Summary of Significant Accounting Policies

12 Months Ended

Apr. 28, 2019

Summary of Significant Accounting Policies

Revenue Recognition

Substantially all of the Company's revenues are derived from sales of products to customers. The Company recognizes revenue when it satisfies performance obligations as evidenced by the transfer of control of its products to customers at the time of product shipment from the Company's facility or delivery to the customer location, as determined by the agreed upon shipping and delivery terms. Delivery of all performance obligations contained within a contract with a customer typically occurs at the same time (or within the same accounting period). Prior to fiscal 2019, revenue and costs relating to sales to certain distributors that were made under agreements providing distributor price adjustments and rights of return under certain circumstances were deferred until products were sold by the distributors to end customers.

The Company measures revenue based on the amount of consideration it expects to be entitled to in exchange for products, reduced by amount of consideration related to products expected to be returned. Any variable consideration is recognized as a reduction of revenue at the time of revenue recognition. The Company determines variable consideration, which primarily consists of distributor sales price reductions resulting from price protection agreements, by estimating the impact of such reductions based on historical analysis of such activity. The Company’s contracts with customers do not typically include extended payment terms and payment terms generally range from 30 to 90 days. At the time revenue is recognized, the Company establishes an accrual for estimated warranty expenses associated with sales, recorded as a component of cost of revenues. The Company's standard warranty period usually covers twelve months from the date of sale, although it can be for longer periods for certain products. The Company is recognizing the incremental costs of obtaining a contract, specifically commission expenses that have a period of benefit of less than twelve months, as an expense when incurred. The Company recognizes shipping costs that occur after control transfers to the customer as a fulfillment activity.

Segment Reporting

The Financial Accounting Standards Board's (FASB) authoritative guidance regarding segment reporting establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports. It also establishes standards for related disclosures about products and services, geographic areas and major customers. The Company has determined that it operates in one reportable segment comprising optical subsystems and components. Optical subsystems consist primarily of transceivers sold to manufacturers of storage and networking equipment for data communication and telecommunication applications. Optical subsystems also include multiplexers, de-multiplexers and optical add/drop modules for use in telecommunication applications. Optical components consist primarily of packaged lasers and photo-detectors which are incorporated in transceivers for data communication and telecommunication applications.

Concentrations of Risk

Financial instruments which potentially subject the Company to concentrations of credit risk include cash and cash equivalents, short-term investment and accounts receivable. The Company invests only in high-quality credit instruments and maintains its cash, cash equivalents and short-term investments with several high-quality credit financial institutions. Deposits held with banks, including those held in foreign branches of global banks, may exceed the amount of insurance provided on such deposits.

Concentrations of credit risk, with respect to accounts receivable, exist to the extent of amounts presented in the financial statements. Generally, the Company does not require collateral or other security to support customer receivables. The Company performs periodic credit evaluations of its customers and maintains an allowance for potential credit losses based on historical experience and other information available to management. Losses to date have not been material. The Company’s ten largest customers represented 64% and 62% of total accounts receivable as of April 28, 2019 and April 29, 2018, respectively. Three customers, Huawei, Flextronics, and Jabil, represented 13%, 12%, and 11%, respectively, of total accounts receivable as of April 28, 2019. Two customers, Google and Flextronics, represented 15% and 11% respectively, of total accounts receivable as of April 29, 2018.

Sales to the Company’s ten largest customers represented 58%, 59% and 56% of total revenues during fiscal 2019, 2018 and 2017, respectively. Two customers, Cisco Systems and Huawei, represented 11% and 10%, respectively, of total revenues during fiscal 2019. Two customers, Cisco Systems and Google, represented 14% and 11%, respectively, of total revenues during fiscal 2018. Two customers, Cisco Systems and Huawei, represented 12% and 11%, respectively, of total revenues during fiscal 2017.

The Company relies on single and limited suppliers for a number of key components. The Company relies primarily on a limited number of significant independent contract manufacturers for the production of certain key components and subassemblies, including lasers, modulators, and printed circuit boards.

Included in the Company’s consolidated balance sheet at April 28, 2019 are the net assets of the Company’s operations located at its overseas facilities totaling approximately $617.8 million.

Foreign Currency Translation and Transactions

The functional currency of the Company's foreign subsidiaries is the local currency. Assets and liabilities denominated in foreign currencies are translated using the exchange rate on the balance sheet date. Revenues and expenses are translated using average exchange rates prevailing during the year. Any translation adjustments resulting from this process are shown separately as a component of accumulated other comprehensive income (loss). Foreign currency transaction gains and losses are included in the determination of net income (loss). Included in the determination of net income (loss) for fiscal 2019, 2018 and 2017 were $(849,000), $1.0 million and $539,000, respectively, of gains (losses) on foreign currency transactions.

Research and Development

Research and development expenditures are charged to operations as incurred.

Shipping and Handling Costs

The Company records costs related to shipping and handling in cost of sales for all periods presented.

Cash and Cash Equivalents

The Company’s cash equivalents consist of money market funds. The Company considers all highly liquid investments with an original maturity from the date of purchase of three months or less to be cash equivalents.

Minority Investments

The Company uses the cost method of accounting for investments in companies that do not have a readily determinable fair value in which it holds an interest of less than 20% and over which it does not have the ability to exercise significant influence. For entities in which the Company holds an interest of greater than 20% or in which the Company does have the ability to exercise significant influence, the Company uses the equity method. Under the equity method of accounting, investments are stated at initial cost and are adjusted for subsequent additional investments and the Company's proportionate share of earnings or losses and distributions. Such proportionate share of earnings or losses is included in other income (expense), net in the consolidated statement of operations. In determining if and when a decline in the market value of these investments below their carrying value is other-than-temporary, the Company evaluates the market conditions, offering prices, trends of earnings and cash flows, price multiples, prospects for liquidity and other key measures of performance. The Company’s policy is to recognize an impairment in the value of its minority equity investments when clear evidence of an impairment exists. Factors considered in this assessment include (a) the completion of a new equity financing that may indicate a new value for the investment, (b) the failure to complete a new equity financing arrangement after seeking to raise additional funds or (c) the commencement of proceedings under which the assets of the business may be placed in receivership or liquidated to satisfy the claims of debt and equity stakeholders. The Company’s minority investments in private companies are generally made in exchange for preferred stock with a liquidation preference that is intended to help protect the underlying value of its investment.

Fair Value Accounting

The FASB authoritative guidance regarding fair valuation defines fair value and establishes a framework for measuring fair value and expands the related disclosure requirements. The guidance requires or permits fair value measurements with certain exclusions. It provides that a fair value measurement assumes that the transaction to sell an asset or transfer a liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The guidance establishes a valuation hierarchy for disclosure of the inputs to valuation used to measure fair value. Valuation techniques used to measure fair value under this guidance must maximize the use of observable inputs and minimize the use of unobservable inputs. It describes a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value which are the following:

Level 1 inputs are unadjusted quoted prices in active markets for identical assets or liabilities;

Level 2 inputs are quoted prices for similar assets and liabilities in active markets or inputs that are observable for the asset or liability, either directly or indirectly through market corroboration, for substantially the full term of the financial instrument; and

Level 3 inputs are unobservable inputs based on the Company's own assumptions used to measure assets and liabilities at fair value. A financial asset or liability’s classification within the hierarchy is determined based on the lowest level input that is significant to the fair value measurement.

The Company’s financial instruments, including cash equivalents, accounts receivable, accounts payable and accrued liabilities have carrying amounts which approximate fair value due to the short-term maturity of these instruments. See Note 10 for additional details regarding the fair value of the Company’s financial instruments.

Allowance for Doubtful Accounts

The Company evaluates the collectability of its accounts receivable based on a combination of factors. In circumstances where, subsequent to delivery, the Company becomes aware of a customer’s potential inability to meet its obligations, it records a specific allowance for the doubtful account to reduce the net recognized receivable to the amount the Company reasonably believes will be collected. For all other customers, the Company recognizes an estimated allowance for doubtful accounts based on the length of time the receivables are past due and historical actual bad debt history. A material adverse change in a major customer’s ability to meet its financial obligations to the Company could result in a material reduction in the estimated amount of accounts receivable that can ultimately be collected and an increase in the Company’s general and administrative expenses for the shortfall. Accounts receivable are charged against the allowance for doubtful accounts when identified as fully uncollectable.

Inventories

Inventories are stated at the lower of cost (determined on a first-in, first-out basis) or market.

The Company permanently writes down the cost of inventory that the Company specifically identifies and considers obsolete or excessive to fulfill future sales estimates. The Company defines obsolete inventory as inventory that will no longer be used in the manufacturing process. Excess inventory is generally defined as inventory in excess of projected usage and is determined using management’s best estimate of future demand, based upon information then available to the Company. The Company also considers: (1) parts and subassemblies that can be used in alternative finished products, (2) parts and subassemblies that are unlikely to be engineered out of the Company’s products, and (3) known design changes which would reduce the Company’s ability to use the inventory as planned. Inventory on hand that is identified and considered to be excess or obsolete is written down to its estimated net realizable value.

Property, Equipment and Improvements

Property, equipment and improvements are stated at cost, net of accumulated depreciation and amortization. Property, equipment and improvements are depreciated on a straight-line basis over the estimated useful lives of the assets, generally three to ten years, except for buildings which are depreciated over 30 years. Land is carried at acquisition cost and not depreciated. Leased land is depreciated over the life of the lease. Management judgment is required in determining the estimated economic useful lives of our property, plant and equipment, which can materially impact the Company's depreciation expense. Accordingly, the Company evaluates the period over which it expects to recover the economic value of these assets. During the fourth quarter of fiscal 2018, based on considerations including asset replacement cycle, the Company revisited the useful life estimates of certain computer equipment, software, and building and leasehold fixtures. As a result, the Company determined that the useful lives of computer equipment be extended from three to five years, the useful lives of certain software be extended from five to ten years, the useful lives of leasehold improvements be extended from seven to ten years, and the useful lives of certain building fixtures be extended from 15 to 30 years. These assets are depreciated through cost of revenues and operating expenses. The Company accounted for this as a change in estimate that was applied prospectively, effective as of January 29, 2018. This change in depreciable lives did not have a material impact for the quarter or the year ended April 29, 2018, resulted in a reduction of $4.6 million in depreciation expense during fiscal 2019, and will result in a reduction of $2.6 million in depreciation expense during fiscal 2020.

Goodwill and Other Intangible Assets

Goodwill, purchased technology and other intangible assets resulting from acquisitions are accounted for under the acquisition method. Intangible assets with finite lives are amortized over their estimated useful lives. Amortization of purchased technology and other intangibles has been recorded on a straight-line basis over periods ranging from three to 15 years.

Accounting for the Impairment of Long-Lived Assets

The Company periodically evaluates whether changes have occurred to long-lived assets that would require revision of the remaining estimated useful life of the property, improvements and finite-lived intangible assets or render them not recoverable. If such circumstances arise, the Company uses an estimate of the undiscounted value of expected future operating cash flows to determine whether the long-lived assets are impaired. If the aggregate undiscounted cash flows are less than the carrying amount of the assets, the resulting impairment charge to be recorded is calculated based on the excess of the carrying value of the assets over the fair value of such assets, with the fair value determined based on an estimate of discounted future cash flows. Goodwill is assessed for impairment annually or more frequently when an event occurs or circumstances change between annual impairment tests that would more likely than not reduce the fair value of the reporting unit holding the goodwill below its carrying value.

During fiscal 2019 and 2018, the Company recorded charges of $4.5 million and $2.2 million, respectively, for the impairment of certain long-lived assets due to the planned retirement of such assets resulting from product and facility transitions. In accordance with the guidance for the impairment of long-lived assets, these assets were written down to their estimated fair value of zero.

Stock-Based Compensation Expense

The Company measures and recognizes compensation expense for all stock-based payment awards made to employees and directors including restricted stock units, stock options, and employee stock purchases under the Company’s Employee Stock Purchase Plan based on estimated fair values. The Company uses the grant-date fair value of its common stock to determine the fair value of restricted stock units. The Company uses the Black-Scholes option pricing model to determine the fair value of stock options and employee stock purchase rights. The Company uses the Monte Carlo simulation model to determine the fair value of market-based performance restricted stock units. The fair value of the awards is recognized as expense in the consolidated statements of operations under the single-option approach on a straight-line basis over the requisite service periods, which is generally the vesting period. Forfeitures are accounted for as they occur rather than estimating the number of awards that are expected to ultimately vest.

Income Taxes

The Company computes the provision for income taxes using the asset and liability method, under which deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities, and for operating losses and tax credit carryforwards. The Company measures deferred tax assets and liabilities using the currently enacted tax rates that apply to taxable income in effect for the years in which those tax assets are expected to be realized or settled. The Company periodically assesses the likelihood that it will be able to recover its deferred tax assets. If recovery is not likely, the Company must increase its provision for taxes by recording a valuation allowance against the deferred tax assets that the Company estimates will not ultimately be recoverable. The Company recognizes tax benefits from uncertain tax positions only if (based on the technical merits of the position) it is more likely than not that the tax positions will be sustained on examination by the tax authority. The Company's assumptions, judgments and estimates relative to the current provision for income taxes take into account current tax laws, the Company's interpretation of current tax laws and possible outcomes of current and future audits conducted by foreign and domestic tax authorities. The Company has established reserves for income taxes to address potential exposures involving tax positions that could be challenged by tax authorities. Although the Company believes that its assumptions, judgments and estimates are reasonable, changes in tax laws or interpretation of tax laws and the resolution of any future tax audits could significantly impact the amounts provided for income taxes in the Company's consolidated financial statements. The Company's assumptions, judgments and estimates relative to the value of a deferred tax asset take into account predictions of the amount and category of future taxable income, such as income from operations or capital gains income. Actual operating results and the underlying amount and category of income in future years could render current assumptions, judgments and estimates of recoverable net deferred taxes inaccurate, causing the Company's actual income tax obligations to differ from its estimates, thus materially impacting the Company's financial position and results of operations.

In fiscal 2018, the Company has recorded provisional estimates associated with the December 22, 2017 enactment of the U.S. Tax Cuts and Jobs Act ("TCJA"). During fiscal 2019, the Company completed its accounting for the impact of TCJA on its consolidated financial statements. For more information about TCJA impacts, see "Note 13. Income Taxes."

Recent and Pending Adoption of New Accounting Standards

In May 2014, the Financial Accounting Standards Board (the "FASB"), jointly with the International Accounting Standards Board, issued a comprehensive new standard on revenue recognition from contracts with customers. The standard's core principle is that a reporting entity shall recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In applying this new guidance to contracts within its scope, an entity will: (1) identify the contract(s) with a customer, (2) identify the performance obligation in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when (or as) the entity satisfies a performance obligation. The Company adopted this standard on April 30, 2018, applying it to all contracts, using a modified retrospective approach. The Company's assessment has identified a change in revenue recognition timing on sales made to distributors. Upon adopting this standard, the Company now recognizes revenue upon delivery of products to the distributor (in accordance with agreed upon shipping and delivery terms) rather than deferring recognition until the distributor sells the product to the end customer. On April 30, 2018, the Company removed the deferred revenue (and corresponding deferred cost of sales) on sales to distributors through a cumulative adjustment to accumulated deficit. This resulted in an approximately net $8.6 million reduction of accumulated deficit with a corresponding approximately $9.5 million reduction of deferred revenue, an approximately $535,000 reduction of other non-current liabilities, an approximately $760,000 increase in other current assets, and an approximately $2.3 million reduction of deferred tax assets. Based on the Company's assessment, only minimal changes were required to the Company's existing policies, processes, and controls to support the standard's measurement and disclosure requirements. During fiscal 2018, the Company and certain licensees agreed to modify specific terms of some of the Company's out-licensing agreements by granting licensees cancellation rights to cease future payments in the event that licensees cease using the licensed technology. These licensing agreements provided for a settlement and release of any prior claims and licensing of the Company’s technology over a future period. Prior to the modification, there were no cancellation rights. In accordance with the new accounting standard, the Company utilized one of the practical expedients for adoption that allowed the Company to reflect the aggregate effect of all modifications that have occurred before the beginning of the earliest period presented in accordance with this new accounting standard. Absent these modifications, the Company would have recognized, in addition to the amounts described above, approximately $24.4 million of cumulative effect of adoption of the new accounting standard in the earliest period presented in accordance with this new accounting standard. The Company may provide similar cancellation rights in comparable licensing agreements that may be executed in the future. Because all of the Company’s performance obligations relate to contracts with a duration of less than one year, the Company elected to apply the optional exemption practical expedient provided in this new accounting standard and, therefore, is not required to disclose the aggregate amount of the transaction price allocated to performance obligations that are unsatisfied or partially unsatisfied at the end of the reporting period.

The following table summarizes the impacts of adopting the new revenue recognition standard on the Company's condensed consolidated financial statements for the year ended April 28, 2019:



	Fiscal Year Ended April 28, 2019
(in thousands)	As reported			Adjustments			Without new revenue standard
Revenues	$	1,280,480		$	(7,869	)	$	1,272,611
Cost of revenues	926,550			(4,356		)	922,194
Gross profit	348,093			(3,513		)	344,580
Net loss	$	(53,216	)	$	(3,513	)	$	(56,729	)

	As of April 28, 2019
(in thousands)	As reported			Adjustments			Without new revenue standard
Other current assets	$	44,224		$	(420	)	$	43,804
Deferred tax assets	$	81,977		$	2,259		$	84,236
Deferred revenue	$	—		$	13,652		$	13,652
Other non-current liabilities	$	12,162		$	256		$	12,418
Accumulated deficit	$	(1,256,694	)	$	(12,069	)	$	(1,268,763	)

The following table presents the Company's revenues disaggregated by geography, based on the location of the entity purchasing the Company’s products:



	Fiscal Years Ended
(in thousands)	April 28, 2019		April 29, 2018		April 30, 2017
United States	$	409,195	$	482,601	$	476,763
China	300,116		270,040		358,561
Mexico	169,189		126,664		125,556
Rest of the world	401,980		437,178		488,423
Totals	$	1,280,480	$	1,316,483	$	1,449,303

The following table presents the Company's revenues disaggregated by market application:



	Fiscal Years Ended
(in thousands)	April 28, 2019		April 29, 2018		April 30, 2017
Datacom	$	926,786	$	1,029,037	$	1,041,854
Telecom	353,694		287,446		407,449
Totals	$	1,280,480	$	1,316,483	$	1,449,303

In February 2016, the FASB issued an accounting standards update which replaces the current lease accounting standard. The update will require lessees, among other items, to recognize a right-of-use asset and a lease liability for most leases. The update is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years, with early adoption permitted. The new standard must be adopted using a modified retrospective transition, and provides for certain optional practical expedients. Transition will require application of the new guidance at the beginning of the earliest comparative period presented, but provides an optional application at the adoption date. The Company expects to adopt this standard in the first quarter of its fiscal 2020 and apply it at the beginning of the period of adoption. Although the Company is currently completing its evaluation of potential effects on its consolidated financial position, results of operations and cash flows from the adoption of this standard, the Company expects that most of its operating lease commitments will be subject to the new standard and will be recognized as operating lease liabilities and right-of-use assets upon adoption of this standard.

From time to time, new accounting pronouncements are issued by the FASB or other standards setting bodies that are adopted by the Company as of the specified effective date. Unless otherwise discussed above, the Company believes the impact of recently issued standards that are not yet effective will not have a material impact on its consolidated financial position, results of operations and cash flows upon adoption.

FINISAR CORP 10-K