10-K 1 fy201510-k.htm 10-K 10-K
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
þ
 
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended January 3, 2016
or
o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the transition period from          to 
Commission file number: 001-35406
Illumina, Inc.
(Exact name of registrant as specified in its charter)
Delaware
 
33-0804655
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
5200 Illumina Way
San Diego, California
 
92122
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (858) 202-4500
Securities registered pursuant to Section 12(b) of the Act:
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Common Stock, $0.01 par value
 
The NASDAQ Global Select Market
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Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes þ     No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ
As of February 19, 2016, there were 147.0 million shares (excluding 40.1 million shares held in treasury) of the registrant’s common stock outstanding. The aggregate market value of the common stock held by non-affiliates of the registrant as of June 28, 2015 (the last business day of the registrant’s most recently completed second fiscal quarter), based on the closing price for the common stock on The NASDAQ Global Select Market on June 26, 2015 (the last trading day before June 28, 2015), was $31.2 billion. This amount excludes an aggregate of approximately 1.4 million shares of common stock held by officers and directors and each person known by the registrant to own 10% or more of the outstanding common stock. Exclusion of shares held by any person should not be construed to indicate that such person possesses the power, directly or indirectly, to direct or cause the direction of the management or policies of the registrant, or that the registrant is controlled by or under common control with such person.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s definitive proxy statement for the 2016 annual meeting of stockholders are incorporated by reference into Items 10 through 14 of Part III of this Report.
 



ILLUMINA, INC.
FORM 10-K
FOR THE FISCAL YEAR ENDED JANUARY 3, 2016
TABLE OF CONTENTS

 
 
Page
 
 
 
 
 
 
 
 
 
 

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Special Note Regarding Forward-Looking Statements
This annual report on Form 10-K contains, and our officers and representatives may from time to time make, “forward-looking statements” within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by words such as: “anticipate,” “intend,” “plan,” “goal,” “seek,” “believe,” “project,” “estimate,” “expect,” “strategy,” “future,” “likely,” “may,” “should,” “will,” or the negative of these terms, and similar references to future periods. Examples of forward-looking statements include, among others, statements we make regarding:
our expectations as to our future financial performance, results of operations, or other operational results or metrics;
the benefits that we expect will result from our business activities and certain transactions we have completed, such as product introductions, increased revenue, decreased expenses, and avoided expenses and expenditures;
our expectations of the effect on our financial condition of claims, litigation, contingent liabilities, and governmental investigations, proceedings, and regulations;
our strategies or expectations for product development, market position, financial results, and reserves; and
other expectations, beliefs, plans, strategies, anticipated developments, and other matters that are not historical facts.
Forward-looking statements are neither historical facts nor assurances of future performance. Instead, they are based only on our current beliefs, expectations, and assumptions regarding the future of our business, future plans and strategies, projections, anticipated events and trends, the economy, and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks, and changes in circumstances that are difficult to predict and many of which are outside of our control. Our actual results and financial condition may differ materially from those indicated in the forward-looking statements. Therefore, you should not rely on any of these forward-looking statements. Important factors that could cause our actual results and financial condition to differ materially from those indicated in the forward-looking statements include, among others, the following:
our ability to develop and commercialize our instruments and consumables, to deploy new products, services, and applications, and to expand the markets for our technology platforms;
our ability to manufacture robust instrumentation and consumables;
our ability to identify and integrate acquired technologies, products, or businesses successfully;
our expectations and beliefs regarding prospects and growth for the business and its markets;
the assumptions underlying our critical accounting policies and estimates;
our assessments and estimates that determine our effective tax rate;
our assessments and beliefs regarding the outcome of pending legal proceedings and any liability, that we may incur as a result of those proceedings;
uncertainty, or adverse economic and business conditions, including as a result of slowing or uncertain economic growth in the United States or worldwide; and
other factors detailed in our filings with the SEC, including the risks, uncertainties, and assumptions described in Item 1A “Risk Factors” below, or in information disclosed in public conference calls, the date and time of which are released beforehand.
Any forward-looking statement made by us in this annual report on Form 10-K is based only on information currently available to us and speaks only as of the date on which it is made. We undertake no obligation, and do not intend, to publicly update any forward-looking statement, whether written or oral, that may be made from time to time, or to review or confirm analysts’ expectations, or to provide interim reports or updates on the progress of any current financial quarter, in each case whether as a result of new information, future developments, or otherwise.

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Available Information
Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports are available free of charge on our website, www.illumina.com. The information on our website is not incorporated by reference into this report. Such reports are made available as soon as reasonably practicable after filing with, or furnishing to, the SEC. The SEC also maintains an Internet site at www.sec.gov that contains reports, proxy and information statements, and other information regarding issuers that electronically file with the SEC. Copies of our annual report on Form 10-K will be made available, free of charge, upon written request.


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Illumina®, 24sure®, BaseSpace®, BeadArray, BlueFish®, BlueFuse®, BlueGnome®, cBot, CSPro®, DASL®, DesignStudio, Epicentre®, ForenSeq, Genetic Energy®, GenomeStudio®, GoldenGate®, HiScan®, HiSeq®, HiSeq X®, Infinium®, iScan®, iSelect®, MiniSeq, MiSeq®, MiSeqDx®, MiSeq FGx, NeoPrep, NextBio®, Nextera®, NextSeq®, SeqMonitor, TruGenome®, TruSeq®, TruSight®, Understand Your Genome®, UYG®, VeraCode®, verifi®, VeriSeq, the pumpkin orange color, and the Genetic Energy streaming bases design are certain of our trademarks. This report also contains brand names, trademarks, or service marks of companies other than Illumina, and these brand names, trademarks, and service marks are the property of their respective holders.

_______________________________________

Unless the context requires otherwise, references in this annual report on Form 10-K to “Illumina,” the “Company,” “we,” “us,” and “our” refer to Illumina, Inc. and its subsidiaries.

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PART I

ITEM 1.    Business.

Overview

We are the global leader in sequencing- and array-based solutions for genetic analysis. Our products and services serve customers in a wide range of markets, enabling the adoption of genomic solutions in research and clinical settings. We were incorporated in California in April 1998 and reincorporated in Delaware in July 2000. Our principal executive offices are located at 5200 Illumina Way, San Diego, California 92122. Our telephone number is (858) 202-4500.
Our customers include leading genomic research centers, academic institutions, government laboratories, and hospitals, as well as pharmaceutical, biotechnology, agrigenomics, commercial molecular diagnostic laboratories, and consumer genomics companies.
Our portfolio of integrated systems, consumables, and analysis tools is designed to accelerate and simplify genetic analysis. This portfolio addresses the range of genomic complexity, price points, and throughput, enabling customers to select the best solution for their research or clinical challenge.
Over the past five years, we have made key acquisitions to provide our customers with more comprehensive sample-to-answer solutions and to enable our goal of becoming a leader in the clinical market. These include:
GenoLogics Life Sciences Software Inc., a developer of industry-leading laboratory information management systems, in August 2015;
Myraqa, Inc., a regulatory and quality consulting firm specializing in IVDs and companion diagnostics, in July 2014;
NextBio, a provider of clinical and genomic informatics, in November 2013;
Advanced Liquid Logic Inc., a developer of digital microfluidics and liquid handling solutions, in July 2013;
Verinata Health, Inc., a provider of non-invasive tests for the early identification of fetal chromosomal abnormalities, in February 2013;
BlueGnome Ltd., a provider of cytogenetics and in vitro fertilization screening solutions, in September 2012; and
Epicentre Technologies Corporation, a provider of nucleic-acid sample preparation reagents and specialty enzymes for sequencing and array applications, in January 2011.


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Genetics Primer

The instruction set for all living cells is encoded in deoxyribonucleic acid, or DNA. The complete set of DNA for any organism is referred to as its genome. DNA contains small regions called genes, which comprise a string of nucleotide bases labeled A, C, G, and T, representing adenine, cytosine, guanine, and thymine, respectively. These nucleotide bases occur in a precise order known as the DNA sequence. When a gene is “expressed,” a partial copy of its DNA sequence called messenger RNA (mRNA) is used as a template to direct the synthesis of a particular protein. Proteins, in turn, direct all cellular function. The illustration below is a simplified gene expression schematic.
Variations among organisms are due, in large part, to differences in their DNA sequences. Changes can result from insertions, deletions, inversions, translocations, or duplications of nucleotide bases. These changes may result in certain genes becoming over-expressed (excessive protein production), under-expressed (reduced protein production), or silenced altogether, sometimes triggering changes in cellular function. These changes can be the result of heredity, but most often they occur at random. The most common form of variation in humans is called a single nucleotide polymorphism (SNP), which is a base change in a single position in a DNA sequence. Another type of variation, copy number variations (CNVs), occur when there are fewer or more copies of certain genes, segments of a gene, or stretches of DNA.

In humans, genetic variation accounts for many of the physical differences we see (e.g., height, hair, eye color, etc.). Genetic variations also can have medical consequences affecting disease susceptibility, including predisposition to complex genetic diseases such as cancer, diabetes, cardiovascular disease, and Alzheimer’s disease. They can affect individual response to certain drug treatments, causing patients to experience adverse side effects, or to respond well or not at all.

Scientists are studying these variations and their consequences in humans, as well as in a broad range of animals, plants, and microorganisms. Such research takes place in government, university, pharmaceutical, biotechnology, and agrigenomics laboratories around the world, where scientists expand our knowledge of the biological functions essential for life. Beginning at the genetic level, Illumina tools are used to elucidate the correlation between gene sequence and biological processes. Life-science research includes the study of the cells, tissues, organs, systems, and other components of living organisms. This research supports the development of new treatments to improve human health. Examples include more tailored clinical treatments, often referred to as precision medicine, as well as advances in agriculture and animal husbandry to meet growing needs for food and energy. Researchers who investigate human, viral, and bacterial genetic variation to understand the mechanisms of disease are enabling the development of more effective diagnostics and therapeutics. They also provide greater insight into genetic variation in plants (e.g., food and biofuel crops) and animals (e.g., livestock and domestic), enabling improvements in crop yields and animal breeding programs.

By empowering genetic analysis and facilitating a deeper understanding of genetic variation and function, our tools advance disease research, drug development, and the creation of molecular diagnostic tests. We believe that this will trigger a fundamental shift in the practice of medicine and health care and that the increased emphasis on preventive and predictive molecular medicine will usher in the era of precision health care.

Our Principal Markets

Our organization is structured to target the markets and customers outlined below.


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Life Sciences

Historically, our core business has been in the life sciences research market. This includes laboratories associated with universities, research centers, and government institutions, along with biotechnology and pharmaceutical companies. Researchers at these institutions use our products and services for basic and translational research across a spectrum of scientific applications, including targeted, exome, and whole-genome sequencing; genetic variation; gene expression; epigenetics; and metagenomics. Increasingly, these techniques are migrating to next-generation sequencing (NGS) due to the declining costs of NGS technologies and the ability of NGS to provide vast amounts of data, resulting in improved discovery performance as compared to arrays. Both private and public funding drive this research, along with global initiatives to characterize genetic variation.

We also serve applied markets in life sciences, such as agrigenomics, forensic genomics, and transplant biology. In agrigenomics, government and corporate researchers use our sequencing- and array-based tools to explore the genetic and biological basis for productivity and nutritional constitution in crops and livestock. Researchers can identify natural and novel genomic variation and deploy genome-wide marker-based applications to accelerate breeding and production of healthier and higher-yielding crops and livestock. In forensic genomics, major law enforcement agencies use sequencing to investigate criminal cases, as do military and security intelligence agencies. In transplant diagnostics, we offer a sample-to-answer solution to perform high resolution HLA typing in a single assay, which enables users to determine how closely the tissues of one person match the tissues of another person.

Clinical Genomics

We provide sample-to-answer solutions to our customers in two key areas of translational and clinical genomics: reproductive and genetic health, and oncology.

Illumina provides reproductive-health solutions, including preimplantation genetic screening and diagnosis (PGS and PGD), noninvasive prenatal testing (NIPT), and neonatal and genetic health testing. Our PGS solution is used with in vitro fertilization (IVF) to determine, before implantation, whether an embryo has an abnormal number of chromosomes, which is a major cause of IVF failure and miscarriages. In the case of PGD, the technology determines which embryos are free from gene variants associated with genetic diseases. Our technology enables NIPT for early identification of fetal chromosomal abnormalities by analyzing cell-free DNA in maternal blood.

Cancer is a disease of the genome, and the goal of cancer genomics is to identify genomic changes that transform a normal cell into a cancerous one. Understanding these genomic changes improves diagnostic accuracy, increases understanding of the prognosis, and enables oncologists to target therapies to individuals. Customers in the translational and clinical oncology markets use Illumina sequencing- and array-based solutions to perform research that may help identify individuals who are genetically predisposed to cancer. Customers also utilize our technology to identify the molecular changes in a tumor so that physicians can tailor treatment based on the genetic variation. We believe that circulating tumor DNA (ctDNA) will become an important clinical tool for managing oncology patients during all stages of tumor progression. Our technology is being used to research the implications of ctDNA in treatment determination, treatment monitoring, minimal residual disease, and asymptomatic screening. In early 2016, we formed a new company, GRAIL, Inc., which is majority owned by Illumina and funded by Illumina and outside investors, to develop a pan-cancer screening test enabled by our sequencing technology.

To advance genomic-based precision oncology care, we are working with key opinion leaders to set standards for NGS-based assays in routine clinical oncology practice and to define regulatory frameworks for this new testing paradigm.

Enterprise Informatics

Enterprise informatics solutions increase the utility of genomic data by allowing customers to aggregate, analyze, archive, and share genomic data. Integrating our instruments with data-analysis software allows customers to go from their biological sample, through the raw genomic data, to meaningful results. Our BaseSpace platform, which can be hosted onsite or in the cloud, integrates directly with our sequencing instruments. It facilitates data sharing, provides data-storage solutions, and streamlines analysis through a growing number of applications from Illumina and the bioinformatics community.

In 2013, we acquired NextBio, a platform for aggregating and analyzing large quantities of genomic and phenotypic data. Translational researchers use this tool to understand the efficacy of drug therapies and identify trends in patient outcomes. We believe that large-scale genomic databases containing genomic and phenotypic information will enhance the value of human genome sequencing and accelerate the pace of discovery.


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Our Principal Products and Technologies

Our unique technology platforms support the scale of experimentation necessary for population-scale studies, genome-wide discovery, target selection, and validation studies (see Figure 1 below). Customers use our products to analyze the genome at all levels of complexity, from whole-genome sequencing to targeted panels. A large and dynamic Illumina user community has published approximately 32,000 customer-authored scientific papers using our technologies. Through rapid innovation, we are changing the economics of genetic research, enabling projects that were previously considered impossible, and supporting clinical advances towards precision medicine.

Most of our product sales consist of instruments and consumables (which include reagents, flow cells, and microarrays) based on our proprietary technologies. For the fiscal years ended January 3, 2016, December 28, 2014, and December 29, 2013, instrument sales comprised 27%, 30%, and 26%, respectively, of total revenues, and consumable sales represented 58%, 56%, and 62%, respectively, of total revenues.
  
Figure 1: Illumina Platform Overview:


Sequencing

DNA sequencing is the process of determining the order of nucleotide bases (A, C, G, or T) in a DNA sample. Our portfolio of sequencing platforms represents a family of systems that we believe set the standard for productivity, cost-effectiveness, and accuracy among NGS technologies. Customers use our platforms to perform whole-genome, de novo, and exome sequencing, and targeted resequencing of specific gene regions and genes.

Whole-genome sequencing determines the complete DNA sequence of an organism. In de novo sequencing, the goal is to sequence and analyze a sample without using information from prior sequencing of that species. In targeted resequencing, a portion of the sequence of an organism is compared to a standard or reference sequence from previously sequenced samples to identify genetic variation. Understanding the similarities and differences in DNA sequence between and within species helps us understand the function of the structures encoded in the DNA.

Our DNA sequencing technology is based on our proprietary reversible terminator-based sequencing chemistry, referred to as sequencing by synthesis (SBS) biochemistry. SBS tracks the addition of labeled nucleotides as the DNA chain is copied in a massively parallel fashion. Our SBS sequencing technology provides researchers with a broad range of applications and the ability to sequence even large mammalian genomes in a day rather than weeks or years.

Our sequencing platforms can generate between 500 megabases (Mb) and 1.8 terabases (Tb) (equivalent to 16 human genomes) of genomic data in a single run, depending on the instrument and application. There are different price points per gigabase (Gb) for each instrument, and for different applications, which range from small-genome, amplicon, and targeted gene-panel sequencing to population-scale whole human genome sequencing. Since we launched our first sequencing system

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in 2007, our systems have reduced the cost of sequencing by more than a factor of 10,000. In addition, the sequencing time per Gb has dropped by a factor of nearly 2,000.

For the fiscal years ended January 3, 2016, December 28, 2014, and December 29, 2013, sequencing revenue comprised 86%, 81%, and 73%, respectively, of total revenues.

Arrays

Arrays are used for a broad range of DNA and RNA analysis applications, including SNP genotyping, CNV analysis, gene expression analysis, and methylation analysis, and allow for the detection of millions of known genetic markers on a single array.

Our BeadArray technology combines microscopic beads and a substrate in a proprietary manufacturing process to produce arrays that can perform many assays simultaneously. This facilitates large-scale analysis of genetic variation and biological function in a uniquely high-throughput, cost-effective, and flexible manner. Using our BeadArray technology, we achieve high-throughput analysis via a high density of test sites per array and the ability to format arrays in various configurations. Varying the size, shape, and format of the substrate into which the beads self-assemble and creating specific bead types for different applications lets us address multiple markets and market segments. Both our iScan array scanner system and our NextSeq 550 system can be used to image the arrays.

For the fiscal years ended January 3, 2016, December 28, 2014, and December 29, 2013, array revenue comprised 14%, 19%, and 27%, respectively, of total revenues.

Consumables

We have developed various library preparation and sequencing kits to simplify workflows and accelerate analysis. Our sequencing applications include whole-genome sequencing kits, which sequence entire genomes of any size and complexity, and targeted resequencing kits, which can sequence exomes, specific genes, or other genomic regions of interest. Our sequencing kits maximize the ability of our customers to characterize the target genome accurately.

Customers use Illumina array-based genotyping consumables for a wide range of analyses, including diverse species, disease-related mutations, and genetic characteristics associated with cancer. Customers can select from a range of human, animal, and agriculturally relevant genome panels or create their own custom arrays to investigate millions of genetic markers targeting any species.

Our Services

In addition to selling products, we provide whole-genome sequencing, genotyping, and NIPT services. Human whole-genome sequencing services are provided through our CLIA-certified, CAP-accredited laboratory. Using our services, customers can perform whole-genome sequencing projects (including phasing and long-read sequencing services) and microarray projects (including large-scale genotyping studies and whole-genome association studies). We also provide NIPT services through our partner laboratories that direct samples to us on a test send-out basis in our CLIA-certified, CAP-accredited laboratory.

Intellectual Property

We have an extensive intellectual property portfolio. As of February 1, 2016, we own or have exclusive licenses to 577 issued U.S. patents and 406 pending U.S. patent applications, including 34 allowed applications that have not yet issued as patents. Our issued patents cover various aspects of our arrays, assays, oligo synthesis, sequencing technology, instruments, digital microfluidics, and chemical-detection technologies, and have terms that expire between 2016 and 2036. We continue to file new patent applications to protect the full range of our technologies. We have filed or have been granted counterparts for many of these patents and applications in foreign countries.

We protect trade secrets, know-how, copyrights, and trademarks, as well as continuing technological innovation and licensing opportunities to develop and maintain our competitive position. Our success depends in part on obtaining patent protection for our products and processes, preserving trade secrets, patents, copyrights and trademarks, operating without infringing the proprietary rights of third parties, and acquiring licenses for technology or products.


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We are party to various exclusive and nonexclusive license agreements and other arrangements with third parties that grant us rights to use key aspects of our sequencing and array technologies, assay methods, chemical detection methods, reagent kits, and scanning equipment. Our exclusive licenses expire with the termination of the underlying patents, which will occur between 2016 and 2032. We have additional nonexclusive license agreements with various third parties for other components of our products. In most cases, the agreements remain in effect over the term of the underlying patents, may be terminated at our request without further obligation, and require that we pay customary royalties.

Research and Development

Illumina has historically made substantial investments in research and development. Our research and development efforts prioritize continuous innovation coupled with product evolution.

Research and development expenses for fiscal 2015, 2014, and 2013 were $401.5 million, $388.1 million, and $276.7 million, respectively. We expect research and development expense to increase during 2016 to support business growth and continuing expansion in research and product-development efforts.

Marketing and Distribution

We market and distribute our products directly to customers in North America, Europe, Latin America, and the Asia-Pacific region. In each of these areas, dedicated sales, service, and application-support personnel are expanding and supporting their respective customer bases. In addition, we sell through life-science distributors in certain markets within Europe, the Asia-Pacific region, Latin America, the Middle East, and South Africa. We expect to continue increasing our sales and distribution resources during 2016 and beyond as we launch new products and expand our potential customer base.

Manufacturing

We manufacture sequencing and array platforms, reagent kits, and scanning equipment. In 2015, we continued to increase our manufacturing capacity to meet customer demand. To address increasing product complexity and volume, we continue to automate manufacturing processes to accelerate throughput and improve quality and yield. We are committed to providing medical devices and related services that consistently meet customer and applicable regulatory requirements. We adhere to access and safety standards required by federal, state, and local health ordinances, such as standards for the use, handling, and disposal of hazardous substances. Our key manufacturing and distribution facilities operate under a quality management system certified to ISO 13485.

Raw Materials

Our manufacturing operations require a wide variety of raw materials, electronic and mechanical components, chemical and biochemical materials, and other supplies. Multiple commercial sources provide many of our components and supplies, but there are some raw materials and components that we obtain from single-source suppliers. To manage potential risks arising from single source suppliers, we believe that we could redesign our products using alternative components or for use with alternative reagents, if necessary. In addition, while we attempt to keep our inventory at minimal levels, we purchase incremental inventory as circumstances warrant to protect our supply chain. If the capabilities of our suppliers and component manufacturers are limited or stopped, due to disasters, quality, regulatory, or other reasons, it could negatively impact our ability to manufacture our products.
  
Competition

Although we believe that our products and services provide significant advantages over products and services currently available from other sources, we expect continued intense competition. Our competitors offer products and services for sequencing, SNP genotyping, gene expression, and molecular diagnostics markets. They include companies such as Affymetrix, Inc., Agilent Technologies, Inc., BGI, Pacific Biosciences of California, Inc., QIAGEN N.V., Roche Holding AG., and Thermo Fisher Scientific, Inc., among others. Some of these companies have or will have substantially greater financial, technical, research, and other resources than we do, along with larger, more established marketing, sales, distribution, and service organizations. In addition, they may have greater name recognition than we do in the markets we address, and in some cases a larger installed base of systems. We expect new competitors to emerge and the intensity of competition to increase. To compete effectively, we must scale our organization and infrastructure appropriately and demonstrate that our products have superior throughput, cost, and accuracy.

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Segment and Geographic Information

In accordance with the authoritative accounting guidance for segment reporting, we have determined that we have one reportable segment for purposes of recording and reporting our financial results.

We currently sell our products to a number of customers outside the United States, including customers in other areas of North America, Latin America, Europe, and the Asia-Pacific region. Shipments to customers outside the United States totaled $1,012.4 million, or 46% of our total revenue, during fiscal 2015, compared to $910.7 million, or 49%, and $706.5 million, or 50%, in fiscal 2014 and 2013, respectively. The U.S. dollar has been determined to be the functional currency of the Company’s international operations due to the primary activities of our foreign subsidiaries. We expect that sales to international customers will continue to be an important and growing source of revenue. See note “12. Segment Information, Geographic Data, and Significant Customers” in Part II, Item 8 of this Form 10-K for further information concerning our foreign and domestic operations.

Backlog

Our backlog was approximately $560 million as of January 3, 2016. Generally, our backlog consists of orders believed to be firm as of the balance-sheet date. However, we may allow customers to make product substitutions as we launch new products. The timing of shipments depends on several factors, including agreed upon shipping schedules, which may span multiple quarters, and whether the product is catalog or custom. We expect most of the backlog as of January 3, 2016, to be shipped within the fiscal year ending January 1, 2017, with the most notable exception being $130 million in backlog related to the Genomics England sequencing services project. Although we generally recognize revenue upon the transfer of title to a customer, some customer agreements or applicable accounting treatments might require us to defer the recognition of revenue beyond title transfer.

Environmental Matters

We are committed to the protection of our employees and the environment. Our operations require the use of hazardous materials that subject us to various federal, state, and local environmental and safety laws and regulations. We believe that we are in material compliance with current applicable laws and regulations. However, we could be held liable for damages and fines should contamination of the environment or individual exposures to hazardous substances occur. In addition, we cannot predict how changes in these laws and regulations, or the development of new laws and regulations, will affect our business operations or the cost of compliance.

Government Regulation

As we expand product lines to address the diagnosis of disease, regulation by governmental authorities in the United States and other countries will become an increasingly significant factor in development, testing, production, and marketing. Products that we develop in the molecular diagnostic markets, depending on their intended use, may be regulated as medical devices by the FDA and comparable agencies in other countries. In the United States, certain of our products may require FDA clearance following a pre-market notification process, also known as a 510(k) clearance, or premarket approval (PMA) from the FDA before marketing. The shorter 510(k) clearance process, which we used for the FDA-cleared assays that are run on our FDA-regulated MiSeqDx instrument, generally takes from three to six months after submission, but it can take significantly longer. The longer PMA process is much more costly and uncertain. It generally takes from 9 to 18 months after a complete filing, but it can take significantly longer and typically requires conducting clinical studies, which are not always needed for a 510(k) clearance. All of the products that are currently regulated by the FDA as medical devices are also subject to the FDA Quality System Regulation (QSR). Obtaining the requisite regulatory approvals, including the FDA quality system inspections that are required for PMA approval, can be expensive and may involve considerable delay.

We cannot be certain which of our planned molecular diagnostic products will be subject to the shorter 510(k) clearance process and, in fact, some of our products may need to go through the PMA process. The regulatory approval process for such products may be significantly delayed, may be significantly more expensive than anticipated, and may conclude without such products being approved by the FDA. Without timely regulatory approval, we may not be able to launch or successfully commercialize such products.

Changes to the current regulatory framework, including the imposition of additional or new regulations, could arise at any time during the development or marketing of our products. This may negatively affect our ability to obtain or maintain FDA or

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comparable regulatory approval of our products. In addition, the FDA may introduce new requirements that may change the regulatory requirements for either or both Illumina or Illumina customers.

If our products labeled as “Research Use Only,” or RUO, are used, or could be used, for the diagnosis of disease, the regulatory requirements related to marketing, selling, and supporting such products could be uncertain. This is true even if such use by our customers occurs without our consent. If the FDA or other regulatory authorities assert that any of our RUO products are subject to regulatory clearance or approval, our business, financial condition, or results of operations could be adversely affected.

Illumina products sold as medical devices in Europe will be regulated under the In Vitro Diagnostics Directive (98/79/EC). This regulation includes requirements for both presentation and review of performance data and quality-system requirements.

Certain of our diagnostic products are currently available through laboratories that are certified under the Clinical Laboratory Improvements Amendments (CLIA) of 1988. These products are commonly called “laboratory developed tests,” or LDTs. For a number of years, the FDA has exercised its regulatory enforcement discretion to not regulate LDTs as medical devices if created and used within a single laboratory. However, as discussed in more detail under “Risk Factors,” the FDA is reexamining this regulatory approach and changes to the agency’s handling of LDTs could impact our business in ways that cannot be predicted at this time. Certification of CLIA laboratories includes standards in the areas of personnel qualifications, administration, and participation in proficiency testing, patient test management, and quality control procedures. CLIA also mandates that, for high complexity labs such as ours, to operate as a lab, we must have an accreditation by an organization recognized by CLIA such as the College of Pathologists (CAP), which we have obtained and must maintain. If we were to lose our CAP accreditation, our business, financial condition, or results of operations could be adversely affected. In addition, state laboratory licensing and inspection requirements may also apply to our products, which, in some cases, are more stringent than CLIA requirements.
    
Employees

As of January 3, 2016, we had more than 4,600 employees. We consider our employee relations to be positive. Our success will depend in large part upon our ability to attract and retain employees. In addition, we employ a number of temporary and contract employees. We face competition in this regard from other companies, research and academic institutions, government entities, and other organizations.

ITEM 1A.
Risk Factors.

Our business is subject to various risks, including those described below. In addition to the other information included in this Form 10-K, the following issues could adversely affect our operating results or our stock price.

If we do not successfully manage the development, manufacturing, and launch of new products or services, including product transitions, our financial results could be adversely affected.

We face risks associated with launching new products and pre-announcing products and services when the products or services have not been fully developed or tested. In addition, we may experience difficulty in managing or forecasting customer reactions, purchasing decisions, or transition requirements or programs with respect to newly launched products (or products in development), which could adversely affect sales of our existing products. For instance, in January 2016 we announced an expansion to our sequencing instrument platforms, the MiniSeq system, and we previewed a new sequencing system currently under development that will deploy SBS chemistry on a semiconductor chip. If our products and services are not able to deliver the performance or results expected by our target markets or are not delivered on a timely basis, our reputation and credibility may suffer. If we encounter development challenges or discover errors in our products late in our development cycle, we may delay the product launch date. The expenses or losses associated with unsuccessful product development or launch activities or lack of market acceptance of our new products could adversely affect our business, financial condition, or results of operations.

When we introduce or announce new or enhanced products, we face numerous risks relating to product transitions, including the inability to accurately forecast demand (including with respect to our existing products), manage excess and obsolete inventories, address new or higher product cost structures, and manage different sales and support requirements due to the type or complexity of the new or enhanced products. Announcements of currently planned or other new products may cause customers to defer or stop purchasing our products until new products become available. Our failure to effectively manage product transitions or introductions could adversely affect our business, financial condition, or results of operations.

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Our success depends upon the continued emergence and growth of markets for analysis of genetic variation and biological function.

We design our products primarily for applications in the life sciences, diagnostic, agricultural, and pharmaceutical industries. The usefulness of our technologies depends in part upon the availability of genetic data and its usefulness in identifying or treating disease. We are focusing on markets for analysis of genetic variation and biological function, namely sequencing, genotyping, and gene expression profiling. These markets are relatively new and emerging, and they may not develop as quickly as we anticipate, or reach their full potential. Other methods of analysis of genetic variation and biological function may emerge and displace the methods we are developing. Also, researchers may not be able to successfully analyze raw genetic data or be able to convert raw genetic data into medically valuable information. In addition, factors affecting research and development spending generally, such as changes in the regulatory environment affecting life sciences and pharmaceutical companies, and changes in government programs that provide funding to companies and research institutions, could harm our business. If useful genetic data is not available or if our target markets do not develop in a timely manner, demand for our products may grow at a slower rate than we expect.

We face intense competition, which could render our products obsolete, result in significant price reductions, or substantially limit the volume of products that we sell.

We compete with life sciences companies that design, manufacture, and market products for analysis of genetic variation and biological function and other applications using a wide range of competing technologies. We anticipate that we will continue to face increased competition as existing companies develop new or improved products and as new companies enter the market with new technologies. One or more of our competitors may render one or more of our technologies obsolete or uneconomical. Some of our competitors have greater financial and personnel resources, broader product lines, a more established customer base, and more experience in research and development than we do. Furthermore, life sciences, clinical genomics, and pharmaceutical companies, which are our potential customers and strategic partners, could also develop competing products. We believe that customers in our markets display a significant amount of loyalty to their initial supplier of a particular product; therefore, it may be difficult to generate sales to potential customers who have purchased products from competitors. To the extent we are unable to be the first to develop or supply new products, our competitive position may suffer.

The market for molecular diagnostics products is currently limited and highly competitive, with several large companies already having significant market share, intellectual property portfolios, and regulatory expertise. Established diagnostic companies also have an installed base of instruments in several markets, including clinical and reference laboratories, which could deter acceptance of our products. In addition, some of these companies have formed alliances with genomics companies that provide them access to genetic information that may be incorporated into their diagnostic tests.

Our continued growth is dependent on continuously developing and commercializing new products.

Our target markets are characterized by rapid technological change, evolving industry standards, changes in customer needs, existing and emerging competition, strong price competition, and frequent new product introductions. Accordingly, our continued growth depends on developing and commercializing new products and services, including improving our existing products and services, in order to address evolving market requirements on a timely basis. If we fail to innovate or adequately invest in new technologies, our products and services will become dated, and we could lose our competitive position in the markets that we serve as customers purchase new products offered by our competitors. We believe that successfully introducing new products and technologies in our target markets on a timely basis provides a significant competitive advantage because customers make an investment of time in selecting and learning to use a new product and may be reluctant to switch once that selection is made.

To the extent that we fail to introduce new and innovative products, or such products are not accepted in the market or suffer significant delays in development, we may lose market share to our competitors, which will be difficult or impossible to regain. An inability, for technological or other reasons, to successfully develop and introduce new products on a timely basis could reduce our growth rate or otherwise have an adverse effect on our business. In the past, we have experienced, and are likely to experience in the future, delays in the development and introduction of new products. There can be no assurance that we will keep pace with the rapid rate of change in our markets or that our new products will adequately meet the requirements of the marketplace, achieve market acceptance, or compete successfully with competing technologies. Some of the factors affecting market acceptance of new products and services include:

availability, quality, and price relative to competing products and services;

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the functionality and performance of new and existing products and services;
the timing of introduction of new products or services relative to competing products and services;
scientists’ and customers’ opinions of the utility of new products or services;
citation of new products or services in published research;
regulatory trends and approvals; and
general trends in life sciences research and applied markets.
We may also have to write off excess or obsolete inventory if sales of our products are not consistent with our expectations or the market requirements for our products change due to technical innovations in the marketplace.

If defects are discovered in our products, we may incur additional unforeseen costs, our products may be subject to recalls, customers may not purchase our products, our reputation may suffer, and ultimately our sales and operating earnings could be negatively impacted.

Our products incorporate complex, precision-manufactured mechanical parts, electrical components, optical components, and fluidics, as well as computer software, any of which may contain errors or failures, especially when first introduced. In the course of conducting our business, we must adequately address quality issues associated with our products and services, including defects in our engineering, design, and manufacturing processes, as well as defects in third-party components included in our products. In addition, new products or enhancements may contain undetected errors or performance problems that, despite testing, are discovered only after commercial shipment. Defects or errors in our products may discourage customers from purchasing our products. The costs incurred in correcting any defects or errors may be substantial and could adversely affect our operating margins. Identifying the root cause of quality issues, particularly those affecting reagents and third-party components, may be difficult, which increases the time needed to address quality issues as they arise and increases the risk that similar problems could recur. Because our products are designed to be used to perform complex genomic analysis, we expect that our customers will have an increased sensitivity to such defects. If we do not meet applicable regulatory or quality standards, our products may be subject to recall, and, under certain circumstances, we may be required to notify applicable regulatory authorities about a recall. If our products are subject to recall or shipment holds, our reputation, business, financial condition, or results of operations could be adversely affected.
As we develop, market, or sell diagnostic tests, we may encounter delays in receipt, or limits in the amount, of reimbursement approvals and public health funding, which will impact our ability to grow revenues in the healthcare market.

Physicians and patients may not order diagnostic tests that we develop, market, or sell, such as our verifi prenatal test, unless third-party payors, such as managed care organizations as well as government payors such as Medicare and Medicaid and governmental payors outside of the United States, pay a substantial portion of the test price. Third-party payors are often reluctant to reimburse healthcare providers for the use of medical tests that involve new technologies or provide novel diagnostic information. In addition, third-party payors are increasingly limiting reimbursement coverage for medical diagnostic products and, in many instances, are exerting pressure on diagnostic product suppliers to reduce their prices. Reimbursement by a payor may depend on a number of factors, including a payor's determination that tests using our technologies are:

not experimental or investigational;
medically necessary;
appropriate for the specific patient;
cost-effective;
supported by peer-reviewed publications; and
included in clinical practice guidelines.
Since each third-party payor often makes reimbursement decisions on an individual patient basis, obtaining such approvals is a time-consuming and costly process that requires us to provide scientific and clinical data supporting the clinical benefits of each of our products. As a result, there can be no assurance that reimbursement approvals will be obtained. This

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process can delay the broad market introduction of new products, and could have a negative effect on our results of operations. As a result, third-party reimbursement may not be consistent or financially adequate to cover the cost of diagnostic products that we develop, market, or sell. This could limit our ability to sell our products or cause us to reduce prices, which would adversely affect our results of operations.

Even if our tests are being reimbursed, third party payors may withdraw their coverage policies, cancel their contracts with our customers at any time, review and adjust the rate of reimbursement, require co-payments from patients, or stop paying for our tests, which would reduce our revenues. In addition, insurers, including managed care organizations as well as government payors such as Medicare and Medicaid, have increased their efforts to control the cost, utilization, and delivery of healthcare services. These measures have resulted in reduced payment rates and decreased utilization for the clinical laboratory industry. Reductions in the reimbursement rate of payors may occur in the future. Reductions in the prices at which our tests are reimbursed could have a negative impact on our results of operations.


We depend on third-party manufacturers and suppliers for some of our products, or sub-assemblies, components, and materials used in our products, and if shipments from these manufacturers or suppliers are delayed or interrupted, or if the quality of the products, components, or materials supplied do not meet our requirements, we may not be able to launch, manufacture, or ship our products in a timely manner, or at all.

The complex nature of our products requires customized, precision-manufactured sub-assemblies, components, and materials that currently are available from a limited number of sources, and, in the case of some sub-assemblies, components, and materials, from only a single source. If deliveries from these vendors are delayed or interrupted for any reason, or if we are otherwise unable to secure a sufficient supply, we may not be able to obtain these sub-assemblies, components, or materials on a timely basis or in sufficient quantities or qualities, or at all, in order to meet demand for our products. We may need to enter into contractual relationships with manufacturers for commercial-scale production of some of our products, in whole or in part, or develop these capabilities internally, and there can be no assurance that we will be able to do this on a timely basis, in sufficient quantities, or on commercially reasonable terms. In addition, the lead time needed to establish a relationship with a new supplier can be lengthy, and we may experience delays in meeting demand in the event we must switch to a new supplier. The time and effort required to qualify a new supplier could result in additional costs, diversion of resources, or reduced manufacturing yields, any of which would negatively impact our operating results. Accordingly, we may not be able to establish or maintain reliable, high-volume manufacturing at commercially reasonable costs or at all. In addition, the manufacture or shipment of our products may be delayed or interrupted if the quality of the products, sub-assemblies, components, or materials supplied by our vendors does not meet our requirements. Current or future social and environmental regulations or critical issues, such as those relating to the sourcing of conflict minerals from the Democratic Republic of the Congo or the need to eliminate environmentally sensitive materials from our products, could restrict the supply of components and materials used in production or increase our costs. Any delay or interruption to our manufacturing process or in shipping our products could result in lost revenue, which would adversely affect our business, financial condition, or results of operations.

Litigation, other proceedings, or third party claims of intellectual property infringement could require us to spend significant time and money and could prevent us from selling our products or services.

Our success depends in part on our non-infringement of the patents or proprietary rights of third parties. Third parties have asserted and may in the future assert that we are employing their proprietary technology without authorization. As we enter new markets or introduce new products, we expect that competitors will likely claim that our products infringe their intellectual property rights as part of a business strategy to impede our successful competition. In addition, third parties may have obtained and may in the future obtain patents allowing them to claim that the use of our technologies infringes these patents. We could incur substantial costs and divert the attention of our management and technical personnel in defending ourselves against any of these claims. Any adverse ruling or perception of an adverse ruling in defending ourselves against these claims could have an adverse impact on our stock price, which may be disproportionate to the actual impact of the ruling itself. Furthermore, parties making claims against us may be able to obtain injunctive or other relief, which effectively could block our ability to develop further, commercialize, or sell products or services, and could result in the award of substantial damages against us. In the event of a successful infringement claim against us, we may be required to pay damages and obtain one or more licenses from third parties, or be prohibited from selling certain products or services. In addition, we may be unable to obtain these licenses at a reasonable cost, if at all. We could therefore incur substantial costs related to royalty payments for licenses obtained from third parties, which could negatively affect our gross margins and earnings per share. In addition, we could encounter delays in product introductions while we attempt to develop alternative methods or products. Defense of any lawsuit or failure to obtain any of these licenses on favorable terms could prevent us from commercializing

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products, and the prohibition of sale of any of our products or services could adversely affect our ability to grow or maintain profitability.

Reduction or delay in research and development budgets and government funding may adversely affect our revenue.

The timing and amount of revenues from customers that rely on government and academic research funding may vary significantly due to factors that can be difficult to forecast, and there remains significant uncertainty concerning government and academic research funding worldwide as governments in the United States and Europe, in particular, focus on reducing fiscal deficits while at the same time confronting uncertain economic growth. Funding for life science research has increased more slowly during the past several years compared to previous years and has declined in some countries. Government funding of research and development is subject to the political process, which is inherently fluid and unpredictable. Other programs, such as defense, entitlement programs, or general efforts to reduce budget deficits could be viewed by governments as a higher priority. These budgetary pressures may result in reduced allocations to government agencies that fund research and development activities, such as the U.S. National Institute of Health, or NIH. Past proposals to reduce budget deficits have included reduced NIH and other research and development allocations. Any shift away from the funding of life sciences research and development or delays surrounding the approval of government budget proposals may cause our customers to delay or forego purchases of our products, which could adversely affect our business, financial condition, or results of operations.

Our acquisitions expose us to risks that could adversely affect our business, and we may not achieve the anticipated benefits of acquisitions of businesses or technologies.

As part of our strategy to develop and identify new products, services, and technologies, we have made, and may continue to make, acquisitions of technologies, products, or businesses. Acquisitions involve numerous risks and operational, financial, and managerial challenges, including the following, any of which could adversely affect our business, financial condition, or results of operations:

difficulties in integrating new operations, technologies, products, and personnel;
lack of synergies or the inability to realize expected synergies and cost-savings;
difficulties in managing geographically dispersed operations;
underperformance of any acquired technology, product, or business relative to our expectations and the price we paid;
negative near-term impacts on financial results after an acquisition, including acquisition-related earnings charges;
the potential loss of key employees, customers, and strategic partners of acquired companies;
claims by terminated employees and shareholders of acquired companies or other third parties related to the transaction;
the issuance of dilutive securities, assumption or incurrence of additional debt obligations or expenses, or use of substantial portions of our cash;
diversion of management’s attention and company resources from existing operations of the business;
inconsistencies in standards, controls, procedures, and policies;
the impairment of intangible assets as a result of technological advancements, or worse-than-expected performance of acquired companies; and
assumption of, or exposure to, unknown contingent liabilities or liabilities that are difficult to identify or accurately quantify.

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In addition, the successful integration of acquired businesses requires significant efforts and expense across all operational areas, including sales and marketing, research and development, manufacturing, finance, legal, and information technologies. There can be no assurance that any of the acquisitions we make will be successful or will be, or will remain, profitable. Our failure to successfully address the above risks may prevent us from achieving the anticipated benefits from any acquisition in a reasonable time frame, or at all.

If we are unable to increase our manufacturing or service capacity and develop and maintain operation of our manufacturing or service capability, we may not be able to launch or support our products or services in a timely manner, or at all.

We continue to rapidly increase our manufacturing and service capacity to meet the anticipated demand for our products. Although we have significantly increased our manufacturing and service capacity and we believe we have plans in place sufficient to ensure we have adequate capacity to meet our current business plans, there are uncertainties inherent in expanding our manufacturing and service capabilities, and we may not be able to sufficiently increase our capacity in a timely manner. For example, manufacturing and product quality issues may arise as we increase production rates at our manufacturing facilities and launch new products. Also, we may not manufacture the right product mix to meet customer demand, especially as we introduce new products. As a result, we may experience difficulties in meeting customer, collaborator, and internal demand, in which case we could lose customers or be required to delay new product introductions, and demand for our products could decline. Additionally, in the past, we have experienced variations in manufacturing conditions and quality control issues that have temporarily reduced or suspended production of certain products. Due to the intricate nature of manufacturing complex instruments, consumables, and products that contain DNA and enzymes, we may encounter similar or previously unknown manufacturing difficulties in the future that could significantly reduce production yields, impact our ability to launch or sell these products (or to produce them economically), prevent us from achieving expected performance levels, any of which could adversely affect our business, financial condition, or results of operations.

An interruption in our ability to manufacture our products or an inability to obtain key components or raw materials due to a catastrophic disaster or infrastructure could adversely affect our business.

We currently manufacture in a limited number of locations. Our manufacturing facilities are located in San Diego and the San Francisco Bay Area in California; Madison, Wisconsin; and Singapore. These areas are subject to natural disasters such as earthquakes, wildfires, or floods. If a natural disaster were to damage one of our facilities significantly or if other events were to cause our operations to fail, we may be unable to manufacture our products, provide our services, or develop new products. In addition, if the capabilities of our suppliers and component manufacturers are limited or stopped, due to disasters, quality, regulatory, or other reasons, it could negatively impact our ability to manufacture our products.

Many of our manufacturing processes are automated and are controlled by our custom-designed laboratory information management system (LIMS). Additionally, the decoding process in our array manufacturing requires significant network and storage infrastructure. If either our LIMS system or our networks or storage infrastructure were to fail for an extended period of time, it may adversely impact our ability to manufacture our products on a timely basis and could prevent us from achieving our expected shipments in any given period.

We also rely on our technology infrastructure, among other functions, to interact with suppliers; sell our products and services; fulfill orders; bill, collect, and make payments; ship products; provide services and support to customers; fulfill contractual obligations; and otherwise conduct business. Our systems may be vulnerable to damage or interruption from natural disasters, power loss, telecommunication failures, terrorist attacks, computer viruses, computer denial-of-service attacks, unauthorized access to customer or employee data or company trade secrets, and other attempts to harm our systems. Certain of our systems are not redundant, and our disaster recovery planning is not sufficient for every eventuality. Despite any precautions we may take, such problems could result in, among other consequences, interruptions in our services, which could harm our reputation and financial results.


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If we lose our key personnel or are unable to attract and retain additional personnel, we may be unable to achieve our goals.

Our future success depends upon the continuing services of members of our senior management team and scientific and engineering personnel. The loss of their services could adversely impact our ability to achieve our business objectives. In addition, the continued growth of our business depends on our ability to hire additional qualified personnel with expertise in molecular biology, chemistry, biological information processing, software, engineering, sales, marketing, and technical support. We compete for qualified management and scientific personnel with other life science and technology companies, universities, and research institutions. Competition for these individuals, particularly in the San Diego and San Francisco areas, is intense, and the turnover rate can be high. Failure to attract and retain management and scientific personnel could prevent us from pursuing collaborations or developing our products or technologies. Additionally, integration of acquired companies and businesses can be disruptive, causing key employees of the acquired business to leave. Further, we use share-based compensation, including restricted stock units and performance stock units to attract key personnel, incentivize them to remain with us, and align their interests with those of the Company by building long-term stockholder value. If our stock price decreases, the value of these equity awards decreases and therefore reduces a key employee’s incentive to stay.

Any inability to effectively protect our proprietary technologies could harm our competitive position.

The proprietary positions of companies developing tools for the life sciences, genomics, forensics, agricultural, and pharmaceutical industries, including our proprietary position, generally are uncertain and involve complex legal and factual questions. Our success depends to a large extent on our ability to develop proprietary products and technologies and to obtain patents and maintain adequate protection of our intellectual property in the United States and other countries. The laws of some foreign countries do not protect proprietary rights to the same extent as the laws of the United States, and many companies have encountered significant challenges in establishing and enforcing their proprietary rights outside of the United States. These challenges can be caused by the absence of rules and methods for the establishment and enforcement of intellectual property rights outside of the United States.

We will be able to protect our proprietary rights from unauthorized use by third parties only to the extent that our proprietary technologies are covered by valid and enforceable patents or are effectively maintained as trade secrets. Any finding that our patents or applications are unenforceable could harm our ability to prevent others from practicing the related technology, and a finding that others have inventorship or ownership rights to our patents and applications could require us to obtain certain rights to practice related technologies, which may not be available on favorable terms, if at all. Furthermore, as issued patents expire, we may lose some competitive advantage as others develop competing products, and, as a result, we may lose revenue.

In addition, our existing patents and any future patents we obtain may not be sufficiently broad to prevent others from practicing our technologies or from developing competing products and may therefore fail to provide us with any competitive advantage. We may need to initiate lawsuits to protect or enforce our patents, or litigate against third party claims, which would be expensive, and, if we lose, may cause us to lose some of our intellectual property rights and reduce our ability to compete in the marketplace. Furthermore, these lawsuits may divert the attention of our management and technical personnel. There is also the risk that others may independently develop similar or alternative technologies or design around our patented technologies. In that regard, certain patent applications in the United States may be maintained in secrecy until the patents issue, and publication of discoveries in the scientific or patent literature tend to lag behind actual discoveries by several months.

We also rely upon trade secrets and proprietary know-how protection for our confidential and proprietary information, and we have taken security measures to protect this information. These measures, however, may not provide adequate protection for our trade secrets, know-how, or other confidential information.

Our strategic investments and joint ventures may result in losses.

We periodically make strategic investments in various public and private companies with businesses or technologies that may complement our business. In addition, we periodically form companies, such as GRAIL and Helix, that remain consolidated with our financial statements but receive substantial funding from third-party investors who are granted certain control and governance rights. The market values of these strategic investments may fluctuate due to market conditions and other conditions over which we have no control. Other-than-temporary declines in the market price and valuations of the securities that we hold in other companies would require us to record losses related to our investment. This could result in future charges to our earnings. It is uncertain whether or not we will realize any long-term benefits associated with these strategic investments.


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Security breaches, including with respect to cyber-security, and other disruptions could compromise our information, products, and services and expose us to liability, which could cause our business and reputation to suffer.

In the ordinary course of our business, we collect and store sensitive data, including intellectual property, our proprietary business information (and that of our customers), and personally identifiable information of our customers and employees, in our data centers and on our networks. The secure maintenance of this information is important to our operations and business strategy. Despite our security measures, our information technology and infrastructure may be vulnerable to cyber-attacks by hackers or breached due to employee error, malfeasance, or other disruptions. As a leader in the field of genetic analysis, we may face cyber-attacks that attempt to penetrate our network security, including our data centers; sabotage or otherwise disable our research, products, and services, including instruments at our customers’ sites; misappropriate our or our customers' and partners' proprietary information, which may include personally identifiable information; or cause interruptions of our internal systems and services. Any such breach could compromise our networks and the information stored there could be accessed, publicly disclosed, lost, or stolen. Any such access, disclosure, or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, and damage to our reputation.

Our products, if used for the diagnosis of disease, could be subject to government regulation, and the regulatory approval and maintenance process for such products may be expensive, time-consuming, and uncertain both in timing and in outcome.

Our products are not subject to FDA clearance or approval if they are not intended to be used for the diagnosis of disease. However, as we expand our product line to encompass products that are intended to be used for the diagnosis of disease, such as our FDA-regulated MiSeqDx, certain of our products will become subject to regulation by the FDA, or comparable international agencies, including requirements for regulatory clearance or approval of such products before they can be marketed. Such regulatory approval processes or clearances may be expensive, time-consuming, and uncertain, and our failure to obtain or comply with such approvals and clearances could have an adverse effect on our business, financial condition, or operating results. In addition, changes to the current regulatory framework, including the imposition of additional or new regulations, could arise at any time during the development or marketing of our products, which may negatively affect our ability to obtain or maintain FDA or comparable regulatory approval of our products, if required.

Molecular diagnostic products, in particular, depending on their intended use, may be regulated as medical devices by the FDA and comparable international agencies and may require either clearance from the FDA following the 510(k) pre-market notification process or premarket approval from the FDA, in each case prior to marketing. Obtaining the requisite regulatory approvals can be expensive and may involve considerable delay. If we fail to obtain, or experience significant delays in obtaining, regulatory approvals for molecular diagnostic products that we develop, we may not be able to launch or successfully commercialize such products in a timely manner, or at all.

In addition, if our products labeled as “Research Use Only,” or RUO, are used, or could be used, for the diagnosis of disease, the regulatory requirements related to marketing, selling, and supporting such products could be uncertain, even if such use by our customers is without our consent. If the FDA or other regulatory authorities assert that any of our RUO products are subject to regulatory clearance or approval, our business, financial condition, or results of operations could be adversely affected.

If the FDA requires in the future that any of our LDT products be subject to regulatory clearance or approval, our business, financial condition, or results of operations could be adversely affected.

Certain of our diagnostic products are currently available through laboratories that are certified under the Clinical Laboratory Improvements Amendments (CLIA) of 1988. These products are commonly called “laboratory developed tests,” or LDTs. For a number of years, the FDA has exercised its regulatory enforcement discretion to not regulate LDTs as medical devices if created and used within a single laboratory. However, the FDA has been reconsidering its enforcement discretion policy and has commented that regulation of LDTs may be warranted because of the growth in the volume and complexity of testing services utilizing LDTs. In October 2014, the FDA published two draft guidance documents suggesting an approach for registration and listing of laboratories and assays along with a framework for regulation of LDTs by the FDA based on risk to patients rather than whether the LDTs were made by a conventional manufacturer or a single laboratory. The draft framework guidance includes pre-market review for higher-risk LDTs, including many used to guide treatment decisions, as well as companion diagnostics that have entered the market as LDTs. We cannot predict the nature or extent of the FDA's final guidance or regulation of LDTs, in general, or with respect to our LDTs, in particular. If the FDA requires in the future that LDT products are subject to regulatory clearance or approval, our business, financial condition, or results of operations could be adversely affected.

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If product or service liability lawsuits are successfully brought against us, we may face reduced demand for our products and incur significant liabilities.

Our products and services are used for sensitive applications, and we face an inherent risk of exposure to product or service liability claims if our products or services are alleged to have caused harm, resulted in false negatives or false positives, or do not perform in accordance with specifications. Product liability claims filed against us or against third parties who we may have an obligation could be costly and time-consuming to defend and result in substantial damages or reputational risk. We cannot be certain that we would be able to successfully defend any product or service liability lawsuit brought against us. Regardless of merit or eventual outcome, product or service liability claims may result in:

decreased demand for our products;
injury to our reputation;
increased product liability insurance costs;
costs of related litigation; and
substantial monetary awards to plaintiffs.
Although we carry product and service liability insurance, if we become the subject of a successful product or service liability lawsuit, our insurance may not cover all substantial liabilities, which could have an adverse effect on our business, financial condition, or results of operations.

Doing business internationally creates operational and financial risks for our business.

Conducting and launching operations on an international scale requires close coordination of activities across multiple jurisdictions and time zones and consumes significant management resources. If we fail to coordinate and manage these activities effectively, including the risks noted below, our business, financial condition, or results of operations could be adversely affected. We have sales offices located internationally throughout Europe, the Asia-Pacific region, and Brazil, as well as manufacturing facilities in Singapore. Shipments to customers outside the United States comprised 46%, 49%, and 50% of our total revenue for fiscal years 2015, 2014, and 2013, respectively.

During 2015, a significant portion of our sales were denominated in foreign currencies while the majority of our purchases of raw materials were denominated in U.S. dollars. Changes in the value of the relevant currencies may affect the cost of certain items required in our operations. Changes in currency exchange rates may also affect the relative prices at which we are able sell products in the same market. Our revenues from international customers may be negatively impacted as increases in the U.S. dollar relative to our international customers local currency could make our products more expensive, impacting our ability to compete. Our costs of materials from international suppliers may increase if, in order to continue doing business with us, they raise their prices as the value of the U.S. dollar decreases relative to their local currency. Foreign policies and actions regarding currency valuation could result in actions by the United States and other countries to offset the effects of such fluctuations. Recent global financial conditions have led to a high level of volatility in foreign currency exchange rates and that level of volatility may continue, which could adversely affect our business, financial condition, or results of operations.

In addition to the foregoing risks, international operations entail the following risks:

longer payment cycles and difficulties in collecting accounts receivable outside of the United States;
longer sales cycles due to the volume of transactions taking place through public tenders;
challenges in staffing and managing foreign operations;
tariffs and other trade barriers;
unexpected changes in legislative or regulatory requirements of foreign countries into which we sell our products;
difficulties in obtaining export licenses or in overcoming other trade barriers and restrictions resulting in delivery delays; and

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significant taxes or other burdens of complying with a variety of foreign laws.
We are subject to risks related to taxation in multiple jurisdictions.

We are subject to income taxes in both the United States and numerous foreign jurisdictions. Significant judgments based on interpretations of existing tax laws or regulations are required in determining the provision for income taxes. Our effective income tax rate could be adversely affected by various factors, including, but not limited to, changes in the mix of earnings in tax jurisdictions with different statutory tax rates, changes in the valuation of deferred tax assets and liabilities, changes in existing tax laws or tax rates, changes in the level of non-deductible expenses (including share-based compensation), changes in our future levels of research and development spending, mergers and acquisitions, or the result of examinations by various tax authorities. Although we believe our tax estimates are reasonable, if the U.S. Internal Revenue Service or other taxing authority disagrees with the positions taken by the Company on its tax returns, we could have additional tax liability, including interest and penalties. If material, payment of such additional amounts upon final adjudication of any disputes could have a material impact on our results of operations and financial position.

Our operating results may vary significantly from period to period, and we may not be able to sustain operating profitability.

Our revenue is subject to fluctuations due to the timing of sales of high-value products and services, the effects of new product launches and related promotions, the timing and availability of our customers’ funding, the impact of seasonal spending patterns, the timing and size of research projects our customers perform, changes in overall spending levels in the life sciences industry, and other unpredictable factors that may affect customer ordering patterns. Given the difficulty in predicting the timing and magnitude of sales for our products and services, we may experience quarter-to-quarter fluctuations in revenue resulting in the potential for a sequential decline in quarterly revenue. While we anticipate future growth, there is some uncertainty as to the timing of revenue recognition on a quarterly basis. This is because a substantial portion of our quarterly revenue is typically recognized in the last month of a quarter and because the pattern for revenue generation during that month is normally not linear, with a concentration of orders in the final weeks of the quarter. In light of that, our revenue cut-off and recognition procedures, together with our manufacturing and shipping operations, may experience increased pressure and demand during the time period shortly before the end of a fiscal quarter.

A large portion of our expenses are relatively fixed, including expenses for facilities, equipment, and personnel. To meet the anticipated growth in our business, we may incur fixed expenses, such as costs related to facility expansions, before we generate revenue sufficient to fully support such expenses. In addition, we expect operating expenses to continue to increase significantly in absolute dollars, and we expect that our research and development and selling and marketing expenses will increase at a higher rate in the future as a result of the development and launch of new products. Accordingly, our ability to sustain profitability will depend in part on the rate of growth, if any, of our revenue and on the level of our expenses, and if revenue does not grow as anticipated, we may not be able to maintain annual or quarterly profitability. Any significant delays in the commercial launch of our products, unfavorable sales trends in our existing product lines, or impacts from the other factors mentioned above, could adversely affect our future revenue growth or cause a sequential decline in quarterly revenue. In addition, non-cash share-based compensation expense and expenses related to prior and future acquisitions are also likely to continue to adversely affect our future profitability. Due to the possibility of significant fluctuations in our revenue and expenses, particularly from quarter to quarter, we believe that quarterly comparisons of our operating results are not a good indication of our future performance. If our operating results fluctuate or do not meet the expectations of stock market analysts and investors, our stock price could decline.

From time to time, we receive large orders that have a significant effect on our operating results in the period in which the order is recognized as revenue. The timing of such orders is difficult to predict, and the timing of revenue recognition from such orders may affect period to period changes in net sales. As a result, our operating results could vary materially from quarter to quarter based on the receipt of such orders and their ultimate recognition as revenue.

Disruption of critical information technology systems or material breaches in the security of our systems could have an adverse effect on our operations, business, customer relations, and financial condition.

Information technology systems (IT) help us operate efficiently, interface with customers, maintain financial accuracy and efficiency, and accurately produce our financial statements. IT systems are used extensively in virtually all aspects of our business, including product manufacturing and supply chain, sales forecast, order fulfillment and billing, customer service, logistics, and management of financial reports and data. Our success depends, in part, on the continued and uninterrupted performance of our IT systems. IT systems may be vulnerable to damage from a variety of sources, including telecommunications or network failures, power loss, natural disasters, human acts, computer viruses, computer denial-of-

20


service attacks, unauthorized access to customer or employee data or company trade secrets, and other attempts to harm our systems. Certain of our systems are not redundant, and our disaster recovery planning is not sufficient for every eventuality. Despite any precautions we may take, such problems could result in, among other consequences, disruption of our operations, which could harm our reputation and financial results.
  
If we do not allocate and effectively manage the resources necessary to build and sustain the proper IT infrastructure, we could be subject to transaction errors, processing inefficiencies, the loss of customers, business disruptions, or the loss of or damage to intellectual property through security breach. If our data management systems do not effectively collect, store, process, and report relevant data for the operation of our business, whether due to equipment malfunction or constraints, software deficiencies, or human error, our ability to effectively plan, forecast, and execute our business plan and comply with applicable laws and regulations will be impaired. Any such impairment could adversely affect our reputation, financial condition, results of operations, cash flows, and the timeliness with which we report our internal and external operating results.

As a part of our ongoing effort to upgrade our IT systems, in 2015 we implemented new enterprise resource planning software and other software applications to manage certain of our business operations. As we continue to adjust our work-flow and business practices and add additional functionality, problems could arise that we have not foreseen, including interruptions in service, loss of data, or reduced functionality. Such problems could adversely impact our ability to provide quotes, take customer orders, and otherwise run our business in a timely manner. In addition, if our new systems fail to provide accurate and increased visibility into pricing and cost structures, it may be difficult to improve or maximize our profit margins. As a result, our results of operations and cash flows could be adversely affected.

Changes in accounting standards and subjective assumptions, estimates, and judgments by management related to complex accounting matters could significantly affect our financial results or financial condition.

Generally accepted accounting principles and related accounting pronouncements, implementation guidelines, and interpretations with regard to a wide range of matters that are relevant to our business, such as revenue recognition, asset impairment and fair value determinations, inventories, business combinations and intangible asset valuations, and litigation, are highly complex and involve many subjective assumptions, estimates, and judgments. In particular, accounting rules related to companies that we form together with, or that receive substantial funding from, third-party investors such as GRAIL and Helix are highly complex and involve many subjective assumptions, estimates, and judgments. Changes in these rules or their interpretation or changes in underlying assumptions, estimates, or judgments could significantly change our reported or expected financial performance or financial condition.

Ethical, legal, and social concerns related to the use of genetic information could reduce demand for our products or services.

Our products may be used to provide genetic information about humans, agricultural crops, other food sources, and other living organisms. The information obtained from our products could be used in a variety of applications, which may have underlying ethical, legal, and social concerns regarding privacy and the appropriate uses of the resulting information, including preimplantation genetic screening of embryos, prenatal genetic testing, genetic engineering or modification of agricultural products, or testing genetic predisposition for certain medical conditions, particularly for those that have no known cure. Governmental authorities could, for social or other purposes, call for limits on or regulation of the use of genetic testing or prohibit testing for genetic predisposition to certain conditions, particularly for those that have no known cure. Similarly, such concerns may lead individuals to refuse to use genetics tests even if permissible. These and other ethical, legal, and social concerns about genetic testing may limit market acceptance of our technology for certain applications or reduce the potential markets for our technology, either of which could have an adverse effect on our business, financial condition, or results of operations.

Conversion of our outstanding convertible notes may result in losses.

As of January 3, 2016, we had $75.5 million aggregate principal amount of convertible notes due 2016, $632.5 million aggregate principal amount of convertible notes due 2019, and $517.5 million aggregate principal amount of convertible notes due 2021 outstanding. The notes are convertible into cash, and if applicable, shares of our common stock under certain circumstances, including trading price conditions related to our common stock. If the trading price of our common stock remains significantly above the conversion price of $83.55 with respect to convertible notes due 2016, we believe that some noteholders will elect to convert the applicable notes. Upon conversion, we are required to record a gain or loss for the difference between the fair value of the notes to be extinguished and their corresponding net carrying value. The fair value of the notes to be extinguished depends on our current incremental borrowing rate. The net carrying value of our notes has an implicit interest rate of 4.5% with respect to convertible notes due 2016, 2.9% with respect to convertible notes due 2019, and

21


3.5% with respect to convertible notes due 2021. If our incremental borrowing rate at the time of conversion is lower than the implied interest rate of the notes, we will record a loss in our consolidated statement of income during the period in which the notes are converted.

Our Certificate of Incorporation and Bylaws include anti-takeover provisions that may make it difficult for another company to acquire control of us or limit the price investors might be willing to pay for our stock.

Certain provisions of our Certificate of Incorporation and Bylaws could delay the removal of incumbent directors and could make it more difficult to successfully complete a merger, tender offer, or proxy contest involving us. Our Certificate of Incorporation has provisions that give our Board the ability to issue preferred stock and determine the rights and designations of the preferred stock at any time without stockholder approval. The rights of the holders of our common stock will be subject to, and may be adversely affected by, the rights of the holders of any preferred stock that may be issued in the future. The issuance of preferred stock, while providing flexibility in connection with possible acquisitions and other corporate purposes, could have the effect of making it more difficult for a third party to acquire, or of discouraging a third party from acquiring, a majority of our outstanding voting stock. In addition, the staggered terms of our board of directors could have the effect of delaying or deferring a change in control.

In addition, certain provisions of the Delaware General Corporation Law (DGCL), including Section 203 of the DGCL, may have the effect of delaying or preventing changes in the control or management of Illumina. Section 203 of the DGCL provides, with certain exceptions, for waiting periods applicable to business combinations with stockholders owning at least 15% and less than 85% of the voting stock (exclusive of stock held by directors, officers, and employee plans) of a company.

The above factors may have the effect of deterring hostile takeovers or otherwise delaying or preventing changes in the control or management of Illumina, including transactions in which our stockholders might otherwise receive a premium over the fair market value of our common stock.

ITEM 1B.
Unresolved Staff Comments.

None.

ITEM 2.
Properties.

The following table summarizes the facilities we lease as of January 3, 2016, including the location and size of each principal facility, and their designated use. We believe our facilities are adequate for our current and near-term needs, and will be able to locate additional facilities as needed.
Location
 
Approximate Square Feet
 
Operation
 
Lease
Expiration Dates
San Diego, CA
 
876,000

 
R&D, Manufacturing, Warehouse, Distribution, and Administrative
 
2017 – 2031

San Francisco Bay Area, CA*
 
268,000

 
R&D, Manufacturing, Warehouse, and Administrative
 
2016 – 2024

Singapore
 
167,000

 
R&D, Manufacturing, Warehouse, Distribution, and Administrative
 
2016 – 2021

Cambridge, United Kingdom*
 
94,000

 
R&D, Manufacturing, and Administrative
 
2017 – 2024

Eindhoven, the Netherlands
 
42,000

 
Distribution and Administrative
 
2020

Madison, WI
 
38,000

 
R&D, Manufacturing, Distribution, and Administrative
 
2019

Other
 
39,000

 
Administrative
 
2016 - 2019

________________
*Excludes approximately 360,000 and 155,000 square feet in Foster City, California, and Cambridge, United Kingdom, respectively, as the leases do not commence until 2017.


22


ITEM 3.
Legal Proceedings.

We are involved in various lawsuits and claims arising in the ordinary course of business, including actions with respect to intellectual property, employment, and contractual matters. In connection with these matters, we assesses, on a regular basis, the probability and range of possible loss based on the developments in these matters. A liability is recorded in the financial statements if it is believed to be probable that a loss has been incurred and the amount of the loss can be reasonably estimated. Because litigation is inherently unpredictable and unfavorable results could occur, assessing contingencies is highly subjective and requires judgments about future events. We regularly review outstanding legal matters to determine the adequacy of the liabilities accrued and related disclosures. The amount of ultimate loss may differ from these estimates. Each matter presents its own unique circumstances, and prior litigation does not necessarily provide a reliable basis on which to predict the outcome, or range of outcomes, in any individual proceeding. Because of the uncertainties related to the occurrence, amount, and range of loss on any pending litigation or claim, we are currently unable to predict their ultimate outcome, and, with respect to any pending litigation or claim where no liability has been accrued, to make a meaningful estimate of the reasonably possible loss or range of loss that could result from an unfavorable outcome. In the event that opposing litigants in outstanding litigations or claims ultimately succeed at trial and any subsequent appeals on their claims, any potential loss or charges in excess of any established accruals, individually or in the aggregate, could have a material adverse effect on our business, financial condition, results of operations, and/or cash flows in the period in which the unfavorable outcome occurs or becomes probable, and potentially in future periods.

ITEM 4.
Mine Safety Disclosures.

Not applicable.


23


PART II

ITEM 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

Market Information

Our common stock has been quoted on The NASDAQ Global Select Market under the symbol “ILMN” since July 28, 2000. Prior to that time, there was no public market for our common stock. The following table sets forth, for the fiscal periods indicated, the quarterly high and low sales prices per share of our common stock as reported on The NASDAQ Global Select Market.
 
2015
 
2014
 
High
 
Low
 
High
 
Low
First Quarter
$
213.33

 
$
178.52

 
$
183.30

 
$
106.79

Second Quarter
$
223.08

 
$
178.68

 
$
178.19

 
$
127.69

Third Quarter
$
242.37

 
$
170.29

 
$
185.00

 
$
156.85

Fourth Quarter
$
196.47

 
$
130.00

 
$
197.37

 
$
145.12


Stock Performance Graph

The graph below compares the cumulative total stockholder returns on our common stock for the last five fiscal years with the cumulative total stockholder returns on the NASDAQ Composite Index, the NASDAQ Biotechnology Index, and the S&P 500 Index for the same period. The graph assumes that $100 was invested on January 2, 2011 in our common stock and in each index and that all dividends were reinvested. No cash dividends have been declared on our common stock. Stockholder returns over the indicated period should not be considered indicative of future stockholder returns.

Compare 5-Year Cumulative Total Return among Illumina, NASDAQ Composite Index,
NASDAQ Biotechnology Index, and S&P 500 Index


24


Holders

As of February 19, 2016, we had 195 record holders of our common stock.

Dividends

We have never paid cash dividends and have no present intention to pay cash dividends in the foreseeable future. The indentures for our 0.25% convertible senior notes due 2016, 0% convertible senior notes due 2019, and 0.5% convertible senior notes due in 2021, which notes are convertible into cash and, in certain circumstances, shares of our common stock, require us to increase the conversion rate applicable to the notes if we pay any cash dividends.

Purchases of Equity Securities by the Issuer

On May 1, 2015, the Company’s Board of Directors authorized share repurchases for up to $150.0 million of repurchases under a Rule 10b5-1 plan. In addition, on October 29, 2015, the Company’s Board of Directors authorized a new discretionary share repurchase program of $250.0 million. The following table summarizes shares repurchased pursuant to these programs during the three months ended January 3, 2016.
Period
 

Total Number
of Shares
Purchased (1)
 
 

Average Price
Paid per Share
 
Total Number of
Shares Purchased as
Part of Publicly
Announced Programs
 
Approximate Dollar
Value of Shares
that May Yet Be
Purchased Under
the Programs
September 28, 2015 - October 25, 2015
56,772

 
$
153.59

 
56,772

 
$
199,402,046

October 26, 2015 - November 22, 2015
1,210,271

 
$
149.79

 
1,210,271

 
$
268,110,431

November 23, 2015 - January 3, 2016
66,930

 
$
179.29

 
66,930

 
$
256,110,853

Total
1,333,973

 
$
151.44

 
1,333,973

 
$
256,110,853

___________
(1) All shares purchased during the three months ended January 3, 2016, were made in open-market transactions.

Sales of Unregistered Securities

None during the fiscal quarter ended January 3, 2016.


25


ITEM 6.
Selected Financial Data.

The following table sets forth selected historical consolidated financial data for each of our last five fiscal years during the period ended January 3, 2016. This information should be read in conjunction with the consolidated financial statements of the Company and notes thereto included in in Part II, Item 8 of this Form 10-K.


Statement of Income Data
 
Years Ended
 
January 3, 2016 (53 weeks)
 
December 28, 2014 (52 weeks)
 
December 29, 2013 (52 weeks)
 
December 30, 2012 (52 weeks)
 
January 1, 2012 (52 weeks)
 
(In thousands, except per share data) 
Total revenue
$
2,219,762

 
$
1,861,358

 
$
1,421,178

 
$
1,148,516

 
$
1,055,535

Income from operations
$
612,841

 
$
514,711

 
$
134,107

 
$
200,752

 
$
199,461

Consolidated net income
$
457,390

 
$
353,351

 
$
125,308

 
$
151,254

 
$
86,628

Net loss attributable to noncontrolling interests
$
4,169

 

 

 

 

Net income attributable to Illumina stockholders
$
461,559

 
$
353,351

 
$
125,308

 
$
151,254

 
$
86,628

Earnings per share attributable to Illumina stockholders:
 
 
 

 
 

 
 

 
 

Basic
$
3.19

 
$
2.61

 
$
1.00

 
$
1.23

 
$
0.70

Diluted
$
3.10

 
$
2.37

 
$
0.90

 
$
1.13

 
$
0.62

Shares used in calculating earnings per share:
 
 

 
 

 
 

 
 

Basic
144,826

 
135,553

 
125,076

 
122,999

 
123,399

Diluted
149,069

 
148,977

 
139,936

 
133,693

 
138,937


Balance Sheet Data
 
January 3,
2016
 
December 28,
2014
 
December 29,
2013
 
December 30,
2012
 
January 1,
2012
 
(In thousands)
Cash, cash equivalents and short-term investments
$
1,386,220

 
$
1,338,371

 
$
1,165,603

 
$
1,350,204

 
$
1,189,568

Total assets
$
3,687,747

 
$
3,339,640

 
$
3,019,006

 
$
2,566,085

 
$
2,195,840

Long-term debt, less current portion
$
1,015,649

 
$
986,780

 
$
839,305

 
$
805,406

 
$
807,369

Redeemable noncontrolling interest
$
32,546

 

 

 

 

Total stockholders’ equity
$
1,848,553

 
$
1,462,798

 
$
1,533,202

 
$
1,318,581

 
$
1,075,215


ITEM 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Our Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) will help readers understand our results of operations, financial condition, and cash flow. It is provided in addition to the accompanying consolidated financial statements and notes. This MD&A is organized as follows:

Business Overview and Outlook. High level discussion of our operating results and significant known trends that affect our business.
  
Results of Operations. Detailed discussion of our revenues and expenses.
  
Liquidity and Capital Resources. Discussion of key aspects of our statements of cash flows, changes in our financial position, and our financial commitments.
  
Off-Balance Sheet Arrangements. We have no significant off-balance sheet arrangements.

26


  
Contractual Obligations. Tabular disclosure of known contractual obligations as of January 3, 2016.
  
Critical Accounting Policies and Estimates. Discussion of significant changes we believe are important to understanding the assumptions and judgments underlying our financial statements.

Recent Accounting Pronouncements.

This MD&A discussion contains forward-looking statements that involve risks and uncertainties. See “Special Note Regarding Forward-Looking Statements” for additional factors relating to such statements. See “Risk Factors” in Item 1A of this report for a discussion of certain risk factors applicable to our business, financial condition, and results of operations. Operating results are not necessarily indicative of results that may occur in future periods.

Business Overview and Outlook

Our focus on innovation has established us as the global leader in sequencing and array-based technologies, serving customers in the research, clinical, and applied markets. Our products are used for applications in the life sciences, oncology, reproductive health, agriculture, and other emerging market segments.

Our portfolio of integrated systems, consumables, and analysis tools is designed to accelerate and simplify genetic analysis. This portfolio addresses a range of genomic complexity, price points, and throughput, enabling customers to select the best solution for their research or clinical challenge.

Financial highlights for 2015 include the following:
 
Net revenue increased 19.3% in 2015 over 2014. Our sales increased across our portfolio of sequencing products, including consumables, instruments, and services. We expect our revenue to continue to increase in 2016.

Gross profit as a percentage of revenue (gross margin) increased to 69.8% in 2015 from 69.7% in 2014. Gross margins in 2015 increased primarily due to a positive shift in product mix to sequencing consumables. Gross margin in 2014 was favorably impacted by the litigation settlement with Syntrix, which resulted in reversal of cost of sales of $10.4 million. See detailed discussions on this matter in note “9. Legal Proceedings” in Part II, Item 8 of this Form 10-K. We believe our gross margin in future periods will depend on several factors, including: market conditions that may impact our pricing power; sales mix changes among consumables, instruments, and services; product mix changes between established products and new products in new markets; royalties; our cost structure for manufacturing operations; and product support obligations.

Income from operations increased $98.1 million in 2015 compared to 2014 as a result of higher revenue, despite the increase in research and development and selling, general, and administrative expenses, which we expect will continue to grow.

Our effective tax rate was 21.6% and 21.3% in 2015 and 2014, respectively. The variance from the U.S. federal statutory tax rate of 35% was attributable to a discrete tax benefit of $24.8 million, related to the exclusion of stock compensation from prior period cost-sharing charges as a result of a recent tax court opinion in which an unrelated third party was successful in challenging such charges. If this tax court opinion is overturned, our tax rate will be adversely impacted by the reversal of the discrete tax benefit recorded this year and any stock compensation that should have been included in the cost-sharing charges from this year going forward. The decrease from the U.S. federal statutory tax rate also resulted from the mix of earnings in jurisdictions with lower statutory tax rates than the U.S. federal statutory tax rate, such as Singapore and the United Kingdom.

Our future effective tax rate may vary from the U.S. federal statutory tax rate due to the mix of earnings in tax jurisdictions with different statutory tax rates and the other factors discussed in the risk factor “We are subject to risks related to taxation in multiple jurisdictions” in Part I Item 1A “Risk Factors” of this Form 10-K. We may also be adversely impacted in the future if the tax court opinion regarding the exclusion of stock compensation from cost-sharing charges is overturned. We anticipate that our effective tax rate will trend lower than the U.S. federal statutory tax rate in the future due to the portion of our earnings that will be subject to lower statutory tax rates.

We ended 2015 with cash, cash equivalents, and short-term investments totaling $1.4 billion.

27



This overview and outlook provides a high-level discussion of our operating results and significant known trends that affect our business. We believe that an understanding of these trends is important to understanding our financial results for the periods reported herein as well as our future financial performance. This summary is not intended to be exhaustive, nor is it intended to be a substitute for the detailed discussion and analysis provided elsewhere in this Annual Report on Form 10-K.
  
Results of Operations

To enhance comparability, the following table sets forth audited consolidated statement of operations data for the years ended January 3, 2016, December 28, 2014, and December 29, 2013, stated as a percentage of total revenue.
 
2015
 
2014
 
2013
Revenue:
 

 
 

 
 

Product revenue
85.2
 %
 
87.0
 %
 
89.0
 %
Service and other revenue
14.8

 
13.0

 
11.0

Total revenue
100.0

 
100.0

 
100.0

Cost of revenue:
 
 
 

 
 

Cost of product revenue
22.1

 
23.2

 
28.7

Cost of service and other revenue
6.0

 
5.0

 
4.8

Amortization of acquired intangible assets
2.1

 
2.1

 
2.3

Total cost of revenue
30.2

 
30.3

 
35.8

Gross profit
69.8

 
69.7

 
64.2

Operating expense:
 

 
 

 
 

Research and development
18.1

 
20.8

 
19.5

Selling, general and administrative
23.6

 
25.1

 
26.8

Legal contingencies
0.9

 
(4.0
)
 
8.1

Acquisition related gain, net
(0.3
)
 
(0.1
)
 
(0.8
)
Headquarter relocation
(0.1
)
 
0.3

 
0.2

Unsolicited tender offer related expense

 

 
1.0

Total operating expense
42.2

 
42.1

 
54.8

Income from operations
27.6

 
27.6

 
9.4

Other income (expense):
 

 
 

 
 

Interest income
0.2

 
0.3

 
0.3

Interest expense
(1.9
)
 
(2.2
)
 
(2.7
)
Cost-method investment gain, net
0.7

 
0.2

 
4.3

Other expense, net
(0.3
)
 
(1.8
)
 
(0.1
)
Total other (expense) income, net
(1.3
)
 
(3.5
)
 
1.8

Income before income taxes
26.3

 
24.1

 
11.2

Provision for income taxes
5.7

 
5.1

 
2.4

Consolidated net income
20.6

 
19.0

 
8.8

Add: Net loss attributable to noncontrolling interests
0.2

 

 

Net income attributable to Illumina stockholders
20.8
 %
 
19.0
 %
 
8.8
 %

Our fiscal year is the 52 or 53 weeks ending the Sunday closest to December 31, with quarters of 13 or 14 weeks ending the Sunday closest to March 31, June 30, September 30, and December 31. Fiscal year 2015 was 53 weeks and each of fiscal years 2014 and 2013 were 52 weeks.


28


Revenue
 
2015 - 2014
 
2014 - 2013
 (Dollars in thousands)
2015
 
2014
 
Change
 
% Change
 
2013
 
Change
 
% Change
Product revenue
$
1,890,633

 
$
1,619,511

 
$
271,122

 
17
%
 
$
1,264,656

 
$
354,855

 
28
%
Service and other revenue
329,129

 
241,847

 
87,282

 
36

 
156,522

 
85,325

 
55

Total revenue
$
2,219,762

 
$
1,861,358

 
$
358,404

 
19
%
 
$
1,421,178

 
$
440,180

 
31
%

Product revenue consists primarily of revenue from sales of consumables and instruments. Service and other revenue consists primarily of sequencing and genotyping service revenue as well as instrument service contract revenue.

2015 Compared to 2014

Revenue increased $358.4 million, or 19%, to $2,219.8 million in 2015 compared to $1,861.4 million in 2014.

Consumables revenue increased $238.9 million, or 23%, to $1,279.9 million in 2015 compared to $1,041.0 million in 2014, driven by growth in the sequencing instrument installed base.

Instrument revenue increased $32.5 million, or 6%, to $594.7 million in 2015 compared to $562.2 million in 2014, driven by shipments of HiSeq X and NextSeq systems.

Service and other revenue increased $87.3 million, or 36%, to $329.1 million in 2015 compared to $241.8 million in 2014, driven by the growth in NIPT service test volumes. Revenue from extended instrument service contracts also contributed to the increase as our sequencing instrument installed base continues to grow.

Overall, these increases were negatively impacted by the foreign exchange fluctuations in the comparative periods. Absent these fluctuations, revenues would have grown 23% on a constant currency basis from 2014 to 2015.

2014 Compared to 2013

Revenue increased $440.2 million, or 31%, to $1,861.4 million in 2014 compared to $1,421.2 million in 2013.

Consumables revenue increased $160.7 million, or 18%, to $1,041.0 million in 2014 compared to $880.3 million in the prior year. The increase was primarily attributable to sales of sequencing consumables, driven by the growth in the installed base, including HiSeq X and NextSeq systems introduced in January 2014. Such increase was partially offset by a decrease in array consumables.

Instrument revenue increased $190.7 million, or 51%, to $562.2 million in 2014 compared to $371.5 million in the prior year, driven primarily by shipments of sequencing instruments, in particular HiSeq X and NextSeq systems introduced in January 2014.
 
Service and other revenue increased $85.3 million, or 55%, to $241.8 million in 2014 compared to $156.5 million in the prior year, driven primarily by sequencing services and extended service contracts for our instruments as our installed base continues to grow.

Gross Margin
 
2015 - 2014
 
2014 - 2013
 (Dollars in thousands)
2015
 
2014
 
Change
 
% Change
 
2013
 
Change
 
% Change
Total gross profit
$
1,549,290

 
$
1,297,710

 
$
251,580

 
19
%
 
$
911,887

 
$
385,823

 
42
%
Total gross margin
69.8
%
 
69.7
%
 
 
 
 
 
64.2
%
 
 
 
 

2015 Compared to 2014

Gross margin increased to 69.8% in 2015 compared to 69.7% in 2014. Gross margin increased primarily due to a positive shift in product mix to sequencing consumables. Gross margin in 2014 was favorably impacted by the litigation settlement

29


with Syntrix, which included a reversal of cost of sales of $10.4 million. See detailed discussions on this matter in note “9. Legal Proceedings” in Part II, Item 8 of this Form 10-K.

2014 Compared to 2013

Gross margin increased to 69.7% compared to 64.2% in the prior year, primarily due to the increase in revenue. Also contributing to the increase in gross margin was our litigation settlement with Syntrix in 2014, which resulted in reversal of cost of sales of $10.4 million. See detailed discussions on this matter in note “9. Legal Proceedings” in Part II, Item 8 of this Form 10-K. In addition, higher margins on sequencing instrument sales and efficiencies in manufacturing contributed to the increase in gross margin. In 2013, gross margin was negatively affected by a $25.2 million impairment charge associated with the discontinuation of the Eco and NuPCR product lines.

Operating Expense
 
2015 - 2014
 
2014 - 2013
 (Dollars in thousands)
2015
 
2014
 
Change
 
% Change
 
2013
 
Change
 
% Change
Research and development
$
401,527

 
$
388,055

 
$
13,472

 
3
 %
 
$
276,743

 
$
111,312

 
40
 %
Selling, general and administrative
524,657

 
466,283

 
58,374

 
13

 
381,040

 
85,243

 
22

Legal contingencies
19,000

 
(74,338
)
 
93,338

 
(126
)
 
115,369

 
(189,707
)
 
(164
)
Acquisition related gain, net
(6,124
)
 
(2,639
)
 
(3,485
)
 
132

 
(11,617
)
 
8,978

 
(77
)
Headquarter relocation
(2,611
)
 
5,638

 
(8,249
)
 
(146
)
 
2,624

 
3,014

 
115

Unsolicited tender offer related expense

 

 

 

 
13,621

 
(13,621
)
 
(100
)
Total operating expense
$
936,449

 
$
782,999

 
$
153,450

 
20
 %
 
$
777,780

 
$
5,219

 
1
 %

2015 Compared to 2014

Research and development expense increased by $13.5 million, or 3%, in 2015 from 2014, primarily due to increased headcount and related expenses as we continue to invest in the development of our products as well as enhancements to existing products. Research and development expense in 2014 included our litigation settlement and patent pooling agreement with Sequenom, as $48.8 million was recorded to research and development expense for an upfront payment. See detailed discussion on this matter in note “9. Legal Proceedings” to our financial statements in Part II, Item 8 of this Form 10-K.
 
Selling, general and administrative expense increased by $58.4 million, or 13% in 2015 from 2014, primarily driven by increased headcount and consulting services to support our continued growth, investments in scaling our operations, and start-up costs related to our Helix joint venture.

Legal contingencies in 2015 represent charges related to patent litigation. Legal contingencies in 2014 reflected predominantly the $82.1 million gain from our litigation settlement with Syntrix, offset by other legal contingency charges.
 
Acquisition related gain, net, in 2015 and 2014 consisted of changes in fair value of contingent consideration. The changes in the fair value of the contingent consideration during the periods were primarily due to changes in the estimated payments and a shorter discounting period.

Headquarter relocation costs for 2015 include a net gain related to a change in a lease exit liability, partially offset by accretion of interest on such liability.

2014 Compared to 2013

Research and development expense increased by $111.3 million, or 40%, in 2014 from 2013. The increase is partially attributable to our litigation settlement and patent pooling agreement with Sequenom in 2014, as $48.8 million was recorded to research and development expense for the upfront payment. See detailed discussion on this matter in note “9. Legal Proceedings” to our financial statements in Part II, Item 8 of this Form 10-K. In addition, headcount increases and other expenses related to our new product launches contributed to the increase in research and development expenses, reflecting our continued investment in the development of new products as well as enhancements to existing products.
 

30


Selling, general and administrative expense increased by $85.2 million, or 22%, in 2014 from 2013. The increase is primarily driven by increases in headcount, consulting services, and infrastructure investment to support the growth of our Company.

Acquisition related gain, net, in 2014 and 2013 consisted of changes in fair value of contingent consideration and transaction related costs.

We completed the relocation of our headquarters in 2012. During 2014 and 2013, we incurred $5.6 million and $2.6 million, respectively, in additional headquarter relocation expense, consisting primarily of changes in estimated lease exit liability recorded upon vacating our former headquarters, and accretion expense related to such facility exit obligation.

Legal contingencies in 2014 reflected predominantly the $82.1 million gain from our litigation settlement with Syntrix, offset by other legal contingency charges. The $115.4 million in legal contingencies in 2013 were primarily charges recorded for the Syntrix litigation matter. See detailed discussion on this matter in note “9. Legal Proceedings” in Part II, Item 8 of this Form 10-K.

In 2013, we recorded $13.6 million of expenses incurred in relation to an unsolicited tender offer in Q1 2012. The expenses consisted primarily of advisory and legal fees. The advisory service arrangement was completed in 2013.

Other (Expense) Income, Net
 
2015 - 2014
 
2014 - 2013
 (Dollars in thousands)
2015
 
2014
 
Change
 
% Change
 
2013
 
Change
 
% Change
Interest income
$
5,024

 
$
3,901

 
$
1,123

 
29
 %
 
$
4,887

 
$
(986
)
 
(20
)%
Interest expense
(42,121
)
 
(41,728
)
 
(393
)
 
1

 
(39,690
)
 
(2,038
)
 
5

Cost-method investment gain, net
15,601

 
4,427

 
11,174

 
252

 
61,357

 
(56,930
)
 
(93
)
Other expense, net
(8,203
)
 
(32,553
)
 
24,350

 
(75
)
 
(1,347
)
 
(31,206
)
 
2,317

Total other (expense) income, net
$
(29,699
)
 
$
(65,953
)
 
$
36,254

 
(55
)%
 
$
25,207

 
$
(91,160
)
 
(362
)%

2015 Compared to 2014

Interest income primarily consisted of returns from our investment portfolio. Interest income increased slightly in 2015 compared to 2014 as a result of higher yields and higher investment balances throughout the period. Interest expense consisted primarily of accretion of discount on our convertible senior notes. The increase in interest expense in 2015 compared to 2014 was due to the issuance of our 2019 and 2021 Notes in June 2014, partially offset by the impact from the concurrent repurchase of $600.0 million in principal amount of our 2016 Notes.
 
Cost-method investment gain, net in 2015 consisted primarily of gains on dispositions of cost-method investments, partially offset by impairment charges on other investments.
 
Other expense, net, in 2015 consisted primarily of $4.3 million in foreign exchange loss and $4.1 million in loss on extinguishment of our 2016 notes. Other expense, net, in 2014, was negatively impacted by $31.4 million loss on extinguishment of debt recorded as a result of the repurchase of $600.0 million in principal amount of our 2016 Notes.

2014 Compared to 2013

Interest income primarily consisted of returns from our investment portfolio. Interest income decreased slightly in 2014 compared to 2013 as a result of lower yields, partially offset by the impact from a larger investment portfolio. Interest expense in 2014 remained relatively consistent to 2013 and consisted primarily of accretion on our convertible senior notes.
 
Cost-method investment gain, net in 2014 consisted of a gain associated with additional proceeds received for a cost-method investment sold in a prior year. In 2013, we recognized $61.4 million in gains from sales of cost-method investments, of which $55.2 million related to the sale of our minority ownership interest in Oxford Nanopore Technologies Ltd.
 
Other expense, net, in 2014 and 2013 primarily consisted of loss on extinguishment of debt and net foreign exchange gains and losses. In conjunction with the issuance of the 2019 and 2021 Notes, we used $1,244.7 million in cash to repurchase

31


$600.0 million in principal amount of the outstanding 2016 Notes in privately negotiated transactions. As a result, we recorded $31.4 million in loss on extinguishment of debt calculated as the difference between the fair value and carrying value of the liability component of the debt.

Provision for Income Taxes
 
2015 - 2014
 
2014 - 2013
 (Dollars in thousands)
2015
 
2014
 
Change
 
% Change
 
2013
 
Change
 
% Change
Income before income taxes
$
583,142

 
$
448,758

 
$
134,384

 
30
%
 
$
159,314

 
$
289,444

 
182
%
Provision for income taxes
125,752

 
95,407

 
30,345

 
32

 
34,006

 
61,401

 
181

Consolidated net income
$
457,390

 
$
353,351

 
$
104,039

 
29
%
 
$
125,308

 
$
228,043

 
182
%
Effective tax rate
21.6
%
 
21.3
%
 
 
 
 
 
21.3
%
 
 
 
 

2015 Compared to 2014

Our effective tax rate was 21.6% and 21.3% in 2015 and 2014, respectively. In 2015, the variance from the U.S. federal statutory tax rate of 35% was attributable to a discrete tax benefit of $24.8 million, related to the exclusion of stock compensation from prior period cost-sharing charges as a result of a recent tax court opinion in which an unrelated third party was successful in challenging such charges. In 2015 and 2014, the variance from the U.S. federal statutory tax rate of 35% was also attributable to the mix of earnings in jurisdictions with lower statutory tax rates than the U.S. federal statutory tax rate, such as Singapore and the United Kingdom.


2014 Compared to 2013

Our effective tax rate was 21.3% in 2014 and 2013. The variance from the U.S. federal statutory tax rate of 35% was primarily attributable to the mix of earnings in jurisdictions with lower statutory tax rates than the U.S. federal statutory tax rate, such as Singapore and the United Kingdom. In addition, the variance in 2014 was also attributable to the benefit from research and development credits and foreign tax credits, and the variance in 2013 was also attributable to the retroactive reinstatement of the federal research and development credit for 2012 which was enacted in January 2013. These items offset the impact of recording a valuation allowance which was primarily related to the estimated limitation on utilizing foreign tax credits in the U.S.

Liquidity and Capital Resources

At January 3, 2016, we had approximately $768.8 million in cash and cash equivalents, of which approximately $360 million was held by our foreign subsidiaries. Cash and cash equivalents increased by $132.6 million from last year, due to the factors described in the “Cash Flow Summary” below. Our primary source of liquidity, other than our holdings of cash, cash equivalents, and investments, has been cash flows from operations. Our ability to generate cash from operations provides us with the financial flexibility we need to meet operating, investing, and financing needs. It is our intention to indefinitely reinvest all current and future foreign earnings in foreign subsidiaries.

Historically, we have liquidated our short-term investments and/or issued debt and equity securities to finance our business needs as a supplement to cash provided by operating activities. As of January 3, 2016, we have $617.5 million in short-term investments. Short-term investments held by our foreign subsidiaries as of January 3, 2016, were approximately $388 million. Our short-term investments include marketable securities consisting of U.S government-sponsored entities, corporate debt securities, and U.S. Treasury securities.

During 2015, $244.5 million in principal of the 2016 Notes were converted, and $75.5 million in principal amount of the 2016 Notes remained outstanding as of January 3, 2016. The 2016 Notes became convertible on April 1, 2014, and continue to be convertible through March 11, 2016, and mature on March 15, 2016. It is our intent and policy to settle conversions of the 2016 Notes through combination settlement, which essentially involves repayment of an amount of cash equal to the principal amount and delivery of the excess of conversion value over the principal amount in shares of common stock. The 2019 and 2021 Notes were not convertible as of January 3, 2016.

We anticipate that our current cash, cash equivalents, and short-term investments, together with cash provided by operating activities are sufficient to fund our near term capital and operating needs for at least the next 12 months. Operating

32


needs include the planned costs to operate our business, including amounts required to fund working capital and capital expenditures. Our primary short-term needs for capital, which are subject to change, include:

potential early repayment of debt obligations as a result of conversions;
support of commercialization efforts related to our current and future products, including expansion of our direct sales force and field support resources both in the United States and abroad;
acquisitions of equipment and other fixed assets for use in our current and future manufacturing and research and development facilities;
repurchases of our outstanding common stock;
the continued advancement of research and development efforts;
potential strategic acquisitions and investments;
the expansion needs of our facilities, including costs of leasing additional facilities; and
investment in our global business processes, and the associated enterprise resource planning platform.

As of January 3, 2016, we had $35.0 million in fair value of contingent consideration liabilities associated with a prior acquisition.

During 2015, we used $274.3 million to repurchase our outstanding shares under the stock repurchase programs authorized by our Board of Directors. As of January 3, 2016, there remains $256.1 million under the authorized programs.

Certain noncontrolling Helix investors may require Illumina to redeem all noncontrolling interests in cash at the then approximate fair market value. Such redemption right is exercisable at the option of certain noncontrolling interest holders after January 1, 2021, provided that a bona fide pursuit of the sale of Helix has occurred and an initial public offering of Helix has not been completed. The fair value of the redeemable noncontrolling interests as of January 3, 2016, was $32.5 million.

We expect that our revenue and the resulting operating income, as well as the status of each of our new product development programs, will significantly impact our cash management decisions.

Our future capital requirements and the adequacy of our available funds will depend on many factors, including:
our ability to successfully commercialize and further develop our technologies and create innovative products in our markets;
scientific progress in our research and development programs and the magnitude of those programs;
competing technological and market developments; and
the need to enter into collaborations with other companies or acquire other companies or technologies to enhance or complement our product and service offerings.

Cash Flow Summary
(In thousands)
2015
 
2014
 
2013
Net cash provided by operating activities
$
659,596

 
$
501,271

 
$
386,421

Net cash used in investing activities
(106,146
)
 
(406,624
)
 
(69,649
)
Net cash used in financing activities
(418,762
)
 
(166,748
)
 
(38,719
)
Effect of exchange rate changes on cash and cash equivalents
(2,072
)
 
(3,382
)
 
(397
)
Net increase (decrease) in cash and cash equivalents
$
132,616

 
$
(75,483
)
 
$
277,656


Operating Activities

Net cash provided by operating activities in 2015 consisted of net income of $457.4 million plus net adjustments of $240.6 million partially offset by net changes in net operating assets and liabilities of $38.4 million. The primary non-cash expenses added back to net income included share-based compensation of $132.6 million, depreciation and amortization expenses of $126.4 million, deferred income taxes of $80.5 million, and accretion of debt discount of $38.5 million. These non-cash add-backs were partially offset by $126.7 million in incremental tax benefit related to share-based compensation,

33


$15.6 million in cost-method investment gain, net and $6.1 million in change in fair value of contingent consideration. Cash flow impact from changes in net operating assets included increases in accounts receivable, inventory, and prepaid expenses and other current assets, partially offset by increases in accounts payable, accrued liabilities, and accrued legal contingencies.

Net cash provided by operating activities in 2014 consisted of net income of $353.4 million plus net adjustments of $204.4 million, partially offset by net changes in net operating assets and liabilities of $56.5 million. The primary non-cash expenses added back to net income included share-based compensation of $152.6 million, depreciation and amortization expenses of $112.6 million, deferred income taxes of $99.8 million, accretion of debt discount of $38.1 million, and loss on extinguishment of debt of $31.4 million. These non-cash add backs were partially offset by $126.5 million in incremental tax benefit related to share-based compensation and $109.4 million in gain on litigation settlement. Cash flow impact from changes in net operating assets included increases in accounts receivable, inventory, other assets, and a decrease in accrued legal contingencies, partially offset by an increase in accrued liabilities.

Net cash provided by operating activities in 2013 consisted of net income of $125.3 million plus net adjustments of $107.7 million, offset by changes in net operating assets of $153.4 million. The primary non-cash expenses added back to net income included share-based compensation of $105.8 million, depreciation and amortization expenses related to property and equipment and intangible assets of $97.9 million, accretion of debt discount of $36.2 million, and impairments of $25.2 million. The adjustments to net income also included $61.4 million in cost-method investment related gain, $56.7 million in incremental tax benefit related to share-based compensation, and $36.7 million in deferred income taxes. The main drivers in the change in net operating assets was an increase in legal contingencies due to the Syntrix patent litigation.

Investing Activities

Net cash used in investing activities totaled $106.1 million in 2015. We purchased $797.0 million of available-for-sale securities and $876.8 million of our available-for-sale securities matured or were sold during the period. We also paid net cash of $36.6 million for acquisitions and invested $142.8 million in capital expenditures primarily associated with machinery and equipment, facilities, and information technology equipment and systems primarily related to our enterprise resource planning system implementation.

Net cash used in investing activities totaled $406.6 million in 2014. We purchased $791.3 million of available-for-sale securities and $541.9 million of our available-for-sale securities matured or were sold during the period. We also invested $106.0 million in capital expenditures primarily associated with the purchase of manufacturing, research and development equipment, leasehold improvements, and information technology equipment and systems.

Net cash used in investing activities totaled $69.6 million in 2013. We purchased $364.0 million of available-for-sale securities and $812.8 million of our available-for-sale securities matured or were sold during the period. We also paid net cash of $523.5 million for acquisitions and invested $79.2 million in capital expenditures primarily associated with the purchase of manufacturing, research and development equipment, leasehold improvements, and information technology equipment and systems.

Financing Activities

Net cash used in financing activities totaled $418.8 million in 2015. We used $127.2 million to pay taxes related to net share settlement of equity awards and $274.3 million to repurchase our common stock. We used $245.0 million to repay financing obligations. We received $126.7 million in incremental tax benefit related to share-based compensation and $71.8 million in proceeds from the issuance of common stock through the exercise of stock options and under our employee stock purchase plan. Contributions from noncontrolling owners were $32.1 million.

Net cash used in financing activities totaled $166.7 million in 2014. We received $1,132.4 million in proceeds from the issuance of $1,150.0 million in principal amount of our convertible senior notes due 2019 and 2021, net of issuance costs paid in the period. We used $1,244.7 million to repurchase $600.0 million in principal amount of our 2016 Notes and used $237.2 million to repurchase our common stock. In addition, we paid $30.0 million primarily in conversions of our convertible senior notes due 2014. We received $126.5 million in incremental tax benefit related to share-based compensation and $96.3 million in proceeds from the issuance of common stock through the exercise of stock options and the sale of shares under our employee stock purchase plan.

Net cash used in financing activities totaled $38.7 million in 2013. We received $94.5 million in proceeds from the issuance of common stock through the exercise of stock options and the sale of shares under our employee stock purchase plan,

34


and received $56.7 million in incremental tax benefit related to share-based compensation. We used $125.0 million for retirement of warrants, and used $50.0 million to repurchase our common stock.

Off-Balance Sheet Arrangements

We do not participate in any transactions that generate relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. During the fiscal year ended January 3, 2016, we were not involved in any “off-balance sheet arrangements” within the meaning of the rules of the Securities and Exchange Commission.

Contractual Obligations

Contractual obligations represent future cash commitments and liabilities under agreements with third parties, and exclude orders for goods and services entered into in the normal course of business that are not enforceable or legally binding. The following table represents our contractual obligations as of January 3, 2016, aggregated by type (amounts in thousands):
 
 
Payments Due by Period(1)
 
 
 
 
Less Than
 
 
 
 
 
More Than
Contractual Obligation
 
Total
 
1 Year
 
1 – 3 Years
 
3 – 5 Years
 
5 Years
Debt obligations(2)
 
$
1,239,873

 
$
78,229

 
$
5,175

 
$
637,675

 
$
518,794

Leases
 
905,436

 
40,410

 
96,052

 
108,338

 
660,636

License agreements
 
91,295

 
12,380

 
31,865

 
47,050

 

Purchase obligations
 
23,142

 
12,172

 
8,048

 
2,922

 

Amounts due under executive deferred compensation plan
 
24,925

 
24,925

 

 

 

Contingent consideration payments related to acquisitions
 
35,000

 
35,000

 

 

 

Total
 
$
2,319,671

 
$
203,116

 
$
141,140

 
$
795,985

 
$
1,179,430

_______________________________________

(1)
The table excludes $56.1 million of uncertain tax positions and $32.5 million of redeemable noncontrolling interest as the timing and amounts of the settlement remained uncertain as of January 3, 2016. See note “10. Income Taxes” and note “2. Balance Sheet Account Details”, respectively, in Part II, Item 8 of this Form 10-K for further discussions of these items.

(2)
Debt obligations include the principal amount of our convertible senior notes due 2016, 2019, and 2021, as well as interest payments to be made under the notes. Although these notes mature in 2016, 2019, and 2021, respectively, they may be converted into cash and shares of our common stock prior to maturity if certain conditions are met. Any conversion prior to maturity can result in repayments of the principal amounts sooner than the scheduled repayments as indicated in the table. See note “5. Convertible Senior Notes” in Part II, Item 8 of this Form 10-K for further discussion of the terms of the convertible senior notes.

Critical Accounting Policies and Estimates

The preparation of financial statements in accordance with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in our consolidated financial statements and accompanying notes. Management bases its estimates on historical experience, market and other conditions, and various other assumptions it believes to be reasonable. Although these estimates are based on management’s best knowledge of current events and actions that may impact us in the future, the estimation process is, by its nature, uncertain given that estimates depend on events over which we may not have control. If market and other conditions change from those that we anticipate, our consolidated financial statements may be materially affected. In addition, if our assumptions change, we may need to revise our estimates, or take other corrective actions, either of which may also have a material effect on our consolidated financial statements.

We believe that the following critical accounting policies and estimates have a higher degree of inherent uncertainty and require our most significant judgments. In addition, had we used estimates different from any of these, our consolidated

35


financial statements could have been materially different from those presented. Members of our senior management have discussed the development and selection of our critical accounting policies and estimates, and our disclosure regarding them, with the audit committee of our board of directors. Our accounting policies are more fully described in note “1. Organization and Significant Accounting Policies” in Part II, Item 8 of this Form 10-K.

Revenue Recognition

Our revenue is generated primarily from the sale of products and services. Product revenue primarily consists of sales of instruments and consumables used in genetic analysis. Service and other revenue primarily consists of revenue generated from genotyping and sequencing services and instrument service contracts. The timing of revenue recognition and the amount of revenue recognized in each case depends upon a variety of factors, including the specific terms of each arrangement and the nature of our deliverables and obligations. Determination of the appropriate amount of revenue recognized involves significant judgment and estimates.

We recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the seller’s price to the buyer is fixed or determinable, and collectibility is reasonably assured. In instances where final acceptance of the product or system is required, revenue is deferred until all the acceptance criteria have been met. We occasionally offer discounts on newly introduced products to recent customers of existing products. These promotions sometimes involve the trade-in of existing products in exchange for a discount on new products. Where applicable, we defer a portion of revenue on the sales of existing products in recognition of the promotional discounts until the delivery of new products. All revenue is recorded net of discounts and sales taxes collected on behalf of governmental authorities.

Revenue from product sales is recognized generally upon transfer of title to the customer, provided that no significant obligations remain and collection of the receivable is reasonably assured. Revenue from instrument service contracts is recognized as the services are rendered, typically evenly over the contract term. Revenue from genotyping and sequencing services is recognized when earned, which is generally at the time the genotyping or sequencing analysis data is made available to the customer or agreed upon milestones are reached.

In order to assess whether the price is fixed or determinable, we evaluate whether an arrangement is cancellable or subject to future changes in price, deliverables, or other terms. If it is determined that the price is not fixed or determinable, we defer revenue recognition until the price becomes fixed or determinable. We assess collectibility based on a number of factors, including past transaction history with, and the creditworthiness of, the customer. If we determine that collection of a payment is not reasonably assured, revenue recognition is deferred until receipt of payment.

We regularly enter into contracts where revenue is derived from multiple deliverables including products or services. These products or services are generally delivered within a short time frame, approximately three to six months, after the contract execution date. Revenue recognition for contracts with multiple deliverables is based on the individual units of accounting determined to exist in the contract. A delivered item is considered a separate unit of accounting when the delivered item has value to the customer on a stand-alone basis. Items are considered to have stand-alone value when they are sold separately by any vendor or when the customer could resell the item on a stand-alone basis.

For transactions with multiple deliverables, consideration is allocated at the inception of the contract to all deliverables based on their relative selling price. The relative selling price for each deliverable is determined using vendor specific objective evidence (VSOE) of selling price or third-party evidence of selling price if VSOE does not exist. If neither VSOE nor third-party evidence exists, we use best estimate of the selling price for the deliverable.

In order to establish VSOE of selling price, we must regularly sell the product or service on a standalone basis with a substantial majority priced within a relatively narrow range. VSOE of selling price is usually the midpoint of that range. If there are not a sufficient number of standalone sales and VSOE of selling price cannot be determined, then we consider whether third party evidence can be used to establish selling price. Due to the lack of similar products and services sold by other companies within the industry, we have rarely established selling price using third-party evidence. If neither VSOE nor third party evidence of selling price exists, we determine our best estimate of selling price using average selling prices over a rolling 12-month period coupled with an assessment of current market conditions. If the product or service has no history of sales or if the sales volume is not sufficient, we rely upon prices set by our pricing committee adjusted for applicable discounts. We recognize revenue for delivered elements only when we determine there are no uncertainties regarding customer acceptance.

In certain markets, we sell products and provide services to customers through distributors that specialize in life science products. In most sales through distributors, the product is delivered directly to customers. In cases where the product is delivered to a distributor, revenue recognition is deferred until acceptance is received from the distributor, and/or the end-user,

36


if required by the applicable sales contract. The terms of sales transactions through distributors are consistent with the terms of direct sales to customers. These transactions are accounted for in accordance with our revenue recognition policy described herein.

Investments

We invest in various types of securities, including debt securities in government-sponsored entities, corporate debt securities, and U.S. Treasury securities. As of January 3, 2016, we had $617.5 million in short-term investments. In accordance with the accounting standard for fair value measurements, we classify our investments as Level 1, 2, or 3 within the fair value hierarchy. Fair values determined by Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets that we have the ability to access. Fair values determined by Level 2 inputs utilize data points that are observable such as quoted prices, interest rates and yield curves. Fair values determined by Level 3 inputs utilize unobservable data points for the asset.

As discussed in note “4. Fair Value Measurements” in Part II, Item 8 of this Form 10-K, a majority of our security holdings have been classified as Level 2. These securities have been initially valued at the transaction price and subsequently valued utilizing a third party service provider who assesses the fair value using inputs other than quoted prices that are observable either directly or indirectly, such as yield curve, volatility factors, credit spreads, default rates, loss severity, current market and contractual prices for the underlying instruments or debt, broker and dealer quotes, as well as other relevant economic measures. We perform certain procedures to corroborate the fair value of these holdings, and in the process, we apply judgment and estimates that if changed, could significantly affect our statement of financial positions.

Allowance for Doubtful Accounts

We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. We evaluate the collectibility of our accounts receivable based on a combination of factors. We regularly analyze customer accounts, review the length of time receivables are outstanding, review historical loss rates and assess current economic trends that may impact the level of credit losses in the future. Our allowance for doubtful accounts has generally been adequate to cover our actual credit losses. However, since we cannot reliably predict future changes in the financial stability of our customers, we may need to increase our reserves if the financial conditions of our customers deteriorate.

Inventory Valuation

Inventories are stated at lower of cost or market. We record adjustments to inventory for potentially excess, obsolete, or impaired goods in order to state inventory at net realizable value. We must make assumptions about future demand, market conditions, and the release of new products that will supersede old ones. We regularly review inventory for excess and obsolete products and components, taking into account product life cycles, quality issues, historical experience, and usage forecasts. Our gross inventory totaled $302.9 million and the cumulative adjustment for potentially excess and obsolete inventory was $32.1 million at January 3, 2016. Historically, our inventory adjustment has been adequate to cover our losses. However, if actual market conditions are less favorable than anticipated, additional inventory adjustments could be required.

Contingencies

We are involved in various lawsuits and claims arising in the ordinary course of business, including actions with respect to intellectual property, employment, and contractual matters. In connection with these matters, we assess, on a regular basis, the probability and range of possible loss based on the developments in these matters. A liability is recorded in the financial statements if it is believed to be probable that a loss has been incurred and the amount of the loss can be reasonably estimated. Because litigation is inherently unpredictable and unfavorable resolutions could occur, assessing contingencies is highly subjective and requires judgments about future events. We regularly review outstanding legal matters to determine the adequacy of the liabilities accrued and related disclosures in consideration of many factors, which include, but are not limited to, past history, scientific and other evidence, and the specifics and status of each matter. We may change our estimates if our assessment of the various factors changes and the amount of ultimate loss may differ from our estimates, resulting in a material effect on our business, financial condition, results of operations, and/or cash flows.

Business Combinations

Under the acquisition method of accounting, we allocate the fair value of the total consideration transferred to the tangible and identifiable intangible assets acquired and liabilities assumed based on their estimated fair values on the date of

37


acquisition. The fair values assigned, defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between willing market participants, are based on estimates and assumptions determined by management. We record the excess consideration over the aggregate fair value of tangible and intangible assets, net of liabilities assumed, as goodwill. These valuations require us to make significant estimates and assumptions, especially with respect to intangible assets.

In connection with certain of our acquisitions, additional contingent consideration is earned by the sellers upon completion of certain future performance milestones. In these cases, a liability is recorded on the acquisition date for an estimate of the acquisition date fair value of the contingent consideration by applying the income approach utilizing variable inputs such as anticipated future cash flows, risk-free adjusted discount rates, and nonperformance risk. Any change in the fair value of the contingent consideration subsequent to the acquisition date is recognized in acquisition related (gain) expense, net, a component of operating expenses, in our consolidated statements of income. This method requires significant management judgment, including the probability of achieving certain future milestones and discount rates. Future changes in our estimates could result in expenses or gains.

Management typically uses the discounted cash flow method to value our acquired intangible assets. This method requires significant management judgment to forecast future operating results and establish residual growth rates and discount factors. The estimates we use to value and amortize intangible assets are consistent with the plans and estimates that we use to manage our business and are based on available historical information and industry estimates and averages. If the subsequent actual results and updated projections of the underlying business activity change compared with the assumptions and projections used to develop these values, we could experience impairment charges. In addition, we have estimated the economic lives of certain acquired assets and these lives are used to calculate depreciation and amortization expense. If our estimates of the economic lives change, depreciation or amortization expenses could be accelerated or slowed.

Intangible Assets and Other Long-Lived Assets — Impairment Assessments

We regularly perform reviews to determine if the carrying values of our long-lived assets are impaired. A review of identifiable intangible assets and other long-lived assets is performed when an event occurs indicating the potential for impairment. If indicators of impairment exist, we assess the recoverability of the affected long-lived assets and compare their fair values to the respective carrying amounts.

In order to estimate the fair value of identifiable intangible assets and other long-lived assets, we estimate the present value of future cash flows from those assets. The key assumptions that we use in our discounted cash flow model are the amount and timing of estimated future cash flows to be generated by the asset over an extended period of time and a rate of return that considers the relative risk of achieving the cash flows, the time value of money, and other factors that a willing market participant would consider. Significant judgment is required to estimate the amount and timing of future cash flows and the relative risk of achieving those cash flows.

Assumptions and estimates about future values and remaining useful lives are complex and often subjective. They can be affected by a variety of factors, including external factors such as industry and economic trends, and internal factors such as changes in our business strategy and our internal forecasts. For example, if our future operating results do not meet current forecasts or if we experience a sustained decline in our market capitalization that is determined to be indicative of a reduction in fair value of our reporting unit, we may be required to record future impairment charges for purchased intangible assets. Impairment charges could materially decrease our future net income and result in lower asset values on our balance sheet.

Share-Based Compensation

We are required to measure and recognize compensation expense for all share-based payments based on estimated fair value. We estimate the fair value of stock options granted and stock purchases under our employee stock purchase plan using the Black-Scholes-Merton (BSM) option-pricing model. The fair value of our restricted stock units is based on the market price of our common stock on the date of grant.

The determination of fair value of share-based awards requires the use of certain estimates and highly judgmental assumptions that affect the amount of share-based compensation expense recognized in our consolidated statements of income. These include estimates of the expected volatility of our stock price, expected life of an award, expected dividends, the risk-free interest rate, and forecast of our future financial performance, in the case of performance stock units. We determine the volatility of our stock price by equally weighing the historical and implied volatility of our common stock. The historical volatility of our common stock over the most recent period is generally commensurate with the estimated expected life of our stock awards, adjusted for the impact of unusual fluctuations not reasonably expected to recur, and other relevant factors.

38


Implied volatility is calculated from the implied market volatility of exchange-traded call options on our common stock. The expected life of an award is based on historical forfeiture experience, exercise activity, and on the terms and conditions of the stock awards. We determined expected dividend yield to be 0% given we have never declared or paid any cash dividends on our common stock and we currently do not anticipate paying such cash dividends. The risk-free interest rate is based upon U.S. Treasury securities with remaining terms similar to the expected term of the share-based awards. We update our forecast of future financial performance periodically, which impacts our estimate of the number of shares to be issued pursuant to the outstanding performance stock units. We amortize the fair value of share-based compensation on a straight-line basis over the requisite service periods of the awards. If any of the assumptions used change significantly, share-based compensation expense may differ materially from what we have recorded in the current period.

Warranties

We generally provide a one-year warranty on instruments. Additionally, we provide a warranty on consumables through the expiration date, which generally ranges from six to twelve months after the manufacture date. We establish an accrual for estimated warranty expenses based on historical experience as well as anticipated product performance. We periodically review the adequacy of our warranty reserve, and adjust, if necessary, the warranty percentage and accrual based on actual experience and estimated costs to be incurred. If our estimates of warranty obligation change or if actual product performance is below our expectations we may incur additional warranty expense.

Cease-Use Loss upon Exit of Facility

We may, from time to time, relocate or consolidate our office locations and cease to use a facility for which the lease continues beyond the cease-use date. We estimate cease-use loss as the present value of the remaining lease obligation offset by estimated sublease rental receipts during the remaining lease period, adjusted for deferred items and leasehold improvements. In this process, management is required to make significant judgments to estimate the present value of future cash flows from the assumed sublease, including the amount and timing of estimated sublease rental receipts, and the risk-adjusted discount rate. These assumptions are subjective in nature and the actual future cash flows could differ from our estimates, resulting in significant adjustments to the cease-use loss recorded.

Income Taxes

Our provision for income taxes, deferred tax assets and liabilities, and reserves for unrecognized tax benefits reflect our best assessment of estimated future taxes to be paid. Significant judgments and estimates based on interpretations of existing tax laws or regulations in the United States and the numerous foreign jurisdictions where we are subject to income tax are required in determining our provision for income taxes. Changes in tax laws, statutory tax rates, and estimates of our future taxable income could impact the deferred tax assets and liabilities provided for in the consolidated financial statements and would require an adjustment to the provision for income taxes.

Deferred tax assets are regularly assessed to determine the likelihood they will be recovered from future taxable income. A valuation allowance is established when we believe it is more likely than not the future realization of all or some of a deferred tax asset will not be achieved. In evaluating our ability to recover deferred tax assets within the jurisdiction which they arise, we consider all available positive and negative evidence. Factors reviewed include the cumulative pre-tax book income for the past three years, scheduled reversals of deferred tax liabilities, our history of earnings and reliability of our forecasts, projections of pre-tax book income over the foreseeable future, and the impact of any feasible and prudent tax planning strategies. Based on the available evidence as of January 3, 2016, we were not able to conclude it is more likely than not certain U.S. deferred tax assets will be realized. Therefore, we recorded a valuation allowance of $13.4 million against certain U.S. and foreign deferred tax assets.

We recognize the impact of a tax position in our financial statements only if that position is more likely than not of being sustained upon examination by taxing authorities, based on the technical merits of the position. Tax authorities regularly examine our returns in the jurisdictions in which we do business and we regularly assess the tax risk of our return filing positions. Due to the complexity of some of the uncertainties, the ultimate resolution may result in payments that are materially different from our current estimate of the tax liability. These differences, as well as any interest and penalties, will be reflected in the provision for income taxes in the period in which they are determined.



39


Recent Accounting Pronouncements

For summary of recent accounting pronouncements applicable to our consolidated financial statement see note “1 Organization and Summary of Significant Accounting Policies” in Part II, Item 8, Notes to Consolidated Financial Statements, which is incorporated herein by reference.

ITEM 7A.
Quantitative and Qualitative Disclosures About Market Risk.

Interest Rate Sensitivity

Our investment portfolio is exposed to market risk from changes in interest rates. The fair market value of fixed rate securities may be adversely impacted by fluctuations in interest rates while income earned on floating rate securities may decline as a result of decreases in interest rates. Under our current policies, we do not use interest rate derivative instruments to manage exposure to interest rate changes. We attempt to ensure the safety and preservation of our invested principal funds by limiting default risk, market risk, and reinvestment risk. We mitigate default risk by investing in investment grade securities. We have historically maintained a relatively short average maturity for our investment portfolio, and we believe a hypothetical 100 basis point adverse move in interest rates along the entire interest rate yield curve would not materially affect the fair value of our interest sensitive financial instruments.

Changes in interest rates may impact gains or losses from the conversion of our outstanding convertible senior notes. In June 2014, we issued $632.5 million aggregate principal amount of 0% convertible senior notes due 2019 (2019 Notes) and $517.5 million aggregate principal amount of 0.5% convertible senior notes due 2021 (2021 Notes). Similar to our 0.25% convertible senior notes due 2016, at our election, the notes are convertible into cash, shares of our common stock, or a combination of cash and shares of our common stock under certain circumstances, including trading price conditions related to our common stock. If the trading price of our common stock reaches a price at 130% above the conversion price, the notes will become convertible. Upon conversion, we are required to record a gain or loss for the difference between the fair value of the debt to be extinguished and its corresponding net carrying value. The fair value of the debt to be extinguished depends on our then-current incremental borrowing rate. If our incremental borrowing rate at the time of conversion is higher or lower than the implied interest rate of the notes, we will record a gain or loss in our consolidated statement of income during the period in which the notes are converted. The implicit interest rates for the 2019 and 2021 Notes were 2.9% and 3.5%, respectively. An incremental borrowing rate that is a hypothetical 100 basis points lower than the implicit interest rate upon conversion of $100.0 million aggregate principal amount of each of the 2019 and 2021 Notes would result in losses of approximately $3.3 million and $4.8 million, respectively.

Foreign Currency Exchange Risk

We conduct a portion of our business in currencies other than the company’s U.S. dollar functional currency. These transactions give rise to monetary assets and liabilities that are denominated in currencies other than the U.S. dollar. The value of these monetary assets and liabilities are subject to changes in currency exchange rates from the time the transactions are originated until settlement in cash. Our foreign currency exposures are primarily concentrated in the Euro, Yen, and Australian dollar. Both realized and unrealized gains or losses on the value of these monetary assets and liabilities are included in the determination of net income.

We use forward exchange contracts to manage foreign currency risks related to monetary assets and liabilities denominated in currencies other than the U.S. dollar. We only use derivative financial instruments to reduce foreign currency exchange rate risks; we do not hold any derivative financial instruments for trading or speculative purposes. We primarily use forward exchange contracts to hedge foreign currency exposures, and they generally have terms of one month or less. Realized and unrealized gains or losses on the value of financial contracts entered into to hedge the exchange rate exposure of these monetary assets and liabilities are also included in the determination of net income, as they have not been designated for hedge accounting. These contracts, which settle monthly, effectively fix the exchange rate at which these specific monetary assets and liabilities will be settled, so that gains or losses on the forward contracts offset the gains or losses from changes in the value of the underlying monetary assets and liabilities. As of January 3, 2016, the total notional amount of outstanding forward contracts in place for foreign currency purchases was $61.3 million.

40


ITEM 8.
Financial Statements and Supplementary Data.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS



41


REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Stockholders of
Illumina, Inc.

We have audited the accompanying consolidated balance sheets of Illumina, Inc. as of January 3, 2016 and December 28, 2014, and the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows for each of the three fiscal years in the period ended January 3, 2016. Our audits also included the financial statement schedule listed in the Index at Item 15. These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Illumina, Inc. at January 3, 2016 and December 28, 2014, and the consolidated results of its operations and its cash flows for each of the three fiscal years in the period ended January 3, 2016, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Illumina, Inc.’s internal control over financial reporting as of January 3, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated March 2, 2016 expressed an unqualified opinion thereon.

/s/ ERNST & YOUNG LLP

San Diego, California

March 2, 2016

42


ILLUMINA, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except par value)
 
January 3,
2016
 
December 28,
2014
ASSETS
Current assets:
 

 
 

Cash and cash equivalents
$
768,770

 
$
636,154

Short-term investments
617,450

 
702,217

Accounts receivable, net
385,529

 
289,458

Inventory
270,777

 
191,144

Deferred tax assets, current portion

 
40,786

Prepaid expenses and other current assets
54,297

 
29,844

Total current assets
2,096,823

 
1,889,603

Property and equipment, net
342,694

 
265,264

Goodwill
752,629

 
724,904

Intangible assets, net
273,621

 
314,500

Deferred tax assets, long-term portion
134,515

 
49,848

Other assets
87,465

 
95,521

Total assets
$
3,687,747

 
$
3,339,640

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
 

 
 

Accounts payable
$
139,226

 
$
82,626

Accrued liabilities
396,339

 
335,276

Long-term debt, current portion
74,929

 
304,256

Total current liabilities
610,494

 
722,158

Long-term debt
1,015,649

 
986,780

Other long-term liabilities
180,505

 
167,904

Commitments and contingencies


 


Redeemable noncontrolling interests
32,546

 

Stockholders’ equity:
 

 
 
Preferred stock, $0.01 par value, 10,000 shares authorized; no shares issued and outstanding at January 3, 2016 and December 28, 2014

 

Common stock, $0.01 par value, 320,000 shares authorized; 186,663 shares issued and 146,584 outstanding at January 3, 2016; 181,332 shares issued and 143,629 outstanding at December 28, 2014
1,859

 
1,805

Additional paid-in capital
2,497,501

 
2,172,940

Accumulated other comprehensive income (loss)
36

 
(1,080
)
Retained earnings
1,022,765

 
561,206

Treasury stock, 40,079 shares and 37,703 shares at cost at January 3, 2016 and December 28, 2014, respectively
(1,673,608
)
 
(1,272,073
)
Total stockholders’ equity
1,848,553

 
1,462,798

Total liabilities and stockholders’ equity
$
3,687,747

 
$
3,339,640


See accompanying notes to consolidated financial statements.



43


ILLUMINA, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
 
Years Ended
 
January 3,
2016
 
December 28,
2014
 
December 29,
2013
Revenue:
 

 
 

 
 

Product revenue
$
1,890,633

 
$
1,619,511

 
$
1,264,656

Service and other revenue
329,129

 
241,847

 
156,522

Total revenue
2,219,762

 
1,861,358

 
1,421,178

Cost of revenue:
 

 
 

 
 

Cost of product revenue
490,812

 
431,920

 
407,877

Cost of service and other revenue
133,850

 
92,355

 
67,811

Amortization of acquired intangible assets
45,810

 
39,373

 
33,603

Total cost of revenue
670,472

 
563,648

 
509,291

Gross profit
1,549,290

 
1,297,710

 
911,887

Operating expense:
 

 
 

 
 

Research and development
401,527

 
388,055

 
276,743

Selling, general and administrative
524,657

 
466,283

 
381,040

Legal contingencies
19,000

 
(74,338
)
 
115,369

Acquisition related gain, net
(6,124
)
 
(2,639
)
 
(11,617
)
Headquarter relocation
(2,611
)
 
5,638

 
2,624

Unsolicited tender offer related expense

 

 
13,621

Total operating expense
936,449

 
782,999

 
777,780

Income from operations
612,841

 
514,711

 
134,107

Other income (expense):
 

 
 

 
 

Interest income
5,024

 
3,901

 
4,887

Interest expense
(42,121
)
 
(41,728
)
 
(39,690
)
Cost-method investment gain, net
15,601

 
4,427

 
61,357

Other expense, net
(8,203
)
 
(32,553
)
 
(1,347
)
Total other (expense) income, net
(29,699
)
 
(65,953
)
 
25,207

Income before income taxes
583,142

 
448,758

 
159,314

Provision for income taxes
125,752

 
95,407

 
34,006

Consolidated net income
457,390

 
353,351

 
125,308

Add: Net loss attributable to noncontrolling interests
4,169

 

 

Net income attributable to Illumina stockholders
$
461,559

 
$
353,351

 
$
125,308

Earnings per share attributable to Illumina stockholders:
 
 
 
 
 
Basic
$
3.19

 
$
2.61

 
$
1.00

Diluted
$
3.10

 
$
2.37

 
$
0.90

Shares used in computing earnings per common share:
 
 
 
 
 
Basic
144,826

 
135,553

 
125,076

Diluted
149,069

 
148,977

 
139,936


See accompanying notes to consolidated financial statements.


44


ILLUMINA, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
 
 
 
Years Ended
 
 
January 3,
2016
 
December 28,
2014
 
December 29,
2013
Consolidated net income
 
$
457,390

 
$
353,351

 
$
125,308

Unrealized gain (loss) on available-for-sale securities, net of deferred tax
 
1,116

 
(2,314
)
 
(889
)
Total consolidated comprehensive income
 
458,506

 
351,037

 
124,419

Add: Comprehensive loss attributable to noncontrolling interests
 
4,169

 

 

Comprehensive income attributable to Illumina stockholders
 
$
462,675

 
$
351,037

 
$
124,419

See accompanying notes to consolidated financial statements.


45


ILLUMINA, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
 
 
 
 
 
Additional
 
Accumulated Other
 
 
 
 
 
 
 
Total
 
Common Stock
 
Paid-In
 
Comprehensive
 
Retained
 
Treasury Stock
 
Stockholders’
 
Shares
 
Amount
 
Capital
 
Income (Loss)
 
Earnings
 
Shares
 
Amount
 
Equity
 
(in thousands)
Balance as of December 30, 2012
170,171

 
$
1,703

 
$
2,419,831

 
$
2,123

 
$
82,547

 
(46,228
)
 
$
(1,187,623
)
 
$
1,318,581

Net income

 

 

 

 
125,308

 

 

 
125,308

Unrealized loss on available-for-sale securities, net of deferred tax

 

 

 
(889
)
 

 

 

 
(889
)
Issuance of common stock, net of repurchases
5,034

 
50

 
98,215

 

 

 
(1,254
)
 
(52,722
)
 
45,543

Reclassification of conversion option subject to cash settlement

 

 
2,338

 

 

 

 

 
2,338

Share-based compensation

 

 
105,771

 

 

 

 

 
105,771

Net incremental tax benefit related to share-based compensation

 

 
53,032

 

 

 

 

 
53,032

Equity based contingent compensation

 

 
8,278

 

 

 

 

 
8,278

Fair value of options assumed in acquisition

 

 
240

 

 

 

 

 
240

Warrant retirement

 

 
(125,000
)
 

 

 

 

 
(125,000
)
Balance as of December 29, 2013
175,205

 
1,753

 
2,562,705

 
1,234

 
207,855

 
(47,482
)
 
(1,240,345
)
 
1,533,202

Net income

 

 

 

 
353,351

 

 

 
353,351

Unrealized loss on available-for-sale securities, net of deferred tax

 

 

 
(2,314
)
 

 

 

 
(2,314
)
Issuance of common stock, net of repurchases
6,127

 
52

 
96,204

 

 

 
(2,696
)
 
(247,221
)
 
(150,965
)
Tax impact from the issuance, repurchase and conversion of convertible notes

 

 
(58,354
)
 

 

 

 

 
(58,354
)
Reclassification of conversion option subject to cash settlement

 

 
282

 

 

 

 

 
282

Share-based compensation

 

 
153,189

 

 

 

 

 
153,189

Net incremental tax benefit related to share-based compensation

 

 
126,477

 

 

 

 

 
126,477

Equity based contingent compensation