Enphase Energy
Enphase Energy, Inc. (Form: 10-Q, Received: 11/06/2018 17:19:04)
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 ____________________________________________
Form 10-Q
   ____________________________________________
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2018
or
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File Number: 001-35480
  ____________________________________________
  Enphase Energy, Inc.
(Exact name of registrant as specified in its charter)
 ____________________________________________
Delaware
(State or other jurisdiction of
incorporation or organization)
 
20-4645388
(I.R.S. Employer
Identification No.)
 
 
 
47281 Bayside Parkway
Fremont, CA
 
94538
(Address of principal executive offices)
 
(Zip Code)
(707) 774-7000
(Registrant’s telephone number, including area code)
 ____________________________________________
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes    x   No    ¨
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes    x      No    ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an “emerging growth company.” See the definitions of “large accelerated filer,” “accelerated filer, ” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer
 
¨
  
Accelerated filer
 
¨
 
 
 
 
 
 
 
Non-accelerated filer
 
x
  
Smaller reporting company
 
x
 
 
 
 
 
 
 
Emerging growth Company
 
¨
 
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes    ¨      No    x
As of November 1, 2018 , there were 106,328,107 shares of the registrant’s common stock outstanding, $0.00001 par value per share.
 


Table of Contents

ENPHASE ENERGY, INC.
FORM 10-Q FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2018
TABLE OF CONTENTS
 
 
 
Page
 
 
 
 
 
Item 1.
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
 
 
 
 
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
 


2

Table of Contents

PART I. FINANCIAL INFORMATION
 
Item 1.
Financial Statements (Unaudited)

ENPHASE ENERGY, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except par value)
(Unaudited)
 
September 30,
2018
 
December 31,
2017
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
116,164

 
$
29,144

Accounts receivable, net of allowances of $2,167 and $2,378 at September 30, 2018 and December 31, 2017, respectively
54,117

 
65,346

Inventory
17,886

 
25,999

Prepaid expenses and other assets
21,631

 
9,957

Total current assets
209,798

 
130,446

Property and equipment, net
20,331

 
26,483

Intangible assets, net
36,078

 
515

Goodwill
24,783

 
3,664

Other assets
35,520

 
8,039

Total assets
$
326,510

 
$
169,147

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
28,103

 
$
28,747

Accrued liabilities
41,562

 
22,447

Deferred revenues, current
32,015

 
15,691

Warranty obligations, current (includes $4,110 and $2,240 measured at fair value at September 30, 2018 and December 31, 2017, respectively)
9,117

 
7,427

Debt, current
24,125

 
17,429

Total current liabilities
134,922

 
91,741

Long-term liabilities:
 
 
 
Deferred revenues, noncurrent
74,065

 
29,941

Warranty obligations, noncurrent (includes $9,456 and $7,551 measured at fair value at September 30, 2018 and December 31, 2017, respectively)
23,067

 
22,389

Other liabilities
2,393

 
1,880

Debt, noncurrent
87,907

 
32,322

Total liabilities
322,354

 
178,273

Commitments and contingencies


 


Stockholders’ equity:
 
 
 
Preferred stock, $0.00001 par value, 10,000 shares authorized; none issued and outstanding

 

Common stock, $0.00001 par value, 150,000 shares and 125,000 shares authorized; and 106,322 and 85,914 shares issued and outstanding at September 30, 2018 and December 31, 2017, respectively
1

 
1

Additional paid-in capital
351,173

 
287,256

Accumulated deficit
(347,011
)
 
(295,727
)
Accumulated other comprehensive loss
(7
)
 
(656
)
Total stockholders’ equity  (deficit)
4,156

 
(9,126
)
Total liabilities and stockholders’ equity
$
326,510

 
$
169,147

See notes to condensed consolidated financial statements.

3


ENPHASE ENERGY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Net revenues
$
78,002

 
$
77,038

 
$
223,870

 
$
206,492

Cost of revenues
52,738

 
60,577

 
157,589

 
169,438

Gross profit
25,264

 
16,461

 
66,281

 
37,054

Operating expenses:

 
 
 
 
 
 
Research and development
8,165

 
7,397

 
25,247

 
24,949

Sales and marketing
7,375

 
5,453

 
20,430

 
18,186

General and administrative
7,510

 
5,441

 
21,423

 
16,238

Restructuring charges
2,588

 
4,071

 
2,588

 
14,927

Total operating expenses
25,638

 
22,362

 
69,688

 
74,300

Loss from operations
(374
)
 
(5,901
)
 
(3,407
)
 
(37,246
)
Other expense, net
 
 
 
 
 
 
 
Interest expense
(2,469
)
 
(1,760
)
 
(7,031
)
 
(5,979
)
Other income (expense)
(379
)
 
623

 
(1,077
)
 
1,771

Total other expense, net
(2,848
)
 
(1,137
)
 
(8,108
)
 
(4,208
)
Loss before income taxes
(3,222
)
 
(7,038
)
 
(11,515
)
 
(41,454
)
Income tax (provision) ben efit
(248
)
 
184

 
(821
)
 
(798
)
Net loss
$
(3,470
)
 
$
(6,854
)
 
$
(12,336
)
 
$
(42,252
)
Net loss per share:
 
 
 
 
 
 
 
Basic  and diluted
$
(0.03
)
 
$
(0.08
)
 
$
(0.13
)
 
$
(0.52
)
Shares used in per share calculation:
 
 
 
 
 
 
 
Basic  and diluted
102,798

 
84,862

 
97,257

 
81,993

See notes to condensed consolidated financial statements.


4


ENPHASE ENERGY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands)
(Unaudited)
 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Net loss
$
(3,470
)
 
$
(6,854
)
 
$
(12,336
)
 
$
(42,252
)
Other comprehensive loss:
 
 
 
 
 
 
 
Foreign currency translation adjustments
346

 
(296
)
 
649

 
(173
)
Comprehensive loss
$
(3,124
)
 
$
(7,150
)
 
$
(11,687
)
 
$
(42,425
)
See notes to condensed consolidated financial statements.


5


ENPHASE ENERGY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
Nine Months Ended
September 30,
 
2018
 
2017
Cash flows from operating activities:
 
 
 
Net loss
$
(12,336
)
 
$
(42,252
)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
 
 
 
Depreciation and amortization
6,950

 
6,763

Provision for doubtful accounts
668

 
911

Asset impairment charges
1,636

 
1,638

Amortization of debt issuance costs
1,880

 
1,337

Stock-based compensation
9,911

 
5,277

Changes in operating assets and liabilities:
 
 
 
Accounts receivable
10,671

 
(8,761
)
Inventory
8,112

 
6,644

Prepaid expenses and other assets
(3,995
)
 
(5,110
)
Intangible assets
(6,000
)
 

Accounts payable, accrued and other liabilities
4,672

 
3,051

Warranty obligations
2,368

 
(1,062
)
Deferred revenues
(10,280
)
 
5,036

Net cash provided by (used in) operating activities
14,257

 
(26,528
)
Cash flows from investing activities:
 
 
 
Purchases of property and equipment
(2,384
)
 
(3,609
)
Acquisition
(9,000
)
 

Net cash used in investing activities
(11,384
)
 
(3,609
)
Cash flows from financing activities:
 
 
 
Proceeds from issuance of common stock, net of issuance costs
19,771

 
26,425

Proceeds from debt
68,352

 
24,240

Principal payments on term debt
(5,664
)
 

Payments under revolving credit facility

 
(10,100
)
Proceeds from issuance of common stock under employee stock plans
2,151

 
174

Net cash provided by financing activities
84,610

 
40,739

Effect of exchange rate changes on cash
(463
)
 
512

Net increase in cash and cash equivalents
87,020

 
11,114

Cash and cash equivalents—Beginning of period
29,144

 
17,764

Cash and cash equivalents—End of period
$
116,164

 
$
28,878

Supplemental disclosures of non-cash investing and financing activities:
 
 
 
Acquisition funded by issuance of common stock
$
19,219

 
$

Acquisition funded by accrued liabilities
$
6,000

 
$

Purchases of fixed assets included in accounts payable
$
125

 
$
871

Warrants issued in connection with debt
$

 
$
1,447

See notes to condensed consolidated financial statements.


6


ENPHASE ENERGY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
Description of Business
Enphase Energy, Inc. and subsidiaries (the “Company”) deliver simple, innovative and reliable energy management solutions that advance the worldwide potential of renewable energy. The Company’s semiconductor-based microinverter system converts direct current (DC) electricity to alternating current (AC) electricity at the individual solar module level and brings a system-based, high technology approach to solar energy generation leveraging the Company’s design expertise across power electronics, semiconductors, networking, and cloud-based software technologies. Since inception, the Company has shipped over 18 million microinverters, representing over 4  gigawatts of solar photovoltaic (PV) generating capacity, and more than 820,000  Enphase residential and commercial systems have been deployed in over 120  countries.
Basis of Presentation and Consolidation
The accompanying condensed consolidated financial statements are presented in accordance with accounting principles generally accepted in the U.S, or GAAP. The condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.
Unaudited Interim Financial Information
These accompanying unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”) for interim financial reporting. In the opinion of management, these unaudited condensed consolidated financial statements reflect all adjustments, consisting of normal recurring items, considered necessary to present fairly the Company's financial condition, results of operations, comprehensive loss and cash flows for the interim periods indicated. The results of operations for the three and nine months ended September 30, 2018 are not necessarily indicative of the operating results for the full year. Certain information and footnote disclosures typically included in annual consolidated financial statements have been condensed or omitted. Accordingly, these unaudited interim condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017 .
Other than as discussed in Note 2. “Revenue Recognition,” Note 11. “Stock-based Compensation” and Note 14. “ Acquisition ,” there have been no material changes in the Company’s significant accounting policies during the nine months ended September 30, 2018 , as compared to the significant accounting policies described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017 . Reference is made to the disclosures therein for a summary of the Company’s significant accounting policies.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Significant estimates and assumptions reflected in the financial statements include revenue recognition, inventory valuation and accrued warranty obligations. These estimates are based on information available as of the date of the financial statements; therefore, actual results could differ materially from management’s estimates using different assumptions or under different conditions.

7


Recently Adopted Accounting Pronouncements
In May 2014, the FASB issued Accounting Standards Update No. (“ASU”) 2014-09, “Revenue from Contracts with Customers,” amending revenue recognition guidance and requiring more detailed disclosures to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The amended guidance, herein referred to as Topic 606, is effective for annual and interim reporting periods beginning after December 15, 2017, with early adoption permitted for public companies effective for annual and interim reporting periods beginning after December 15, 2016. The Company has adopted Topic 606 effective January 1, 2018, using the modified retrospective transition method. The Company recognized the cumulative effect of applying the new revenue standard as an adjustment to the opening balance of retained earnings on January 1, 2018. The comparative information has not been restated and continues to be reported under the accounting standards in effect for the period presented. See Note 2, “Revenue Recognition,” for additional accounting policy and transition disclosures.
In January 2016, the FASB issued ASU 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities,” which amends certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Changes to the current guidance include the accounting for equity investments, the presentation and disclosure requirements for financial instruments, and the assessment of valuation allowance on deferred tax assets related to available-for-sale securities. In addition, ASU 2016-01 establishes an incremental recognition and disclosure requirement related to the presentation of fair value changes of financial liabilities for which the fair value option has been elected. Under this guidance, an entity would be required to separately present in other comprehensive income the portion of the total fair value change attributable to instrument-specific credit risk as opposed to reflecting the entire amount in earnings. ASU 2016-01 is effective for fiscal years and interim periods beginning after December 15, 2017, and upon adoption, an entity should apply the amendments by means of a cumulative-effect adjustment to the balance sheet at the beginning of the first reporting period in which the guidance is effective. Early adoption was not permitted except for the provision to record fair value changes for financial liabilities under the fair value option resulting from instrument-specific credit risk in other comprehensive income. The standard, which was adopted in the first quarter of 2018, did not have a material impact on the condensed consolidated financial statements.
In November 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows,” which requires companies to include amounts generally described as restricted cash and restricted cash equivalents in cash and cash equivalents when reconciling beginning-of-period and end-of-period total amounts shown on the statement of cash flows. ASU 2016-18 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. The standard, which was adopted prospectively in the first quarter of 2018, did not have a material impact on the condensed consolidated financial statements.
In May 2017, the FASB issued ASU 2017-09, "Compensation - Stock Compensation." ASU 2017-09 was issued to provide clarity and reduce both 1) diversity in practice and 2) cost and complexity when applying the guidance in Topic 718 to a change in the terms or conditions of a share-based payment award. ASU 2017-09 provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting under Topic 718. ASU 2017-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. The standard, which was adopted in the first quarter of 2018, did not have a material impact on the condensed consolidated financial statements.

Recently Issued Accounting Pronouncements Not Yet Effective

In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”). The guidance will require lessees to recognize all leases, with certain exceptions, on their balance sheets, whether operating or financing, while continuing to recognize the expenses on their income statements in a manner similar to current practice. The guidance states that a lessee would recognize a lease liability for the obligation to make lease payments and a right-to-use asset for the right to use the underlying asset for the lease term. The guidance will be effective for the Company beginning January 1, 2019 and early adoption is permitted. The Company will adopt ASU 2016-02 on January 1, 2019 and intends to elect the available practical expedients upon adoption. Upon adoption, the Company expects the consolidated balance sheet to include a right of use asset and a corresponding lease liability related to substantially all of the Company’s lease arrangements. The Company is evaluating the accounting, transition and disclosure requirements of the standard.


8


2. REVENUE RECOGNITION
On January 1, 2018, the Company adopted Topic 606 and applied the modified retrospective method to all contracts that were not completed as of January 1, 2018. Results for reporting periods beginning after January 1, 2018 are presented under Topic 606, while prior period amounts are not adjusted and continue to be reported under the accounting standards in effect in the prior period. The Company recorded a net reduction to opening equity of $38.9 million on January 1, 2018 for the cumulative effect of adopting Topic 606. The impact to net revenues from the adoption of Topic 606 for the nine months ended September 30, 2018 was a net increase of $2.8 million .
Changes in accounting policies as a result of adopting Topic 606 and nature of goods
The most significant impacts upon adoption of Topic 606 were how the Company accounts for revenue related to its Envoy communications device and related Enlighten service and the timing of when certain sales incentives are recognized. Under ASC 605 the Company’s Envoy communications device and Enlighten service were considered two units of accounting, and the portion of the consideration related to the hardware was recognized at the time of sale with the remaining consideration deferred and recognized over the estimated service period. Under ASC 606 the full consideration for these products represents a single performance obligation and is deferred and recognized over the estimated service period. This treatment resulted in a gross increase to deferred revenue of $77.5 million , an increase in deferred costs of $43.4 million and a net increase in accumulated deficit of $34.1 million upon adoption of ASC 606.
The Company previously sold its Envoy communications device to certain customers under a long-term financing arrangement. Under ASC 605, this arrangement resulted in the recording of both deferred revenue and unbilled receivables on the Company’s condensed consolidated balance sheets. The Company’s opening entries related to ASC 606 included the netting of approximately $6.4 million of unbilled receivables against deferred revenue. Thus, the $77.5 million increase to deferred revenue noted above was partially offset by a $6.4 million reclassification of unbilled receivables to deferred revenue.
Under ASC 605 the Company recorded certain contra revenue promotions at the later of the date revenue was recognized or the date at which the promotional offer was extended. Under ASC 606 all such contra revenue programs are treated as variable consideration and recognized at the time the related revenue is recorded. This change in timing resulted in an increase in accrued liabilities of approximately $5.6 million and an increase to accumulated deficit of the same amount upon adoption of ASC 606. This change in timing is not expected to have a material impact in subsequent periods.
Topic 606 requires upfront contract acquisition costs, such as sales commissions, to be capitalized and amortized over the estimated life of the asset. For contracts that have a duration of less than one year, the Company follows the Topic 606 practical expedient and expenses these costs when incurred. Commissions related to the Company’s sale of monitoring hardware and service are capitalized and amortized over the period of the associated revenue, which is 6.5 years . This treatment resulted in an increase in deferred costs of approximately $0.8 million and a decrease in accumulated deficit of the same amount upon adoption of ASC 606.
Revenues are recognized when control of the promised goods or services are transferred to the Company’s customers in an amount that reflects the consideration that is expected to be received in exchange for those goods or services. The Company generates all of its revenues from contracts with its customers. A description of principal activities from which the Company generates revenues follows.
Products Delivered at a Point in Time
The Company sells its products to customers in accordance with the terms of the related customer contracts. The Company generates revenues from sales of its microinverter systems, which include microinverter units and related accessories, an Envoy communications gateway and Enlighten service, communications accessories and AC Battery storage solutions to distributors, large installers, OEMs and strategic partners. Microinverter units, microinverter accessories, and AC Battery storage solutions are delivered to customers at a point in time, and in accordance with Topic 606, the Company recognizes revenue for these products when the Company transfers control of the product to the customer, which is generally upon shipment.
Products Delivered Over Time
The sale of an Envoy communications gateway includes the Company’s Enlighten cloud-based monitoring service. Under Topic 606 the full consideration for these products represents a single performance obligation and is deferred at the sale date and recognized over the estimated service period, which is 6.5 years .
The Company also sells certain communication accessories that are delivered over time. The revenue from these products is recognized over the related service period, which is typically 5 or 12 years .

9


Disaggregation of Revenue
The Company has one business activity, which is the design, manufacture and sale of microinverter systems for the solar photovoltaic industry. The following table provides information about disaggregated revenue by primary geographical market and timing of revenue recognition for the Company’s single product line (in thousands):
 
 
Three Months Ended
September 30, 2018
 
Nine Months Ended
September 30, 2018
Primary geographical markets:
 
 
 
 
United States
 
$
54,880

 
$
148,268

International
 
23,122

 
75,602

Total
 
$
78,002

 
$
223,870

 
 
 
 
 
Timing of revenue recognition:
 
 
 
 
Products transferred at a point in time
 
$
68,256

 
$
193,564

Products and services transferred over time
 
9,746

 
30,306

Total
 
$
78,002

 
$
223,870

Contract Balances
As of September 30, 2018 , receivables, contract assets and contract liabilities from contracts with customers consist of the following (in thousands):
 
September 30, 2018
Receivables
$
54,117

Short-term contract assets (Prepaid expenses and other assets)
12,876

Long-term contract assets (Other assets)
32,967

Short-term contract liabilities (Deferred revenues)
32,015

Long-term contract liabilities (Deferred revenues)
74,065

The Company receives payments from customers based upon contractual billing schedules. Accounts receivable are recorded when the right to consideration becomes unconditional. Contract assets include deferred product costs and commissions associated with the deferred revenue and will be amortized along with the associated revenue. The Company had no asset impairment charges related to contract assets in the nine months ended September 30, 2018 . Contract liabilities are recorded as deferred revenue on the accompanying condensed consolidated balance sheets and include payments received in advance of performance obligations under the contract and are realized when the associated revenue is recognized under the contract.

10


Significant changes in the balances of contract liabilities (deferred revenues) and contract assets (prepaid expenses and other assets) during the period are as follows (in thousands):
Contract Liabilities
 
Balance on January 1, 2018
$
116,830

Revenue recognized
(36,283
)
Increase due to billings
25,533

Balance as of September 30, 2018
$
106,080

Short-term contract liabilities (Deferred revenues)
32,015

Long-term contract liabilities (Deferred revenues)
74,065

 
 
Contract Assets
 
Balance on January 1, 2018
$
47,862

Amount recognized
(11,741
)
Increase
9,722

Balance as of September 30,  2018
$
45,843

Remaining Performance Obligations
The following table includes estimated revenue expected to be recognized in future periods related to performance obligations that are unsatisfied or partially unsatisfied at the end of the reporting period (in thousands).
 
September 30,
2018
2018 (remaining 3 months)
$
8,922

2019
30,505

2020
24,352

2021
18,162

2022
13,112

Thereafter
11,027

Total
$
106,080

Practical Expedients and Exemptions
The Company generally expenses sales commissions related to products delivered at a point in time when the commissions are incurred because the amortization period would have been less than one year. The Company records these costs as sales and marketing expense. The Company expenses shipping and handling costs as incurred.

11


Impact of Adoption of Topic 606
In accordance with Topic 606, the disclosure of the impact of adoption to the Company’s condensed consolidated statements of operations and condensed consolidated balance sheets was as follows (in thousands):
 
Three Months Ended
September 30, 2018
 
Nine Months Ended
September 30, 2018
 
As Reported
 
Adjustments
 
Without Adoption of Topic 606
 
As Reported
 
Adjustments
 
Without Adoption of Topic 606
Net revenues
$
78,002

 
$
323

 
$
77,679

 
$
223,870

 
$
2,781

 
$
221,089

Cost of revenues
52,738

 
413

 
52,325

 
157,589

 
1,409

 
156,180

Gross profit
25,264

 
(90
)
 
25,354

 
66,281

 
1,372

 
64,909

Operating expenses:
 
 

 
 
 
 
 

 
 
Research and development
8,165

 

 
8,165

 
25,247

 

 
25,247

Sales and marketing
7,375

 

 
7,375

 
20,430

 
58

 
20,372

General and administrative
7,510

 

 
7,510

 
21,423

 

 
21,423

Restructuring charges
2,588

 

 
2,588

 
2,588

 

 
2,588

Total operating expenses
25,638

 

 
25,638

 
69,688

 
58

 
69,630

Loss from operations
(374
)
 
(90
)
 
(284
)
 
(3,407
)
 
1,314

 
(4,721
)
Other expense, net
 
 
 
 
 
 
 
 
 
 
 
Interest expense
(2,469
)
 

 
(2,469
)
 
(7,031
)
 

 
(7,031
)
Other expense
(379
)
 

 
(379
)
 
(1,077
)
 

 
(1,077
)
Total other expense, net
(2,848
)
 

 
(2,848
)
 
(8,108
)
 

 
(8,108
)
Loss before income taxes
(3,222
)
 
(90
)
 
(3,132
)
 
(11,515
)
 
1,314

 
(12,829
)
Income tax provision
(248
)
 

 
(248
)
 
(821
)
 

 
(821
)
Net loss
$
(3,470
)
 
$
(90
)
 
$
(3,380
)
 
$
(12,336
)
 
$
1,314

 
$
(13,650
)
Net loss per share:
 
 
 
 
 
 
 
 
 
 
 
Basic and diluted
$
(0.03
)
 
$

 
$
(0.03
)
 
$
(0.13
)
 
$
0.01

 
$
(0.14
)
Shares used in per share calculation:
 
 
 
 
 
 
 
 
 
 
 
Basic and diluted
102,798

 

 
102,798

 
97,257

 

 
97,257

 
September 30, 2018
 
As Reported
 
Adjustments
 
Without Adoption of Topic 606
Prepaid expenses and other
$
21,631

 
$
9,465

 
$
12,166

Other assets
35,520

 
28,450

 
7,070

Accrued liabilities
41,562

 
5,372

 
36,190

Deferred revenues
32,015

 
19,369

 
12,646

Deferred revenues, noncurrent
74,065

 
50,804

 
23,261

Accumulated deficit
(347,011
)
 
(37,630
)
 
(309,381
)


12


3. INVENTORY
Inventory as of September 30, 2018 and December 31, 2017 consists of the following (in thousands):
 
September 30,
2018
 
December 31,
2017
Raw materials
$
1,467

 
$
2,341

Finished goods
16,419

 
23,658

Total inventory
$
17,886

 
$
25,999


4. WARRANTY OBLIGATIONS
The Company’s warranty activities during the three and nine months ended September 30, 2018 and 2017 were as follows (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Warranty obligations, beginning of period
$
31,642

 
$
31,613

 
$
29,816

 
$
31,414

Accruals for warranties issued during period
689

 
1,009

 
2,222

 
2,913

Changes in estimates
1,997

 
(1,046
)
 
4,825

 
(826
)
Settlements
(2,467
)
 
(1,494
)
 
(6,242
)
 
(5,092
)
Increase due to accretion expense
514

 
549

 
1,453

 
1,542

Other
(191
)
 
(279
)
 
110

 
401

Warranty obligations, end of period
$
32,184

 
$
30,352

 
$
32,184

 
$
30,352

Less current portion
 
 
 
 
$
(9,117
)
 
$
(7,151
)
Noncurrent
 
 
 
 
$
23,067

 
$
23,201

As of September 30, 2018 , the  $32.2 million  of warranty obligations included  $13.6 million  measured at fair value. See Note 5 , “Fair Value Measurements” for additional information.

5 . FAIR VALUE MEASUREMENTS
The accounting guidance defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities recorded at fair value, the Company considers the principal or most advantageous market in which it would transact and considers assumptions that market participants would use when pricing the asset or liability, such as inherent risk, transfer restrictions, and risk of nonperformance.
The fair value hierarchy requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. An asset’s or liability’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. Three levels of inputs may be used to measure fair value:
Level 1—Valuations based on quoted prices in active markets for identical assets or liabilities that the Company is able to access. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuation of such assets or liabilities do not entail a significant degree of judgment.
Level 2—Valuations based on one or more quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly.
Level 3—Valuations based on inputs that are unobservable and significant to the overall fair value measurement.

13


The following table presents the Company’s liabilities that were measured at fair value on a recurring basis and its categorization within the fair value hierarchy at September 30, 2018 and December 31, 2017 (in thousands):
 
Fair Value
Hierarchy
 
September 30,
2018
 
December 31,
2017
Warranty obligations
Level 3
 
$
13,566

 
$
9,790

Third party option to purchase receivables at a discount
Level 3
 

 
700

Fair Value Option for Warranty Obligations Related to Microinverters Sold Since January 1, 2014
The Company’s warranty obligations related to microinverters sold since January 1, 2014 provide the Company the right, but not the requirement, to assign its warranty obligations to a third-party. Under ASC 825, “Financial Instruments,” (“fair value option”), an entity may choose to elect the fair value option for such warranties at the time it first recognizes the eligible item. The Company made an irrevocable election to account for all eligible warranty obligations associated with microinverters sold since January 1, 2014 at fair value. This election was made to reflect the underlying economics of the time value of money for an obligation that will be settled over an extended period of up to 25 years.
The Company estimates the fair value of warranty obligations by calculating the warranty obligations in the same manner as for sales prior to January 1, 2014 and applying an expected present value technique to that result. The expected present value technique, an income approach, converts future amounts into a single current discounted amount. In addition to the key estimates of failure rates, claim rates and replacement costs, the Company used certain Level 3 inputs which are unobservable and significant to the overall fair value measurement. Such additional assumptions included a discount rate based on the Company’s credit-adjusted risk-free rate and compensation comprised of a profit element and risk premium required of a market participant to assume the obligation.
The following table provides information regarding changes in nonfinancial liabilities related to the Company’s warranty obligations measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the periods indicated (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Balance at beginning of period
$
12,836

 
$
12,564

 
$
9,790

 
$
10,332

Accruals for warranties issued during period
689

 
867

 
2,222

 
2,760

Changes in estimates
853

 
(1,452
)
 
2,848

 
(2,051
)
Settlements
(1,135
)
 
(530
)
 
(2,857
)
 
(1,265
)
Increase due to accretion expense
514

 
549

 
1,453

 
1,542

Other
(191
)
 
(279
)
 
110

 
401

Balance at end of period
$
13,566

 
$
11,719

 
$
13,566

 
$
11,719

Quantitative and Qualitative Information about Level 3 Fair Value Measurements
As of September 30, 2018 , the significant unobservable inputs used in the fair value measurement of the Company’s liabilities designated as Level 3 are as follows:
Item Measured at Fair Value
 
Valuation Technique
 
Description of Significant Unobservable Input
 
Percent Used
(Weighted-Average)
Warranty obligations for microinverters sold since January 1, 2014
 
Discounted cash flows
 
Profit element and risk premium
 
16%
 
 
Credit-adjusted risk-free rate
 
16%

14


As of December 31, 2017 , the significant unobservable inputs used in the fair value measurement of the Company’s liabilities designated as Level 3 are as follows:
Item Measured at Fair Value
 
Valuation Technique
 
Description of Significant Unobservable Input
 
Percent Used
(Weighted-Average)
Warranty obligations for microinverters sold since January 1, 2014
 
Discounted cash flows
 
Profit element and risk premium
 
17%
 
 
Credit-adjusted risk-free rate
 
17%
Third party option to purchase receivables at a discount
 
Discounted cash flows
 
Counter party credit-adjusted risk-free rate
 
4%
Sensitivity of Level 3 Inputs
Warranty Obligations
Each of the significant unobservable inputs is independent of the other. The profit element and risk premium are estimated based on requirements of a third-party participant willing to assume the Company’s warranty obligations. The credit-adjusted risk free rate (“discount rate”) is determined by reference to the Company’s own credit standing at the fair value measurement date. Increasing the profit element and risk premium input by 100 basis points would result in a $0.1 million increase to the liability. Decreasing the profit element and risk premium by 100 basis points would result in a $0.1 million reduction of the liability. Increasing the discount rate by 100 basis points would result in a $0.6 million reduction of the liability. Decreasing the discount rate by 100 basis points would result in a $0.6 million increase to the liability.

6. GOODWILL AND INTANGIBLE ASSETS
The following table presents the details of the Company’s goodwill and purchased intangible assets as of September 30, 2018 and December 31, 2017 (in thousands):
 
September 30, 2018
 
December 31, 2017
 
Gross
 
Additions
 
Accumulated Amortization
 
Net
 
Gross
 
Accumulated Amortization
 
Net
Goodwill
$
3,664

 
$
21,119

 
$

 
$
24,783

 
$
3,664

 
$

 
$
3,664

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Intangible assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
Other indefinite-lived intangibles
$
286

 
$

 
$

 
$
286

 
$
286

 
$

 
$
286

Intangible assets with finite lives:
 
 
 
 
 
 
 
 
 
 
 
 
 
Patents and licensed technology
1,665

 

 
(1,665
)
 

 
1,665

 
(1,436
)
 
229

Developed technology

 
13,100

 
(408
)
 
12,692

 

 

 

Customer relationships

 
23,100

 

 
23,100

 

 

 

Total purchased intangible assets
$
1,951

 
$
36,200

 
$
(2,073
)
 
$
36,078

 
$
1,951

 
$
(1,436
)
 
$
515

In July 2014, the Company purchased certain patents related to system interconnection and photovoltaic AC module construction. The patents were amortized over their legal life of 3 years . In October 2015, the Company licensed certain technology related to ASIC development for a 3  year term, which is also its estimated useful life. As of September 30, 2018 , these patents were fully amortized.
In August 2018, the Company acquired certain finite-lived intangible assets in its acquisition of SunPower Corporation ’s (" SunPower ") microinverter business pursuant to an Asset Purchase Agreement ("APA"), primarily developed technology and customer relationships. See Note  14 . “ Acquisition ” for additional information related to this acquisition.
For the three and nine months ended September 30, 2018 and September 30, 2017 , amortization expense related to finite-lived intangible assets was $0.5 million , $0.6 million , $0.1 million and $0.4 million , respectively.

15


7 . RESTRUCTURING
2018 Plan
In the third quarter of 2018, the Company began implementing restructuring actions (the “2018 Plan”) to lower its operating expenses. The restructuring actions include reorganization of the Company’s global workforce, elimination of certain non-core projects and consolidation of facilities. The Company expects to complete this restructuring in 2019.
The following table presents the details of the Company’s restructuring charges under the 2018 Plan for the periods indicated (in thousands):
 
Three Months Ended
September 30, 2018
 
Nine Months Ended
September 30, 2018
Redundancy and employee severance and benefit arrangements
$
613

 
$
613

Asset impairments
1,636

 
1,636

Lease loss reserves
339

 
339

Total restructuring
$
2,588

 
$
2,588

The following table provides information regarding changes in the Company’s 2018 Plan accrued restructuring balance for the periods indicated (in thousands):
 
Redundancy and Employee Severance and Benefits
 
Lease Loss Reserves and Contractual Obligations
 
Total
Charges
$
613

 
$
339

 
$
952

Cash payments
(297
)
 

 
(297
)
Non-cash settlement and other

 
10

 
10

Balance as of September 30, 2018
$
316

 
$
349

 
$
665

2016 Plan
In the third quarter of 2016, the Company began implementing restructuring actions (the “2016 Plan”) to lower its operating expenses. The restructuring actions have included reductions in the Company’s global workforce, the elimination of certain non-core projects, consolidation of office space at the Company’s corporate headquarters and the engagement of management consultants to assist the Company in making organizational and structural changes to improve operational efficiencies and reduce expenses. The Company substantially completed its restructuring activities in 2017.
The following table presents the details of the Company’s restructuring charges under the 2016 Plan for the periods indicated (in thousands):
 
Three Months Ended
September 30, 2017
 
Nine Months Ended
September 30, 2017
Employee severance and benefit arrangements
$
1,111

 
$
2,826

Asset impairments

 
522

Consultants engaged in restructuring activities
3,100

 
10,100

Lease loss reserves and contract termination costs
(140
)
 
1,479

Total restructuring
$
4,071

 
$
14,927


16


The following table provides information regarding changes in the Company’s 2016 Plan accrued restructuring balance for the periods indicated (in thousands):
 
Employee Severance and Benefits
 
Lease Loss Reserves and Contractual Obligations
 
Total
Balance as of December 31, 2017
$
229

 
$
1,094

 
$
1,323

Cash payments and receipts, net
(229
)
 
707

 
478

Non-cash settlement

 

 

Balance as of September 30, 2018
$
0

 
$
1,801

 
$
1,801


8. DEBT
Long-term debt was comprised of the following at September 30, 2018 and December 31, 2017 (in thousands):
 
September 30,
2018
 
December 31,
2017
Convertible Notes due 2023
$
65,000

 
$

Less unamortized issuance costs
(2,492
)
 

Carrying amount of Convertible Notes due 2023
62,508

 

 
 
 
 
Term loan
44,336

 
50,000

Less unamortized discount and issuance costs
(1,299
)
 
(2,111
)
Carrying amount of term loan
43,037

 
47,889

 
 
 
 
Sale of long term financing receivable recorded as debt
6,487

 
2,562

Less value of future purchase option

 
(700
)
Carrying amount of sale of long term financing receivable recorded as debt
6,487

 
1,862

Total carrying amount of debt
112,032

 
49,751

Less current portion term loan
(21,387
)
 
(15,715
)
Less current portion of long term financing receivable recorded as debt
(2,738
)
 
(1,714
)
Long-term debt
$
87,907

 
$
32,322

Convertible Notes
In August 2018 , the Company sold $60.0 million aggregate principal amount of convertible senior notes due 2023 (the “Convertible Notes”) in a private placement. Additionally, an individual who is a member of the Company’s Board of Directors and a stockholder, Thurman John Rodgers, purchased $5.0 million aggregate principal amount of convertible senior notes due 2023 (the “Affiliate Notes” and together with the Convertible Notes, the “Notes”) in a concurrent private placement. The Company received net proceeds of $62.4 million , after deducting the underwriters’ fees of approximately $2.0 million and other issuance costs of approximately $0.6 million .
The Notes are senior, unsecured and bear interest at a rate of 4.0% per year, payable semi-annually on February 1 and August 1 of each year, beginning on February 1, 2019 . The Notes will mature on August 1, 2023 , unless earlier repurchased by the Company or converted at the option of the holders. The Company may not redeem the Notes prior to the maturity date, and no sinking fund is provided for the Notes.

17


The Notes are convertible, at a holder’s election, in multiples of $1,000 principal amount, into shares of the Company’s common stock, based on the applicable conversion rate. The initial conversion rate for the Notes is 180.0180 shares of common stock per $1,000 principal amount of Notes (which is equivalent to an initial conversion price of approximately $5.5600 per share ). The conversion rate and the corresponding conversion price are subject to adjustment upon the occurrence of certain events, but will not be adjusted for any accrued and unpaid interest. Holders of the Notes who convert their Notes in connection with a make-whole fundamental change (as defined in the Indenture) are, under certain circumstances, entitled to an increase in the conversion rate. Additionally, in the event of a fundamental change, holders of the Notes may require the Company to repurchase all or a portion of their Notes at a price equal to 100% of the principal amount of Notes, plus any accrued and unpaid interest, including any additional interest to, but excluding, the repurchase date. Holders may convert all or any portion of their Notes at their option at any time prior to the close of business on the business day immediately preceding the maturity date, in multiples of $1,000 principal amount.
As of September 30, 2018 , there were unamortized issuance costs and debt discounts of approximately $2.5 million , which were recorded as a direct deduction from the Notes on the condensed consolidated balance sheets.
Term Loan
In July 2016, the Company entered into a Loan and Security Agreement (the “Original Term Loan Agreement”) with lenders that are affiliates of Tennenbaum Capital Partners, LLC (the “Lenders” or “TCP”). Under the agreement, the Lenders committed to advance a term loan in an aggregate principal amount of up to $25.0 million with a maturity date of July 1, 2020. The Company borrowed the entire $25.0 million of term loan commitments on the loan closing date. Monthly payments due through June 30, 2017 were interest only, followed by consecutive equal monthly payments of principal plus accrued interest that were to begin on July 1, 2017 and continue through the maturity date. The term loan provided for an interest rate per annum equal to the higher of (i)  10.25% or (ii) LIBOR plus 9.5625% , subject to a 1.0% reduction if the Company achieves minimum levels of Revenue and EBITDA (each as defined in the Original Term Loan Agreement) for the twelve-consecutive month period ending June 30, 2017 as set forth in the Original Term Loan Agreement. In addition, the Company paid a commitment fee of 3.3%  of the loan amount upon closing and a closing fee of 10.0% of the loan amount is payable in four equal installments at each anniversary of the closing date. The Company could elect to prepay the loan by incurring a prepayment fee between 1% and 3% of the principal amount of the term loan depending on the timing and circumstances of prepayment.
In February 2017, the Company entered into an Amended and Restated Loan and Security Agreement (the “Loan Agreement”) that amended and restated the Original Term Loan Agreement. The Loan Agreement provides for a $25.0 million secured term loan to the Company (the “New Term Loan”), which is in addition to the $25.0 million secured term loan borrowed by the Company under the Original Term Loan Agreement (together with the “New Term Loan” the “Term Loans”). The New Term Loan has the same July 1, 2020 maturity date that was applicable to the Original Term Loan Agreement. The New Term Loan was fully drawn at closing, with approximately $10.3 million of the proceeds used to repay existing combined principal and interest due under the Company’s Revolver with Wells Fargo. Upon the repayment of loans under the Wells Fargo Revolver, the Wells Fargo Revolving Credit Agreement was terminated. The Company used the remainder of the proceeds from the New Term Loan for general corporate purposes.
Monthly payments under the Term Loans through February 28, 2018 are interest only, followed by consecutive equal monthly payments of principal plus accrued interest beginning on March 1, 2018 and continuing through the maturity date. Interest on the Term Loans is the greater of (a)  10.3125% , and (b) a fluctuating rate of interest per annum equal to the three-month LIBOR Rate (rounded up to the nearest 1/16th of one percent) plus 9.25% . In addition, the Company paid a commitment fee of 3.0% of the New Term Loan amount upon closing and a closing fee of 4.0% of the New Term Loan amount, which is payable with the closing fee under the Original Term Loan Agreement in four equal installments at each anniversary of the closing date of the Original Term Loan Agreement. The Company may elect to prepay the Term Loans by incurring a prepayment fee between 1% and 3% of the principal amount of the Term Loans depending on the timing and circumstances of prepayment.
On February 28, 2018, the Company entered into a Second Amendment to the Term Loans. The Second Amendment decreased by 50% the amount of principal repayments required under the Loan Agreement for the period from March 1, 2018 through December 31, 2018 and provided that the Company shall not prepay any part of the Term Loans during that same period without the Collateral Agent’s prior written consent.

18


The Term Loans are secured by a first-priority security interest on substantially all assets of the Company; provided, however, that the security interest in the Company’s intellectual property may be released if the Company satisfies certain requirements. The Company’s obligations under the Term Loans are not guaranteed by any of the Company’s existing subsidiaries, nor have any existing subsidiaries of the Company pledged any of their assets to secure the Term Loans.
The Loan Agreement requires that (i) at all times from the closing date to and including March 31, 2018, the Company, and any future guarantors, have Unrestricted Cash (as defined in the Loan Agreement) of at least $10.0 million ; (ii) at all times from the closing date to and including March 31, 2018, that the aggregate amount of Consolidated Unrestricted Cash, plus the value of Consolidated Receivables, plus the value of Consolidated Inventory (each as defined in the Loan Agreement) divided by the outstanding principal amount of Term Loans, shall equal or exceed 1.5 ; and (iii) at all times from April 1, 2018 and thereafter, that the aggregate amount of Consolidated Unrestricted Cash, plus the value of Consolidated Receivables, plus the value of Consolidated Inventory divided by the outstanding principal amount of Term Loans, shall equal or exceed 1.75 . In addition, the Loan Agreement is subject to customary affirmative and negative covenants including restrictions on creation of liens, dispositions of assets, mergers, changing the nature of its business and dividends and other distributions, in each case subject to certain exceptions. The Loan Agreement also contains certain customary events of default including, but not limited to, failure to pay interest, principal and fees or other amounts when due, material breach of any representation or warranty, covenant defaults, cross defaults to other material indebtedness, events of bankruptcy and the occurrence of a material adverse change (as defined in the agreement) to the Company’s business. The Term Loan Agreement offers TCP customary rights and remedies in any event of default, including the ability to declare all amounts outstanding immediately due and payable.
In connection with the New Term Loan, the Company issued to the Lenders warrants to purchase an aggregate 1,220,000  shares of the Company’s Common Stock at an exercise price of $1.05  per share. The warrants have a term of seven years and contain a “cashless exercise” feature that allows the holder to exercise the warrant without a cash payment upon the terms set forth therein.
The Company estimated the fair value of the warrants by using the Black-Scholes approach and the following assumptions: stock price of $1.56 ; strike price of $1.05 ; volatility of 85.9% , risk-free rate of 2.23% ; dividend yield of 0% ; and a 7 year term. The resulting fair value was used to allocate the proceeds from the Term Loan between liability and equity components.
The Company classified the warrants as equity and allocated the proceeds from the Term Loan and warrants using the relative fair value method. Using this method, the Company allocated $1.4 million to the warrants, which was recorded as equity. This amount represents debt discount that will be amortized to interest expense over the term of the loan. The Lenders converted the warrants into 912,067  shares of the Company’s common stock in a cashless exercise in the first quarter of 2018.
As of September 30, 2018 , the estimated schedule of principal payments due on the term loan is as follows (in thousands):
Year
Amounts
2018 (remaining 3 months)
$
2,545

2019
25,497

2020
16,294

Total
$
44,336


19


Sale of Long Term Financing Receivables
The Company entered into an agreement with a third party in the fourth quarter of 2017 to sell certain current and future receivables at a discount. In December 2017, the third party made an initial purchase of receivables that resulted in net proceeds to the Company of $2.8 million . This transaction was recorded as debt on the accompanying consolidated balance sheets, and the debt balance will be relieved by January 2019 as the underlying receivables are settled. During the nine months ended September 30, 2018 , the third party made three additional purchases of receivables that resulted in total net proceeds to the Company of $5.6 million . These transactions were recorded as debt on the accompanying condensed consolidated balance sheets, and the total associated debt balance will be relieved by September 2021 as the underlying receivables are settled. After the initial purchase, the buyer had the option to purchase certain additional future receivables at various fixed discounts. This option was valued at $0.7 million and was recorded as a liability with a corresponding offset to debt as of December 31, 2017. As of September 30, 2018 , all purchases relating to this option had been made, and the liability has been relieved. See Note 5, “Fair Value Measurements” for additional information.
Revolving Credit Facility
The Company had a $50.0 million  revolving credit facility with Wells Fargo Bank, N.A. (“Wells Fargo”) that was entered into in November 2012. The Revolver had a balance of $10.1 million as of December 31, 2016 and was fully repaid and terminated in February 2017.

9 . COMMITMENTS AND CONTINGENCIES
From time to time, the Company may be involved in litigation relating to claims arising out of its operations. The Company is not currently involved in any material legal proceedings. The Company may, however, be involved in material legal proceedings in the future. Such matters are subject to uncertainty and there can be no assurance that such legal proceedings will not have a material adverse effect on its business, results of operations, financial position or cash flows.
The Company was previously involved in a dispute with a supplier regarding purchase volume commitments for which the Company recorded a liability of $1.8 million in the first quarter of 2018. The matter was resolved in the second quarter of 2018 for approximately $1.8 million .
On April 12, 2018 , the Company entered into a lease agreement for its corporate headquarters in Fremont, California. This lease commenced on September 1, 2018 and has a term of approximately 5 years with a five year renewal option. As of September 30, 2018 , $2.2 million remain on this facility lease obligation.
On August 9, 2018 , the Company completed the acquisition of SunPower ’s microinverter business pursuant to an APA by which the Company acquired certain assets and liabilities of SunPower relating to the research and development and manufacturing of microinverters. Pursuant to the APA, the Company will make an additional cash payment of $10.0 million to SunPower on the earlier of the 4  month anniversary of the Closing and December 28, 2018 . See Note  14 , “ Acquisition ,” for additional information related to this acquisition.

10. SALE OF COMMON STOCK
On February 4, 2018, the Company entered into a Securities Purchase Agreement with an investor pursuant to which the Company, in a private placement, issued and sold to the investor 9,523,809 shares of the Company’s common stock at a price per share of $2.10 , for gross proceeds of $20.0 million .


20


11. STOCK-BASED COMPENSATION
The Company has adopted certain equity incentive and stock purchase plans as described in the consolidated financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017 .
Equity Awards Activity
Stock Options
The following is a summary of stock option activity for the nine months ended September 30, 2018 (in thousands, except per share data):
 
Number of
Shares
Outstanding
 
Weighted-
Average
Exercise Price
per Share
Outstanding at December 31, 2017
8,426

 
$
1.77

Granted
213

 
4.43

Exercised
(1,185
)
 
1.70

Canceled
(292
)
 
3.59

Outstanding at September 30, 2018
7,162

 
1.78

Vested and expected to vest at September 30, 2018
6,727

 
1.80

Exercisable at September 30, 2018
4,572

 
1.90

The intrinsic value of options exercised in the nine months ended September 30, 2018 was $4.6 million . As of September 30, 2018 , the intrinsic value of options outstanding was $23.4 million based on the closing price of the Company’s stock as of September 30, 2018 .
Restricted Stock Units and Performance Stock Units
The following is a summary of restricted stock unit (“RSU”) and performance stock unit (“PSU”) activity for the nine months ended September 30, 2018 (in thousands, except per share data):
 
Number of
Shares
Outstanding
 
Weighted Average
Fair Value per Share at
Grant Date
Outstanding at December 31, 2017
3,505

 
$
2.03

Granted
4,126

 
3.67

Vested
(1,060
)
 
2.63

Canceled
(825
)
 
1.91

Outstanding at September 30, 2018
5,746

 
3.11

Expected to vest at September 30, 2018
4,791

 
3.08

The total intrinsic value of RSUs and PSUs that vested in the nine months ended September 30, 2018 was $4.8 million . As of September 30, 2018 , the intrinsic value of RSUs and PSUs outstanding was $27.9 million based on the closing price of the Company’s stock as of September 30, 2018 .
Stock-based compensation expense is measured at the grant date based on the fair value of the award. During the second quarter of 2018 the Company issued a PSU grant of 1.4 million shares, of which 720 thousand shares include market conditions. Each grantee is granted a target award of PSUs and may earn between 0% and 150% of the target award depending on the Company’s performance against the performance goals. For PSUs, the grant date fair value is recognized as expense when the performance condition is probable of being achieved, and then on a graded basis over the requisite service period. The fair value of awards containing market conditions was determined using a Monte Carlo simulation model based upon the terms of the conditions, the expected volatility of the underlying security, and other relevant factors. The weighted average estimated fair value of the PSUs without market conditions was $4.57 per share, and the weighted average estimated fair value of the PSUs with market conditions was $4.54 per share. During the three months ended September 30, 2018 , no RSU or PSU shares were granted.

21


On April 3, 2017, the Company commenced a Tender Offer (the “Offer”) to exchange out of the money stock options for restricted stock units. The Offer expired on Monday, May 1, 2017. Pursuant to the Offer, the Company accepted elections to exchange options to purchase 2,362,470 shares of common stock and issued replacement awards of RSUs for 733,559 shares of common stock. As the transaction approximated a value-for-value exchange, it did not have a material impact on the Company’s stock-based compensation expense.
Stock-based Compensation Expense
Compensation expense for all stock-based awards expected to vest is measured at fair value on the date of grant and recognized ratably over the requisite service period. The following table summarizes the components of total stock-based compensation expense included in the condensed consolidated statements of operations for the periods presented (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Cost of revenues
$
330

 
$
347

 
$
945

 
$
796

Research and development
878

 
607

 
2,645

 
1,994

Sales and marketing
1,151

 
226

 
2,509

 
889

General and administrative
1,692

 
547

 
3,812

 
1,598

Total
$
4,051

 
$
1,727

 
$
9,911

 
$
5,277

The following table summarizes the various types of stock-based compensation expense for the periods presented (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Stock options and RSUs and PSUs
$
3,708

 
$
1,473

 
$
9,001

 
$
4,363

Employee stock purchase plan
343

 
254

 
910

 
914

Total
$
4,051

 
$
1,727

 
$
9,911

 
$
5,277

The following table presents the weighted-average grant date fair value of options granted for the periods presented and the assumptions used to estimate those values using a Black-Scholes option pricing model:
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Weighted average grant date fair value
**
 
$
0.69

 
$
2.83

 
$
0.70

Expected term (in years)
**
 
4.2

 
4.0

 
4.4

Expected volatility
**
 
83.8
%
 
88.5
%
 
84.4
%
Annual risk-free rate of return
**
 
1.6
%
 
2.6
%
 
1.8
%
Dividend yield
**
 
0.0
%
 
0.0
%
 
0.0
%
 
 
** No options were granted during the three months ended September 30, 2018 .
As of September 30, 2018 , there was approximately $16.3 million of total unrecognized compensation expense related to unvested equity awards expected to be recognized over a weighted-average period of 2.4 years .

12. INCOME TAXES
The Company used the discrete tax approach in calculating the tax expense for the three and nine months ended September 30, 2018 and 2017 due to the fact that a relatively small change in the Company’s projected pre-tax net income (loss) could result in a volatile effective tax rate. Under the discrete method, the Company determines its tax (expense) benefit based upon actual results as if the interim period was an annual period. The tax provision recorded was primarily related to income taxes attributable to its foreign operations.

22



13. NET LOSS PER SHARE
Basic net loss per share is computed by dividing net loss by the weighted average number of shares of common stock outstanding during the period. Diluted loss per share is computed in a similar manner, but it also includes the effect of potential common shares outstanding during the period, when dilutive. Potential common shares include outstanding in-the-money stock options, restricted stock units, shares to be purchased under the Company’s employee stock purchase plan, warrants to purchase common stock, and the Notes. The dilutive effect of potentially dilutive common shares is reflected in diluted earnings per share by application of the treasury stock method. To the extent these potential common shares are antidilutive, they are excluded from the calculation of diluted net loss per share.
The following table presents the computation of basic and diluted net loss per share for the periods presented (in thousands, except per share data):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Numerator:
 
 
 
 
 
 
 
Net loss
$
(3,470
)
 
$
(6,854
)
 
$
(12,336
)
 
$
(42,252
)
 
 
 
 
 
 
 
 
Denominator:
 
 
 
 
 
 
 
Weighted average common shares outstanding
102,798

 
84,862

 
97,257

 
81,993

 
 
 
 
 
 
 
 
Net loss per share, basic and diluted
$
(0.03
)
 
$
(0.08
)
 
$
(0.13
)
 
$
(0.52
)
As the Company incurred a net loss for all periods presented, potential dilutive securities from employee stock options, restricted stock units, warrants, and convertible notes have been excluded from the diluted net loss per share computations because the effect of including such shares would have been anti-dilutive.
The following outstanding shares of common stock equivalents were excluded from the calculation of the diluted net loss per share attributable to common stockholders because their effect would have been anti-dilutive (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Employee stock options
7,404

 
7,844

 
7,971

 
8,121

RSUs and PSUs
5,924

 
3,306

 
5,106

 
1,959

Warrants to purchase common stock

 
1,220

 

 
1,033

Total
13,328

 
12,370

 
13,077

 
11,113


The conversion of the Notes will have a dilutive impact when the average market price of the Company’s common stock for a given period exceeds the conversion price of $5.56  per share. The Notes are convertible at the holder’s option at 180.0180 shares per $1,000 note.

14 . ACQUISITION
On August 9, 2018 , the Company completed its acquisition of SunPower ’s microinverter business pursuant to an APA by which the Company acquired certain assets and liabilities of SunPower relating to the research and development and manufacturing of microinverters. The acquisition was accounted for as a business combination and, accordingly, the total purchase price was allocated to the preliminary net tangible and intangible assets and liabilities based on their preliminary fair values on the acquisition date.

23


In conjunction with the APA, the Company entered into a Master Supply Agreement (“MSA”) with SunPower. Pursuant to the terms of the MSA, the Company becomes the exclusive supplier of Module Level Power Electronics (“MLPEs”) for SunPower ’s Residential Business in U.S for a period of five years . The resulting customer relationship intangible is accounted for as a distinct transaction from the acquired business.
The acquisition date fair value of the consideration transferred was approximately $57.3 million , which consisted of the following (in thousands):
Cash consideration
 
$
25,000

Common stock issued
 
32,319

Total
 
$
57,319

On the closing date, the Company paid $15.0 million of cash purchase price to SunPower. In addition, $10.0 million of the cash purchase price is to be paid to SunPower on December 10, 2018 and is included as part of accrued liabilities on the Company’s condensed consolidated balance sheet as of September 30, 2018.
The fair value of the Company’s 7.5 million shares of common stock issued, valued at $32.3 million , was determined based on the closing market price of the Company’s common stock on the acquisition date, less a discount of 14% to 30% (depending on the year) for lack of marketability as the shares issued are subject to a restriction that limits their trade or transfer with a lock-up period of six months and restrictions on the number of shares that can be transferred by SunPower in each six -month period following the lock-up period.
The following table summarizes the preliminary estimated fair values of the assets acquired and liabilities assumed at the acquisition date (in thousands):
Intangible assets
 
$
36,200

Goodwill
 
21,119

Net assets acquired
 
$
57,319

The excess of the consideration paid over the fair values assigned to the assets acquired and liabilities assumed represents the goodwill resulting from the acquisition. The $21.1 million of goodwill recognized is attributable primarily to the benefits the Company expects to derive from enhanced scale and efficiency to better serve its markets. Goodwill is expected to be deductible over the next 15 years for income tax purposes.
The fair values assigned to tangible and identifiable intangible assets acquired are based on management’s estimates and assumptions. The fair values of assets acquired are preliminary and may be subject to change within the measurement period as the fair value assessments are finalized.
The following table shows the fair value of the separately identifiable intangible assets at the time of acquisition and the period over which each intangible asset will be amortized:
 
 
Preliminary fair value
(in thousands)
 
Useful life
(in years)
Developed technology
 
$
13,100

 
6
Customer relationship
 
23,100

 
9
Total identifiable intangible assets
 
$
36,200

 
 
The developed technology acquired is embedded in the microinverters that SunPower sells to its customers. The Company already has developed microinverter technology and the Company will supply its microinverters to SunPower through the term of the MSA. The Company does not intend to actively use the developed technology acquired from SunPower, but does plan to hold the developed technology to prevent other potential competitors from obtaining access to the technology, therefore the Company will account for the developed technology as a defensive intangible asset. The Company expects to realize the benefits of the developed technology over the period of time in which the Company will supply microinverters to SunPower. The Company does expect changes in microinverter technology during the life of the customer relationship with SunPower and expects to benefit from preventing competitors access to the technology over a period of six years , therefore, the Company will amortize the value of the developed technology intangible asset over a period of six years .

24


The SunPower microinverter business' contributions to revenue and income for the period from the date of acquisition to September 30, 2018 were not material. The MSA was negotiated together with the APA and provides the Company with the exclusive right to supply SunPower with MLPEs for a period of five years , with options for renewals. The exclusivity arrangement extends throughout the term of the MSA, which comprises all of the expected cash flows from the customer relationship intangible asset, and was a condition to, and was an essential part of the acquisition of the microinverter business by the Company. As the fair value ascribed to the customer relationship intangible asset represents payments to a customer, the Company will amortize the value of the customer relationship intangible asset as a reduction to revenue using a pattern of economic benefit method over a useful life of nine years .
The table below shows estimated fair values of the assets acquired funded by cash and issuance of common stock at the acquisition date (in thousands):
 
Cash Purchase Price
 
Issuance of Common Stock
 
Total Consideration
 
% of Total Consideration
Developed technology and goodwill
$
15,000

 
$
19,219

 
$
34,219

 
60
%
Customer relationship
10,000

 
13,100

 
23,100

 
40
%
Total consideration
$
25,000

 
$
32,319

 
$
57,319

 
100
%
The Company allocated $6.0 million of the $15.0 million paid of the cash purchase price to cash flows from operating activities and the remaining $9.0 million to cash used in investing activities in the condensed consolidated statements of cash flows for the nine months ended September 30, 2018 . The allocation was based on the valuation of the customer relationship relative to the overall consideration. In addition, the Company disclosed $19.2 million from issuance of common stock and $6.0 million of cash purchase price accrued to be paid for the developed technology and goodwill as non-cash investing activities in the condensed consolidated statements of cash flows for the nine months ended September 30, 2018 .
Total acquisition related costs were approximately $0.8 million , which were included in general and administrative expenses.
The Company determined it is impractical to include such pro forma information given the difficulty in obtaining the historical financial information for the SunPower microinverter business as the business was part of SunPower and did not have discrete financial information prior to the acquisition. Inclusion of such information would require the Company to make estimates and assumptions regarding the acquired business's historical financial results that the Company believes may ultimately prove inaccurate.


25


Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
The following discussion and analysis of our financial condition and results of operations should be read together with our condensed 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. For example, statements regarding our expectations as to future financial performance, expense levels, liquidity sources, timing of new product releases, the impact of tariffs and other government actions with respect to the solar industry and international trade, and the anticipated benefits and risks relating to the transaction with SunPower Corporation are forward-looking statements. 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 year ended December 31, 2017 .
Overview
We deliver simple, innovative and reliable energy management solutions that advance the worldwide potential of renewable energy. Our semiconductor-based microinverter system converts direct current (DC) electricity to alternating current (AC) electricity at the individual solar module level, and brings a system-based, high technology approach to solar energy generation leveraging our design expertise across power electronics, semiconductors, networking, and cloud-based software technologies. Our technology was designed to increase energy production, simplify design and installation, improve system uptime and reliability, reduce fire risk, and provide a platform for intelligent energy management. Since inception, we have shipped over 18 million microinverters representing over 4 gigawatts of solar PV generating capacity, and more than 820,000 Enphase residential and commercial systems have been deployed in over 120 countries.
We sell our microinverter systems primarily to distributors who resell them to solar installers. We also sell directly to large installers and through original equipment manufacturers (“OEMs”) and strategic partners.
On August 9, 2018 , pursuant to the Asset Purchase Agreement (“APA”) with SunPower Corporation (“ SunPower ”), we completed the purchase of assets primarily relating to SunPower ’s microinverter business (the “Business”). Upon the closing of the transactions under the APA on August 9, 2018 (“Closing”), we acquired intellectual property, technology and other assets primarily relating to the Business and assumed certain intellectual property and customer relationship of the Business for the following consideration: (i) $15.0 million payable in cash at Closing; (ii) 7.5 million shares of our common stock issued to SunPower at Closing (“Closing Shares”); and (iii) an additional cash payment of $10.0 million payable to SunPower on December 10, 2018 . In addition, as conditions to the Closing, we and SunPower entered into (i) a Master Supply Agreement under which SunPower will exclusively procure module level power electronics and related equipment for use in the United States (“U.S.”) residential market from us for a period of five years and (ii) a Stockholders Agreement to establish certain SunPower rights and obligations related to the Closing Shares, including SunPower ’s right to appoint one person to our board of directors, a six-month lock-up period, certain additional transfer restrictions on the Closing Shares, registration rights, and voting, standstill and other undertakings by SunPower .
New Products
Enphase IQ Microinverter System
The Enphase IQ microinverter is a key component of the Enphase Home Energy Solution™, which can also include our Envoy™ Communications Gateway with IQ Combiner+, Enphase Enlighten™, a cloud-based energy management platform, 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.
In the first quarter of 2018, we began shipping IQ 7,our seventh-generation Enphase IQ™ microinverters for the Enphase Home Energy Solution with IQ™, our next-generation integrated solar, storage and energy management system with a single world-wide SKU, to distributors in the United States. In the second quarter of 2018, we began shipping IQ 7 to Europe, representing Enphase’s entry into the German and Austrian solar markets, while expanding our presence in other solar markets such as France, Benelux, United Kingdom, and Switzerland. We also began selling IQ 7 in Australia and New Zealand during the second quarter of 2018.

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Table of Contents

The Enphase IQ 7 Micro™ and Enphase IQ 7+ Micro™ support high-powered 60-cell and 72-cell solar modules and integrate with AC modules. During the second quarter of 2018, we began shipping our IQ 7X microinverter to solar distributors in the United States. The Enphase IQ 7X Micro™, the highest power and highest efficiency variant of our seventh-generation family of microinverters, supports and can be integrated with 96-cell modules.
Our next-generation system, IQ 8, is built on our grid-agnostic “always on” Ensemble™ technology. The IQ 8 ASIC is fully functional, which demonstrates the technological feasibility of Ensemble. This ASIC is made in 55nm technology at TSMC, enabling very high speed digital signal processing. We are continuing to commercialize IQ 8 and expect to introduce our off-grid solution in the fourth quarter of 2018, followed by a grid-agnostic solution in 2019.
Enphase Energized AC Modules
We began shipping Enphase Energized AC Modules in North America in 2017. The Enphase Energized AC Modules with IQ utilize our sixth- and seventh-generation microinverters and are produced through our AC module partnerships with LG Electronics Inc., JinkoSolar Technology and Waaree Energies Ltd. In 2018, we announced new AC Module partnerships with SunPower, Panasonic Corporation of North America and Solaria Corporation.

Components of Condensed Consolidated Statements of Operations
Net Revenues
We primarily generate net revenues from sales of our microinverter systems and related accessories, which can include our AC Battery storage systems, our Envoy communications gateway and Enlighten cloud-based monitoring service as well as other accessories.
Our revenue is affected by changes in the volume and average selling prices of our microinverter systems and related accessories, supply and demand, sales incentives, and competitive product offerings. Our revenue growth is dependent on our ability to compete effectively in the marketplace by remaining cost competitive, developing and introducing new products that meet the changing technology and performance requirements of our customers, the diversification and expansion of our revenue base, and our ability to market our products in a manner that increases awareness for microinverter technology and differentiates us in the marketplace.
Cost of Revenues and Gross Profit
Cost of revenues is comprised primarily of product costs, warranty, manufacturing personnel and logistics costs, freight costs, depreciation and amortization of test equipment and hosting services costs. Our product costs are impacted by technological innovations, such as advances in semiconductor integration and new product introductions, economies of scale resulting in lower component costs, and improvements in production processes and automation. Certain costs, primarily personnel and depreciation and amortization of test equipment, are not directly affected by sales volume.
We outsource our manufacturing to third-party contract manufacturers and generally negotiate product pricing with them on a quarterly basis. We believe our contract manufacturing partners have sufficient production capacity to meet the anticipated demand for our products for the foreseeable future. However, shortages in the supply of certain key raw materials could adversely affect our ability to meet customer demand for our products. We contract with third parties, including one of our contract manufacturers, to serve as our logistics providers by warehousing and delivering our products in the United States, Europe and Asia.
Gross profit may vary from quarter to quarter and is primarily affected by our average selling prices, product cost, product mix, warranty costs and sales volume fluctuations resulting from seasonality.
Operating Expenses
Operating expenses consist of research and development, sales and marketing, general and administrative and restructuring expenses. Personnel-related costs are the most significant component of each of these expense categories other than restructuring expense and include salaries, benefits, payroll taxes, sales commissions, incentive compensation and stock-based compensation.

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Table of Contents

Research and development expense includes personnel-related expenses, third-party design and development costs, testing and evaluation costs, depreciation expense and other indirect costs. Research and development employees are primarily engaged in the design and development of power electronics, semiconductors, powerline communications, networking and software functionality, and storage. We devote substantial resources to research and development programs that focus on enhancements to, and cost efficiencies in, our existing products and timely development of new products that utilize technological innovation to drive down product costs, improve functionality, and enhance reliability. We intend to continue to invest appropriate resources in our research and development efforts because we believe they are critical to maintaining our competitive position.
Sales and marketing expense consists primarily of personnel-related expenses such as salaries, commissions, stock-based compensation, employee benefits and travel. It also includes trade shows, marketing, customer support and other indirect costs. We expect to continue to make the necessary investments to enable us to execute our strategy to increase our market penetration geographically and enter into new markets by expanding our customer base of distributors, large installers, OEMs and strategic partners. We currently offer microinverter systems targeting the residential and commercial markets in the United States, Canada, Mexico and certain Central American markets, the United Kingdom, France, the Benelux region, certain other European markets, Australia, New Zealand, India and certain other Asian markets. We expect to continue to expand the geographic reach of our product offerings and explore new sales channels in addressable markets in the future.
General and administrative expense consists primarily of salaries, incentive compensation, stock-based compensation and employee benefits for personnel related to our executive, finance, human resources, information technology and legal organizations. General and administrative expense also includes facilities costs and fees for professional services, which consist primarily of outside legal, accounting and information technology consulting costs.
Restructuring charges are the net charges resulting from restructuring initiatives implemented in 2016- 2017 (the “2016 Plan”) and 2018 (the “2018 Plan”) to improve operational performance and reduce overall operating expenses. Under the 2016 Plan, costs included in restructuring primarily consist of fees paid to management consultants engaged to assist us in making organizational and structural changes to improve operational efficiencies and reduce expenses, severance for workforce reduction actions, non-cash charges related to the disposition of assets and impairment of property and equipment, and the establishment of lease loss reserves. The net charge for the 2016 Plan included a gain on the divestiture of our services business. Charges related to our 2016 Plan were largely completed in 2017. Under the 2018 Plan, costs included in restructuring primarily consist of fees paid to management consultants engaged to assist us in making organizational and structural changes to improve operational efficiencies and reduce expenses, severance for workforce reduction actions, non-cash charges related to impairment of property and equipment, and the establishment of lease loss reserves. See Note 7 , “Restructuring” to the condensed consolidated financial statements for additional information.
Other Expense, Net
Other expense, net primarily consists of interest expense and commitment fees under our term loans and non-cash interest expense related to the amortization of deferred financing costs. Other expense, net also includes gains or losses upon conversion of foreign currency transactions into U.S. dollars.
Provision for Income Taxes
We are subject to income taxes in the countries where we sell our products. Historically, we have primarily been subject to taxation in the U.S. because we have sold the majority of our products to customers in the U.S. As we have expanded the sale of products to customers outside the U.S., we have become subject to taxation based on the foreign statutory rates in the countries where these sales took place. As sales in foreign jurisdictions increase in the future, our effective tax rate may fluctuate accordingly. Due to the history of losses we have generated in the U.S. since inception, we believe that it is more-likely-than-not that all of our U.S. and state deferred tax assets will not be realized as of September 30, 2018 .


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Table of Contents

Results of Operations for the Three Months Ended September 30, 2018 and 2017
Net Revenues  
 
Three Months Ended
September 30,
 
Change in
 
Nine Months Ended
September 30,
 
Change in
 
2018
 
2017
 
$
 
%
 
2018
 
2017
 
$
 
%
 
(dollars in thousands)
 
(dollars in thousands)
Net revenues
$
78,002

 
$
77,038

 
$
964

 
1
%
 
$
223,870

 
$
206,492

 
$
17,378

 
8
%
Three Months Ended September 30, 2018 and 2017
Net revenues increased by 1% for the three months ended September 30, 2018 , as compared to the same period in 2017 . The increase was due to $3.3 million of revenue earned under a joint development arrangement, was partially offset by a decrease in product revenue due to a decline in volume of microinverter units sold. We sold 665 thousand microinverter units in the three months ended September 30, 2018 , as compared to 790 thousand units in the same period in 2017 . The impact of the lower sales volume was largely offset by an increase in average selling price per microinverter of approximately 15% due to the transition to our IQ 7 microinverter, which was introduced in the first quarter of 2018 and comprised 78% of our inverter sales in the current quarter. See Note 2, “Revenue Recognition” to the condensed consolidated financial statements.
Nine Months Ended September 30, 2018 and 2017
Net revenues increased by 8% for the nine months ended September 30, 2018 , as compared to the same period in 2017 due primarily to an increase in the average selling price per inverter combined with $5.3 million of revenue earned under a joint development agreement. We sold 2.0 million microinverter units in the nine months ended September 30, 2018 , as compared to 2.1 million units in the same period in 2017 . The impact of the lower sales volume was more than offset by an increase in average selling price per microinverter due to the transition to our IQ series of microinverters and pricing management. See Note 2, “Revenue Recognition” to the condensed consolidated financial statements.
Cost of Revenues and Gross Profit  
 
Three Months Ended
September 30,
 
Change in
 
Nine Months Ended
September 30,
 
Change in
 
2018
 
2017
 
$
 
%
 
2018
 
2017
 
$
 
%
 
(dollars in thousands)
 
(dollars in thousands)
Cost of revenues
$
52,738

 
$
60,577

 
$
(7,839
)
 
(13
)%
 
$
157,589

 
$
169,438

 
$
(11,849
)
 
(7
)%
Gross profit
25,264

 
16,461

 
8,803

 
53
 %
 
66,281

 
37,054

 
29,227

 
79
 %
Gross margin
32.4
%
 
21.4
%
 


 
 
 
29.6
%
 
17.9
%
 


 
 
Three Months Ended September 30, 2018 and 2017
Cost of revenues decreased by 13% for the three months ended September 30, 2018 , as compared to the same period in 2017 . The decrease in cost of revenues was primarily attributable to a 13% decrease in the average product cost combined with the decrease in volume of microinverter units sold. Gross margin increased by 11  percentage points for the three months ended September 30, 2018 , as compared to the same period in 2017 . The increase in gross margin was primarily attributable to an increase in product margins as a result of the transition to the IQ 7 microinverter and $3.3 million of revenue earned under a joint development agreement. The increase in gross margin was partially offset by an increase in other cost of goods sold. Our ability to reduce product costs and the timing of product cost reductions relative to declines in the selling prices of our products can have a significant impact on our gross margin.

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Table of Contents

Nine Months Ended September 30, 2018 and 2017
Cost of revenues decreased by 7% for the nine months ended September 30, 2018 , as compared to the same period in 2017 , primarily due to an 11% decrease in the average cost. Gross margin increased by 11.7  percentage points for the nine months ended September 30, 2018 , as compared to the same period in 2017 . The increase in gross margin was primarily attributable to increased product margins as a result of the transition to our IQ7 microinverter as well as our other product cost management efforts. The improvement in margin due to the $5.3 million in revenue under a joint development arrangement was offset by an increase in other cost of goods sold. Our ability to reduce product costs and the timing of product cost reductions relative to declines in the selling prices of our products can have a significant impact on our gross margin.
Research and Development
 
Three Months Ended
September 30,
 
Change in
 
Nine Months Ended
September 30,
 
Change in
 
2018
 
2017
 
$
 
%
 
2018
 
2017
 
$
 
%
 
(dollars in thousands)
 
(dollars in thousands)
Research and development
$
8,165

 
$
7,397

 
$
768

 
10
%
 
$
25,247

 
$
24,949

 
$
298

 
1
%
Three Months Ended September 30, 2018 and 2017
Research and development expense increased by 10% for the three months ended September 30, 2018 , as compared to the same period in 2017 . The increase is primarily due to an increase in personnel-related expenses and development costs combined with a decrease in the capitalization of labor costs incurred in the development of internal-use software. The increase was partially offset by lower expenses associated with the introduction and qualification of new products. In addition, facility costs and equipment costs were also lower. Personnel-related expenses increased primarily due to an increase in stock-based compensation, bonus expenses and other employee-related costs, partially offset by lower payroll expenses associated with moving certain functions to lower cost locations as part of the restructuring actions taken in 2017 and 2018.
Nine Months Ended September 30, 2018 and 2017
Research and development expense increased by 1% for the nine months ended September 30, 2018 , as compared to the same period in 2017 . The increase is due to an increase in research and development costs combined with a decrease in the capitalization of labor costs incurred in the development of internal-use software. The increase was partially offset by lower personnel-related expenses, equipment costs and professional expenses associated with the development, introduction and qualification of new products. Personnel-related expenses decreased primarily due to a cumulative decrease in labor costs associated with moving certain functions to lower cost locations as part of restructuring actions taken in 2017 and 2018 and was partially offset by higher bonus and stock-based compensation expense.
Sales and Marketing
 
Three Months Ended
September 30,
 
Change in
 
Nine Months Ended
September 30,
 
Change in
 
2018
 
2017
 
$
 
%
 
2018
 
2017
 
$
 
%
 
(dollars in thousands)
 
(dollars in thousands)
Sales and marketing
$
7,375

 
$
5,453

 
$
1,922

 
35
%
 
$
20,430

 
$
18,186

 
$
2,244

 
12
%
Three Months Ended September 30, 2018 and 2017
Sales and marketing expense increased by 35% for the three months ended September 30, 2018 , as compared to the same period in 2017 . The increase was primarily due an increase in personnel related expenses and professional fees. The increase was partially offset by a decrease in bad debt expense. The increase in personnel related expenses was primarily due to higher stock-based compensation expense and higher payroll expense due to expansion of our sales team.

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Nine Months Ended September 30, 2018 and 2017
Sales and marketing expense increased by 12% for the nine months ended September 30, 2018 , as compared to the same period in 2017 . The increase was due an increase in personnel related expenses, professional fees, equipment costs, and advertising and marketing expenses. The increase was partially offset by a decrease in bad debt expense and facilities costs. The increase in personnel related expenses include higher stock-based compensation expense, payroll expenses due to increasing our sales team and recruiting fees. The increase was partially offset by lower spending on contractors and temporary employees.
General and Administrative
 
Three Months Ended
September 30,
 
Change in
 
Nine Months Ended
September 30,
 
Change in
 
2018
 
2017
 
$
 
%
 
2018
 
2017
 
$
 
%
 
(dollars in thousands)
 
(dollars in thousands)
General and administrative
$
7,510

 
$
5,441

 
$
2,069

 
38
%
 
$
21,423

 
$
16,238

 
$
5,185

 
32
%
Three Months Ended September 30, 2018 and 2017
General and administrative expense increased 38% for the three months ended September 30, 2018 , as compared to the same period in 2017 . The increase is primarily due to an increase in personnel-related expenses, professional fees, acquisition-related costs, and facility costs. The increase was partially offset by lower legal fees. The increase in personnel-related expenses was primarily attributable to higher stock-based compensation, which was partially offset by lower employee recruitment costs.
Nine Months Ended September 30, 2018 and 2017
General and administrative expense increased 32% for the nine months ended September 30, 2018 , as compared to the same period in 2017 . The increase is primarily due to an increase in personnel-related expenses, $1.8 million paid to resolve a dispute with a supplier, professional fees, and $0.8 million of acquisition-related expenses. The increase was partially offset by lower legal fees and equipment costs. The increase in personnel-related expenses was primarily attributable to higher stock-based compensation expense.
Restructuring Charges
 
Three Months Ended
September 30,
 
Change in
 
Nine Months Ended
September 30,
 
Change in
 
2018
 
2017
 
$
 
%
 
2018
 
2017
 
$
 
%
 
(dollars in thousands)
 
(dollars in thousands)
Restructuring charges
$
2,588

 
$
4,071

 
$
(1,483
)
 
(36)%
 
$
2,588

 
$
14,927

 
$
(12,339
)
 
(83)%
Three Months Ended September 30, 2018 and 2017
We implemented restructuring plans in the third quarter of 2018 and in 2016. Both restructuring plans were implemented to lower operating expenses. The 2018 restructuring plan included a realignment of our global workforce to lower cost locations and a relocation of our corporate offices. Restructuring expense for the three months ended September 30, 2018 primarily include a $1.6 million asset impairment charge, a $0.6 million of one-time termination benefits and other employee-related expenses and a $0.3 million charge to establish a lease loss reserve. We expect to incur additional restructuring charges in the near-term.
Restructuring charges for the three months ended September 30, 2017 primarily include $3.1 million of consulting services and $1.1 million of employee-related expenses.
Nine Months Ended September 30, 2018 and 2017
Restructuring expense for the three months ended September 30, 2018 primarily include a $1.6 million asset impairment charge, a $0.6 million of one-time termination benefits and other employee-related expenses and a $0.3 million charge to establish a lease loss reserve.
Restructuring charges for the nine months ended September 30, 2017 primarily include $10.1 million of consulting services, $2.8 million in cash-based severance and related benefits and $2.0 million in charges for asset impairments, contract termination costs and lease loss reserves.

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Other Expense, Net