5. Income Taxes

The provision (benefit) for income taxes comprised the following for each of the years ended December 31 (in thousands):

	2011			2010			2009
Current, domestic	$	17,060		$	(15,663	)	$	(5,995	)
Current, foreign		10,799			4,985			(531	)
Current, total		27,859			(10,678	)		(6,526	)
Deferred, domestic		17,620			5,895			1,904
Deferred, foreign		(1,411	)		3,878			(3,476	)
Deferred, total		16,209			9,773			(1,572	)
Provision (benefit) for income taxes	$	44,068		$	(905	)	$	(8,098	)

The components of the Company's deferred tax asset (liability) as of December 31, 2011 and 2010 are as follows (in thousands):

	December 31,
	2011			2010
Deferred tax asset:
Inventory	$	4,452		$	7,094
Vacation accrual		1,119			1,009
Bad debt allowance		366			235
Employee compensation		2,624			1,878
Foreign taxes		422			425
Other		415			638
Total current deferred tax asset, before valuation allowance		9,398			11,279
Valuation allowance		(441	)		(717	)
Current deferred tax asset, net of valuation allowance	$	8,957		$	10,562

Current deferred tax (liability):
State taxes		(2,442	)		(3,093	)
Prepaid expenses		(733	)		(661	)
Total current deferred tax (liability):		(3,175	)		(3,754	)
Net current deferred tax asset	$	5,782		$	6,808
Non current deferred tax assets:
Deferred compensation	$	5,026		$	4,000
Employee compensation		1,456			1,793
Acquisition related compensation		159			2,819
State taxes		674			808
Net operating loss carryforwards		12,202			18,155
Research credits		3,139			2,965
Unrealized investment loss		5,005			4,723
Pension liability		3,137			2,308
Capital loss carryforwards		3,344			1,908

	December 31,
	2011			2010
Foreign tax credit carryforwards		693			2,806
Asset writedowns and other		1,918			1,798
Total non current deferred tax assets		36,753			44,083
Valuation allowance		(4,372	)		(4,301	)
Non current deferred tax assets, net of valuation allowance		32,381			39,782

Non current deferred tax (liabilities):
Depreciation and amortization		(16,444	)		(13,581	)
Intangible asset step up		(21,394	)		(19,971	)
Convertible debt		(17,950	)		(16,701	)
Other		(54	)		(653	)
Total non current deferred tax (liabilities)		(55,842	)		(50,906	)
Net non current deferred tax (liability)	$	(23,461	)	$	(11,124	)

The Company had net operating loss ("NOL") carryforwards at December 31, 2011, of $24.5 million, $47.8 million and $1.7 million for federal, state and foreign income tax purposes, respectively. The federal and state NOL carryforwards were primarily attributable to the acquisition of SemEquip, Inc. in August 2008 and the foreign NOL carryforward was attributable to the Company's second China plant which commenced production activities in 2011. The NOL carryforwards from the acquisition of SemEquip are subject to potential utilization restrictions on an annual basis as a result of the ownership change. The federal NOL carryforwards will begin to expire in 2021 if not utilized. The state NOL carryforwards have begun to expire, however the Company has established full valuation allowances for amounts that are expected to expire unused.

At December 31, 2011, the Company had approximately $1.2 million and $1.9 million in federal and state research and development credit carryforwards, respectively, which will begin to expire in 2016. These credits were attributable to the acquisition of SemEquip, Inc. These credits are subject to potential utilization restrictions on an annual basis as a result of the ownership change.

At December 31, 2011, the Company had a valuation allowance of $4.8 million for state NOLs and state research credits as the ultimate utilization of these items were less than “more likely than not”. The valuation allowance decreased by $0.2 million during 2011 primarily due to the change in utilization of NOL carryforwards.

The effective income tax rate for the years ended December 31, 2011, 2010 and 2009 differs from the Federal statutory income tax rate due to the following items (in thousands):

	December 31,
	2011			2010			2009
Income (loss) before taxes, domestic	$	84,760		$	(8,914	)	$	24,178
Income (loss) before taxes, foreign		43,196			37,285			(23,761	)
Income before taxes, total	$	127,956		$	28,371		$	417
Provision for income taxes at federal statutory rate (35%)		44,785			9,930			146
State income taxes, net of federal benefit		3,302			(8,148	)		(3,572	)
Non deductible items		752			146			242
Worthless stock deduction		-			-			(410	)
Foreign tax provision (credits)		1,517			2,385			(1,059	)
Manufacturing deduction		(2,022	)		-			-
State apportionment refund claim		(37	)		2,900			-
Foreign earnings not taxed at federal rate		(4,549	)		(6,872	)		(2,031	)
Contingency reserve		816			(484	)		(3,697	)
SemEquip NOL adjustment		-			-			(392	)
Valuation allowance		(205	)		(346	)		2,675
Other		(291	)		(416	)		-
Provision (benefit) for income taxes		44,068			(905	)	$	(8,098	)

During the year ended December 31, 2010, the Company settled a claim with the State of California to change the apportionment formula that was previously used during the years 2005 through 2008 and received approval to use the new apportionment formula in subsequent years through 2015. Accordingly, the Company recorded a current state tax benefit to recognize a refund of approximately $8.3 million for the years 2005 through 2009, offset by the federal tax impact of $2.9 million, which resulted in a net tax benefit of $5.4 million during the year ended December 31, 2010.

The exercise of stock options and vesting of restricted stock units result in a tax benefit when the tax deduction exceeds share-based compensation expense recognized under generally accepted accounting principles and is recorded as a reduction of taxes payable with corresponding increase to the additional paid-in capital account. Conversely, a tax shortfall occurs when the share-based compensation expense recognized under generally accounting principles exceeds the associated tax deduction and is recorded as an increase of income taxes payable with a corresponding reduction to the additional paid-in capital account as the Company has accumulated sufficient tax benefits in the past. Tax (shortfall) benefit of ($0.7) million, ($472,000) and $149,000 were recognized for the years ended December 31, 2011, 2010 and 2009, respectively.

The Company's effective tax rate considers the impact of undistributed earnings of subsidiary companies outside of the U.S. The Company does not provide for U.S. federal income taxes or tax benefits on the undistributed earnings or losses of its international subsidiaries because such earnings are reinvested and, in the opinion of management, will continue to be reinvested indefinitely. As of December 31, 2011, the Company had not provided federal income taxes on earnings of approximately $51.3 million from its international subsidiaries. Should these earnings be distributed in the form of dividends or otherwise, the Company would be subject to both U.S. income taxes and withholding taxes in various international jurisdictions. These taxes would be partially offset by U.S. foreign tax credits. Determination of the related amount of unrecognized deferred U.S. income taxes is not practicable because of the complexities associated with this hypothetical calculation. However, from time to time and to the extent that the Company can repatriate overseas earnings on a tax-free basis, the Company's foreign subsidiaries will pay dividends to the U.S. Material changes in the Company's working capital and long-term investment requirements could impact the decisions made by management with respect to the level and source of future remittances and, as a result, the Company's effective tax rate.

Effective January 1, 2008, the Company was granted an income tax holiday for a manufacturing facility in China. The tax holiday allows for tax-free operations through December 31, 2009, followed by operations at a reduced income tax rate of 12.5% on the profits generated in 2010 through 2012, with a return to the full statutory rate of 25% for periods thereafter. As a result of the tax holiday in China, income tax expense was reduced by approximately $1.7 million, $2.7 million and $2.3 million in 2011, 2010 and 2009, respectively.

The Company recorded a liability for unrecognized tax benefits (“UTBs”) at December 31, 2011, 2010 and 2009. A reconciliation of the beginning and ending amount of UTBs is as follows (in thousands):

	2011			2010			2009
Balance at January 1,	$	806		$	1,817		$	7,227
Additions based on tax positions related to the current year		793			603			777
Additions for tax positions of prior years		129			-			-
Reclassification of deferred tax assets		132			-			-
Reductions for settlements with taxing authorities		-			(416	)		(1,675	)
Reductions of tax positions of prior years		(69	)		(1,198	)		(4,512	)
Balance at December 31,	$	1,791		$	806		$	1,817

It is the Company's policy to classify accrued interest and penalties as part of the income tax provision. The Company recognized $10,000 of interest expense for the year ended December 31, 2011 and reversed $75,000 of interest expense related to UTBs for the year ended December 31, 2010. The accrued interest on the UTBs at December 31, 2011 and December 31, 2010 was $80,000 and $144,000, respectively. It is anticipated that any change in the above UTBs will impact the effective tax rate. At December 31, 2011, the 2007 through 2011 years are open and subject to potential examination in one or more local jurisdictions. During the year ended December 31, 2010, the Company settled the federal income tax examination of the 2008 tax year, accordingly, the 2009 through 2011 years are open for federal income tax purposes. The Company does not expect any significant release of UTBs within the next twelve months.

The Company has recorded certain deferred tax assets relating to capital losses, the realization of which is dependent upon the implementation of tax strategies to which management is committed and deems prudent and feasible.