Annual report pursuant to Section 13 and 15(d)

Summary of Significant Accounting Policies

v3.8.0.1
Summary of Significant Accounting Policies
12 Months Ended
Dec. 31, 2017
Accounting Policies [Abstract]  
Summary of Significant Accounting Policies

2. Summary of significant accounting policies

Basis of presentation

The consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP).

Basis of consolidation

The consolidated financial statements include the accounts of Inogen, Inc. and its wholly owned subsidiaries.  All intercompany balances and transactions have been eliminated.

Accounting estimates

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Management bases these estimates and assumptions upon historical experience, existing and known circumstances, authoritative accounting pronouncements and other factors that management believes to be reasonable. Significant areas requiring the use of management estimates relate to revenue recognition, inventory and rental asset valuations and write-downs, accounts receivable allowances for bad debts, returns and adjustments, warranty expense, stock compensation expense, depreciation and amortization, income tax provision and uncertain tax positions, fair value of financial instruments, and fair value of acquired intangible assets and goodwill.  Actual results could differ from these estimates.

Revenue

The Company generates revenue primarily from sales and rentals of its products. The Company’s products consist of its proprietary line of oxygen concentrators and related accessories. Other revenue, which is included in sales revenue on the Statements of Comprehensive Income, comes from service contracts, extended warranty contracts and freight revenue for product shipments.

Sales revenue

Revenue from product sales is recognized when all of the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) the price to the customer is fixed or determinable; and (4) collectability is reasonably assured. Revenue from product sales is generally recognized upon shipment of the product but is deferred if risk of loss and ownership has not yet transferred to the customer. Provisions for estimated returns are made at the time revenue is recognized. Provisions for standard warranty obligations, which are included in cost of sales revenue on the Consolidated Statements of Comprehensive Income, are also provided for at the time revenue is recognized.

Revenue from the sale of the Company’s services is recognized when no significant obligations remain undelivered and collection of the receivables is reasonably assured. Other revenue from sale of replacement parts and non-warranty repair services is recognized when product is shipped to customers.

Accruals for estimated standard warranty expenses are made at the time that the associated revenue is recognized. The provisions for estimated returns and warranty obligations are made based on known claims and estimates of additional returns and warranty obligations based on historical data and future expectations. The Company’s accrued warranty liability was $6,171 and $3,480 for future warranty costs as of December 31, 2017 and December 31, 2016, respectively.

The Company also offers a lifetime warranty for direct-to-consumer sales of its portable concentrators. For a fixed price, the Company agrees to provide a fully functional oxygen concentrator for the remaining life of the patient. Lifetime warranties are only offered to patients upon the initial sale of portable oxygen concentrators by the Company and are non-transferable. Product sales with lifetime warranties are considered to be multiple element arrangements within the scope of the Accounting Standards Codification (ASC) 605-25—Revenue Recognition-Multiple-Element Arrangements.

There are two deliverables when a product that includes a lifetime warranty is sold. The first deliverable is the oxygen concentrator equipment which comes with a standard warranty of three years. The second deliverable is the lifetime warranty that provides for a functional oxygen concentrator for the remaining lifetime of the patient. These two deliverables qualify as separate units of accounting.

The revenue is allocated to the two deliverables on a relative selling price method. The Company has vendor-specific objective evidence of the selling price for its equipment. To determine the selling price of the lifetime warranty, the Company uses its best estimate of the selling price for that deliverable as the lifetime warranty is neither separately priced nor is the selling price available through third-party evidence. To calculate the selling price associated with the lifetime warranties, management considered the profit margins of the overall business, the average estimated cost of lifetime warranties and the price of extended warranties. A significant estimate used to calculate the price and expense of lifetime warranties is the average life expectancy of oxygen therapy patients. Based on clinical studies, the Company estimates that 60% of its patients will succumb to their disease within three years of initial diagnosis. Given the approximate mortality rate of 20% per year, the Company estimates on average its patients will succumb to their disease within five years of initial diagnosis. The Company has taken into consideration that when patients decide to buy an Inogen portable oxygen concentrator with a lifetime warranty, they typically have already been on oxygen for a period of time, which can have a large impact on their life expectancy from the time the Company’s product is deployed.

After applying the relative selling price method, revenue from equipment sales is recognized when all other revenue recognition criteria for product sales are met. Lifetime warranty revenue is recognized using the straight-line method during the fourth and fifth year after the delivery of the equipment which is the estimated usage period of the contract based on the average patient life expectancy.

Shipping and handling costs for sold products and rental assets shipped to the Company’s customers are included on the Consolidated Statements of Comprehensive Income as part of cost of sales revenue and cost of rental revenue, respectively.

Revenue from the sale of former rental assets is generally recognized upon shipment but is deferred if risk of loss and ownership has not yet transferred to the customer, when collectability is reasonably assured, and other revenue recognition criteria are met. When a rental unit is sold, the related cost and accumulated depreciation are removed from their respective accounts, and any gains or losses are included in general and administrative expense on the Consolidated Statements of Comprehensive Income.

Rental revenue

The Company recognizes equipment rental revenue over the non-cancelable lease term, which is one month, less estimated adjustments, in accordance with ASC 840—Leases. The Company has separate contracts with each patient that are not subject to a master lease agreement with any third-party payor. The Company evaluates the individual lease contracts at lease inception and the start of each monthly renewal period to determine if there is reasonable assurance that the bargain renewal option associated with the potential capped free rental period would be exercised. Historically, the exercise of such bargain renewal option is not reasonably assured at lease inception and most subsequent monthly lease renewal periods. If the Company determines that the reasonable assurance threshold for an individual patient is met at lease inception or at a monthly lease renewal period, such determination would impact the bargain renewal period for an individual lease. The Company would first consider the lease classification issue (sales-type lease or operating lease) and then appropriately recognize or defer rental revenue over the lease term, which may include a portion of the capped rental period. The Company deferred $0 associated with the capped rental period as of December 31, 2017 and December 31, 2016.

The lease term begins on the date products are shipped to patients and are recorded at amounts estimated to be received under reimbursement arrangements with third-party payors, including Medicare, private payors, and Medicaid. Due to the nature of the industry and the reimbursement environment in which the Company operates, certain estimates are required to record net revenue and accounts receivable at their net realizable values. Inherent in these estimates is the risk that they will have to be revised or updated as additional information becomes available. Specifically, the complexity of many third-party billing arrangements and the uncertainty of reimbursement amounts for certain services from certain payors may result in adjustments to amounts originally recorded. Such adjustments are typically identified and recorded at the point of cash application, claim denial or account review. The Company adjusts revenue for historical trends on revenue adjustments due to timely filings, deaths, hospice, and other types of analyzable adjustments on a monthly basis. Accounts receivable are reduced by an allowance for doubtful accounts which provides for those accounts from which payment is not expected to be received although product was delivered and revenue was earned. The determination that an account is uncollectible and the ultimate write-off of that account occurs once collection is considered to be highly unlikely, and it is written-off and charged to the allowance at that time. Amounts billed but not earned due to the timing of the billing cycle are deferred and recognized in income on a straight-line basis over the monthly billing period. For example, if the first day of the billing period does not fall on the first of the month, then a portion of the monthly billing period will fall in the subsequent month and the related revenue and cost would be deferred based on the service days in the following month.

Rental revenue is recognized as earned, less estimated adjustments. Revenue not billed at the end of the period is reviewed for the likelihood of collections and accrued. The rental revenue stream is not guaranteed and payment will cease if the patient no longer needs oxygen or returns the equipment. Revenue recognized is at full estimated allowable amounts; transfers to secondary insurances or patient responsibility have no net effect on revenue. Rental revenue is earned for that entire month if the patient is on service on the first day of the 30-day period commencing on the recurring date of service for a particular claim, regardless if there is a change in condition or death after that date.

Included in rental revenue are unbilled amounts for which the revenue recognition criteria had been met as of period-end but were not yet billed to the payor. The estimate of net unbilled rental revenue recognized is based on historical trends and estimates of future collectability. In addition, the Company estimates potential future adjustments and write-offs of these unbilled amounts and includes these estimates in the allowance for adjustments and write-offs of rental revenue which is netted against gross receivables.

Fair value of financial instruments

The Company’s financial instruments consist of cash and cash equivalents, marketable securities, accounts receivable, accounts payable and accrued expenses. The carrying values of its financial instruments approximate fair value based on their short-term nature.

Imputed interest associated with the Company’s non-interest bearing debt was insignificant and was appropriately recognized in the respective periods.

Fair value accounting

ASC 820- Fair Value Measurements and Disclosures creates a single definition of fair value, establishes a framework for measuring fair value in U.S. GAAP and expands disclosures about fair value measurements. ASC 820 emphasizes that fair value is a market-based measurement, not an entity-specific measurement, and states that a fair value measurement is to estimate the price at which an orderly transaction to sell an asset or to transfer the liability would take place between market participants at the measurement date under current market conditions. Assets and liabilities adjusted to fair value in the balance sheet are categorized based upon the level of judgment associated with the inputs used to measure their fair value. Level inputs, as defined by ASC 820, are as follows:

 

Level input

  

Input definition

 

Level 1

 

 

Inputs are unadjusted, quoted prices for identical assets or liabilities in active markets at the measurement date.

 

Level 2

 

 

Inputs, other than quoted prices included in Level 1 that are observable for the asset or liability through corroboration with market data at the measurement date.

 

Level 3

 

 

Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date.

The Company obtained the fair value of its available-for-sale investments, which are not in active markets, from a third-party professional pricing service using quoted market prices for identical or comparable instruments, rather than direct observations of quoted prices in active markets. The Company's professional pricing service gathers observable inputs for all of its fixed income securities from a variety of industry data providers (e.g., large custodial institutions) and other third-party sources. Once the observable inputs are gathered, all data points are considered and the fair value is determined. The Company validates the quoted market prices provided by its primary pricing service by comparing their assessment of the fair values against the fair values provided by its investment managers. The Company's investment managers use similar techniques to its professional pricing service to derive pricing as described above. As all significant inputs were observable, derived from observable information in the marketplace or supported by observable levels at which transactions are executed in the marketplace, the Company has classified its available-for-sale investments within Level 2 of the fair value hierarchy.

The following table summarizes fair value measurements by level for the assets measured at fair value on a recurring basis for cash, cash equivalents and marketable securities:

 

 

 

As of December 31, 2017

 

 

 

 

 

 

 

Gross

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

Adjusted

 

 

unrealized

 

 

 

 

 

 

and cash

 

 

Marketable

 

(amounts in thousands)

 

cost

 

 

losses

 

 

Fair value

 

 

equivalents

 

 

securities

 

Cash

 

$

46,237

 

 

$

 

 

$

46,237

 

 

$

46,237

 

 

$

 

Level 1:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Money market accounts

 

 

93,430

 

 

 

 

 

 

93,430

 

 

 

93,430

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Level 2:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Certificates of deposit

 

 

11,010

 

 

 

(4

)

 

 

11,006

 

 

 

490

 

 

 

10,516

 

Corporate bonds

 

 

20,789

 

 

 

(21

)

 

 

20,768

 

 

 

2,796

 

 

 

17,972

 

Agency mortgage-backed securities

 

 

2,005

 

 

 

(1

)

 

 

2,004

 

 

 

 

 

 

2,004

 

U.S. Treasury securities

 

 

499

 

 

 

 

 

 

499

 

 

 

 

 

 

499

 

Total

 

$

173,970

 

 

$

(26

)

 

$

173,944

 

 

$

142,953

 

 

$

30,991

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

As of December 31, 2016

 

 

 

 

 

 

 

Gross

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

Adjusted

 

 

unrealized

 

 

 

 

 

 

and cash

 

 

Marketable

 

(amounts in thousands)

 

cost

 

 

losses

 

 

Fair value

 

 

equivalents

 

 

securities

 

Cash

 

$

48,533

 

 

$

 

 

$

48,533

 

 

$

48,533

 

 

$

 

Level 1:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Money market accounts

 

 

39,277

 

 

 

 

 

 

39,277

 

 

 

39,277

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Level 2:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Certificates of deposit

 

 

15,904

 

 

 

(8

)

 

 

15,896

 

 

 

5,041

 

 

 

10,855

 

Corporate bonds

 

 

10,200

 

 

 

(22

)

 

 

10,178

 

 

 

 

 

 

10,178

 

Agency mortgage-backed securities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

113,914

 

 

$

(30

)

 

$

113,884

 

 

$

92,851

 

 

$

21,033

 

 

The following table summarizes the estimated fair value of the Company’s investments in marketable securities, accounted for as available-for-sale securities and classified by the contractual maturity date of the securities:

 

 

December 31,

 

(amounts in thousands)

2017

 

Due within one year

$

30,991

 

Due in one year through five years

 

 

Total

$

30,991

 

 

Derivative instruments and hedging activities

The Company transacts business in foreign currencies and has international sales and expenses denominated in foreign currencies, subjecting the Company to foreign currency risk. The Company has entered into foreign currency forward contracts, generally with maturities of twelve months or less, to reduce the volatility of cash flows primarily related to forecasted revenue denominated in certain foreign currencies. These contracts allow the Company to sell Euros in exchange for U.S. dollars at specified contract rates. Forward contracts are used to hedge forecasted sales over specific months. Changes in the fair value of these forward contracts designed as cash flow hedges are recorded as a component of accumulated other comprehensive income (loss) income within stockholders’ equity and are recognized in the Consolidated Statements of Comprehensive Income during the period which approximates the time the corresponding sales occur. The Company may also enter into foreign exchange contracts that are not designated as hedging instruments for financial accounting purposes. These contracts are generally entered into to offset the gains and losses on certain asset and liability balances until the expected time of repayment. Accordingly, any gains or losses resulting from changes in the fair value of the non-designated contracts are reported in other expense, net in the Consolidated Statements of Comprehensive Income. The gains and losses on these contracts generally offset the gains and losses associated with the underlying foreign currency-denominated balances, which are also reported in other income (expense), net.

The Company records the assets or liabilities associated with derivative instruments and hedging activities at fair value based on Level 2 inputs in other current assets or other current liabilities, respectively, in the consolidated balance sheet. The Company had a payable of $66 and a receivable of $15 as of December 31, 2017 and 2016, respectively. The Company classifies the foreign currency derivative instruments within Level 2 in the fair value hierarchy as the valuation inputs are based on quoted prices and market observable data of whether it is designated and qualifies for hedge accounting.

The Company documents the hedging relationship and its risk management objective and strategy for undertaking the hedge, the hedging instrument, the hedged transaction, the nature of the risk being hedged, how the hedging instrument’s effectiveness in offsetting the hedged risk will be assessed prospectively and retrospectively, and a description of the method used to measure ineffectiveness. The Company assesses hedge effectiveness and ineffectiveness at a minimum quarterly but may assess it monthly. For derivative instruments that are designed and qualify as part of a cash flow hedging relationship, the effective portion of the gain or loss on the derivative is reported in other comprehensive income (loss) and reclassified into earnings in the same periods during which the hedged transaction affects earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current period earnings.

The Company will discontinue hedge accounting prospectively when it determines that the derivative is no longer effective in offsetting cash flows attributable to the hedge risk. The cash flow hedge is de-designated because a forecasted transaction is not probable of occurring, or management determines to remove the designation of the cash flow hedge.  In all situations in which hedge accounting is discontinued and the derivative remains outstanding, the Company continues to carry the derivative at its fair value on the balance sheet and recognizes any subsequent changes in the fair value in earnings. When it is probable that a forecasted transaction will not occur, the Company will discontinue hedge accounting and recognize immediately in earnings gains and losses that were accumulated in other comprehensive income (loss) related to the hedging relationship.

Accumulated other comprehensive income (loss)

The components of accumulated other comprehensive income (loss) were as follows:

 

 

Foreign

 

 

Unrealized

 

 

Unrealized

 

 

Accumulated

 

 

currency

 

 

gains (losses) on

 

 

gains (losses)

 

 

other

 

 

translation

 

 

available-for-

 

 

on cash

 

 

comprehensive

 

(amounts in thousands)

adjustments

 

 

sale investments

 

 

flow hedges

 

 

income (loss)

 

Balance as of December 31, 2016

$

 

 

$

(82

)

 

$

47

 

 

$

(35

)

Other comprehensive gain (loss)

 

363

 

 

 

65

 

 

 

(121

)

 

 

307

 

Balance as of December 31, 2017

$

363

 

 

$

(17

)

 

$

(74

)

 

$

272

 

 

Comprehensive income (loss) is the total net earnings and all other non-owner changes in equity. Except for net income and unrealized gains and losses on cash flow hedges and available-for-sale investments, the Company does not have any transactions or other economic events that qualify as comprehensive income (loss).

 

 

Cash, cash equivalents, and marketable securities

The Company considers all short-term highly liquid investments with a maturity of three months or less to be cash equivalents. Cash equivalents are recorded at cost plus accrued interest, which is considered adjusted cost, and approximates fair value. Certificates of deposit are included in cash equivalents and marketable securities based on the maturity date of the security. Short-term investments are included in marketable securities in the current period presentation.

The Company considers investments with maturities greater than three months, but less than one year, to be marketable securities. Investments are classified as available-for-sale and are reported at fair value with unrealized gains or losses, if any, reported, net of tax, in accumulated other comprehensive income (loss). All income generated and realized gains or losses from investments are recorded to other income (expense), net.

The Company reviews its investments to identify and evaluate investments that have an indication of possible impairment. Factors considered in determining whether a loss is temporary include the length of time and extent to which fair value has been less than the cost basis, the financial condition and near-term prospects of the investee, and the Company's intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value. Credit losses and other-than-temporary impairments are declines in fair value that are not expected to recover and are charged to other income (expense), net. Cash, cash equivalents, and marketable securities consist of the following:

 

(amounts in thousands)

December 31,

 

Cash and cash equivalents

2017

 

 

2016

 

Cash

$

46,237

 

 

$

48,533

 

Money market accounts

 

93,430

 

 

 

39,277

 

Certificates of deposit

 

490

 

 

 

5,041

 

Corporate bonds

 

2,796

 

 

 

 

Total cash and cash equivalents

$

142,953

 

 

$

92,851

 

Marketable securities

 

 

 

 

 

 

 

Certificates of deposit

$

10,516

 

 

$

10,855

 

Corporate bonds

 

17,972

 

 

 

10,178

 

Agency mortgage-backed securities

 

2,004

 

 

 

 

U. S. Treasury securities

 

499

 

 

 

 

Total marketable securities

$

30,991

 

 

$

21,033

 

 

Accounts receivable and allowance for bad debts, returns, and adjustments

Accounts receivable are customer obligations due under normal sales and rental terms. The Company performs credit evaluations of the customers’ financial condition and generally does not require collateral. The allowance for doubtful accounts is maintained at a level that, in management’s opinion, is adequate to absorb potential losses related to accounts receivable and is based upon the Company’s continuous evaluation of the collectability of outstanding balances. Management’s evaluation takes into consideration such factors as past bad debt experience, economic conditions and information about specific receivables. The Company’s evaluation also considers the age and composition of the outstanding amounts in determining their net realizable value.

The allowance for doubtful accounts is based on estimates, and ultimate losses may vary from current estimates. As adjustments to these estimates become necessary, they are reported in earnings in the periods in which they become known. This allowance is increased by bad debt provisions charged to bad debt expense, net of recoveries, in operating expense and is reduced by direct write-offs.

The Company generally does not allow returns from providers for reasons not covered under its standard warranty. Therefore, provision for sales returns applies primarily to direct-to-consumer sales. This reserve is calculated based on actual historical return rates under the Company’s 30-day return program and is applied to the related sales revenue for the last month of the quarter reported.

The Company also records an allowance for rental revenue adjustments which is recorded as a reduction of rental revenue and net rental accounts receivable balances. These adjustments result from contractual adjustments, audit adjustments, untimely claims filings, or billings not paid due to another provider performing same or similar functions for the patient in the same period, all of which prevent billed revenue from becoming realizable. The reserve is based on historical revenue adjustments as a percentage of rental revenue billed and unbilled during the related period.

When recording the allowance for doubtful accounts, the bad debt expense account (general and administrative expense account) is charged; when recording allowance for sales returns, the sales returns account (contra sales revenue account) is charged; and when recording the allowance for rental reserve adjustments, the rental revenue adjustments account (contra rental revenue account) is charged.

As of December 31, 2017 and December 31, 2016, included in accounts receivable on the consolidated balance sheets were earned but unbilled receivables of $1,470 and $7,484, respectively. These balances reflect gross unbilled receivables prior to any allowances for adjustments and write-offs.  The Company consistently applies its allowance estimation methodology from period-to-period. The Company’s best estimate is made on an accrual basis and adjusted in future periods as required.  Any adjustments to the prior period estimates are included in the current period. As additional information becomes known, the Company adjusts its assumptions accordingly to change its estimate of the allowance. For the years ended December 31, 2017 and December 31, 2016, the Company had increases of $3,442 and $3,589, respectively, in the provision for bad debt and revenue adjustments related to prior years.

Gross accounts receivable balance concentrations by major category as of December 31, 2017 and December 31, 2016 were as follows:

 

 

 

As of

 

 

As of

 

(amounts in thousands)

 

December 31, 2017

 

 

December 31, 2016

 

Gross accounts receivable

 

$

 

 

%

 

 

$

 

 

%

 

Medicare

 

$

2,247

 

 

 

6.5

%

 

$

12,500

 

 

 

31.8

%

Medicaid/other government

 

 

295

 

 

 

0.8

%

 

 

617

 

 

 

1.6

%

Private insurance

 

 

1,411

 

 

 

4.1

%

 

 

3,475

 

 

 

8.8

%

Patient responsibility

 

 

2,283

 

 

 

6.6

%

 

 

3,227

 

 

 

8.2

%

Business-to-business & other receivables (1)

 

 

28,474

 

 

 

82.0

%

 

 

19,541

 

 

 

49.6

%

Total gross accounts receivable

 

$

34,710

 

 

 

100.0

%

 

$

39,360

 

 

 

100.0

%

 

Net accounts receivable (gross accounts receivable, net of allowances) balance concentrations by major category as of December 31, 2017 and December 31, 2016 were as follows:

 

 

 

As of

 

 

As of

 

(amounts in thousands)

 

December 31, 2017

 

 

December 31, 2016

 

Net accounts receivable

 

$

 

 

%

 

 

$

 

 

%

 

Medicare

 

$

1,501

 

 

 

4.7

%

 

$

7,208

 

 

 

23.4

%

Medicaid/other government

 

 

244

 

 

 

0.8

%

 

 

410

 

 

 

1.3

%

Private insurance

 

 

1,249

 

 

 

4.0

%

 

 

1,832

 

 

 

6.0

%

Patient responsibility

 

 

1,218

 

 

 

3.9

%

 

 

2,538

 

 

 

8.2

%

Business-to-business & other receivables (1)

 

 

27,232

 

 

 

86.6

%

 

 

18,840

 

 

 

61.1

%

Total net accounts receivable

 

$

31,444

 

 

 

100.0

%

 

$

30,828

 

 

 

100.0

%

 

(1)

Business-to business receivables included one customer with an accounts receivable balance of $10,394 and $9,791 as of December 31, 2017 and December 31, 2016, respectively. This customer received extended payment terms through a direct financing plan offered. The Company also has a credit insurance policy in place, which allocates up to $12,000 in coverage as of December 31, 2017 and allocated up to $9,000 in coverage as of December 31, 2016 for this customer with a $1,000 deductible and 10% retention.

 

The following table sets forth the percentage breakdown of the Company’s net accounts receivable (gross accounts receivable net of allowances) by aging category by invoice due date as of December 31, 2017 and December 31, 2016.

 

 

 

As of

 

 

As of

 

(amounts in thousands)

 

December 31, 2017

 

 

December 31, 2016

 

Net accounts receivable by aging category

 

$

 

 

%

 

 

$

 

 

%

 

Held & Unbilled

 

$

537

 

 

 

1.7

%

 

$

4,163

 

 

 

13.5

%

Aged 0-90 days

 

 

29,237

 

 

 

93.0

%

 

 

22,634

 

 

 

73.4

%

Aged 91-180 days

 

 

435

 

 

 

1.4

%

 

 

1,452

 

 

 

4.7

%

Aged 181-365 days

 

 

602

 

 

 

1.9

%

 

 

1,801

 

 

 

5.9

%

Aged over 365 days

 

 

633

 

 

 

2.0

%

 

 

778

 

 

 

2.5

%

Total net accounts receivable

 

$

31,444

 

 

 

100.0

%

 

$

30,828

 

 

 

100.0

%

 

The following table sets forth the accounts receivable allowances as of December 31, 2017 and December 31, 2016:

 

 

 

As of

 

 

As of

 

(amounts in thousands)

 

December 31, 2017

 

 

December 31, 2016

 

Allowances - accounts receivable

 

$

 

 

%

 

 

$

 

 

%

 

Doubtful accounts

 

$

1,415

 

 

 

4.1

%

 

$

1,869

 

 

 

4.7

%

Rental revenue adjustments

 

 

947

 

 

 

2.7

%

 

 

6,078

 

 

 

15.4

%

Sales returns

 

 

904

 

 

 

2.6

%

 

 

585

 

 

 

1.5

%

Total allowances - accounts receivable

 

$

3,266

 

 

 

9.4

%

 

$

8,532

 

 

 

21.6

%

 

Concentration of credit risk

Financial instruments that potentially subject the Company to concentration of credit risk consist principally of cash, cash equivalents, marketable securities and accounts receivable. At times, cash account balances may be in excess of the amounts insured by the Federal Deposit Insurance Corporation (FDIC). However, management believes the risk of loss to be minimal. The Company performs periodic evaluations of the relative credit standing of these institutions and has not experienced any losses on its cash and cash equivalents to date. The Company has also entered into hedging relationships with a single counterparty to offset the forecasted Euro-based revenues. The credit risk has been reduced due to a net settlement arrangement whereby the Company is allowed to net settle transactions with a single net amount payable by one party to the other.

Concentration of customers and vendors

The Company primarily sells its products to traditional home medical equipment providers, distributors, and resellers in the United States and in foreign countries on a credit basis. The Company also sells its products direct to consumers on a primarily prepayment basis. One single customer represented more than 10% of the Company’s total revenue for 2017 and 2016, and no single customer represented more than 10% of the Company’s total revenue for 2015. Two customers with accounts receivable balances of $10,394 and $6,459, respectively, represented more than 10% of the Company’s net accounts receivable balance as of December 31, 2017, and one single customer with an accounts receivable balance of $9,791, represented more than 10% of the Company’s total net accounts receivable balance as of December 31, 2016.

The Company also rents products directly to consumers for insurance reimbursement, which resulted in a customer concentration relating to Medicare’s service reimbursement programs. Medicare’s service reimbursement programs accounted for 73.0%, 72.6% and 73.7% of rental revenue in 2017, 2016 and 2015, respectively, and based on total revenue was 7.0%, 12.4% and 21.0% for 2017, 2016 and 2015, respectively. Net accounts receivable balances relating to Medicare’s service reimbursement programs (including held and unbilled receivables, net of allowances) amounted to $1,501 or 4.7% of total net accounts receivable as of December 31, 2017 as compared to $7,208 or 23.4% of total net accounts receivable as of December 31, 2016.

The Company currently purchases raw materials from a limited number of vendors, which resulted in a concentration of three major vendors. The three major vendors supply the Company with raw materials used to manufacture the Company’s products. For 2017, the Company’s three major vendors accounted for 19.7%, 15.4% and 9.5%, respectively, of total raw material purchases.  For 2016, the Company’s three major vendors accounted for 21.0%, 15.6% and 8.6%, respectively, of total raw material purchases.  

A portion of revenue is earned from sales outside the United States. Approximately 73.5% of the non-U.S. revenue for 2017 were invoiced in Euros. A breakdown of the Company’s revenue from U.S. and non-U.S. sources for the years ended December 31, 2017, 2016 and 2015 is as follows:

 

 

Years ended December 31,

 

(amounts in thousands)

2017

 

 

2016

 

 

2015

 

U.S. revenue

$

193,919

 

 

$

152,723

 

 

$

123,660

 

Non-U.S. revenue

 

55,519

 

 

 

50,106

 

 

 

35,345

 

Total revenue

$

249,438

 

 

$

202,829

 

 

$

159,005

 

 

Inventories

Inventories are stated at the lower of cost or market and net realizable value. Cost is determined using a standard cost method, including material, labor and manufacturing overhead, whereby the standard costs are updated at least quarterly to reflect approximate actual costs using the first-in, first-out (FIFO) method. The Company records adjustments at least quarterly to inventory for potentially excess, obsolete, slow-moving or impaired items. The Company recorded noncurrent inventory related to inventories that are expected to be realized or consumed after one year of $644 and $314 as of December 31, 2017 and 2016, respectively, classified within other assets. Noncurrent inventories are primarily related to raw materials purchased in bulk to support long-term expected repairs to reduce costs and are classified in other assets. During the years ended December 31, 2017, 2016 and 2015, $1,055, $1,454 and $1,449, respectively, of inventory was transferred to rental equipment and was included in the total amount of rental equipment produced and purchased on the Consolidated Statements of Cash Flows. Inventories that are considered current consist of the following:

 

 

December 31,

 

(amounts in thousands)

2017

 

 

2016

 

Raw materials and work-in-progress

$

16,324

 

 

$

12,382

 

Finished goods

 

2,917

 

 

 

2,152

 

Less: reserves

 

(399

)

 

 

(191

)

Inventories

$

18,842

 

 

$

14,343

 

 

Property and equipment

Property and equipment are stated at cost. Depreciation and amortization are calculated using the straight-line method over the assets’ estimated useful lives as follows:

 

Rental equipment

1.5-5 years

 

 

 

 

Manufacturing equipment and tooling

2-5 years

 

 

 

 

Computer equipment and software

2-3 years

 

 

 

 

Furniture and equipment

3-5 years

 

 

 

 

Leasehold improvements

Lesser of estimated useful life or remaining lease term

Expenditures for additions, improvements and replacements are capitalized and depreciated to a salvage value of $0. Repair and maintenance costs on rental equipment are included in cost of rental revenue on the Consolidated Statements of Comprehensive Income. Repair and maintenance expense, which includes labor, parts and freight, for rental equipment was $2,385, $2,464 and $2,520 for the years ended December 31, 2017, 2016 and 2015, respectively.

Included within property and equipment is construction in process, primarily related to the design and engineering of tooling, jigs and other machinery.  In addition, this item also includes computer software or development costs that have been purchased but have not completed the final configuration process for implementation into the Company’s systems. These items have not been placed in service; therefore, no depreciation or amortization was recognized for these items in the respective periods.

Depreciation and amortization expense related to rental equipment and other property and equipment are summarized below for the years ended December 31, 2017, 2016 and 2015, respectively.

 

 

Years ended December 31,

 

(amounts in thousands)

2017

 

 

2016

 

 

2015

 

Rental equipment

$

9,835

 

 

$

11,429

 

 

$

11,965

 

Other property and equipment

 

1,960

 

 

 

2,028

 

 

 

1,961

 

Total depreciation and amortization

$

11,795

 

 

$

13,457

 

 

$

13,926

 

 

Property and equipment and rental equipment with associated accumulated depreciation is summarized below as of December 31, 2017 and 2016, respectively.

 

(amounts in thousands)

December 31,

 

Property and equipment

2017

 

 

2016

 

Rental equipment, net of allowances of $754 and $725, respectively

$

49,349

 

 

$

54,582

 

Other property and equipment

 

15,219

 

 

 

12,633

 

Property and equipment

 

64,568

 

 

 

67,215

 

 

 

 

 

 

 

 

 

Accumulated depreciation

 

 

 

 

 

 

 

Rental equipment

 

34,754

 

 

 

33,937

 

Other property and equipment

 

9,711

 

 

 

8,079

 

Accumulated depreciation

 

44,465

 

 

 

42,016

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

 

 

 

 

 

 

Rental equipment, net of allowances of $754 and $725, respectively

 

14,595

 

 

 

20,645

 

Other property and equipment

 

5,508

 

 

 

4,554

 

Property and equipment, net

$

20,103

 

 

$

25,199

 

Long-lived assets

The Company accounts for the impairment and disposition of long-lived assets in accordance with ASC 360-Property, Plant, and Equipment. In accordance with ASC 360, long-lived assets to be held are reviewed for events or changes in circumstances that indicate that their carrying value may not be recoverable. The Company periodically reviews the carrying value of long-lived assets to determine whether or not impairment to such value has occurred. No impairments were recorded as of December 31, 2017 and 2016.

Goodwill

Goodwill is tested for impairment on an annual basis as of October 1. Interim testing of goodwill for impairment is also required whenever an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit or asset below its carrying amount.

Business combinations

The results of operations of the businesses acquired by the Company are included as of the acquisition date. The purchase price of an acquisition is allocated to the underlying assets acquired and liabilities assumed based upon their estimated fair values at the date of acquisition. To the extent the purchase price exceeds the fair value of the net identifiable tangible and intangible assets acquired and liabilities assumed, such excess is allocated to goodwill. The Company may adjust the preliminary purchase price allocation, as necessary, for up to one year after the acquisition closing date if it obtains more information regarding asset valuations and liabilities assumed. Acquisition-related expenses are recognized separately from the business combination and are expensed as incurred.

 

Loss contingencies

The Company is involved in various lawsuits, claims, investigations, and proceedings that arise in the ordinary course of business.  The Company records a liability when it believes that it is both probable that a loss has been incurred and the amount can be reasonably estimated.  Significant judgment is required to determine both probability and the estimated amount. The Company reviews at least quarterly and adjusts accordingly to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and updated information.  At this time, the Company has no accrual related to lawsuits, claims, investigations and proceedings.

Deferred rent

The Company’s operating leases for its office facilities in California, Texas and Ohio include a rent abatement period and scheduled rent increases. The Company has accounted for the leases to provide straight-line charges to operations over the life of the leases.

Research and development

Research and development costs are expensed as incurred.

Advertising costs

Advertising costs, which approximated $12,511, $6,215 and $4,686 during the years ended December 31, 2017, 2016 and 2015, respectively, are expensed as incurred, excluding the production costs of direct response commercials. Advertising costs are included in sales and marketing expense in the accompanying Consolidated Statements of Comprehensive Income.

Income taxes

The Company accounts for income taxes in accordance with ASC 740—Income Taxes. Under ASC 740, income taxes are recognized for the amount of taxes payable or refundable for the current period and deferred tax liabilities and assets are recognized for the future tax consequences of transactions that have been recognized in the Company’s consolidated financial statements or tax returns. A valuation allowance is provided when it is more likely than not that some portion, or all, of the deferred tax asset will not be realized.

The Company accounts for uncertainties in income tax in accordance with ASC 740-10—Accounting for Uncertainty in Income Taxes. ASC 740-10 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This accounting standard also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.

The Company recognizes interest and penalties on taxes, if any, within its income tax provision. No significant interest or penalties were recognized during the periods presented.

On December 22, 2017, TCJA was enacted into law, which significantly changes existing U.S. tax law and includes numerous provisions that affect the Company’s business. Changes include, but are not limited to, a corporate tax rate decrease from 34% to 21% effective for tax years beginning after December 31, 2017, expensing of capital expenditures, the transition of U.S. international taxation from a worldwide tax system to a territorial system, a one-time transition tax on the mandatory deemed repatriation of cumulative foreign earnings, and limitations on the deductibility of certain executive compensation and other deductions. The Company is required to recognize the effect of the tax law changes in the period of enactment, including the transition tax, re-measuring the Company’s U.S. deferred tax assets and liabilities, as well as reassessing the net realizability of the Company’s deferred tax assets and liabilities. During the fourth quarter of 2017, the Company recorded a provisional net charge of $7,578 related to the TCJA due to the remeasurement of the deferred taxes.  The one-time transition tax on the mandatory deemed repatriation of foreign earnings was determined to be immaterial.

Accounting for stock-based compensation

The Company accounts for its stock-based compensation in accordance with ASC 718-Compensation—Stock Compensation, which establishes accounting for share-based awards, exchanged for employee services and requires companies to expense the estimated fair value of these awards over the requisite employee service period. Stock–based compensation cost for stock options and employee stock purchase plan are determined at the grant date using the Black-Scholes option pricing model. Stock-based compensation cost for stock incentive awards is based on the amount of shares ultimately expected to vest, estimated at each reporting date based on management’s expectations regarding the relevant performance criteria. The value of the award that is ultimately expected to vest is recognized as expense on a straight-line basis over the employee’s requisite service period.

As part of the provisions of ASC 718, the Company is required to estimate potential forfeitures of stock grants and adjust compensation cost recorded accordingly. The estimate of forfeitures will be adjusted over the requisite service period to the extent that actual forfeitures differ, or are expected to differ, from such estimates. Changes in estimated forfeitures will be recognized through a cumulative catch-up adjustment in the period of change and will also impact the amount of stock compensation expense to be recognized in future periods.

Foreign currency

The functional currency of the Company’s international subsidiaries is the local currency.  The financial statements of the subsidiaries are translated to U.S. dollars using month-end exchange rates for assets and liabilities, and average rates of exchange for revenues, cost of revenue, operating expense and provision for income taxes. Translation gains and losses are recorded in accumulated other comprehensive income (loss) as a component of stockholders’ equity. Foreign exchange transaction gains and losses resulting from the conversion of the transaction currency to functional currency are reflected as a component of foreign currency exchange gains or losses in other income (expense) in the Consolidated Statements of Comprehensive Income.

Business segments

The Company operates and reports in only one operating and reportable segment – development, manufacturing, marketing, sales, and rental of respiratory products. Management reports financial information on a consolidated basis to the Company’s chief operating decision maker.

Earnings per share

Earnings per share (EPS) is computed in accordance with ASC 260-Earnings per Share and is calculated using the weighted-average number of common shares outstanding during each period. Diluted EPS assumes the conversion, exercise or issuance of all potential common stock equivalents (which can include dilution of outstanding stock options, restricted stock units and restricted stock awards) unless the effect is to reduce a loss or increase the income per share. For purposes of this calculation, common stock subject to repurchase by the Company, options are considered to be common stock equivalents and are only included in the calculation of diluted earnings per share when their effect is dilutive.

Basic earnings per share is calculated using the Company’s weighted-average outstanding common shares. Diluted earnings per share is calculated using the Company’s weighted-average outstanding common shares including the dilutive effect of stock awards as determined under the treasury stock method.

The computation of EPS is as follows:

 

 

Years ended December 31,

 

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

2017

 

 

2016

 

 

2015

 

Numerator—basic and diluted:

 

 

 

 

 

 

 

 

 

 

 

Net income

$

21,002

 

 

$

20,519

 

 

$

11,585

 

 

 

 

 

 

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

 

 

 

 

 

 

Weighted-average common shares - basic common stock (1)

 

20,683,807

 

 

 

20,067,152

 

 

 

19,398,991

 

Weighted-average common shares - diluted common stock

 

21,897,988

 

 

 

21,095,867

 

 

 

20,708,170

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income per share - basic common stock

$

1.02

 

 

$

1.02

 

 

$

0.60

 

Net income per share - diluted common stock

$

0.96

 

 

$

0.97

 

 

$

0.56

 

 

 

 

 

 

 

 

 

 

 

 

 

Denominator calculation from basic to diluted:

 

 

 

 

 

 

 

 

 

 

 

Weighted-average common shares - basic common stock (1)

 

20,683,807

 

 

 

20,067,152

 

 

 

19,398,991

 

Warrants

 

 

 

 

 

 

 

10,579

 

Stock options and other dilutive awards

 

1,214,181

 

 

 

1,028,715

 

 

 

1,298,600

 

Weighted-average common shares - diluted common stock

 

21,897,988

 

 

 

21,095,867

 

 

 

20,708,170

 

Shares excluded from diluted weighted-average shares:

 

 

 

 

 

 

 

 

 

 

 

Stock options

 

37,249

 

 

 

841,760

 

 

 

744,301

 

Restricted stock units and restricted stock awards

 

26,064

 

 

 

 

 

 

 

Shares excluded from diluted weighted-average shares

 

63,313

 

 

 

841,760

 

 

 

744,301

 

 

(1)

Unvested restricted stock units and restricted stock awards are not included as shares outstanding in the calculation of basic earnings per share. Vested restricted stock units and restricted stock awards are included in basic earnings per share if all vesting and performance criteria have been met. Performance-based restricted stock units and restricted stock awards are included in the number of shares used to calculate diluted earnings per share as long as all applicable performance criteria are met, and their effect is dilutive. Restricted stock awards are eligible to receive all dividends declared on the Company’s common shares during the vesting period; however, such dividends are not paid until the restrictions lapse.

The computations of diluted net income attributable to common stockholders exclude common stock options, restricted stock units, and restricted stock awards, which were anti-dilutive for the periods ended December 31, 2017, 2016 and 2015.

Recently issued accounting pronouncements not yet adopted

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core principle of ASU No. 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU No. 2014-09 defines a five-step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP.  In August 2015, the FASB decided to delay the effective date of ASU No. 2014-09 by one year. The FASB also agreed to allow entities to choose to adopt the standard as of the original effective date. As such, the updated standard will be effective for the Company in the first quarter of 2018. In March 2016, the FASB issued ASU No. 2016-08, Revenue with Contracts with Customers: Principal versus Agent Considerations (Reporting Revenue Gross versus Net), which is an amendment to ASU No. 2014-09 that improved the operability and understandability of implementation guidance versus agent considerations by clarifying the determination of principal versus agent.  The new standard also permits two methods of adoption: retrospectively to each prior reporting period presented (full retrospective method), or retrospectively with the cumulative effect of initially applying the guidance recognized at the date of initial application (the modified retrospective method). The Company has completed its adoption plan including assessment of the Company’s revenue streams and analysis of all outstanding contracts by application of the five-step model to those contracts and revenue streams.  The Company adopted the standard on January 1, 2018, using the modified retrospective method. The Company finalized its analysis and the adoption of this standard will not have a material impact on the consolidated financial statements and internal controls over financial reporting.

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). The new guidance will require organizations that lease assets—referred to as “lessees”—to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases with lease terms of more than twelve months. This will increase the reported assets and liabilities – in some cases very significantly. ASU No. 2016-02 will take effect for public companies for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption will be permitted for all entities. In January 2018, the FASB issued ASU No. 2018-01, Land Easement Practice Expedient for Transition to Topic 842, which is an amendment to ASU No. 2016-02 that offers a practical expedient for accounting for land easements.  This practice expedient allows an entity the option of not evaluating existing land easements under ASC 842.  New or modified land easements will still require evaluation under ASC 842 on a prospective basis beginning on the date of adoption. While the Company continues to evaluate the effect of adopting this guidance on the consolidated financial statements and related disclosures, the Company expects its operating leases, as disclosed in Note 7 – Commitments and contingencies, will be subject to the new standard.  The Company intends to recognize right-of-use assets and operating lease liabilities on the consolidated balance sheets upon adoption, which will increase our total assets and liabilities.

In June 2016, the FASB issued ASU No. 2016-13, Accounting for Credit Losses (Topic 326). The new standard requires the use of an “expected loss” model on certain types of financial instruments.  The standard also amends the impairment model for available-for-sale debt securities and requires estimated credit losses to be recorded as allowances instead of reductions to amortized cost of the securities.  The ASU is effective for fiscal years beginning after December 15, 2019, and interim periods within those years, with early adoption permitted.  The Company is evaluating the new guidance but does not expect it to have a material impact on the Company’s consolidated financial statement presentation or results.

In January 2017, the FASB issued ASU No. 2017-01, Clarifying the Definition of a Business. The new guidance revises the definition of a business and provides new guidance in evaluating when a set of transferred assets and activities is a business. The ASU is effective for fiscal years beginning after December 15, 2017, and interim periods within those years, with early adoption permitted. The Company is currently evaluating the effect of the new guidance but does not expect it to have a material impact on the Company’s consolidated financial statement presentation or results.

In January 2017, the FASB issued ASU No. 2017-04, Simplifying the Test for Goodwill Impairment. The new guidance eliminates step two of the goodwill impairment test. Under the new guidance, an entity should recognize an impairment charge for the amount by which a reporting unit’s carrying value exceeds its fair value. The ASU is effective for fiscal years beginning after December 15, 2019, with early adoption permitted. The Company is currently evaluating the effect of the new guidance but does not expect it to have a material impact on the Company’s consolidated financial statement presentation or results.

In August 2017, the FASB issued ASU No. 2017-12, Derivatives and Hedging, which changes both the designation and measurement guidance for qualifying hedging relationships and the presentation of hedge results, in order to better align an entity’s risk management activities and financial reporting for hedging relationships. The amendments expand and refine hedge accounting for both nonfinancial and financial risk components and align the recognition and presentation of the effects of the hedging instrument and the hedged item in the financial statements. ASU No. 2017-12 is effective for annual reporting periods beginning after December 15, 2018, including interim periods within those annual reporting periods, with early adoption permitted. The Company is still evaluating the impact that this guidance will have on its consolidated financial statements and has not yet determined whether the Company will early adopt ASU No. 2017-12.

In January 2018, the FASB issued ASU No. 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income.  The new guidance permits entities the option to reclassify tax effects that are stranded in accumulated other comprehensive income as a result of the implementation of the TCJA to retained earnings.  The Company is currently evaluating the effective of the new guidance but does not expect it to have a material impact on the Company’s consolidated financial statement presentation or results.

Recently adopted accounting pronouncements

In July 2015, the FASB issued ASU No. 2015-11, Simplifying the Measurement of Inventory. The ASU requires entities to measure most inventory “at the lower of cost and net realizable value” thereby simplifying the current guidance under which an entity must measure inventory at the lower of cost or market. The Company adopted this guidance on January 1, 2017. The adoption of this ASU did not have a material effect on the Company’s consolidated financial presentation or results.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230). The standard is intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows.  The ASU is effective for fiscal years beginning after December 15, 2017, and interim periods within those years, with early adoption permitted.  The Company adopted this guidance during the fourth quarter of 2017. The adoption of this ASU did not have a material effect on the Company’s consolidated financial presentation or results.