11. Income Taxes
The following table summarizes our loss attributable to stockholders of Arena before benefit for income taxes by region for the years presented, in thousands:
|
|
|
Years ended December 31, |
|
|||||||||
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
United States |
|
$ |
(62,109 |
) |
|
$ |
(10,268 |
) |
|
$ |
(64,109 |
) |
|
Foreign |
|
|
(29,298 |
) |
|
|
(12,248 |
) |
|
|
(43,870 |
) |
|
Total loss attributable to stockholders of Arena before income taxes |
|
$ |
(91,407 |
) |
|
$ |
(22,516 |
) |
|
$ |
(107,979 |
) |
We have not recorded a benefit for income taxes for the years ended December 31, 2017, 2016, and 2015, because we have a full valuation allowance.
Our effective income tax rate differs from the statutory federal rate of 34% for the years presented due to the following, in thousands:
|
|
|
Years ended December 31, |
|
|||||||||
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Benefit for income taxes at statutory federal rate |
|
$ |
(32,140 |
) |
|
$ |
(4,053 |
) |
|
$ |
(37,641 |
) |
|
Change in valuation allowance due to tax reform |
|
|
96,333 |
|
|
|
— |
|
|
|
— |
|
|
Change in federal and foreign valuation allowance |
|
|
(68,604 |
) |
|
|
(3,867 |
) |
|
|
22,240 |
|
|
Permanent differences and other |
|
|
(782 |
) |
|
|
3,412 |
|
|
|
2,349 |
|
|
Share-based compensation expense |
|
|
7,071 |
|
|
|
4,001 |
|
|
|
1,820 |
|
|
Foreign losses at lower effective rates |
|
|
1,428 |
|
|
|
3,944 |
|
|
|
15,041 |
|
|
Research and development and Orphan Drug credits |
|
|
(3,306 |
) |
|
|
(3,437 |
) |
|
|
(3,647 |
) |
|
Gain from valuation of derivative liabilities |
|
|
— |
|
|
|
— |
|
|
|
(162 |
) |
|
Benefit for income taxes |
|
$ |
— |
|
|
$ |
— |
|
|
$ |
— |
|
The components of our net deferred tax assets are as follows, in thousands:
|
|
|
December 31, |
|
|||||
|
|
|
2017 |
|
|
2016 |
|
||
|
Deferred tax assets: |
|
|
|
|
|
|
|
|
|
Federal and California NOL carryforwards |
|
$ |
179,323 |
|
|
$ |
255,317 |
|
|
Federal and California research and development credit carryforwards |
|
|
61,272 |
|
|
|
53,059 |
|
|
Foreign NOL carryforwards |
|
|
15,425 |
|
|
|
4,238 |
|
|
Share-based compensation expense |
|
|
4,884 |
|
|
|
10,395 |
|
|
Depreciation |
|
|
3,896 |
|
|
|
5,441 |
|
|
Deferred revenues |
|
|
3,554 |
|
|
|
9,357 |
|
|
Other, net |
|
|
5,758 |
|
|
|
5,164 |
|
|
Total deferred tax assets |
|
|
274,112 |
|
|
|
342,971 |
|
|
Deferred tax liabilities |
|
|
— |
|
|
|
— |
|
|
Net deferred tax assets |
|
|
274,112 |
|
|
|
342,971 |
|
|
Valuation allowance |
|
|
(274,112 |
) |
|
|
(342,971 |
) |
|
Net deferred tax liabilities |
|
$ |
— |
|
|
$ |
— |
|
A valuation allowance is recorded against all of our deferred tax assets, as realization of such assets is not more-likely-than-not. The realization of our deferred tax assets is dependent upon future taxable income. Our ability to generate taxable income is analyzed regularly on a jurisdiction-by-jurisdiction basis. At such time as it is more-likely-than-not that we will generate taxable income in a jurisdiction, we will reduce or remove the valuation allowance. The valuation allowance decreased by $69.5 million from December 31, 2016, to December 31, 2017.
On December 22, 2017, H.R. 1/Public Law No. 115-97 known as the Tax Cuts and Jobs Act, or the Tax Act, was signed into law. The effects of this new federal legislation are recognized upon enactment, which is the date a bill is signed into law. The Act includes numerous changes in existing tax law, including a permanent reduction in the federal corporate income tax rate from 35% to 21%. The rate reduction takes effect on January 1, 2018. As a result of the Tax Act, we have revalued our net deferred tax assets as of December 31, 2017 to reflect the rate reduction. Based on currently available information, we recorded a reduction in our net deferred tax assets of $96.3 million in the fourth quarter of 2017 related to the revaluation of our net deferred tax assets as a result of the Tax Act; however, the revaluation does not result in any additional net income tax expense as our net deferred tax assets are fully offset by the valuation allowance.
At December 31, 2017, we had federal NOL carryforwards of $721.4 million that will begin to expire in 2023 unless previously utilized. At the same date, we had California NOL carryforwards of $398.6 million, which begin expiring in 2028 and foreign NOL carryforwards of $184.8 million, which begin expiring in 2018. At December 31, 2017, we also had federal and California research and development tax credit carryforwards, net of reserves, of $31.7 million and $23.8 million, respectively. At December 31, 2017, we had a Federal Orphan Drug Credit carryforward, net of reserves, of $10.1 million. Federal credit carryforwards will begin to expire after 2026 unless previously utilized. The California research and development credit carries forward indefinitely.
Sections 382 and 383 of the IRC limit the utilization of tax attribute carryforwards that arise prior to certain cumulative changes in a corporation’s ownership. We have completed an IRC Section 382/383 analysis through 2015 and identified ownership changes that limit our utilization of tax attribute carryforwards. We reduced deferred tax assets associated with such tax attribute carryforwards to remove deferred tax assets that will expire prior to utilization. Pursuant to IRC Section 382 and 383, use of the Company’s net operating loss and research and development income tax credit carryforwards may be limited in the event of cumulative changes in ownership subsequent to 2015 of more than 50% within a three-year period.
In accordance with authoritative guidance, the impact of an uncertain income tax position on the income tax return must be recognized at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained.
The following table reconciles the beginning and ending amount of unrecognized tax benefits for the years presented, in thousands:
|
|
|
Years ended December 31, |
|
|||||||||
|
|
|
2017 |
|
|
2016 |
|
|
2015 |
|
|||
|
Gross unrecognized tax benefits at the beginning of the year |
|
$ |
5,906 |
|
|
$ |
5,619 |
|
|
$ |
5,214 |
|
|
Additions from tax positions taken in the current year |
|
|
1,133 |
|
|
|
287 |
|
|
|
405 |
|
|
Additions from tax positions taken in prior years |
|
|
723 |
|
|
|
— |
|
|
|
— |
|
|
Reductions from tax positions taken in prior years |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
Tax settlements |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
Gross unrecognized tax benefits at end of the year |
|
$ |
7,762 |
|
|
$ |
5,906 |
|
|
$ |
5,619 |
|
Of our total unrecognized tax benefits at December 31, 2017, $6.2 million will impact our effective tax rate in the event the valuation allowance is removed. We do not anticipate that there will be a substantial change in unrecognized tax benefits within the next 12 months.
Our practice is to recognize interest and/or penalties related to income tax matters in income tax expense. Because we have incurred net losses since our inception, we did not have any accrued interest or penalties included in our consolidated balance sheets at December 31, 2017, or 2016, and did not recognize any interest and/or penalties in our consolidated statements of operations and comprehensive loss for the years ended December 31, 2017, 2016, and 2015.
We are subject to income taxation in the United States at the Federal and state levels. All tax years are subject to examination by US and California tax authorities due to the carryforward of unutilized NOLs and tax credits. We are also subject to foreign income taxes in the countries in which we operate. To our knowledge, we are not currently under examination by any taxing authorities.
At December 31, 2017, no foreign subsidiaries have accumulated earnings and, as such, there are no unrepatriated earnings.
Our Swiss subsidiary, Arena GmbH, has been granted a conditional incentive tax holiday by the Canton of Aargau for its operations in Switzerland. Without a tax holiday or other tax incentives, the standard effective tax rate of a company located in Aargau is approximately 19%. As a result of the tax holiday and other tax incentives, we expect the effective tax rate for Arena GmbH to be approximately half of such rate. The tax holiday came into effect on January 1, 2013, and will continue for a period of up to 10 years, not to extend beyond December 31, 2022. As a result of foreign losses and a full valuation allowance, no net tax benefit was derived for the years ended December 31, 2017, 2016, and 2015, as a result of the tax holiday.