MASIMO CORP (MASI) FY 2024 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read this discussion together with the financial statements, related notes and other financial information included in this Annual Report on Form 10-K. The following discussion may contain predictions, estimates and other forward-looking statements that involve a number of risks and uncertainties, including those discussed under Item 1A—“Risk Factors” and elsewhere in this Annual Report on Form 10-K. These risks could cause our actual results to differ materially from any future performance suggested below.
Executive Overview
We are a global technology company dedicated to improving lives. We aim to accelerate our growth strategies by continuously innovating and prioritizing patient care with a lens toward value-creation initiatives, including our Board of Directors’ (Board) commitment to a strategic review of all business activities.
Healthcare
Our healthcare business develops, manufactures and markets a variety of noninvasive patient monitoring technologies, hospital automation® and connectivity solutions, remote monitoring devices and consumer health products. Our healthcare products and patient monitoring solutions generally incorporate a monitor or circuit board, proprietary single-patient use or reusable sensors, software, cables and other services. We primarily sell our healthcare products to hospitals, emergency medical service (EMS) providers, home care providers, physician offices, veterinarians, long-term care facilities and consumers through our direct sales force, distributors and original equipment manufacturer (OEM) partners, such as GE Healthcare, Hillrom, Mindray, Philips, Physio-Control, Zoll, among others.
Our core measurement technologies are our breakthrough Measure-through Motion and Low Perfusion™ pulse oximetry, known as Masimo Signal Extraction Technology® (SET®) pulse oximetry, and advanced rainbow® Pulse CO-Oximetry parameters such as noninvasive hemoglobin (SpHb®), alongside many other modalities, including brain function monitoring, hemodynamic monitoring, regional oximetry, acoustic respiration rate monitoring, capnography and gas monitoring, nasal high-flow respiratory support therapy, patient position and activity tracking, neuromodulation technology, an opioid overdose prevention and alert solution, and telehealth solutions.
66
Table of Contents
Our measurement technologies are available on many types of devices, from bedside hospital monitors like the Root® Patient Monitoring and Connectivity Hub, to various handheld and portable devices, and to the tetherless Radius PPG®, Radius VSM® and Masimo SafetyNet® remote patient surveillance solution. The Masimo Hospital Automation® Platform facilitates data integration, connectivity, and interoperability through solutions like Patient SafetyNet™, Iris®, iSirona®, Replica® and UniView® to facilitate more efficient clinical workflows and to help clinicians provide the best possible care, both in-person and remotely. Leveraging our expertise in hospital-grade technologies, we are also expanding our suite of products intended for use outside the hospital and products for home wellness, including Masimo Sleep™, a sleep quality solution; the Radius Tº®, a wireless wearable continuous thermometer; Radius PCG®, a wireless tetherless capnograph; and the Masimo W1® smart watch.
Non-Healthcare
Our non-healthcare business develops, manufactures, markets, sells and licenses premium home sound, integration technologies and accessories, along with complete high performance in-vehicle audio systems under iconic consumer brands such as Bowers & Wilkins™, Denon™, Marantz™, HEOS™, Classe™, Polk Audio, Boston Acoustics™, Definitive Technology™, which offer products with unparalleled quality and performance to consumers, professional sound studios and audiophiles worldwide. Our products are sold direct-to-consumers or through authorized retailers and wholesalers. We also license our audio technology to select luxury automotive manufacturers such as Aston Martin®, BMW®, Maserati®, McLaren®, Polestar® and Volvo®. We continue to expand our collaborations and brand partnerships, which include certain airlines for bespoke headphones allowing for the best in-flight audio experience; certain computer and laptop manufacturers allowing for a new experience within computer audio; and certain high-performance TV manufacturers, allowing for delivery of a range of integrated discreet audio devices and enclosures.
While we seek to increase sales through our direct-to-consumer sales channel, we expect that our partnerships with third-party retailers and custom installers will continue to be an important part of our ecosystem. We will continue to seek retail partners that can deliver differentiated in-store experiences to support customer demand for product demonstrations. Our physical retail distribution relies on third-party retailers and our ability to maintain our efficiency in our manufacturing processes.
Outlook and Strategy
We are excited about the long-term prospects of patient care, hospital automation® and advancing our initiatives of making hospital quality patient monitoring available in the home and for home wellness needs. Healthcare ecosystems are rapidly evolving and becoming visibly more interconnected. Accelerated by the need to adapt to the post-pandemic world, more patient care is moving closer to the home. The widespread caregiver shortage demands transformative changes in the current healthcare space. Patients continue to gravitate toward products that can extend the reach of physicians without any compromise on the quality of care after a hospital visit or discharge.
We continue to seek out differentiated growth opportunities to cross-leverage technologies, bringing our core clinically superior solutions into the home and continue to advance our integration technologies into the hospital to advance hospital automation® connectivity and cloud-based technologies.
67
Table of Contents
Economic Trends and Developments Affecting Our Business
The healthcare and non-healthcare markets we operate in are highly competitive and dynamic, and experienced a number of headwinds in 2023 and 2024, including but not limited to supply chain constraints, inflationary pressures, interest rates volatility, rising energy costs, transportation shortages, recessionary trends and foreign currency fluctuations. All of these have affected the global economic environment, along with the healthcare facility spending trends and consumer spending behaviors which ultimately affected our performance. While we experienced volatility in both our healthcare and non-healthcare segments, we continue to be optimistic about our long-term growth and prospects.
During 2023, we initiated various cost reduction actions to better optimize our cost structure with near-term revenue to enhance our operating cash flow, and improve our profitability for both segments going forward. Our initial focus was on a reduction of variable costs, with specific attention to eliminating cost inefficiencies in our supply chain and reducing variable labor spend and overhead costs in our production facilities by shifting manufacturing of certain products to lower cost locations. Through the second and third quarters of 2023, we expanded these actions by streamlining operations, including the consolidation and rationalization of business activities and facilities, workforce reductions, suspension of incentive bonus compensation and annual salary adjustments, transfers of product lines between manufacturing facilities, and the transfer of other business activities between facilities.
At the same time, we also revisited our revenue forecasts to reflect the current lower than expected U.S. hospital inpatient census, elevated sensor inventory levels at some customers due to discounting in prior quarters, and other factors that negatively affected revenues. Specifically, during fiscal year 2022 and into the early part of the second quarter of 2023, we sold products at a discount which led to elevated inventory levels at customers and delayed reordering for our single-patient use sensors and consumables and which, along with other factors, negatively impacted our business in the second quarter of 2023 and to a lesser extent in subsequent quarters.
During the fourth quarter 2024, we implemented a strategic realignment initiative to refocus on profitability, maximizing our return on invested capital, and driving stronger returns for our stockholders.
Seasonality
Each of our business segments is individually influenced by many factors, including but not limited to: new product releases, acquisitions, regulatory approvals, holiday schedules, hospital census, clinicians, nurses and hospital personnel, the timing of the influenza season, holiday seasons, consumer pressures, fluctuations in interest rates, inflationary and recessionary pressures, consumer demand and preferences, competitors’ marketing promotions and sales incentives; among many other factors.
Our healthcare revenues in the third quarter of our fiscal years have historically represented a lower percentage of segment revenues due to the seasonality of the U.S., European and Japanese markets, where summer vacation schedules normally result in fewer elective procedures utilizing our healthcare products.
Our non-healthcare revenues in the fourth quarter of a fiscal year historically produce a higher percentage of our segment revenues than the other quarters of our fiscal year due to the holiday shopping season and our corresponding promotional activities. Our promotional discounting activity may negatively impact our gross margin during the holiday periods and into the trailing period (depending on our annual 52/53 week fiscal year end calendar).
Contract Conversions and Installations
During the second quarter and continuing into the third and fourth quarters of 2023, we achieved substantial market share gains through contract acquisitions as new hospital customers continued to switch to Masimo technology at rapid rates. However, conversions of new customers who have contracted to switch to Masimo were less than expected due to continued labor shortages in hospitals and our OEM partners not being able to provide the patient monitoring equipment needed to complete the installations in a timely manner; thereby impacting our second, third and fourth quarter 2023 healthcare revenues. The installation challenges we experienced in fiscal 2023 increased our backlog systems installations into fiscal 2024 and is expected to carry over into fiscal 2025.
Despite these obstacles, we continue to be vigilant in our efforts to address the labor shortages, including engaging additional third-party installation service providers. Our hospital business continued to be strong, as our growth in contracting reflects. We remain confident that sensor utilization and sensor revenue growth rates will return to normal levels.
68
Table of Contents
Ongoing Russian-Ukraine Conflict and Israel-Palestine-Iran War
We continue to monitor the uncertainty from conflicts and wars in Russia, the Ukraine and Israel, with respect to on-going business in such regions, and are continuing to support existing patient populations while remaining compliant with all applicable U.S. and EU sanctions and regulations, where applicable. While none of Russia, the Ukraine or Israel constitutes a material portion of our business, a significant escalation or expansion of economic disruption or the current scope of the conflicts in either geographic region, including the Middle East, could have an impact on our business. In the interim, order acceptance for Russia has been halted. For the three and twelve months ended December 28, 2024 sales derived from customers based in Russia represented an immaterial percentage of our total revenue.
Executive Leadership and Board Transitions
At our 2024 Annual Meeting of Stockholders held on September 19, 2024, our stockholders voted to elect William Jellison and Darlene Solomon to our Board, the voting results of which were certified by the independent inspector of election on September 24, 2024. On September 19, 2024, Joe Kiani, our former Chairman and Chief Executive Officer, delivered a notice to our Board stating his decision to resign from his position as our CEO. On September 24, 2024, our Board appointed director Michelle Brennan to serve as our interim CEO, effective September 24, 2024, and the Board retained Korn Ferry to assist with CEO succession planning.
On October 16, 2024, our Board increased the authorized number of directors on our Board to eight and, in connection with such increase, appointed Timothy J. Scannell and Wendy E. Lane as Class III directors of Masimo, effective October 16, 2024.
On October 24, 2024, following a review by outside counsel, the Board adopted resolutions to terminate Mr. Kiani’s employment, effective October 24, 2024.
On January 21, 2025, the Company announced that the Board has appointed Catherine Szyman, as Chief Executive Officer of the Company, effective as of February 12, 2025 (the “Effective Date”). As of the Effective Date, Michelle Brennan will cease to serve as Interim Chief Executive Officer of the Company, a role that she has held since September 24, 2024. Ms. Brennan will continue to serve as member of the Board, and has been appointed to the role of Chairman of the Board while Mr. Koffey will serve in the role of Vice-Chairman of the Board.
In connection with Ms. Szyman’s appointment as CEO, the Board increased the authorized number of directors on the Board to nine and appointed Ms. Szyman to fill such vacancy created by the increase in directors, in each case effective as of the Effective Date. Ms. Szyman will serve as a Class II director until the 2025 Annual Meeting of Stockholders, at which the Class II directors are elected, until her successor is duly elected and has qualified, or until her earlier death, resignation or removal.
On February 12, 2025, changes were made to our management and Board, including the following: (a) Ms. Szyman became our new CEO and joined the Board as a Class II director; (b) Ms. Brennan stepped down from her position as Interim CEO and became the Chairman of the Board: and (c) Mr. Koffey stepped down from his position as Lead Independent Director and became Vice-chairman of the Board.
Executive Management Transitions
On November 13, 2024, in connection with its strategic shift to refocus on its core healthcare business, the Company terminated the employment of Tao Levy, the Company’s EVP, Business Development.
On February 6, 2025, the Company terminated the employment of Tom McClenahan, the Company’s EVP, General Counsel and Corporate Secretary, effective as of February 6, 2025.
Strategic Realignment Initiative
During the fourth quarter of 2024, our Board approved a strategic realignment initiative of our healthcare segment to drive progress towards a more streamlined and efficient organization, which included right-sizing the organization, cost rationalization, driving research and development efficiencies and enhancing key launch and innovation processes. The impact of the strategic realignment initiative resulted in charges of approximately $128.0 million for the three months ended December 28, 2024, which have been reflected in cost of goods sold and operating expenses in the accompanying consolidated statements of operations.
69
Table of Contents
Results of Operations
The following table sets forth, for the periods indicated, our results of operations expressed as U.S. Dollar amounts and as a percentage of revenue:
| Year Ended December 28, 2024 | Year Ended December 30, 2023 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Amount (in millions) | % of Revenue | Amount (in millions) | % of Revenue | ||||||||||
| Revenue: | |||||||||||||
| Product revenue | $ | 1,980.3 | 94.6 | % | $ | 1,954.2 | 95.4 | % | |||||
| Related party revenue - (Note 3) | 114.1 | 5.4 | 93.9 | 4.6 | |||||||||
| Total revenue | 2,094.4 | 100.0 | 2,048.1 | 100.0 | |||||||||
| Cost of goods sold | 1,090.0 | 52.0 | 1,044.6 | 51.0 | |||||||||
| Gross profit | 1,004.4 | 48.0 | 1,003.5 | 49.0 | |||||||||
| Operating expenses: | |||||||||||||
| Selling, general and administrative | 743.8 | 35.6 | 664.0 | 32.4 | |||||||||
| Research and development | 222.8 | 10.6 | 175.2 | 8.6 | |||||||||
| Litigation settlements | 0.5 | — | 17.8 | 0.9 | |||||||||
| Impairment charges, including intangible assets and goodwill - (Note 9 and Note 10) | 304.0 | 14.5 | 10.0 | 0.5 | |||||||||
| Total operating expenses | 1,271.1 | 60.7 | 867.0 | 42.3 | |||||||||
| Operating (loss) income | (266.7) | (12.7) | 136.5 | 6.6 | |||||||||
| Non-operating loss | (38.6) | (1.8) | (48.4) | (2.4) | |||||||||
| (Loss) income before provision for income taxes | (305.3) | (14.6) | 88.1 | 4.3 | |||||||||
| (Benefit) provision for income taxes | (0.4) | — | 6.6 | 0.3 | |||||||||
| Net (loss) income | $ | (304.9) | (14.6) | % | $ | 81.5 | 4.0 | % |
Comparison of the Year ended December 28, 2024 to the Year ended December 30, 2023
Revenue. Revenue increased $46.3 million, or 2.3%, to $2,094.4 million for the year ended December 28, 2024, from $2,048.1 million for the year ended December 30, 2023.
Revenue by segment: Revenue by segment is comprised of healthcare and non-healthcare segments. The healthcare segment consists of hospital products and services. The non-healthcare segment consists of consumer audio visual and sound related products. The following table details our revenues by segment for each of the year ended December 28, 2024 and December 30, 2023:
| Segment Revenue( in millions, except percentages) | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Year Ended December 30, 2023 | Increase/ (Decrease) | Percentage Change | ||||||||||||||||||
| Healthcare | $ | 1,395.2 | 66.6 | % | $ | 1,275.5 | 62.3 | % | $ | 119.7 | 9.4 | % | |||||||||
| Non-healthcare | 699.2 | 33.4 | 772.6 | 37.7 | (73.4) | (9.5) | |||||||||||||||
| Revenue by segment | $ | 2,094.4 | 100.0 | % | $ | 2,048.1 | 100.0 | % | $ | 46.3 | 2.3 | % |
Revenue for our healthcare segment increased 9.4%, or $119.7 million to $1,395.2 million for the year ended December 28, 2024, compared to $1,275.5 million for the year ended December 30, 2023. This increase was driven by continued growth in hospital contracting both inside and outside the U.S. as well as a return to normal hospital ordering patterns after a weak prior year. Revenues were unfavorably impacted by approximately $4.9 million of foreign exchange rate movements from the prior year period that increased the U.S. Dollar translation of foreign sales that were denominated in various foreign currencies.
Revenue generated through our direct and distribution sales channels increased $120.6 million, or 10.6%, to $1,263.6 million for the year ended December 28, 2024, compared to $1,143.0 million for the year ended December 30, 2023. Revenues from our OEM channel increased $1.1 million, or 0.8%, to $131.6 million for the year ended December 28, 2024, as compared to $130.5 million for the year ended December 30, 2023.
70
Table of Contents
During the year ended December 28, 2024, we shipped approximately 234,600 noninvasive technology board monitors, a decrease of approximately 28,400 units, or 10.8%, over the year ended December 30, 2023.
For the year ended December 28, 2024, non-healthcare revenue decreased approximately $73.4 million, or 9.5%, compared to $772.6 million for the year ended December 30, 2023. During the year ended December 28, 2024, the non-healthcare segment was adversely impacted by a decline in consumer discretionary spending and higher interest rates, which affected the market for high-end audio systems, and home entertainment components and systems.
Gross Profit. Gross profit consists of revenue less cost of goods sold. Cost of goods sold includes labor, material, overhead and other similar costs related to the production, supply, distribution and support of our products. Our gross profit for the years ended December 28, 2024 and December 30, 2023 were as follows:
| Gross Profit(in millions, except percentages) | |||||
|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Percentage of Revenues | Year Ended December 30, 2023 | Percentage of Revenues | Increase/ (Decrease) | Percentage Change |
| $1,004.4 | 48.0% | $1,003.5 | 49.0% | $0.9 | 0.1% |
Gross profit increased $0.9 million to $1,004.4 million for the year ended December 28, 2024, from $1,003.5 million for the year ended December 30, 2023, primarily due to increased sales volumes from our healthcare segment, which were primarily offset by decreased sales volumes from our non-healthcare segment and various charges for certain products that were earmarked “end of life” or included in the strategic realignment initiative, which are no longer going to be supported or expected to be brought to market. These inventory related charges also had a negative impact our gross profit as a percentage of revenue, which decreased to 48.0% for the year ended December 28, 2024, from 49.0% for the year ended December 30, 2023.
Selling, General and Administrative. Selling, general and administrative expenses consist primarily of salaries, stock-based compensation and related expenses for sales, marketing and administrative personnel, sales commissions, advertising and promotion costs, professional fees related to legal, accounting and other outside services, public company costs and other corporate expenses. Selling, general and administrative expenses for the years ended December 28, 2024 and December 30, 2023 were as follows:
| Selling, General and Administrative(in millions, except percentages) | |||||
|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Percentage of Revenues | Year Ended December 30, 2023 | Percentage of Revenues | Increase/ (Decrease) | Percentage Change |
| $743.8 | 35.6% | $664.0 | 32.4% | $79.8 | 12.0% |
Selling, general and administrative expenses increased $79.8 million, or 12.0%, to $743.8 million for the year ended December 28, 2024, from $664.0 million for the year ended December 30, 2023. This increase was primarily attributable to higher legal and professional fees of approximately $35.3 million, higher compensation and other employee-related costs of approximately $29.2 million, higher transaction-related costs of approximately of $19.0 million, and a write down of the capitalized costs associated with the property in Vancouver, British Columbia of approximately $16.0 million, offset by various insurance recoveries aggregating to approximately $10.0 million, lower occupancy and other office-related costs of approximately $9.7 million, and lower advertising and marketing-related expenses of approximately $0.3 million.
Additionally, for the year ended December 28, 2024, selling, general, and administrative expenses included legal and professional fees of approximately $33.3 million associated legal proceeding against Apple, Inc., approximately $27.6 million of costs associated with the reimbursement of Politan’s costs related to its proxy contest with the Company and the associated litigation, and $31.0 million of additional costs associated with the strategic realignment initiative, which include charges for severance packages related to workforce reductions, facility exit costs and lease impairments, and charges for patent and license abandonments. The costs reimbursed to Politan were for out-of-pocket expenses and were reviewed and approved unanimously by an independent committee of the Board.
71
Table of Contents
Research and Development. Research and development expenses consist primarily of salaries, stock-based compensation and related expenses for engineers and other personnel engaged in the design and development of our products. These expenses also include third-party fees paid to consultants, prototype and engineering supply expenses and the costs of clinical trials. Research and development expenses for the years ended December 28, 2024 and December 30, 2023 were as follows:
| Research and Development(in millions, except percentages) | |||||
|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Percentage of Revenues | Year Ended December 30, 2023 | Percentage of Revenues | Increase/ (Decrease) | Percentage Change |
| $222.8 | 10.6% | $175.2 | 8.6% | $47.6 | 27.2% |
Research and development expenses increased $47.6 million, or 27.2%, to $222.8 million for the year ended December 28, 2024 from $175.2 million for the year ended December 30, 2023, primarily due to higher write off of certain capitalized research and development costs for projects and products of approximately $22.9 million, higher compensation and employee-related costs of approximately $20.3 million, higher patent and other amortization costs of approximately $7.1 million and higher occupancy and other office-related costs of approximately $3.7 million, offset by lower engineering project costs of approximately $4.8 million, and lower professional fees of approximately $1.8 million.
In addition, for the year ended December 28, 2024, research and development expense included costs for certain charges related to the strategic realignment initiative, including charges for severance packages related to workforce reductions and the write off of certain capitalized research and development costs for projects and products that are no longer being supported and/or expected to be brought to market.
Litigation settlements. Litigation settlements consist primarily of litigation related settlements and other legal expenses. Litigation settlements for the years ended December 28, 2024 and December 30, 2023 were as follows:
| Litigation Settlements(in millions, except percentages) | |||||
|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Percentage of Revenues | Year Ended December 30, 2023 | Percentage of Revenues | Increase/ (Decrease) | Percentage Change |
| $0.5 | —% | $17.8 | 0.9% | $(17.3) | (173.0)% |
Litigation settlements decreased $17.3 million to $0.5 million for the year ended December 28, 2024, as compared to $17.8 million for the year ended December 30, 2023.
Litigation settlements for the year ended December 30, 2023 consisted entirely of an award of approximately $17.8 million in attorneys’ fees and expenses we were ordered to pay by the Delaware Court of Chancery relating to Politan’s lawsuit against Masimo and certain of its current and former directors.
Impairment Charge: Impairment charge consists of charges or write downs of the carrying value of goodwill or other intangibles that exceed their estimated fair value, or recoverability, as applicable. Impairment charges for the years ended December 28, 2024 and December 30, 2023 were as follows:
| Impairment Charge(in millions, except percentages) | |||||
|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Percentage of Revenues | Year Ended December 30, 2023 | Percentage of Revenues | Increase/ (Decrease) | Percentage Change |
| $304.0 | 14.5% | $10.0 | 0.5% | $294.0 | 1,651.7% |
During the fourth quarter of 2024, we performed our annual indefinite-lived intangibles impairment analysis and, based on this assessment, we determined that the carrying value of certain indefinite-lived trademarks and goodwill in the non-healthcare reporting unit were impaired by approximately $304.0 million. For indefinite-lived intangibles, the fair values were estimated using the relief-from-royalty method under the income approach, which involves forecasting avoided royalties, reducing them by taxes, and discounting the resulting net cash flows to a present value using an appropriate discount rate.
72
Table of Contents
For the non-healthcare reporting unit, we performed a quantitative assessment of goodwill impairment during the fourth quarter of 2024. We used a combination of both an income and a market approach to determine the fair value of the reporting unit. The income approach utilized the estimated discounted cash flows for the reporting unit, while the market approach utilized comparable company information. Estimates and assumptions used in the income approach to calculate projected future discounted cash flows included revenue growth rates, operating margins and a discount rate for the reporting unit. The discount rate was determined using a weighted average cost of capital for risk factors specific to the reporting unit and other market and industry data. For our non-healthcare reporting unit, goodwill was fully impaired such that the impairment expense was approximately $294.0 million.
We review goodwill, other intangibles and other long-lived assets with finite lives for impairment at least annually in the fourth quarter of the year or more frequently if an event occurs indicating the potential for impairment, and should our stock price, macro-economic market conditions or related forecast revisions market conditions continue to deteriorate, the result of such review may indicate additional declines in the fair value of goodwill or intangible assets, requiring additional impairment charges in the future. For goodwill, we have the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of one or more of our reporting units is greater than its carrying amount. If, after assessing the totality of events or circumstances, we determine it is more likely than not that the fair value of a reporting unit is greater than its carrying amount, there is no need to perform any further testing. However, if we conclude otherwise, then we are required to perform a quantitative impairment test by calculating the fair value of the reporting unit and comparing the fair value with the carrying amount of the reporting unit. If the fair value of the reporting unit is less than its carrying value, an impairment loss is recorded based on that difference.
We performed a qualitative assessment for our healthcare reporting unit during the fourth quarter of 2024. Based on this assessment, we concluded that it was more likely than not that the healthcare reporting unit was greater than its carrying value. Accordingly, no further testing was required on this reporting unit.
During the third quarter of 2023, we experienced declines in our stock price and certain worsening macro-economic market conditions, which contributed to a significant decline in our market capitalization. Based on these factors, we determined that there was a triggering event for the three months ended September 30, 2023, which required an interim impairment assessment. Accordingly, we performed an interim impairment test of goodwill and indefinite-lived intangibles, and a recoverability test for other long lived assets with finite lives. This quantitative assessment indicated that the carrying value of certain trademarks in the non-healthcare reporting unit were impaired by approximately $7.0 million. In conjunction with this third quarter interim impairment quantitative assessment, we concluded that both the healthcare reporting unit’s and non-healthcare reporting unit’s respective estimated fair values exceeded their carrying values. Furthermore, recoverability tests performed for other long-lived assets with finite lives indicated no recoverability issues.
During the fourth quarter of 2023, we performed our annual indefinite-lived intangibles impairment analysis and, based on this assessment, we determined the carrying value of certain indefinite-lived trademarks in the non-healthcare reporting unit were impaired by approximately $3.0 million. For indefinite-lived intangibles, the fair values were estimated using the relief-from-royalty method under the income approach, which involves forecasting avoided royalties, reducing them by taxes, and discounting the resulting net cash flows to a present value using an appropriate discount rate. For certain of these intangibles, the discount rate assumed in the analysis was 15.0%, and a 1.0% change would equate to approximately $12.0 million in fair value, all other variables remaining constant.
Non-operating Loss. Non-operating loss consists primarily of interest income, interest expense and foreign exchange gains and losses. Non-operating loss for the years ended December 28, 2024 and December 30, 2023 was as follows:
| Non-operating Loss (in millions, except percentages) | |||||
|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Percentage of Revenues | Year Ended December 30, 2023 | Percentage of Revenues | (Decrease)/Increase | Percentage Change |
| $(38.6) | (1.8)% | $(48.4) | (2.4)% | $9.8 | (20.2)% |
Non-operating loss was $38.6 million for the year ended December 28, 2024 compared to $48.4 million of non-operating loss for the year ended December 30, 2023. This reduction in non-operating loss of approximately $9.8 million was primarily due to interest expense incurred under our various lines of credit and the borrowing facility of approximately $43.6 million, which was offset by $4.8 million of interest income on cash deposits in combination with approximately $0.2 million of net realized and unrealized foreign currency denominated transactions during the year ended December 28, 2024.
73
Table of Contents
(Benefit) Provision for Income Taxes. Our (benefit) provision for income taxes for the years ended December 28, 2024 and December 30, 2023 were as follows:
| (Benefit) Provision for Income Taxes(in millions, except percentages) | |||||
|---|---|---|---|---|---|
| Year Ended December 28, 2024 | Percentage of Revenues | Year Ended December 30, 2023 | Percentage of Revenues | Increase/ (Decrease) | Percentage Change |
| $(0.4) | —% | $6.6 | 0.3% | $(7.0) | (106.1)% |
Our (benefit) provision for income taxes was $(0.4) million for the year ended December 28, 2024 compared to $6.6 million for the year ended December 30, 2023. Our effective tax rate was 0.1% for the year ended December 28, 2024 compared to 7.5% for the year ended December 30, 2023. This decrease in our effective tax rate for the year ended December 28, 2024 resulted primarily from an increase in a non-deductible goodwill impairment, partially offset by a decrease in income tax credits from the year ended December 30, 2023.
We have made no provision for U.S. income taxes or foreign withholding taxes on approximately $911 million in accumulated earnings from our foreign subsidiaries as we expect that such amounts will continue to be indefinitely reinvested in operations outside the U.S. Our actual future effective income tax rate will depend on various factors, including the geographic composition of our pre-tax income, the amount of excess tax benefits realized from U.S. stock-based compensation, the amount of our research and development tax credits, the deductibility of executive compensation, changes in tax laws, changes in deferred tax asset valuation allowances and the recognition and derecognition of tax benefits associated with uncertain tax positions.
Comparison of the Year ended December 28, 2024 to the Year ended December 30, 2023
For a discussion regarding our financial condition and results of operations for the year ended December 28, 2024 as compared to the year ended December 30, 2023, refer to the discussion under the heading “Comparison of the Year ended December 28, 2024 to the Year ended December 30, 2023” in Item 7, which should be read in conjunction with Item 7, in each case, of our Annual Report on Form 10-K for the year ended December 30, 2023, filed with the SEC on February 28, 2024.
Liquidity, Capital Resources and Prospective Capital Requirements
Our principal sources of liquidity consist of our existing cash and cash equivalent balances, future funds expected to be generated from operations and available borrowing capacity under our Credit Facility. As of December 28, 2024, we had approximately $608.1 million in working capital, of which approximately $177.6 million was in cash and cash equivalents. In addition to net working capital, we had approximately $245.5 million of available borrowing capacity (net of outstanding letters of credit) under our Credit Revolving Facility as compared to approximately $668.1 million in working capital and approximately $163.0 million in cash and cash equivalents at December 30, 2023.
We currently maintain a Credit Revolving Facility, which provides for $705.0 million of unsecured borrowings. The Credit Facility also provides for a sublimit of up to $50.0 million for the issuance of letters of credit. Proceeds from the Credit Facility are being used for general corporate, capital investment and expenditures and working capital needs. For further information see Note 15, “Debt”, to our accompanying consolidated financial statements included in Part IV, Item 15(a) of this Annual Report on Form 10-K.
In managing our day-to-day liquidity and capital structure, we generally do not rely on foreign earnings as a source of funds. As of December 28, 2024, we had cash totaling $78.2 million held outside of the U.S., of which approximately $28.6 million was accessible without additional tax cost and approximately $49.6 million was accessible at an incremental estimated tax cost of up to $0.3 million. We currently have sufficient domestic funds on-hand and cash held outside the U.S. that is available without additional tax cost to fund our domestic operations. In the event funds that are treated as permanently reinvested are repatriated, we may be required to accrue and pay additional U.S. taxes to repatriate these funds.
Our cash requirements depend on numerous factors, including, but not limited to, market acceptance of our technologies, our continued ability to commercialize new products and to create or improve our technologies and applications, expansion of our global footprint through acquisitions and/or strategic investments in technologies or technology companies, hedging and derivative activities, investments in property and equipment, the renewal of our Credit Facility, the impact of disruptions to the manufacturing industry supply chain for key components, inflation, repurchases of our stock under our authorized stock repurchase program, costs related to our domestic and international regulatory requirements and other long-term commitment and contingencies. For further information see Note 24,“Commitments and Contingencies” to our accompanying consolidated financial statements included in Part IV, Item 15(a) of this Annual Report on Form 10-K.
74
Table of Contents
Our total cash and cash equivalents and related cash flows may be affected by certain discretionary actions we may take with customers and suppliers to accelerate or delay certain cash receipts or payments to manage liquidity for our strategic business requirements. These actions may include, among others, negotiating with suppliers to optimize our payment terms and conditions, adjusting the timing of cash flows associated with customer sales programs and collections, managing inventory levels and purchasing practices, and selling certain of our accounts receivables on a non-recourse basis to third party financial institutions.
We anticipate that our existing cash and cash equivalents, amounts available under our Credit Facility and cash provided by operations and, taken together, provide adequate resources to fund ongoing operating and capital expenditures, working capital requirements, and other operational funding needs for the next 12 months.
Should we require additional funds in the future to support our working capital requirements or for other purposes, we may seek to raise such additional funds through debt financing, as well as from other sources such as through our effective automatic shelf registration statement on Form S-3 (File No. 333-262770) on file with the SEC, pursuant to which we may offer an unspecified amount of debt, equity, and other securities. No assurance can be given that additional financing will be available in the future or that if available, such financing will be obtainable on terms favorable when required.
Cash Flows
| The following table summarizes our cash flows (in millions): | ||||||
|---|---|---|---|---|---|---|
| Year Ended | ||||||
| December 28, 2024 | December 30, 2023 | |||||
| Net cash provided by (used in): | ||||||
| Operating activities | $ | 196.4 | $ | 94.1 | ||
| Investing activities | (51.2) | (81.2) | ||||
| Financing activities | (125.6) | (57.1) | ||||
| Effect of foreign currency exchange rates on cash | (6.4) | 2.8 | ||||
| Increase in cash, cash equivalents, and restricted cash | $ | 13.2 | $ | (41.4) |
Operating Activities. Cash provided by operating activities was approximately $196.4 million for the year ended December 28, 2024, generated primarily from operations which were increased by non-cash activities, including an impairment charge of $304.0 million, depreciation and amortization of $103.0 million, loss on disposal of inventory, equipment, and other assets of $98.7 million, and stock-based compensation of $41.5 million, which was partially offset by a deferred income tax benefit of $38.2 million. Other major changes in operating assets and liabilities include decreases in lease receivable, other non-current liabilities and other current assets of $12.7 million, $10.5 million and $6.6 million, respectively; an increase in accounts receivable, accrued compensation, accrued liabilities, accounts payable, deferred revenue and other contract-related liabilities, inventories, deferred costs and other contract assets, other non-current assets, and income taxes payable of $65.0 million, $22.2 million, $17.7 million, $14.8 million, $10.3 million, $7.5 million, $4.0 million, $2.3 million and $2.2 million, respectively, primarily due to timing of payments and costs associated with the strategic realignment initiative.
For the year ended December 30, 2023, cash provided by operating activities was approximately $94.1 million, generated primarily from net income from operations of $81.5 million. This was increased by non-cash activities, including depreciation and amortization of $98.3 million an impairment charge of $10.0 million, and stock-based compensation of $7.0 million, partially offset by a deferred income tax benefit of $35.6 million. Other major changes in operating assets and liabilities include decreases in accounts receivable, accrued compensation, accrued liabilities, accounts payable, income taxes payable and lease receivable of $88.2 million, $26.8 million, $22.8 million, $19.6 million $15.1 million and $1.7 million, respectively, primarily due to the our cost reduction strategy; an increase in inventories, other non-current liabilities, other non-current assets, deferred costs and other contract assets, other current assets and deferred revenue and other contract-related liabilities of $69.2 million, $14.4 million, $8.6 million, $7.1 million, $3.6 million and $3.0 million, respectively, primarily due to timing of payments and inventory build-up.
Investing Activities. Cash used in investing activities for the year ended December 28, 2024 was approximately $51.2 million, consisting primarily of approximately $31.1 million of capitalized intangible asset costs related primarily to software development, approximately $20.0 million for purchases of property and equipment and approximately $0.1 million of strategic investments.
75
Table of Contents
For the year ended December 30, 2023, cash used in investing activities was approximately $81.2 million, consisting primarily of approximately $44.0 million for purchases of property and equipment, approximately $43.7 million of capitalized intangible asset costs related primarily to patent and trademark costs and license fees, and approximately $1.0 million of strategic investments, which were offset by approximately $7.5 million from escrow funds associated with a business combination.
Financing Activities. Cash used in financing activities for the year ended December 28, 2024 was approximately $125.6 million, consisting primarily of repayments on the line of credit of approximately $237.8 million and withholding of shares for employee payroll taxes for vested equity awards of approximately $11.8 million, which were offset by proceeds from borrowings under the line of credit of approximately $98.8 million and the issuance of common stock related to employee equity awards of approximately $25.2 million.
For the year ended December 30, 2023, cash used in financing activities was approximately $57.1 million, consisting primarily of repayments on the line of credit of approximately $240.2 million, and withholding of shares for employee payroll taxes for vested equity awards of approximately $12.9 million, which were offset by proceeds from borrowings under the line of credit of approximately $189.0 million and the issuance of common stock related to employee equity awards of approximately $7.0 million.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of net revenues, expenses, assets and liabilities. These estimates and judgments are based on historical experience and on various other factors that we believe to be reasonable under the circumstances, and form the basis for making management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effects of matters that are inherently uncertain. Although we regularly evaluate these estimates and assumptions, changes in judgments and uncertainties relating to these estimates could potentially result in materially different results under different assumptions and conditions. If these estimates differ significantly from actual results, the impact on the consolidated financial statements may be material. We believe that the critical accounting policies that are the most significant for purposes of fully understanding and evaluating our reported financial results include the following:
Revenue Recognition, Deferred Revenue and Other Contract Liabilities
We derive the majority of our revenue from four primary sources: (i) direct sales under deferred equipment agreements with end-user hospitals where we provide up-front monitoring equipment at no up-front charge in exchange for a multi-year sensor purchase commitment; (ii) other direct sales of noninvasive monitoring solutions to end-user hospitals, emergency medical response organizations and other direct customers; (iii) sales of noninvasive monitoring solutions to distributors who then typically resell to end-user hospitals, emergency medical response organizations and other customers; and (iv) sales of integrated circuit boards to OEM customers who incorporate our embedded software technology into their multiparameter monitoring devices. Subject to customer credit considerations, the majority of such sales are made on open account using industry standard payment terms based on the geography within which the specific customer is located.
We generally recognize revenue following a single, principles-based five-step model to be applied to all contracts with customers and generally provide for the recognition of revenue in an amount that reflects the consideration to which we expect to be entitled, net of allowances for estimated returns, discounts or sales incentives, as well as taxes collected from customers that are remitted to government authorities, when control over the promised goods or services are transferred to the customer. Revenue related to equipment supplied under sales-type lease arrangements is recognized once control over the equipment is transferred to the customer, while revenue related to equipment supplied under operating-type lease arrangements is generally recognized on a straight-line basis over the term of the lease.
While the majority of our sales transactions contain standard business terms and conditions, there are some transactions that contain non-standard business terms and conditions. As a result, contract interpretation and analysis is required to determine the appropriate accounting, including: (i) the amount of the total consideration, including variable consideration, (ii) whether the arrangement contains an embedded lease, and if so, whether such embedded lease is a sales-type lease or an operating lease, (iii) the identification of the distinct performance obligations contained within the arrangement, (iv) how the arrangement consideration should be allocated to each performance obligation when multiple performance obligations exist, including the determination of standalone selling price, and (v) when to recognize revenue on the performance obligations. Changes in judgments on these assumptions and estimates could materially impact the timing of revenue recognition.
76
Table of Contents
We enter into agreements to sell our monitoring solutions and services, sometimes as part of arrangements with multiple performance obligations that include various combinations of distinct product sales, equipment leases and services. In the case of contracts with multiple performance obligations, the authoritative guidance provides that the total consideration be allocated to each performance obligation on the basis of relative standalone selling prices. When a standalone selling price is not readily observable, we estimate the standalone selling price by considering multiple factors including, but not limited to, features and functionality of the product, geographies, type of customer, contractual prices pursuant to Group Purchasing Organization (GPO) contracts, our pricing and discount practices, and other market conditions.
Sales under deferred equipment agreements are generally structured such that we agree to provide certain monitoring-related equipment, software, installation, training and/or warranty support at no up-front charge in exchange for the customer’s commitment to purchase sensors over the term of the agreement, which generally ranges from three to six years. We allocate contract consideration under deferred equipment agreements containing fixed annual sensor purchase commitments to the underlying lease and non-lease components at contract inception. In determining whether any underlying lease components are related to a sales-type lease or an operating lease, we evaluate the customer’s rights and ability to control the use of the underlying equipment throughout the contract term, including any equipment substitution rights retained by us, as well as our expectations surrounding potential contract/lease extensions or renewals and the customer’s likelihood to exercise any purchase options. Revenue allocable to non-lease components is generally recognized as such non-lease components are satisfied. Revenue allocable to lease components under sales-type lease arrangements is generally recognized when control over the equipment is transferred to the customer. Revenue allocable to lease components under operating lease arrangements is generally recognized over the term of the operating lease. We generally do not expect to derive any significant value in excess of such asset’s unamortized book value from equipment underlying our operating leases arrangements.
Revenue from direct sales of our products to end-user hospitals, emergency medical response organizations, other direct customers, distributors and OEM customers is generally recognized by us when control of such products transfer to the customer based upon the terms of the contract or underlying purchase order. Revenue related to OEM rainbow® parameter software licenses is recognized by us upon the OEM’s shipment of its product to its customer, as reported to us by the OEM.
We provide certain customers with various sales incentives that may take the form of discounts or rebates. We estimate and provide allowances for these programs as a reduction to revenue at the time of sale. In general, customers do not have a right of return for credit or refund. However, we allow returns under certain circumstances. At the end of each period, we estimate and accrue for these returns as a reduction to revenue. We estimate the revenue constraints related to these forms of variable consideration based on various factors, including expected purchasing volumes, prior sales and returns history, and specific contractual terms and limitations.
Inventory
Inventories are stated at the lower of cost or net realizable value. Cost is determined using a standard cost method, which approximates first-in, first-out method and includes material, labor and overhead costs. Inventory valuation reserves are recorded for materials that have become excess or obsolete or are no longer used in current production and for inventory items that have a market price less than the carrying value in inventory. We generally purchase raw materials in quantities that we anticipate will be fully used within one year. However, changes in operating strategy and customer demand, and frequent unpredictable fluctuations in market values for such materials, can limit our ability to effectively utilize all of the raw materials purchased and sold through resulting finished goods to customers for a profit. We regularly monitor potential inventory excess, obsolescence and lower market values compared to standard costs and, when necessary, reduce the carrying amount of our inventory to its market value.
We determine any required inventory valuation adjustments based on an evaluation of the expected future use of our inventory on an item by item basis. We apply historical obsolescence rates to estimate the loss on inventory expected to have a recovery value below cost. Our historical obsolescence rates are developed from our company specific experience for major categories of inventory, which are then applied to excess inventory on an item by item basis. We also record other specific inventory valuation adjustments when we become aware of other unique events that result in a known recovery value below cost. For inventory items that have been written down, the reduced value becomes the new cost basis. If our assumptions, judgments or estimates for potential inventory losses prove to be too low, our future earnings will be affected when any related additional inventory losses are recorded.
77
Table of Contents
Goodwill
Goodwill is recorded as the difference, if any, between the aggregate consideration paid for an acquisition and the fair value of the acquired net tangible and intangible assets. Goodwill is not amortized, but instead is tested annually for impairment, or more frequently when events or changes in circumstances indicate that goodwill might be impaired. In assessing goodwill impairment, we have the option to first assess the qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount. We have two reporting units, healthcare and non-healthcare. Our qualitative assessment of the recoverability of goodwill considers various macro-economic, industry-specific and Company-specific factors, including: (i) severe adverse industry or economic trends; (ii) significant Company-specific actions; (iii) current, historical or projected deterioration of our financial performance; or (iv) a sustained decrease in our market capitalization below its net book value. If the qualitative assessment indicates that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying value, or if we elect to bypass the qualitative analysis, then we perform a quantitative analysis that compares the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value of the reporting unit exceeds its carrying amount, goodwill is not considered impaired; otherwise, a goodwill impairment loss is recognized for the lesser of: (a) the amount that the carrying amount of such reporting unit exceeds its fair value; or (b) the amount of the goodwill allocated to such reporting unit. The annual impairment test is performed during the fourth fiscal quarter.
Determining the fair value of a reporting unit is judgmental in nature and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue forecast projections, expected growth rates, future product launches and operating margins used to calculate projected future cash flows and risk-adjusted discount rates. In addition, we make certain judgments and assumptions in determining our reporting units. We base our fair value estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates.
Indefinite-lived Intangible Assets and Long-lived Assets
Indefinite-lived intangible assets are not amortized but instead are subject to annual impairment testing, unless circumstances dictate more frequent testing, if impairment indicators exist. Impairment for indefinite-lived assets exists if the carrying value of the indefinite-lived intangible asset exceeds its fair value. Determining whether impairment indicators exist and estimating the fair value of our indefinite-lived intangible assets if necessary for impairment testing require significant judgment. Qualitative factors considered in this assessment include industry and market conditions, overall financial performance, and other relevant events and factors.
We review finite-lived intangible assets and long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to the future undiscounted operating cash flows expected to be generated by the asset. If such asset is considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount exceeds the fair value of the asset. Long-lived assets to be disposed of are reported at the lower of carrying amount or fair value less costs to sell.
Determining the recoverability of finite-lived intangible assets and long-lived assets is judgmental in nature and involves the use of significant estimates and assumptions. These estimates and assumptions include revenue forecast projections, expected growth rates, future product launches and operating margins used to calculate projected future cash flows and the future market value of our asset group. In addition, we make certain judgments and assumptions in determining our asset group. We base our recoverability estimates on assumptions we believe to be reasonable but that are unpredictable and inherently uncertain. Actual future results may differ from those estimates.
Stock-Based Compensation
Our stock-based compensation awards are currently comprised of stock options, restricted stock units (RSUs) and performance share units (PSUs), all of which are equity-classified awards. For equity-classified awards granted on or after January 1, 2006, we estimate the fair value of the award on the date of grant and expense stock-based compensation over the requisite service period. In the case of PSUs, the amount of expense recognized is also dependent upon the expected achievement level for the specified performance criteria. The fair value of RSU and PSU awards is the closing price of our common stock on the grant date. To calculate the fair value of stock option awards, we use the Black-Scholes option pricing model, which, in addition to the closing price of our stock on the grant date and the option strike price, requires the input of subjective assumptions. These assumptions include the estimated length of time employees will retain their stock options before exercising them (the expected term), the estimated volatility of our stock price over the expected term and the dividend yield on our common stock. We estimate expected term based on both our specific historical option exercise experience, as well as expected term information available from a peer group of companies with similar vesting schedules. The estimated volatility is based on both the historical and implied volatilities of our share price.
78
Table of Contents
Changes in the types and quantity of equity awards, as well as the fair market value of our stock may impact the cost of future stock option grants. In general, to the extent that the fair market value of our stock increases, the overall cost of granting these options will also increase. Any changes in the assumptions, judgments and estimates mentioned above could cause our actual stock-based compensation expense to vary, resulting in changes to future earnings. For further information, see Note 20, “Stock-Based Compensation” to our accompanying consolidated financial statements included in Part IV, Item 15(a) of this Annual Report on Form 10-K.
Accounting for Income Taxes
We account for income taxes using the asset and liability method, under which we recognize deferred tax assets and liabilities for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and for net operating loss and tax credit carryforwards. A tax position that meets a more-likely-than-not recognition threshold is recognized in the first reporting period that it becomes more-likely-than-not such tax position will be sustained upon examination. A tax position that meets this more-likely-than-not recognition threshold is recorded at the largest amount of tax benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. Previously recognized income tax positions that fail to meet the recognition threshold in a subsequent period are derecognized in that period. Differences between actual results and our assumptions, or changes in our assumptions in future periods, are recorded in the period they become known. We record potential accrued interest and penalties related to unrecognized tax benefits in income tax expense.
As a multinational corporation, we are subject to complex tax laws and regulations in various jurisdictions. The application of tax laws and regulations is subject to legal and factual interpretation, judgment and uncertainty. Tax laws themselves are subject to change as a result of changes in fiscal policy, changes in legislation, evolution of regulations and court rulings. We have concluded all U.S. federal income tax matters for years through 2018 and all material state, local and foreign income tax matters for years through 2015. Given the foregoing, our actual liability for U.S. or foreign taxes may be materially different from our estimates, which could result in the need to record additional liabilities or potentially to reverse previously recorded tax liabilities.
Deferred tax assets (DTA) and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that includes the enactment date. A valuation allowance is recorded against any deferred tax assets when, in the judgment of management, it is more likely than not that all or part of a deferred tax asset will not be realized. In assessing the need for a valuation allowance, we consider all positive and negative evidence, including recent financial performance, scheduled reversals of temporary differences, projected future taxable income, availability of taxable income in carryback periods and tax planning strategies.
Income taxes are highly susceptible to changes from period to period, requiring management to make assumptions about our future income over the lives of our DTAs and the impact of changes in valuation allowances. Any difference in the assumptions, judgments and estimates mentioned above could results in changes to our results of operations.
Litigation Costs and Contingencies
We record a charge equal to at least the minimum estimated liability for a loss contingency or litigation settlement when both of the following conditions are met: (i) information available prior to issuance of the financial statements indicates that it is probable that a liability had been incurred at the date of the financial statements and (ii) the range of loss can be reasonably estimated. The determination of whether a loss contingency or litigation settlement is probable or reasonably possible involves a significant amount of management judgment, as does the estimation of the range of loss given the nature of contingencies. Liabilities related to litigation settlements with multiple elements are recorded based on the fair value of each element. Legal and other litigation related expenses are recognized as the services are provided. We record insurance and other indemnity recoveries for litigation expenses when both of the following conditions are met: (i) the recovery is probable and (ii) collectability is reasonably assured. The insurance recoveries recorded are only to the extent the litigation costs have been incurred and recognized in the financial statements; however, it is reasonably possible that the actual recovery may be significantly different from our estimates. There are many uncertainties associated with any litigation, and we cannot provide assurance that any actions or other third-party claims against us will be resolved without costly litigation or substantial settlement charges. If any of those events were to occur, our business, financial condition and results of operations could be materially and adversely affected.
Recent Accounting Pronouncements
For details regarding any recently adopted and recently issued accounting standards, see Note 2, “Summary of Significant Accounting Policies” to our accompanying consolidated financial statements included in Part IV, Item 15(a) of this Annual Report on Form 10-K.
79
Table of Contents