| 13. | Income taxes: |
On December 22, 2017, the United States enacted major tax reform legislation, Public Law No. 115-97, commonly referred to as the Tax Cuts and Jobs Act (or 2017 Tax Act). The 2017 Tax Act, among other changes, lowers the general corporate income tax rate to 21% for tax years beginning after December 31, 2017, transitions U.S. international taxation from a worldwide tax system to a territorial system, and provides for a one-time transition tax on the mandatory deemed repatriation of cumulative foreign earnings as of December 31, 2017, which is not applicable to the Company. The Company has calculated its best estimate of the impact of the 2017 Tax Act in its income tax provision during the year ended December 31, 2017, in accordance with its understanding of the 2017 Tax Act and guidance available as of the date of this filing and does not believe it will be material to its results of operations. The provisional amount related to the remeasurement of certain deferred tax assets and liabilities is based on the tax rates at which they are expected to reverse in the future. The estimated amount recorded related to the remeasurement of these balances was an income tax benefit of $33.1 million, offset entirely by the reduction in the Company’s valuation allowance.
On December 22, 2017, Staff Accounting Bulletin No. 118 (“SAB 118”) was issued to address the application of US GAAP in situations when a registrant does not have the necessary information available, prepared, or analyzed (including computations) in reasonable detail to complete the accounting for certain income tax effects of the 2017 Tax Act. In accordance with SAB 118, the Company has determined that the $33.1 million of the deferred tax income offset by the reduction in valuation allowance recorded in connection with the re-measurement of certain deferred tax assets and liabilities and the expectation the transition tax is immaterial are reasonable estimates at December 31, 2017.
In addition, North Carolina reduced its corporate income tax rate from 4% to 3% in 2017. This resulted in a tax benefit of $1.7 million, offset by a reduction in the Company’s valuation allowance.
The Company recorded an income tax benefit of $16.0 million in 2017. This benefit was associated with the release of the Company’s valuation allowance triggered by the recognition of deferred tax liabilities recorded as part of the Endo BELBUCA® transaction (See note 7, Business Combinations and BELBUCA® Acquisition). The Company did not record income tax expense or pay any income tax in 2016 as it had incurred a net operating loss. The Company has recognized valuation allowances for all deferred tax assets for years ending 2017 and 2016. Reconciliation of the Federal statutory income tax rate of 34% to the effective rate is as follows:
| 2017 | 2016 | 2015 | ||||||||||
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Federal statutory income (benefit) tax rate |
(34.00 | %) | 34.00 | % | 34.00 | % | ||||||
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2017 Tax Act, net deferred tax remeasurement |
(626.73 | ) | — | — | ||||||||
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State taxes, net of federal benefit |
(2.01 | ) | 2.88 | 3.45 | ||||||||
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Stock compensation |
(5.18 | ) | (0.61 | ) | — | |||||||
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Permanent differences-other |
(13.39 | ) | (1.00 | ) | (4.66 | ) | ||||||
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North Carolina tax rate change |
(32.75 | ) | — | — | ||||||||
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Research and development (“R&D”) credit |
5.54 | 0.98 | 0.95 | |||||||||
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Valuation release for bargain purchase gain |
(302.23 | ) | — | — | ||||||||
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Other |
(1.36 | ) | (0.47 | ) | 0.64 | |||||||
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Decrease (increase) in valuation allowance |
709.88 | (35.78 | ) | (34.38 | ) | |||||||
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| (302.23 | %) | 0.00 | % | 0.00 | % | |||||||
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The tax effects of temporary differences and net operating losses that give rise to significant components of deferred tax assets and liabilities consist of the following:
| December 31, | ||||||||
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Deferred tax assets (liabilities) |
2017 | 2016 | ||||||
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Deferred revenue |
$ | — | $ | 7,377 | ||||
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Basis difference in equipment |
(587 | ) | (1,084 | ) | ||||
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Basis difference in intangibles |
(8,288 | ) | 1,201 | |||||
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Accrued liabilities and other |
654 | 550 | ||||||
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R&D credit |
11,882 | 11,589 | ||||||
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AMT credit |
79 | 79 | ||||||
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Stock options |
6,115 | 5,697 | ||||||
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Net operating loss carry-forward |
61,660 | 83,621 | ||||||
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| 71,515 | 109,030 | |||||||
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Less: valuation allowance |
(71,515 | ) | (109,030 | ) | ||||
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| $ | — | $ | — | |||||
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The Company is required to reduce any deferred tax asset by a valuation allowance if, based on an assessment of positive and negative evidence, including estimates of future taxable income necessary to realize future deductible amounts, it is more likely than not (a likelihood of more than 50 percent) that some portion or all of the deferred tax assets will not be realized. The valuation allowance should be sufficient to reduce the deferred tax asset to the amount which is more likely than not to be realized. As a result, the Company recorded a valuation allowance with respect to all of the Company’s deferred tax assets. The change in the valuation allowance for the year ended December 31, 2017 independent of the impact of the 2017 Tax Act was $(4.4 million). In addition to the remeasurement of the net deferred tax assets due to the 2017 Tax Act, the
valuation allowance decreased in 2017 due primarily to changes in the intangible assets and deferred revenue offset partially by stock compensation and an increase in the Company’s net operating loss carryforwards.
The Company has a federal net operating loss carry forward (“NOLs”) of approximately $263 million as of December 31, 2017. Under Section 382 and 383 of the Internal Revenue Code, if an ownership change occurs with respect to a “loss corporation”, as defined, there are annual limitations on the amount of the NOLs and other deductions which are available to the Company. The portion of the NOLs incurred prior to May 16, 2006 is subject to this limitation. As such, the use of these NOLs to offset taxable income is limited to approximately $1.5 million per year. The Company’s State NOLS are approximately $292 million as of December 31, 2017. These loss carryforwards expire between 2024 and 2037 for federal and 2030 for state purposes. Management has evaluated all other tax positions that could have a significant effect on the financial statements and determined that the Company has no uncertain income tax positions at December 31, 2017.
One or more of the Company’s legal entities file income tax returns in the U.S. federal jurisdiction and various U.S. state jurisdictions. The Company’s income tax returns are subject to audit by the tax authorities in those jurisdictions. Significant disputes may arise with authorities involving issues of the timing and amount of deductions, the use of tax credits and allocations of income and expenses among various tax jurisdictions because of differing interpretations of tax laws, regulations and the interpretation of the relevant facts. The Company is no longer subject to U.S. federal or state tax examinations for years ended on or before December 31, 2013.