ENPHASE ENERGY : Management's Discussion and Analysis of Financial Condition and Results of Operations (form 10-Q)

Forward-Looking Statements
The following discussion and analysis of our financial condition and results of
operations should be read together with our consolidated financial statements
and related notes appearing elsewhere in this Quarterly Report on Form 10-Q.
This discussion contains forward-looking statements reflecting our current
expectations and involves risks and uncertainties. In some cases, you can
identify forward-looking statements by terminology such as "may," "will,"
"should," "expect," "plan," "anticipate," "believe," "estimate," "predict,"
"intend," "potential" or "continue" or the negative of these terms or other
comparable terminology. Such statements, include but are not limited to
statements regarding our expectations as to the impact of the COVID-19 pandemic,
future financial performance, expense levels, liquidity sources, the
capabilities and performance of our technology and products and planned changes,
timing of new product releases, our business strategies, including anticipated
trends, growth and developments in markets in which we target, the anticipated
market adoption of our current and future products, performance in operations,
including component supply management, product quality and customer service,
impact of current litigation on our business, results of operation, financial
position or cash flows, and the anticipated benefits and risks relating to the
transaction with SunPower Corporation. Our actual results and the timing of
events may differ materially from those discussed in our forward-looking
statements as a result of various factors, including those discussed below and
those discussed in the section entitled "Risk Factors" included in this
Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the fiscal
year ended December 31, 2019.
Overview
We are a global energy technology company. We deliver smart, easy-to-use
solutions that manage solar generation, storage and communication on one
intelligent platform. We revolutionized the solar industry with our
microinverter technology and we produce a fully integrated solar-plus-storage
solution. We have shipped more than 28 million microinverters, and over 1.2
million Enphase residential and commercial systems have been deployed in more
than 130 countries.
We sell our solutions primarily to distributors who resell them to solar
installers. We also sell directly to large installers, OEMs, strategic partners
and homeowners. Our revenue in the first quarter of 2020 was positively impacted
by the scheduled phase-down of the investment tax credit for solar projects
under Section 48(a) (the "ITC") of the Internal Revenue Code of 1986, as amended
(the "Code"). The historical ITC percentage has decreased from 30% to 26% of the
basis of a solar energy system that began construction during 2020, 22% for
2021, and zero for residential and 10% for commercial if construction begins
after 2021 or if the solar energy system is placed into service after 2023. As a
result, several of our customers explored opportunities to purchase products in
2019 to take advantage of safe harbor guidance from the IRS published in June
2018, allowing them to preserve the historical 30% investment tax credit for
solar equipment purchased in 2019 for solar projects that are completed after
December 31, 2019. Safe harbor prepayments from customers in the fourth quarter
of 2019 resulted in $44.5 million of revenue recognized in the first quarter of
2020 when we delivered the product.
On March 9, 2020, we issued $320.0 million aggregate principal amount of our
Convertible Senior Notes due 2025 (the "Notes due 2025") in a private placement.
The Notes due 2025 are general unsecured obligations and bear interest at a rate
of 0.25% per year, payable semi-annually on March 1 and September 1 of each
year, beginning on September 1, 2020. The Notes due 2025 will mature on March 1,
2025, unless earlier repurchased by us or converted at the option of the
holders. Further information relating to the Notes due 2025 may be found in
Note 8, "Debt," of the notes to condensed consolidated financial statements
included in Part I, Item 1 of this Form 10-Q and below under "Liquidity and
Capital Resources."
Since late September 2018, we have paid tariffs imposed on the microinverters by
the China Section 301 Tariff Actions ("Section 301 Tariffs") taken by the Office
of the United States Trade Representative (the "USTR"). We have sought refunds
on tariffs previously paid on certain microinverter products that fit the
dimensions and weight limits within a Section 301 Tariff exclusion under U.S.
note 20(ss)(40) to subchapter III of chapter 99 of the Harmonized Tariff
Schedule of the United States (the "Tariff Exclusion").  There is no material
impact on our condensed consolidated statements of operations for the three and
six months ended June 30, 2020. We expect there will be a positive material
impact on our financial statements if all of the requested refunds are approved
in the future, totaling approximately $39 million plus accrued interest. The
Tariff Exclusion expires on August 7, 2020, and we have filed a comment with the
USTR supporting an extension of the Tariff Exclusion. We continue to pay Section
301 Tariffs on our storage and communication products and other accessories
imported from China which are not subject to the Tariff Exclusion.




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Impact of COVID-19
The ongoing worldwide COVID-19 pandemic ("COVID-19") continues to spread
globally and cause disruptions and uncertainties, including in the core markets
in which we operate. The COVID-19 pandemic has significantly curtailed the
movement of people, goods and services and had a notable impact on general
economic conditions, including but not limited to the temporary closures of many
businesses, "shelter in place" orders and other governmental regulations, and
reduced consumer spending. The most significant near-term impacts of COVID-19 on
our financial performance are a decline in sales orders as future residential
and commercial system owners are canceling sales meetings with system
installation professionals or postponing system installations. As the purchase
of new solar energy management solutions declines as part of the impact of
COVID-19 on consumer spending, many businesses through which we distribute our
products are working at limited operational capacity. The extent of the impact
of COVID-19 on our future operational and financial performance will depend on
various future developments, including the duration and spread of the outbreak,
impact on our employees, impact on our customers, effect on our sales cycles or
costs, and effect on our supply chain and vendors, all of which are uncertain
and cannot be predicted, but which could have a material adverse effect on our
business, results of operations or financial condition. Further information
relating to the risks and uncertainties related to the ongoing COVID-19 pandemic
may be found in Part II, Item 1A "Risk Factors" of this Form 10-Q, as well as in
the "Risk Factors" section in our 2019 Annual Report on Form 10-K that could be
heightened due to duration and spread, among other impacts of the pandemic.
Products
We design, develop, manufacture and sell home energy solutions that manage
energy generation, energy storage and control and communications on one
intelligent platform. We have revolutionized the solar industry by bringing a
systems approach to solar technology and by pioneering a semiconductor-based
microinverter that converts energy at the individual solar module level and,
combined with our proprietary networking and software technologies, provides
advanced energy monitoring and control. This is vastly different than a central
inverter system using string modules, with or without an optimizer, approach
that only converts energy of the entire array of solar modules from a single
high voltage electrical unit and lacks intelligence about the energy producing
capacity of the solar array.
The Enphase Home Energy Solution with IQ™ platform enables self-consumption and
delivers our core value proposition of yielding more energy, simplifying design
and installation, and improving system uptime and reliability. The IQ™ family of
microinverters, like all of our previous microinverters, is fully compliant with
NEC 2014 and 2017 rapid shutdown requirements. Unlike string inverters, this
capability is built-in, with no additional equipment necessary.
Our integrated approach to energy management helps to facilitate ease of
installation and optimizing a home's energy usage. Enphase's Always-On connected
system also provides advanced monitoring and remote maintenance capabilities.
The Enphase Home Energy Solution with IQ uses a single technology platform for
seamless management of the whole solution, enabling rapid commissioning with the
Installer Toolkit™; consumption monitoring with our Enphase Combiner 3C™ that
includes the Envoy™ Communications Gateway, Enphase Enlighten™, a cloud-based
energy management platform, Enphase IQ Combiner 3C™, designed to provide an
uninterrupted connectivity to Enphase Enlighten, and our Enphase AC Battery™.
System owners can use Enphase Enlighten to monitor their home's solar
generation, energy storage and consumption from any web-enabled device. Unlike
some of our competitors, who utilize a traditional inverter, or offer separate
components of solutions, we have built-in system redundancy in both photovoltaic
("PV") generation and energy storage, eliminating the risk that comes with a
single-point of failure. Further, the nature of our cloud-based, monitored
system allows for remote firmware and software updates, enabling cost-effective
remote maintenance and ongoing utility compliance.
The Enphase IQ 7™ microinverter and Enphase IQ 7+™ microinverter, part of our
seventh-generation IQ™ product family, support high-powered 60-cell and 72-cell
solar modules and integrate with alternating current ("AC") modules. Our IQ 7X™
product addresses 96-cell PV modules up to 400W direct current ("DC") and with
its 97.5 percent California Energy Commission ("CEC") efficiency rating, is
ideal for integration into high power modules. Our IQ 7A™ microinverters are for
solar modules up to 450 W, targeting high-power residential and commercial
applications. Our customers should be able to pair the IQ 7A microinverter with
monofacial or bifacial solar modules, up to 450 W, from solar module
manufacturers who are expected to introduce high-power variants of their
products in the next three years.
AC Module (ACM) products are integrated systems which allow installers to be
more competitive through improved logistics, reduced installation times, faster
inspection and training. We continued to make steady progress during the second
quarter of 2020 with our ACM partners, including SunPower, Panasonic Corporation
of North America,




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LONGi Solar, and Solaria Corporation. We announced a strategic partnership with
Hanwha Q CELLS in the second quarter of 2020 to develop Enphase Energized™ Q
CELLS ACM products based on seventh-generation Enphase IQ microinverters. The
first Enphase Energized Q CELLS ACM products are now available from major
distributors in the U.S. We announced in July 2020 a strategic partnership with
SunPower to produce the new Enphase Energized™ Maxeon ACM, based on our
seventh-generation Enphase IQ microinverters. The ACM will be commercialized by
Maxeon Solar Technologies, the planned spin-off from SunPower, and will be
available to residential customers in key international markets through
authorized installer networks and distributors starting in the fourth quarter of
2020.
Our next-generation battery in North America is Enphase Encharge 3™ or Encharge
10™ storage systems, with usable and scalable capacity of 3.4 kWh and 10.1 kWh,
respectively. Enphase Encharge™ storage systems feature Enphase embedded
grid-forming microinverters that enable the Always-On capability that keeps
homes powered when the grid goes down, and the ability to save money when the
grid is up. These systems are compatible with both new and existing Enphase IQ
solar systems with IQ 6™ or IQ 7™ microinverters and provide a simple upgrade
path for our existing solar customers. We started shipping Enphase Encharge
products in the second quarter of 2020.
Our next-generation IQ 8™ system is based upon our Always On Enphase Ensemble™
energy management technology. This system has five components: 1) energy
generation, which is accomplished with the grid-agnostic microinverter IQ 8; 2)
energy storage, which is achieved by the Encharge™ battery with capacities of
3.4 kWh and 10.1 kWh; 3) Enpower™ smart switch, which includes a microgrid
interconnect device (MID); 4) communication and control via the combiner box
with the Envoy gateway; and 5) Enlighten, which is the internet of things, or
IoT, cloud software.
Results of Operations
Net Revenues
                Three Months Ended                              Six Months Ended
                     June 30,               Change in               June 30,              Change in
                2020          2019          $          %        2020         2019          $        %
                                         (In thousands, except percentages)

Net revenues $ 125,538 $ 134,094 $ (8,556 ) (6 )% $ 331,083 $ 234,244 $ 96,839 41 %

Three months ended June 30, 2020 and 2019
Net revenues decreased by 6% or $8.6 million for the three months ended June 30,
2020, as compared to the same period in 2019, primarily due to the 15% decrease
in microinverter unit volume shipped as a result of a decline in sales orders
during the COVID-19 pandemic. We sold approximately 1,088 thousand microinverter
units in the three months ended June 30, 2020, as compared to approximately
1,284 thousand units in the same period in 2019.
Six months ended June 30, 2020 and 2019
Net revenues increased by 41% or $96.8 million for the six months ended June 30,
2020, as compared to the same period in 2019, primarily due to the 37% increase
in microinverter unit volume shipped primarily as a result of business growth in
the U.S. as well as higher units shipped in the first quarter of 2020 as our
customers took advantage of safe harbor guidance from the IRS. We sold
approximately 3,100 thousand microinverter units in the six months ended
June 30, 2020, as compared to approximately 2,260 thousand units in the same
period in 2019.




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Cost of Revenues and Gross Profit

                    Three Months Ended                                     Six Months Ended
                         June 30,                  Change in                   June 30,                  Change in
                    2020          2019           $            %           2020          2019           $           %
                                                   (In thousands, except percentages)

Cost of revenues $ 77,151 $ 88,775 $ (11,624 ) (13 )% $ 202,021 $ 155,586 $ 46,435 30 % Gross profit 48,387 45,319 3,068

           7  %     129,062        78,658       50,404         64 %
Gross margin          38.5 %       33.8 %                                   

39.0 % 33.6 %

Three months ended June 30, 2020 and 2019
Cost of revenues decreased by 13% or $11.6 million for the three months ended
June 30, 2020, as compared to the same period in 2019, primarily due to lower
volume of microinverter units sold as a result of a decline in sales orders
during the COVID-19 pandemic, as well as a decrease in the unit cost of our
products as a result of our cost reduction efforts. Gross margin increased by
4.7 percentage points for the three months ended June 30, 2020, as compared to
the same period in 2019. The increase in gross margin was primarily attributable
to our overall pricing and cost management efforts, including the transition of
our contract manufacturing to Mexico to mitigate tariffs, partially offset by a
higher fixed costs per unit due to lower volume. IQ 7 sales represented almost
100% of our total microinverter sales for the three months ended June 30, 2020,
as compared to 98% of our total microinverter sales in in the same period in
2019.
Six months ended June 30, 2020 and 2019
Cost of revenues increased by 30% or $46.4 million for the six months ended
June 30, 2020, as compared to the same period in 2019, primarily due to higher
volume of microinverter units sold primarily as a result of business growth in
the U.S., as well as higher units shipped in the first quarter of 2020 as our
customers took advantage of safe harbor guidance from the IRS, partially offset
by a decrease in the unit cost of our products as a result of our cost reduction
efforts. Gross margin increased by 5.4 percentage points for the six months
ended June 30, 2020, as compared to the same period in 2019. The increase in
gross margin was primarily attributable to our overall pricing and cost
management efforts, including the transition of our contract manufacturing to
Mexico to mitigate tariffs. IQ 7 sales represented almost 100% of our total
microinverter sales for the six months ended June 30, 2020, as compared to 96%
of our total microinverter sales in in the same period in 2019.
Research and Development
               Three Months Ended                                   Six Months Ended
                    June 30,                  Change in                 June 30,                 Change in
                2020          2019          $            %          2020         2019          $           %
                                             (In thousands, except percentages)
Research
and
development $   13,192     $  9,604     $  3,588          37 %   $ 25,068     $ 18,128     $  6,940         38 %
Percentage
of net
revenues            11 %          7 %                                   8 %          8 %


Three months ended June 30, 2020 and 2019
Research and development expense increased by 37% or $3.6 million for the three
months ended June 30, 2020, as compared to the same period in 2019. The increase
was primarily due to $2.6 million higher personnel-related expenses and $0.9
million of outside consulting and engineering services associated with the
innovation and development, introduction and qualification of new products.
The increase in personnel-related expenses was primarily due to hiring employees
in New Zealand, India and U.S., increasing total compensation costs. The amount
of research and development expenses may fluctuate from period to period due to
differing levels and stages of development activity.




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Six months ended June 30, 2020 and 2019
Research and development expense increased by 38% or $6.9 million for the six
months ended June 30, 2020, as compared to the same period in 2019. The increase
was primarily due to $5.5 million higher personnel-related expenses and $1.5
million of outside consulting and engineering services associated with the
innovation and development, introduction and qualification of new products.
The increase in personnel-related expenses was primarily due to hiring employees
in New Zealand, India and US, increasing total compensation costs. The amount of
research and development expenses may fluctuate from period to period due to
differing levels and stages of development activity.
Sales and Marketing
               Three Months Ended                                   Six Months Ended
                    June 30,                  Change in                 June 30,                 Change in
                2020          2019          $            %          2020         2019          $           %
                                             (In thousands, except percentages)
Sales and
marketing   $   12,371     $  9,054     $  3,317          37 %   $ 24,143     $ 16,487     $  7,656         46 %
Percentage
of net
revenues            10 %          7 %                                   7 %          7 %


Three months ended June 30, 2020 and 2019
Sales and marketing expense increased by 37% or $3.3 million for the three
months ended June 30, 2020 as compared to the same period in 2019. The increase
was primarily due to $3.3 million of higher personnel-related expenses as a
result of our efforts to improve customer experience by hiring additional
employees to reduce the average call wait time for customers, as well as support
our business growth in the U.S. and international expansion in Europe, and $0.3
million for a combination of higher professional services, advertising and
marketing expenditures to enable business growth, partially offset by $0.4
million reduction in travel expenditure as we implemented travel restrictions
prohibiting all non-essential business travel and converting where possible our
in-person sales, trainings and marketing events to virtual-only due to COVID-19.
Six months ended June 30, 2020 and 2019
Sales and marketing expense increased by 46% or $7.7 million for the six months
ended June 30, 2020 as compared to the same period in 2019. The increase was
primarily due to $6.3 million of higher personnel-related expenses as result of
our efforts to improve customer experience by hiring additional employees to
reduce the average call wait time for customers, as well as support our business
growth in the U.S. and international expansion in Europe, and $1.3 million for a
combination of higher professional services, advertising and marketing
expenditures to enable business growth, partially offset by $0.2 million
reduction in travel expenditure as we implemented travel restrictions
prohibiting all non-essential business travel and converting where possible our
in-person sales, trainings and marketing events to virtual-only due to COVID-19.
General and Administrative
                  Three Months Ended                                   Six Months Ended
                       June 30,                  Change in                 June 30,                 Change in
                   2020          2019          $            %          2020         2019          $           %
                                                (In thousands, except percentages)
General and
administrative $   11,970     $  8,583     $  3,387          39 %   $

24,285     $ 18,463     $  5,822         32 %
Percentage of
net revenues           10 %          6 %                                   7 %          8 %


Three months ended June 30, 2020 and 2019
General and administrative expense increased 39% or $3.4 million for the three
months ended June 30, 2020, as compared to the same period in 2019. The increase
was primarily due to $2.6 million of higher personnel-related expenses, $0.6
million higher professional services and $0.3 million of higher facilities costs
to support our business growth, partially offset by $0.2 million reduction in
travel expenditures as we implemented travel restrictions prohibiting all
non-essential business travel in response to COVID-19.




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Six months ended June 30, 2020 and 2019
General and administrative expense increased 32% or $5.8 million for the six
months ended June 30, 2020, as compared to the same period in 2019. The increase
was primarily due to $5.5 million of higher personnel-related expenses and $0.6
million of higher facilities costs to support our business growth, partially
offset by $0.2 million reduction in travel expenditures as we implemented travel
restrictions prohibiting all non-essential business travel in response to
COVID-19.
Restructuring Charges
                 Three Months Ended                                     Six Months Ended
                      June 30,                   Change in                  June 30,                  Change in
                  2020          2019          $            %            2020          2019          $            %
                                                 (In thousands, except percentages)
Restructuring
charges       $        -     $    631     $   (631 )      (100 )%   $        -     $    999     $   (999 )     (100 )%


Three months ended June 30, 2020 and 2019
We completed our 2018 restructuring plan in 2019, hence we incurred no
restructuring expenses during the three months ended June 30, 2020.
Restructuring charges for three months ended June 30, 2019 primarily included
$0.6 million of one-time termination benefits and other employee-related
expenses under our 2018 Plan.
Six months ended June 30, 2020 and 2019
We completed our 2018 restructuring plan in 2019, hence we incurred no
restructuring expenses during the six months ended June 30, 2020. Restructuring
expense for the six months ended June 30, 2019 primarily include $1.1 million of
one-time termination benefits and other employee-related expenses under our 2018
Plan, partially offset by a $0.1 million reduction in lease loss reserve.
Other Expense, Net
                Three Months Ended                                    Six 

Months Ended

                     June 30,                  Change in                  June 30,                   Change in
                2020          2019           $            %          2020          2019            $            %
                                                (In thousands, except percentages)
Interest
income       $     282     $    593     $    (311 )      (52 )%   $   1,373     $     804     $     569         71  %
Interest
expense         (5,952 )     (1,351 )      (4,601 )      341  %      (9,107 )      (5,102 )      (4,005 )       78  %
Other
(expense)
income, net        653       (5,480 )       6,133       (112 )%        (271 )      (5,961 )       5,690        (95 )%
Change in
fair value
of
derivatives    (59,692 )          -       (59,692 )      **       $ (44,348 )   $       -     $ (44,348 )      **
Total other
expense, net $ (64,709 )   $ (6,238 )   $ (58,471 )     (937 )%   $ (52,353 )   $ (10,259 )   $ (42,094 )     (410 )%





**  Not meaningful
Three months ended June 30, 2020 and 2019
Interest income of $0.3 million for the three months ended June 30, 2020
decreased, as compared to $0.6 million in the same period in 2019, primarily due
to significant decline in interest rates earned on cash balances, partially
offset by higher average cash balance earning interest in the three months ended
June 30, 2020 compared to the same period in 2019.




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Interest expense of $6.0 million for the three months ended June 30, 2020
primarily includes $5.8 million related to the accretion of the debt discount,
amortization of debt issuance cost and coupon interest incurred associated with
our Notes due 2024 and Notes due 2025, interest expense of $0.1 million related
to coupon interest incurred and amortization of debt issuance costs associated
with our Notes due 2023 and $0.1 million of interest expense related to
long-term financing receivable recorded as debt and. Interest expense of
$1.4 million for the three months ended June 30, 2019 primarily includes
$0.6 million related to the accretion of the debt discount, amortization of debt
issuance cost and coupon interest incurred associated with our Notes due 2024,
interest expense of $0.6 million related to coupon interest incurred and
amortization of debt issuance costs associated with our Notes due 2023 and $0.1
million interest expense related to long-term financing receivable recorded as
debt.
Other (expense) income, net of $0.7 million for the three months ended June 30,
2020, relates to a net gain related to foreign currency exchange and
remeasurement. Other (expense) income, net of $5.5 million for the three months
ended June 30, 2019, primarily relates to the $6.0 million fees paid for the
repurchase and exchange of our Notes due 2023, partially offset by a net gain
related to foreign currency exchange and remeasurement of $0.5 million.
Change in fair value of derivatives of $59.7 million in the three months ended
June 30, 2020 primarily includes the charge recognized for the change in fair
value of our convertible notes embedded derivative and warrants of $71.2 million
and $57.7 million, respectively. This charge is partially offset by a gain
recognized for the change in fair value of our convertible notes hedge of $69.2
million. See Note 8, "Debt," of the notes to condensed consolidated financial
statements included in Part I, Item 1 of this Form 10-Q for additional
information.
Six months ended June 30, 2020 and 2019
Interest income of $1.4 million the six months ended June 30, 2020 increased, as
compared to $0.8 million in the same period in 2019, primarily due to interest
earned on a higher average cash balance, partially offset by significant decline
in interest rates.
Interest expense of $9.1 million for the six months ended June 30, 2020
primarily includes $8.7 million related to the accretion of the debt discount,
amortization of debt issuance cost and coupon interest incurred associated with
our Notes due 2024 and Notes due 2025, $0.3 million of interest expense related
to long-term financing receivable recorded as debt and interest expense of
$0.1 million related to coupon interest incurred and amortization of debt
issuance costs associated with our Notes due 2023.. Interest expense of
$5.1 million for the six months ended June 30, 2019 primarily
includes $3.2 million related to the repayment of our term loans, interest
expense of $1.4 million related to coupon interest incurred and amortization of
debt issuance costs associated with our Notes due 2023, and $0.6 million related
to the accretion of the debt discount, amortization of debt issuance cost and
coupon interest incurred associated with our Notes due 2024.
Other (expense) income, net of $0.3 million for the six months ended June 30,
2020 primarily relates to the net loss related to foreign currency exchange and
remeasurement. Other (expense) income, net of $6.0 million for the six months
ended June 30, 2019 primarily relates to the $6.0 million fees paid for the
repurchase and exchange of our Notes due 2023.
Change in fair value of derivatives of $44.3 million for the six months ended
June 30, 2020 primarily includes the charge recognized for the change in fair
value of our convertible notes embedded derivative and warrants of $47.6 million
and $24.7 million, respectively. This charge is partially offset by a gain
recognized for the change in fair value of our convertible notes hedge of $28.0
million. See Note 8, "Debt," of the notes to condensed consolidated financial
statements included in Part I, Item 1 of this Form 10-Q for additional
information.




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Income Tax Benefit (Provision)

                 Three Months Ended                                     Six Months Ended
                      June 30,                    Change in                 June 30,                  Change in
                  2020            2019          $           %           2020          2019          $           %
                                               (In thousands, except percentages)
Income tax
benefit
(provision) $    6,561         $   (591 )   $  7,152        **      $   18,429     $   (939 )   $ 19,368        **





**  Not meaningful
Three months ended June 30, 2020 and 2019
The income tax benefit of $6.6 million for the three months ended June 30, 2020,
calculated using the annualized effective tax rate method, increased compared to
the income tax provision of $0.6 million in 2019, calculated using the discrete
tax approach, which is due to increased tax deduction of stock based
compensation partially offset by higher projected tax expense in the U.S. and
foreign jurisdictions that are profitable in 2020 compared to 2019.
Six months ended June 30, 2020 and 2019
The income tax benefit of $18.4 million for the six months ended June 30, 2020,
calculated using the annualized effective tax rate method, increased compared to
the income tax provision of $0.9 million in 2019, calculated using the discrete
tax approach, which is due to tax deduction from employee stock compensation as
a discrete event in the six months ended June 30, 2020, partially offset by
higher projected tax expense in the U.S. and foreign jurisdictions that are
profitable in 2020 compared to 2019.
Liquidity and Capital Resources
Sources of Liquidity
As of June 30, 2020, we had $607.3 million in cash and cash equivalents and
$533.7 million in working capital. Cash and cash equivalents held in the U.S.
were $600.5 million and consisted primarily of U.S. government money market
mutual funds and both interest-bearing and non-interest-bearing deposits, with
the remainder held in various foreign subsidiaries. We consider amounts held
outside the U.S. to be accessible and have provided for the estimated
U.S. income tax liability associated with our foreign earnings. However, our
liquidity may be negatively impacted if sales decline significantly for an
extended period due to the impact of the COVID-19 pandemic. Further, the extent
to which the COVID-19 pandemic and our precautionary measures in response
thereto impact our business and liquidity will depend on future developments,
which are highly uncertain and cannot be precisely predicted at this time.
Convertible Notes
Notes due 2023. As of June 30, 2020, we had $5.0 million aggregate principal
amount of our Notes due 2023 outstanding. The Notes due 2023 are general
unsecured obligations and bear interest at a rate of 4.00% per year, payable
semi-annually on February 1 and August 1 of each year. The Notes due 2023 will
mature on August 1, 2023, unless earlier repurchased by us or converted at the
option of the holders.
Notes due 2024. As of June 30, 2020, we had $132.0 million aggregate principal
amount of our Notes due 2024 outstanding. The Notes due 2024 are general
unsecured obligations and bear interest at a rate of 1.0% per year, payable
semi-annually on June 1 and December 1 of each year. The Notes due 2024 will
mature on June 1, 2024, unless earlier repurchased by us or converted at the
option of the holders at a conversion price of $20.50 per share.




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The Notes due 2024 may be converted on any day prior to the close of business on
the business day immediately preceding December 1, 2023, in multiples
of $1,000 principal amount, at the option of the holder only under any of the
following circumstances: (1) during any calendar quarter commencing after the
calendar quarter ending on September 30, 2019 (and only during such calendar
quarter), if the last reported sale price of the our common stock for at least
20 trading days (whether or not consecutive) during a period of 30 consecutive
trading days ending on, and including, the last trading day of the immediately
preceding calendar quarter is greater than or equal to $26.6513 (130% of the
conversion price) on each applicable trading day; (2) during the five business
day period after any five consecutive trading day period (the "measurement
period") in which the "trading price" (as defined in the relevant indenture)
per $1,000 principal amount of notes for each trading day of the measurement
period was less than 98% of the product of the last reported sale price of the
our common stock and the conversion rate on each such trading day; or (3) upon
the occurrence of specified corporate events. Upon conversion of any of the
notes, we will pay or deliver, as the case may be, cash, shares of common stock
or a combination of cash and common stock, at our election.
From April 1, 2020 through September 30, 2020, the Notes due 2024 may be
converted because the last reported sale price of our common stock for at least
20 trading days during a period of 30 consecutive trading days ending on
March 31, 2020 and June 30, 2020 was greater than or equal to $26.6513 on each
applicable trading day. Upon conversion of any of the notes, we will pay or
deliver, as the case may be, cash, shares of common stock or a combination of
cash and common stock, at our election.
In connection with the offering of the Notes due 2024, we entered into
privately-negotiated convertible note hedge transactions in order to reduce the
potential dilution to our common stock upon any conversion of the Notes due
2024. Also, concurrently with the offering of the Notes due 2024, we entered
into privately-negotiated warrant transactions whereby we issued warrants to
effectively increase the overall conversion price of Notes due 2024 from
$20.5010 to $25.2320.
As of August 4, 2020, the Notes due 2024 were not converted into equity,
therefore, we had not purchased any shares under the convertible note hedge and
the warrants had not been exercised and remain outstanding. If holders of
the Notes due 2024 exercise their right to convert the debt to equity we have
asserted our intent and ability to settle the $132.0 million aggregate principal
amount of the Notes due 2024 in cash.
Notes due 2025. As of June 30, 2020, we had $320.0 million aggregate principal
amount of our Notes due 2025 outstanding. The Notes due 2025 are general
unsecured obligations and bear interest at a rate of 0.25% per year, payable
semi-annually on March 1 and September 1 of each year, beginning on September 1,
2020. The Notes due 2025 will mature on March 1, 2025, unless earlier
repurchased by us or converted at the option of the holders at a conversion
price of $81.54 per share.
The Notes due 2025 may be converted on any day prior to the close of business on
the business day immediately preceding September 1, 2024, in multiples of
$1,000 principal amount, at the option of the holder only under any of the
following circumstances: (1) during any calendar quarter commencing after the
calendar quarter ending on June 30, 2020 (and only during such calendar
quarter), if the last reported sale price of the our common stock for at least
20 trading days (whether or not consecutive) during a period of 30 consecutive
trading days ending on, and including, the last trading day of the immediately
preceding calendar quarter is greater than or equal to $81.5400 (130% of the
conversion price) on each applicable trading day; (2) during the five business
day period after any five consecutive trading day period (the "measurement
period") in which the "trading price" (as defined in the relevant indenture) per
$1,000 principal amount of notes for each trading day of the measurement period
was less than 98% of the product of the last reported sale price of the our
common stock and the conversion rate on each such trading day; or (3) upon the
occurrence of specified corporate events. On and after September 1, 2024 until
the close of business on the second scheduled trading day immediately preceding
the maturity date of March 1, 2025, holders may convert their notes at any time,
regardless of the foregoing circumstances. Upon the occurrence of a fundamental
change (as defined in the relevant indenture), holders may require the Company
to repurchase all or a portion of their Notes due 2025 for cash at a price equal
to 100% of the principal amount of the notes to be repurchased plus any accrued
and unpaid interest to, but excluding, the fundamental change repurchase date.
In connection with the offering of the Notes due 2025, we entered into
privately-negotiated convertible note hedge transactions in order to reduce the
potential dilution to our common stock upon any conversion of the Notes due
2025. The total cost of the convertible note hedge transactions was
approximately $89.1 million. Also, concurrently with the offering of the Notes
due 2025, we entered into privately-negotiated warrant transactions whereby we
issued warrants to acquire shares of our common stock at a strike price of
$106.9400 rather than the Notes due 2025 conversion price of $81.5400. We
received approximately $71.6 million from the sale of the warrants.




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As of August 4, 2020, the Notes due 2025 were not convertible, therefore, we had
not purchased any shares under the convertible note hedge and the warrants had
not been exercised and remain outstanding. If holders of the Notes due 2025 are
able to convert the debt to equity, and exercise that right, we have asserted
our intent and ability to settle the $320.0 million aggregate principal amount
of the Notes due 2025 in cash. See Note 8, "Debt," of the notes to condensed
consolidated financial statements included in Part I, Item 1 of this Form 10-Q
for more information relating to the convertible note hedge transactions and
warrants.
Cash from operations could be affected by various risks and uncertainties,
including, but not limited to, the effects of COVID-19 and other risks detailed
in Part II, Item 1A "Risk Factors" of this Quarterly Report on Form 10-Q, as
well as in the "Risk Factors" section in our 2019 Annual Report on Form 10-K. We
believe that our cash flow from operations with existing cash and cash
equivalents will be sufficient to meet our anticipated cash needs for at least
the next 12 months and thereafter for the foreseeable future. Our future capital
requirements will depend on many factors including our growth rate, the timing
and extent of spending to support development efforts, the expansion of sales
and marketing activities, the introduction of new and enhanced products, the
costs to acquire or invest in complementary businesses and technologies, the
costs to ensure access to adequate manufacturing capacity, the continuing market
acceptance of our products and macroeconomic events such as COVID-19. We may
also choose to seek additional equity or debt financing. In the event that
additional financing is required from outside sources, we may not be able to
raise it on terms acceptable to us or at all. If we are unable to raise
additional capital when desired, our business, operating results, and financial
condition may be adversely affected.
Cash Flows. The following table summarizes our cash flows for the periods
presented:
                                              Six Months Ended
                                                  June 30,
                                             2020          2019
                                               (In thousands)

Net cash provided by operating activities $ 64,653 $ 31,835 Net cash used in investing activities (7,804 ) (3,176 ) Net cash provided by financing activities 254,477 70,956 Effect of exchange rate changes on cash (181 ) 107 Net increase in cash and cash equivalents $ 311,145 $ 99,722

Cash Flows from Operating Activities
For the six months ended June 30, 2020, net cash provided by operating
activities was $64.7 million compared to net cash provided by operating
activities of $31.8 million in the same period 2019, an increase of $32.8
million year-over-year. This $32.8 million increase in net cash provided by
operating activities is primarily driven by an increase in our net revenues of
$96.8 million and an increase of $50.4 million in gross profit, resulting in
$8.3 million of higher net income generated during the six months ended June 30,
2020 as compared to the same period in 2019, adjusted for a $34.3 million higher
net non-cash charges, partially offset by $9.8 million increase in cash used in
changes in working capital. Non-cash charges include change in the fair value of
derivatives, deferred income tax, stock-based compensation, amortization of debt
discount, and depreciation and amortization.
The $9.8 million increase in the cash used in changes in the working capital for
the six months ended June 30, 2020, compared to the same period in 2019, was
primarily due to $36.7 million decrease in deferred revenue as we delivered safe
harbor orders that were prepaid in the fourth quarter of 2019 and $52.2 million
decrease in accounts payable due to pay off of liabilities, partially offset by
collections of $75.3 million of accounts receivable and $4.7 million decrease in
inventory.
Cash Flows from Investing Activities
For the six months ended June 30, 2020, net cash used in investing activities
was $7.8 million, primarily from purchases of test and assembly equipment to
expand our supply capacity, related facility improvements and information
technology enhancements, and capitalized costs related to internal-use software.
For the six months ended June 30, 2019, net cash used in investing activities of
$3.2 million primarily resulted from purchases of test and assembly equipment
and capitalized costs related to internal-use software.




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Cash Flows from Financing Activities
For the six months ended June 30, 2020, net cash provided by financing
activities of $254.5 million was primarily from $312.4 million net proceeds from
the issuance of our Notes due 2025, $71.6 million from sale of warrants related
to our Notes due 2025, $4.8 million net proceeds from employee stock option
exercises and issuance of common stock under our employee stock incentive
program, partially offset by $89.1 million purchase of convertible note bond
hedge related to our Notes due 2025, $43.7 million payment of employee
withholding taxes related to net share settlement of equity awards and
$1.6 million of repayment on sale of long-term financing receivables.
For the six months ended June 30, 2019, net cash provided by financing
activities of $71.0 million was primarily from net proceeds
of $128.0 million received from the issuance of our Notes due
2024, $29.8 million from sale of warrants, as well as $0.5 million net proceeds
from issuance of common stock under our employee stock incentive program. These
proceeds were partially offset by $45.1 million for principal payments on debts
and financing fees associated with repayment of our term loan, $36.3 million for
purchase of bond hedges related to our Notes due 2024
and $6.0 million attributable to inducement costs incurred for repurchase of our
Notes due 2023.
Contractual Obligations
The following table summarizes our outstanding contractual obligations as of
June 30, 2020.
                                                      Payments Due by Period
                                        2020 (remaining
                            Total         six months)        2021-2022       2023-2024       Beyond 2024
                                                          (In thousands)
Operating leases         $   16,393     $        2,307     $     8,044     $     4,093     $       1,949
Notes due 2023 principal
and interest                  5,800                200             400           5,200                 -
Notes due 2024 principal
and interest                137,298                660           2,640         133,998                 -
Notes due 2025 principal
and interest                323,984                382           1,600           1,600           320,402
Purchase obligations (1)     75,230             75,230               -               -                 -
Total                    $  558,705     $       78,779     $    12,684     $   144,891     $     322,351

(1) Purchase obligations include amounts related to component inventory that our

primary contract manufacturer procures on our behalf in accordance with our

production forecast as well as other inventory related purchase commitments.

The timing of purchases in future periods could differ materially from

estimates presented above due to fluctuations in demand requirements related

to varying sales levels as well as changes in economic conditions.

Off-Balance Sheet Arrangements
As of June 30, 2020, we did not have any off-balance sheet arrangements, as
defined in Item 303(a)(4)(ii) of SEC Regulation S-K.
Critical Accounting Policies
Our condensed consolidated financial statements are prepared in accordance with
accounting principles generally accepted in the U.S., or GAAP. In connection
with the preparation of our condensed consolidated financial statements, we are
required to make assumptions and estimates about future events and apply
judgments that affect the reported amounts of assets, liabilities, revenue,
expenses and related disclosures. We base our assumptions, estimates and
judgments on historical experience, current trends and other factors that
management believes to be relevant at the time our condensed consolidated
financial statements are prepared. On a regular basis, we review the accounting
policies, assumptions, estimates and judgments to ensure that our condensed
consolidated financial statements are presented fairly and in accordance with
GAAP. However, because future events and their effects cannot be determined with
certainty, actual results could differ from our assumptions and estimates. To
the extent that there are material differences between these estimates and
actual results, our future financial statement presentation, financial
condition, results of operations and cash flows will be affected.
The worldwide spread of the COVID-19 virus has resulted in a global slowdown of
economic activity which decreased demand for a broad variety of goods and
services, including from our customers, while also disrupting sales




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channels and marketing activities for an unknown period of time until the
disease is contained. This had a negative impact on our sales and our results of
operations for the second quarter of 2020 and we expect this to continue to have
a negative impact on our sales and our results of operations in the third
quarter of 2020. In preparing our condensed consolidated financial statements in
accordance with GAAP, we are required to make estimates, assumptions and
judgments that affect the amounts reported in our financial statements and the
accompanying disclosures. Estimates and assumptions about future events and
their effects cannot be determined with certainty and therefore require the
exercise of judgment. As of the date of issuance of these financial statements,
we are not aware of any specific event or circumstance that would require us to
update our estimates, judgments or revise the carrying value of our assets or
liabilities. These estimates may change, as new events occur and additional
information is obtained, and are recognized in the condensed consolidated
financial statements as soon as they become known. Actual results could differ
from those estimates and any such differences may be material to our financial
statements.
We consider an accounting policy to be critical if it requires an accounting
estimate to be made based on assumptions about matters that are highly uncertain
at the time the estimate is made, and if different estimates that reasonably
could have been used, or changes in the accounting estimates that are reasonably
likely to occur periodically, could materially impact the condensed consolidated
financial statements.
Adoption of New and Recently Issued Accounting Pronouncements
Refer to Note 1. "Summary of Significant Accounting Policies" of the notes to
condensed consolidated financial statements included in Part I, Item 1 of this
Form 10-Q for a discussion of adoption of new and recently issued accounting
pronouncements.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
For quantitative and qualitative disclosures about market risk, see Item 7A,
"Quantitative and Qualitative Disclosures About Market Risk" of our Annual
Report on Form 10­K for the fiscal year ended December 31, 2019. Our exposures
to market risk have not changed materially since December 31, 2019, except as
described below.
Market Risk
On March 9, 2020, we issued $320 million aggregate principal amount of our Notes
due 2025, and entered into privately-negotiated convertible note hedge and
warrant transactions, which in combination are intended to reduce the potential
dilution from the conversion of the Notes due 2025 and to effectively increase
the overall conversion price from $81.54 to $106.94 per share. For the period
from March 9, 2020 through May 19, 2020, the Notes due 2025, convertible note
hedge and warrant transactions could only be settled in cash because the number
of authorized and unissued shares of our common stock that was not reserved for
other purposes was less than the maximum number of underlying shares that would
be required to settle the Notes due 2025, convertible note hedge and warrants
transactions. As such, the embedded conversion option associated with the Notes
due 2025, convertible notes hedge and warrants liability met the criteria for
derivative accounting, and as a result, derivative financial instruments were
marked-to-market at each reporting period. The volatile market conditions
arising from the COVID-19 pandemic resulted in significant changes in the price
of our common stock in the first half of 2020, causing variability in the fair
value of these derivative financial instruments, and materially affecting our
condensed consolidated statement of operations three and six months ended
June 30, 2020. Change in fair value of derivatives of $59.7 million in the three
months ended June 30, 2020 includes the charge recognized for the change in fair
value of our convertible notes embedded derivative and warrants of $71.2 million
and $57.7 million, respectively. This charge is partially offset by a gain
recognized for the change in fair value of our convertible notes hedge of $69.2
million. Change in fair value of derivatives of $44.3 million for the six months
ended June 30, 2020 includes the charge recognized for the change in fair value
of our convertible notes embedded derivative and warrants of $47.6 million and
$24.7 million, respectively. This charge is partially offset by a gain
recognized for the change in fair value of our convertible notes hedge of $28.0
million.
On May 20, 2020, we received approval at our annual meeting of stockholders to
increase the authorized shares of our common stock, par value $0.00001 per
share, from 150,000,000 shares to 200,000,000 shares. As discussed further in
Note 8, "Debt," of the notes to condensed consolidated financial statements
included in Part I, Item 1 of this Form 10-Q, we reclassified the remeasured
fair value of embedded derivative, warrants and convertible notes hedge to
additional paid-in-capital in the condensed consolidated balance in the second
quarter of 2020. As a result of this classification, embedded derivative,
warrants and convertible notes hedge are no longer marked to fair value at each
reporting period.




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Credit Risk
Financial instruments that subject us to concentrations of credit risk consist
primarily of cash and cash equivalents, accounts receivable, and derivative
financial instruments. We maintain a substantial portion of our cash balances in
non-interest-bearing and interest-bearing deposits and money market accounts.
The derivative financial instruments expose us to credit risk to the extent that
the counterparties may be unable to meet the terms of the arrangement. We
mitigate this credit risk by transacting with major financial institutions with
high credit ratings. We are not required to pledge, and are not entitled to
receive, cash collateral related to these derivative instruments. We do not
enter into derivative contracts for trading or speculative purposes. Our net
revenues are primarily concentrated among a limited number of customers. We
monitor the financial condition of our customers and perform credit evaluations
whenever considered necessary and maintain an allowance for doubtful accounts
for estimated potential credit losses.




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