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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
__________________________________________
FORM 10-Q
__________________________________________
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| ý | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2018
OR
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| ¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission File Number 001-33155
IPG PHOTONICS CORPORATION
(Exact name of registrant as specified in its charter)
| | | | | |
Delaware | 04-3444218 |
(State or other jurisdiction of | (I.R.S. Employer |
incorporation or organization) | Identification Number) |
| |
50 Old Webster Road, Oxford, Massachusetts | 01540 |
(Address of principal executive offices) | (Zip code) |
(508) 373-1100
(Registrant’s telephone number, including area code)
__________________________________________
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES ý NO ¨
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 (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES ý NO ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.
| | | | | | | | | | | | | | |
Large Accelerated Filer | ý | | Accelerated Filer | ¨ |
Non-Accelerated Filer | ¨ | | Smaller Reporting Company | ¨ |
Emerging Growth Company | ¨ | | | |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ¨ NO ý
As of November 1, 2018, there were 54,364,246 and 53,400,171 shares of the registrant's common stock issued and outstanding.
TABLE OF CONTENTS
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EX-31.1 CERTIFICATION OF CEO PURSUANT TO RULE 13a-14(a) | |
EX-31.2 CERTIFICATION OF CFO PURSUANT TO RULE 13a-14(a) | |
EX-32 CERTIFICATION OF CEO AND CFO PURSUANT TO SECTION 1350 | |
EX-101.INS XBRL INSTANCE DOCUMENT | |
EX-101.SCH XBRL TAXONOMY EXTENSION SCHEMA | |
EX-101.CAL XBRL TAXONOMY EXTENSION CALCULATION LINKBASE | |
EX-101.LAB XBRL TAXONOMY EXTENSION LABEL LINKBASE | |
EX-101.PRE XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE | |
EX-101.DEF XBRL TAXONOMY EXTENSION DEFINITION LINKBASE | |
PART I-FINANCIAL INFORMATION
ITEM 1. UNAUDITED INTERIM FINANCIAL STATEMENTS
IPG PHOTONICS CORPORATION
CONSOLIDATED BALANCE SHEETS
| | | | | | | | | | | |
| September 30, | | December 31, |
| 2018 | | 2017 |
| (In thousands, except share and per share data) | | |
| ASSETS | | | |
| CURRENT ASSETS: | | | |
| Cash and cash equivalents | $ | 647,606 | | $ | 909,900 |
| Short-term investments | 474,422 | | 206,257 |
| Accounts receivable, net | 251,613 | | 237,278 |
| Inventories | 397,409 | | 307,712 |
| Prepaid income taxes | 61,222 | | 44,944 |
| Prepaid expenses and other current assets | 50,013 | | 47,919 |
| | | |
| Total current assets | 1,882,285 | | 1,754,010 |
| DEFERRED INCOME TAXES, NET | 19,995 | | 26,976 |
| GOODWILL | 56,769 | | 55,831 |
| INTANGIBLE ASSETS, NET | 45,844 | | 51,223 |
| PROPERTY, PLANT AND EQUIPMENT, NET | 529,163 | | 460,206 |
| OTHER ASSETS | 28,043 | | 19,009 |
| TOTAL ASSETS | $ | 2,562,099 | | $ | 2,367,255 |
| LIABILITIES AND EQUITY | | | |
| CURRENT LIABILITIES: | | | |
| | | |
| | | |
| Current portion of long-term debt | $ | 3,654 | | $ | 3,604 |
| Accounts payable | 29,494 | | 35,109 |
| Accrued expenses and other liabilities | 137,060 | | 144,417 |
| | | |
| Income taxes payable | 47,777 | | 15,773 |
| Total current liabilities | 217,985 | | 198,903 |
| DEFERRED INCOME TAXES AND OTHER LONG-TERM LIABILITIES | 94,675 | | 100,652 |
| LONG-TERM DEBT, NET OF CURRENT PORTION | 42,631 | | 45,378 |
| Total liabilities | 355,291 | | 344,933 |
| | | |
| COMMITMENTS AND CONTINGENCIES (NOTE 11) | | | |
| IPG PHOTONICS CORPORATION EQUITY: | | | |
| Common stock, $0.0001 par value, 175,000,000 shares authorized; 54,362,579 and 53,398,504 shares issued and outstanding, respectively, at September 30, 2018; 54,007,708 and 53,629,439 shares issued and outstanding, respectively, at December 31, 2017 | 5 | | 5 |
| Treasury stock, at cost (964,075 and 378,269 shares held) | (160,859) | | (48,933) |
| Additional paid-in capital | 738,285 | | 704,727 |
| Retained earnings | 1,772,941 | | 1,443,867 |
| Accumulated other comprehensive loss | (144,409) | | (77,344) |
| Total IPG Photonics Corporation equity | 2,205,963 | | 2,022,322 |
| NONCONTROLLING INTERESTS | 845 | | — |
| Total equity | 2,206,808 | | 2,022,322 |
| TOTAL LIABILITIES AND EQUITY | $ | 2,562,099 | | $ | 2,367,255 |
See notes to consolidated financial statements.
IPG PHOTONICS CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended September 30, | | | | Nine Months Ended September 30, | | |
| 2018 | | 2017 | | 2018 | | 2017 |
| (in thousands, except per share data) | | | | | | |
| NET SALES | $ | 356,346 | | $ | 392,615 | | $ | 1,129,823 | | $ | 1,047,834 |
| COST OF SALES | 161,162 | | 168,060 | | 496,303 | | 459,716 |
| GROSS PROFIT | 195,184 | | 224,555 | | 633,520 | | 588,118 |
| OPERATING EXPENSES: | | | | | | | |
| Sales and marketing | 13,479 | | 13,384 | | 41,531 | | 36,347 |
| Research and development | 30,909 | | 25,541 | | 91,268 | | 74,281 |
| General and administrative | 25,245 | | 21,491 | | 74,857 | | 59,092 |
| Loss (gain) on foreign exchange | 1,688 | | 3,917 | | (1,489) | | 15,553 |
| Total operating expenses | 71,321 | | 64,333 | | 206,167 | | 185,273 |
| OPERATING INCOME | 123,863 | | 160,222 | | 427,353 | | 402,845 |
| OTHER INCOME (EXPENSE), Net: | | | | | | | |
| Interest income, net | 3,884 | | (125) | | 4,925 | | 651 |
| Other income (expense), net | 423 | | 459 | | 1,252 | | (47) |
| Total other income | 4,307 | | 334 | | 6,177 | | 604 |
| INCOME BEFORE PROVISION FOR INCOME TAXES | 128,170 | | 160,556 | | 433,530 | | 403,449 |
| PROVISION FOR INCOME TAXES | (27,418) | | (44,959) | | (104,827) | | (108,817) |
| NET INCOME | 100,752 | | 115,597 | | 328,703 | | 294,632 |
| LESS: NET INCOME (LOSS) ATTRIBUTABLE TO NONCONTROLLING INTERESTS | 235 | | — | | 235 | | (26) |
| NET INCOME ATTRIBUTABLE TO IPG PHOTONICS CORPORATION | $ | 100,517 | | $ | 115,597 | | $ | 328,468 | | $ | 294,658 |
| NET INCOME ATTRIBUTABLE TO IPG PHOTONICS CORPORATION PER SHARE: | | | | | | | |
| Basic | $ | 1.88 | | $ | 2.16 | | $ | 6.12 | | $ | 5.51 |
| Diluted | $ | 1.84 | | $ | 2.11 | | $ | 5.97 | | $ | 5.40 |
| WEIGHTED AVERAGE SHARES OUTSTANDING: | | | | | | | |
| Basic | 53,571 | | 53,440 | | 53,677 | | 53,453 |
| Diluted | 54,696 | | 54,698 | | 54,995 | | 54,570 |
See notes to consolidated financial statements.
IPG PHOTONICS CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended September 30, | | | | Nine Months Ended September 30, | | |
| 2018 | | 2017 | | 2018 | | 2017 |
| (In thousands) | | | | | | |
| Net income | $ | 100,752 | | $ | 115,597 | | $ | 328,703 | | $ | 294,632 |
| Other comprehensive income, net of tax: | | | | | | | |
| Translation adjustments | (15,047) | | 29,855 | | (67,072) | | 89,076 |
| Unrealized gain (loss) on derivatives | (5) | | 11 | | (3) | | (35) |
| Effect of adopted accounting standards | — | | — | | 10 | | — |
| Available-for-sale investments, net of tax, reclassified to net income | — | | — | | — | | 298 |
| Total other comprehensive (loss) income | (15,052) | | 29,866 | | (67,065) | | 89,339 |
| Comprehensive income | 85,700 | | 145,463 | | 261,638 | | 383,971 |
| Comprehensive income (loss) attributable to noncontrolling interests | 196 | | — | | 196 | | (26) |
| Comprehensive income attributable to IPG Photonics Corporation | $ | 85,504 | | $ | 145,463 | | $ | 261,442 | | $ | 383,997 |
See notes to consolidated financial statements.
IPG PHOTONICS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
| | | | | | | | | | | |
| Nine Months Ended September 30, | | |
| 2018 | | 2017 |
| (In thousands) | | |
| CASH FLOWS FROM OPERATING ACTIVITIES: | | | |
| Net income | $ | 328,703 | | $ | 294,632 |
| Adjustments to reconcile net income to net cash provided by operating activities: | | | |
| Depreciation and amortization | 58,894 | | 46,416 |
| Deferred income taxes | 2,954 | | 14,534 |
| Stock-based compensation | 21,443 | | 16,989 |
| Unrealized (gain) loss on foreign currency transactions | (1,779) | | 8,197 |
| Other | (1,936) | | 699 |
| Provisions for inventory, warranty & bad debt | 30,582 | | 34,690 |
| Changes in assets and liabilities that (used) provided cash: | | | |
| Accounts receivable | (26,058) | | (56,416) |
| Inventories | (122,051) | | (39,697) |
| Prepaid expenses and other current assets | (4,925) | | (1,560) |
| Accounts payable | (1,319) | | 3,423 |
| Accrued expenses and other liabilities | (20,095) | | 1,809 |
| Income and other taxes payable | 15,838 | | (26,866) |
| | | |
| Net cash provided by operating activities | 280,251 | | 296,850 |
| CASH FLOWS FROM INVESTING ACTIVITIES: | | | |
| Purchases of and deposits on property, plant and equipment | (133,355) | | (99,221) |
| | | |
| Proceeds from sales of property, plant and equipment | 755 | | 15,437 |
| Purchases of investments | (566,498) | | (146,585) |
| Proceeds from sales and maturities of investments | 286,346 | | 188,143 |
| Acquisitions of businesses, net of cash acquired | (4,423) | | (50,594) |
| Other | 307 | | (496) |
| Net cash used in investing activities | (416,868) | | (93,316) |
| CASH FLOWS FROM FINANCING ACTIVITIES: | | | |
| Proceeds from line-of-credit facilities | 255 | | 6,761 |
| Payments on line-of-credit facilities | (255) | | (6,761) |
| Purchase of noncontrolling interests | — | | (197) |
| | | |
| Proceeds on long-term borrowings | — | | 28,000 |
| Principal payments on long-term borrowings | (2,696) | | (18,951) |
| Proceeds from issuance of common stock under employee stock option and purchase plans less payments for taxes related to net share settlement of equity awards | 12,115 | | 23,296 |
| Cash contributed by noncontrolling interests | 378 | | — |
| | | |
| Purchase of treasury stock, at cost | (111,926) | | (26,911) |
| Net cash (used in) provided by financing activities | (102,129) | | 5,237 |
| EFFECT OF CHANGES IN EXCHANGE RATES ON CASH AND CASH EQUIVALENTS | (23,548) | | 47,641 |
| NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS | (262,294) | | 256,412 |
| CASH AND CASH EQUIVALENTS — Beginning of period | 909,900 | | 623,855 |
| CASH AND CASH EQUIVALENTS — End of period | $ | 647,606 | | $ | 880,267 |
| SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: | | | |
| Cash paid for interest | $ | 2,402 | | $ | 1,965 |
| Cash paid for income taxes | $ | 94,801 | | $ | 118,660 |
| Non-cash transactions: | | | |
| Demonstration units transferred from inventory to other assets | $ | 3,787 | | $ | 3,290 |
| Inventory transferred to machinery and equipment | $ | 2,114 | | $ | 4,087 |
| Changes in accounts payable related to property, plant and equipment | $ | (3,337) | | $ | (15) |
| | | |
| | | |
See notes to consolidated financial statements.
IPG PHOTONICS CORPORATION
CONSOLIDATED STATEMENTS OF EQUITY
| | | | | | | | | | | | | | | | | | | | | | | |
| Nine Months Ended September 30, | | | | | | |
| 2018 | | | | 2017 | | |
| (In thousands, except share and per share data) | | | | | | |
| Shares | | Amount | | Shares | | Amount |
| COMMON STOCK | | | | | | | |
| Balance, beginning of year | 53,629,439 | | $ | 5 | | 53,251,805 | | $ | 5 |
| Exercise of stock options and conversion of restricted stock units | 342,673 | | — | | 543,547 | | — |
| Common stock issued under employee stock purchase plan | 12,198 | | — | | 19,882 | | — |
| Purchased common stock | (585,806) | | — | | (215,860) | | — |
| | | | | | | |
| | | | | | | |
| Balance, end of period | 53,398,504 | | 5 | | 53,599,374 | | 5 |
| TREASURY STOCK | | | | | | | |
| Balance, beginning of year | (378,269) | | (48,933) | | (102,774) | | (8,946) |
| Purchased treasury stock | (585,806) | | (111,926) | | (215,860) | | (26,911) |
| | | | | | | |
| Balance, end of period | (964,075) | | (160,859) | | (318,634) | | (35,857) |
| ADDITIONAL PAID-IN CAPITAL | | | | | | | |
| Balance, beginning of year | | | 704,727 | | | | 650,974 |
| Stock-based compensation | | | 21,443 | | | | 16,989 |
| Common stock issued under employee stock option plan, net of shares withheld for employee taxes | | | 9,827 | | | | 21,627 |
| Proceeds from issuance of common stock issued under employee stock purchase plan | | | 2,288 | | | | 1,669 |
| Effect of adopted accounting standards | | | — | | | | 2,078 |
| | | | | | | |
| | | | | | | |
| | | | | | | |
| | | | | | | |
| Balance, end of period | | | 738,285 | | | | 693,337 |
| RETAINED EARNINGS | | | | | | | |
| Balance, beginning of year | | | 1,443,867 | | | | 1,094,108 |
| Net income attributable to IPG Photonics Corporation | | | 328,468 | | | | 294,658 |
| Effect of adopted accounting standards | | | 606 | | | | 2,145 |
| Balance, end of period | | | 1,772,941 | | | | 1,390,911 |
| ACCUMULATED OTHER COMPREHENSIVE LOSS | | | | | | | |
| Balance, beginning of year | | | (77,344) | | | | (178,583) |
| Translation adjustments | | | (67,072) | | | | 89,023 |
| Unrealized loss on derivatives, net of tax | | | (3) | | | | (35) |
| Unrealized loss on available-for-sale investments, net of tax | | | — | | | | (240) |
| Realized loss on available-for-sale investments, net of tax, reclassified to net income | | | — | | | | 538 |
| Effect of adopted accounting standards | | | 10 | | | | — |
| Balance, end of period | | | (144,409) | | | | (89,297) |
| TOTAL IPG PHOTONICS CORPORATION EQUITY | | | 2,205,963 | | | | 1,959,099 |
| NONCONTROLLING INTERESTS ("NCI") | | | | | | | |
| Balance, beginning of year | | | — | | | | 166 |
| Noncontrolling interest of acquired company | | | 649 | | | | (197) |
| Net income (loss) attributable to NCI | | | 235 | | | | (26) |
| | | | | | | |
| Translation adjustments | | | (39) | | | | 57 |
| | | | | | | |
| Balance, end of period | | | 845 | | | | — |
| TOTAL EQUITY | | | $ | 2,206,808 | | | | $ | 1,959,099 |
See notes to consolidated financial statements.
PHOTONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except share and per share data)
1. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation — The accompanying unaudited consolidated financial statements have been prepared by IPG Photonics Corporation, or "IPG", "its" or the "Company". Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). The consolidated financial statements include the Company's accounts and those of its subsidiaries. All intercompany balances have been eliminated in consolidation. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto in the Company's Annual Report on Form 10-K for the year ended December 31, 2017.
In the opinion of the Company's management, the unaudited financial information for the interim periods presented reflects all adjustments necessary for a fair presentation of the Company's financial position, results of operations and cash flows. The results reported in these consolidated financial statements are not necessarily indicative of results that may be expected for the entire year.
The Company has evaluated subsequent events through the time of filing this Quarterly Report on Form 10-Q with the SEC.
In accordance with the Financial Accounting Standards Board ("FASB") Accounting Standards Codification ("ASC") 606, "Revenue from Contracts with Customers," ("ASC 606" or the "new revenue standard"), the following significant accounting policies have been adopted as of January 1, 2018.
Revenue Recognition — Revenue is recognized when transfer of control to the customer occurs in an amount reflecting the consideration that the Company expects to be entitled. In order to achieve this core principle, the Company applies the following five step approach: (1) identify the contract with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when a performance obligation is satisfied.
The Company considers customer purchase orders, which in some cases are governed by master sales agreements, to be the contracts with a customer. As part of its consideration of the contract, the Company evaluates certain factors including the customer's ability to pay (or credit risk). For each contract, the Company considers the promise to transfer products, each of which is distinct as the identified performance obligations. In determining the transaction price, the Company evaluates whether the price is subject to refund or adjustment to determine the net consideration to which the Company expects to be entitled. As the Company's standard payment terms are less than one year, the Company has elected the practical expedient under ASC 606-10-32-18 to not assess whether a contract has a significant financing component. The Company allocates the transaction price to each distinct product based on its relative standalone selling price. Revenue is recognized when control of the product is transferred to the customer (i.e., when the Company's performance obligation is satisfied), which typically occurs at shipment.
The Company often receives orders with multiple delivery dates that may extend across several reporting periods. The Company allocates the transaction price of the contract to each delivery based on the product standalone selling price. The Company invoices for each scheduled delivery upon shipment and recognizes revenues for such delivery at that point, assuming transfer of control has occurred. As scheduled delivery dates are generally within 1 year, under the optional exemption provided by ASC 606-10-50-14 revenues allocated to future shipments of partially completed contracts are not disclosed.
Rights of return generally are not included in customer contracts. Accordingly, upon application of steps one through five above, product revenue is recognized upon shipment and transfer of control. Returns are infrequent and are recorded as a reduction of revenue.
In certain subsidiaries the Company provides sales commissions to sales representatives based on sales volume. The Company has determined that the incentive portion of its sales commissions qualify as contract costs. The Company has elected the practical expedient in ASC 340-40-25-4 to expense sales commissions when incurred as the amortization period of the asset that would otherwise have been recognized is one year or less.
Revenue Recognition at a Point in Time — Revenues recognized at a point in time consist primarily of product, installation and service sales. The Company sells products to original equipment manufacturers ("OEMs") that supply materials processing laser systems, communications systems, medical laser systems and other laser systems for advanced applications to end users. The Company also sells products to end users that use IPG products directly to build their own systems, which
PHOTONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(In thousands, except share and per share data)
incorporate IPG products or use IPG products as an energy or light source. The Company recognizes revenue for laser and spare part sales following the transfer of control of such products to the customer, which typically occurs upon shipment or delivery depending on the terms of the underlying contracts. Installation revenue is recognized upon completion of the installation service, which typically occurs within 90 days of delivery. For laser systems that carry customer specific processing requirements, revenue is recognized at the latter of customer acceptance date or shipment date if the customer acceptance is made prior to shipment. When sales contracts contain multiple performance obligations, such as the shipment or delivery of products and installation, the Company allocates the transaction price to each performance obligation identified in the contract based on relative standalone selling prices and recognizes the related revenue as control of each individual product or service is transferred to the customer, in satisfaction of the corresponding performance obligations.
Revenue Recognition over Time — The Company offers extended warranty agreements, which extend the standard warranty periods. Warranties are limited and provide that the product meets specifications and is free from defects in materials and workmanship. Extended warranties are sold separately from products and represent a distinct performance obligation. Revenue related to the performance obligation for extended warranties is recognized over time as the customer simultaneously receives and consumes the benefits provided by the Company. The customer receives the assurance that the product will operate in accordance with agreed-upon specifications evenly during the extended warranty period regardless of whether they make a claim during that period, and therefore, revenue at time of sale is deferred and recognized over the time period of the extended warranty period.
Customer Deposits and Deferred Revenue — When the Company receives consideration from a customer or such consideration is unconditionally due prior to transferring goods or services under the terms of a sales contract, the Company records customer deposits or deferred revenue, which represent contract liabilities. The Company recognizes deferred revenue as net sales after control of the goods or services has been transferred to the customer and all revenue recognition criteria are met.
Reclassifications — Certain prior year amounts have been reclassified to conform with current period presentation. These reclassifications had no effect on the reported results of operations.
2. RECENT ACCOUNTING PRONOUNCEMENTS
Adopted Pronouncements —
On January 1, 2018, the Company adopted ASC 606 and all related amendments using the modified retrospective method for contracts that were not completed as of the date of initial application. The Company recognized the cumulative effect of initially applying the new revenue standard as an adjustment to the opening balance of retained earnings. The comparative information has not been restated and continues to be reported under the accounting standards in effect for those periods. The Company expects the impact of the adoption of the new standard to be immaterial to net income on an ongoing basis.
A majority of revenue continues to be recognized at a point in time when control transfers based on the terms of underlying contact. Under the new revenue standard, the Company changed from deferring revenue for installation services in an amount equal to the greater of the cash received related to installation or the fair value to deferring the standalone selling price for these services.
In February 2018, the FASB issued ASU No. 2018-02, "Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income" ("ASU 2018-02"). ASU 2018-02 allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act ("the Act"). The Company adopted this standard during the first quarter of 2018, which resulted in the reclassification of $10 related to the tax effect of unrealized gains on derivatives.
In October 2016, the FASB issued ASU No. 2016-16, "Income Taxes (Topic 740) - Intra-Entity Transfers of Assets other than Inventory" ("ASU 2016-16"). ASU 2016-16 eliminates the current exception that prohibits the recognition of current and deferred income tax consequences for intra-entity asset transfers (other than inventory) until the asset has been sold to an outside party. The amendments have been applied on a modified retrospective basis through a cumulative effect adjustment to retained earnings. The Company adopted this standard during the first quarter of 2018, which resulted in the reclassification of prepaid income taxes, deferred income taxes and retained earnings.
The cumulative effect of the changes made to the Company's consolidated January 1, 2018 balance sheet for the adoption of ASC 606, ASU 2018-02 and ASU 2016-16 was as follows:
PHOTONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(In thousands, except share and per share data)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Balance at | | Adoption of | | Adoption of | | Adoption of | | Balance at |
| 12/31/2017 | | ASC 606 | | ASU 2018-02 | | ASU 2016-16 | | 1/1/2018 |
| Balance Sheet | | | | | | | | | |
| | | | | | | | | |
Prepaid income taxes | $ | 44,944 | | $ | — | | $ | — | | $ | (1,203) | | $ | 43,741 |
| Deferred income tax assets | 26,976 | | (55) | | — | | 1,229 | | 28,150 |
| Customer deposits and deferred revenue (short-term) | 47,324 | | (816) | | — | | — | | 46,508 |
| Income taxes payable | 15,773 | | 37 | | — | | — | | 15,810 |
| Deferred income tax liabilities | 21,362 | | 134 | | — | | — | | 21,496 |
| Retained earnings | 1,443,867 | | 590 | | (10) | | 26 | | 1,444,473 |
| Accumulated other comprehensive loss | (77,344) | | — | | 10 | | — | | (77,334) |
| | | | | | | | | |
In January 2017, the FASB issued ASU No. 2017-04, "Intangibles—Goodwill and Other (Topic 350)" ("ASU 2017-04"). ASU 2017-04 simplifies the accounting for goodwill impairments by eliminating step 2 from the goodwill impairment test. The amendments are applied prospectively upon adoption. The Company early adopted this standard during the first quarter of 2018. The Company performs its annual goodwill impairment assessment on October 1 of each year. The new impairment test will be used in the annual assessment or if events or changes in circumstances indicate that the carrying amount may not be recoverable and an impairment analysis is performed.
Other Pronouncements Currently Under Evaluation —
In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)" ("ASU 2016-02" or "the new lease standard"). ASU 2016-02 requires a lessee to recognize assets and liabilities on the balance sheet for leases with lease terms greater than twelve months. ASU 2016-02 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018. In July 2018, the FASB issued ASU 2018-11, which provides an additional transition method for implementing the new lease standard. The Company will adopt the provisions of ASU 2018-11 by applying the standard at the adoption date and recognizing a cumulative-effect adjustment. The Company is currently completing its review of the lease population and is in the process of implementing a software solution to assist with lease accounting and evaluating footnote disclosures. The Company does not expect that the standard will have a material effect on its consolidated financial statements upon adoption.
In June 2018, the FASB issued ASU No. 2018-07, "Compensation - Stock Compensation (Topic 718)" ("ASU 2018-07"). ASU 2018-07 aligns the accounting for share-based payments issued to employees and non-employees. ASU 2018-07 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018, and early adoption is permitted. The Company is currently evaluating the standard but does not expect that it will have a material effect on its consolidated financial statements upon adoption.
3. REVENUE FROM CONTRACTS WITH CUSTOMERS
The following tables represent a disaggregation of revenue from contracts with customers for the three and nine months ended September 30, 2018:
| | | | | | | | | | | |
| Three Months Ended September 30, 2018 | | | Nine Months Ended September 30, 2018 | | | | | | |
| Sales by Application | | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| | | | | | | | | | |
| Materials processing | $ | 334,498 | | | $ | 1,065,712 | | | | | | |
| Other applications | 21,848 | | | 64,111 | | | | | | |
| Total | $ | 356,346 | | | $ | 1,129,823 | | | | | | |
PHOTONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(In thousands, except share and per share data)
| | | | | | | | | | | |
| Three Months Ended September 30, 2018 | | | Nine Months Ended September 30, 2018 | | | | | |
| Sales by Product | | | | | | | | | |
| | | | | | | | | |
| | | | | | | | | |
| | | | | | | | | |
| High Power Continuous Wave ("CW") Lasers | $ | 227,462 | | | $ | 724,111 | | | | | |
| Medium Power CW Lasers | 15,825 | | | 65,092 | | | | | |
| Low Power CW Lasers | 3,276 | | | 10,380 | | | | | |
| Pulsed Lasers | 35,408 | | | 115,243 | | | | | |
| Quasi-Continuous Wave ("QCW") Lasers | 18,276 | | | 54,568 | | | | | |
| Other Revenue including Amplifiers, Laser Systems, Service, Parts, Accessories and Change in Deferred Revenue | 56,099 | | | 160,429 | | | | | |
| Total | $ | 356,346 | | | $ | 1,129,823 | | | | | |
| | | | | | | | | | | |
| Sales by Geography | | | | | | | | | |
| | | | | | | | | |
| | | | | | | | | |
| United States and other North America | $ | 53,762 | | | $ | 140,704 | | | | | |
| Europe: | | | | | | | | | |
| Germany | 21,714 | | | 86,939 | | | | | |
| Other including Eastern Europe/CIS | 66,392 | | | 225,717 | | | | | |
| Asia and Australia: | | | | | | | | | |
| China | 158,853 | | | 511,852 | | | | | |
| Japan | 21,871 | | | 60,927 | | | | | |
| Other | 31,953 | | | 99,476 | | | | | |
| | | | | | | | | |
| Rest of World | 1,801 | | | 4,208 | | | | | |
| Total | $ | 356,346 | | | $ | 1,129,823 | | | | | |
| | | | | | | | | | | |
| Timing of Revenue Recognition | | | | | | | | | |
| | | | | | | | | |
| | | | | | | | | |
| | | | | | | | | |
| Goods and services transferred at a point in time | $ | 355,191 | | | $ | 1,126,285 | | | | | |
| Services transferred over time | 1,155 | | | 3,538 | | | | | |
| Total | $ | 356,346 | | | $ | 1,129,823 | | | | | |
The Company enters into contracts to sell lasers and spare parts, for which revenue is generally recognized upon shipment or delivery, depending on the terms of the contract. The Company also provides installation services and extended warranties. The Company frequently receives consideration from a customer prior to transferring goods to the customer under the terms of a sales contract. The Company records customer deposits related to these prepayments, which represent a contract liability. The Company also records deferred revenue related to installation services when consideration is received before the services have been performed. The Company recognizes customer deposits and deferred revenue as net sales after control of the goods or services has been transferred to the customer and all revenue recognition criteria is met. The Company bills customers for extended warranties upon entering into the agreement with the customer, resulting in deferred revenue. Revenue is recognized ratably over the term of the extended warranty agreement as the customer receives and consumes the benefits of such services.
Before the transition date (under ASC 605, Revenue Recognition), the Company deferred revenue for installation services in an amount equal to the greater of the cash received or the fair value for installation. Under the new revenue standard, the standalone selling price for installation services is deferred until control has transferred. The standalone selling price for installation services is determined based on the estimated number of days of service technician time required for installation at standard service rates. The impact of applying ASC 606 was a decrease in revenue recognized during the three months ended September 30, 2018 of $37 and a decrease for the nine months ended September 30, 2018 of $84 as compared to revenue accounted for under ASC 605.
PHOTONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(In thousands, except share and per share data)
The following table reflects the changes in the Company's contract liabilities for the nine months ended September 30, 2018:
| | | | | | | | | | | | | | | | | | | | | | | |
| September 30, | | January 1, | | | | |
| 2018 | | 2018 | | Change | | |
| | | | | | | |
| | | | | | | |
| | | | | | | |
| Contract liabilities | | | | | | | |
| Customer deposits | $ | 36,967 | | $ | 36,937 | | $ | 30 | | 0.1 | % |
| Deferred revenue - current | 11,307 | | 9,571 | | 1,736 | | 18.1 | % |
| Deferred revenue - long-term | 1,374 | | 182 | | 1,192 | | 654.9 | % |
During the three and nine months ended September 30, 2018, the Company recognized revenue of $3,355 and $38,885, respectively, that was included in the customer deposits and deferred revenue balances at the beginning of the period.
The following table represents the Company's remaining performance obligations for sales of installation services and extended warranties and contracts with customer acceptance provisions included in deferred revenue as of September 30, 2018:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Remaining Performance Obligations | | | | | | | | | | | | |
| | 2018 | | 2019 | | 2020 | | 2021 | | 2022 | | 2023 | | Total |
| Revenue expected to be recognized upon customer acceptance | | $ | 7,443 | | $ | 24 | | $ | 3 | | $ | — | | $ | — | | $ | — | | $ | 7,470 |
| Revenue expected to be recognized on contracts for installation services | | 246 | | 236 | | — | | — | | — | | — | | 482 |
| Revenue expected to be recognized for extended warranty agreements | | 1,165 | | 1,910 | | 576 | | 349 | | 178 | | 60 | | 4,238 |
| Revenue deferred based on volume discount incentives | | — | | 491 | | — | | — | | — | | — | | 491 |
| Total | | $ | 8,854 | | $ | 2,661 | | $ | 579 | | $ | 349 | | $ | 178 | | $ | 60 | | $ | 12,681 |
4. FAIR VALUE MEASUREMENTS
The Company's financial instruments consist of cash equivalents, short-term and long-term investments, accounts receivable, accounts payable, drawings on revolving lines of credit, long-term debt, contingent purchase consideration, and an interest rate swap.
The valuation techniques used to measure fair value are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect internal market assumptions. These two types of inputs create the following fair value hierarchy: Level 1, defined as observable inputs such as quoted prices for identical instruments in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs for which little or no market data exists, therefore requiring an entity to develop its own assumptions.
The carrying amounts of money market fund deposits, term deposits, accounts receivable, accounts payable and drawings on revolving lines of credit are considered reasonable estimates of their fair market value due to the short maturity of most of these instruments or as a result of the competitive market interest rates, which have been negotiated. The Company's bond securities are reported at fair value based upon quoted prices for instruments with identical terms in active markets. The Company's commercial paper securities reported at fair value are based upon model-driven valuations in which all significant inputs are observable or can be derived from or corroborated by observable market data for substantially the full term of the asset or liability, and are therefore classified as Level 2. At September 30, 2018 and December 31, 2017, the Company's long-term debt consisted of a variable rate long-term note and a fixed rate long-term note. The book value of the long-term notes approximates the fair market value.
PHOTONICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
(In thousands, except share and per share data)
The following table presents information about the Company's assets and liabilities measured at fair value:
| | | | | | | | | | | | | | | | | | | | | | | |
| Fair Value Measurements at September 30, 2018 | | | | | | |
| Total | | Level 1 | | Level 2 | | Level 3 |
| Assets | | | | | | | |
| Cash equivalents: | | | | | | | |
| Money market fund deposits and term deposits | $ | 316,442 | | $ | 316,442 | | $ | — | | $ | — |
| U.S. Treasury and agency obligations | 8,999 | | 8,999 | | — | | — |
| Commercial paper | 89,312 | | — | | 89,312 | | — |
| Short-term investments | | | | | | | |
| U.S. Treasury and agency obligations | 113,094 | | 113,094 | | — | | — |
| Corporate bonds | 196,856 | | 196,856 | | — | | — |
| Commercial paper | 164,255 | | — | | 164,255 | | — |
| Long-term investments and other assets: | | | | | | | |
| Corporate bonds | 13,771 | | 13,771 | | — | | — |
| Auction rate securities | 967 | | — | | — | | 967 |
| Interest rate swap | 13 | | — | | 13 | | — |
| Total | $ | 903,709 | | $ | 649,162 | | $ | 253,580 | | $ | 967 |
| Liabilities | | | | | | | |
| Long-term debt | $ | 46,285 | | $ | — | | $ | 46,285 | | $ | — |
| Contingent purchase consideration | 902 | | — | | — | | 902 |
| | | | | | | |
| Total | $ | 47,187 | | $ | — | | $ | 46,285 | | $ | 902 |
| | | | | | | |
| Fair Value Measurements at December 31, 2017 | | | | | | |
| Total | | Level 1 | | Level 2 | | Level 3 |
| Assets | | | | | | | |
| Cash equivalents | | | | | | | |
| Money market fund deposits and term deposits | $ | 425,917 | | $ | 425,917 | | $ | — | | $ | — |
| | | | | | | |
| | | | | | | |
| Short-term investments | | | | | | | |
| U.S. Treasury and agency obligations | 41,217 | | 41,217 | | — | | — |
| Corporate bonds | 131,048 | | 131,048 | | — | | — |
| Commercial paper | 33,896 | | 33,896 | | — | | — |
| Long-term investments and other assets: | | | | | | | |
| Auction rate securities | 1,016 | | — | | — | | 1,016 |
| Interest rate swaps | 16 | | — | | 16 | | — |
| Total | $ | 633,110 | | $ | 632,078 | | $ | 16 | | $ | 1,016 |
| Liabilities | | | | | | | |
| Long-term debt | $ | 48,982 | | $ | — | | $ | 48,982 | | $ | — |
| Contingent purchase consideration | 902 | | — | | — | | 902 |
| Total | $ | 49,884 | | $ | — | | $ | 48,982 |