a measure of our liquidity. Adjusted EBITDA does not represent net income (loss) or cash flow from operations as those terms are defined by GAAP and does not necessarily indicate whether cash flows will be sufficient to fund cash needs. In particular, the definition of Adjusted EBITDA in the Indentures and our Senior Secured Credit Facility allows us to add back certain non-cash, extraordinary, unusual or non-recurring charges that are deducted in calculating net income (loss). However, these are expenses that may recur, vary greatly and are difficult to predict. While Adjusted EBITDA and similar measures are frequently used as measures of operations and the ability to meet debt service requirements, Adjusted EBITDA is not necessarily comparable to other similarly titled captions of other companies due to the potential inconsistencies in the method of calculation.

 

*10.875% Notes and 9.75% Notes*

 

The Indentures governing the $675.0 million principal amount of 10.875% Notes and the $300.0 million principal amount of 9.75% Notes limit our (and most or all of our subsidiaries’) ability to:

 

·                  incur additional debt or issue certain preferred shares;

 

·                  pay dividends on or make other distributions in respect of our capital stock or make other restricted payments;

 

·                  make certain investments;

 

·                  sell certain assets;

 

·                  create liens on certain assets to secure debt;

 

·                  consolidate, merge, sell or otherwise dispose of all or substantially all of our assets;

 

·                  enter into certain transactions with our affiliates; and

 

·                  designate our subsidiaries as unrestricted subsidiaries.

 

Under the Indentures governing our 10.875% Notes and our 9.75% Notes, our ability to incur additional debt, subject to specified exceptions, is tied to either improving the ratio of our Adjusted EBITDA to fixed charges or having this ratio be at least 2.00:1 on a pro forma basis after giving effect to such incurrence. Additionally, our ability to make certain restricted payments is also tied to having an Adjusted EBITDA to fixed charges ratio of at least 2.00:1 on a pro forma basis, as defined, subject to specified

 

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exceptions. Our pro forma ratio of Adjusted EBITDA to fixed charges for the twelve months ended April 2, 2011, measured on that date, was 1.82:1. Notwithstanding these limitations, the aggregate amount of term loan increases and revolving commitment increases shall not exceed the greater of (i) $150.0 million and (ii) the additional aggregate amount of secured indebtedness which would be permitted to be incurred as of any date of determination (assuming for this purpose that the full amount of any revolving credit increase had been utilized as of such date) such that, after giving pro forma effect to such incurrence (and any other transactions consummated on such date), the senior secured leverage ratio for the immediately preceding test period would not be greater than 3.50:1. Fixed charges is defined in the Indentures as consolidated interest expense plus all cash dividends or other distributions paid on any series of preferred stock of any restricted subsidiary and all dividends or other distributions accrued on any series of disqualified stock.

 

*Covenant Compliance*

 

The following is a summary of our covenant requirement ratios as of April 2, 2011:

 
| ** **                                                                                                                   | ** ** | **Covenant   Requirements** | ** ** | **Actual   Ratios** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|---------------------|------------|
| **Senior Secured Credit Facility**                                                                                           |       |                        |       |                |       |
| Maximum ratio of consolidated net senior secured   debt to Adjusted EBITDA                                              |       | 3.50:1                      |       | 3.14:1              |       |
| **10.875% Senior Notes and 9.75%   Senior Subordinated Notes**                                                               |       |                        |       |                |       |
| Minimum ratio of Adjusted EBITDA to fixed charges   required to incur additional debt pursuant to ratio provision, pro forma |       | 2.00:1                      |       | 1.82:1              |       |

 

As described above, our Senior Secured Credit Facility and the Indentures governing the 10.875% Notes and the 9.75% Notes represent significant components of our capital structure. Under our Senior Secured Credit Facility, we are required to maintain specified senior secured leverage ratios, which become more restrictive over time, and which are determined based on our Adjusted EBITDA. If we fail to comply with the senior secured leverage ratio under our Senior Secured Credit Facility, we would be in default under the credit facility. Upon the occurrence of an event of default under the Senior Secured Credit Facility, the lenders could elect to declare all amounts outstanding under the Senior Secured Credit Facility to be immediately due and payable and terminate all commitments to extend further credit. If we were unable to repay those amounts, the lenders under the Senior Secured Credit Facility could proceed against the collateral granted to them to secure that indebtedness. We have pledged substantially all of our assets as collateral under the Senior Secured Credit Facility. Any acceleration under the Senior Secured Credit Facility would also result in a default under the Indentures governing the Notes, which could lead to the noteholders electing to declare the principal, premium, if any, and interest on the then outstanding Notes immediately due and payable. In addition, under the Indentures governing the Notes, our ability to engage in activities such as incurring additional indebtedness, making investments, refinancing subordinated indebtedness, paying dividends and entering into certain merger transactions is governed, in part, by our ability to satisfy tests based on Adjusted EBITDA.

 

Our ability to meet the covenants specified above will depend on future events, many of which are beyond our control, and we cannot assure you that we will meet those covenants. A breach of any of these covenants in the future could result in a default under our Senior Secured Credit Facility and the Indentures, at which time the lenders could elect to declare all amounts outstanding under our Senior Secured Credit Facility to be immediately due and payable. Any such acceleration would also result in a default under the Indentures.

 

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The following table provides a reconciliation from our net loss to Adjusted EBITDA for the three and twelve months ended April 2, 2011 (in thousands). The terms and related calculations are defined in the credit agreement relating to our Senior Secured Credit Facility and the Indentures.

 
| ** **                                                                                        | ** ** | **Three Months   Ended   April 2, 2011** | ** ** | **Twelve Months   Ended   April 2, 2011** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------|------------|----------------------------------------------------------|------------|
|                                                                                              |       |                                                    |       |                                                     |       |
| Net loss attributable to DJO Finance LLC                                                          |       | $                                                       | (21,239    | )                                                        | $          | (39,188 | ) |
| Interest expense, net                                                                             |       | 41,017                                                  |       | 155,529                                                  |       |
| Income tax benefit                                                                                |       | (7,467                                                  | )          | (50,915                                                  | )          |
| Depreciation and amortization                                                                     |       | 27,186                                                  |       | 104,856                                                  |       |
| Non-cash charges (a)                                                                              |       | 1,459                                                   |       | 4,428                                                    |       |
| Non-recurring and integration charges (b)                                                         |       | 16,490                                                  |       | 59,398                                                   |       |
| Other adjustment items, before adjustments   applicable for the twelve month period only (c) |       | 1,424                                                   |       | 25,567                                                   |       |
| Adjusted EBITDA before other adjustment items   applicable to the twelve month period only   |       | 58,870                                                  |       | 259,675                                                  |       |
|                                                                                              |       |                                                    |       |                                                     |       |
| Other adjustment items applicable to the twelve   month period only (d)                           |       |                                                    |       |                                                     |       |
| Pre-acquisition Adjusted EBITDA                                                                   |       | —                                                  |       | 5,534                                                    |       |
| Future cost savings                                                                               |       | —                                                  |       | 4,744                                                    |       |
| Adjusted EBITDA                                                                                   |       | $                                                       | 58,870     |                                                     | $          | 269,953 |   |

 

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(a)                   Non-cash charges are comprised of the following (in thousands):

 
| ** **                                     | ** ** | **Three Months   Ended   April 2, 2011** | ** ** | **Twelve Months   Ended   April 2, 2011** | ** ** |
|------------------------------------------------|------------|---------------------------------------------------------|------------|----------------------------------------------------------|------------|
|                                           |       |                                                    |       |                                                     |       |
| Stock based compensation expense               |       | $                                                       | 906        |                                                     | $          | 2,299 |   |
| Impairment of Chattanooga assets held for sale |       | —                                                  |       | 1,147                                                    |       |
| Purchase accounting adjustments                |       | 557                                                     |       | 557                                                      |       |
| Loss (gain) on disposal of assets, net         |       | (4                                                      | )          | 425                                                      |       |
| Total non-cash charges                         |       | $                                                       | 1,459      |                                                     | $          | 4,428 |   |

 

(b)          Non-recurring and integration charges are comprised of the following (in thousands):

 
| ** **                                         | ** ** | **Three Months   Ended   April 2, 2011** | ** ** | **Twelve Months   Ended   April 2, 2011** | ** ** |
|----------------------------------------------------|------------|---------------------------------------------------------|------------|----------------------------------------------------------|------------|
|                                               |       |                                                    |       |                                                     |       |
| Integration charges:                               |       |                                                    |       |                                                     |       |
| U.S. commercial sales and marketing reorganization |       | $                                                       | 1,320      |                                                     | $          | 8,294 |   |
| Chattanooga integration                            |       | 72                                                      |       | 2,790                                                    |       |
| CEO transition                                     |       | 1,327                                                   |       | 1,327                                                    |       |
| Acquisition related expenses and integration (1)   |       | 1,202                                                   |       | 1,202                                                    |       |
| Other integration                                  |       | 1,131                                                   |       | 5,873                                                    |       |
| Litigation costs and settlements, net              |       | 1,613                                                   |       | 6,158                                                    |       |
| Additional products liability insurance (2)        |       | 195                                                     |       | 10,488                                                   |       |
| ERP implementation                                 |       | 9,630                                                   |       | 23,266                                                   |       |
| Total non-recurring and integration charges        |       | $                                                       | 16,490     |                                                     | $          | 59,398 |   |

 

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(1)          Consists of direct acquisition costs and integration expenses related to the Dr. Comfort, ETI and Circle City acquisitions.

 

(2)          Primarily consists of insurance premiums related to a supplemental five-year extended reporting period for product liability claims related to our discontinued pain pump products, for which annual insurance coverage was not renewed.

 

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(c)          Other adjustment items are comprised of the following (in thousands):

 
| ** **                                            | ** ** | **Three Months   Ended   April 2, 2011** | ** ** | **Twelve Months   Ended   April 2, 2011** | ** ** |
|-------------------------------------------------------|------------|---------------------------------------------------------|------------|----------------------------------------------------------|------------|
|                                                  |       |                                                    |       |                                                     |       |
| Blackstone monitoring fees                            |       | $                                                       | 1,750      |                                                     | $          | 7,000 |   |
| Noncontrolling interests                              |       | 315                                                     |       | 850                                                      |       |
| Loss on modification and extinguishment of debt   (1) |       | 2,065                                                   |       | 20,767                                                   |       |
| Other (2)                                             |       | (2,706                                                  | )          | (3,050                                                   | )          |
| Total other adjustment items                          |       | $                                                       | 1,424      |                                                     | $          | 25,567 |   |

 

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(1)           Loss on modification of debt for the three months ended April 2, 2011 is comprised of fees and expenses associated with the February 2011 amendment of our Senior Secured Credit Facility, which increased the total net leverage ratio limitation in the permitted acquisitions covenant from 6.0x to 7.0x, and deemed the ETI acquisition to have been made as a permitted acquisition. The twelve months ended April 2, 2011 also included $13.0 million of premiums, $4.3 million for non-cash write-off of unamortized debt issuance costs and $1.4 million of fees and expenses associated with the redemption of our $200 million of 11.75% senior subordinated notes in October 2010.

 

(2)           Other adjustments consist primarily of net realized and unrealized foreign currency transaction gains and losses.

 

(d)                   Other adjustment items applicable for the twelve month period only include pre-acquisition Adjusted EBITDA and future cost savings related to the acquisitions of ETI, Circle City, and BetterBraces.com. Pre-acquisition Adjusted EBITDA also includes the acquisition of the bracing and vascular business of our South African distributor in September 2010.

 

**Critical Accounting Policies and Estimates**

 

We have disclosed in our unaudited condensed consolidated financial statements and in “Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our 2010 Annual Report on Form 10-K, those accounting policies that we consider to be significant in determining our results of operations and financial condition. There have been no material changes to those policies that we consider to be significant since the filing of our 2010 Annual Report on Form 10-K. We believe that the accounting principles utilized in preparing our unaudited condensed consolidated financial statements conform in all material respects to GAAP.

 

**ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

We are exposed to certain market risks as part of our ongoing business operations, primarily risks from fluctuating interest rates and foreign currency exchange rates that could impact our financial condition, results of operations, and cash flows.

 

***Interest Rate Risk***

 

Our primary exposure is to fluctuating interest rates. We have historically managed our interest rate risk by balancing the amounts of our fixed and variable rate debt. For our fixed rate debt, interest rate changes may affect the market value of the debt but do not impact our earnings or cash flow. Conversely, for our variable rate debt, interest rate changes generally do not affect the fair market value of the debt but do impact future earnings and cash flow, assuming other factors are constant. Our senior notes of $975.0 million principal consist of fixed rate notes, while our borrowings under the Senior Secured Credit Facility bear interest at floating rates based on LIBOR or the prime rate, as defined. As of April 2, 2011, we had $849.6 million of borrowings under the Senior Secured Credit Facility, exclusive of $5.6 million of unamortized debt discount. We use interest rate swap agreements in an effort to hedge our exposure to fluctuating interest rates related to a portion of our Senior Secured Credit Facility (see Notes 7 and 9 to our unaudited condensed consolidated financial statements). A hypothetical 1% increase in variable interest rates for the portion of the Senior Secured Credit Facility not covered by interest rate swap agreements would have impacted our earnings and cash flow for the three months ended April 2, 2011, by approximately $1.5 million. We may use additional derivative financial instruments where appropriate to manage our interest rate risk. However, as a matter of policy, we do not enter into derivative or other financial investments for trading or speculative purposes.

 

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***Foreign Currency Risk***

 

Due to the global reach of our business, we are exposed to market risk from changes in foreign currency exchange rates, particularly with respect to the U.S. dollar compared to the Euro and the Mexican Peso (MXP). Our wholly owned foreign subsidiaries are consolidated into our financial results and are subject to risks typical of an international business including, but not limited to, differing economic conditions, changes in political climate, differing tax structures, other regulations and restrictions and foreign exchange volatility. To date, we have not used international currency derivatives to hedge against our investment in our European subsidiaries or their operating results, which are converted into U.S. Dollars at period-end and average foreign exchange rates, respectively. However, as we continue to expand our business through acquisitions and organic growth, the sales of our products that are denominated in foreign currencies has increased, as well as the costs associated with our foreign subsidiaries which operate in currencies other than the U.S. dollar. Accordingly, our future results could be materially impacted by changes in these or other factors. For the three months ended April 2, 2011, sales denominated in foreign currencies accounted for approximately 20.5% of our consolidated net sales, of which 14.1% were denominated in the Euro. In addition, our exposure to fluctuations in foreign currencies arises because certain of our subsidiaries enter into purchase or sale transactions using a currency other than its functional currency. Accordingly, our future results could be materially impacted by changes in foreign exchange rates or other factors. Occasionally, we seek to reduce the potential impact of currency fluctuations on our business through hedging transactions. During the three months ended April 2, 2011, we utilized Mexican Peso (MXP) foreign exchange forward contracts to hedge a portion of our exposure to fluctuations in foreign exchange rates, as our Mexico-based manufacturing operations incur costs that are largely denominated in MXP (see Note 7 to our unaudited condensed consolidated financial statements). Foreign exchange forward contracts as of April 2, 2011 expire weekly through June 2011.

 

**ITEM 4.  CONTROLS AND PROCEDURES**

 

***Disclosure Controls and Procedures***

 

We maintain disclosure controls and procedures (as the term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act) that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

 

Any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. Under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, we conducted an evaluation of the effectiveness of our disclosure controls and procedures as of the end of the quarter covered by this report. Based on this evaluation and subject to the foregoing, our Chief Executive Officer and our Chief Financial Officer concluded that, as of the end of the quarter covered by this report, the design and operation of our disclosure controls and procedures were effective to accomplish their objectives at a reasonable assurance level.

 

***Changes in Internal Control over Financial Reporting***

 

During the first quarter of 2011 we made changes to our internal control over financial reporting in connection with the transition to a new ERP system by a substantial portion of our domestic and international businesses. This ongoing implementation has materially changed how transactions are being processed and has also changed the structure and operation of some internal controls. While the ERP changes materially affected our internal control over financial reporting during the first quarter of 2011, the implementation has proceeded to date without material adverse effects on our internal control over financial reporting. Additionally, we established additional temporary compensating controls, including transactional validation and additional reconciliation procedures to ensure the accuracy of the reported amounts. We expect to maintain certain of these additional temporary compensating controls for a period of time.

 

Except for those changes made in connection with the new ERP system, there were no other changes in the Company’s internal control over financial reporting (as that term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter covered by this report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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**Part II. OTHER INFORMATION**

 

**ITEM 1.  LEGAL PROCEEDINGS**

 

The manufacture and sale of orthopedic devices and related products exposes us to a significant risk of product liability claims. From time to time, we have been, and we are currently, subject to a number of product liability claims alleging that the use of our products resulted in adverse effects. Even if we are successful in defending against any liability claims, such claims could nevertheless distract our management, result in substantial costs, harm our reputation, adversely affect the sales of all our products and otherwise harm our business. If there is a significant increase in the number of product liability claims, our business could be adversely affected.

 

*Pain Pump Litigation*

 

We are currently named as one of several defendants in a number of product liability lawsuits involving approximately 80 plaintiffs, including a lawsuit in Canada seeking class action status, related to a disposable drug infusion pump product (pain pump) manufactured by two third party manufacturers that we distributed through our Bracing and Vascular Segment. We sold pumps manufactured by one manufacturer from 1999 to 2003 and then sold pumps manufactured by a second manufacturer from 2003 to 2009. We discontinued our sale of these products in the second quarter of 2009. These cases have been brought against the manufacturers and certain distributors of these pumps, and in some cases, the manufacturers of the anesthetics used in these pumps. All of these lawsuits allege that the use of these pumps with certain anesthetics for prolonged periods after certain shoulder surgeries has resulted in cartilage damage to the plaintiffs. The lawsuits allege damages ranging from unspecified amounts to claims of up to $10 million. Many of the lawsuits which have been filed in the past three years have named multiple pain pump manufacturers and distributors without having established which manufacturer manufactured or sold the pump at issue. In the past three years, we have been dismissed from a large number of cases when product identification was later established showing that we did not sell the pump at issue. At present, we are named in approximately 20 lawsuits in which product identification has yet to be determined and, as a result, we believe that we will be dismissed from a meaningful number of such cases in the future. In addition, we are named in approximately 6 cases in which it appears we did not distribute the pump at issue and expect to be dismissed in the future. To date, we are aware of only two pain pump trials which have gone to verdict, one in early 2010 which involved a manufacturer whose pump we did not sell and one in September 2010 involving pain pumps that DJO sold to two plaintiffs. In the earlier trial, the plaintiff obtained a verdict of approximately $5.5 million against the manufacturer. In the second trial involving DJO, the jury rendered a verdict in favor of DJO and its manufacturer on all counts as to two plaintiffs and a verdict on all counts for the manufacturer as to a third plaintiff who had sued only the manufacturer. In the past six months, we have entered into settlements with plaintiffs in approximately 30 pain pump lawsuits. Of these, we have settled approximately 20 cases in joint settlements involving our first manufacturer and we have settled approximately 8 cases involving our second manufacturer. In each of these settlements, the manufacturer’s carrier has made some contribution to our settlement amount or any joint settlement, but we are seeking indemnity for the balance of our costs.

 

*Indemnity and Insurance Coverage Related to Pain Pump Claims*

 

We have sought indemnity and tendered the defense of the pain pump cases to the two manufacturers who supplied these pumps to us, to their products liability carriers and to our products liability carriers. These lawsuits are about equally divided between the two manufacturers. Both manufacturers have rejected our tenders of indemnity. Until early 2010, the base policy for one of the manufacturers was paying for our defense, but that policy has been exhausted by defense costs of the Company and the manufacturer and by settlements. A second policy covering later policy periods has been significantly eroded by defense costs of the Company and the manufacturer and settlements, and we have been informed that no amounts remain under that policy. This manufacturer has ceased operations, has little assets and no additional insurance coverage. The Company has asserted indemnification rights against the successor to this manufacturer. The base policy for the other manufacturer has been exhausted and the excess liability carriers for that manufacturer have not accepted coverage for the Company and are not expected to provide for its defense. The Company and this manufacturer have been cooperating in jointly negotiating settlements of those lawsuits in which both parties are named. Our products liability carriers have accepted coverage of these cases, subject to a reservation of the right to deny coverage for customary matters, including punitive damages and off-label promotion. In August 2010, one of our excess carriers for the period ending July 1, 2010 and for the supplemental extended reporting period (SERP) discussed below, which is insuring $10 million in excess of $25 million, informed us that it has reserved its right to rescind the policy based on an alleged failure by us and our insurance broker to disclose material information. We disagree with this allegation and are seeking to resolve the issue with this carrier. We could be exposed to material liabilities if our insurance coverage is not available or inadequate and the resources of the two manufacturers, including their respective products liability insurance policies, are unavailable or insufficient to pay the defense costs and settlements or judgments in these cases.

 

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*Pain Pump-Related Health Insurance Portability and Accountability Act (HIPAA) Subpoena*

 

On August 2, 2010, we were served with a subpoena under HIPAA seeking numerous documents related to our activities involving the pain pumps discussed above. The subpoena which was issued by the United States Attorney’s Office, Central District of California, refers to an official investigation by the DOJ and the FDA of Federal health care offenses. We have produced documents that are responsive to the subpoena. We believe that our actions related to our prior distribution of these pain pumps have been in compliance with applicable legal standards. We can make no assurance as to the resources that will be needed to respond to any follow-up requests to the subpoena or as to the final outcome of any investigation or further action.

 

*Cold Therapy Litigation*

 

Since mid-2010, we have been named in seven multi-plaintiff lawsuits involving a total of 180 plaintiffs, alleging that the plaintiffs had been injured following use of certain cold therapy products manufactured by the Company. These lawsuits are in their early stages of discovery. The complaints are not specific as to the nature of the injuries, but allege various product liability theories, including inadequate warnings regarding the risks associated with the use of cold therapy and failure to incorporate certain safety features into the design. No specific dollar amounts of damages are alleged and as of April 2, 2011, we cannot estimate a range of potential loss. We intend to defend these matters aggressively.

 

*Our Product Liability Insurance Coverage*

 

We maintain product liability insurance that is subject to annual renewal. Our current policy covers claims reported between July 1, 2010 and June 30, 2011. No carriers were prepared to cover claims for this reporting period related to the pain pump products described above and therefore our current policies exclude coverage for those products. For the current policy year, we maintain coverage limits (together with excess policies) of up to $50 million, with self-insured retentions of $500,000 per claim for claims relating to our cold therapy units, $500,000 per claim for claims relating to invasive products, $75,000 per claim for claims relating to non-invasive products other than our cold therapy products, and an aggregate self-insured retention of $2.25 million. We purchased SERP coverage for our $80 million limit product liability policy that expired on June 30, 2010, and this supplemental coverage allows us to report pain pump claims beyond the end of the prior policy. Except for the additional excess coverage mentioned below, this SERP coverage does not provide additional limits to the aggregate $80 million limits on the prior policy but it does provide that these limits will remain available for pain pump claims reported for an extended period of time. Specifically, pain pump claims may be reported under the $10 million base policy for an indefinite period of time and for a period of five years under the excess layers (until such limits are eroded). We also purchased additional coverage of $25 million in excess of the $80 million limits with a five year reporting period. Thus, the SERP coverage has a total limit of $105 million (less amounts paid for claims reported under the prior policy period). This coverage is subject to a self-insured retention of $500,000 per claim for claims related to pain pumps, which has been satisfied. Our two product liability policies prior to the policy that expired on June 30, 2010 cover claims reported between July 1, 2007 and February 15, 2008 and between February 15, 2008 and July 1, 2009, respectively. The 2007-2008 policy provides for coverage (together with excess policies) of up to a limit of $20 million and the 2008-2009 policy provides for coverage (together with excess policies) of up to a limit of $25 million. Certain of the pain pump cases described above were reported under and are covered by these two policies, with the majority of cases covered by the 2009-2010 policy. Based on the claims made to date, two defenses verdicts on matters which have proceeded to trial and several settlements, we believe we have adequate insurance coverage for our product liability claims. However, if a product liability claim or series of claims is brought against us for uninsured liabilities or there is an increase in claims which is in excess of our available insurance coverage, our business could suffer materially.

 

*BGS Qui Tam Action and HIPAA Subpoena*

 

On April 15, 2009, we became aware of a *qui tam*action filed in Federal Court in Boston, Massachusetts in March 2005 and amended in December 2007 that names us as a defendant along with each of the other companies that manufactures and sells external bone growth stimulators, as well as The Blackstone Group L.P., an affiliate of our principal stockholder, and the principal stockholder of one of the other companies in the bone growth stimulation business. This case is captioned United States *ex rel.*Beirman v. Orthofix International, N.V., *et al.*, Civil Action No. 05-10557 (D. Mass.). The case was sealed when originally filed and unsealed in March 2009. The plaintiff, or relator, alleges that the defendants have engaged in Medicare fraud and violated Federal and state false claims acts from the time of the original introduction of the devices by each defendant to the present by seeking reimbursement for bone growth stimulators as a purchased item rather than a rental item. The relator also alleges that the defendants are engaged in other marketing practices constituting violations of the Federal and various state anti-kickback statutes. On December 4, 2009, we filed a motion to dismiss the relator’s complaint. The relator filed a second amended complaint in May 2010 that, among other things, dropped The Blackstone Group as a defendant. We filed another motion to dismiss directed at the second amended complaint, and that motion has been denied. The case is proceeding to the discovery phase. Shortly before becoming aware of the *qui**tam*action, we were advised that our bone growth stimulator business was the subject of an investigation by the DOJ, and on April 10, 2009, we were served with a subpoena under HIPAA seeking numerous documents relating to the marketing and sale by us of bone growth

 

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stimulators. On September 21, 2009, we were served with a second HIPAA subpoena related to this DOJ investigation seeking additional documents relating to the marketing and sale by us of bone growth stimulators. We believe that these subpoenas are related to the DOJ’s investigation of the allegations in the *qui tam*action, although the DOJ has decided not to intervene in the *qui tam*action at this time. We believe that our marketing practices in the bone growth stimulation business are in compliance with applicable legal standards and we intend to defend this case and investigation vigorously. We can make no assurance as to the resources that will be needed to respond to these matters or the final outcome of such action, and as of April 2, 2011, we cannot estimate a range of potential loss, fines or damages.

 

**ITEM 1A.  RISK FACTORS**

 

For a discussion of the Company’s potential risks or uncertainties, please see Part I, Item IA, of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2010 filed with the SEC on March 3, 2011. There have been no material changes to the risk factors disclosed in such Form 10-K.

 

**ITEM 6.  EXHIBITS**

 

(a)*                   **Exhibits*

 
| 2.1    |   | Stock   Purchase Agreement, dated January 4, 2011, among DJO, LLC, Elastic   Therapy, Inc, and the Sellers listed therein and Burke H. Ramsay as   Seller Representative (incorporated by reference to Exhibit 2.2 to   DJOFL’s Annual Report on Form 10-K for the fiscal year ended   December 31, 2010, filed on March 3, 2011).                                                                                                                                                                                                                                                    |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 2.2    |   | Equity   Interest Purchase Agreement, dated as of March 14, 2011 by and among   Rikco International, LLC D/B/A Dr. Comfort, Rikco Holding Corporation, Merit   Mezzanine Fund IV, L.P., Merit Mezzanine Parallel Fund IV, L.P. the   undersigned members of Rikco International, LLC, and DJO, LLC (incorporated   by reference to Exhibit 2.1 to DJOFL’s Current Report on Form 8-K,   filed on March 15, 2011).                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 3.1    |   | Certificate   of Formation of DJOFL and amendments thereto (incorporated by reference to   Exhibit 3.1 to DJOFL’s Annual Report on Form 10-K for the fiscal   year ended December 31, 2007, filed on March 28, 2008).                                                                                                                                                                                                                                                                                                                                                                           |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 3.2    |   | Limited   Liability Company Agreement of DJOFL (incorporated by reference to Exhibit 3.2   to DJOFL’s Registration Statement on Form S-4, filed April 18, 2007   (File No. 333-142188)).                                                                                                                                                                                                                                                                                                                                                                                                        |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.1   |   | Amendment   No. 3, dated as of February 18, 2011, to the Credit Agreement dated   as of November 20, 2007, among DJO Finance LLC (f/k/a ReAble Therapeutics   Finance LLC), DJO Holdings LLC (f/k/a/ ReAble Therapeutics Holdings LLC),   Credit Suisse AG (f/k/a/ Credit Suisse), as Administrative Agent, Collateral   Agent, Swing Line Lender and an L/C Issuer and the lenders from time to time   party thereto (incorporated by reference to Exhibit 10.26 to DJOFL’s   Annual Report on Form 10-K for the fiscal year ended December 31,   2010, filed on March 3, 2011) |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.2   |   | Director   Arrangement, Separation Agreement and General Release, dated January 21,   2011, between DJO and Leslie H. Cross (incorporated by reference to   Exhibit 10.29 to DJOFL’s Annual Report on Form 10-K for the fiscal   year ended December 31, 2010, filed on March 3, 2011)                                                                                                                                                                                                                                                                                                     |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.3   |   | Form of   Retention Bonus Agreement approved by Compensation Committee on February 25,   2011, entered into between DJO and Ms. Capps and Messrs. Faulstick,   Roberts, Capizzi, Murphy and Holman (incorporated by reference to Exhibit 10.29   to DJOFL’s Annual Report on Form 10-K for the fiscal year ended   December 31, 2010, filed on March 3, 2011).                                                                                                                                                                                                                   |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 10.4   |   | Form of   Severance Protection Agreement, approved by Compensation Committee on   February 25, 2011, entered into between DJO and Ms. Capps and   Messrs. Faulstick, Roberts, Capizzi, Murphy and Holman (incorporated by   reference to Exhibit 10.30 to DJOFL’s Annual Report on Form 10-K   for the fiscal year ended December 31, 2010, filed on March 3,   2011).                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 31.1+  |   | Certification   (pursuant to Securities Exchange Act Rule 13a-14a) by Chief Executive   Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 31.2+  |   | Certification   (pursuant to Securities Exchange Act Rule 13a-14a) by Chief Financial   Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 32.1+  |   | Section 1350—Certification   (pursuant to Section 906 of the Sarbanes-Oxley Act of 2002) by Chief   Executive Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 32.2+  |   | Section 1350—Certification   (pursuant to Section 906 of the Sarbanes-Oxley Act of 2002) by Chief   Financial Officer.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |

 

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+          Filed herewith

 

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**SIGNATURES**

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 
| ** **                | **DJO FINANCE LLC** |
|---------------------------|--------------------------|
|                      |                     |   |
| Date:   May 16, 2011 | By:                      | /s/   LESLIE H. CROSS |
|                      |                     | Leslie   H. Cross |
|                      |                     | *President   and Chief Executive Officer* |
|                      |                     |   |
| Date:   May 16, 2011 | By:                      | /s/   VICKIE L. CAPPS |
|                      |                     | Vickie   L. Capps |
|                      |                     | *Executive Vice President, Chief Financial Officer and   Treasurer* |

 

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