# STAAR SURGICAL CO (STAA) FY 2022 MD&A Verbatim Item 7 Management's Discussion and Analysis from STAAR SURGICAL CO's 10-K for fiscal year 2022. SEC filing source: https://www.sec.gov/Archives/edgar/data/718937/000156459023002249/staa-10k_20221230.htm Accession: 0001564590-23-002249 Filing date: 2023-02-23 Report date: 2022-12-30 Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary. Confidence: high Company profile: /company/STAA/ All MD&A years: /company/STAA/mda/ Previous year: /company/STAA/mda/fy2021/ (FY 2021) Next year: /company/STAA/mda/fy2023/ (FY 2023) ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The matters addressed in this Item 7 that are not historical information constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Readers can recognize forward-looking statements by the use of words like “anticipate,” “estimate,” “expect,” “intend,” “plan,” “believe,” “will,” “should,” “forecast” and similar expressions in connection with any discussion of future operating or financial performance. In particular, these include statements about any of the following: any projections of or guidance as to earnings, revenue, sales, profit margins, expense rate, cash, effective tax rate, product mix, capital expense or any other financial items; the expected impact of the COVID-19 pandemic and related public health measures (including but not limited to their impact on sales, operations or clinical trials globally), the plans, strategies, and objectives of management for future operations or prospects for achieving such plans; statements regarding new, existing, or improved products, including but not limited to, expectations for success of new, existing, and improved products in the U.S. or international markets or government approval of a new or improved products; commercialization of new or improved products; future economic conditions or size of market opportunities; expected costs of operations; statements of belief, including as to achieving 2023 business plans; expected regulatory activities and approvals, product launches, and any statements of assumptions underlying any of the foregoing. Although we believe that the expectations reflected in these forward-looking statements are reasonable, such statements are inherently subject to risks and we can give no assurance that our expectations will prove to be correct. Actual results could differ from those described in this report because of numerous factors, many of which are beyond our control. These factors include, without limitation, those described in this Annual Report in “Item 1A. Risk Factors.” We undertake no obligation to update these forward-looking statements after the date of this report to reflect future events or circumstances or to reflect actual outcomes. The following discussion should be read in conjunction with the audited consolidated financial statements of STAAR, including the related notes, provided in this report. Overview STAAR Surgical Company designs, develops, manufactures, and sells implantable lenses for the eye and companion delivery systems used to deliver the lenses into the eye. We are the world’s leading manufacturer of intraocular lenses for patients seeking lens-based refractive vision correction, and we also make lenses for use in surgery to treat cataracts. All the lenses we make are foldable, which allows the surgeon to insert them into the eye through a small incision during minimally invasive surgery. Refractive surgery is performed to treat the type of visual disorders that have traditionally been corrected using eyeglasses or contact lenses. We refer to our lenses used in refractive surgery as “implantable Collamer® lenses” or “ICLs.” The field of refractive surgery includes both lens-based procedures, using products like our ICL family of products, and laser-based procedures like LASIK. Successful refractive surgery can correct common vision disorders such as myopia, hyperopia, and astigmatism. Cataract surgery is a common outpatient procedure where the eye’s natural lens that has become cloudy with age is removed and replaced with an artificial lens called an intraocular lens (IOL) to restore the patient’s vision. STAAR employs a commercialization strategy that strives for increased share of the refractive market and sustainable profitable growth. Our goal is to position our refractive lenses throughout the world as primary and premium solutions for patients seeking visual freedom from wearing eyeglasses or contact lenses while achieving excellent visual acuity through refractive vision correction. We position our IOL lenses used in surgery that treats cataracts based on quality and value. See Item 1.  “Business,” for a discussion of: [[GREPCENT_TABLE]] [["","\u2022","Operations"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Principal Products"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Distribution and Customers"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Competition"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Regulatory Matters"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Research and Development"]] [[/GREPCENT_TABLE]] 32 Strategic Imperatives for 2023 For 2023 we will focus on the following strategic imperatives: [[GREPCENT_TABLE]] [["","\u2022","Position EVO Implantable Lenses as the Most Desirable Pathway to Visual Freedom;"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Innovate and Develop a Pipeline of Next Generation Premium Collamer-Based Intraocular Lenses;"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Accelerate the Transition in Refractive Surgery to Lens-Based through Clinical Validation and Medical Affairs Excellence;"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Achieve our corporate imperatives in alignment with our Environmental, Social and Governance commitments;"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Continue our Focus on and Commitment to STAAR\u2019s Culture of Quality; and"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["","\u2022","Delight Shareholders."]] [[/GREPCENT_TABLE]] Finally, we will continue to evaluate opportunities to acquire new product lines, technologies, and companies. We continue to monitor the commercial and operational impact of new variants of COVID-19 in our markets, which remains uncertain at this time and may adversely affect our financial results. For example, COVID-19 impacted certain of our Chinese customers and, in the U.S., STAAR’s manufacturing operations. Results of Operations The following table sets forth the percentage of total sales represented by certain items reflected in the Company’s Consolidated Statement of Income for the period indicated.   [[GREPCENT_TABLE]] [["","","Percentage of Net Sales"],["","","2022","","","2021","","","2020"],["Net sales","","","100.0","%","","","100.0","%","","","100.0","%"],["Cost of sales","","","21.5","%","","","22.5","%","","","27.6","%"],["Gross profit","","","78.5","%","","","77.5","%","","","72.4","%"],["General and administrative","","","19.2","%","","","19.1","%","","","20.7","%"],["Selling and marketing","","","31.2","%","","","29.2","%","","","28.0","%"],["Research and development","","","12.7","%","","","14.7","%","","","19.6","%"],["Total selling, general and administrative","","","63.1","%","","","63.0","%","","","68.3","%"],["Operating income","","","15.4","%","","","14.5","%","","","4.1","%"],["Total other income (expense), net","","","0.6","%","","","(0.9",")%","","","0.9","%"],["Income before income taxes","","","16.0","%","","","13.6","%","","","5.0","%"],["Provision for income taxes","","","2.4","%","","","3.0","%","","","1.4","%"],["Net income","","","13.6","%","","","10.6","%","","","3.6","%"]] [[/GREPCENT_TABLE]] Net Sales   The following table presents our net sales, by product for the fiscal years presented (dollars in thousands): [[GREPCENT_TABLE]] [["","","2022","","","2021","","","2020"],["","","% of Total","","","Sales","","","% of Total","","","Sales","","","% of Total","","","Sales"],["ICLs","","","94.8","%","","$","269,712","","","","92.4","%","","$","212,905","","","","86.5","%","","$","141,407"],["Other product sales"],["Cataract IOLs","","","3.4","%","","","9,638","","","","5.4","%","","","12,519","","","","8.3","%","","","13,574"],["Other surgical products","","","1.8","%","","","5,041","","","","2.2","%","","","5,048","","","","5.2","%","","","8,479"],["Total other product sales","","","5.2","%","","","14,679","","","","7.6","%","","","17,567","","","","13.5","%","","","22,053"],["Net sales","","","100.0","%","","$","284,391","","","","100.0","%","","$","230,472","","","","100.0","%","","$","163,460"]] [[/GREPCENT_TABLE]] Net sales for 2022 increased 23% from 2021. The increase in net sales was due to increased ICL sales of $56.8 million, partially offset by a decrease in other product sales of $2.9 million. Changes in foreign currency unfavorably impacted net sales by $12.9 million. 33 Net sales for 2021 increased 41% from 2020. The increase in net sales was due to increased ICL sales of $71.5 million, partially offset by a decrease in other product sales of $4.5 million. Changes in foreign currency favorably impacted net sales by $0.5 million. Total ICL sales for 2022 increased 27% from 2021, with unit growth up 33%. The sales increase was driven by the APAC region, which grew 32% with unit growth of 36%, primarily due to sales growth in other APAC Distributors up 43%, China up 38%, India up 37%, Korea up 18% and Japan up 14%.  The Europe, Middle East, Africa and Latin America region sales decreased 1.0% with unit increase of 15%, due to sales decreases in our direct markets down 8%, offset by sales growth in our distributor markets up 9%.  The North America region sales increased 51%, with unit increase of 47%, due to sales growth in the U.S. up 59% and Canada up 10%.  Changes in foreign currency unfavorably impacted ICL sales by $10.3 million, which impacted our Japan and Europe, Middle East and Africa markets.  ICL sales represented 94.8% of our total sales for fiscal year 2022. Total ICL sales for 2021 increased 51% from 2020, with unit growth up 48%. The sales increase was driven by the APAC region, which grew 51% with unit growth of 47%, primarily due to sales growth in India up 123%, Japan up 56%, China up 50%, other APAC Distributors up 50% and Korea up 36%.  The Europe, Middle East, Africa and Latin America region sales increased 46% with unit increase of 48%, due to sales growth in our distributor markets of 59% and our direct markets of 38%.  The North America region sales increased 57%, with unit increase of 61%, due to sales growth in the U.S. up 58% and Canada up 53%.  Changes in foreign currency favorably impacted ICL sales by $0.8 million.  ICL sales represented 92.4% of our total sales for fiscal year 2021. Other product sales, includes cataract IOLs, delivery systems and normal recurring sales adjustments such as sales return allowances.  As a result of third-party materials and supply chain challenges that affect our cataract IOLs and associated delivery devices, we will no longer manufacture cataract IOLs, though we will continue to support these products through the end of 2023, as supplies permit.  We do not expect this decision to have a significant impact to revenue growth in future years.  Other product sales for 2022 decreased 16% from 2021, mainly due to decreased sales of cataract IOLs. Changes in foreign currency unfavorably impacted other product sales by $2.6 million. Other product sales represented 5.2% of our total sales for fiscal year 2022. Other product sales in 2021 decreased 20% from 2020, mainly due to product yield issues requiring rework related to preloaded injector parts manufactured on our behalf by a third-party manufacturer then sold by us to a third-party manufacturer for product they sell to their customers, as well as decreased cataract IOL sales. Changes in foreign currency unfavorably impacted other product sales by $0.3 million.  Other product sales represented 7.6% of our total sales for fiscal year 2021. Gross Profit   The following table presents our gross profit and gross profit margin for the fiscal years presented (dollars in thousands): [[GREPCENT_TABLE]] [["","","","","","","","","","","","","","","Percentage Change"],["","","2022","","","2021","","","2020","","","2022 vs. 2021","","","2021 vs. 2020"],["Gross profit","","$","223,383","","","$","178,637","","","$","118,362","","","","25.0","%","","","50.9","%"],["Gross margin","","","78.5","%","","","77.5","%","","","72.4","%"]] [[/GREPCENT_TABLE]] Gross profit for 2022 increased 25.0% from 2021.  Gross profit margin increased to 78.5% of revenue for 2022 compared to 77.5% of revenue for 2021, due to geographic sales mix and an increased mix of ICL sales which carry a higher margin, partially offset by increased period costs associated with manufacturing expansion projects. Gross profit for 2021 increased 50.9% from 2020.  Gross profit margin increased to 77.5% of revenue for 2021 compared to 72.4% of revenue for 2020, due to higher mix of ICL sales, geographic sales mix, a decreased mix of injector part sales which carry a lower margin, partially offset by increased period costs associated with manufacturing expansion projects.  Also contributing to the increase in gross profit margin for 2021, was $1.2 million in non-recurring expenses incurred related to the COVID-19 manufacturing pause from March 17 through April 27, 2020. 34 General and Administrative Expense   The following table presents our general and administrative expense for the fiscal years presented (dollars in thousands): [[GREPCENT_TABLE]] [["","","","","","","","","","","","","","","Percentage Change"],["","","2022","","","2021","","","2020","","","2022 vs. 2021","","","2021 vs. 2020"],["General and administrative expense","","$","54,742","","","$","44,142","","","$","33,911","","","","24.0","%","","","30.2","%"],["Percentage of sales","","","19.2","%","","","19.1","%","","","20.7","%"]] [[/GREPCENT_TABLE]] General and administrative expenses for 2022 increased 24.0% from 2021, due to increased facilities costs, bonus and stock-based compensation expenses, outside services, and salary-related and payroll tax expenses. General and administrative expenses for 2021 increased 30.2% from 2020, due to increased bonus and stock-based compensation expenses, salary-related and payroll tax expenses, outside services, facilities costs and corporate insurance. Selling and Marketing Expense   The following table presents our marketing and selling expense for the fiscal years presented (dollars in thousands): [[GREPCENT_TABLE]] [["","","","","","","","","","","","","","","Percentage Change"],["","","2022","","","2021","","","2020","","","2022 vs. 2021","","","2021 vs. 2020"],["Selling and marketing expenses","","$","88,856","","","$","67,294","","","$","45,764","","","","32.0","%","","","47.0","%"],["Percentage of sales","","","31.2","%","","","29.2","%","","","28.0","%"]] [[/GREPCENT_TABLE]] Selling and marketing expenses for 2022 increased 32.0% from 2021, due to increased advertising and promotional activities, trade shows and sales meetings expense, travel expenses and bonus and stock-based compensation expenses. Selling and marketing expenses for 2021 increased 47.0% from 2020, due to increased advertising and promotional activities, salary-related and payroll tax expenses, trade shows expense, commission expense, and bonus and stock-based compensation expenses. Research and Development Expense   The following table presents our research and development expense for the fiscal years presented (dollars in thousands): [[GREPCENT_TABLE]] [["","","","","","","","","","","","","","","Percentage Change"],["","","2022","","","2021","","","2020","","","2022 vs. 2021","","","2021 vs. 2020"],["Research and development expense","","$","35,983","","","$","33,862","","","$","31,918","","","","6.3","%","","","6.1","%"],["Percentage of sales","","","12.7","%","","","14.7","%","","","19.6","%"]] [[/GREPCENT_TABLE]] Research and development expenses for 2022 increased 6.3% from 2021 due to increased salary-related and payroll tax expenses and bonus and stock-based compensation expenses, partially offset by decreased clinical expenses associated with our clinical trials. Research and development expenses for 2021 increased 6.1% from 2020 due to increased bonus and stock-based compensation expenses and salary-related and payroll tax expenses, partially offset by decreased clinical expenses associated with our U.S. EVO clinical trial. Research and development expense consist primarily of compensation and related costs for personnel responsible for the research and development of new and existing products, the regulatory and clinical activities required to acquire and maintain product approvals globally and medical affairs expenses. These costs are expensed as incurred. 35 Other Income (Expense), Net   The following table presents our other income (expense), net for the fiscal years presented (dollars in thousands): [[GREPCENT_TABLE]] [["","","","","","","","","","","","","","","Percentage Change"],["","","2022","","","2021","","","2020","","","2022 vs. 2021","","","2021 vs. 2020"],["Other income (expense), net","","$","1,750","","","$","(2,035",")","","$","1,498","","","","\u2014*","","","","\u2014*"],["Percentage of sales","","","0.6","%","","","(0.9",")%","","","0.9","%"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["*","Denotes change is greater than +100%."]] [[/GREPCENT_TABLE]] The change in other income (expense), net for 2022 was due to increased interest income, as a result of our investments held available for sale and higher interest rates and decreased foreign exchange losses (primarily euro).  The change in other income (expense), net for 2021 was due primarily to increased foreign exchange losses (primarily euro).   Other income (expense), net generally relates to interest income earned on cash, cash equivalents and investments available for sale, interest expense on finance lease obligations, gains or losses on foreign currency transactions, and royalty income. The table below summarizes the year over year changes in other income (expense), net (in thousands): [[GREPCENT_TABLE]] [["","","Favorable (Unfavorable)"],["","","2022 vs. 2021","","","2021 vs. 2020"],["Interest income (expense), net","","$","2,486","","","$","(276",")"],["Foreign exchange","","","1,257","","","","(3,828",")"],["Royalty income","","","(211",")","","","575"],["Other","","","253","","","","(4",")"],["Net change in other income (expense), net","","$","3,785","","","$","(3,533",")"]] [[/GREPCENT_TABLE]] Provision for Income Taxes   The following table presents our provision for income taxes for the fiscal years presented (in thousands): [[GREPCENT_TABLE]] [["","","","","","","","","","","","","","","Percentage Change"],["","","2022","","","2021","","","2020","","","2022 vs. 2021","","","2021 vs. 2020"],["Provision for income taxes","","$","6,797","","","$","6,803","","","$","2,354","","","","(0.1",")%","","","\u2014*"],["Effective tax rate","","","14.9","%","","","21.7","%","","","28.5","%"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["*","Denotes change is greater than +100%."]] [[/GREPCENT_TABLE]] Our effective tax rates differ from the U.S. federal statutory rate of 21% for 2022, 2021 and 2020, respectively, primarily due to the income taxes generated in foreign jurisdictions. Also impacting our effective tax rates was a release of $0.8 million of our U.S. valuation allowance in 2022, a recapture of our U.S. valuation allowance of $0.8 million in 2021 and a release of $0.5 million of our U.S. valuation allowance in 2020.  During 2022, 2021 and 2020, there were no unrecognized benefits related to uncertain tax positions taken by us. 36 Liquidity and Capital Resources   We believe that current cash, cash equivalents, investments available for sale and future cash flow from operating activities will be sufficient to meet our anticipated cash needs, including working capital needs, capital expenditures and contractual obligations for at least 12 months from the issuance date of the financial statements included in this Annual Report.  Our financial condition at December 30, 2022, December 31, 2021 and January 1, 2021 included the following (in thousands): [[GREPCENT_TABLE]] [["","","2022","","","2021","","","2020","","","2022 vs. 2021","","","2021 vs. 2020"],["Cash and cash equivalents","","$","86,480","","","$","199,706","","","$","152,453","","","$","(113,226",")","","$","47,253"],["Investments available for sale","","","139,061","","","","\u2014","","","","\u2014","","","","139,061","","","","\u2014"],["Total","","$","225,541","","","$","199,706","","","$","152,453","","","$","25,835","","","$","47,253"],["Current assets","","$","311,723","","","$","271,411","","","$","216,418","","","$","40,312","","","$","54,993"],["Current liabilities","","","51,716","","","","48,802","","","","41,236","","","","2,914","","","","7,566"],["Working capital","","$","260,007","","","$","222,609","","","$","175,182","","","$","37,398","","","$","47,427"]] [[/GREPCENT_TABLE]] Cash and cash equivalents include cash and balances in deposits and money market accounts held at banks and financial institutions.  Our investment policy primary objective is capital preservation while maximizing our return on investment.  Investments available for sale may include U.S. government and corporate debt securities, commercial paper, certain certificates deposit and related security types, that are rated by two nationally recognized statistical rating organizations with minimum investment grade ratings of AAA to A-/A-1+ to A-2, or the equivalent.  The maturity of individual investments may not extend 24 months from the date of purchase.  There are also limits to the amount of credit exposure in any given security type.  Additionally, during 2021 we fully repaid and cancelled our Japan line of credit and cancelled our Swiss framework agreement given our current cash resources.  We do not have any off-balance sheet arrangements. Our current liquidity and capital resources, as discussed above, will enable us to meet our known contractual obligations as of December 30, 2022 (in thousands): [[GREPCENT_TABLE]] [["","","Payments Due by Period"],["Contractual Obligations","","Total","","","1 Year","","","2 \u2013 3 Years","","","4 \u2013 5 Years","","","More than 5 Years"],["Finance lease obligations (Note 9)*","","$","397","","","$","182","","","$","215","","","$","\u2014","","","$","\u2014"],["Operating lease obligations (Note 9)*","","","36,002","","","","5,222","","","","9,543","","","","7,972","","","","13,265"],["Pension benefit payments (Note 11)*","","","1,935","","","","214","","","","590","","","","640","","","","491"],["Severance (Note 13)*","","","410","","","","410","","","","\u2014","","","","\u2014","","","","\u2014"],["Asset retirement obligation (Note 13)*","","","220","","","","220","","","","\u2014","","","","\u2014","","","","\u2014"],["Open purchase orders (Note 13)*","","","17,623","","","","17,149","","","","471","","","","3","","","","\u2014"],["Total","","$","56,587","","","$","23,397","","","$","10,819","","","$","8,615","","","$","13,756"]] [[/GREPCENT_TABLE]] [[GREPCENT_TABLE]] [["*","Refer to the Notes to the Consolidated Financial Statements in this Annual Report on Form 10-K"]] [[/GREPCENT_TABLE]] Overview of changes in cash and cash equivalents and other working capital accounts.   A summary of cash flows for the fiscal years presented (dollars in thousands): [[GREPCENT_TABLE]] [["","","2022","","","2021","","","2020"],["Cash flows from:"],["Operating activities","","$","35,715","","","$","43,962","","","$","20,951"],["Investing activities","","","(156,376",")","","","(13,645",")","","","(8,404",")"],["Financing activities","","","8,297","","","","17,793","","","","19,571"],["Effect of exchange rate changes","","","(862",")","","","(857",")","","","367"],["Net increase (decrease) in cash and cash equivalents","","","(113,226",")","","","47,253","","","","32,485"],["Cash and cash equivalents, at beginning of year","","","199,706","","","","152,453","","","","119,968"],["Cash and cash equivalents, at end of year","","$","86,480","","","$","199,706","","","$","152,453"]] [[/GREPCENT_TABLE]] 37 For 2022, net cash provided by operating activities consisted of $38.8 million in net income and $25.8 million in non-cash items, offset by $28.9 million in working-capital changes.  For 2021, net cash provided by operating activities consisted of $24.5 million in net income and $21.9 million in non-cash items, offset by $2.4 million in working-capital changes.  For 2020, net cash provided by operating activities consisted of $17.8 million in non-cash items and $5.9 million in net income, offset by $2.7 million in working-capital changes For 2022 we decided to invest our cash in slightly higher yielding securities.  For 2022, net cash used in investment activities of $156.4 million resulted from $155.7 million in purchases of investments available for sale and $18.1 million in purchases of property, plant and equipment, partially offset by $17.5 million of proceeds from the maturity of investments available for sale.  The increase in investment in property, plant and equipment during 2022, relative to 2021, and the increase during 2021, relative to 2020, was primarily due to an increased in investments in manufacturing facilities.   For 2022, net cash provided by financing activities of $8.3 million consisted primarily of proceeds from the exercise of stock options.  For 2021, net cash provided by financing activities consisted of $19.4 million of proceeds from the exercise of stock options, partially offset by $1.3 million repayment on the Japan line of credit and $0.3 million repayment of finance lease obligations.  For 2020, net cash provided by financing activities consisted of $20.6 million of proceeds from the exercise of stock options, partially offset by $0.6 million repayment of finance lease obligations and a $0.5 million repayment on the Japan line of credit.   Accounts receivable, net was $62.4 million and $43.5 million at December 30, 2022 and December 31, 2021, respectively.  Days’ Sales Outstanding (DSO) was 89 and 67 days, respectively for 2022 and 2021. The increase in DSO in 2022 is temporary and was due to decreased customer collections of receivables in the fourth quarter of 2022 primarily from payment delays from customers where there was a surge in COVID-19 cases, resulting from lifting COVID-19 restrictions. Inventories, net was $24.2 million and $17.2 million at December 30, 2022 and December 31, 2021, respectively. Days’ Inventory on Hand (DOH) was 94 and 79 days for 2022 and 2021, respectively, for finished goods, including consignment inventory.  The increase in DOH is due to increased production to support sales growth of ICL products. Shelf Registration On May 6, 2020, STAAR filed a universal shelf registration statement with the SEC covering the future public offering and sale of up to $200 million in equity or debt securities or any combination of such securities. The shelf registration statement became effective on February 22, 2021 and expires on February 22, 2024.  Among the purposes for which STAAR could use the proceeds of securities sold in the future under the shelf registration statement are working capital, capital expenditures, expansion of sales and marketing, and continuing research and development. STAAR could also use a portion of the net proceeds to acquire or invest in businesses, assets, products, and technologies that are complementary to our own, although we are not currently contemplating or negotiating any such acquisitions or investments. The availability of financing in the public capital markets through the shelf registration statement depends on several factors in place at the time of financing, including the strength of STAAR’s business performance, general economic conditions and investment climate, and investor perceptions of those factors. If STAAR seeks financing under the shelf registration statement in the future, we cannot assure that such financing will be available on favorable terms, if at all. Critical Accounting Estimates   Our accounting policies are more fully described in Note 1 of the Consolidated Financial Statements. As disclosed in Note 1, the preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires management to make significant estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Actual results may differ, significantly at times, from these estimates if actual conditions differ from our assumptions. We believe the following discussion represents our most critical accounting estimates, which are those that are most important to the portrayal of our financial condition and results of operations and require management’s most difficult, subjective and complex judgments. Sales Return Reserves We provide allowances for sales returns such that returns are matched against the sales from which they originated. While such allowances have historically been within our expectations, we cannot guarantee that we will 38 continue to experience the same return rates that we have in the past.  Measurement of such returns is based on an expected loss model which requires consideration of, among other factors, historical returns experience and current/anticipated trends, including the need to adjust for current conditions and product lines, the entry of a competitor, and judgments about the probable effects of relevant observable data. We consider all available information in our quarterly assessments of the adequacy of the allowance for sales returns.   Stock-Based Compensation We account for the issuance of stock awards by estimating the fair value of awards issued using the Black-Scholes pricing model. This model’s calculations include the exercise price, the market price of shares on grant date, risk-free interest rates, expected term of the award, expected volatility of our stock and expected dividend yield.  For those awards which contain a performance condition, stock-based compensation cost will be recognized when it is probable that the performance condition will be achieved, net of an estimate of pre-vesting forfeitures, over the requisite service period based on the grant-date fair value of the stock.  We reassess the probability of vesting at each reporting period and adjust stock-based compensation cost based on our probability assessment. Income Taxes In evaluating our ability to recover the deferred tax assets within a jurisdiction from which they arise, we consider all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax-planning strategies, and results of recent operations. In projecting future taxable income, we begin with historical results and incorporate assumptions including overall current and projected business and industry conditions, the amount of future federal, state, and foreign pretax operating income, the reversal of temporary differences and the successful implementation of feasible and prudent tax-planning strategies. These assumptions require significant judgment about the forecasts of future taxable income and are consistent with the plans and estimates management uses to manage its businesses. In evaluating the objective evidence that historical results provide, we also consider three years of cumulative operating results. Valuation allowances, or reductions to deferred tax assets, are recognized if, based on the weight of all the available evidence, it is more likely than not that some portion or all of the deferred tax asset may not be realized. Inventories We provide estimated inventory allowances for excess, slow moving, expiring and obsolete inventory as well as inventory whose carrying value is more than net realizable value. These reserves are based on current assessments about future demands, market conditions and related management initiatives. If market conditions and actual demands are less favorable than those projected by management, additional inventory write-downs may be required.  We regularly review inventory quantities on hand and record a provision for excess and obsolete inventory based primarily on the expiration of products with a shelf life of less than four months, estimated forecasts of product demand and production requirements for the next twelve months. Several factors may influence the realizability of our inventories, including significant changes in demand, decisions to exit a product line, technological change, and new product development.  While such inventory losses have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same loss rates that we have in the past. Lease Accounting We recognize right-of-use (ROU) assets and lease liabilities for leases with terms greater than twelve months.  In recording a lease ROU asset, we consider the following lease extensions only if we are reasonably certain to extend the lease.  For leases that increase using an inflation rate indicator, we use the inflation rate at the time the lease was entered into for the length of the lease term.  In addition, we use our incremental borrowing rate as the discount rate to record the lease ROU asset.   Investments Available for Sale Investments available for sale are investments in debt securities for which the Company does not have the positive intent and ability to hold to maturity and are measured at fair value.  We recognize impairment when there has been a decline in fair value below amortized cost if we intend to sell the security or it is more-likely-than-not that we will be required to sell the security before recovery of its amortized cost basis.  The impairment related to credit losses is recognized in other income (expense) on the Consolidated Statements of Income.  Any portion of impairment not related to credit losses is recognized in accumulated other comprehensive income (loss) on the Consolidated Balance Sheets.  The measurement of the credit loss component is equal to the difference between the 39 debt security’s amortized cost basis and the present value of its expected future cash flows discounted at the security’s effective yield.   Impairment of Long-Lived Assets Intangible assets (excluding goodwill) and other long-lived assets (including property, plant and equipment and lease ROU assets) are reviewed for impairment whenever events such as product discontinuance, plant closures, product dispositions or other changes in circumstances indicate that the carrying amount may not be recoverable. Certain factors which may occur and indicate that an impairment exists include, but are not limited to, the following: significant underperformance relative to expected historical or projected future operating results; significant changes in the manner of use of the underlying assets; and significant adverse industry or market economic trends. In reviewing for impairment, we compare the carrying value of such assets to the estimated undiscounted future net cash flows expected from the use of the assets and their eventual disposition. If the carrying value of assets is determined to be unrecoverable, we would estimate the fair value of the assets and record an impairment charge for the excess of the carrying value over the fair value. The estimate of fair value requires management to make several assumptions and projections, which could include, but would not be limited to, future revenues, earnings and the probability of certain outcomes and scenarios. Employee Defined Benefit Plans - Pension The liabilities and annual income or expense of our pension plans are determined using methodologies that involve several actuarial assumptions, the most significant of which are the discount rate, expected years of service, salary increases and the expected long-term rate of asset return.  The fair values of plan assets are determined based on prevailing market prices. Foreign Exchange Management does not believe that the fluctuation in the value of the dollar in relation to the currencies of its suppliers or customers in the last three fiscal years has adversely affected our ability to purchase or sell products at agreed upon prices. No assurance can be given, however, that adverse currency exchange rate fluctuations will not occur in the future, which could significantly affect our operating results. We do not currently hedge transactions to offset changes in foreign currency. Inflation Management believes inflation has not had a significant impact on our net sales and revenues and on income from continuing operations during the past three years. Recent Accounting Pronouncements None.