Hanger Orthopedic Group, Inc. Business Information, Profile, and History

Company Perspectives:

The company strives to be the best in providing the most advanced orthotic and prosthetic services and products available, and provide orthotic and prosthetic services in a timely and professional manner, in a pleasant atmosphere, at a reasonable cost to our patients, and continually strive to improve our services and facilities, while maintaining a rewarding atmosphere for our associates and investors.

History of Hanger Orthopedic Group, Inc.

Hanger Orthopedic Group, Inc. is the oldest and one of the largest prosthetics and orthotics (O & P) companies in the world. At the end of 2000, its patient care division, Hanger Prosthetics & Orthotics Inc., owned and operated 620 centers in 45 states and the District of Columbia and provided O & P services to more than 1,100 managed care programs through its OPNET program. Its manufacturing division, Seattle Orthopedic Group, Inc., made custom and prefabricated orthotics (braces) and prosthetics (artificial limbs) under brand names such as Seattle Limb Systems and Lenox Hill. Southern Prosthetic Supply, Inc., the company's distribution division, was the largest distributor of O & P products in the country.

An Amputee's Invention: 1861--1919

James Edward Hanger's life changed in 1861. A college sophomore from Churchville, Virginia, Hanger left school to join the Confederate cavalry. Before he even formally enlisted, his leg was shattered by a ricocheting cannonball fired by Union troops during the battle of Philippi, Virginia. Operated on by a Yankee surgeon, who took his leg off above the knee, Hanger became the first amputee of the Civil War. Shortly afterwards he was sent home in a prisoner-of-war exchange.

Unhappy with the wooden peg he had been given, Hanger locked himself in his upstairs room, vowing not to come out until he could walk down. During the next several months, he designed an artificial leg with the first hinged knee and hinged foot, forming it out of whittled barrel staves, rubber, wood, and metal components. According to a history of prosthetics from Northwestern University Medical School, Hanger 'replaced the catgut tendons of the American leg [an earlier prostheses named in 1856] with rubber bumpers to control dorsiflexion and plantarflexion and he used plug fit wood socket.'

Other Confederate amputees quickly created a demand for the realistic 'Hanger limb,' and Hanger established his business, J.E. Hanger, Inc., in Richmond, Virginia. He patented his limb in 1871.

The Civil War also generated the first government commitment to provide veterans with prostheses. The 'Great Civil War Benefaction' was the forerunner of the federal support that played a major role in assisting war veteran amputees to the present time.

In 1915 Hanger went to Europe to help World War I amputees and to learn from European prosthetists. Because the number of American casualties was much smaller than that of British and European troops, Europe was where prosthetic advances were being made. Considered by many to be the father of modern prosthetics, Hanger died in 1919.

A Family Tradition: 1915--1960s

Interest in the prosthetic business ran throughout the Hanger family. During the second decade of the century, Hanger's five sons split the original company, and they began operating unaffiliated Hanger offices in Atlanta, Georgia; Philadelphia, Pennsylvania; St. Louis, Missouri; and the District of Columbia. Their offspring, along with associates and various Hanger in-laws and cousins, continued the Hanger dynasty, moving their artificial limb businesses into Canada and Europe.

The company's primary business, prosthetics, covered the fitting, design, and building of artificial limbs (prostheses) for people who had lost an arm or leg, through illness, such as cancer, or more usually in an accident or from a war injury. The industry in the United States did not change much from the technology used in the 1800s until World War II. In 1946, with veterans demanding better prosthetics, the federal government, in the form of the surgeon general and the Veterans Administration, supported research and development to improve on the wooden artificial limbs that were belted on to a leg or arm.

Several federal agencies, along with the armed services, established research laboratories. From these came new socket designs and improved materials, including thermosetting resins, used to form structural components. During this period, orthotists, who made external braces and support devices, joined those who created the artificial limbs, forming the American Orthotics and Prosthetics Association in 1950.

The 1950s also saw a tremendous increase in educational courses and certification for prosthetists, culminating in the establishment of postgraduate programs in the late 1950s.

By the mid-1950s, there were 50 Hanger offices in North America and 25 in Europe.

Changes in the Field: the 1970s

Technological developments continued to influence the industry during the 1960s and 1970s, as did the Vietnam war. The passage of Medicare and Medicaid contributed to rehabilitation support for the aging and the poor. One of the important developments was a 1965 prosthetic dubbed 'the Seattle foot.' This innovation, which made it possible for amputees to be more active, was based on putting a spring in the false foot. The foot also looked more real, with toenails and veins.

With funding from Liberty Mutual Insurance Company, the Massachusetts Institute for Technology developed a bionic arm that used the body's own muscle signals for control. But it was during the 1980s that technology development became 'truly fantastic,' as an October 1980 Business Week article claimed, as scientists and engineers explored how to link prosthetic devices directly to the brain.

At the same time, the entire health care industry was undergoing changes, including consolidation and for-profit managed care, that would soon become factors in the O & P industry.

From Cell Phones to Artificial Limbs: 1986--89

Orthotics and prosthetics was highly fragmented industry, consisting primarily of individual offices or small franchise chains of care centers. Its potential for consolidation attracted a variety of companies. One that saw opportunities in the field was Sequel Corporation, a communications company that abruptly changed its focus in 1986 from owning and operating radio stations to running patient care centers.

Colorado-based Sequel had already been through one major corporate change. It began life in 1983 as Celltech Communications Inc., with plans to gain licenses for cellular phone systems and eventually to establish cellular phone service around the country. This strategy was disrupted when the Federal Communications Commission changed its licensing process to a lottery system, which Celltech indicated made it hard for small companies to compete. In 1985, Celltech moved into a different area of the communications field, buying three radio stations, in Lincoln, Nebraska and Brainerd, Minnesota. When these continued to lose money, Celltech changed its name to Sequel, sold off its cellular phone interests and radio stations, and hired a new president, Robert Fine, with experience in the health industry.

Sequel's first acquisitions, in 1987, were Capital Orthopedics of Bethesda, Maryland, for which it paid an estimated $1.5 million, and Greiner and Saur Orthopedic Appliances Corporation of Philadelphia, paying $680,262. During its first year of existence, Sequel moved its headquarters east to Philadelphia and then to Connecticut. In 1988, the company named the founder and head of its Capital subsidiary, Ivan Sabel, president and chief operating officer. Sabel was particularly interested in centralizing the design and manufacturing of devices and distributing them nationwide. 'Sequel will be the first publicly held company whose sole business will be the manufacturing of these devices on a national basis,' he told The Denver Business Journal when his business became part of Sequel.

The company continued making acquisitions, and in 1989, bought J.E. Hanger, Inc. of Washington, D.C., one of the surviving branches of the business started by the Civil War amputee. At the time of purchase, J.E. Hanger was an $8 million business, with offices in 11 cities and eight states.

The $14.25 million purchase was a complicated stock exchange transition, with two venture capital firms and a bank providing the financing and ending up with 69 percent of the stock. Chemical Venture Capital Associates, the major financier and an affiliate of Chemical Bank, appointed the majority of seats on Sequel's board. Chemical also controlled major policies, such as the payment of dividends, and established performance requirements for management, to make ensure an acceptable return on its investment. For example, according to a 1991 Washington Post article, when Sequel did not meet agreed upon 'internal rates of return,' its top managers had to turn over shares of their personal stock in the company to Chemical.

Soon after the acquisition, Sequel, which was the smaller company, changed its name to Hanger Orthopedic Group.

Continued Consolidation: 1990--94

In 1990, the orthotics and prosthetics industry did $700 million in business a year, providing patient care as well as manufacturing and distributing braces and artificial limbs. Unlike the earlier years of the industry, when wars provided most of the business, now it was the growing elderly population and people suffering injuries while playing sports or from physical fitness activities who were being referred to O & P offices.

Hanger continued to buy up family-owned firms, mostly along the East Coast. Between 1989 and 1991, it purchased 13 companies, borrowing more than $23 million to pay for them. As a result, although the company brought in nearly $20 million in revenue in 1990, its long-term debt and hefty interest payments left it in the red, with a loss of $1.5 million. To help pay down the debt, Hanger created and issued new shares of common stock through public offerings. In 1994, it went through a major restructuring.

Hanger's Competition

Hanger's major competitor, and the largest of the O & P companies, was Orthopedic Services, Inc. (OSI) of King of Prussia, Pennsylvania. Started in 1987, OSI quickly bought up practices around the country, particularly on the West Coast. It went public in 1990, and in 1992 merged with NovaCare, Inc., the country's largest provider of contract rehabilitation therapy services, for the price of $248 million. At the time OSI provided services through 104 patient care centers in 20 states and was the largest operation in the O & P industry.

The two companies were controlled by the same man, John Foster. A venture capitalist, in 1985, Foster began focusing on consolidating companies in the rehabilitation field. His first purchase was InSpeech, a speech pathology business. Within three years he had diversified into occupational and physical therapy, and in 1989, he renamed his company NovaCare to reflect its broader scope.

The OPNET Network in the mid-1990s

In February 1996, with record revenues for the previous year of $52.5 million and record profits of $2.1 million, Hanger made a big move in response to the managed care phenomenon. It created OPNET, a national network of O & P providers, that negotiated contracts to provide O & P services to health maintenance organizations, major insurance companies, employers, and other health care payers. In addition to working through existing Hanger offices, OPNET also contracted with independent O & P practices, which paid an annual membership fee and received discounts on Hanger products.

Through OPNET, members received the rights to all managed-care contracts in an exclusive territory, but did not have to do all the negotiating; Hanger handled that aspect. Hanger worked closely with the U.S. Department of Justice in designing this network to avoid antitrust problems.

Family Reunion

By 1996, the O & P industry was generating $2 billion in sales. New technology, much of it developed by the National Aeronautics and Space Administration (NASA), enabled the industry to incorporate telemetry, ultralight plastics and polyesters, and small motors into its products. Computers also influenced the business, making it possible to scan casts into a computer to create digitized, 3-D designs.

That year Hanger Orthopedic continued to reunite the original Hanger companies when it spent $49 million to buy J.E. Hanger, Inc. of Georgia. In the process, it doubled its size, with a total of 175 patient care centers, six distribution sites, four manufacturing plants and 1,000 employees in 30 states.

One of the purchases, in 1998, was the Seattle Orthopedic Group, Inc. (SOGI). Unlike Hanger's other acquisitions, SOGI was a manufacturing company, producing artificial limbs and custom braces for practices within the United States and internationally. Part of SOGI was the company that manufactured the first Seattle foot; another, Lenox Hill Brace Company, developed the first custom knee brace in 1968, for NFL quarterback Joe Namath. SOGI's products and services were available under three trade names: Seattle Limb Systems, Lenox Hill orthotics, and Sea Fab central fabrication services.

NovaCare Merger: 1999--2000

Hanger kept buying up small companies, and by the end of 1998 it was operating 256 centers. Then, in 1999, it bought its bigger competitor, NovaCare's O & P division, for $420 million in cash and assumed debt. Adding NovaCare's nearly 400 patient care centers made Hanger the 500 pound gorilla of the U.S. orthotics and prosthetics industry and a national player. In addition to holding 25 percent of the U.S. market, the company was able to negotiate more favorable prices with its suppliers and to sign national distribution and service contracts.

But Hanger had trouble digesting the NovaCare division. As Hanger CEO Ivan Sabel told Fortune in a September 4, 2000 article, 'We may have been more optimistic than we should have been.' Part of the problem arose from integrating NovaCare's billing, collection, and payroll systems. While that was solvable, it proved more difficult to mesh different corporate structures. Dozens of NovaCare's specialists left when faced with Hanger's more entrepreneurial style.

Hanger considered various cost-savings measures. It briefly put its manufacturing division, Seattle Orthopedic Group, Inc. (SOGI), up for sale to help reduce debts. But the potential buyer, Otto Bock Orthopedic Industry, Inc., was not able to get financing terms that were acceptable to Hanger for the $75 million purchase.

As the sale was being considered, Hanger announced that SOGI and Sandia National Laboratories had signed an agreement on the development of the Smart Integrated Lower Limb. This advanced prostheses would be a complete system rather than an assemblage of components and make it possible to simulate the human walk. An interesting aspect of the project, which was funded in part by a $1.5 million grant from the U.S. Department of Energy, was that some of the research was subcontracted to a former Soviet nuclear weapons laboratory to help Russian scientists shift to nonmilitary research and development.

2000 and Beyond

Despite growing business at its local patient care centers, Hanger's sagging stock prices, the big interest payments on its debt and costs associated with integrating the NovaCare O & P division resulted in a 2001 restructuring plan aimed at cutting costs and increasing marketing efforts. The plan included halting acquisitions and concentrating on existing operations.

J.E. Hanger would hardly recognize the industry he contributed to so significantly. While Hanger wanted an artificial limb that made it possible for him to walk down a flight of stairs, today's strong, light-weight, custom fitted prostheses enabled amputees to ski, climb mountains, and run or walk normally. With an electrically powered artificial arm, an amputee could easily grasp a water bottle or a car steering wheel.

As the largest O & P provider in the country, and one of the biggest in the world, Hanger Orthopedic Group expected to weather its financial difficulties and maintain its dominance in the years to come.

Principal Subsidiaries: Hanger Prosthetics and Orthotics Inc.; OPNET; Seattle Orthopedic Group, Inc.; Southern Prosthetic Supply, Inc.

Principal Competitors: Biomet Inc.; Smith & Nephew plc; Stryker Corporation.

Chronology

• Key Dates:

• 1861: James Edward Hanger develops a wooden artificial leg for himself and Confederate amputees. He establishes J.E. Hanger, Inc. in Richmond, Virginia.
• 1915: Hanger's five sons split J.E. Hanger, Inc. into four separate companies, each based in a different region.
• 1919: James Edward Hanger dies.
• 1986: Sequel Corporation switches from cellular phones to orthotics and prosthetics with purchases of Capital Orthopedics and Greiner and Saur Orthopedic Appliances Corporation.
• 1989: Sequel acquires Washington, D.C.-based J.E. Hanger, Inc. and becomes the Hanger Orthopedic Group.
• 1991: Hanger Orthopedic goes public.
• 1995: Hanger forms OPNET, its managed-care division.
• 1996: Hanger Orthopedic Group buys Georgia-based J.E. Hanger, Inc.
• 1999: Hanger buys NovaCare O & P.