7. INCOME TAXES
The components of income (loss) before income taxes and the provision (benefit) from income taxes consist of the following:
| Fiscal Year Ended July 31, | ||||||||||||
| 2017 | 2016 | 2015 | ||||||||||
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Income (loss) before income taxes |
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U.S. |
$ | 7,386 | $ | (9,210 | ) | $ | 6,290 | |||||
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Foreign |
21,113 | 10,009 | 27,816 | |||||||||
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Income (loss) before income taxes |
$ | 28,499 | $ | 799 | $ | 34,106 | ||||||
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Provision for (benefit from) income taxes: |
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Current: |
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Federal |
$ | — | $ | (3,230 | ) | $ | — | |||||
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State |
6 | (92 | ) | — | ||||||||
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Foreign |
6,026 | 1,661 | 3,123 | |||||||||
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Total Current |
$ | 6,032 | $ | (1,661 | ) | $ | 3,123 | |||||
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Deferred |
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Federal |
$ | 113 | $ | 103 | $ | 110 | ||||||
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State |
1 | 3 | 2 | |||||||||
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Foreign |
(202 | ) | (105 | ) | (647 | ) | ||||||
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Total Deferred |
(88 | ) | 1 | (535 | ) | |||||||
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Total provision for (benefit from) income taxes |
$ | 5,944 | $ | (1,660 | ) | $ | 2,588 | |||||
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Reconciliation of the U.S. federal statutory rate to the Company’s effective tax rate is as follows:
| Fiscal Year Ended July 31, | ||||||||||||
| 2017 | 2016 | 2015 | ||||||||||
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U.S. federal statutory rate |
35.00 | % | 35.00 | % | 35.00 | % | ||||||
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Change in valuation allowance |
(15.34 | ) | (111.59 | ) | (15.33 | ) | ||||||
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Foreign rate differential |
(5.45 | ) | (266.17 | ) | (21.03 | ) | ||||||
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Permanent differences |
6.30 | 99.19 | 8.88 | |||||||||
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Change in uncertain tax positions |
(0.04 | ) | 22.50 | (0.26 | ) | |||||||
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Other |
0.40 | 13.30 | 0.33 | |||||||||
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Effective tax rate |
20.87 | % | (207.77 | )% | 7.59 | % | ||||||
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Deferred tax assets and liabilities as of July 31, 2017, and 2016 are as follows:
| As of July 31, | ||||||||
| 2017 | 2016 | |||||||
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Deferred tax assets: |
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Net operating loss carryforwards |
$ | 140,326 | $ | 144,699 | ||||
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Capital loss carryforwards |
— | 64 | ||||||
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Tax credits |
34,078 | 32,487 | ||||||
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Inventory valuation reserves |
11,128 | 14,213 | ||||||
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Deferred revenue |
2,182 | 1,237 | ||||||
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Other |
16,001 | 14,859 | ||||||
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Total deferred tax assets |
203,715 | 207,559 | ||||||
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Valuation allowance |
(203,261 | ) | (206,937 | ) | ||||
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Net deferred tax assets |
$ | 454 | $ | 622 | ||||
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Deferred tax liabilities: |
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Intangibles |
$ | (762 | ) | $ | (373 | ) | ||
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Fixed assets and spares |
(213 | ) | (756 | ) | ||||
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Prepaid expenses |
(71 | ) | (173 | ) | ||||
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Total deferred tax liabilities |
(1,046 | ) | (1,302 | ) | ||||
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Net deferred tax assets (liabilities) |
$ | (592 | ) | $ | (680 | ) | ||
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Cumulative unremitted foreign earnings that are considered to be indefinitely reinvested outside of the U.S. and on which no U.S. taxes have been provided are approximately $47.7 million and $35.7 million as of July 31, 2017 and 2016. Due to net operating loss and credit carryforwards, the residual U.S. tax liability, if such amounts were remitted, would be minimal.
ASC 740-10-30, Income Taxes, requires the Company to periodically evaluate the necessity of establishing or increasing a valuation allowance for deferred tax assets depending on whether it is more likely than not that a related benefit will be realized in future periods. A valuation allowance has been recorded against net deferred tax assets in the U.S. and in certain foreign jurisdictions with a history of losses. The valuation allowance totaled $203.3 million and $206.9 million as of July 31, 2017 and 2016, respectively. The decrease in the Company’s valuation allowance compared to the prior year was primarily due to a decrease in U.S. deferred tax assets associated with sources of income in the current year.
As of July 31, 2017, the Company had federal net operating loss carryforwards of $349.6 million, which expire from 2019 to 2036, federal tax credit carryforwards, including research and development and foreign tax credits, of $11.1 million which expire from 2018 to 2037, state net operating loss carryforwards of $249.9 million, which expire from 2018 to 2036, and state tax credits and carryforwards of $37.9 million, of which the majority have an indefinite credit carryforward period. The remaining state tax credit carryforwards begin expiring in 2018 to 2032. The Company also has foreign net operating loss carryforwards of approximately $13.1 million in various foreign jurisdictions.
As of July 31, 2016, the Company had federal net operating loss carryforwards of $358.9 million, which expire from 2019 to 2036, federal tax credit carryforwards, including research and development and foreign tax credits, of $10.2 million which expire from 2018 to 2036, state net operating loss carryforwards of $253.6 million, which expire from 2017 to 2036, and state tax credits and carryforwards of $36.8 million, of which the majority have an indefinite credit carryforward period. The remaining state tax credit carryforwards begin expiring in 2017 to 2031. The Company also has foreign net operating loss carryforwards of approximately $15.9 million in various foreign jurisdictions.
As a result of the merger with Credence Systems Corporation on August 29, 2008, a greater than 50% cumulative ownership change in both entities triggered a significant limitation in net operating loss carryforward utilization. The Company’s ability to use the acquired U.S. net operating loss and credit carryforwards is subject to annual limitations as defined in sections 382 and 383 of the Internal Revenue Code. The Company currently estimates that the annual limitation on its use of net operating losses generated through August 29, 2008 is approximately $10.1 million, which, based on the currently enacted federal carryforward period, limits the amount of net operating losses that are available for utilization to approximately $202.0 million. The Company will continue to assess the realizability of these carryforwards in subsequent periods.
A summary of the Company’s adjustments to its uncertain tax positions in the fiscal years ended July 31, 2017, 2016 and 2015 is as follows:
| July 31, 2017 |
July 31, 2016 |
July 31, 2015 |
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Balance at beginning of year |
$ | 6,283 | $ | 6,267 | $ | 6,590 | ||||||
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Increase (decrease) for uncertain tax positions related to the current year |
200 | 16 | 185 | |||||||||
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Decrease for uncertain tax positions related to prior years |
— | — | — | |||||||||
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Decreases for lapses of statutes of limitations |
(333 | ) | — | (508 | ) | |||||||
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Balance at end of year |
$ | 6,150 | $ | 6,283 | $ | 6,267 | ||||||
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As of July 31, 2017 and July 31, 2016, our liability for unrecognized income tax benefits was $6.2 million and $6.3 million respectively (of which $2.6 million and $2.7 million, if recognized, would impact our income tax rate). The Company recognizes interest and penalties related to uncertain tax positions as a component of income tax expense. The Company has accrued a total of $1.3 million and $1.2 million, respectively, for the potential payment of interest and penalties at July 31, 2017 and July 31, 2016. The Company does not anticipate a material reduction of uncertain tax positions over the next 12 months.
The Company files income tax returns with the U.S. federal government and various state and international jurisdictions, which are subject to potential examination by tax authorities. With few exceptions, the Company’s 1998 and subsequent federal and state tax years remain open by statute, principally relating to net operating loss carryforwards.