Djo Finance 10-Q 2011 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended October 1, 2011

or

oTRANSITION 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: The registrant filed a registration Statement on Form S-4 on August 29, 2011.  Therefore it has not yet been subject to the filing requirements of Section 13 or 15(d) of the Exchange Act for the past 90 days)

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 x  No o

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 November 4, 2011, 100% of the issuer’s membership interests were owned by DJO Holdings LLC.

DJO Finance LLC

INDEX

		Page Number
PART I—FINANCIAL INFORMATION
Item 1.	Financial Statements
	Unaudited Condensed Consolidated Balance Sheets as of October 1, 2011 and December 31, 2010	1
	Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended October 1, 2011 and October 2, 2010	2
	Unaudited Condensed Consolidated Statements of Comprehensive Loss for the three and nine months ended October 1, 2011 and October 2, 2010	3
	Unaudited Condensed Consolidated Statement of Equity for the nine months ended October 1, 2011	4
	Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended October 1, 2011 and October 2, 2010	5
	Notes to Unaudited Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	33
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	45
Item 4.	Controls and Procedures	46
PART II—OTHER INFORMATION
Item 1.	Legal Proceedings	47
Item 1A.	Risk Factors	47
Item 6.	Exhibits	47

DJO Finance LLC

Unaudited Condensed Consolidated Balance Sheets

(in thousands)

	October 1, 2011			December 31, 2010
Assets
Current assets:
Cash and cash equivalents	$	39,323		$	38,132
Accounts receivable, net	155,863			145,523
Inventories, net	138,045			103,100
Deferred tax assets, net	44,985			48,061
Prepaid expenses and other current assets	24,825			23,419
Total current assets	403,041			358,235
Property and equipment, net	99,002			85,020
Goodwill	1,354,948			1,188,887
Intangible assets, net	1,174,701			1,110,841
Other assets	40,522			36,807
Total assets	$	3,072,214		$	2,779,790
Liabilities and Equity
Current liabilities:
Accounts payable	$	51,764		$	48,947
Accrued interest	52,855			15,578
Current portion of debt and capital lease obligations	8,821			8,821
Other current liabilities	91,412			81,709
Total current liabilities	204,852			155,055
Long-term debt and capital lease obligations	2,133,161			1,816,291
Deferred tax liabilities, net	271,423			289,913
Other long-term liabilities	15,513			11,712
Total liabilities	2,624,949			2,272,971
Commitments and contingencies
Equity:
DJO Finance LLC membership equity:
Member capital	833,870			830,994
Accumulated deficit	(391,065		)	(324,807		)
Accumulated other comprehensive income (loss)	1,762			(2,048		)
Total membership equity	444,567			504,139
Noncontrolling interests	2,698			2,680
Total equity	447,265			506,819
Total liabilities and equity	$	3,072,214		$	2,779,790

See accompanying notes to unaudited condensed consolidated financial statements.

1

DJO Finance LLC

Unaudited Condensed Consolidated Statements of Operations

(in thousands)

	Three Months Ended						Nine Months Ended
	October 1,2011			October 2,2010			October 1,2011			October 2,2010
Net sales	$	263,118		$	233,559		$	790,615		$	716,162
Cost of sales (exclusive of amortization of intangible assets of $9,688 and $28,831 for the three and nine months ended October 1, 2011 and $9,230 and $27,211 for the three and nine months ended October 2, 2010, respectively)	107,463			84,147			311,709			256,066
Gross profit	155,655			149,412			478,906			460,096
Operating expenses:
Selling, general and administrative	115,854			102,672			361,761			330,060
Research and development	6,477			5,892			19,721			16,923
Amortization of intangible assets	24,435			19,403			69,373			58,128
	146,766			127,967			450,855			405,111
Operating income	8,889			21,445			28,051			54,985
Other income (expense):
Interest expense	(42,764		)	(37,240		)	(126,320		)	(114,867		)
Interest income	77			92			240			232
Loss on modification of debt	—			—			(2,065		)	(1,096		)
Other income (expense), net	(6,004		)	4,981			(1,551		)	2,460
	(48,691		)	(32,167		)	(129,696		)	(113,271		)
Loss before income taxes	(39,802		)	(10,722		)	(101,645		)	(58,286		)
Income tax benefit	14,096			3,191			36,055			17,983
Net loss	(25,706		)	(7,531		)	(65,590		)	(40,303		)
Net income attributable to noncontrolling interests	(58		)	(184		)	(668		)	(827		)
Net loss attributable to DJO Finance LLC	$	(25,764	)	$	(7,715	)	$	(66,258	)	$	(41,130	)

See accompanying notes to unaudited condensed consolidated financial statements.

2

DJO Finance LLC

Unaudited Condensed Consolidated Statements of Comprehensive Loss

(in thousands)

	Three Months Ended						Nine Months Ended
	October 1,2011			October 2,2010			October 1,2011			October 2,2010
Net loss	$	(25,706	)	$	(7,531	)	$	(65,590	)	$	(40,303	)
Other comprehensive (loss) income, net of taxes:
Foreign currency translation adjustments, net of tax benefit (expense) of $3,173 and $(450) for the three and nine months ended October 1, 2011 and $(2,848) and $1,490 for the three and nine months ended October 2, 2010, respectively	(5,790		)	6,723			817			(3,333		)
Unrealized loss on cash flow hedges, net of tax benefit of $4 and $171 for the three and nine months ended October 1, 2011 and $684 and $2,979 for the three and nine months ended October 2, 2010, respectively	(6		)	(1,066		)	(265		)	(4,640		)
Reclassification adjustment for losses on cash flow hedges included in net loss, net of tax benefit of $693 and $2,095 for the three and nine months ended October 1, 2011 and $1,168 and $3,590 for the three and nine months ended October 2, 2010, respectively	1,115			1,819			3,290			5,591
Other comprehensive (loss) income	(4,681		)	7,476			3,842			(2,382		)
Comprehensive loss	(30,387		)	(55		)	(61,748		)	(42,685		)
Comprehensive loss (income) attributable to noncontrolling interests	139			(444		)	(700		)	(796		)
Comprehensive loss attributable to DJO Finance LLC	$	(30,248	)	$	(499	)	$	(62,448	)	$	(43,481	)

See accompanying notes to unaudited condensed consolidated financial statements.

3

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) income	—			(66,258		)	—			(66,258		)	668			(65,590		)
Other comprehensive income, net of taxes	—			—			3,810			3,810			32			3,842
Cancellation of vested options	(2,000		)	—			—			(2,000		)	—			(2,000		)
Stock-based compensation	1,700			—			—			1,700			—			1,700
Investment by parent	3,176			—			—			3,176			—			3,176
Dividend paid by subsidiary to owners of noncontrolling interests	—			—			—			—			(682		)	(682		)
Balance at October 1, 2011	$	833,870		$	(391,065	)	$	1,762		$	444,567		$	2,698		$	447,265

See accompanying notes to unaudited condensed consolidated financial statements.

4

DJO Finance LLC

Unaudited Condensed Consolidated Statements of Cash Flows

(in thousands)

	Nine Months Ended
	October 1, 2011			October 2, 2010
Cash Flows from Operating Activities:
Net loss	$	(65,590	)	$	(40,303	)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation	21,305			19,626
Amortization of intangible assets	69,373			58,128
Amortization of debt issuance costs and non-cash interest expense	6,270			9,137
Stock-based compensation expense	1,700			1,309
Loss on disposal of assets, net	683			1,986
Deferred income tax benefit	(43,074		)	(21,417		)
Provision for doubtful accounts and sales returns	22,455			25,549
Inventory reserves	5,812			4,602
Changes in operating assets and liabilities, net of acquired assets and liabilities:
Accounts receivable	(18,831		)	(21,428		)
Inventories	(11,450		)	(17,452		)
Prepaid expenses and other assets	2,277			(12,593		)
Accrued interest	37,280			25,772
Accounts payable and other current liabilities	11,908			8,716
Net cash provided by operating activities	40,118			41,632
Cash Flows from Investing Activities:
Cash paid in connection with acquisitions, net of cash acquired	(317,669		)	(2,045		)
Purchases of property and equipment	(29,217		)	(20,277		)
Other investing activities, net	(1,479		)	(717		)
Net cash used in investing activities	(348,365		)	(23,039		)
Cash Flows from Financing Activities:
Proceeds from issuance of debt	400,000			127,130
Repayments of debt and capital lease obligations	(83,620		)	(136,161		)
Payment of debt issuance costs	(7,612		)	(3,454		)
Investment by parent	3,176			1,389
Cash paid in connection with the cancellation of vested options	(2,000		)	—
Dividend paid by subsidiary to owners of noncontrolling interests	(682		)	(557		)
Net cash provided by (used in) financing activities	309,262			(11,653		)
Effect of exchange rate changes on cash and cash equivalents	176			(1,307		)
Net increase in cash and cash equivalents	1,191			5,633
Cash and cash equivalents at beginning of period	38,132			44,611
Cash and cash equivalents at end of period	$	39,323		$	50,244
Supplemental disclosures of cash flow information:
Cash paid for interest	$	78,549		$	81,834
Cash (refunded) paid for taxes, net	$	(3,932	)	$	3,614
Non-cash investing and financing activities:
Increases in property and equipment and in other current liabilities in connection with capitalized software costs	$	258		$	1,069

See accompanying notes to unaudited condensed consolidated financial statements.

5

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, therapeutic shoes and inserts, 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 three months ended October 1, 2011 and October 2, 2010 each included 63 shipping days. The nine months ended October 1, 2011 and October 2, 2010 included 191 shipping days and 192 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 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 Dr. Comfort, ETI and Circle City, 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, Bracing and Vascular, Recovery Sciences, Surgical Implant, and International. Our Bracing and Vascular, Recovery Sciences, and Surgical Implant segments generate their revenues within the United States. Our Bracing and Vascular segment offers rigid knee braces, orthopedic soft goods, cold therapy products, vascular systems, compression therapy products and therapeutic footwear for the diabetes care market. Our Recovery Sciences segment offers home electrotherapy, iontophoresis, home traction products, bone growth stimulation products and clinical therapy equipment. 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.

6

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

During 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 Dr. Comfort and ETI, which are included in our International segment:

On April 7, 2011, we acquired the ownership interests of Rikco International, LLC, D/B/A Dr. Comfort (Dr. Comfort), for a total purchase price of $257.5 million. Dr. Comfort is a provider of therapeutic footwear, which serves the diabetes care market in podiatry practices, orthotic and prosthetic centers, home medical equipment providers and independent pharmacies.

Of the total purchase price, $24.5 million was paid to a third party escrow agent to secure the indemnity obligations of the seller and to secure any post closing obligations resulting from the final determination of working capital and cash on hand as of the closing date. Following a post-closing purchase price adjustment which was deducted from the escrow account, the balance in the escrow account at October 1, 2011 was $23.5 million. The purchase price allocation is preliminary due to pending resolution of certain Dr. Comfort tax attributes.

The acquisition was funded using proceeds from $300.0 million of new 7.75% senior notes (7.75% Notes) issued in April 2011 (see Note 9). In connection with the acquisition of Dr. Comfort, we incurred $11.3 million of direct acquisition costs during the nine months ended October 1, 2011, which are included in selling and general administrative expenses in our consolidated statements of operations. 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. In addition, we paid $5.0 million of transaction and advisory fees paid to Blackstone Advisory Partners, L.P., an affiliate of our major shareholder (see Note 13).

On March 10, 2011, we acquired substantially all of the assets of Circle City Medical, Inc. (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 potential royalty payment was evaluated separately from the acquisition of the assets and liabilities of Circle City, and the royalty payments will be expensed as they are earned. For the three and nine months ended October 1, 2011, royalty payments made to the seller for sales of this product line were not significant to the Company.

7

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 January 4, 2011, we acquired the stock of Elastic Therapy, Inc. (ETI), 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 potential indemnity claims. An additional $1.0 million was deposited in escrow for the retention of certain key employees to be paid in installments six months, nine months and twelve months after the closing date, with the first installment paid to the sellers in July 2011. 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 $35.0 million on our revolving line of credit. On January 5, 2011, we converted ETI to a limited liability company.

The preliminary 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):

	Dr. Comfort			Circle City			BetterBraces.com		ETI			Weighted Average Useful Life (years)
Cash	$	59		$	—		$	—	$	817
Accounts receivable	9,187			572			—		3,690
Inventory	27,241			1,736			—		2,133
Other current assets	2,108			—			—		1,542
Property and equipment	2,183			—			—		7,230
Other non-current assets	1,607			—			—		394
Liabilities assumed	(25,883		)	(406		)	—		(11,504		)
Identifiable intangible assets (1):
Customer relationships	72,100			3,700			75		13,400			6.1
Technology	7,000			—			1,120		6,000			4.8
Non-compete	1,200			200			185		1,600			4.4
Trademarks and trade names	22,200			1,400			50		—			10.0
Goodwill (2)	138,466			4,469			1,570		21,104
Total purchase price	$	257,468		$	11,671		$	3,000	$	46,406

(1)An aggregate value of $89.3 million was assigned to customer relationships with major pharmaceutical, medical 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, after deducting contributory asset charges.

An aggregate value of $14.1 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.

An aggregate value of $3.2 million was assigned to non-compete agreements entered into with certain executive officers and senior management. The values were determined by estimating the present value of the cash flows associated with having these agreements in place, less the present value of the cash flows assuming the non-compete agreements were not in place.

An aggregate value of $23.7 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.

The useful lives of the intangible assets were estimated based on the underlying agreements and/or the future economic benefit expected to be received from the assets.

8

(2)Goodwill represents the excess purchase price over the fair value of the identifiable net assets acquired. We acquired Dr. Comfort to expand our product offerings and increase our addressable market. We also believe there are certain cost reduction synergies that may be realized when certain portions of the Dr. Comfort business are integrated with our existing businesses and as we implement lean principles in Dr. Comfort’s supply chain and distribution activities. We acquired ETI in order to expand our product offerings and vertically integrate into ETI products which we currently acquire from a third party manufacturer. In addition, we believe there are cost reduction synergies to be realized with the implementation of lean manufacturing methodology. 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. 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. The allocation of goodwill to our reportable segments has not yet been completed.

Goodwill related to our Circle City and BetterBraces.com acquisitions is expected to be deductible for tax purposes.

The results of operations attributable to each acquisition are included in our condensed consolidated financial statements from the date of acquisition. The pro forma financial results presented below (in thousands) give effect to the acquisitions of Dr. Comfort, ETI, and Circle City as if such acquisitions had been completed as of January 1, 2011 (for the 2011 period) and January 1, 2010 (for the 2010 period). These pro forma results are not necessarily indicative of the operating results that would have been achieved had these acquisitions occurred on such date.

	Three months ended			Nine months ended
	October 2, 2010			October 1, 2011			October 2, 2010
Net sales	$	259,394		$	811,278		$	795,214
Net loss attributable to DJOFL	$	(1,158	)	$	(65,756	)	$	(20,118	)

Our condensed consolidated statements of operations for the three and nine months ended October 1, 2011 include $24.7 million and $59.6 million of aggregate net sales and $7.7 million and $18.0 million of aggregate net income, respectively, attributable to our acquisitions of Dr. Comfort, ETI, and Circle City.

3.  ACCOUNTS RECEIVABLE RESERVES

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

	Nine Months Ended
	October 1, 2011			October 2, 2010
Balance, beginning of period	$	53,076		$	48,306
Provision for doubtful accounts and sales returns	22,455			25,549
Write-offs, net of recoveries	(24,288		)	(21,400		)
Balance, end of period	$	51,243		$	52,455

4.  INVENTORIES

Inventories consist of the following (in thousands):

	October 1, 2011			December 31, 2010
Components and raw materials	$	38,186		$	27,287
Work in process	5,274			5,478
Finished goods	87,989			60,596
Inventory held on consignment	21,722			22,592
	153,171			115,953
Less inventory reserves	(15,126		)	(12,853		)
	$	138,045		$	103,100

9

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

	Nine Months Ended
	October 1, 2011			October 2, 2010
Balance, beginning of period	$	12,853		$	12,511
Provision charged to cost of sales	5,812			4,602
Write-offs, net of recoveries	(3,539		)	(4,426		)
Balance, end of period	$	15,126		$	12,687

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 nine months ended October 1, 2011 are presented below (in thousands):

Balance, beginning of period	$	1,188,887
Acquisitions (see Note 2)	165,609
Translation adjustments	452
Balance, end of period	$	1,354,948

Intangible assets, net

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

October 1, 2011	Gross Carrying Amount		Accumulated Amortization			Intangible Assets, Net
Definite-lived intangible assets:
Customer relationships	$	569,903	$	(167,936	)	$	401,967
Patents and technology	460,440		(146,383		)	314,057
Trademarks and trade names	23,650		(1,188		)	22,462
Distributor contracts and relationships	5,089		(1,015		)	4,074
Non-compete agreements	3,627		(671		)	2,956
	$	1,062,709	$	(317,193	)	745,516
Indefinite-lived intangible assets:
Trademarks and trade names						429,185
Net identifiable intangible assets						$	1,174,701

December 31, 2010	Gross Carrying Amount		Accumulated Amortization			Intangible Assets, Net
Definite-lived intangible assets:
Customer relationships	$	484,115	$	(130,362	)	$	353,753
Patents and technology	447,437		(119,985		)	327,452
Distributor contracts and relationships	789		(482		)	307
Non-compete agreements	459		(129		)	330
	$	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 7.7 years for customer relationships, 10.6 years for patents and technology, 5.3 years for distributor rights, 9.5 years for trademarks and trade names, and 3.7 years for distributor rights. Based on our amortizable intangible asset balance as of October 1, 2011, we estimate that amortization expense will be as follows for the next five years and thereafter (in thousands):

Remaining 2011	$	24,566
2012	97,093
2013	91,197
2014	89,212
2015	84,816
Thereafter	358,632
	$	745,516

10

6.  OTHER CURRENT LIABILITIES

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

	October 1, 2011		December 31, 2010
Accrued wages and related expenses	$	33,136	$	24,154
Accrued commissions	11,203		10,402
Income taxes payable	5,199		2,656
Accrued rebates	5,335		6,006
Accrued other taxes	4,478		2,322
Accrued professional expenses	4,118		3,881
Derivative liabilities	3,472		6,707
Other accrued liabilities	24,471		25,581
	$	91,412	$	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.

All derivatives, whether designated as hedging relationships or not, are recorded on the balance sheet at fair value. The fair value of our derivatives are 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 four 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).

11

Information regarding our interest rate swap agreements as of October 1, 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	$	433
December 2011	75,000		2.585	%	1 month LIBOR	440
December 2011	75,000		2.595	%	1 month LIBOR	442
December 2011	75,000		2.60	%	1 month LIBOR	443
						$	1,758

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 held as of October 1, 2011 expire weekly through September 2012. 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 (expense), net, in our unaudited condensed consolidated statements of operations.

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

	Notional Amount (MXP)		Notional Amount (USD)
	October 1,2011	December 31, 2010	October 1,2011		December 31, 2010
Foreign exchange contracts not designated as hedges	291,835	116,910	$	22,414	$	9,428

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

	Balance Sheet Location	October 1, 2011		December 31, 2010
Derivative Assets:
Foreign exchange forward contracts not designated as hedges	Other current assets	$	—	$	374
Derivative Liabilities:
Foreign exchange forward contracts not designated as hedges	Other current liabilities	$	1,714	$	—
Interest rate swap agreements designated as cash flow hedges	Other current liabilities	1,758		6,707
		$	3,472	$	6,707

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

		Three Months Ended						Nine Months Ended
	Location of gain (loss)	October 1,2011			October 2,2010			October 1,2011			October 2,2010
Interest rate swap agreements designated as cash flow hedges	Interest expense (1)	$	(1,807	)	$	(2,988	)	$	(5,384	)	$	(9,181	)
Foreign exchange forward contracts not designated as hedges	Other income (expense), net	(2,121		)	407			(2,088		)	431
		$	(3,928	)	$	(2,581	)	$	(7,472	)	$	(8,750	)

(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.

12

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

	Three Months Ended				Nine Months Ended
	October 1,2011		October 2,2010		October 1,2011		October 2,2010
Interest rate swaps designated as cash flow hedges	$	9	$	1,750	$	435	$	7,619

As of October 1, 2011, the cumulative amount included in accumulated other comprehensive income (loss) related to derivative instruments designated as cash flow hedges was $1.1 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 October 1, 2011	Level 1 (1)		Level 2 (2)		Level 3 (3)		Total
Total Liabilities:
Foreign exchange forward contracts not designated as hedges	$	—	$	1,714	$	—	$	1,714
Interest rate swap agreements designated as cash flow hedge	—		1,758		—		1,758
	$	—	$	3,472	$	—	$	3,472

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

(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.

13

9.  DEBT AND CAPITAL LEASE OBLIGATIONS

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

	October 1, 2011			December 31, 2010
Senior Secured Credit Facility:
$100.0 million revolving credit facility	$	23,000		$	—
Term loan facility, net of unamortized original issue discount of $4.8 million and $6.0 million, respectively	840,379			845,792
10.875% Senior Notes, including unamortized original issue premium of $3.6 million and $4.2 million, respectively	678,555			679,239
9.75% Senior Subordinated Notes	300,000			300,000
7.75% Senior Notes	300,000			—
Capital lease obligations and other	49			81
Total debt and capital lease obligations	2,141,983			1,825,112
Current maturities	(8,821		)	(8,821		)
Long-term debt and capital lease obligations	$	2,133,162		$	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 original issue 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 outstanding 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 Maximum 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 maximum total net leverage ratio requirement, our senior secured leverage ratio requirement, and are not in default. In connection with this amendment, we incurred $2.1 million of arrangement and lender consent fees which are included in loss on modification of debt in our unaudited condensed consolidated statement of operations.

As of October 1, 2011, the market values of our term loan facility and revolving credit facility were $786.1 million and $21.2 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).

14

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.

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.

15

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 October 1, 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 October 1, 2011, our senior secured leverage ratio was 2.89:1, and we were in compliance with all other applicable covenants.

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 aggregate principal amounts of $575.0 million and $100.0 million, respectively (the 10.875% Notes), under an agreement dated 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 the notes using the effective interest method, thereby decreasing the reported outstanding balance through the maturity date.

As of October 1, 2011, the market value of the 10.875% Notes was $664.9 million. We determine market value using trading prices for the 10.875% Notes on or near that date.

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 October 1, 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 subordinated 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 October 1, 2011, the market value of the 9.75% Notes was $247.5 million. We determined market value using trading prices for the 9.75% Notes on or near that date.

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.

16

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 October 1, 2011, we were in compliance with all applicable covenants.

7.75% Senior Notes

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. 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.

As of October 1, 2011, the market value of the 7.75% Notes was $253.5 million. We determined market value using trading prices for the 7.75% Notes on or near that date.

Optional Redemption.  Under the Indenture to the 7.75% Notes (the 7.75% Indenture), prior to April 15, 2014, the Issuers have the option to redeem some or all of the 7.75% 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 April 15, 2014, the Issuers may redeem some or all of the 7.75% Notes at a redemption price of 105.813% of the then outstanding principal balance plus accrued and unpaid interest. The redemption price decreases to 103.875%, 101.938% and 100% of the then outstanding principal balance at April 15, 2015, 2016 and 2017, respectively. Additionally, from time to time, before April 15, 2014, the Issuers may redeem up to 35% of the 7.75% Notes at a redemption price equal to 107.75% 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 7.75% Notes, DJOFL will be required to make an offer to repurchase all of the then-outstanding 7.75% Notes at 101% of their principal amount, plus accrued and unpaid interest.

Covenants.  The 7.75% 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 October 1, 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 the ratios required by those covenants. 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, the 9.75% Indenture and the 7.75% 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 October 1, 2011 and December 31, 2010, we had $36.0 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 nine months ended October 1, 2011, we capitalized $7.6 million of debt issuance costs incurred in connection with the issuance of $300.0 million aggregate principal of 7.75% Notes. During the nine months ended October 2, 2010, we capitalized $3.5 million of debt issuance costs in connection with the issuance of $100.0 million aggregate principal of 10.875% Notes. For the three and nine months ended October 1, 2011, amortization of debt issuance costs was $2.0 million and $5.8 million, respectively. For the three and nine months ended October 2, 2010, amortization of debt issuance costs was $1.7 million and $7.6 million, respectively. Amortization of debt issuance costs is included in interest expense in our unaudited condensed consolidated statements of operations.

17

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 October 1, 2011, we recorded an income tax benefit of approximately $14.1 million on a pre-tax loss of $39.8 million, resulting in an effective tax rate of 35.4%. For the nine months ended October 1, 2011, we recorded an income tax benefit of approximately $36.1 million on a pre-tax loss of approximately $101.6 million, resulting in a 35.5% effective tax rate.

For the three and nine months ended October 2, 2010, we recorded an income tax benefit of approximately $3.2 million and $18.0 million, on a pre-tax loss of approximately $10.7 million and $58.3 million, resulting in a 29.8% and 30.9% effective tax rate, respectively. The difference in the tax benefit recorded during the three and nine months ended October 1, 2011 and the three and nine months ended October 2, 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 2007. 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 nine months ended October 1, 2011, we increased our gross unrecognized tax benefits by $0.2 million, resulting in total gross unrecognized tax benefits of $17.9 million at the end of the period. As of October 1, 2011, we have $2.5 million accrued for interest and penalties. To the extent our gross unrecognized tax benefits are recognized in the future, a reduction of $3.1 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.  We anticipate that approximately $1.5 million of uncertain tax positions related to transfers of intellectual property and $0.3 million of unrecognized tax positions, each of which are individually immaterial, will decrease in the next twelve months due to the expiration of the statute of limitations. The majority of our unrecognized tax benefits will impact the effective tax rate upon recognition; however, $1.8 million of unrecognized tax benefits related to prior acquisitions will impact other balance sheet accounts due to various indemnification provisions.

11.  STOCK OPTION PLANS AND STOCK-BASED COMPENSATION

Stock Option Plan

We have one active equity compensation plan, the DJO 2007 Incentive Stock Plan (the 2007 Plan) under which we are authorized to grant awards of stock, options, and other stock-based awards of shares of Common Stock of our indirect parent, DJO, subject to adjustment in certain events. In June 2011, we amended the 2007 Plan to increase the number of shares available to grant from 7,500,000 to 7,925,529.

Options issued under the 2007 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 Plan, as amended.

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 (Time-Based Tranche). Prior to the June 2011 amendment described below, another one-third of the stock option grant would have vested based upon achieving a minimum internal rate of return (IRR) and a minimum return of money on invested capital (MOIC), as defined, each

18

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 (Market Return Tranche). The final one-third of the stock option grant would have vested based upon achieving an increased minimum IRR and an increased minimum return of 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 (Enhanced Market Return Tranche).

In June 2011, the compensation committee approved further modifications to the terms of the options in the Market Return Tranche and Enhanced Market Return Tranche and the DJO Form Option Agreement. As amended, vesting of the options in the Market Return Tranche are no longer subject to the achievement of a minimum IRR and the options will vest based upon achieving a minimum return of MOIC, and vesting of the options in the Enhanced Market Return Tranche are also no longer subject to achievement of a minimum IRR and the options will vest based on achieving an increased minimum return of 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.

Stock-Based Compensation

During the three months ended October 1, 2011, we granted 12,500 stock options to employees, with a weighted average grant date fair value of $6.09 per share for options in the Time-Based Tranche. During the nine months ended October 1, 2011, we granted 983,000 stock options to employees, with a weighted average grant date fair value of $6.23 for options in the Time-Based Tranche. The options granted during the nine months ended October 1, 2011 included 800,000 options granted to Michael P. Mogul, our new president and chief executive officer.

In addition, during the three months ended October 1, 2011, we granted 60,753 restricted shares to Michael P. Mogul. The shares will vest 50% on each of the anniversary dates of his employment commencement date, subject to his continued employment through the applicable anniversary dates.

During the three months ended October 2, 2010, we granted 102,500 stock options to employees, with a weighted average grant date fair value of $6.46 per share for options in the Time-Based Tranche. During the nine months ended October 2, 2010, we granted 586,050 stock options to employees, with a weighted average grant date fair value of $6.66 per share for options in the Time-Based Tranche. In addition, during the three and nine months ended October 2, 2010, we granted 5,000 and 6,200 options, respectively, to non-employee distributors.

The following table summarizes certain assumptions we used to estimate the fair value of the Time-Based Tranche of stock options granted:

	Three Months Ended				Nine Months Ended
	October 1, 2011		October 2, 2010		October 1, 2011		October 2, 2010
Expected volatility	34.4	%	34.3	%	34.0-34.4	%	34.2 – 34.5	%
Risk-free interest rate	1.3	%	2.0	%	1.3-2.1	%	2.0 - 3.0	%
Expected years until exercise	6.6		6.9		6.4-6.6		6.4 - 7.0
Expected dividend yield	0.0	%	0.0	%	0.0	%	0.0	%

We recorded non-cash stock-based compensation expense during the periods presented as follows (in thousands):

	Three Months Ended				Nine Months Ended
	October 1, 2011		October 2, 2010		October 1, 2011		October 2, 2010
Cost of goods sold	19		19		130		38
Operating Expenses:
Selling, general and administrative	341		409		1,533		1,218
Research and development	9		16		37		53
	$	369	$	444	$	1,700	$	1,309

In each of the periods presented, we only recognized stock-based compensation expense for options granted to employees 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. Stock based compensation expense for options granted to non employees was not significant to the Company for all periods presented, and was included in selling, general and administrative expense in our unaudited consolidated statements of operations.

19

Included in stock-based compensation expense for the nine months ended October 1, 2011 is $0.4 million of incremental expense associated with the modification of the terms of options previously granted.

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 Plan on a tax-deferred basis (Rollover Options). The fair value of these vested Rollover Options was $15.2 million and was recorded as a component of the cost of the DJO merger.

During the nine months ended October 1, 2011, we paid cash of $2.0 million to our former chief executive officer, upon his retirement, to cancel 355,155 shares of vested Rollover Options held by him. The amount paid represents the excess of the fair market value of the shares over their exercise price. This amount is included as a reduction to member capital in our unaudited condensed consolidated balance sheet as of October 1, 2011.

In addition, during the three months ended October 1, 2011, DJO sold 192,959 shares of its common stock at $16.46 per share, consisting of 157,959 shares purchased by our new chief executive officer, and 35,000 shares purchased by another member of senior management. The share purchases were subject to execution of a stockholder agreement including certain rights and restrictions. Net proceeds of $3.2 million from the share purchases were contributed by DJO to us, and are included in member capital in our unaudited condensed consolidated balance sheet as of October 1, 2011. The proceeds were used for working capital purposes.

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 and nine month periods presented, we recognized $1.75 million and $5.25 million, respectively, related to the annual monitoring fee, which was recorded as a component of selling, general and administrative expense in our unaudited condensed consolidated statements of operations.

In addition, during the nine months ended October 1, 2011, in connection with the Dr. Comfort acquisition, we paid $5.0 million of transaction and advisory fees to Blackstone Advisory Partners, L.P., an affiliate of our major shareholder, which was recorded as a component of selling, general and administrative expense in our unaudited condensed consolidated statement 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.

20

Pain Pump Litigation

We are currently named as one of several defendants in a number of product liability lawsuits 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. There were approximately 60 plaintiffs in U.S. cases pending as of October 15, 2011 and a lawsuit in Canada which was recently certified as a class action. On October 26, 2011, we received notice of filing of several lawsuits involving a total of 200 plaintiffs. Based upon the allegations in the complaints, it appears that all but approximately 20 plaintiffs used a pain pump that was not sold by DJO. 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 twelve months, we have entered into settlements with plaintiffs in approximately 45 pain pump lawsuits.

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, and the carriers for the manufacturers have either exhausted coverage limits or denied our tender of indemnity. One 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 Company and the other 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 nine multi-plaintiff lawsuits involving a total of 210 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 October 1, 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, 2011 and June 30, 2012. This policy excludes coverage for claims related to both pain pump products and cold therapy products. As described below, we have other insurance which provides coverage for these excluded products. For the current policy year, we maintain coverage limits (together with excess policies) of up to $50 million, with deductibles of $500,000 per claim for claims relating to invasive products (principally surgical implant products) and $50,000 per claim for claims relating to all other covered products, with an aggregate self-insured retention of $2 million. Starting with the 2010-2011 policy period, our products

21

liability policy excluded claims related to pain pump products. We purchased supplemental extended reporting period (SERP) coverage for the $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. 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). Concurrently with the exclusion of our cold therapy products from the current primary products coverage, we purchased SERP coverage for cold therapy product claims for injuries alleged to have occurred prior to July 1, 2011.  This SERP allows us to report such cold therapy claims under our expired 2010-2011 policy which had total limits of $50 million. We also purchased separate primary and excess policies providing for a total of $5 million of coverage for claims related to cold therapy products arising from injuries alleged to have occurred after June 30, 2011, with a deductible of $300,000 per claim and an aggregate deductible of $4 million.  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

We have been named as a defendant along with each of the other companies that manufactures and sells external bone growth stimulators, in a qui tam action filed in Federal Court in Boston, Massachusetts in March 2005 and amended in December 2007. 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. 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 October 1, 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 to reflect the addition of our recent acquisitions, which have increased our focus on the vascular market. This segment also includes the U.S. results of operations attributable to Dr. Comfort, ETI and Circle City, 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:

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. The U.S. results of our recent Circle City and ETI acquisitions are included within this segment. 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. In addition, included within this segment is our newly acquired Dr. Comfort business, which develops and manufactures therapeutic footwear and related medical and comfort products serving the diabetes care market in podiatry practices, orthotic and prosthetic centers, home medical equipment providers and independent pharmacies.

22

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.

·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.

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.

23

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						Nine Months Ended
	October 1,2011			October 2,2010			October 1,2011			October 2,2010
Net sales:
Bracing and Vascular	$	101,452		$	78,156		$	281,687		$	232,087
Recovery Sciences	81,956			85,884			253,335			257,361
International	64,475			54,960			207,423			179,979
Surgical Implant	15,235			14,559			48,170			46,735
	$	263,118		$	233,559		$	790,615		$	716,162
Gross profit:
Bracing and Vascular	$	52,997		$	42,521		$	149,593		$	127,865
Recovery Sciences	61,573			66,753			191,836			195,773
International	36,472			30,697			118,376			106,097
Surgical Implant	10,698			10,258			34,239			34,533
Expenses not allocated to segments and eliminations	(6,085		)	(817		)	(15,138		)	(4,172		)
	$	155,655		$	149,412		$	478,906		$	460,096
Operating income:
Bracing and Vascular	$	18,844		$	17,188		$	54,339		$	50,428
Recovery Sciences	21,392			30,962			68,892			85,441
International	11,723			9,752			40,790			40,787
Surgical Implant	827			401			2,230			4,545
Expenses not allocated to segments and eliminations	(43,897		)	(36,858		)	(138,200		)	(126,216		)
	$	8,889		$	21,445		$	28,051		$	54,985

Geographic Area

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

	Three Months Ended				Nine Months Ended
	October 1,2011		October 2,2010		October 1,2011		October 2,2010
Net sales:
United States	$	198,643	$	185,530	$	583,138	$	533,274
Germany	20,712		15,998		68,203		55,319
Other Europe, Middle East and Africa	24,589		16,623		86,926		68,225
Asia Pacific	2,244		3,764		11,532		16,911
Other	16,930		11,644		40,816		42,433
	$	263,118	$	233,559	$	790,615	$	716,162

24

16.  SUPPLEMENTAL GUARANTOR CONDENSED CONSOLIDATING FINANCIAL STATEMENTS

DJOFL and its direct wholly owned subsidiary, DJO Finco, issued $575.0 million and $100.0 million of 10.875% Notes in November 2007 and January 2010, respectively, $300.0 million of 9.75% Notes in October 2010 and $300.0 million of 7.75% Notes in April 2011.

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 and 7.75% 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 the notes. The Guarantors also unconditionally guarantee the Senior Secured Credit Facility.

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 October 1, 2011

(in thousands)

	DJOFL		Guarantors			Non - Guarantors		Eliminations			Consolidated
Assets
Current assets:
Cash and cash equivalents	$	15,275	$	(189	)	$	24,226	$	11		$	39,323
Accounts receivable, net	—		121,416			34,447		—			155,863
Inventories, net	—		111,703			21,951		4,391			138,045
Deferred tax assets, net	—		44,647			338		—			44,985
Prepaid expenses and other current assets	29		18,805			3,463		2,528			24,825
Total current assets	15,304		296,382			84,425		6,930			403,041
Property and equipment, net	—		91,150			13,143		(5,291		)	99,002
Goodwill	—		1,274,311			110,714		(30,077		)	1,354,948
Intangible assets, net	—		1,141,519			33,182		—			1,174,701
Investment in subsidiaries	1,297,699		1,695,817			182,654		(3,176,170		)	—
Intercompany receivables	1,292,059		—			—		(1,292,059		)	—
Other non-current assets	35,997		2,989			1,527		9			40,522
Total assets	$	2,641,059	$	4,502,168		$	425,645	$	(4,496,658	)	$	3,072,214
Liabilities and Equity
Current liabilities:
Accounts payable	$	—	$	43,605		$	8,134	$	25		$	51,764
Current portion of debt and capital lease obligations	8,782		39			—		—			8,821
Other current liabilities	54,558		60,958			25,854		2,897			144,267
Total current liabilities	63,340		104,602			33,988		2,922			204,852
Long-term debt and capital lease obligations	2,133,152		9			—		—			2,133,161
Deferred tax liabilities, net	—		260,669			10,754		—			271,423
Intercompany payables, net	—		1,055,963			236,096		(1,292,059		)	—
Other long-term liabilities	—		14,951			562		—			15,513
Total liabilities	2,196,492		1,436,194			281,400		(1,289,137		)	2,624,949
Noncontrolling interests	—		—			2,698		—			2,698
Total membership equity	444,567		3,065,974			141,547		(3,207,521		)	444,567
Total liabilities and equity	$	2,641,059	$	4,502,168		$	425,645	$	(4,496,658	)	$	3,072,214

25

DJO Finance LLC

Unaudited Condensed Consolidating Statements of Operations

For the Three Months Ended October 1, 2011

(in thousands)

	DJOFL			Guarantors			Non - Guarantors			Eliminations			Consolidated
Net sales	$	—		$	222,120		$	60,319		$	(19,321	)	$	263,118
Cost of sales (exclusive of amortization of intangible assets of $9,688)	—			90,555			37,788			(20,880		)	107,463
Gross profit	—			131,565			22,531			1,559			155,655
Operating expenses:
Selling, general and administrative	—			94,502			21,352			—			115,854
Research and development	—			5,546			931			—			6,477
Amortization of intangible assets	—			23,328			1,107			—			24,435
	—			123,376			23,390			—			146,766
Operating income (loss)	—			8,189			(859		)	1,559			8,889
Other income (expense):
Interest expense	(42,756		)	—			(8		)	—			(42,764		)
Interest income	3			17			57			—			77
Other income, net	—			(1,820		)	(4,184		)	—			(6,004		)
Intercompany income	—			664			1,211			(1,875		)	—
Equity in income of subsidiaries, net	16,989			—			—			(16,989		)	—
	(25,764		)	(1,139		)	(2,924		)	(18,864		)	(48,691		)
(Loss) income before income taxes	(25,764		)	7,050			(3,783		)	(17,305		)	(39,802		)
Income tax benefit (provision)	—			15,306			(875		)	(335		)	14,096
Net (loss) income	(25,764		)	22,356			(4,658		)	(17,640		)	(25,706		)
Net income attributable to noncontrolling interests	—			—			(58		)	—			(58		)
Net (loss) income attributable to DJOFL	$	(25,764	)	$	22,356		$	(4,716	)	$	(17,640	)	$	(25,764	)

26

DJO Finance LLC

Unaudited Condensed Consolidating Statements of Operations

For the Nine Months Ended October 1, 2011

(in thousands)

	DJOFL			Guarantors			Non - Guarantors			Eliminations			Consolidated
Net sales	$	—		$	654,999		$	194,502		$	(58,886	)	$	790,615
Cost of sales (exclusive of amortization of intangible assets of $28,831)	—			264,678			124,189			(77,158		)	311,709
Gross profit	—			390,321			70,313			18,272			478,906
Operating expenses:
Selling, general and administrative	—			292,764			68,997			—			361,761
Research and development	—			16,496			3,225			—			19,721
Amortization of intangible assets	—			66,129			3,244			—			69,373
	—			375,389			75,466			—			450,855
Operating income (loss)	—			14,932			(5,153		)	18,272			28,051
Other income (expense):
Interest expense	(126,173		)	(10		)	(137		)	—			(126,320		)
Interest income	10			111			119			—			240
Loss on modification of debt	(2,065		)	—			—			—			(2,065		)
Other income, net	—			396			(1,947		)	—			(1,551		)
Intercompany income (expense)	10,625			(8,134		)	(468		)	(2,023		)	—
Equity in income of subsidiaries, net	51,345			—			—			(51,345		)	—
	(66,258		)	(7,637		)	(2,433		)	(53,368		)	(129,696		)
(Loss) income before income taxes	(66,258		)	7,295			(7,586		)	(35,096		)	(101,645		)
Income tax benefit (provision)	—			40,559			(4,650		)	146			36,055
Net (loss) income	(66,258		)	47,854			(12,236		)	(34,950		)	(65,590		)
Net income attributable to noncontrolling interests	—			—			(668		)	—			(668		)
Net (loss) income attributable to DJOFL	$	(66,258	)	$	47,854		$	(12,904	)	$	(34,950	)	$	(66,258	)

27

DJO Finance LLC

Unaudited Condensed Consolidating Statements of Cash Flows

For the Nine Months Ended October 1, 2011

(in thousands)

	DJOFL			Guarantors			Non- Guarantors			Eliminations			Consolidated
Cash Flows from Operating Activities:
Net (loss) income	$	(66,258	)	$	47,854		$	(12,236	)	$	(34,950	)	$	(65,590	)
Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:
Depreciation	—			17,281			4,091			(67		)	21,305
Amortization of intangible assets	—			66,129			3,244			—			69,373
Amortization of debt issuance costs and non-cash interest expense	6,270			—			—			—			6,270
Stock-based compensation expense	—			1,700			—			—			1,700
Loss on disposal of assets, net	—			391			292			—			683
Deferred income tax benefit	(1,925		)	(40,267		)	(736		)	(146		)	(43,074		)
Provision for doubtful accounts and sales returns	—			20,105			334			—			20,439
Inventory reserves	—			4,609			878			—			5,487
Equity in income of subsidiaries, net	(51,345		)	—			—			51,345			—
Changes in operating assets and liabilities:
Accounts receivable	—			(15,822		)	(993		)	—			(16,815		)
Inventories	—			(7,759		)	6,263			(9,629		)	(11,125		)
Prepaid expenses and other assets	79			3,295			(1,239		)	142			2,277
Accounts payable and other current liabilities	37,273			4,014			7,399			502			49,188
Net cash (used in) provided by operating activities	(75,906		)	101,530			7,297			7,197			40,118
Cash Flows from Investing Activities:
Cash paid in connection with acquisitions, net of cash acquired	—			(317,669		)	—			—			(317,669		)
Purchases of property and equipment	—			(24,917		)	(4,087		)	(213		)	(29,217		)
Other investing activities, net	—			(1,484		)	5			—			(1,479		)
Net cash used in investing activities	—			(344,070		)	(4,082		)	(213		)	(348,365		)
Cash Flows from Financing Activities:
Intercompany	(237,398		)	243,762			609			(6,973		)	—
Proceeds from issuance of debt	400,000			—			—			—			400,000
Repayments of debt and capital lease obligations	(83,586		)	(32		)	(2		)	—			(83,620		)
Payment of debt issuance costs	(7,612		)	—			—			—			(7,612		)
Investment by parent	3,176			—			—			—			3,176
Repurchase of vested options	—			(2,000		)	—			—			(2,000		)
Dividend paid by subsidiary to owners of noncontrolling interests	—			—			(682		)	—			(682		)
Net cash provided by (used in) financing activities	74,580			241,730			(75		)	(6,973		)	309,262
Effect of exchange rate changes on cash and cash equivalents	—			—			176			—			176
Net (decrease) increase in cash and cash equivalents	(1,326		)	(810		)	3,316			11			1,191
Cash and cash equivalents at beginning of period	16,601			621			20,910			—			38,132
Cash and cash equivalents at end of period	$	15,275		$	(189	)	$	24,226		$	11		$	39,323

28

DJO Finance LLC

Unaudited Condensed Consolidating Statements of Operations

For the Three Months Ended October 2, 2010

(in thousands)

	DJOFL			Guarantors			Non- Guarantors			Eliminations			Consolidated
Net sales	$	—		$	201,837		$	43,453		$	(11,731	)	$	233,559
Cost of sales (exclusive of amortization of intangible assets of $9,230)	—			71,429			23,654			(10,936		)	84,147
Gross profit	—			130,408			19,799			(795		)	149,412
Operating expenses:
Selling, general and administrative	—			83,231			19,391			50			102,672
Research and development	—			4,870			1,022			—			5,892
Amortization of intangible assets	—			18,436			960			7			19,403
	—			106,537			21,373			57			127,967
Operating income (loss)	—			23,871			(1,574		)	(852		)	21,445
Other income (expense):
Interest expense	(37,160		)	(5		)	(75		)	—			(37,240		)
Interest income	3			64			25			—			92
Other income, net	—			2,289			2,557			135			4,981
Intercompany income (expense)	6,922			(5,872		)	(919		)	(131		)	—
Equity in income of subsidiaries, net	22,520			—			—			(22,520		)	—
	(7,715		)	(3,524		)	1,588			(22,516		)	(32,167		)
(Loss) income before income taxes	(7,715		)	20,347			14			(23,368		)	(10,722		)
Income tax benefit (provision)	—			3,589			(398		)	—			3,191
Net (loss) income	(7,715		)	23,936			(384		)	(23,368		)	(7,531		)
Net income attributable to noncontrolling interests	—			—			(184		)	—			(184		)
Net (loss) income attributable to DJO Finance LLC	$	(7,715	)	$	23,936		$	(568	)	$	(23,368	)	$	(7,715	)

29

DJO Finance LLC

Unaudited Condensed Consolidating Statements of Operations

For the Nine Months Ended October 2, 2010

(in thousands)

	DJOFL			Guarantors			Non- Guarantors			Eliminations			Consolidated
Net sales	$	—		$	617,701		$	146,567		$	(48,106	)	$	716,162
Cost of sales (exclusive of amortization of intangible assets of $27,211)	—			229,725			74,622			(48,281		)	256,066
Gross profit	—			387,976			71,945			175			460,096
Operating expenses:
Selling, general and administrative	—			270,525			59,485			50			330,060
Research and development	—			14,144			2,779			—			16,923
Amortization of intangible assets	—			55,229			2,892			7			58,128
				339,898			65,156			57			405,111
Operating income	—			48,078			6,789			118			54,985
Other income (expense):
Interest expense	(114,626		)	(48		)	(196		)	—			(114,867		)
Interest income	6			164			62			—			232
Loss on modification of debt	(1,096		)	—			—			—			(1,096		)
Other income (expense), net	—			2,376			84			—			2,460
Intercompany income (expense), net	68,715			(45,319		)	(2,805		)	(20,591		)	—
Equity in income of subsidiaries, net	5,871			—			—			(5,871		)	—
	(41,130		)	(42,827		)	(2,852		)	(26,462		)	(113,271		)
(Loss) income before income taxes	(41,130		)	5,251			3,937			(26,344		)	(58,286		)
Income tax benefit (provision)	—			20,668			(2,685		)	—			17,983
Net (loss) income	(41,130		)	25,919			1,252			(26,344		)	(40,303		)
Net income attributable to noncontrolling interests	—			—			(827		)	—			(827		)
Net (loss) income attributable to DJO Finance LLC	$	(41,130	)	$	25,919		$	425		$	(26,344	)	$	(41,130	)

30

DJO Finance LLC

Unaudited Condensed Consolidating Statements of Cash Flows

For the Nine Months Ended October 2, 2010

(in thousands)

	DJOFL			Guarantors			Non- Guarantors			Eliminations			Consolidated
Cash Flows from Operating Activities:
Net (loss) income	$	(41,130	)	$	25,919		$	1,252		$	(26,344	)	$	(40,303	)
Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:
Depreciation	—			16,131			3,559			(64		)	19,626
Amortization of intangible assets	—			55,228			2,893			7			58,128
Amortization of debt issuance costs and non-cash interest expense	9,137			—			—			—			9,137
Stock-based compensation expense	—			1,309			—			—			1,309
Loss on disposal of assets, net	—			1,867			423			(304		)	1,986
Deferred income tax (benefit) expense	—			(79,209		)	57,792			—			(21,417		)
Equity in income of subsidiaries	(5,871		)	—			—			5,871			—
Provision for doubtful accounts and sales returns	—			24,987			562			—			25,549
Inventory reserves	—			3,980			622			—			4,602
Changes in operating assets and liabilities:
Accounts receivable	—			(22,130		)	789			(87		)	(21,428		)
Inventories	—			(10,322		)	(4,417		)	(2,713		)	(17,452		)
Prepaid expenses and other assets	132			13,933			(24,033		)	(2,625		)	(12,593		)
Accounts payable and other current liabilities	25,205			5,996			641			2,646			34,488
Net cash (used in) provided by operating activities	(12,527		)	37,689			40,083			(23,613		)	41,632
Cash Flows from Investing Activities:
Cash paid in connection with acquisitions, net of cash acquired	—			(810		)	—			(1,235		)	(2,045		)
Purchases of property and equipment	—			(18,991		)	(3,854		)	2,568			(20,277		)
Other investing activities, net	—			531			(1,248		)	—			(717		)
Net cash used in investing activities	—			(19,270		)	(5,102		)	1,333			(23,039		)
Cash Flow from Financing Activities:
Intercompany	22,119			(11,678		)	(32,721		)	22,280			—
Proceeds from issuance of debt	127,000			—			130			—			127,130
Repayments of debt and capital lease obligations	(132,695		)	(2,717		)	(749		)	—			(136,161		)
Payment of debt issuance costs	(3,454		)	—			—			—			(3,454		)
Investment by parent	—			1,389			—			—			1,389
Dividend paid by subsidiary to owners of noncontrolling interests	—			—			(557		)	—			(557		)
Net cash provided by (used in) financing activities	12,970			(13,006		)	(33,897		)	22,280			(11,653		)
Effect of exchange rate changes on cash and cash equivalents	—			—			(1,307		)	—			(1,307		)
Net increase (decrease) in cash and cash equivalents	443			5,413			(223		)	—			5,633
Cash and cash equivalents at beginning of period	6,999			17,389			20,223			—			44,611
Cash and cash equivalents at end of period	$	7,442		$	22,802		$	20,000		$	—		$	50,244

31

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

32

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

This report, and the following management’s discussion and analysis, contain “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. To the extent that any statements are not recitations of historical fact, such statements constitute forward-looking statements that, by definition, involve risks and uncertainties. These statements can be identified because they use words like “anticipates”, “believes”, “estimates”, “expects”, “forecasts”, “future”, “intends”, “plans” and similar terms. Specifically, statements referencing, without limitation, growth in sales of our products, profit margins and the sufficiency of our cash flow for future liquidity and capital resource needs may be forward-looking statements. 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 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 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, therapeutic shoes and inserts, 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. The acquisition of Dr. Comfort on April 7, 2011 increased our product offerings in the rapidly growing diabetes care market.

Our products are marketed under a portfolio of brands including Aircast®, DonJoy®, ProCare®, CMF™, Empi®, Chattanooga, DJO Surgical, Dr. Comfort ™ and Compex®.

Operating Segments

During the first quarter of 2011, we changed the name of our Bracing and Supports segment to Bracing and Vascular 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 Dr. Comfort, ETI and Circle City, from their respective dates of acquisition (see Note 2 to our unaudited condensed consolidated financial statements for additional information about our acquisitions). This change had no impact on previously reported segment information.

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

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. The U.S. results of our recent Circle City and ETI acquisitions are included within this segment. 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. In addition, included within this segment is our newly acquired Dr. Comfort business, which develops and manufactures therapeutic footwear and related medical and comfort products serving the diabetes care market in podiatry practices, orthotic and prosthetic centers, home medical equipment providers and independent pharmacies.

33

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.

·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.

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 April 7, 2011, we acquired the ownership interests of Rikco International, LLC, D/B/A Dr. Comfort (Dr. Comfort), a provider of therapeutic footwear, which serves the diabetes care market in podiatry practices, orthotic and prosthetic centers, home medical equipment providers and independent pharmacies. The purchase price was $257.5 million. The domestic and international results of Dr. Comfort are included within our Bracing and Vascular and International segments, respectively.

On March 10, 2011, we acquired substantially all of the assets of Circle City Medical, Inc. (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 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 January 4, 2011, we acquired the stock of Elastic Therapy, Inc. (ETI), 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.

34

The tables below present financial information for our reportable segments for the periods presented. 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.

	Three Months Ended						Nine Months Ended
($ in thousands)	October 1, 2011			October 2, 2010			October 1, 2011			October 2, 2010
Bracing and Vascular:
Net sales	$	101,452		$	78,156		$	281,687		$	232,087
Gross profit	$	52,997		$	42,521		$	149,593		$	127,865
Gross profit margin	52.2		%	54.4		%	53.1		%	55.1		%
Operating income	$	18,844		$	17,188		$	54,339		$	50,428
Operating income as a percent of net segment sales	18.6		%	22.0		%	19.3		%	21.7		%
Recovery Sciences:
Net sales	$	81,956		$	85,884		$	253,335		$	257,361
Gross profit	$	61,573		$	66,753		$	191,836		$	195,773
Gross profit margin	75.1		%	77.7		%	75.7		%	76.1		%
Operating income	$	21,392		$	30,962		$	68,892		$	85,441
Operating income as a percent of net segment sales	26.1		%	36.1		%	27.2		%	33.2		%
International:
Net sales	$	64,475		$	54,960		$	207,423		$	179,979
Gross profit	$	36,472		$	30,697		$	118,376		$	106,097
Gross profit margin	56.6		%	55.9		%	57.1		%	58.9		%
Operating income	$	11,723		$	9,752		$	40,790		$	40,787
Operating income as a percent of net segment sales	18.2		%	17.7		%	19.7		%	22.7		%
Surgical Implant:
Net sales	$	15,235		$	14,559		$	48,170		$	46,735
Gross profit	$	10,698		$	10,258		$	34,239		$	34,533
Gross profit margin	70.2		%	70.5		%	71.1		%	73.9		%
Operating income	$	827		$	401		$	2,230		$	4,545
Operating income as a percent of net segment sales	5.4		%	2.8		%	4.6		%	9.7		%

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 three months ended October 1, 2011 and October 2, 2010 each included 63 shipping days. The nine months ended October 1, 2011 and October 2, 2010 included 191 shipping days and 192 shipping days, respectively.

35

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

	Three Months Ended										Nine Months Ended
	October 1, 2011					October 2, 2010					October 1, 2011					October 2, 2010
Net sales	$	263,118		100.0	%	$	233,559		100.0	%	$	790,615		100.0	%	$	716,162		100.0	%
Cost of sales (exclusive of amortization of intangible assets (1))	107,463			40.8		84,147			36.0		311,709			39.4		256,066			35.8
Gross profit	155,655			59.2					64.0		478,906			60.6		460,096			64.2
Operating expenses:
Selling, general and administrative	115,854			44.0		102,672			44.0		361,761			45.8		330,060			46.1
Research and development	6,477			2.5		5,892			2.5		19,721			2.5		16,923			2.4
Amortization of intangible assets	24,435			9.3		19,403			8.3		69,373			8.8		58,128			8.1
	146,766			55.8		127,967			54.8		450,855			57.1		405,111			56.6
Operating income	8,889			3.4		21,445			9.2		28,051			3.5		54,985			7.6
Other income (expense):
Interest expense	(42,764		)	(16.2	)	(37,240		)	(15.9	)	(126,320		)	(16.0	)	(114,867		)	(16.0	)
Interest income	77			—		92			—		240			—		232			—
Loss on modification of debt	—			—		—			—		(2,065		)	(0.2	)	(1,096		)	(0.1	)
Other income (expense), net	(6,004		)	(2.3	)	4,981			2.1		(1,551		)	(0.2	)	2,460			0.4
	(48,691		)	(18.5	)	(32,167		)	(13.8	)	(129,696		)	(16.4	)	(113,271		)	(15.7	)
Loss before income taxes	(39,802		)	(15.1	)	(10,722		)	(4.6	)	(101,645		)	(12.9	)	(58,286		)	(8.1	)
Income tax benefit	14,096			5.3		3,191			1.4		36,055			(4.6	)	17,983			2.5
Net loss	(25,706		)	9.8		(7,531		)	(3.2	)	(65,590		)	(8.3	)	(40,303		)	(5.6	)
Net income attributable to noncontrolling interests	(58		)	—		(184		)	(0.1	)	(668		)	(0.1	)	(827		)	(0.1	)
Net loss attributable to DJO Finance LLC	$	(25,764	)	(9.8	)%	$	(7,715	)	(3.3	)%	$	(66,258	)	(8.4	)%	$	(41,130	)	(5.7	)%

(1)Cost of sales is exclusive of amortization of intangible assets of $9,688 and $28,831 for the three and nine months ended October 1, 2011, respectively, and $9,230 and $27,211 for the three and nine months ended October 2, 2010, respectively.

Three Months Ended October 1, 2011 (Third Quarter 2011) compared to Three Months Ended October 2, 2010 (Third Quarter 2010)

Net Sales.  Net sales for third quarter 2011 were $263.1 million as compared to $233.6 million for third quarter 2010, representing a 12.7% increase. This increase was driven primarily by sales from our 2011 acquisitions of Dr. Comfort, ETI and Circle City and favorable changes in foreign exchange rates. The following table sets forth the mix of our net sales by business segment ($ in thousands):

	Third Quarter 2011		% of Net Sales		Third Quarter 2010		% of Net Sales		Increase (Decrease)			% Increase (Decrease)
Bracing and Vascular	$	101,452	38.6	%	$	78,156	33.5	%	$	23,296		29.8	%
Recovery Sciences	81,956		31.1		85,884		36.8		(3,928		)	(4.6	)
International	64,475		24.5		54,960		23.5		9,515			17.3
Surgical Implant	15,235		5.8		14,559		6.2		676			4.6
	$	263,118	100.0	%	$	233,559	100.0	%	$	29,559		12.7	%

Net sales in our Bracing and Vascular segment were $101.5 million for third quarter 2011, and $78.2 million for third quarter 2010. Third quarter 2011 included $21.9 million of net sales attributable to our newly acquired Dr. Comfort, ETI, and Circle City businesses. In addition, our Bracing and Vascular segment continued to benefit from sales of our VenaFlow Elite dynamic compression therapy pump used to combat Deep Vein Thrombosis, as well as sales of our newer bracing and supports products for knee and upper extremity.

36

Net sales in our Recovery Sciences segment were $82.0 million for third quarter 2011, and $85.9 million for third quarter 2010, due primarily to decreased sales in our Empi business unit due primarily to certain reimbursement price changes.

Net sales in our International segment were $64.5 million for third quarter 2011, and $55.0 million for third quarter 2010. The increase was primarily driven by $2.9 million in net sales from our newly acquired Dr. Comfort and ETI businesses, sales of new products, and the favorable impact of foreign exchange rates in effect in during third quarter 2011 as compared to foreign exchange rates in effect during third quarter 2010, which increased net sales by $4.5 million.

Net sales in our Surgical Implant segment were $15.2 million for third quarter 2011, and $14.6 million for third quarter 2010. The increase was driven primarily by strong sales of our Reverse Shoulder products, as well as our newly launched Turon shoulder product, offset by decreases in sales of hip and knee products.

Gross Profit.  Consolidated gross profit as a percentage of net sales was 59.2% for third quarter 2011, compared to 64.0% for third quarter 2010.

Gross profit in our Bracing and Vascular segment as a percentage of net sales was 52.2% for third quarter 2011, compared to 54.4% for third quarter 2010. The decrease was primarily due to a lower margin mix of products sold, including sales from our recently acquired businesses. Also impacting gross profit in third quarter 2011 were $5.0 million of purchase accounting adjustments related to the fair market value step-up of acquired inventory.

Gross profit in our Recovery Sciences segment as a percentage of net sales decreased to 75.1% for third quarter 2011, from 77.7% for third quarter 2010. The decrease was primarily due to reduced average selling prices of certain products, primarily in our Empi business unit.

Gross profit in our International segment as a percentage of net sales increased slightly to 56.6% for third quarter 2011, from 55.9% for third quarter 2010. The increase was primarily driven by favorable changes in foreign exchange rates in effect in during third quarter 2011 as compared to foreign exchange rates in effect during third quarter 2010, and a higher margin mix of products sold.

Gross profit in our Surgical Implant segment as a percentage of net sales decreased slightly to 70.2% for third quarter 2011, compared to 70.5% for third quarter 2010.

Selling, General and Administrative (SG&A). SG&A increased to $115.9 million for third quarter 2011, from $102.7 million for third quarter 2010. As a percentage of sales, however, SG&A expense remained consistent at 44.0% for both periods presented.

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):

	Third Quarter 2011		Third Quarter 2010
Integration charges:
Employee severance and relocation	$	2,345	$	270
U.S commercial sales and marketing reorganization	243		2,540
Acquisition related expenses and integration	642		—
CEO transition	700		—
Other integration	1,133		969
Litigation costs and settlements, net	1,301		1,982
Additional product liability insurance	20		—
ERP implementation	5,217		4,676
	$	11,601	$	10,437

Research and Development (R&D).  R&D expense was $6.5 million and $5.9 million for third quarter 2011 and third quarter 2010, respectively.  In each of the periods presented, R&D expense was 2.5% of sales.

Amortization of Intangible Assets. Amortization of intangible assets was $24.4 million and $19.4 million for third quarter 2011 and third quarter 2010, respectively. The increase is due to intangible assets acquired through our 2011 acquisitions of Dr. Comfort, ETI, Circle City and BetterBraces.com.

37

Interest Expense.  Interest expense was $42.8 million and $37.2 million for third quarter 2011 and third quarter 2010, respectively. An increase in the total amount of outstanding borrowings was partially offset by lower weighted average interest rates on outstanding borrowings during third quarter 2011, as compared to third quarter 2010.

Other Income (Expense), Net.  Other income (expense) was $(6.0) million and $5.0 million for third quarter 2011 and third quarter 2010, respectively. Results for both periods were primarily associated with net realized and unrealized foreign currency transaction gains.

Income Tax Benefit.  For third quarter 2011, we recorded an income tax benefit of $14.1 million on a pre-tax loss of $39.8 million, resulting in an effective tax rate of 35.4%. For third quarter 2010, we recorded income tax benefit of $3.2 million on a pre-tax loss of $10.7 million, resulting in a 29.8% effective tax rate. The difference in the tax benefit recorded during third quarter 2011 and third 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.

Nine Months Ended October 1, 2011 (Nine Months 2011) compared to Nine Months Ended October 2, 2010 (Nine Months 2010)

Net Sales.  Net sales for nine months 2011 were $790.6 million as compared to $716.2 million for nine months 2010, representing a 10.4% increase. This increase was driven primarily by sales from our 2011 acquisitions of Dr. Comfort, ETI and Circle City and favorable changes in foreign exchange rates. The following table sets forth the mix of our net sales by business segment ($ in thousands):

	Nine Months 2011		% of Net Sales		Nine Months 2010		% of Net Sales		Increase (Decrease)			% Increase (Decrease)
Bracing and Vascular	$	281,687	35.7	%	$	232,087	32.4	%	$	49,600		21.4	%
Recovery Sciences	253,335		32.0		257,361		36.0		(4,026		)	(1.6	)
International	207,423		26.2		179,979		25.1		27,444			15.2
Surgical Implant	48,170		6.1		46,735		6.5		1,435			3.1
	$	790,615	100.0	%	$	716,162	100.0	%	$	74,453		10.4	%

Net sales in our Bracing and Vascular segment were $281.7 million for nine months 2011, and $232.1 million for nine months 2010. Nine months 2011 included $52.1 million of sales attributable to our newly acquired Dr. Comfort, ETI and Circle City businesses. In addition, our Bracing and Vascular segment continued to benefit from sales of our VenaFlow Elite dynamic compression therapy pump used to combat Deep Vein Thrombosis, as well as sales of our newer bracing and supports products for knee and upper extremity. Partially offsetting these increases was the negative impact of certain customers choosing to do their own insurance billings, instead of billing through our OfficeCare program resulting in lower average selling prices on the units sold.

Net sales in our Recovery Sciences segment were $253.3 million for nine months 2011, and $257.4 million for nine months 2010. Decreases in sales of our Empi business unit were partially offset by strong sales from our Regeneration business unit, primarily related to spinal stimulation sales.

Net sales in our International segment were $207.4 million for nine months 2011, and $180.0 million for nine months 2010. The increase was attributable to increased sales across most product lines, $7.5 million of net sales from our newly acquired Dr. Comfort and ETI businesses, and the favorable impact of foreign exchange rates in effect in during nine months 2011 as compared to foreign exchange rates in effect during nine months 2010, which increased net sales by $12.2 million.

Net sales in our Surgical Implant segment were $48.2 million for nine months 2011, and $46.7 million for nine months 2010. The increase was primarily driven by strong sales of our Reverse Shoulder products, as well as our newly launched Turon shoulder product.

Gross Profit.  Consolidated gross profit as a percentage of net sales was 60.6%, for nine months 2011, compared to 64.2% for nine months 2010.

38

Gross profit in our Bracing and Vascular segment as a percentage of net sales was 53.1% for nine months 2011, compared to 55.1% for nine months 2010. The decrease was primarily due to a lower margin mix of products sold, including sales from our recently acquired businesses. Also impacting gross profit in nine months 2011 were $10.0 million of purchase accounting adjustments related to the fair market value step-up of acquired inventory.

Gross profit in our Recovery Sciences segment as a percentage of net sales decreased to 75.7% for nine months 2011, from 76.1% for nine months 2010.

Gross profit in our International segment as a percentage of net sales decreased to 57.1% for nine months 2011, from 58.9% for nine months 2010. The decrease was primarily driven by a 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 71.1% for nine months 2011, compared to 73.9% for nine months 2010.

Selling, General and Administrative (SG&A). SG&A increased to $361.8 million for nine months 2011, from $330.1 million for nine months 2010. As a percentage of sales, however, SG&A expense decreased slightly to 45.8% for nine months 2011 from 46.1% for nine months 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):

	Nine Months 2011		Nine Months 2010
Integration charges:
Employee severance and relocation	$	5,374	$	2,411
U.S commercial sales and marketing reorganization	1,446		7,877
Chattanooga integration	119		3,614
Acquisition related expenses and integration	7,987		—
CEO transition	2,327		—
Other integration	3,336		3,046
Litigation costs and settlements, net	4,520		4,496
Additional product liability insurance	3,322		11,138
ERP implementation	19,387		11,682
	$	47,818	$	44,264

Research and Development (R&D).  R&D expense was $19.7 million, or 2.5% of net sales, and $16.9 million, or 2.4% of sales, for nine months 2011 and nine months 2010, respectively. R&D expense in nine months 2011 included $0.9 million related to the write off of an abandoned product under development in our Surgical Implant segment.

Amortization of Intangible Assets. Amortization of intangible assets was $69.4 million and $58.1 million for nine months 2011 and nine months 2010, respectively. The increase is due to intangible assets acquired through our 2011 acquisitions of Dr. Comfort, ETI, Circle City and BetterBraces.com.

Interest Expense.  Interest expense was $126.3 million for nine months 2011, and $114.9 million for nine months 2010. An increase in the total amount of outstanding borrowings was partially offset by lower weighted average interest rates on outstanding borrowings during nine months 2011 as compared to nine months 2010.

Loss on Modification of Debt.  During nine months 2011 and nine months 2010, we recognized $2.1 million and $1.1 million respectively, of arrangement and lender consent fees related to amendments to our Senior Secured Credit Facility.

Other Income (Expense), Net.  Other income (expense) was $(1.6) million and $2.5 million for nine months 2011 and nine months 2010, respectively. Results for both periods were primarily associated with net realized and unrealized foreign currency transaction gains.

39

Income Tax Benefit.  For nine months 2011, we recorded an income tax benefit of $36.1 million on a pre-tax loss of $101.6 million, resulting in an effective tax rate of 35.5%. For nine months 2010, we recorded income tax benefit of $18.0 million on a pre-tax loss of $58.3 million, resulting in an effective tax rate of 30.1%. The difference in the tax benefit recorded during nine months 2011 and nine months 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 October 1, 2011, our primary sources of liquidity consisted of cash and cash equivalents totaling $39.3 million and our $100.0 million revolving credit facility, of which $77.0 million was available. Working capital at October 1, 2011 was $198.2 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, we may not in fact be able to do so or 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):

	Nine Months 2011			Nine Months 2010
Cash provided by operating activities	$	40,118		$	41,632
Cash used in investing activities	(348,365		)	(23,039		)
Cash provided by (used in) financing activities	309,262			(11,653		)
Effect of exchange rate changes on cash and cash equivalents	176			(1,307		)
Net increase in cash and cash equivalents	$	1,191		$	5,633

Cash Flows

Operating activities provided cash of $40.1 million and $41.6 million in nine months 2011 and nine months 2010, respectively, reflecting our net loss adjusted for non-cash expenses. Cash paid for interest was $78.5 million and $81.8 million in nine months 2011 and nine months 2010, respectively.

Investing activities used $348.4 million and $23.0 million of cash in nine months 2011 and nine months 2010, respectively. Cash used in investing activities for nine months 2011 primarily consisted of $317.8 million of net cash paid for acquisitions, and $29.2 million of cash for purchases of property and equipment, including $3.1 million paid for our ERP system. Cash used in investing activities for nine months 2010 included $20.3 million for purchases of property and equipment, including $11.6 million related to our ERP system, and $2.0 million for acquisitions.

Financing activities provided $309.3 million of cash for nine months 2011 and used $11.7 million of cash for nine months 2010. Cash provided by financing activities in nine months 2011 was primarily related to net proceeds from our issuance of $300.0 million aggregate principal of 7.75% Senior Notes and net borrowings from our revolving credit facility which, together with cash on hand, were primarily used to fund acquisitions. In connection with the issuance of our $300.0 million aggregate principal of 7.75% Senior Notes, we paid $7.6 million in debt issuance costs during nine months 2011. In addition, during nine months 2011, our indirect parent, DJO, sold shares of its common stock, and contributed the net proceeds of $3.2 million to us. Cash used in financing activities for nine months 2010 consisted primarily of long-term debt payments of $136.2 million and the payment of $3.5 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 $127.1 million primarily from the issuance of the 10.875% senior notes. In addition, during nine months 2010, our indirect parent, DJO, sold shares of its common stock, and contributed the net proceeds of $1.4 million to us.

For the remainder of 2011, we expect to spend cash of approximately $83.4 million for the following:

· $11.8 million for scheduled principal and estimated interest payments on our senior secured credit facility;

· $36.7 million for scheduled interest payments on our 10.875% senior notes;

· $12.1 million for scheduled interest payments on our 7.75% senior notes;

· $14.6 million for scheduled interest payments on our 9.75% senior subordinated notes; and

· $8.2 million for capital expenditures.

40

Indebtedness

As of October 1, 2011, our total indebtedness was $2,143.3 million, before net unamortized original issue discount of $1.3 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 October 1, 2011, the balance outstanding under the term loan facility was $845.2  million, exclusive of $4.8 million of unamortized original issue discount, and there were $23.0 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 October 1, 2011, our weighted average interest rate for all borrowings under the Senior Secured Credit Facility was 4.05%.

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;

·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;

41

·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 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, 9.75% Notes and 7.75% Notes. Adjusted EBITDA is a material component of these covenants. As of October 1, 2011, our actual senior secured leverage ratio was within the required ratio at 2.89:1.

Adjusted EBITDA should not be considered as an alternative to net (loss) income 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 (loss) income 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, 9.75% Notes, and 7.75% Notes

The Indentures governing the $675.0 million principal amount of 10.875% Notes, $300.0 million principal amount of 9.75% Notes and $300.0 million principal amount of 7.75% 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, 9.75% Notes and 7.75% 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 exceptions. Our pro forma ratio of Adjusted EBITDA to fixed charges for the twelve months ended October 1, 2011, measured on that date, was 1.70:1. 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.

42

Covenant Compliance

The following is a summary of our covenant requirement ratios as of October 1, 2011:

	Covenant Requirements	Actual Ratios
Senior Secured Credit Facility
Maximum ratio of consolidated net senior secured debt to Adjusted EBITDA	3.50:1	2.89:1
10.875% Senior Notes, 7.75% 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	1.70:1

As described above, our Senior Secured Credit Facility and the Indentures governing the 10.875% Notes, 9.75% Notes and the 7.75% Notes (collectively, the 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.

43

The following table provides a reconciliation from our net loss to Adjusted EBITDA for the three and twelve months ended October 1, 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 October 1, 2011			Twelve Months Ended October 1, 2011
Net loss attributable to DJO Finance LLC	$	(25,764	)	$	(77,660	)
Interest expense, net	42,687			166,316
Income tax benefit	(14,096		)	(52,327		)
Depreciation and amortization	32,008			116,443
Non-cash charges (a)	5,619			13,248
Non-recurring and integration charges (b)	12,729			63,828
Other adjustment items, before adjustments applicable for the twelve month period only (c)	7,847			32,102
Adjusted EBITDA before other adjustment items applicable to the twelve month period only	61,030			261,950
Other adjustment items applicable to the twelve month period only (d)
Pre-acquisition Adjusted EBITDA	—			15,415
Future cost savings	—			8,273
Adjusted EBITDA	$	61,030		$	285,638

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

	Three Months Ended October 1, 2011		Twelve Months Ended October 1, 2011
Stock based compensation expense	$	369	$	2,279
Impairment of Chattanooga assets held for sale	—		350
Purchase accounting adjustments	5,014		9,972
Loss on disposal of assets, net	236		647
Total non-cash charges	$	5,619	$	13,248

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

	Three Months Ended October 1, 2011		Twelve Months Ended October 1, 2011
Integration charges:
U.S. commercial sales and marketing reorganization	$	243	$	2,371
Chattanooga integration	—		945
CEO transition	700		4,187
Acquisition related expenses and integration (1)	697		8,159
Other integration	4,001		8,475
Litigation costs and settlements, net	1,302		7,585
Additional products liability insurance (2)	20		3,322
ERP implementation	5,766		28,784
Total non-recurring and integration charges	$	12,729	$	63,828

(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 extended reporting period for product liability claims related to our discontinued pain pump products and certain cold therapy products, for which annual insurance coverage was not renewed.

44

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

	Three Months Ended October 1, 2011		Twelve Months Ended October 1, 2011
Blackstone monitoring fees	$	1,750	$	7,000
Noncontrolling interests	58		698
Loss on modification and extinguishment of debt (1)	—		20,767
Other (2)	6,039		3,637
Total other adjustment items	$	7,847	$	32,102

(1)Loss on modification of debt for the twelve months ended October 1, 2011 is comprised of $2.1 million 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,  $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 $200.0 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 Dr. Comfort, ETI and Circle City.

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 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 aggregate principal and senior subordinated notes of $300.0 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 October 1, 2011, we had $868.2 million of borrowings outstanding under the Senior Secured Credit Facility, exclusive of $4.8 million of unamortized original issue 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 nine months ended October 1, 2011 by approximately $4.3 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.

45

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.

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 and nine months ended October 1, 2011, sales denominated in foreign currencies accounted for approximately 20.9% and 22.5%  of our consolidated net sales, respectively, of which 15.2% and 16.6%, respectively, 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 nine months ended October 1, 2011, we utilized 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 held as of October 1, 2011 expire weekly through September 2012.

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 2011, we made changes to our internal control over financial reporting in connection with the transition to a new ERP system utilized 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 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.

46

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

As previously reported, we are named as one of several defendants in a number of product liability lawsuits in courts in several states 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. There were approximately 60 plaintiffs in U.S. cases pending as of October 15, 2011 and a lawsuit in Canada which was recently certified as class action. On October 26, 2011, we received notice of filing of several lawsuits involving a total of 200 plaintiffs. Based upon the allegations in the complaints, it appears that all but approximately 20 plaintiffs used a pain pump that was not sold by DJO. We discontinued our sale of these products in the second quarter of 2009.

Cold Therapy Litigation

Since mid-2010, we have been named in nine multi-plaintiff lawsuits filed in Superior Court, San Diego County, California, involving a total of 210 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 October 1, 2011, we cannot estimate a range of potential loss. We intend to defend these matters aggressively.

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
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).
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)).
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.
101+	The following financial information from DJO Finance LLC’s Quarterly Report on Form 10-Q for the quarterly period ended October 1, 2011, formatted in XBRL: (i) the Consolidated Balance Sheets as of October 1, 2011 and December 31, 2010, (ii) the Unaudited Consolidated Statements of Operations for the three and nine months ended October 1, 2011 and October 2, 2010, (iii) the Unaudited Consolidated Statements of Cash Flows for the nine months ended October 1, 2011 and October 2, 2010 and (iv) the notes to the Unaudited Consolidated Financial Statements tagged as blocks of text.

+          Filed herewith

47

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: November 4, 2011	By:	/s/ MICHAEL P. MOGUL
		Michael P. Mogul
		President and Chief Executive Officer
Date: November 4, 2011	By:	/s/ VICKIE L. CAPPS
		Vickie L. Capps
		Executive Vice President, Chief Financial Officer and Treasurer

48