Fair Value Measurement

12 Months Ended

Jan. 03, 2015

3. Fair Value Measurement

Fair value is defined 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. The fair value hierarchy distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity’s own assumptions about market participant assumptions developed based on the best information available in the circumstances (unobservable inputs). The fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy are described below:

—	Level 1: Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities.

—

Level 2: Directly or indirectly observable inputs as of the reporting date through correlation with market data, including quoted prices for similar assets and liabilities in active markets and quoted prices in markets that are not active. Level 2 also includes assets and liabilities that are valued using models or other pricing methodologies that do not require significant judgment since the input assumptions used in the models, such as interest rates and volatility factors, are corroborated by readily observable data from actively quoted markets for substantially the full term of the financial instrument.

—	Level 3: Unobservable inputs that are supported by little or no market activity and reflect the use of significant management judgment. These values are generally determined using pricing models for which the assumptions utilize management’s estimates of market participant assumptions.

In determining fair value, the Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible as well as considers counterparty credit risk in its assessment of fair value.

The carrying amounts of the Company’s financial assets and liabilities, including cash and cash equivalents, accounts receivable, accounts payable, and accrued expenses as of January 3, 2015 and December 28, 2013, approximate fair value because of the short maturity of these instruments.

As of January 3, 2015 and December 28, 2013, financial assets and liabilities measured and recognized at fair value on a recurring basis and classified under the appropriate level of the fair value hierarchy as described above was as follows (in thousands):

	As of January 3, 2015							As of December 28, 2013
	Fair Value Measurements							Fair Value Measurements
	Level 1		Level 2	Level 3		Total		Level 1		Level 2	Level 3		Total
Assets:
Money market funds	$	11,846				$	11,846	$	12,742				$	12,742
Liabilities:
Earn-out liability				$	1,423	$	1,423				$	624	$	624

The Company’s Level 1 financial assets are money market funds whose fair values are based on quoted market prices. The Company does not have any Level 2 financial assets or liabilities. The fair value of the earn-out liability arising from the acquisitions of RetinaLabs and Ocunetics is classified within Level 3 of the fair value hierarchy since it is based on significant unobservable inputs. The significant unobservable inputs include projected royalties and discount rates to present value the payments. A significant increase (decrease) in the projected royalty payments in isolation could result in a significantly higher (lower) fair value measurement and a significant increase (decrease) in the discount rate in isolation could result in a significantly lower (higher) fair value measurement. The fair value of the earn-out liability is calculated on a quarterly basis by the Company based on a collaborative effort of the Company’s operations, finance and accounting groups based on additional information as it becomes available. We continue to generate revenues from our RetinaLabs acquisition and anticipate generating revenues from our Ocunetics transaction. Both of these deals were structured with an earn-out component. Our expectations of the future revenues to be generated from these deals have increased; we now anticipate increasing our payment under the earn-out conditions. The earn-out liability is included in accrued expenses and other long-term liabilities in the consolidated balance sheets. Any change in the fair value adjustment is recorded in the consolidated statements of operations.

Charges related to fair value adjustments were $1,258 thousand, $355 thousand and $215 thousand for the fiscal years 2014, 2013 and 2012, respectively

The following table presents quantitative information about the inputs and valuation methodologies used for our fair value measurements classified in Level 3 of the fair value hierarchy as of January 3, 2015 and December 28, 2013.

As of January 3, 2015

Fair Value
(in
thousands)

Valuation
Technique

Significant
Unobservable
Input

Weighted
Average
(range)

Earn-out liability

1,423

Discounted cash

Projected royalties

$3,048

flow

(in thousands)

($669 – $3,613)

Discount rate

13.54%

(10.34% - 27.00%)

As of December 28, 2013

Fair Value
(in
thousands)

Valuation
Technique

Significant
Unobservable
Input

Weighted
Average
(range)

Earn-out liability

624

Discounted cash

Projected royalties

$1,463

flow

(in thousands)

($414 – $1,675)

Discount rate

21.61%

(20.52% - 27.00%)

The following table provides a reconciliation of the beginning and ending balances of the contingent consideration – cash (Level 3 liabilities) (in thousands):

Balance as of December 29, 2012	$	652
Payments against earn-out		(383	)
Change in fair value of earn-out liability		355
Balance as of December 28, 2013		624
Payments against earn-out		(459	)
Change in fair value of earn-out liability		1,258
Balance as of January 3, 2015	$	1,423

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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