13. Income Taxes

Income before income taxes consisted of the following for the periods indicated:

	Year Ended January 31,
	2018		2017		2016
	(in thousands)
U.S. operations	$	2,683	$	3,092	$	3,190
Non-U.S. operations		23,046		57,789		82,019
Income before income taxes	$	25,729	$	60,881	$	85,209

Income tax provision consisted of the following for the periods indicated:

	Year Ended January 31,
	2018			2017			2016
	(in thousands)
Current:
U.S. federal tax	$	3,321		$	818		$	5,273
U.S. state taxes		4			(212	)		541
Non-U.S. foreign taxes		1,435			1,454			1,874
		4,760			2,060			7,688
Deferred:
U.S. federal tax		2,185			1,174			1,050
U.S. state taxes		—			—			—
Non-U.S. foreign taxes		(68	)		(163	)		(37	)
		2,117			1,011			1,013
Provision for income taxes	$	6,877		$	3,071		$	8,701

The Company consists of a Cayman Islands parent company with various foreign and U.S. Subsidiaries. The primary jurisdiction where our foreign earnings are derived is the Cayman Islands, where the Company is domiciled. Under the current laws of the Cayman Islands, the Company is not subject to tax on its income. For purposes of the reconciliation between the provision (benefit) for income taxes at the statutory rate and the effective tax rate, a notional U.S. 33.8%, 34.0% and 34.0% rates are applied to pretax income as a result of the following for the periods indicated, respectively:

	Year Ended January 31,
	2018			2017			2016
	(in thousands)
Provision at U.S. notional statutory rate	$	8,699		$	20,700		$	28,971
U.S. state taxes		2			(216	)		541
Non-U.S. foreign tax differential		(6,424	)		(18,357	)		(26,253	)
Stock-based compensation		4,645			1,605			2,896
U.S. R&D credit		(2,408	)		(2,226	)		(3,517	)
Valuation allowance		(1	)		1,901			6,090
Change in tax rate		2,252			—			—
Other		112			(336	)		(27	)
Provision for income taxes	$	6,877		$	3,071		$	8,701

On December 22, 2017, the Tax Cuts and Jobs Act (the “Tax Act”) was enacted into law in the United States. The new tax legislation contains several provisions that will impact the Company, including the reduction of the corporate income tax rate from 35% to 21%, acceleration of business asset expensing, and a reduction in the amount of executive pay that may qualify as a tax deduction, among others. The Tax Act’s new international rules, including the Global Intangible Low-Taxed Income (“GILTI”), the Base Erosion Anti-Avoidance Tax (“BEAT”), and the mandatory repatriation tax imposed on U.S. companies with certain foreign subsidiaries (the “Transition Tax”) are not expected to be applicable to the Company. However, these assessments are based on preliminary review and analysis of the Tax Act and are subject to change as the Company continues to evaluate these highly complex rules as additional interpretive guidance is issued. The decrease in the corporate income tax rate required the Company to remeasure its U.S. deferred tax assets and liabilities. The Company revalued its net deferred tax assets at December 22, 2017, which resulted in a decrease of deferred tax assets of $1.9 million and a corresponding increase in deferred tax expense.

Due to the complexities of the new tax legislation, the Securities and Exchange Commission staff (“SEC Staff”) recognized that entities may not have the necessary information available, prepared, or analyzed in reasonable detail to complete the accounting under ASC 740 for certain income tax effects of the Act in the reporting period that includes the date of enactment. Under SAB 118, an entity would use something similar to the measurement period in a business combination. That is, to the extent an entity can complete the income tax accounting effects of the Act, the completed amount is reported (“Bucket 1”). For matters that have not been completed, the entity would either (1) recognize provisional amounts to the extent that they are reasonably estimable and adjust them over time as more information becomes available (“Bucket 2”) or (2) for any specific income tax effects of the Act for which a reasonable estimate cannot be determined, continue to apply ASC 740 on the basis of the provisions of the tax laws that were in effect immediately before the Act was signed into law (i.e., the entity would not adjust current or deferred taxes for those tax effects of the Act until a reasonable estimate can be determined) (“Bucket 3”).

The measurement period begins in the period of enactment and ends when the entity obtained, prepared, and analyzed the information needed to complete the accounting requirements under ASC 740; however, the measurement period should not extend beyond one year from the enactment date. As we complete our analysis of the Tax Act, collect and prepare necessary data, and interpret any additional guidance issued by the U.S. Treasury Department, the IRS, and other standard-setting bodies, we will make adjustments to the provisional amounts. The Company expects to complete its analysis within the measurement period, which is no more than one year beyond the enactment date.

In connection with our initial analysis of the impact of the Tax Act, we have recorded provisional estimates in the period ended January 31, 2018 for the following: the revaluation of deferred tax assets and liabilities to reflect the 21 percent corporate tax rate, whether to elect to expense or depreciate new capital equipment, and the US state tax impact to the aforementioned items. The company has made reasonable estimates for each of these items; however it may be affected by other analyses related to the 2017 Act, including but not limited to, any deferred adjustments related to the filing of the Company’s 2017 federal and state tax returns and further guidance yet to be issued.

Temporary differences that gave rise to significant portions of the Company’s deferred tax assets and liabilities at January 31, 2018 and 2017 were as follows:

	As of January 31,
	2018			2017
	(in thousands)
Deferred tax assets:
Federal and state credits	$	18,176		$	14,782
Expenses not currently deductible		1,213			2,381
Stock-based compensation		2,899			3,561
Foreign deferred		229			161
Gross deferred tax assets		22,517			20,885
Valuation allowance		(18,538	)		(15,061	)
Total deferred tax assets	$	3,979		$	5,824
Deferred tax liabilities
Property and equipment		(1,655	)		(1,383	)
Foreign deferred		—			—
Net deferred tax assets	$	2,324		$	4,441

Tax valuation allowance for the periods indicated below were as follows:

							Deductions
					Additions		Charged to
	Balance at		Additional		Charged to		Expenses		Balance at
	Beginning of		Charged to		Other		or Other		End of
	Period		Expenses		Account		Accounts		Period
	(in thousands)
Tax Valuation Allowance
Year ended January 31, 2018	$	15,061		3,477		—		—	$	18,538
Year ended January 31, 2017	$	12,072		2,989		—		—	$	15,061
Year ended January 31, 2016	$	3,996		8,076		—		—	$	12,072

The Company conducts its business in several countries and regions and is subject to taxation in those jurisdictions. The Company is incorporated in the Cayman Islands with foreign subsidiaries in the U.S., China, Taiwan, Italy and other foreign countries and regions. As such, the Company’s worldwide operating income is subject to varying tax rates and its effective tax rate is highly dependent upon the geographic distribution of its earnings or losses and the tax laws and regulations in each geographical region. Consequently, the Company has experienced lower effective tax rates as a substantial amount of its operations are conducted in lower-tax jurisdictions. If the Company’s operational structure was to change in such a manner that would increase the amount of operating income subject to taxation in higher-tax jurisdictions, or if the Company was to commence operations in jurisdictions assessing relatively higher tax rates, its effective tax rate could fluctuate significantly on a quarterly basis and/or be adversely affected. Dividend distributions received from the Company’s U.S. subsidiary and certain other foreign subsidiaries may be subject to local country withholding taxes when, and if, distributed. Deferred tax liabilities have not been recorded on unremitted earnings of certain subsidiaries because management’s intent is to indefinitely reinvest any undistributed earnings in those subsidiaries. If dividend distributions from those subsidiaries were to occur, the liability as of January 31, 2018 would be $6.2 million. Cumulative undistributed earnings of foreign subsidiaries for which no deferred taxes have been provided approximated $51.0 million at January 31, 2018.

As of January 31, 2018 and 2017, the Company had deferred tax assets (net of deferred tax liabilities) before valuation allowance, of $20.8 million and $19.5 million, respectively. Realization of the deferred tax assets is dependent upon future taxable income, if any, the amount and timing of which are uncertain.

The Company also has Federal and California state research and development credit carryforwards of approximately $13.8 million and $17.1 million, respectively, at January 31, 2018. The Federal credits begin to expire in fiscal year 2033. The California credits can be carried forward indefinitely.

The Company reports its U.S. state deferred tax assets and related valuation allowance, net of the U.S federal tax rate of 21%. As of January 31, 2018, the Company has recorded a valuation allowance of $18.5 million against all of its U.S. federal research credit and all U.S. state deferred tax assets due to uncertainty regarding the future utilization of these deferred tax assets.

Utilization of the research credit carryforwards may be subject to an annual limitation due to the ownership percentage change limitations as defined by the U.S. Internal Revenue Code Section 382, as amended, and similar state provisions. The annual limitation may result in the expiration of the U.S. Federal and state research credit carryforwards before utilization. The Company does not expect any tax credit carryforwards to expire as a result of a Section 382 limitation.

The Company applies the provisions of FASB’s guidance on accounting for uncertainty in income taxes. As of January 31, 2018, the Company had approximately $34.1 million in unrecognized tax benefits, $22.5 million of which would affect the Company’s effective tax rate if recognized. The Company had reductions for tax positions in prior years of $11.3 million related to the effect of the corporate tax rate deduction from 35% to 21% as a result of the enactment of the Tax Act described above. The following table sets forth a reconciliation of the beginning and ending amount of unrecognized tax benefits:

	Year Ended January 31,
	2018			2017			2016
	(in thousands)
Beginning balance:	$	37,977		$	30,211		$	4,671
Additions based on tax positions related to the current year		7,892			7,830			17,169
Additions for tax positions of prior years		28			911			8,810
Reductions for tax positions in prior years		(11,313	)		—			(37	)
Settlements for prior periods		—			—			—
Lapse of applicable statute of limitations		(467	)		(975	)		(402	)
Ending balance:	$	34,117		$	37,977		$	30,211

The Company classified $5.2 million and $1.8 million of income tax liabilities as other long term liabilities as of January 31, 2018 and 2017, respectively, because payment of cash or settlement is not anticipated within one year from the balance sheet date.

The Company recognizes interest and penalties related to uncertain tax positions as a component of income tax expense. The Company recorded $37,000 of interest expense and penalties related to uncertain tax positions for the year ended January 31, 2018 and recorded $64,000 benefit from interest accruals as a result of reserve released due to the lapse of statute of limitations for the year ended January 31, 2017. The Company recorded noncurrent liabilities of $139,000 and $103,000 related to interest and penalties for uncertain tax positions at January 31, 2018 and 2017, respectively.

The primary jurisdiction where our foreign earnings are derived is the Cayman Islands, where the Company is domiciled. The Company files income tax returns in the U.S. federal jurisdiction as well as many U.S. state and foreign jurisdictions. The tax years 2013 to 2017 remain open to examination by U.S. federal tax authorities. The tax years 2008 to 2017 remain open to examination by U.S. state tax authorities. The tax years 2012 to 2017 remain open to examination by foreign tax authorities. Fiscal years outside of the normal statute of limitations remain open to audit by tax authorities due to tax attributes generated in those earlier years, which have been carried forward and may be audited in subsequent years when utilized.

The Company believes that an adequate provision has been made for any adjustments that may result from tax examinations. However, the outcome of tax audits cannot be predicted with certainty. If any issues addressed in the Company’s tax audits are resolved in a manner not consistent with management’s expectations, the Company could be required to adjust its provision for income tax in the period such resolution occurs. Although timing of the resolution and/or closure of audits is highly uncertain, the Company does not believe it is reasonably possible that its unrecognized tax benefits would materially change in the next 12 months.

As of January 31, 2018, the Company’s long-term income taxes payable, including estimated interest and penalties, was approximately $5.4 million. The Company was unable to make a reasonably reliable estimate of the timing of payments in individual years due to uncertainties in the timing of tax audits, if any, or their outcomes.

On July 27, 2015, in Altera Corp. v. Commissioner, the United States Tax Court issued an opinion invalidating the 2003 final Treasury regulations that requires participants in a qualified cost-sharing arrangement to share stock-based compensation. At this time, the U.S. Department of the Treasury has not withdrawn the requirement to include stock-based compensation in intercompany cost-sharing arrangements from its regulations. In February 2016, the IRS appealed the ruling to the United States Court of Appeals for the Ninth Circuit. Due to the uncertainty related to the final resolution of this issue, the Company has not recorded tax benefits in its consolidated statements of operations for the year ended January 31, 2018. The Company will continue to monitor ongoing developments and potential impacts to its consolidated financial statements.