8. INCOME TAXES

Components of income before income taxes and the income tax provision are as follows:

Income (loss) before income taxes


	Year ended December 31,
	2013			2012			2011
	(in thousands)
U.S.	$	(38,114	)	$	(17,849	)	$	51,618
Foreign		2,603			5,263			3,015

Total	$	(35,511	)	$	(12,586	)	$	54,633

Income taxes


	Year ended December 31,
	2013			2012			2011
	(in thousands)
Current
U.S.	$	—		$	(204	)	$	177
State		—			(357	)		2,777
Foreign		6			(163	)		173

Total current income tax expense (benefit)		6			(724	)		3,127

Deferred
U.S.		(5,863	)		(5,536	)		13,223
State		691			(1,049	)		224
Foreign		6			261			—

Total deferred income tax expense		(5,166	)		(6,324	)		13,447

Total income tax expense (benefit)	$	(5,160	)	$	(7,048	)	$	16,574

The reconciliation of income tax computed at the federal statutory rate to income before taxes is as follows:


	Year ended December 31,
	2013			2012			2011
U.S. Federal statutory rate		(34.0	)%		(34.0	)%		35.0	%
State taxes net of federal benefit		(5.5	)		(8.9	)		5.2
Permanent differences		—			—			(0.6	)
Foreign rate differential and transactional tax		(0.7	)		(3.8	)		(1.4	)
Impact of foreign tax holiday		(1.8	)		(10.4	)		—
Valuation allowance		26.9			—			(5.9	)
Other		0.6			1.1			(2.0	)

		(14.5	)%		(56.0	)%		30.3	%

Deferred income taxes reflect the net tax effects of the temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.

Significant components of the Company’s net deferred income taxes are as follows at December 31:


	2013			2012
	(in thousands)
Deferred tax assets:
Allowance for doubtful accounts	$	20		$	115
Inventory reserves		1,340			1,697
Accrued liabilities		76			316
Warrant interest expense		277			277
Stock compensation expense		2,850			2,503
State net operating loss—net of tax		3,500			1,524
Net operating loss carryforward		16,206			4,537
Unrealized loss on securities held for sale		240			—
Tax credits		514			297
Valuation allowance		(9,547	)		—

Total deferred tax assets		15,476			11,266
Deferred tax liability:
Depreciation		(15,620	)		(16,685	)
Unrealized gain on securities held for sale		—			(340	)
Prepaid expenses		(123	)		(140	)

Net deferred tax liability	$	(267	)	$	(5,899	)

The Company’s deferred income tax assets and liabilities were reported on the consolidated balance sheets as follows.


	2013			2012
	(in thousands)
Current deferred income tax assets	$	—		$	4,427
Long term deferred income tax liabilities		(267	)		(10,326	)

Net deferred tax liability	$	(267	)	$	(5,899	)

In accordance with ASC740 “Accounting for Income Taxes” (“ASC740”), the Company evaluates its deferred income tax assets quarterly to determine if valuation allowances are required or should be adjusted. ASC740 requires that companies assess whether valuation allowances should be established against their deferred tax assets based on consideration of all available evidence, both positive and negative, using a “more likely than not” standard. Due to the losses in the fourth quarter of 2013, the Company is in a cumulative loss position for the past three years which is considered significant negative evidence that is difficult to overcome on a “more likely than not” standard through objectively verifiable data. While the Company believes its financial outlook remains positive, under the accounting standards objective verifiable evidence will have greater weight than subjective evidence such as the Company’s projections for future growth. Based on an evaluation in accordance with the accounting standards, as of December 31, 2013, a valuation allowance of $9.5 million has been recorded against the net U.S. deferred tax assets in order to measure only the portion of the deferred tax assets that are more likely than not to be realized based on the weight of all the available evidence. Until an appropriate level of profitability is attained, the Company expects to maintain a full valuation allowance on its U.S. net deferred tax assets. Any U.S. tax benefits or tax expense recorded on the Company’s Consolidated Statement of Operations will be offset with a corresponding valuation allowance until such time that the Company changes its determination related to the realization of deferred tax assets. In the event that the Company changes its determination as to the amount of deferred tax assets that can be realized, the Company will adjust its valuation allowance with a corresponding impact to the provision for income taxes in the period in which such determination is made.

At December 31, 2013, the Company had separate federal and Illinois net operating loss carryforwards of $72.5 million and $97.3 million, respectively, which begin to expire in 2026 and 2019, respectively. The Illinois State Legislature has suspended the full use of net operating loss carryforwards for taxable years ending after December 31, 2010 and before December 31, 2011, and has limited the net operation loss deduction to $100,000 for the years ending December 31, 2012 through December 31, 2013. In addition, at December 31, 2013, the Company had Illinois investment tax credits and research and development credits of $155,000 and $54,000, respectively which begin to expire in 2017. Tax credits are accounted for using the flow through method and therefore are taken in the year earned.

The Company completed an analysis of the utilization of net operating losses subject to limits based upon certain ownership changes as of December 31, 2012. The results of this analysis indicated no ownership change limiting the utilization of net operating losses and tax credits. The Company believes that an updated analysis will not likely indicate an ownership change that would limit the utilization of net operating losses and tax credits at December 31, 2013. The Company will be updating its analysis in 2014 and the results of that analysis may because of the stock offering in January 2014 indicate an ownership change. If an ownership change is determined, the utilization of the net operating losses and the tax credits may be limited. Additionally, the Company has not recorded a deferred tax asset NOL attributable to stock option exercises in the amount of $21.8 million for federal purposes and $26.2 million for state purposes because the Company cannot record these excess tax benefit stock option deductions until the benefit has been realized by actually reducing taxes payable.

The Company prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken, or expected to be taken, in a tax return. The following is a reconciliation of the unrecognized tax benefits taken or expected to be taken in a tax return that have been recorded on the Company’s financial statements for the years ended December 31, 2013.


	(in thousands)
Balance at January 1, 2012	$	363
Decrease related to prior year		(363	)
Tax positions related to current year		1,140

Balance at December 31, 2012		1,140
Tax positions related to prior year		—
Tax positions related to current year		—

Balance at December 31, 2013	$	1,140

The Company is evaluating the impact of the recent regulations concerning amounts paid to acquire, produce, or improve tangible property and recovery of basis upon disposition. Given that Revenue Procedures were issued in late January 2014, the Company is determining whether or not any changes in an accounting method are required. Presently, the Company does not anticipate a material impact to its financial statements.

For the year ended December 31, 2011 the Company accrued $11,000 for potential penalties related to income taxes. There were no interest or penalties related to income taxes that have been accrued or recognized as of and for the years ended December 31, 2013 and 2012. Included in the balance of total unrecognized tax benefits at December 31, 2013, are potential benefits of $1.0 million that if recognized, would affect the effective tax rate in the year recognized.

The Company files income tax returns in the United States federal jurisdiction and in a state jurisdiction. During 2009, the Company began foreign operations in Malaysia and Japan and is subject to local income taxes in both jurisdictions. The Company is exempt from Malaysian income tax for a ten-year period beginning in 2009. The impact of this tax holiday decreased foreign taxes for the years ended December 31, 2013, 2012 and 2011 by approximately $651,000, $1.3 million, and $535,000, respectively. The benefit of the tax holiday on net income per share (diluted) for the years ended December 31, 2013, 2012 and 2011 was $0.03, $0.06 and $0.02, respectively. All tax years in Malaysia are open to examination by tax authorities.

The Company’s federal tax return for the periods ended December 31, 2010, 2008 and 2007 have been audited by the Internal Revenue Service (IRS) with no changes made to the Company’s taxable losses for those years. The Company’s state tax returns for the periods ended December 31, 2010 and 2009 have been audited by the Illinois Department of Revenue with no changes made to the Company’s taxable losses for those years. Due to the existence of net operating loss carryforwards, tax years ended December 31, 2002 thru 2006 and 2008 thru 2013 are open to examination by tax authorities.

U.S. income and foreign withholding taxes have not been provided on approximately $11.1 million of cumulative undistributed earnings of foreign subsidiaries. We intend to reinvest these earnings for the foreseeable future. If these amounts were distributed to the U.S., in the form of a dividend, at December 31, 2013 there would have been no impact to the provision of income taxes. Due to the U.S. NOL’s and the full valuation allowance recorded any additional income from the dividends would have been offset by the NOL’s and a corresponding adjustment to the valuation allowance. At December 31, 2013 dividends per the Malaysia statute are not subject to withholding. Determination of the amount of unrecognized deferred income tax liabilities that may be due in the future on these earnings is not practicable because such liability, if any, is dependent on circumstances existing, if and when remittance occurs.