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Summary of significant accounting policies | 12 Months Ended
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Dec. 31, 2012
Summary of significant accounting policies |
1. |  | Summary of significant accounting policies
| (a) | Basis of consolidation
The consolidated financial statements include the financial statements of the Company and its wholly-owned and majority-owned subsidiaries and entities over which the Company has control. All intercompany accounts, transactions and profits are eliminated in the consolidated financial statements on a continuing operations basis unless otherwise noted.
| (b) | Use of estimates in preparation of financial statements
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, we evaluate our estimates, including those related to the recoverability and useful lives of long-lived assets and the adequacy of the allowance for doubtful accounts and inventory obsolescence, and income taxes. We base our estimates on historical experience, future expectations and on other relevant assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates.
| (c) | Foreign currency translation
The financial statements for operations outside the United States are generally maintained in their local currency. All foreign currency denominated balance sheet accounts, except shareholders’ equity, are translated to U.S. dollars at year end exchange rates and revenue and expense items are translated at weighted average rates of exchange prevailing during the year. Gains and losses resulting from the translation of foreign currency are recorded in the accumulated other comprehensive income component of shareholders’ equity. Transactional foreign currency gains and (losses), including those generated from intercompany operations, are included in other expense, net and were $0.5 million loss, $1.6 million loss and $0.7 million gain for the years ended December 31, 2012, 2011 and 2010, respectively.
| (d) | Cash and cash equivalents
The Company considers all highly liquid investments with an original maturity of three months or less at the date of purchase to be cash equivalents.
| (e) | Restricted cash
Restricted cash consists of cash held at certain subsidiaries, the distribution or transfer of which to Orthofix International N.V. (the “Parent”) or other subsidiaries that are not parties to the credit facility described in Note 8 is restricted. The senior secured credit facility restricts the Parent and subsidiaries that are not parties to the facility from access to cash held by Orthofix Holdings, Inc. and its subsidiaries. All credit party subsidiaries have access to this cash for operational and debt repayment purposes.
| (f) | Market risk
In the ordinary course of business, the Company is exposed to the impact of changes in interest rates and foreign currency fluctuations. The Company’s objective is to limit the impact of such movements on earnings and cash flows. In order to achieve this objective, the Company seeks to balance its non-dollar denominated income and expenditures. During 2008, the Company executed an interest rate swap agreement to manage the cash flow exposure generated from interest rate fluctuations. On June 29, 2010, the Company settled the interest rate swap. During 2012, 2011 and 2010, the Company made use of a foreign currency swap agreement to manage cash flow exposure generated from foreign currency fluctuations. See Note 9 for additional information. The Company generally does not require collateral on trade receivables.
| (g) | Inventories
Inventories are valued at the lower of cost or estimated net realizable value, after provision for excess or obsolete items. For inventory procured or produced, whether internally or through contract manufacturing arrangements, at our manufacturing facility in Italy, cost is determined on a weighted-average basis, which approximates the first-in, first-out (“FIFO”) method. For inventory procured or produced, whether internally or through contract manufacturing arrangements, at our manufacturing facility in Texas, standard costs, which approximates actual cost, is used to value inventory. Standard costs are reviewed annually by management, or more often in the event circumstances indicate a change in cost has occurred. The valuation of work-in-process, finished products, field inventory and consignment inventory includes the cost of materials, labor and other production costs. Field inventory represents immediately saleable finished products inventory that is in the possession of the Company’s direct sales representatives. Consignment inventory represents immediately saleable finished products located at third party customers, such as distributors and hospitals.
| (h) | Long-lived assets, including intangibles and goodwill
Property, plant and equipment is stated at cost less accumulated depreciation. Costs include all expenditures necessary to place the asset in service, including freight and sales and use taxes. Plant and equipment also includes instrumentation held by customers and used with the Company’s products. Depreciation is computed on a straight-line basis over the useful lives of the assets. Depreciation of leasehold improvements is computed over the shorter of the lease term or the useful life of the asset. The useful lives are as follows:
|  | Years |
Buildings |  |  | 25 to 33 |
Plant and equipment |  |  | 2 to 10 |
Furniture and fixtures |  |  | 4 to 8 |
Instrumentation |  |  | 3 to 4 |
Expenditures for maintenance and repairs and minor renewals and improvements, which do not extend the lives of the respective assets, are expensed as incurred. All other expenditures for renewals and improvements are capitalized. The assets and related accumulated depreciation are adjusted for property retirements and disposals, with the resulting gain or loss included in operations. Fully depreciated assets remain in the accounts until retired from service. Patents and other intangible assets are recorded at cost, or when acquired as a part of a business combination at estimated fair value. These assets primarily include patents and other technology agreements (“developed technologies”) and trademarks. Identifiable intangible assets which are considered definite lived are amortized over their useful lives using a method of amortization that reflects the pattern in which the economic benefit of the intangible assets is consumed. The Company’s weighted average amortization period for developed technologies is 11 years. Intangible and long-lived assets with definite lives, such as developed technologies, are tested for impairment if any adverse conditions exist or change in circumstances have occurred that would indicate impairment or a change in the remaining useful life. If an impairment indicator exists, the Company tests the intangible asset for recoverability. For purposes of the recoverability test, the Company groups its intangible assets with other assets and liabilities at the lowest level of identifiable cash flows if the intangible asset does not generate cash flows independent of other assets and liabilities. If the carrying value of the intangible asset (asset group) exceeds the undiscounted cash flows expected to result from the use and eventual disposition of the intangible asset (asset group), the Company will write the carrying value down to the fair value in the period identified. The Company generally calculates fair value of indefinite- lived intangible assets as the present value of estimated future cash flows. In determining the estimated future cash flows associated with intangible assets, the Company uses estimates and assumptions about future revenue contributions, cost structures and remaining useful lives of the asset (asset group). The use of alternative assumptions, including estimated cash flows, discount rates, and alternative estimated remaining useful lives could result in different calculations of impairment. The Company tests goodwill at least annually for impairment. The Company tests more frequently if indicators are present or changes in circumstances suggest that impairment may exist. These indicators include, among others, declines in sales, earnings or cash flows, or the development of a material adverse change in the business climate. The Company assesses goodwill for impairment at the reporting unit level, which is defined as an operating segment or one level below an operating segment, referred to as a component. The Company has identified two reporting units, which are consistent with the Company’s reporting segments; Spine and Orthopedics (see Note 12 for additional information). Goodwill In order to calculate the respective carrying values, the Company initially recorded goodwill based on the purchase price allocation performed at the time of acquisition. Corporate assets and liabilities that directly relate to a reporting unit’s operations are ascribed directly to that reporting unit. Corporate assets and liabilities that are not directly related to a specific reporting unit, but from which the reporting unit benefits, are allocated based on the respective contribution measure of each reporting unit. Effective January 1, 2011, the Company re-aligned its reporting units and consequently reallocated the carrying value of goodwill from its previous reporting units to its new reporting units based on the relative fair value of each new reporting units to total enterprise value at January 1, 2011. In the first quarter of 2012, ASU 2011-08, “Testing of Goodwill for Impairment” became effective. ASU 2011-08 allows entities testing goodwill for impairment the option of performing a qualitative assessment before calculating the fair value of a reporting unit (i.e. the first step of the goodwill impairment test). If entities determine, on the basis of qualitative factors, that the fair value of the reporting unit is more likely than not greater than the carrying amount, a quantitative calculation would not be needed. The Company’s annual goodwill impairment analysis, which was performed qualitatively during the fourth quarter of 2012, did not result in impairment charge.
| (i) | Derivative instruments
The Company manages its exposure to fluctuating cash flows resulting from changes in interest rates and foreign exchange within the consolidated financial statements according to its hedging policy. Under the policy, the Company may engage in non-leveraged transactions involving various financial derivative instruments to manage exposed positions. The policy requires the Company to formally document the relationship between the hedging instrument and hedged item, as well as its risk-management objective and strategy for undertaking the hedge transaction. For instruments designated as a cash flow hedge, the Company formally assesses (both at the hedge’s inception and on an ongoing basis) whether the derivative that is used in the hedging transaction has been effective in offsetting changes in the cash flows of the hedged item and whether such derivative may be expected to remain effective in future periods. If it is determined that a derivative is not (or has ceased to be) effective as a hedge, the Company will discontinue the related hedge accounting prospectively. Such a determination would be made when (1) the derivative is no longer effective in offsetting changes in the cash flows of the hedged item; (2) the derivative expires or is sold, terminated or exercised; or (3) management determines that designating the derivative as a hedging instrument is no longer appropriate. Ineffective portions of changes in the fair value of cash flow hedges are recognized in earnings. The Company records all derivatives as either assets or liabilities on the balance sheet at their respective fair values. For a cash flow hedge, the effective portion of the derivative’s change in fair value (i.e. gains or losses) is initially reported as a component of other comprehensive income, net of related taxes, and subsequently reclassified into net earnings when the hedged exposure is no longer effective. The Company utilizes a cross currency swap to manage its foreign currency exposure related to a portion of the Company’s intercompany receivable of a U.S. dollar functional currency subsidiary that is denominated in Euro. The cross currency swap has been accounted for as a cash flow hedge in accordance with ASC Topic 815, Derivatives and Hedging (“ASC Topic 815”). See Note 9 for a description of the types of derivative instruments the Company utilizes.
| (j) | Accumulated other comprehensive income
Accumulated other comprehensive income is comprised of foreign currency translation adjustments and the effective portion of the gain (loss) on the Company’s cross-currency swap, which is designated and accounted for as a cash flow hedge (see Note 9). The components of and changes in accumulated other comprehensive income are as follows:
(US$ in thousands) |  | Foreign Currency Translation Adjustments |  |  | Fair Value of Cross- Currency Swaps |  |  | Accumulated Other Comprehensive Income (Loss) |
Balance at December 31, 2010 |  | $ | 5,085 |  |  | $ | 305 |  |  | $ | 5,390 |
Unrealized loss on cross-currency swaps, net of tax benefit of $256 |  |  | — |  |  |  | (437 | ) |  |  | (437 | )
Foreign currency translation adjustment (1) |  |  | (3,192 | ) |  |  | — |  |  |  | (3,192 | )
Balance at December 31, 2011 |  |  | 1,893 |  |  |  | (132 | ) |  |  | 1,761 |
Unrealized gain on cross-currency swaps, net of tax of $153 |  |  | — |  |  |  | 263 |  |  |  | 263 |
Foreign currency translation adjustment (1) |  |  | 480 |  |  |  | — |  |  |  | 480 |
Balance at December 31, 2012 |  | $ | 2,373 |  |  | $ | 131 |  |  | $ | 2,504 |
(1) | As the cash generally remains permanently invested in the non U.S. dollar denominated foreign subsidiaries, no deferred taxes are recognized on the related foreign currency translation adjustment.
| (k) | Revenue recognition and accounts receivable
Product revenue is generally recognized as income in the period in which risk of loss and title transfers, the products are delivered subject to a fixed or determinable fee and collectability is reasonably assured. To the extent these criteria are not met, the Company accounts for shipments as consigned inventory and recognizes revenue when all criteria are met. Revenues exclude any value added or other local taxes, intercompany sales and trade discounts. Shipping and handling costs are included in cost of sales. For certain products that are prescribed by a physician, the Company recognizes revenue when the product is placed on or implanted in and accepted by the patient. For domestic spinal implant and human cellular and tissue based products (“HCT/P products”), revenues are recognized when the product has been utilized and a confirming purchase order has been received from the hospital. For sales to commercial customers, including hospitals and distributors, revenues are recognized at the time of shipment unless contractual agreements specify that title passes on delivery. Revenues for inventory delivered on consignment are recognized as the product is used by the consignee. In 2008, the Company entered into a collaborative arrangement with the Musculoskeletal Transplant Foundation (“MTF”) to develop and commercialize Trinity Evolution ®, a stem cell-based bone growth biologic matrix. With the development process completed in 2009, the Company and MTF operated under the terms of a separate commercialization agreement. Under the terms of the 10-year agreement, MTF sourced the tissue, processed it to create the bone growth matrix, packaged and delivered it to the customer in accordance with orders received from the Company. The Company has exclusive global marketing rights for Trinity Evolution ® and receives marketing fees from MTF based on total sales. These marketing fees are recorded on a net basis within net sales and were $46.5 million, $37.1 million and $29.8 million in 2012, 2011 and 2010, respectively. On January 10, 2012, the Company announced that it had reached an agreement with MTF to both co-develop and commercialize a new technology for use in bone grafting applications and to expand MTF’s Trinity Evolution ® processing capacity. The amendment amends the term of the existing agreement until the later of (i) 15 years after the date that certain development milestones were achieved under the existing agreement (which occurred during 2010) or (ii) the date that certain licensing arrangements between the Company and NuVasive, Inc. expire. The Company derives a significant amount of revenues in the U.S. from third-party payors, including commercial insurance carriers, health maintenance organizations, preferred provider organizations and governmental payors such as Medicare. Amounts paid by these third-party payors are generally based on fixed or allowable reimbursement rates. These revenues are recorded at the expected or pre-authorized reimbursement rates, net of any contractual allowances or adjustments. Certain billings are subject to review by the third-party payors and may be subject to adjustment. The process for estimating the ultimate collection of accounts receivable involves significant assumptions and judgments. Historical collection and payor reimbursement experience is an integral part of the estimation process related to reserves for doubtful accounts and the establishment of contractual allowances. Accounts receivable are analyzed on a quarterly basis to assess the adequacy of both reserves for doubtful accounts and contractual allowances. Revisions in allowances for doubtful accounts estimates are recorded as an adjustment to bad debt expense within sales and marketing expenses, and contractual allowances are recorded as an adjustment to revenue. In the judgment of management, adequate allowances have been provided for doubtful accounts and contractual allowances. These estimates are periodically tested against actual collection experience.
| (l) | Sale of accounts receivable
The Company will generally sell receivables from certain Italian hospitals each year. The estimate of the related fee is provided throughout the year as interest expense. Trade accounts receivables sold without recourse are removed from the balance sheet at the time of sale.
| (m) | Share-based compensation
The fair value of stock options is determined using the Black-Scholes valuation model. Such value is recognized as expense over the service period net of estimated forfeitures. The expected term of options granted is estimated based on a number of factors, including the vesting and expiration terms of the award, historical employee exercise behavior for both options that are currently outstanding and options that have been exercised or are expired, the expected volatility of the Company’s common stock and an employee’s average length of service. The risk-free interest rate is determined based upon a constant U.S. Treasury security rate with a contractual life that approximates the expected term of the option award. Management estimates expected volatility based on the historical volatility of the Company’s stock. The compensation expense recognized for all equity-based awards is net of estimated forfeitures. Forfeitures are estimated based on an analysis of actual option forfeitures.
| (n) | Advertising costs
The Company expenses all advertising costs as incurred. Advertising expense included in sales and marketing expense for the years ended December 31, 2012, 2011 and 2010 was $0.2 million, $0.3 million and $0.5 million, respectively.
| (o) | Research and development costs
Expenditures for research and development are expensed as incurred. Expenditures related to the collaborative arrangement with MTF are expensed based on the terms of the related agreement. Milestone payments made to MTF in 2012 totaled $3 million.
| (p) | Income taxes
The Company is subject to income taxes in both the U.S. and foreign jurisdictions, and uses estimates in determining the provision for income taxes. The Company accounts for income taxes using the asset and liability method for accounting and reporting for income taxes. Under this method, deferred tax assets and liabilities are recognized based on temporary differences between the financial reporting and income tax basis of assets and liabilities using statutory rates. This process requires that the Company project the current tax liability and estimate the deferred tax assets and liabilities, including net operating loss and tax credit carryforwards. In assessing the need for a valuation allowance, the Company has considered the recent operating results, future taxable income projections and all prudent and feasible tax planning strategies. The Company accounts for uncertain tax positions in accordance with ASC 740 which contains a two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate the tax position taken or expected to be taken in a tax return by determining if the weight of available evidence indicates that it is more likely than not that, on an evaluation of the technical merits, the tax position will be sustained on audit, including resolution of any related appeals or litigation processes. The second step is to measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. The Company reevaluates income tax positions periodically to consider factors such as changes in facts or circumstances, changes in or interpretations of tax law, effectively settled issues under audit, and new audit activity. Such a change in recognition or measurement would result in recognition of a tax benefit or an additional charge to the tax provision. The Company includes imputed interest related to tax issues as part of income tax expense in our consolidated financial statements. The Company records any applicable penalties related to tax issues within the income tax provision.
| (q) | Net income (loss) per common share
Net income (loss) per common share—basic is computed using the weighted average number of common shares outstanding during each of the respective years. Net income (loss) per common share—diluted is computed using the weighted average number of common and common equivalent shares outstanding during each of the respective years using the “treasury stock” method, if dilutive. Common equivalent shares represent the dilutive effect of the assumed exercise of outstanding share options (see Note 19). The only differences between basic and diluted shares result from the assumed exercise of certain outstanding share options.
(r) | Financial Instruments and Concentration of Credit Risk
Financial instruments that could subject the Company to a concentration of credit risk consist primarily of cash and cash equivalents and accounts receivable. Generally, the cash is held at large financial institutions and our cash equivalents consist of highly liquid money market funds. The Company performs ongoing credit evaluations of the customers, generally do not require collateral and maintain a reserve for potential credit losses. The Company believes that a concentration of credit risk related to the accounts receivable is limited because the customers are geographically dispersed and the end users are diversified across several industries. Net sales to our customers and distributors based in Europe were approximately $55 million in 2012 which results in a substantial portion of our trade accounts receivable balance as of December 31, 2012. It is at least reasonably possible that changes in global economic conditions and/or local operating and economic conditions in the regions these distributors operate, or other factors, could affect the future realization of these accounts receivable balances.
(s) | Recently Issued Accounting Standards
In July 2012, the FASB issued ASU No. 2012-02, Intangibles—Goodwill and Other (Topic 350). The standard is intended to reduce the cost and complexity of performing an impairment test for indefinite-lived intangible assets by simplifying how an entity tests those assets for impairment and to improve consistency in impairment testing guidance among long-lived asset categories. The amendments permit an entity to first assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired as a basis for determining whether it is necessary to perform the quantitative impairment test in accordance with Subtopic 350-30, Intangibles—Goodwill and Other—General Intangibles Other than Goodwill. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. The amendments are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. The Company adopted this ASU as of December 31, 2012 and it did not have a material impact on the Company’s Consolidated financial statements. On June 16, 2011, the FASB issued Accounting Standards Update (“ASU”) No. 2011-05, Presentation of Comprehensive Income. This ASU eliminates the current option to present other comprehensive income and its components in the statement of changes in shareholders’ equity and increases the prominence of other comprehensive income in the statements by providing an alternative to present the components of net income and comprehensive income as either one continuous or two separate but consecutive financial statements. Companies are also required to present reclassification adjustments for items that are reclassified from other comprehensive income to net income within these statements. This standard is to be applied retrospectively and is effective for fiscal years beginning after December 15, 2011 with early adoption permitted. The Company adopted this ASU as of March 31, 2012 and it did not have a material impact on the Company’s Consolidated financial statements.

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- Definition The entire disclosure for all significant accounting policies of the reporting entity. + References Reference 1: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 235 -SubTopic 10 -Section 50 -Paragraph 6 -URI http://asc.fasb.org/extlink&oid=6367646&loc=d3e18861-107790 Reference 2: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 235 -SubTopic 10 -Section 50 -Paragraph 2 -URI http://asc.fasb.org/extlink&oid=6367646&loc=d3e18743-107790 Reference 3: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 235 -SubTopic 10 -Section 50 -Paragraph 3 -URI http://asc.fasb.org/extlink&oid=6367646&loc=d3e18780-107790 Reference 4: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 235 -SubTopic 10 -Section 50 -Paragraph 5 -URI http://asc.fasb.org/extlink&oid=6367646&loc=d3e18854-107790 Reference 5: http://www.xbrl.org/2003/role/presentationRef -Publisher FASB -Name Accounting Standards Codification -Topic 235 -SubTopic 10 -Section 50 -Paragraph 1 -URI http://asc.fasb.org/extlink&oid=6367646&loc=d3e18726-107790 Reference 6: http://www.xbrl.org/2003/role/presentationRef -Publisher AICPA -Name Accounting Principles Board Opinion (APB) -Number 22 -Paragraph 8 -LegacyDoc This reference is SUPERSEDED by the Accounting Standards Codification effective for interim and annual periods ending after September 15, 2009. This reference is included to help users transition from the previous accounting hierarchy and will be removed from future versions of this taxonomy. + Details
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