GENERAL AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

12 Months Ended

Dec. 31, 2017

Accounting Policies [Abstract]

GENERAL AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

GENERAL AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

In the Annual Report on Form 10-K, unless the context otherwise requires, reference to “K2M,” “the Company,” “we,” “us,” and “our,” refer to K2M Group Holdings, Inc. together with its subsidiaries.

Description of Business

K2M Group Holdings, Inc. was formed as a Delaware corporation on June 29, 2010. On July 2, 2010, K2M, Inc., a company initially incorporated in 2004, entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Altitude Group Holdings, Inc. (“Altitude”) and Altitude Merger Sub, Inc. (“Merger Sub”). Altitude was a newly formed corporation and an indirect wholly-owned subsidiary of Welsh, Carson, Anderson & Stowe XI, L.P., (“WCAS”). On August 12, 2010, upon the closing of the transactions under the Merger Agreement, Merger Sub merged with and into K2M, Inc. with K2M, Inc. being the surviving corporation of such merger (the “Merger”) and Altitude was renamed K2M Group Holdings, Inc. In May 2014, we complete an initial public offering (“IPO”) of our common stock.

We are a global medical device provider of complex spine and minimally invasive solutions focused on achieving three-dimensional Total Body Balance. Since our inception, we have designed, developed and commercialized innovative complex spine and minimally invasive spine technologies and techniques used by spine surgeons to treat some of the most complicated spinal pathologies. K2M has leveraged these core competencies into Balance ACS™, a platform of products, services, and research to help surgeons achieve three-dimensional spinal balance across the axial, coronal and sagittal planes, with the goal of supporting the full continuum of care to facilitate quality patient outcomes. The Balance ACS platform, in combination with our technologies, techniques and leadership in the 3D-printing of spinal devices, enable us to compete favorably in the global spinal surgery market.

Issuances of Common Stock and Use of Proceeds

In 2015, we completed additional public offerings of our common stock in which we sold 2,907,490 shares for proceeds of approximately $54,100 after deducting the underwriting discount and offering expenses. We used the proceeds from these offerings for working capital and general corporate purposes including the expansion of our global distribution network and the purchase of inventory to support sales efforts. These offerings were also used to facilitate the orderly distribution of shares by selling stockholders and to increase the public float of our shares. During 2015, selling stockholders sold 9,219,248 shares of common stock. We did not receive any proceeds from shares of common stock sold by the selling stockholders.

Principles of Consolidation

The accompanying consolidated financial statements include the accounts of the Company and all of its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles in the United States (“US GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Net Loss per Share

Basic net loss per common share is determined by dividing the net loss allocable to common stockholders by the weighted average number of common shares outstanding during the periods presented, without consideration of common stock equivalents. Diluted loss per share is computed by dividing the net loss allocable to common stockholders by the weighted average number of shares of common stock and common stock equivalents outstanding for the period. The treasury stock method is used to determine the dilutive effect of our stock option grants. The if-converted method is used to determine the dilutive effect of the convertible senior notes due 2036 (the “Notes”). The weighted average shares used to calculate both basic and diluted loss per share are the same because common stock equivalents were excluded in the calculation of diluted loss per share because their effect would be anti-dilutive. Although included in our outstanding shares total as of December 31, 2017 and 2016, shares of restricted stock are contingently issuable until their restrictions lapse and have been excluded from the weighted average shares outstanding.

Foreign Currency Translation and Other Comprehensive Loss

Our results of operations and cash flows are subject to fluctuations due to changes in foreign currency exchange rates. Our reporting currency is the U.S. dollar, which is also the functional currency of our domestic entities, while the functional currency of our foreign subsidiaries are the British Pound, Euro and Swiss Franc. Assets and liabilities denominated in foreign currencies are translated at the rate of exchange on the balance sheet date. Revenues and expenses are translated using the average exchange rate for the period. Net gains and losses resulting from the translation of foreign financial statements are recorded in other comprehensive income (loss). Net foreign currency gains or losses resulting from transactions in currencies other than the functional currencies are included in other expense, net on the consolidated statements of operations.

Cash and Cash Equivalents

We consider all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents.

Restricted Cash

We classify cash as restricted when cash is unavailable for withdrawal or usage. Restrictions may include legally restricted deposits, contract bids or other contractual requirements, or our statements of intention with regard to particular deposits.

Accounts Receivable

Accounts receivable are reported in the consolidated balance sheets at outstanding amounts, less the allowance for doubtful accounts. We perform ongoing credit evaluations of certain customers and generally extend credit without requiring collateral. We periodically assesses the collectability of accounts receivable considering factors such as the specific evaluation of collectability, historical collection experience and economic conditions in individual markets and record an allowance for doubtful accounts for the estimated uncollectible amount as appropriate.

Inventory

Inventory consists primarily of finished goods and surgical instruments available for sale and is stated at the lower of cost or net realizable value using a weighted-average cost method. We review our inventory on a periodic basis for excess, obsolete, and impaired inventory and record a reserve for the identified items.

Property, Plant and Equipment

Property, plant and equipment are stated at cost net of accumulated depreciation and amortization. Upon retirement or sale, the cost of assets disposed of and the related accumulated depreciation are removed from the accounts, and any resulting gain or loss is credited or charged to the consolidated statements of operations. Repairs and maintenance costs are expensed as incurred.

Buildings under capital lease are recorded at the lower of the present value of the minimum lease payments under the lease agreement or the fair market value of the underlying assets under lease on the lease commencement date.

Depreciation and amortization of property, plant and equipment is recorded using the straight-line method over the estimated useful lives of the respective assets or the lease term for buildings under capital lease. Amortization of leasehold improvements is recorded over the shorter of the life of the improvement or the remaining term of the lease using the straight-line method.

Surgical Instruments

We provide surgical instruments to our customers for use to implant our products during a surgical procedure. Following completion of the procedure, the instruments are returned to us upon which we will sanitize the instrument and provide it to another customer. Surgical instruments are stated at cost less accumulated depreciation. We depreciate these instruments to cost of revenues over their estimated useful life.

Goodwill and Other Intangible Assets

Goodwill represents the excess of the consideration transferred over the estimated fair value of assets acquired and liabilities assumed in connection with the Merger.

Goodwill is not amortized but evaluated annually or more frequently for impairment if impairment indicators exist. Such indicators include, but are not limited to (i) a significant adverse change in the business climate or environment, (ii) unanticipated competition, or (iii) adverse action or assessment by a regulator. Our annual impairment measurement date is November 1. We first assess qualitative factors before performing a quantitative assessment of the reporting unit. The qualitative assessment considers events and circumstances such as macroeconomic conditions, industry and market conditions, cost factors and overall financial performance, as well as company and specific reporting unit specifications. If after performing this assessment, we conclude that it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then we are required to perform a quantitative test. Our evaluation of goodwill completed during the years ended December 31, 2017, 2016, and 2015 resulted in no impairment loss and we have concluded that the Company allocates resources and operates with one reporting unit.

Our indefinite-lived intangible assets include trademarks and purchased in-process research and development projects, which originated from the Merger and were measured at their respective estimated fair values as of the acquisition date.

We also used a qualitative assessment for our indefinite lived intangible asset impairment testing. Our evaluation of indefinite-lived intangible assets completed during the years ended December 31, 2017, 2016 and 2015 resulted in no impairment losses.

Definite-lived intangible assets include licensed technology, developed technology, and customer relationships are amortized over estimated useful lives, which range from four to seven years. Patents and other are amortized over estimated useful lives which range from two to seventeen years. We recorded no impairment loss during the years ended December 31, 2017, 2016 and 2015.

Impairment of Long-Lived Assets

Long-lived assets, such as property, plant and equipment including the capital lease for our corporate headquarters and operations facilities and other definite lived intangible assets are reviewed for impairment whenever circumstances indicate that the carrying amount of the asset may not be recoverable. The carrying amount of a long-lived asset may not be recoverable if it exceeds the sum of undiscounted cash flows expected to be generated by the asset. If an asset is determined to be impaired, the loss is measured as the amount by which the carrying amount of the asset exceeds its estimated fair value. Considerable management judgment is necessary to estimate undiscounted future cash flows. Accordingly, actual results could differ from such estimates. Our evaluation of indicators for impairment or disposal of long-lived-assets indicates that no events have been identified that caused an evaluation of the recoverability of the long-lived assets.

Fair Value Measurements

Fair value is defined in the fair value measurement accounting guidance as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, or exit price. Assets and liabilities subject to fair value measurements are required to be disclosed within a specified fair value hierarchy. The fair value hierarchy ranks the quality and reliability of inputs or assumptions used in the determination of fair value and requires assets and liabilities carried at fair value to be classified and disclosed in one of the following categories based on the lowest level input used that is significant to a particular fair value measurement:

Level 1 – Defined as observable inputs such as unadjusted quoted prices in active markets for identical assets.

Level 2 – Defined as observable inputs other than Level 1 prices, such as quoted prices for similar assets, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 – Defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.

Our cash and cash equivalents and convertible senior notes are subject to fair value measurements. In accordance with the hierarchy, the inputs used in measuring the fair value of the cash equivalents are considered to be Level 1 and convertible senior notes are considered to be Level 2.

We apply the fair value measurement accounting guidance to non-financial assets upon the acquisition of businesses or in conjunction with the measurement of an impairment loss of a long-lived asset, goodwill or other intangible asset under the accounting guidance for impairments.

Financial Instruments and Concentration of Credit Risk

We consider the recorded costs of certain financial assets and liabilities, including cash and cash equivalents, accounts receivable, accounts payable and accrued expenses, to approximate their fair value because of relatively short maturities at December 31, 2017 and 2016. The fair value of convertible senior notes was determined using comparable market data for similar debt instruments.

Financial instruments that potentially subject us to a concentration of credit risk consist principally of cash and cash equivalents and accounts receivable. We maintain our cash balances with credit worthy financial institutions in the United States, and the balances may exceed, at times, the amount insured by the Federal Deposit Insurance Corporation. One customer accounted for approximately 11% and 12%of accounts receivable as of December 31, 2017 and 2016, respectively. One customer accounted for approximately 11% of total revenue for the year ended December 31, 2017 and no single customer represented more than 10% of revenue for the years ended December 31, 2016 and 2015.

Revenue Recognition

Revenue is recognized when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred or service has been rendered, the price to the buyer is fixed or determinable, and collectability is reasonably assured.

Revenue in our direct markets is generated by making its products available to hospitals that purchase specific products for use in surgery on a case-by-case basis. Revenue from sales generated by use of products is recognized upon receipt of a delivered order confirming that our products have been used in a surgical procedure or following shipment and transfer of title to a hospital that purchases products in advance of a surgery.

International sales outside of our direct markets are transacted with independent distributors, who then resell the products to their hospital customers. We recognize revenue upon shipment of our products to the international distributors, who accept title at point of shipment.

Shipping and Handling Costs

Shipping and handling costs are charged to sales and marketing expense in the consolidated statements of operations and amounted to $6,653, $4,689 and $4,199 for the years ended December 31,2017, 2016 and 2015, respectively.

Advertising Costs

Advertising costs are charged to sales and marketing expense as incurred in the consolidated statements of operations and amounted to $265, $187 and $290 for the years ended December 31,2017, 2016 and 2015, respectively.

Research and Development

We expense our research and development as incurred.

Stock-Based Compensation

We award stock-based compensation primarily in the form of stock options, restricted stock and RSUs. For stock options awarded, stock-based compensation is based on the fair value of such awards granted to employees using a Black-Scholes-Merton option pricing model and is expensed on a straight-line basis over the awards’ vesting period.

For stock options awarded that include performance and market conditions, stock-based compensation is based on the fair value of such awards granted to employees using a Monte Carlo Simulation model and expensed beginning when the performance condition is met over the service period. No such options were awarded to employees subsequent to 2011.

For restricted stock and restricted stock units (“RSUs”) awarded, stock-based compensation is based on the fair value using the closing market share price of our common stock on the date of award and is expensed on a straight-line basis over the vesting period of the award.

We also recognize stock-based compensation for participation in our Employee Stock Purchase Plan (“ESPP”). The ESPP provides for a look-back option feature that gives an option to the participant to purchase shares of our common stock at a discount to the market price for such stock based on their contributions over the offering period. Our costs are recognized over the offering period based on the fair value of the option granted to participants as determined using a Black-Scholes-Merton option pricing model and the number of shares expected to be purchased at the end of each offering period.

Income Taxes

We account for income taxes using the liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities, their respective tax bases and operating loss and credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in operations in the period that includes the enactment date.

Valuation allowances are established when necessary to reduce net deferred tax assets to the amount expected to be realized. Income tax expense (benefit) is the tax payable (receivable) for the period and the change during the period in deferred tax assets and liabilities.

As prescribed by the accounting guidance, we use a more-likely-than-not recognition threshold based on the technical merits of the tax position taken. Tax positions that meet the more-likely-than-not recognition threshold are measured at the largest amount of the tax benefits, as determined on a cumulative probability basis, that are more-likely-than-not to be realized upon ultimate settlement in the financial statements. We recognize interest and penalties related to income tax matters in income tax expense (benefit).

Loss Contingencies

Evaluation of loss contingencies require significant judgment to estimate the amount and timing of recording a potential loss accrual in our consolidated financial statements. Such contingencies include, but are not limited to, product liability, intellectual property, litigation, regulatory proceedings; and other legal matters that arise from time to time in the ordinary course of business.

We regularly assess uncertainty to determine the degree of probability and range of possible loss that will ultimately be resolved when one or more future events occur or fail to occur. We disclose information regarding each material claim where the likelihood of a loss contingency is probable, or reasonably possible and accrue for the loss when a reasonable estimate can be made. Based on such evaluation management believes that there are no claims or pending actions threatened against us, that are expected to have a material adverse effect on our financial position for the period ended December 31, 2017.

Recently Adopted and Issued Accounting Pronouncements

Prior to December 31, 2017, we qualified as an “emerging growth company” (“EGC”) pursuant to the provisions of the Jumpstart Our Business Startups Act of 2012. Based on the market value of our common stock held by non-affiliates as of the last business day of our second fiscal quarter ended June 30, 2017, we no longer qualify as an EGC effective December 31, 2017 and can no longer take advantage of certain exemptions and relief from various reporting requirements that were allowed when we were an EGC. Accordingly, we adopted the following pronouncements in 2017:

In July 2015, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory, which requires an entity to measure inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. We adopted ASU 2015-11 as of December 31, 2017. The update did not have a material impact on our financial position, results of operations or cash flows.

In March 2016, the FASB issued ASU 2016-09, Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, which is intended to improve employee share-based payment accounting for companies that issue share-based awards to their employees. This guidance simplifies the accounting for share-based payment transactions, including consequences of income tax award, classification as either equity or liability, treatment of forfeitures, and classification on statement of cash flows. The recognition, measurement and reporting for share-based payments was affected by this update. We adopted ASU 2016-09 as of December 31, 2017, which required any adjustments to be recorded as of the beginning of fiscal year 2017.

In our adoption, we elected to account for forfeitures of stock-based awards as they occur using the required modified retrospective adoption, we recorded a cumulative effect adjustment as of January 1, 2017 to increase our accumulated deficit and reduce additional paid-in capital in the amount of $995. In addition, we also recorded a deferred tax asset with a full valuation allowance for the recognition of excess tax benefits that were previously not recognized under the former guidance because the related tax deduction did not reduce the current taxes payable. This adjustment did not have a net impact to our deferred tax liability or accumulated deficit. There was no other impact to our consolidated financial statements as a result of our adoption of this ASU.

Accounting Pronouncements we will adopt in 2018 and later periods:

Revenue Recognition

BetweenMay 2014 and December 31, 2017, the Financial Accounting Standards Board, or FASB issued several updates related to revenue recognition for which we are evaluating the impact:

In May 2014, ASU 2014-09, Revenue from Contracts with Customers (Topic 606): was first to amend the existing accounting standards for revenue recognition. The amendment is based on the principle that revenue should be recognized to depict the transfer of goods and services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services.

In March 2016, ASU 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net), was issued to address principal versus agent considerations, reporting revenue gross versus net in the new revenue recognition standard. The guidance clarifies how an entity should evaluate the unit of accounting to determine whether it is a specified good or service and how it should apply the control principle to certain types of arrangements.

In April 2016, ASU 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing, was issued and included final amendments to clarify the guidance on identifying performance obligations and accounting for licenses of intellectual property (“IP”). The amendment allows entities to disregard goods or services that are immaterial in the context of a contract, assess whether the performance obligation is separately identifiable and whether the shipping and handling activities are a promised service in a contract. This guidance also clarifies how an entity should evaluate the nature of its promise in granting an IP license and when a promised good or service is distinct within the context of a contract.

In May 2016, ASU 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients, was issued and clarifies that for a contract to be considered completed the entity should evaluate the collectability threshold or probability of collecting revenue. It provides that the fair value of noncash consideration such as equity should be measured at contract inception when determining the transaction price and any subsequent changes must be recorded as a gain or loss, not as revenue. In addition, the entity has the option to make an accounting policy election to exclude from the transaction price certain types of taxes such as sales tax, value-added tax and excise tax in lieu of evaluating such taxes they collect in all jurisdictions to determine whether a tax is levied to the entity or the customer.

In December 2016, ASU 2016-20, Revenue from Contracts with Customers (Topic 606): Technical Corrections and Improvements, was issued to make minor corrections or minor improvements to the codification that are not expected to have a significant effect on current accounting practice or create a significant administrative cost to most entities. It affects narrow aspects of the revenue from contracts with customers’ guidance, including its scope, disclosure of remaining and prior-period performance obligation, contract modifications, contract asset vs receivables, refund liability and advertising costs.

For public companies, the guidance included in these updates will be effective for annual reporting periods beginning after December 15, 2017, with early adoption permitted for reporting periods beginning after December 15, 2016. The guidance may be applied retrospectively to each prior period presented or retrospectively with the cumulative effect recognized as of the date of the initial application.

We will adopt the new revenue standard and related updates as of January 1, 2018 and expect to apply the standard retrospectively to each prior period presented.  Based on an evaluation of our customer contracts and revenue generating transactions that occurred in 2016 and 2017, we do not expect such adoption to have a material impact on our historical financial position, results of operations and cash flows.   We are presently evaluating the incremental disclosure requirements of the new guidance, which will be first presented in the notes to our interim financial statements for the three month period ended March 31, 2018 along with a further description of our adoption.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which requires lessees to recognize the following for all leases (with the exception of short-term leases) at the commencement date: a lease liability, which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted basis; and a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. The revised guidance must be applied on a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements.  We will be required to adopt ASU 2016-02 in 2019, and interim periods within that year.  Early adoption is permitted for all entities.  We are presently evaluating the impact of this guidance.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, which eliminates the diversity in practice related to the classification of certain cash receipts and payments for debt prepayment or extinguishment costs, the maturing of a zero coupon bond, the settlement of contingent liabilities arising from a business combination, proceeds from insurance settlements, distributions from certain equity method investees, and beneficial interests obtained in a financial asset securitization. It also provides clarifications related to separately identifiable cash-flows and application of the predominance principle based on evaluating the source and nature of the underlying cash flows when determining whether it is a financing, investing, operating or a combination of cash flow classifications. This update will be effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. We will adopt ASU-2016-15 effective January 1, 2018. We do not expect the adoption of this update to have a material impact on our financial position, results of operations or cash flows.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash, which requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. These amounts should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. This amendment does not provide a definition of restricted cash or restricted cash equivalents. The update will be effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. We will adopt ASU 2016-18 effective January 1, 2018. We do not expect the adoption of this update to have a material impact on our financial position, results of operations or cash flows.

In January 2017, the FASB issued ASU 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, which no longer requires an entity to measure a goodwill impairment loss by comparing the implied fair value to the carrying value of a reporting unit's goodwill. Instead, any goodwill impairment charge will be recognized as the excess of a reporting unit’s carrying amount over its fair value, not to exceed the total amount of goodwill allocated to the reporting unit. In addition, an entity should consider income tax effects from any tax deductible goodwill on the carrying amount of the reporting unit when measuring the goodwill impairment loss, if applicable. This update does not affect the optional qualitative assessment of goodwill impairment. ASU 2017-04 will be effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. This guidance should be applied prospectively with earlier application permitted for goodwill impairment tests with measurement dates after January 1, 2017. We are currently assessing the impact of this guidance.

In May 2017, the FASB issued ASU 2017-09, Compensation - Stock Compensation (Topic 718): Scope of modification accounting: provides guidance about which changes to the terms of a share-based payment award should be accounted for as a modification. A change to an award should be accounted for as a modification unless the fair value of the modified award is the same as the original award, inputs to the valuation technique used to value the award does not change, the vesting conditions do not change, and the classification as an equity or liability instrument do not change. ASU 2017-09 should be applied prospectively to an award modified on or after the adoption date. This update is effective for annual and interim reporting periods, and interim periods within those annual periods in fiscal years beginning after December 15, 2017. We will adopt ASU 2017-09 effective January 1, 2018. This update will not have a material impact on our financial position, results of operations or cash flows.