12.

INCOME TAXES

The components of income before income taxes are as follows (in thousands):

	Year Ended December 31,
	2018			2017			2016
United States	$	(13,151	)	$	(19,115	)	$	(14,431	)
Foreign		131,633			102,059			71,695
Income before income taxes	$	118,482		$	82,944		$	57,264

The components of the income tax provision are as follows (in thousands):

	Year Ended December 31,
	2018			2017			2016
Current:
Federal	$	11,023		$	31,025		$	2,527
State		4			2			-
Foreign		2,992			1,967			2,013
Deferred:
Federal		(797	)		(15,426	)		-
Foreign		(8	)		173			4
Income tax provision	$	13,214		$	17,741		$	4,544

The effective tax rate differs from the applicable U.S. statutory federal income tax rate as follows:

	Year Ended December 31,
	2018			2017			2016
U.S. statutory federal tax rate		21.0	%		35.0	%		34.0	%
Foreign income at lower rates		(22.0	)		(41.2	)		(41.1	)
Impact of the 2017 Tax Act:
Remeasurement of deferred taxes		-			11.8			-
One-time deemed repatriation transition tax		0.6			50.5			-
Global intangible low-taxed income ("GILTI")		14.4			-			-
Changes in valuation allowance		-			(36.2	)		11.0
Stock-based compensation		(1.1	)		2.2			2.2
Other adjustments		(1.7	)		(0.7	)		1.8
Effective tax rate		11.2	%		21.4	%		7.9	%

The components of net deferred tax assets consist of the following (in thousands):

	December 31,
	2018			2017
Deferred tax assets:
R&D tax credits	$	11,833		$	10,331
Stock-based compensation		10,040			9,157
Deferred compensation		6,829			5,505
Depreciation and amortization		-			191
Net operating losses		1,133			1,377
Other expenses not currently deductible		1,852			1,924
Deferred tax assets, gross		31,687			28,485
Valuation allowance		(13,041	)		(12,568	)
Deferred tax assets, net of valuation allowance		18,646			15,917
Deferred tax liabilities:
Depreciation and amortization		(711	)		-
Undistributed foreign earnings		(1,105	)		-
Deferred tax liabilities		(1,816	)		-
Net deferred tax assets	$	16,830		$	15,917

2017

Tax Act

Under ASC

No.

740,

the effects of a new legislation are recognized upon enactment. Accordingly, the Company was required to recognize the tax effects of the

2017

Tax Act beginning in the

fourth

quarter of

2017.

December 22, 2017,

the SEC issued SAB

118,

which addressed the application of ASC

No.

740

in situations when a registrant did

not

have the necessary information available, prepared, or analyzed in reasonable detail to complete the accounting for certain income tax effects of the

2017

Tax Act. In accordance with SAB

118,

for matters that have

not

been completed, the Company would recognize provisional amounts to the extent that they were reasonably estimable. Any subsequent adjustments to the provisional amounts would be recorded to the income tax provision in the period when the analysis was complete. The Company was permitted to finalize the analysis within a

one

-year measurement period.

As of

December 31, 2017,

the Company had

not

completed the accounting for the tax effects of the

2017

Tax Act and recorded certain provisional amounts based on reasonable estimates. In

December 2018,

the Company finalized the analysis of the

2017

Tax Act and recorded certain adjustments to the provisional amounts, as discussed further below.

The Company expects further guidance

may

be forthcoming from the FASB and the SEC, as well as regulations, interpretations and rulings from federal and state tax agencies, which could result in additional impact and adjustments to the Company’s income tax provisions in future periods.

Corporate Tax Rate and Remeasurement of Deferred Taxes:

The

2017

Tax Act reduces the corporate tax rate from

35%

21%,

effective

January 1, 2018.

Because ASC

No.

740

requires the effect of a change in tax laws to be recognized as of the date of enactment, the Company remeasured its deferred tax balance as of

December 22, 2017

and recorded a provisional amount of

$9.8

million to the income tax provision as a result of the remeasurement for the year ended

December 31, 2017.

December 2018,

the Company finalized the analysis and did

not

make any adjustment to the provisional amount recorded for the year ended

December 31, 2017.

Deemed Repatriation Transition Tax:

The

2017

Tax Act mandates a

one

-time deemed repatriation transition tax of post-

1986

undistributed foreign earnings and profits (“E&P”) on which U.S. income taxes were previously deferred. For the year ended

December 31, 2017,

the Company recorded a provisional amount of

$41.9

million related to the transition tax expense. After the utilization of R&D tax credits of

$18.0

million, the provisional transition tax liability was

$23.9

million. In

December 2018,

the Company finalized the analysis of the transition tax, and recorded an increase of

$1.3

million to the transition tax expense and a net increase of

$0.7

million to the transition tax liability.

As permitted by the

2017

Tax Act, the Company has elected to pay the transition tax liability of

$24.6

million in installments on an interest-free basis over

eight

years through

2025.

For the year ended

December 31, 2018,

the Company paid

$2.6

million of the transition tax. As of

December 31, 2018,

$1.3

million of the remaining transition tax was recorded in current accrued liabilities and

$20.7

million was recorded in long-term income tax liabilities.

Undistributed Earnings of Subsidiaries:

The Company previously considered the earnings in its non-U.S. subsidiaries to be indefinitely reinvested and, accordingly, recorded

deferred income taxes. Prior to the transition tax, the Company had an excess of the amount for financial reporting over the tax basis in its foreign subsidiaries including undistributed foreign earnings of

$390.2

million. While the transition tax resulted in the reduction of the excess of the amount for financial reporting over the tax basis in its foreign subsidiaries and subjected

$123.2

million of undistributed foreign earnings to tax, an actual repatriation from its non-U.S. subsidiaries could be subject to additional foreign withholding taxes and U.S. state taxes.

The Company has analyzed its global working capital and cash requirements, and has determined that it plans to repatriate cash from its Bermuda subsidiary on an ongoing basis to fund its future U.S. based expenditures and dividends. For the other foreign subsidiaries, the Company expects to indefinitely reinvest undistributed earnings to fund foreign operations and their research and development. As of

December 31, 2018,

the Company recorded deferred taxes liabilities of

$1.1

million related to California state taxes, which were netted against deferred tax assets.

GILTI

The

2017

Tax Act subjects a U.S. parent shareholder to taxation of its GILTI, effective

January 1, 2018.

The GILTI inclusions impact companies that have foreign earnings generated without a large aggregate foreign fixed asset base and whose earnings are being taxed at a low tax rate. For the year ended

December 31, 2018,

the Company included

$81.1

million related to the GILTI provisions as additional Subpart F income, which was accounted for as a period cost.

Executive Compensation Deductions:

The

2017

Tax Act retains the

million limitation on deductible compensation to covered employees, which include the Chief Executive Officer and

four

other highest paid officers, under IRC Section

162

(m). However, it eliminates the exception for performance-based cash or stock compensation and expands the definition of covered employees to include the Chief Financial Officer. Accordingly, beginning

January 1, 2018,

the deductible compensation to covered employees is generally subject to the

million limitation.

Release of Valuation Allowance

Management periodically evaluates the realizability of the Company’s deferred tax assets based on all available evidence. The realizability of the Company’s net deferred tax assets is dependent on its ability to generate sufficient future taxable income during periods prior to the expiration of tax attributes to fully utilize these assets. The Company maintained a full valuation allowance on its U.S. deferred tax assets as of the

third

quarter of

2017.

In the

fourth

quarter of

2017,

the Company assessed the realizability of the deferred tax assets and concluded that it was more likely than

not

that its federal deferred tax assets would be realizable, due principally to the enactment of the

2017

Tax Act.

In accordance with ASC

No.

740,

management considered all available evidence, both positive and negative, to determine whether, based on the weight of that evidence, a valuation allowance for deferred tax assets was needed. The Company’s conclusion was primarily driven by the following positive evidence:

●

The Company forecasted taxable income in the U.S. in future periods. The enactment of GILTI will result in additional Subpart F income each year.

●

Executive performance-based equity awards are now subject to the Section

162

(m) deduction limitation.

●

The Company has a history of utilizing all federal tax attributes before expiration.

As a result, the Company released

$21.6

million of valuation allowance on federal deferred tax assets, which was recorded as a benefit in the income tax provision in the

fourth

quarter of

2017.

The Company continues to maintain a full valuation allowance on the deferred tax assets in California, primarily due to a low apportionment factor and the amount of R&D tax credits generated is greater than the amount utilized.

Other Income Tax Provision Matters

As of

December 31, 2018,

the Company did

not

have federal net operating loss carryforwards. As of

December 31, 2018,

the state net operating loss carryforwards for income tax purposes were

$16.2

million, which will expire beginning in

2027.

As of

December 31, 2018,

the Company had

R&D tax credit carryforwards for federal income tax purposes, and

$24.1

million for state income tax purposes, which can be carried forward indefinitely.

In the event of a change in ownership, as defined under federal and state tax laws, the Company's net operating loss and tax credit carryforwards could be subject to annual limitations. The annual limitations could result in the expiration of the net operating loss and tax credit carryforwards prior to utilization.

July 2018,

the U.S. Ninth Circuit Court of Appeals overturned the U.S. Tax Court’s unanimous

2015

decision in

Altera v. Commissioner

, holding that the Internal Revenue Service ("IRS") did

not

violate the rule-making procedures required by the Administrative Procedures Act. In the case

the taxpayer challenged IRS regulations that required participants in qualified cost sharing arrangements to share stock based compensation costs. The Tax Court had invalidated those regulations, in part because the Treasury Department failed to adequately consider significant taxpayer comments when adopting them. In

August 2018,

the U.S. Ninth Circuit Court of Appeals withdrew its

July 2018

opinion. At this time, the Treasury Department has

not

withdrawn the requirement from its regulations to include stock-based compensation in the cost pool to be shared under a cost-sharing arrangement. Due to the uncertainty surrounding the status of the current regulations, questions related to the scope of potential benefits, and the risk of the Tax Court’s decision being overturned upon appeal, the Company has

not

recorded any adjustments as of

December 31, 2018.

The Company will continue to monitor developments related to this case and the potential impact on its financial statements.

December 31, 2018,

the Company had

$20.5

million of unrecognized tax benefits,

$12.8

million of which would affect its effective tax rate if recognized after considering the valuation allowance. At

December 31, 2017,

the Company had

$16.3

million of unrecognized tax benefits,

$9.1

million of which would affect its effective tax rate if recognized after considering the valuation allowance.

A reconciliation of the gross unrecognized tax benefits is as follows (in thousands):

Balance as of January 1, 2016	$	12,093
Increase for tax position of prior year		243
Increase for tax position of current year		2,095
Balance as of December 31, 2016		14,431
Increase for tax position of prior year		169
Increase for tax position of current year		2,360
Decrease due to lapse of statute of limitation		(688	)
Balance as of December 31, 2017		16,272
Increase for tax position of prior year		1,474
Increase for tax position of current year		2,957
Decrease due to lapse of statute of limitation		(212	)
Balance as of December 31, 2018	$	20,491

The Company recognizes interest and penalties, if any, related to uncertain tax positions in its income tax provision. As of

December 31, 2018

and

2017,

the Company has

$0.9

million and

$0.5

million, respectively, of accrued interest related to uncertain tax positions, which were recorded in long-term income tax liabilities in the Consolidated Balance Sheets.

Uncertain tax positions relate to the allocation of income and deductions among the Company’s global entities and to the determination of the research and development tax credit. It is reasonably possible that over the next

twelve

-month period, the Company

may

experience increases or decreases in its unrecognized tax benefits. However, it is

not

possible to determine either the magnitude or the range of increases or decreases at this time.

The Company currently has reduced tax rates in its subsidiaries in Chengdu and Hangzhou, China for performing research and development activities through

2020

and

2019,

respectively. In addition, the Company had a tax holiday in Switzerland, which expired on

December 31, 2018

The tax holiday and tax incentives had an insignificant impact on earnings per share for the periods presented.

Income Tax Examination

The Company is subject to examination of its income tax returns by the IRS and other tax authorities. The Company’s U.S. federal income tax return for the year ended

December 31, 2014

was under examination by the IRS in

2016.

January 2017,

the IRS completed its examination with

adjustments.