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Hanger Orthopedic Group Inc. (HGR - Analyst Report) reported second quarter 2012 adjusted earnings of 50 cents per share, beating the Zacks Consensus Estimate by a penny and exceeding the year-ago adjusted earnings of 45 cents a share.

Profit in the reported quarter was up 12.7% to $17.4 million (or 50 cents a share), driven by solid sales along with controlled expenses.

Revenues

Revenues rose 7.2% year over year to $251.8 million in the quarter, beating the Zacks Consensus Estimate of $249 million. This growth was led by higher sales across the company’s Distribution and Patient-Care Services divisions along with acquisitions (worth $5.9 million).

Patient-care services, Distribution and Therapeutic solutions segments represented 82.6%, 10.9% and 6.5% of total sales, respectively, in the second quarter. Sales from Hanger’s same center Patient-Care Services and Distribution segments grew 4.6% and 7.2%, respectively. Therapeutic sales increased by $0.3 million in the reported quarter.

Margins

Gross margin increased to 71% from 70.8% a year ago. Adjusted operating margin in the quarter was 14.2% versus 14% in the prior-year quarter.

Balance Sheet

Hanger ended second quarter 2012 with strong cash and cash equivalents of $41.6 million, more than twofolds higher than the year-ago quarter. Total debt was roughly flat year over year at $504.4 million.

Guidance

Hanger reiterated its revenue guidance for fiscal 2012 despite reimbursement and regulatory headwinds. The company expects revenues in the band of $970 million and $990 million. It foresees sales from its Patient Care Services and Distribution segments to grow 3% to 5% in 2012. Moreover, it expects flat to modestly higher sales in its Therapeutic Services division with higher sales from new contracts in the second half of 2012.

On the earnings front, Hanger has raised the lower end of its bottom-line guidance and now expects adjusted earnings per share in the range of $1.75 to $1.79 (earlier $1.72 to $1.79) for fiscal 2012. Adjusted earnings exclude one-time costs of 1 cent a share related to the deployment of the company’s new billing system and practice management. The current Zacks Consensus Estimates for revenues and earnings per share are $981 million and $1.77, respectively.

In addition, Hanger expects to generate operating cash flows of $70 million to $80 million in fiscal 2012 and aims to increase operating margins by 20–40 basis points in its core business and spend $40 to $50 million in capital expenditure. Further, Hanger aims to continue to pursue small tuck-in acquisitions which will roughly provide revenues of $20 million by year end.

Hanger leads in the orthotic and prosthetic (“O&P”) patient care services market, operating across more than 700 patient care centers in the U.S. The company’s economies of scale are unmatched by competition, which include notable players in the O&P space such as Orthofix International (OFIX - Snapshot Report), Conmed Corp. (CNMD - Analyst Report) and Exactech Inc. (EXAC - Snapshot Report).

Hanger is poised to achieve meaningful cost synergies from its corporate relocation. However, we are cautious about the company’s exposure to reimbursement uncertainties and its aggressive acquisition strategy, which has inherent risks. We currently have a Neutral recommendation on the stock, which carries a short-term Zacks #2 Rank (Buy).

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