Notes to Condensed Consolidated Financial Statements
(Unaudited)
Unless the context requires otherwise, references in this report to
“
Illumina,” “we,” “us,” the “Company,” and “our” refer to Illumina, Inc. and its consolidated subsidiaries.
1. Basis of Presentation and Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. Interim financial results are not necessarily indicative of results anticipated for the full year. These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and footnotes included in the Company’s Annual Report on Form 10-K for the fiscal year ended
January 3, 2016
, from which the balance sheet information herein was derived. The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expense, and related disclosure of contingent assets and liabilities. Actual results could differ from those estimates.
The unaudited condensed consolidated financial statements include the accounts of the Company, its wholly-owned subsidiaries, majority-owned or controlled companies, and variable interest entities (VIEs) for which the Company is the primary beneficiary. All intercompany transactions and balances have been eliminated in consolidation. In management’s opinion, the accompanying financial statements reflect all adjustments, consisting of normal recurring adjustments, considered necessary for a fair presentation of the results for the interim periods presented.
The Company evaluates its ownership, contractual and other interests in entities that are not wholly-owned by the Company to determine if these entities are VIEs, and, if so, whether the Company is the primary beneficiary of the VIE. In determining whether the Company is the primary beneficiary of a VIE and is therefore required to consolidate the VIE, the Company applies a qualitative approach that determines whether it has both (1) the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance and (2) the obligation to absorb losses of, or the rights to receive benefits from, the VIE that could potentially be significant to that VIE. The Company continuously assesses whether it is the primary beneficiary of a VIE as changes to existing relationships or future transactions may result in the consolidation or deconsolidation, as the case may be. The Company has not provided financial or other support during the periods presented to its VIEs that it was not previously contractually required to provide.
The equity method is used to account for investments in which the Company has the ability to exercise significant influence, but not control, over the investee. Such investments are recorded within other assets, and the share of net income or losses of equity investments is recognized on a one quarter lag in other (expense) income, net.
Segment Information
The Company is organized into three operating segments for purposes of evaluating its business operations and reporting its financial results. One operating segment consists of Illumina’s core operations and the other two relate to the Company’s consolidated VIEs. The combined results of operations of the Company’s consolidated VIEs became material for the three and nine months ended October 2, 2016. As such, the Company commenced reporting two segments in the third quarter of 2016. Financial information for all periods presented has been classified to reflect these changes to our reportable segments. For further information on the Company’s segments, refer to note “9. Segment Information”.
Fiscal Year
The Company’s fiscal year consists of 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. The
three and nine
months ended
October 2, 2016
and
September 27, 2015
were both 13 and 39 weeks, respectively.
Reclassifications
Certain prior period amounts have been reclassified to conform to the current period presentation.
Significant Accounting Policies
During the
three and nine
months ended
October 2, 2016
, there have been no changes to the Company’s significant accounting policies as described in the Annual Report on Form 10-K for the fiscal year ended
January 3, 2016
.
Recent Accounting Pronouncements
In March 2016, the Financial Accounting Standards Board issued Accounting Standard Update (ASU) 2016-09,
Compensation - Stock Compensation (Topic 718)
. The new standard requires income tax effects of stock compensation awards to be recognized in the income statement when the awards vest or are settled. The new standard also allows the Company to repurchase more of an employee’s shares for tax withholding purposes without triggering liability accounting and to make a policy election to account for forfeitures as they occur. ASU 2016-09 will be effective for the Company beginning in the first quarter of 2017. The Company is currently evaluating the impact of ASU 2016-09 on its consolidated financial statements.
In February 2016, the Financial Accounting Standards Board issued ASU 2016-02,
Leases (Topic 842)
. The new standard requires lessees to recognize most leases on their balance sheets as lease liabilities with corresponding right-of-use assets and eliminates certain real estate-specific provisions. ASU 2016-02 will be effective for the Company beginning in the first quarter of 2019. ASU 2016-02 will be adopted on a modified retrospective transition basis for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The Company is currently evaluating the impact of ASU 2016-02 on its consolidated financial statements.
In May 2014, the Financial Accounting Standards Board issued ASU 2014-09,
Revenue from Contracts with Customers (Topic 606)
. The new standard is based on the principle that revenue should be recognized to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. ASU 2014-09 will be effective for the Company beginning in the first quarter of 2018 and allows for a full retrospective or a modified retrospective adoption approach. The Company is currently evaluating the impact of ASU 2014-09 on its consolidated financial statements.
Earnings per Share
Basic earnings per share attributable to Illumina stockholders is computed based on the weighted average number of common shares outstanding during the period. Diluted earnings per share attributable to Illumina stockholders is computed based on the sum of the weighted average number of common shares and potentially dilutive common shares outstanding during the period. Per-share earnings of our VIEs are included in the Company’s consolidated basic and diluted earnings per share computations based on the Company’s share of the VIE’s securities.
Potentially dilutive common shares consist of shares issuable under convertible senior notes, equity awards, and warrants. Convertible senior notes have a dilutive impact when the average market price of the Company’s common stock exceeds the applicable conversion price of the respective notes. Potentially dilutive common shares from equity awards and warrants are determined using the average share price for each period under the treasury stock method. In addition, the following amounts are assumed to be used to repurchase shares: proceeds from exercise of equity awards and warrants; the average amount of unrecognized compensation expense for equity awards; and estimated tax benefits that will be recorded in additional paid-in capital when expenses related to equity awards become deductible. In loss periods, basic net loss per share and diluted net loss per share are identical because the otherwise dilutive potential common shares become anti-dilutive and are therefore excluded.
The following table presents the calculation of weighted average shares used to calculate basic and diluted earnings per share (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
October 2,
2016
|
|
September 27,
2015
|
|
October 2,
2016
|
|
September 27,
2015
|
Weighted average shares outstanding
|
146,705
|
|
|
145,349
|
|
|
146,783
|
|
|
144,447
|
|
Effect of potentially dilutive common shares from:
|
|
|
|
|
|
|
|
Convertible senior notes
|
—
|
|
|
1,670
|
|
|
80
|
|
|
2,013
|
|
Equity awards
|
1,196
|
|
|
2,653
|
|
|
1,186
|
|
|
2,648
|
|
Weighted average shares used in calculating diluted earnings per share
|
147,901
|
|
|
149,672
|
|
|
148,049
|
|
|
149,108
|
|
Potentially dilutive shares excluded from calculation due to anti-dilutive effect
|
63
|
|
|
13
|
|
|
580
|
|
|
7
|
|
2. Balance Sheet Account Details
Short-Term Investments
The following is a summary of short-term investments (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
October 2, 2016
|
|
January 3, 2016
|
|
Amortized
Cost
|
|
Gross
Unrealized
Gains
|
|
Gross
Unrealized
Losses
|
|
Estimated
Fair Value
|
|
Amortized
Cost
|
|
Gross
Unrealized
Gains
|
|
Gross
Unrealized
Losses
|
|
Estimated
Fair Value
|
Available-for-sale securities:
|
|
|
|
|
|
|
|
|
Debt securities in government sponsored entities
|
$
|
29,687
|
|
|
$
|
—
|
|
|
$
|
(30
|
)
|
|
$
|
29,657
|
|
|
$
|
14,634
|
|
|
$
|
—
|
|
|
$
|
(8
|
)
|
|
$
|
14,626
|
|
Corporate debt securities
|
463,484
|
|
|
282
|
|
|
(474
|
)
|
|
463,292
|
|
|
422,177
|
|
|
44
|
|
|
(1,127
|
)
|
|
421,094
|
|
U.S. Treasury securities
|
248,542
|
|
|
182
|
|
|
(104
|
)
|
|
248,620
|
|
|
182,144
|
|
|
3
|
|
|
(417
|
)
|
|
181,730
|
|
Total available-for-sale securities
|
$
|
741,713
|
|
|
$
|
464
|
|
|
$
|
(608
|
)
|
|
$
|
741,569
|
|
|
$
|
618,955
|
|
|
$
|
47
|
|
|
$
|
(1,552
|
)
|
|
$
|
617,450
|
|
Realized gains and losses are determined based on the specific identification method and are reported in interest income.
Contractual maturities of available-for-sale debt securities as of
October 2, 2016
were as follows (in thousands):
|
|
|
|
|
|
Estimated
Fair Value
|
Due within one year
|
$
|
279,548
|
|
After one but within five years
|
462,021
|
|
Total
|
$
|
741,569
|
|
The Company has the ability, if necessary, to liquidate any of its cash equivalents and short-term investments in order to meet its liquidity needs in the next 12 months. Accordingly, those investments with contractual maturities greater than one year from the date of purchase nonetheless are classified as short-term on the accompanying condensed consolidated balance sheets.
Strategic Investments
As of
October 2, 2016
and
January 3, 2016
, the aggregate carrying amounts of the Company’s cost-method investments in non-publicly traded companies included in other assets were
$56.9 million
and
$56.6 million
, respectively. Revenue recognized from transactions with such companies was
$12.5 million
and
$42.1 million
, respectively, for the
three and nine
months ended
October 2, 2016
and
$16.1 million
and
$47.3 million
, respectively, for the
three and nine
months ended
September 27, 2015
.
During the
nine
months ended
September 27, 2015
, the Company recognized a gain on a disposition of a cost-method investment of
$18.0 million
. The Company’s cost-method investments are assessed for impairment quarterly. The Company determines that it is not practicable to estimate the fair value of its cost-method investments on a regular basis and does not reassess the fair value of cost-method investments if there are no identified events or changes in circumstances that may have a significant adverse effect on the fair value of the investments.
No
material impairment loss was recorded during the
three and nine
months ended
October 2, 2016
or
September 27, 2015
.
On April 14, 2016, the Company announced that it has committed to invest
$100.0 million
in a new venture capital investment fund (the Fund). The capital commitment is callable over
ten years
, and up to
$40.0 million
can be drawn down during the first year. The Company’s investment in the Fund is accounted for as an equity method investment. During the
nine
months ended
October 2, 2016
, the Company transferred
$3.2 million
of its cost-method investments to the Fund and contributed
$4.4 million
in cash.
Inventory
Inventory consists of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
October 2,
2016
|
|
January 3,
2016
|
Raw materials
|
$
|
101,646
|
|
|
$
|
97,740
|
|
Work in process
|
166,050
|
|
|
138,322
|
|
Finished goods
|
44,546
|
|
|
34,715
|
|
Total inventory
|
$
|
312,242
|
|
|
$
|
270,777
|
|
Property and Equipment
Property and equipment, net consists of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
October 2,
2016
|
|
January 3,
2016
|
Leasehold improvements
|
$
|
197,534
|
|
|
$
|
178,019
|
|
Machinery and equipment
|
264,556
|
|
|
224,158
|
|
Computer hardware and software
|
153,851
|
|
|
136,550
|
|
Furniture and fixtures
|
20,448
|
|
|
18,539
|
|
Building
|
7,670
|
|
|
7,670
|
|
Construction in progress
|
308,825
|
|
|
44,501
|
|
Total property and equipment, gross
|
952,884
|
|
|
609,437
|
|
Accumulated depreciation
|
(319,028
|
)
|
|
(266,743
|
)
|
Total property and equipment, net
|
$
|
633,856
|
|
|
$
|
342,694
|
|
Property and equipment, net included accrued expenditures of
$194.4 million
for the nine months ended
October 2, 2016
, which includes
$168.8 million
in construction in progress recorded under build-to-suit lease accounting. Accrued capital expenditures were excluded from the condensed consolidated statements of cash flows. Accrued capital expenditures were immaterial for the nine months ended
September 27, 2015
.
Goodwill
The Company tests the carrying value of goodwill in accordance with accounting rules on impairment of goodwill, which require the Company to estimate the fair value of the reporting units annually, or when impairment indicators exist, and compare such amounts to their respective carrying values to determine if an impairment is required.
The Company performed its annual assessment for goodwill impairment in the second quarter of 2016, noting no impairment.
Changes in the Company’s goodwill balance during the
nine
months ended
October 2, 2016
are as follows (in thousands):
|
|
|
|
|
|
Goodwill
|
Balance as of January 3, 2016
|
$
|
752,629
|
|
Current period acquisitions
|
23,366
|
|
Balance as of October 2, 2016
|
$
|
775,995
|
|
In January 2016, the Company closed
two
acquisitions consisting of
$17.8 million
in upfront cash payments, equity instruments, and certain contingent consideration provisions.
Derivatives
The Company is exposed to foreign exchange rate risks in the normal course of business. The Company enters into foreign exchange contracts to manage foreign currency risks related to monetary assets and liabilities that are denominated in currencies other than the U.S. dollar. These foreign exchange contracts are carried at fair value in other assets or other liabilities and are not designated as hedging instruments. Changes in the value of the derivative are recognized in other expense, net, along with the remeasurement gain or loss on the foreign currency denominated assets or liabilities.
As of
October 2, 2016
, the Company had foreign exchange forward contracts in place to hedge exposures in the euro, Japanese yen, and Australian dollar. As of
October 2, 2016
and
January 3, 2016
, the total notional amounts of outstanding forward contracts in place for foreign currency purchases were
$62.2 million
and
$61.3 million
, respectively.
Accrued Liabilities
Accrued liabilities consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
October 2,
2016
|
|
January 3,
2016
|
Deferred revenue, current portion
|
$
|
116,118
|
|
|
$
|
96,654
|
|
Accrued compensation expenses
|
89,527
|
|
|
120,662
|
|
Accrued taxes payable
|
30,855
|
|
|
44,159
|
|
Customer deposits
|
17,831
|
|
|
20,901
|
|
Acquisition related contingent liability, current portion
|
7,220
|
|
|
35,000
|
|
Other
|
53,653
|
|
|
69,468
|
|
Total accrued liabilities
|
$
|
315,204
|
|
|
$
|
386,844
|
|
Build-to-Suit Lease Liability
The Company evaluates whether it is the accounting owner during the construction period when the Company is involved in the construction of leased assets. As a result, the Company is considered the owner of
three
construction projects for accounting purposes only under build-to-suit lease accounting due to certain indemnification obligations related to the construction. As of October 3, 2016 and January 3, 2016, the Company has recorded
$178.3 million
and
$9.5 million
, respectively, in project construction costs incurred by the landlord as construction in progress and a corresponding build-to-suit lease liability. Once the landlord completes the construction projects, the Company will evaluate the lease in order to determine whether or not it meets the criteria for “sale-leaseback” treatment.
Warranties
The Company generally provides a
one
-year warranty on instruments. Additionally, the Company provides a warranty on consumables through the expiration date, which generally ranges from
six
to
twelve
months after the manufacture date. At the time revenue is recognized, the Company establishes an accrual for estimated warranty expenses based on historical experience as well as anticipated product performance. The Company periodically reviews its warranty reserve for adequacy and adjusts the warranty accrual, if necessary, based on actual experience and estimated costs to be incurred. Warranty expense is recorded as a component of cost of product revenue.
Changes in the Company’s reserve for product warranties during the
three and nine
months ended
October 2, 2016
and
September 27, 2015
are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
October 2,
2016
|
|
September 27,
2015
|
|
October 2,
2016
|
|
September 27,
2015
|
Balance at beginning of period
|
$
|
15,679
|
|
|
$
|
16,365
|
|
|
$
|
16,717
|
|
|
$
|
15,616
|
|
Additions charged to cost of product revenue
|
3,878
|
|
|
6,916
|
|
|
17,200
|
|
|
20,737
|
|
Repairs and replacements
|
(5,180
|
)
|
|
(5,348
|
)
|
|
(19,540
|
)
|
|
(18,420
|
)
|
Balance at end of period
|
$
|
14,377
|
|
|
$
|
17,933
|
|
|
$
|
14,377
|
|
|
$
|
17,933
|
|
Leases
Changes in the Company’s facility exit obligation related to its former headquarters lease during the
three and nine
months ended
October 2, 2016
and
September 27, 2015
are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
October 2,
2016
|
|
September 27,
2015
|
|
October 2,
2016
|
|
September 27,
2015
|
Balance at beginning of period
|
$
|
20,557
|
|
|
$
|
36,677
|
|
|
$
|
22,160
|
|
|
$
|
37,700
|
|
Adjustment to facility exit obligation
|
66
|
|
|
(5,935
|
)
|
|
87
|
|
|
(5,278
|
)
|
Accretion of interest expense
|
320
|
|
|
590
|
|
|
983
|
|
|
1,926
|
|
Cash payments
|
(1,198
|
)
|
|
(1,539
|
)
|
|
(3,485
|
)
|
|
(4,555
|
)
|
Balance at end of period
|
$
|
19,745
|
|
|
$
|
29,793
|
|
|
$
|
19,745
|
|
|
$
|
29,793
|
|
On March 18, 2016, the Company entered into an agreement to sublease its office building in San Francisco, California. The Company will receive
$51.2 million
in minimum lease payments during the initial term of approximately
eight years
.
On April 5, 2016, the Company entered into a lease agreement for certain office buildings being constructed in San Diego, California. Minimum lease payments during the initial term of
ten years
are estimated to be
$127.4 million
.
Investments in Consolidated Variable Interest Entities
GRAIL, Inc.
In January 2016, the Company obtained a majority equity ownership interest in GRAIL, Inc. (GRAIL), a company formed with unrelated third party investors to pursue the development and commercialization of a blood test for asymptomatic cancer screening. The Company determined that GRAIL is a variable interest entity as the entity lacks sufficient equity to finance its activities without additional support. Additionally, the Company determined that it has (a) control of the entity’s Board of Directors, which has unilateral power over the activities that most significantly impact the economic performance of GRAIL and (b) the obligation to absorb losses of and the right to receive benefits from GRAIL that are potentially significant to GRAIL. As a result, the Company is deemed to be the primary beneficiary of GRAIL and is required to consolidate GRAIL. On a fully diluted basis, the Company holds a
52%
equity ownership interest in GRAIL as of
October 2, 2016
.
During the three months ended April 3, 2016, GRAIL completed its Series A convertible preferred stock financing, raising
$120.0 million
, of which the Company invested
$40.0 million
. Additionally, the Company and GRAIL executed a long-term supply agreement in which the Company contributed certain perpetual licenses, employees, and discounted supply terms in exchange for
112.5 million
shares of GRAIL’s Class B Common Stock. Such contributions are recorded at their historical basis as they remain within the control of the Company. The
$80.0 million
received by GRAIL from unrelated third party investors upon issuance of its Series A convertible preferred stock is classified as noncontrolling interests in stockholders’ equity on the Company’s consolidated balance sheet.
During the three months ended July 3, 2016, GRAIL authorized for issuance
97.5 million
shares of Series A-1 convertible preferred stock, all of which were issued to Illumina in exchange for
97.5 million
shares of Illumina’s Class B Common Stock on June 23, 2016. As a result of the exchange, Illumina recorded a
$9.5 million
deemed dividend net of tax of
$9.6 million
through equity, which was eliminated in consolidation.
For the three months ended
October 2, 2016
, the Company absorbed approximately 50% of GRAIL’s losses based upon its proportional ownership of GRAIL’s common stock. Prior to the exchange, for the six months ended July 3, 2016, the Company absorbed
90%
of GRAIL’s losses based upon its proportional ownership of GRAIL’s common stock.
In accordance with GRAIL’s Equity Incentive Plan, the Company may be required to redeem certain vested stock awards in cash at the then approximate fair market value. The fair value of the redeemable noncontrolling interests is considered a Level 3 instrument. Such redemption right is exercisable at the option of the holder of the awards after February 28, 2021, provided that an initial public offering of GRAIL has not been completed. As the redemption provision is outside of the control of the Company, the redeemable noncontrolling interests in GRAIL are classified outside of stockholders’ equity on the accompanying condensed consolidated balance sheets. The balance of the redeemable noncontrolling interests is reported at the greater of its carrying value after receiving its allocation of GRAIL’s profits and losses or its estimated redemption value at each reporting date.
The assets and liabilities of GRAIL, other than cash and cash equivalents, are not significant to the Company’s financial position as of
October 2, 2016
. Additionally, GRAIL has an immaterial impact on the Company’s condensed consolidated statements of income and cash flows for the three and
nine
months ended
October 2, 2016
.
Helix Holdings I, LLC
In July 2015, the Company obtained a
50%
voting equity ownership interest in Helix Holdings I, LLC (Helix), a limited liability company formed with unrelated third party investors to pursue the development and commercialization of a marketplace for consumer genomics. The Company determined that Helix is a variable interest entity as the holder of the at-risk equity investments as a group lack the power to direct the activities of Helix that most significantly impact Helix’s economic performance. Additionally, the Company determined that it has (a) unilateral power over one of the activities that most significantly impacts the economic performance of Helix through its contractual arrangements and no one individual party has unilateral power over the remaining significant activities of Helix and (b) the obligation to absorb losses of and the right to receive benefits from Helix that are potentially significant to Helix. As a result, the Company is deemed to be the primary beneficiary of Helix and is required to consolidate Helix.
As contractually committed, the Company contributed certain perpetual licenses, instruments, intangibles, initial laboratory setup, and discounted supply terms in exchange for voting equity interests in Helix. Such contributions are recorded at their historical basis as they remain within the control of the Company. Helix is financed through cash contributions made by the third party investors in exchange for voting equity interests in Helix.
Certain noncontrolling Helix investors may require the Company to redeem all noncontrolling interests in cash at the then approximate fair market value. The fair value of the redeemable noncontrolling interests is considered a Level 3 instrument. 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.
As the contingent redemption is outside of the control of Illumina, the redeemable noncontrolling interests in Helix are classified outside of stockholders’ equity on the accompanying condensed consolidated balance sheets. The balance of the redeemable noncontrolling interests is reported at the greater of its carrying value after receiving its allocation of Helix’s profits and losses or its estimated redemption value at each reporting date. As of
October 2, 2016
, the noncontrolling shareholders and Illumina each held
50%
of Helix’s outstanding voting equity interests.
The assets and liabilities of Helix are not significant to the Company’s financial position as of
October 2, 2016
. Helix has an immaterial impact on the Company’s condensed consolidated statements of income and cash flows for the three and
nine
months ended
October 2, 2016
.
As of
October 2, 2016
, the accompanying condensed consolidated balance sheet includes
$103.6 million
of cash and cash equivalents attributable to GRAIL and Helix that will be used to settle their respective obligations and will not be available to settle obligations of the Company.
Redeemable Noncontrolling Interests
The activity of the redeemable noncontrolling interests during the
nine
months ended
October 2, 2016
is as follows (in thousands):
|
|
|
|
|
|
Redeemable Noncontrolling Interests
|
Balance as of January 3, 2016
|
$
|
32,546
|
|
Vesting of redeemable equity awards
|
1,481
|
|
Net loss attributable to noncontrolling interests
|
(11,793
|
)
|
Adjustment up to the redemption value
|
12,023
|
|
Balance as of October 2, 2016
|
$
|
34,257
|
|
3. Fair Value Measurements
The following table presents the Company’s hierarchy for assets and liabilities measured at fair value on a recurring basis as of
October 2, 2016
and
January 3, 2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
October 2, 2016
|
|
January 3, 2016
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money market funds (cash equivalents)
|
$
|
503,593
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
503,593
|
|
|
$
|
391,246
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
391,246
|
|
Debt securities in government-sponsored entities
|
—
|
|
|
29,657
|
|
|
—
|
|
|
29,657
|
|
|
—
|
|
|
14,626
|
|
|
—
|
|
|
14,626
|
|
Corporate debt securities
|
—
|
|
|
463,292
|
|
|
—
|
|
|
463,292
|
|
|
—
|
|
|
421,094
|
|
|
—
|
|
|
421,094
|
|
U.S. Treasury securities
|
248,620
|
|
|
—
|
|
|
—
|
|
|
248,620
|
|
|
181,730
|
|
|
—
|
|
|
—
|
|
|
181,730
|
|
Deferred compensation plan assets
|
—
|
|
|
29,901
|
|
|
—
|
|
|
29,901
|
|
|
—
|
|
|
26,245
|
|
|
—
|
|
|
26,245
|
|
Total assets measured at fair value
|
$
|
752,213
|
|
|
$
|
522,850
|
|
|
$
|
—
|
|
|
$
|
1,275,063
|
|
|
$
|
572,976
|
|
|
$
|
461,965
|
|
|
$
|
—
|
|
|
$
|
1,034,941
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Acquisition related contingent consideration liabilities
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
5,300
|
|
|
$
|
5,300
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
35,000
|
|
|
$
|
35,000
|
|
Deferred compensation liability
|
—
|
|
|
28,447
|
|
|
—
|
|
|
28,447
|
|
|
—
|
|
|
24,925
|
|
|
—
|
|
|
24,925
|
|
Total liabilities measured at fair value
|
$
|
—
|
|
|
$
|
28,447
|
|
|
$
|
5,300
|
|
|
$
|
33,747
|
|
|
$
|
—
|
|
|
$
|
24,925
|
|
|
$
|
35,000
|
|
|
$
|
59,925
|
|
The Company holds available-for-sale securities that consist of highly liquid, investment grade debt securities. The Company considers information provided by the Company’s investment accounting and reporting service provider in the measurement of fair value of its debt securities. The investment service provider provides valuation information from an industry-recognized valuation service. Such valuations may be based on trade prices in active markets for identical assets or liabilities (Level 1 inputs) or valuation models using inputs that are observable either directly or indirectly (Level 2 inputs), such as quoted prices for similar assets or liabilities, 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. The Company’s deferred compensation plan assets consist primarily of investments in life insurance contracts carried at cash surrender value, which reflects the net asset value of the underlying publicly traded mutual funds. The Company performs control procedures to corroborate the fair value of its holdings, including comparing valuations obtained from its investment service provider to valuations reported by the Company’s asset custodians, validation of pricing sources and models, and review of key model inputs if necessary.
As a result of an acquisition completed in January 2016, the Company recorded
$5.3 million
in contingent consideration liabilities, the majority of which are payable within 12 months after the acquisition date. The Company reassesses the fair value of any contingent consideration liabilities on a quarterly basis using the income approach. Assumptions used to estimate the acquisition date fair value of the contingent consideration include discount rates ranging from
4%
to
6%
and the probability of achieving certain milestones. This fair value measurement of the contingent consideration is based on significant inputs not
observed in the market and thus represents a Level 3 measurement. Level 3 instruments are valued based on unobservable inputs that are supported by little or no market activity and reflect the Company’s own assumptions in measuring fair value.
Changes in estimated fair value of contingent consideration liabilities during the
nine
months ended
October 2, 2016
are as follows (in thousands):
|
|
|
|
|
|
Contingent
Consideration
Liability
(Level 3
Measurement)
|
Balance as of January 3, 2016
|
$
|
35,000
|
|
Additional liability recorded as a result of a current period acquisition
|
5,300
|
|
Cash payments
|
(35,000
|
)
|
Balance as of October 2, 2016
|
$
|
5,300
|
|
4. Debt
Convertible Senior Notes
As of
October 2, 2016
, the Company had outstanding
$632.5 million
in principal amount of
0%
convertible senior notes due June 15, 2019 (2019 Notes) and
$517.5 million
in principal amount of
0.5%
convertible senior notes due June 15, 2021 (2021 Notes).
0% Convertible Senior Notes due 2019 and 0.5% Convertible Senior Notes due 2021
In June 2014, the Company issued
$632.5 million
aggregate principal amount of 2019 Notes and
$517.5 million
aggregate principal amount of 2021 Notes. The Company used the net proceeds plus cash on hand to repurchase a portion of the outstanding 2016 Notes in privately negotiated transactions concurrently with the issuance of the 2019 and 2021 Notes. The 2019 and 2021 Notes’ mature on
June 15, 2019
and
June 15, 2021
, respectively, and the implied estimated effective rates of the liability components of the Notes were
2.9%
and
3.5%
, respectively, assuming no conversion.
Both the 2019 and 2021 Notes will be convertible into cash, shares of common stock, or a combination of cash and shares of common stock, at the Company's election, based on an initial conversion rate, subject to adjustment, of
3.9318 shares
per
$1,000
principal amount of the notes (which represents an initial conversion price of approximately
$254.34
per share), only in the following circumstances and to the following extent:
(1) during the five business-day period after any 10 consecutive trading day period (the measurement period) in which the trading price per 2019 and 2021 Note for each day of such measurement period was less than 98% of the product of the last reported sale price of the Company’s common stock and the conversion rate on each such day; (2) during any calendar quarter (and only during that quarter) after the calendar quarter ending September 30, 2014, if the last reported sale price of the Company’s common stock for 20 or more trading days in the period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter exceeds 130% of the applicable conversion price in effect on the last trading day of the immediately preceding calendar quarter; (3) upon the occurrence of specified events described in the indenture for the 2019 and 2021 Notes; and (4) at any time on or after March 15, 2019 for the 2019 Notes, or March 15, 2021 for the 2021 Notes, through the second scheduled trading day immediately preceding the maturity date
.
Neither the 2019 nor the 2021 Notes were convertible as of
October 2, 2016
and had no dilutive impact during the
three and nine
months ended
October 2, 2016
. If the 2019 and 2021 Notes were converted as of
October 2, 2016
, the if-converted value would not exceed the principal amount.
0.25% Convertible Senior Notes due 2016
In 2011, the Company issued
$920.0 million
aggregate principal amount of
0.25%
convertible senior notes due 2016 (2016 Notes) with a maturity date of
March 15, 2016
. The effective rate of the liability component was estimated to be
4.5%
. Based upon meeting the stock trading price conversion requirement during the three months ended March 30, 2014, the 2016 Notes became convertible on April 1, 2014 through, and including,
March 11, 2016
. All notes were converted by March 11, 2016.
During the
nine
months ended
October 2, 2016
, the Company recorded a loss on extinguishment of debt calculated as the difference between the estimated fair value of the debt and the carrying value of the notes as of the settlement date. To measure the fair value of the converted notes as of the settlement date, the applicable interest rate was estimated using Level 2 observable inputs and applied to the converted notes using the same methodology as in the issuance date valuation. The loss recorded on extinguishment of debt for the
nine
months ended
October 2, 2016
was immaterial.
The following table summarizes information about the conversion of the 2016 Notes during the
nine
months ended
October 2, 2016
(in thousands):
|
|
|
|
|
|
2016 Notes
|
Cash paid for principal of notes converted
|
$
|
75,543
|
|
Conversion value over principal amount paid in shares of common stock
|
$
|
63,753
|
|
Number of shares of common stock issued upon conversion
|
409
|
|
Summary of Convertible Senior Notes
The following table summarizes information about the equity and liability components of all convertible senior notes outstanding as of the period reported (dollars in thousands). The fair values of the respective notes outstanding were measured based on quoted market prices, and is a Level 2 measurement.
|
|
|
|
|
|
|
|
|
|
October 2,
2016
|
|
January 3,
2016
|
Principal amount of convertible notes outstanding
|
$
|
1,150,000
|
|
|
$
|
1,225,547
|
|
Unamortized discount of liability component
|
(112,716
|
)
|
|
(134,969
|
)
|
Net carrying amount of liability component
|
1,037,284
|
|
|
1,090,578
|
|
Less: current portion
|
—
|
|
|
(74,929
|
)
|
Long-term debt
|
$
|
1,037,284
|
|
|
$
|
1,015,649
|
|
Carrying value of equity component, net of debt issuance cost
|
$
|
161,237
|
|
|
$
|
213,811
|
|
Fair value of outstanding notes
|
$
|
1,224,169
|
|
|
$
|
1,456,451
|
|
Weighted-average remaining amortization period of discount on the liability component
|
3.9 years
|
|
|
4.6 years
|
|
Other
As of
October 2, 2016
, the accompanying condensed consolidated balance sheets include
$1.3 million
and
$3.4 million
in current and long-term debt, respectively, related to an outstanding line of credit held by Helix.
5. Share-based Compensation Expense
Share-based compensation expense for all stock awards consists of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
October 2,
2016
|
|
September 27,
2015
|
|
October 2,
2016
|
|
September 27,
2015
|
Cost of product revenue
|
$
|
1,799
|
|
|
$
|
2,567
|
|
|
$
|
5,949
|
|
|
$
|
7,012
|
|
Cost of service and other revenue
|
1,261
|
|
|
498
|
|
|
2,114
|
|
|
1,243
|
|
Research and development
|
11,515
|
|
|
9,098
|
|
|
32,889
|
|
|
31,152
|
|
Selling, general and administrative
|
20,008
|
|
|
20,066
|
|
|
60,893
|
|
|
57,697
|
|
Share-based compensation expense before taxes
|
34,583
|
|
|
32,229
|
|
|
101,845
|
|
|
97,104
|
|
Related income tax benefits
|
(7,604
|
)
|
|
(9,876
|
)
|
|
(23,082
|
)
|
|
(28,304
|
)
|
Share-based compensation expense, net of taxes
|
$
|
26,979
|
|
|
$
|
22,353
|
|
|
$
|
78,763
|
|
|
$
|
68,800
|
|
The assumptions used for the specified reporting periods and the resulting estimates of weighted-average fair value per share for stock purchased under the Employee Stock Purchase Plan (ESPP) during the
nine
months ended
October 2, 2016
are as follows:
|
|
|
|
|
|
Employee Stock Purchase Rights
|
Risk-free interest rate
|
0.40% - 0.50%
|
|
Expected volatility
|
40% - 44%
|
|
Expected term
|
0.5 - 1.0 year
|
|
Expected dividends
|
0
|
%
|
Weighted-average fair value per share
|
$
|
47.88
|
|
As of
October 2, 2016
, approximately
$203.2 million
of unrecognized compensation cost related to stock options, restricted stock, and ESPP shares granted to date is expected to be recognized over a weighted-average period of approximately
2.4 years
.
6. Stockholders’ Equity
As of
October 2, 2016
, approximately
7.5 million
shares remained available for future grants under the 2015 Stock Plan and the 2005 Solexa Equity Plan.
Restricted Stock
The Company’s restricted stock activity and related information for the
nine
months ended
October 2, 2016
is as follows (units in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restricted
Stock Awards
(RSA)
|
|
Restricted
Stock Units
(RSU)
|
|
Performance
Stock Units
(PSU)(1)
|
|
Weighted-Average
Grant-Date Fair Value per Share
|
|
|
|
|
RSA
|
|
RSU
|
|
PSU
|
Outstanding at January 3, 2016
|
21
|
|
|
2,206
|
|
|
583
|
|
|
$
|
47.93
|
|
|
$
|
131.80
|
|
|
$
|
169.41
|
|
Awarded
|
22
|
|
|
174
|
|
|
30
|
|
|
$
|
179.00
|
|
|
$
|
156.32
|
|
|
$
|
156.75
|
|
Vested
|
—
|
|
|
(383
|
)
|
|
—
|
|
|
$
|
—
|
|
|
$
|
85.57
|
|
|
—
|
|
Cancelled
|
—
|
|
|
(197
|
)
|
|
(99
|
)
|
|
$
|
—
|
|
|
$
|
136.40
|
|
|
$
|
163.51
|
|
Outstanding at October 2, 2016
|
43
|
|
|
1,800
|
|
|
514
|
|
|
$
|
114.59
|
|
|
$
|
143.46
|
|
|
$
|
169.81
|
|
______________________________________
|
|
(1)
|
The number of units reflect the estimated number of shares to be issued at the end of the performance period.
|
Stock Options
The Company’s stock option activity under all stock option plans during the
nine
months ended
October 2, 2016
is as follows:
|
|
|
|
|
|
|
|
|
Options
(in thousands)
|
|
Weighted-Average
Exercise Price
|
Outstanding at January 3, 2016
|
1,599
|
|
|
$
|
41.95
|
|
Exercised
|
(532
|
)
|
|
$
|
29.65
|
|
Cancelled
|
(2
|
)
|
|
$
|
46.35
|
|
Outstanding at October 2, 2016
|
1,065
|
|
|
$
|
48.08
|
|
At
October 2, 2016
, outstanding options to purchase
1.1 million
shares were exercisable with a weighted-average exercise price per share of
$48.08
.
Employee Stock Purchase Plan
The price at which common stock is purchased under the ESPP is equal to
85%
of the fair market value of the common stock on the first day of the offering period or purchase date, whichever is lower. During the
nine
months ended
October 2, 2016
, approximately
0.2 million
shares were issued under the ESPP. As of
October 2, 2016
, there were approximately
14.3 million
shares available for issuance under the ESPP.
Share Repurchases
On July 28, 2016, the Company’s Board of Directors authorized a new share repurchase program, which supersedes all prior and available repurchase authorizations, to repurchase
$250.0 million
of outstanding common stock. During the three months ended
October 2, 2016
,
0.1 million
shares for
$13.1 million
were repurchased. During the
nine
months ended
October 2, 2016
, the Company repurchased approximately
0.8 million
shares for
$113.1 million
in aggregate. Authorizations to repurchase up to an additional
$236.9 million
of the Company’s common stock remained available as of
October 2, 2016
.
7. Income Taxes
The Company’s effective tax rate may vary from the U.S. federal statutory tax rate due to the change in the mix of earnings in tax jurisdictions with different statutory rates, benefits related to tax credits, and the tax impact of non-deductible expenses and other permanent differences between income before income taxes and taxable income. The effective tax rates for the
three and nine
months ended
October 2, 2016
were
24.2%
and
24.9%
, respectively. For the
three and nine
months ended
October 2, 2016
, 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 in Singapore and the United Kingdom; offset slightly by the tax impact associated with the investments in our consolidated variable interest entities.
8. Legal Proceedings
The Company is 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, the Company 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. The Company regularly reviews 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, the Company is 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 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 the Company’s 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.
On July 1, 2016, the Company entered into a Settlement and License Agreement with Enzo Life Sciences, Inc. (Enzo) that settled all claims in the litigation. Pursuant to the terms of the Settlement and License Agreement, the Company paid Enzo a one-time payment of
$21.0 million
for release of past damages claimed and a fully paid-up non-exclusive license to U.S. Patent No. 7,064,197. None of the parties made any admission of liability in entering into the Settlement and License Agreement. The Company allocated the
$21.0 million
settlement on a relative fair value basis, resulting in
$11.5 million
capitalized as an intangible asset and a corresponding gain recorded in legal contingencies for the value of the license, which will be amortized over a period of
7 years
on a straight-line basis, and the remaining
$9.5 million
related to past damages claimed. The fair value of the license and past damages was estimated using a discounted cash flow model, and is considered to be a Level 3 measurement.
9. Segment Information
The Company has two reportable segments: Core Illumina and one segment related to the combined activities of the Company’s consolidated VIEs, GRAIL and Helix. The Company reports segment information based on the management approach. This approach designates the internal reporting used by the Chief Operating Decision Maker (“CODM”) for making decisions and assessing performance as the source of the Company’s reportable segments. The CODM allocates resources and assesses the performance of each operating segment using information about its revenues and income (losses) from operations. Based on the information used by the CODM, the Company has determined its reportable segments as follows:
Core Illumina
:
Core Illumina’s products and services serve customers in the research, clinical and applied markets, and enable the adoption of a variety of genomic solutions. Core Illumina includes all operations of the Company, excluding the results of its two consolidated VIEs.
Consolidated VIEs:
GRAIL
:
GRAIL was created to enable the early detection of cancer in asymptomatic individuals through a simple blood screen based on the concentration of circulating tumor nucleic acids. GRAIL is currently in the early stages of developing this test and as such, has no revenues to date.
Helix
:
Helix was established to enable individuals to explore their genetic information by providing affordable sequencing and database services for consumers through third party partners, driving the creation of an ecosystem of consumer applications.
Management evaluates the performance of the Company’s operating segments based upon income (loss) from operations. The Company does not allocate expenses between segments. Core Illumina sells products and provides services to GRAIL and Helix in accordance with contractual agreements between the entities.
The following table presents the operating performance of each reportable segment (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
October 2,
2016
|
|
September 27,
2015
|
|
October 2,
2016
|
|
September 27,
2015
|
Segment revenues:
|
|
|
|
|
|
|
|
Core Illumina
|
$
|
615,135
|
|
|
$
|
550,271
|
|
|
$
|
1,792,150
|
|
|
$
|
1,628,214
|
|
Consolidated VIEs
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Elimination of intersegment revenues
|
(7,996
|
)
|
|
—
|
|
|
(13,124
|
)
|
|
—
|
|
Consolidated revenues
|
$
|
607,139
|
|
|
$
|
550,271
|
|
|
$
|
1,779,026
|
|
|
$
|
1,628,214
|
|
|
|
|
|
|
|
|
|
Segment operating income (loss):
|
|
|
|
|
|
|
|
Core Illumina
|
$
|
190,742
|
|
|
$
|
145,893
|
|
|
$
|
501,411
|
|
|
$
|
473,952
|
|
Consolidated VIEs
|
(25,136
|
)
|
|
(5,111
|
)
|
|
(49,700
|
)
|
|
(5,111
|
)
|
Elimination of intersegment earnings
|
(4,904
|
)
|
|
—
|
|
|
(7,695
|
)
|
|
—
|
|
Consolidated operating income
|
$
|
160,702
|
|
|
$
|
140,782
|
|
|
$
|
444,016
|
|
|
$
|
468,841
|
|
The following table presents the total assets of each reportable segment (in thousands):
|
|
|
|
|
|
|
|
|
|
October 2,
2016
|
|
January 3,
2016
|
Segment assets:
|
|
|
|
Core Illumina
|
$
|
4,095,182
|
|
|
$
|
3,657,953
|
|
Consolidated VIEs
|
190,904
|
|
|
30,447
|
|
Elimination of intersegment assets
|
(58,259
|
)
|
|
(653
|
)
|
Consolidated total assets
|
$
|
4,227,827
|
|
|
$
|
3,687,747
|
|