14. Income Taxes
The Company’s income tax (provision) benefit consists of the following components:
| Year Ended December 31, | ||||||||||||
| 2017 | 2016 | 2015 | ||||||||||
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Current: |
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Federal |
$ | (3,176 | ) | $ | (150 | ) | $ | (988 | ) | |||
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State |
(915 | ) | (92 | ) | (159 | ) | ||||||
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International |
— | 456 | (544 | ) | ||||||||
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Total current |
(4,091 | ) | 214 | (1,691 | ) | |||||||
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Deferred: |
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Federal |
(14,340 | ) | 2,477 | (5,695 | ) | |||||||
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State |
(1,022 | ) | 562 | 68 | ||||||||
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International |
— | (192 | ) | (981 | ) | |||||||
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Total deferred |
(15,362 | ) | 2,847 | (6,608 | ) | |||||||
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Total income tax (provision) benefit |
$ | (19,453 | ) | $ | 3,061 | $ | (8,299 | ) | ||||
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The components of the deferred tax assets and liabilities consisted of the following at:
| December 31, 2017 | December 31, 2016 | |||||||||||||||
| Deferred Income Tax | Deferred Income Tax | |||||||||||||||
| Assets | Liabilities | Assets | Liabilities | |||||||||||||
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Allowance for bad debts |
$ | 186 | $ | — | $ | 485 | $ | — | ||||||||
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Deferred compensation |
1,783 | — | 4,675 | — | ||||||||||||
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Inventory |
5,905 | — | 12,811 | — | ||||||||||||
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Fixed assets and intangibles |
— | (7,370 | ) | — | (5,690 | ) | ||||||||||
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Investments |
— | — | 2,133 | — | ||||||||||||
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Net operating losses |
8,106 | — | 4,547 | — | ||||||||||||
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Tax credits |
4,387 | — | 5,235 | — | ||||||||||||
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Deferred revenue |
1,874 | — | 3,804 | — | ||||||||||||
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Accrued liabilities |
2,072 | — | 2,004 | — | ||||||||||||
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Other |
— | (110 | ) | — | (120 | ) | ||||||||||
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Valuation allowance |
(7,258 | ) | — | (4,916 | ) | — | ||||||||||
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Total |
$ | 17,055 | $ | (7,480 | ) | $ | 30,778 | $ | (5,810 | ) | ||||||
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The Company expects its deferred tax assets of $9,575, net of the valuation allowance at December 31, 2017 of $7,258, to be realized through the generation of future taxable income and the reversal of existing taxable temporary differences.
On December 22, 2017, the US government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “Tax Legislation”). The Tax Legislation makes broad and complex changes to the U.S. tax code including, but not limited to the following:
| • | Reduction of the U.S. federal corporate tax rate from 35% to 21% |
| • | Requiring a transition tax on certain unrepatriated earnings of foreign subsidiaries |
| • | Bonus depreciation that will allow for full expensing of qualified property |
| • | Elimination of the corporate alternative minimum tax |
| • | The repeal of the domestic production activity deduction |
| • | Limitations on the deductibility of certain executive compensation |
| • | Limitations on net operating losses generated after December 31, 2017 |
In addition, beginning in 2018, the Tax Legislation includes a global intangible low-taxed income (“GILTI”) provision, which as currently interpreted by the Company, requires a tax on foreign earnings in excess of a deemed return on tangible assets of foreign subsidiaries. The Company has elected an accounting policy to account for GILTI as a period cost if incurred, rather than recognizing deferred taxes for temporary basis differences expected to reverse as a result of GILTI. Other provisions of the Tax Legislation that impact future tax years continue to be assessed.
The SEC staff issued SAB 118, which provides guidance on accounting for the tax effects of the Tax Legislation. SAB 118 provides a measurement period that should not extend beyond one year from the Tax Legislation enactment date for companies to complete the accounting under ASC 740. In accordance with SAB 118, the Company must reflect the income tax effects of those aspects of the Tax Legislation for which the accounting under ASC 740 is complete. To the extent that the Company’s accounting for certain income tax effects of the Tax Legislation is incomplete, but the Company is able to determine a reasonable estimate, it must record a provisional estimate in the consolidated financial statements. If the Company cannot determine a provisional estimate, it should continue to apply ASC 740 on the basis of the provisions of the tax laws that were in effect immediately before the enactment of the Tax Legislation
In connection with our initial analysis of the impact of the Tax Legislation, the Company has recorded provisional tax expense of $2,187 in the period ending December 31, 2017. This provisional tax expense consists of $1,436 to revalue the Company’s deferred tax assets using the reduced corporate tax rate and $751 related to the transition tax. Given the complexity of the Tax Legislation and anticipated guidance from the U.S. Treasury about implementing the Tax Legislation, the Company’s analysis and accounting for the income tax effects of the Tax Legislation is preliminary. The amounts recorded by the Company to revalue its deferred tax assets and impact of the transition tax are provisional estimates. The Company has not fully completed its analysis of certain aspects of
the Tax Legislation that could result in adjustments to the revaluation of the Company’s deferred tax assets, and its analysis and calculation of foreign earnings subject to the transition tax. Upon completion of the Company’s analysis, these estimates may be adjusted through income tax expense in the consolidated financial statement.
Valuation allowances are established when necessary to reduce deferred tax assets to amounts which are more likely than not to be realized. As such, valuation allowances of $7,258 and $4,916 have been established at December 31, 2017 and December 31, 2016, respectively, against a portion of the deferred tax assets.
As of December 31, 2017, the Company has U.S. federal net operating loss carryforwards of $1,635 that will expire in the years 2026 and 2027. As of December 31, 2017, the Company has U.S. state net operating loss carryforwards of $42,420 that will expire in the years 2018 through 2037. As of December 31, 2017, the Company has foreign net operating loss carryforwards of $20,551 that will carryfoward indefinitely.
As of December 31, 2017, the Company has research tax credit carryforwards of $4,403 that will expire in years 2030 through 2037. As of December 31, 2017, the Company has foreign tax credit carryforwards of $751 that will expire in 2037.
U.S. income taxes have not been provided on the undistributed earnings of the Company’s foreign subsidiaries. It is not practicable to estimate the amount of tax that might be payable. The Company’s intention is to indefinitely reinvest earnings of its foreign subsidiaries outside of the U.S.
The Company evaluates the need for deferred tax asset valuation allowances based on a more likely than not standard. The ability to realize deferred tax assets depends on the ability to generate sufficient taxable income within the carryback or carryforward periods provided for in the tax law for each applicable tax jurisdiction.
The assessment regarding whether a valuation allowance is required or should be adjusted also considers all available positive and negative evidence. It is difficult to conclude a valuation allowance is not required when there is significant objective and verifiable negative evidence, such as cumulative losses in recent years. The Company utilizes a rolling three-years of actual results as the primary measure of cumulative losses in recent years.
On a rolling three-years, the Company’s consolidated U.S. operations are in a cumulative income position. However, one U.S. entity (“Entity”) is in a three-year cumulative loss position. Future taxable income exclusive of reversing temporary differences and carryforwards is one source of taxable income available that can be used to realize tax benefits. During 2017, the Company has undertaken various cost reduction activities to reduce complexity and increase operational excellence within the organization. The Entity anticipates generating significant cost savings from the various cost reduction activities. After adjusting the Entity’s cumulative losses to include the projected costs savings, the Entity’s operations project future profits sufficient to utilize the Entity’s separate state deferred tax assets before expiration. The Company considers this objectively verifiable evidence that all its U.S. deferred tax assets are more likely than not realizable.
The Company’s foreign operations are in three-year cumulative loss position. As a result, the Company has recorded a full valuation allowance on its foreign subsidiary’s deferred tax assets.
As such, valuation allowances of $7,258 and $4,916 have been established at December 31, 2017 and December 31, 2016, respectively, against a portion of the deferred tax assets.
The Company will continue to regularly assess the realizability of our deferred tax assets. Changes in historical earnings performance and future earnings projections, among other factors, may cause the Company to adjust its valuation allowance, which would impact the Company’s income tax expense in the period the Company determines that these factors have changed.
As of December 31, 2017, the Company has $1,591 of unrecognized tax benefits, which was recorded net against deferred tax assets in the accompanying consolidated balance sheet.
The Company’s unrecognized tax benefits are summarized as follows:
| Year Ended December 31, | ||||||||||||
| 2017 | 2016 | 2015 | ||||||||||
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Opening balance |
$ | 1,591 | $ | 1,986 | $ | 1,787 | ||||||
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Reductions based on tax positions related to the current year |
— | — | — | |||||||||
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Additions for tax positions of prior years |
— | — | 199 | |||||||||
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Reductions for tax positions of prior years |
— | (60 | ) | — | ||||||||
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Reductions for expiration of statute of limitations |
— | (335 | ) | — | ||||||||
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| $ | 1,591 | $ | 1,591 | $ | 1,986 | |||||||
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The unrecognized tax benefits if recognized, would favorably impact the Company’s effective tax rate.
The Company’s policy is to recognize interest accrued related to unrecognized tax benefits in interest expense and penalties in the provision for income taxes. There were no interest and penalties recorded in 2017, 2016 and 2015 and no interest and penalties accrued at December 31, 2017 and 2016.
The Company’s 2015 U.S. federal income tax return is under examination by the Internal Revenue Service (“IRS”). Currently, the Company has not recorded any material adjustments related to the IRS examination.
The effective tax rate differs from the statutory federal income tax rate for the following reasons:
| Year Ended December 31, | ||||||||||||
| 2017 | 2016 | 2015 | ||||||||||
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Statutory federal rate |
35.00 | % | 35.00 | % | 35.00 | % | ||||||
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State income taxes—net of federal tax benefit |
2.43 | % | 1.73 | % | 0.25 | % | ||||||
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Foreign rate differential |
2.85 | % | (3.29 | %) | (2.18 | %) | ||||||
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Tax legislation—transition tax |
2.92 | % | — | — | ||||||||
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Tax legislation—revaluation of deferred tax assets |
5.58 | % | — | — | ||||||||
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Other permanent items |
1.63 | % | (3.15 | %) | 0.56 | % | ||||||
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Tax credits |
(4.62 | %) | 7.02 | % | (0.28 | %) | ||||||
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Domestic production activities deduction |
0.00 | % | 1.38 | % | — | |||||||
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Goodwill disposal |
11.76 | % | — | — | ||||||||
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Officer compensation |
4.26 | % | ||||||||||
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Stock-based compensation |
6.18 | % | — | — | ||||||||
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Valuation allowance |
5.94 | % | (21.71 | %) | 0.85 | % | ||||||
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Other reconciling items, net |
1.69 | % | 0.55 | % | 1.55 | % | ||||||
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Effective tax rate |
75.62 | % | 17.53 | % | 35.75 | % | ||||||
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For the years ended December 31, 2017, 2016 and 2015, the Company had no individually significant other reconciling items.