UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

☒	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended ~~September 30, 2017~~March 31, 2018

☐	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period _____ to_____.

Commission file number: 000-50644

Cutera, Inc.

(Exact name of registrant as specified in its charter)

Delaware		77-0492262
(State or other jurisdiction of incorporation or organization)		(I.R.S. employer identification no.)

3240 Bayshore Blvd., Brisbane, California 94005

(Address of principal executive offices)

(415) 657-5500

(~~Registrant~~’sRegistrant’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 ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, ~~or a~~ smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated ~~filer”~~filer,” “smaller reporting company,” and ~~“smaller reporting~~“emerging growth company” in Rule 12b-2 of the Exchange ~~Act (check one):~~Act.

Large accelerated filer ☐

Accelerated filer ☒

Non-accelerated filer ☐

Smaller reporting company ☐

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 ☒

The number of shares of ~~Registrant~~’sRegistrant’s common stock issued and outstanding as of ~~October 31, 2017~~April 30, 2018, was ~~13,854,966.~~13,634,482

Table of Contents

CUTERA, INC.

FORM 10-Q

TABLE OF CONTENTS

		Page
PART I	FINANCIAL INFORMATION

Item 1	Financial Statements (unaudited)	3
	Condensed Consolidated Balance Sheets	3
	Condensed Consolidated Statements of Operations	4
	Condensed Consolidated Statements of Comprehensive ~~Income (Loss)~~Loss	5
	Condensed Consolidated Statements of Cash Flows	6
	Notes to Condensed Consolidated Financial Statements	7
Item 2	~~Management~~’sManagement’s Discussion and Analysis of Financial Condition and Results of Operations	1622
Item 3	Quantitative and Qualitative Disclosures About Market Risk	2529
Item 4	Controls and Procedures	2530

PART II	OTHER INFORMATION

Item 1	Legal Proceedings	2630
Item 1A	Risk Factors	2630
Item 2	Unregistered Sales of Equity Securities and Use of Proceeds	2631
Item 3	Defaults Upon Senior Securities	2731
Item 4	Mine Safety Disclosures	2731
Item 5	Other Information	2731
Item 6	Exhibits	2831
	Signature	2932

Table of Contents

PART I. FINANCIAL INFORMATION

ITEM 1.

FINANCIAL STATEMENTS

CUTERA, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share data)

(unaudited)

	September 30, 2017			December 31, 2016			March 31, 2018			December 31, 2017
Assets
Current assets:
Cash and cash equivalents	$	14,784		$	13,775		$	10,910		$	14,184
Marketable investments		35,692			40,299			13,062			21,728
Accounts receivable, net		19,604			16,547			19,862			20,777
Inventories		23,728			14,977			30,979			28,782
Other current assets and prepaid expenses		2,894			2,251			2,601			2,903
Total current assets		96,702			87,849			77,414			88,374

Property and equipment, net		1,842			1,907			2,214			2,096
Deferred tax asset		384			377			21,792			19,055
Intangibles, net		—			2
Goodwill		1,339			1,339			1,339			1,339
Other long-term assets		381			380			5,367			374
Total assets	$	100,648		$	91,854		$	108,126		$	111,238

Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable	$	5,805		$	2,598		$	8,206		$	7,002
Accrued liabilities		22,203			17,397			20,083			26,848
Deferred revenue		8,801			8,394			8,847			9,461
Total current liabilities		36,809			28,389			37,136			43,311

Deferred revenue, net of current portion		1,950			1,705			2,168			2,195
Income tax liability		171			168			384			379
Other long-term liabilities		505			582			583			460
Total liabilities		39,435			30,844			40,271			46,345

Commitments and Contingencies (Note 11)
Commitments and Contingencies (Note 12)

Stockholders’ equity:
Stockholders’ equity:
Convertible preferred stock, $0.001 par value; authorized: 5,000,000 shares; none issued and outstanding		—			—			—			—
Common stock, $0.001 par value; authorized: 50,000,000 shares; issued and outstanding: 13,906,439 and 13,773,389 shares at September 30, 2017 and December 31, 2016, respectively		14			14
Common stock, $0.001 par value; authorized: 50,000,000 shares; issued and outstanding: 13,634,154 and 13,477,973 shares at March 31, 2018 and December 31, 2017, respectively								14			13
Additional paid-in capital		81,195			88,114			62,057			62,025
Accumulated deficit		(19,933	)		(27,046	)
Retained earnings								5,888			2,947
Accumulated other comprehensive loss		(63	)		(72	)		(104	)		(92	)
Total stockholders’ equity		61,213			61,010
Total stockholders’ equity								67,855			64,893

Total liabilities and stockholders’ equity	$	100,648		$	91,854
Total liabilities and stockholders’ equity							$	108,126		$	111,238

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

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CUTERA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

(unaudited)

	Three Months Ended					Nine Months Ended						Three Months Ended
	September 30,					September 30,						March 31,
	2017			2016		2017			2016			2018			2017
Net revenue:
Products	$	33,486		$	25,493	$	89,688		$	65,903		$	29,264		$	24,475
Service		4,687			4,788		14,173			14,278			4,861			4,824
Total net revenue		38,173			30,281		103,861			80,181			34,125			29,299
Cost of revenue:
Products		13,859			10,160		38,843			26,804	��		13,922			11,144
Service		2,104			2,378		6,241			7,155			2,869			2,634
Total cost of revenue		15,963			12,538		45,084			33,959			16,791			13,778
Gross profit		22,210			17,743		58,777			46,222			17,334			15,521

Operating expenses:
Sales and marketing		13,148			10,574		36,708			30,002			13,088			10,773
Research and development		3,467			2,914		9,393			8,335			3,556			2,945
General and administrative		3,379			2,716		10,143			9,933			5,439			3,216
Lease termination income		(4,000	)		—		(4,000	)		—
Total operating expenses		15,994			16,204		52,244			48,270			22,083			16,934
Income (loss) from operations		6,216			1,539		6,533			(2,048	)
Loss from operations													(4,749	)		(1,413	)
Interest and other income, net		197			166		746			527			98			273
Income (loss) before income taxes		6,413			1,705		7,279			(1,521	)
Provision for income taxes		225			61		166			115
Net income (loss)	$	6,188		$	1,644	$	7,113		$	(1,636	)
Loss before income taxes													(4,651	)		(1,140	)
Benefit for income taxes													(2,619	)		(118	)
Net loss												$	(2,032	)	$	(1,022	)

Net income (loss) per share:
Basic	$	0.44		$	0.12	$	0.51		$	(0.12	)
Diluted	$	0.42		$	0.12	$	0.48		$	(0.12	)
Net loss per share:
Basic and Diluted												$	(0.15	)	$	(0.07	)

Weighted-average number of shares used in per share calculations:
Basic		13,973			13,163		13,917			13,102
Diluted		14,767			13,544		14,733			13,102
Basic and Diluted													13,587			13,840

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

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CUTERA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE ~~INCOME (LOSS)~~LOSS

(in thousands)

(unaudited)

Three Months Ended

Nine Months Ended

September 30,

September 30,

2017

2016

2017

2016

Net income (loss)
$ 6,188 $ 1,644 $ 7,113 $ (1,636
)
Other comprehensive income (loss):

Available-for-sale investments

Net change in unrealized gains (losses) on available-for-sale investments
5 (24
)
13 56
Less: Reclassification adjustment for gains on investments recognized during the period
— (1
)
(4
)
(1
)
Net change in unrealized gain and losses on available-for-sale investments
5 (25
)
9 55
Tax provision (benefit)
— (9
)
— 20
Other comprehensive income (loss), net of tax
5 (16
)
9 35
Comprehensive income (loss)
$ 6,193 $ 1,628 $ 7,122 $ (1,601
)

	Three Months Ended
	March 31,
	2018			2017
Net loss	$	(2,032	)	$	(1,022	)
Other comprehensive loss:
Available-for-sale investments
Net change in unrealized gain (loss) on available-for-sale investments		(21	)		3
Less: Reclassification adjustment for (gains) losses on investments recognized during the period		9			(4	)
Net change in unrealized loss on available-for-sale investments		(12	)		(1	)
Tax loss (benefit)		—			—
Other comprehensive loss, net of tax		(12	)		(1	)
Comprehensive loss	$	(2,044	)	$	(1,023	)

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

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CUTERA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

	Nine Months Ended September 30,						Three Months Ended March 31,
	2017			2016			2018			2017
Cash flows from operating activities:
Net income (loss)	$	7,113		$	(1,636	)
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Net loss							$	(2,032	)	$	(1,022	)
Adjustments to reconcile net loss to net cash used in operating activities:
Stock-based compensation		3,623			2,652			1,688			1,395
Depreciation and amortization		750			733
Depreciation of tangible assets								254			248
Amortization of contract acquisition costs								373			—
Change in deferred tax asset								(2,737)			(17	)
Other		(67	)		(45	)		25			(34)
Changes in assets and liabilities:
Accounts receivable		(3,048	)		(61	)		915			(1,305	)
Inventories		(8,751	)		(4,400	)		(2,197	)		(695	)
Other current assets and prepaid expenses		(633	)		(690	)		1,753			(158	)
Other long-term assets		(1	)		(60	)		(2,150	)		(9	)
Accounts payable		3,207			1,324			1,204			491
Accrued liabilities		4,757			886			(6,727	)		(2,657	)
Deferred revenue								(456	)		(23	)
Other long-term liabilities		—			(247	)		40			1
Deferred revenue		652			(1,187	)
Income tax liability		3			(18	)
Net cash provided by (used) in operating activities		7,605			(2,749	)
Net cash used in operating activities								(10,047	)		(3,785	)

Cash flows from investing activities:
Acquisition of property, equipment and software		(443	)		(311	)		(104	)		(69	)
Disposal of property and equipment		53			17			—			25
Proceeds from sales of marketable investments		9,154			6,153			13,044			5,255
Proceeds from maturities of marketable investments		39,612			20,135			—			14,035
Purchase of marketable investments		(44,156	)		(23,944	)		(4,390	)		(15,972	)
Net cash provided by investing activities		4,220			2,050			8,550			3,274

Cash flows from financing activities:
Repurchase of common stock		(13,776	)		(4,873	)		—			(2,700	)
Proceeds from exercise of stock options and employee stock purchase plan		4,566			6,798			633			1,751
Taxes paid related to net share settlement of equity awards		(1,332	)		(601	)		(2,288	)		(784	)
Payments on capital lease obligations		(274	)		(218	)		(122	)		(88	)
Net cash used in financing activities		(10,816	)		1,106			(1,777	)		(1,821	)

Net increase in cash and cash equivalents		1,009			407
Net decrease in cash and cash equivalents								(3,274	)		(2,332	)
Cash and cash equivalents at beginning of period		13,775			10,868			14,184			13,775
Cash and cash equivalents at end of period	$	14,784		$	11,275		$	10,910		$	11,443

Supplemental disclosure of non-cash items:
Repurchase of common stock acquired but not settled								—		$	207
Assets acquired under capital lease	$	257		$	580		$	284		$	80

The accompanying notes are an integral part of these unaudited Condensed Consolidated Financial Statements.

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CUTERA, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Summary of Significant Accounting Policies

Description of Operations and Principles of Consolidation

Cutera, Inc. ((“Cutera” or the “Company”) is a global provider of laser and other energy-based aesthetic systems for practitioners worldwide. The Company designs, develops, manufactures, and markets laser and other energy-based product platforms for use by physicians and other qualified practitioners which enable them to offer safe and effective aesthetic treatments to their customers. The Company currently markets the following key system platforms: ~~enlighten~~^®,excel V, excel HR, enlighten, Juliet, Secret RF, truSculpt and^®~~, truSculpt~~^®~~, excel V~~^®~~, and~~ xeo^®. The Company’s systems offer multiple hand pieces and applications, which allow customers to upgrade their systems. The sales of (i) systems, system upgrades and hand pieces (classified as “Systems” revenue); (ii) hand piece refills applicable to Titan^® and truSculpt 3D, as well as single use disposable tips applicable to ~~truSculpt~~Juliet, Secret RF (classified as ~~“Hand Piece Refills”~~“Consumables”); and (iii) the distribution of third party manufactured skincare products (classified as "Skincare” revenue); and collectively classified as “Products” revenue. In addition to Products revenue, the Company generates revenue from the sale of post-warranty service contracts, parts, detachable hand piece replacements (except for TitanandtruSculpt3D) and service labor for the repair and maintenance of products that are out of warranty, all of which is classified as “Service” revenue.

Headquartered in Brisbane, California, the Company has wholly-owned subsidiaries that are currently operational in Australia, Belgium, Canada, France, Germany, Hong Kong, Japan, Spain, Switzerland and the United Kingdom. These subsidiaries market, sell and service the ~~Company~~’sCompany’s products outside of the United States. ~~The Condensed Consolidated Financial Statements include the accounts of the Company and its subsidiaries. All inter-company accounts, transactions and balances have been eliminated.~~

Unaudited Interim Financial Information

~~The interim financial information included in this report is unaudited. The~~In the opinion of the Company, the accompanying unaudited Condensed Consolidated Financial Statements included in this report reflect all adjustments (consisting of only of normal recurring adjustments) ~~that the Company considers~~ necessary for ~~the~~a fair ~~presentation~~statement of ~~the~~its financial position as of March 31, 2018, its results of operations for the ~~interim periods covered~~ three months period ended March 31, 2018, and of2017, comprehensive loss for the ~~financial condition of~~three months period ended March 31, 2018 and 2017, and cash flows for the ~~Company at the date of the interim balance sheet.~~three months ended March 31, 2018, and 2017. The December 31, ~~2016~~ 2017 Condensed Consolidated Balance Sheet was derived from audited financial statements, but does not include all disclosures required by generally accepted accounting principles in the United States of America (“GAAP”). The results for interim periods are not necessarily indicative of the results for the entire year or any other interim period. The ~~Condensed Consolidated Financial Statements~~accompanying condensed consolidated financial statements should be read in conjunction with the ~~Company~~’sCompany’s previously filed audited financial statements and the related notes thereto included in the Company’s annual report on Form ~~10-K~~10-K for the year ended December 31, ~~2016~~ 2017 filed with the Securities and Exchange Commission (the “SEC”) on March ~~15, 2017.~~26, 2018.

Use of Estimates

The preparation of interim Condensed Consolidated Financial Statements in conformity with GAAP requires the ~~Company~~’sCompany’s management to make estimates and assumptions that affect the amounts reported of assets and ~~disclosed in~~liabilities and disclosure of contingent assets and liabilities at the date of the Condensed Consolidated Financial Statements and the accompanying ~~notes. These estimates are based on management's best knowledge~~notes, and the reported amounts of ~~current events~~revenue and ~~actions we may undertake in~~expenses during the ~~future.~~reported periods. Actual results could differ materially from those estimates.

On an ongoing basis, the Company evaluates ~~these~~their estimates, including those related to ~~revenue elements,~~ warranty ~~obligations,~~obligation, sales ~~commissions,~~commission, accounts receivable and sales allowances, ~~provision for excess and obsolete~~valuation of inventories, fair values of ~~marketable investments,~~goodwill, useful lives of property and equipment, assumptions regarding variables used in calculating the fair ~~values~~value of the Company's equity awards, expected achievement of performance ~~stock units~~based vesting criteria, fair value of investments, the standalone selling price of the Company's products and ~~options~~services, the customer life and period of benefit used to ~~purchase the Company’s stock,~~capitalize and amortize contracts acquisition costs, variable consideration, contingent liabilities, recoverability of deferred tax assets, ~~legal matters and claims,~~ and effective income tax rates, among others. Management bases ~~these~~their estimates on historical experience and on various other assumptions that are believed to be reasonable, the results of which form the basis for making judgments about the carrying values of assets and liabilities.

Risks and Uncertainties

~~Recent Accounting Pronouncements Not Yet Adopted~~

~~Revenue Recognition~~

~~In May 2014,~~The Company's future results of operations involve a number of risks and uncertainties. Factors that could affect the ~~Financial Accounting Standards Board ("FASB”), jointly with the International Accounting Standards Board, issued~~ ~~Accounting Standards Update (“ASU”) No. 2014-09, Revenue~~Company's future operating results and cause actual results to vary materially from ~~Contracts with Customers. This new standard will replace most~~expectations include, but are not limited to, rapid technological change, continued acceptance of the ~~existing revenue recognition guidance in GAAP when it becomes effective~~Company's products, stability of world financial markets, management of international activities, competition from substitute products and ~~permits~~larger companies, ability to obtain regulatory approval, government regulations, patent and other litigations, ability to protect proprietary technology from counterfeit versions of the ~~use~~Company's products, strategic relationships and dependence on key individuals. If the Company fails to adhere to ongoing Food and Drug Administration (the "FDA") Quality System Regulation, the FDA may withdraw its market clearance or take other action. The Company's manufacturers and suppliers may encounter supply interruptions or problems during manufacturing due to a variety of ~~either~~reasons, including failure to comply with applicable regulations, including the ~~retrospective~~FDA's Quality System Regulation, equipment malfunction and environmental factors, any of which could delay or impede the ~~modified retrospective method (or cumulative effect transition method).~~Company's ability to meet demand.

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The standard's core principle is that a reporting entity will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In applying this new guidance to contracts within its scope, an entity will: (1) identify the contract(s) with a customer, (2) identify the performance obligation in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when (or as) the entity satisfies a performance obligation. Additionally, this new guidance would require significantly expanded disclosures about revenue. The new standard is effective for annual reporting periods (including interim reporting periods within those annual periods) beginning after December 15, 2017. Entities have the option of using either a full retrospective or a modified retrospective approach to adopt this new standard.Comparability

~~While~~The Company adopted the ~~Company has not completed its evaluation,~~ ~~the Company currently plans to adopt this accounting~~new revenue standard ~~in the first quarter of fiscal year~~effective January 1, 2018, using the modified retrospective method. ~~Based on~~Prior period financial statements were not retrospectively restated. The consolidated balance sheet as of December 31, 2017 and results of operations for the ~~analysis performed through~~three months ended March 31, 2017 were prepared using accounting standards that were different than those in effect for the ~~third quarter~~three months ended March 31,2018. As a result the consolidated balance sheets as of March 31,2018 and December 31, 2017 t~~he Company believes that~~are not directly comparable, nor are the ~~timing~~results of operations for the three months ended March 31,2018 and ~~measurement of~~March 31, 2017.

Adopted Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers,” amending revenue recognition ~~under its contracts with customers for its~~ ~~Products~~guidance and ~~Services will not change significantly.~~ ~~However, the basis of revenue recognition will change~~requiring more detailed disclosures to ~~one based on the transfer of control of products and services. Also based on the analysis performed,~~ the Company expects that incremental contract acquisition costs of obtaining revenue generating contracts, such as sales commissions paid in connection with system sales with multi-year post-warranty service contracts, would be capitalized and amortized over the ~~customer relationship period~~. Under the current guidance, the Company expenses such costs when incurred. The Company is in the process of calculating the adjustment that would be required for capitalizing the sales commissions to accumulated deficit ~~and completing the analysis and documentation required for the implementation of ASC 606~~ ~~upon adoption of the standard on January 1, 2018.~~

The new revenue standard is principle-based and interpretation of those principles may vary from company to company based on their unique circumstances. It is possible that interpretation, industry practice, and guidance may evolve as companies and the accounting profession work to implement this new standard. As the Company completes its evaluation of this new standard, new information may arise that could change the Company’s current understanding of the impact to revenue and expense recognized. Additionally, the Company will continue to monitor industry activities and any additional guidance provided by regulators, standards setters, or the accounting profession and adjust the Company’s assessment and implementation plans accordingly.

~~The new standard requires comprehensive disclosures of quantitative and qualitative information that enables~~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 isadopted the new revenue standard in the ~~process~~first quarter of ~~preparing~~fiscal year 2018 using the ~~expanded disclosures required~~modified retrospective method. The Company recognized the cumulative effect of applying the new revenue standard as an adjustment to retained earnings. The comparative information has not been restated and continues to be reported under ~~ASC 606.~~the accounting standards in effect for the period presented.

~~Accounting~~See Note 2 – Revenue Recognition, for ~~Leases~~additional accounting policy and transition disclosures.

In ~~February~~August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230), which intends to reduce diversity in practice in how certain cash receipts and cash payments are classified in the statement of cash flows. This guidance is effective for the Company in the first quarter of 2018. The Company adopted the standard in the first quarter of fiscal year 2018. The adoption did not have any material impact on the Company’s consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 320), which amended the guidance on the classification and presentation of restricted cash in the statement of cash flow. The amendment requires entities to include restricted cash and restricted cash equivalents in its cash and cash equivalents in the statement of cash flow. The amendment is effective for the Company in the first quarter of 2018 and is required to be adopted retrospectively. The Company adopted the standard in the first quarter of fiscal year 2018. The adoption did not have any material impact on the Company’s consolidated financial statements.

Other Accounting Pronouncements

In February 2016, the FASB issued ASU No. ~~2016-02,~~2016-02, Leases (Topic ~~842)~~842), which amends the existing accounting standards for leases. The new standard requires lessees to record a right-of-use asset and a corresponding lease liability on the balance sheet (with the exception of short-term leases). The new standard also requires expanded disclosures regarding leasing arrangements. The new standard becomes effective for the Company in the first quarter of fiscal year 2019 and early adoption is permitted. The new standard is required to be adopted using the modified retrospective approach and requires application of the new standard at the beginning of the earliest comparative period presented. The Company ~~generally does not finance purchases~~finances its fleet of ~~equipment or other capital, but does lease some of~~vehicles used by its ~~facilities.~~field sales and service employees and has facility leases. Several of the ~~Company~~’sCompany’s customers finance purchases of its system products through third party lease companies and not directly with the Company. The Company does not believe that the new standard will change customer buying patterns or behaviors for its products. TheThe Company will adopt the new standard effective January 1, 2019. The Company expects that upon adoption, right-of-use assets and lease liabilities will be recognized in the balance sheet in amounts that will be material.

~~Accounting for Income Taxes~~

Note 2. Revenue recognition

In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfer of Assets Other than Inventory, which requires the recognition of the income tax consequences of an intra-entity transfer of an asset, other than inventory, when the transfer occurs. This ASU will be effective for theThe Company ~~in the first quarter of 2018. This ASU is required to be~~ adopted ~~using~~ASC Topic 606, Revenue from Contracts with Customers, on January 1, 2018, applying the modified retrospective ~~approach, with a~~method to all contract agreements 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 for the prior period. A cumulative ~~catch-up~~catch up adjustment was recorded to beginning retained earnings into reflect the ~~period~~impact of ~~adoption. The Company does not believe that adopting this ASU will have a material impact on the financial Statements.~~

~~Adopted Accounting Pronouncement~~

Beginning fiscal year 2017, the Company adopted ASU No. 2016-09, Improvements to Employee Share-based Payment Accounting, which changes among other things, how the tax effects of share-based awards are recognized. ASU No. 2016-09 requires excess tax benefits and tax deficiencies to be recognized in the provision for income taxes as discrete items in the period when the awards vest or are settled, whereas previously such income tax effects were generally recorded as part of additional paid-in capital. The provision for income taxes for the three and nine months ended September 30, 2017, included excess tax benefits of $50,000 and $160,000, respectively. The recognized excess tax benefits resulted from share-based compensation awards primarily associated with employee equity plans that were vested or settled in the three and nine months ended September 30, 2017. This ASU also eliminates the requirement to reclassify cash flows related to excess tax benefits from operating activities to financing activities on the consolidated statements of cash flows. The Company also excluded the related tax benefits when applying the treasury stock method for computing diluted shares outstanding on a prospective basis as required by this ASU. In addition, the Company elected to continue its current practice of estimating expected forfeitures. The amount of excess tax benefits and deficiencies recognized in the provision for income taxes will fluctuate from period to period based on the price of the Company’s stock, the volume of share-based instruments settled or vested, and the value assigned to share-based instrumentsall existing arrangements under ~~GAAP.~~Topic 606.

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~~Significant Accounting Policies~~Upon adoption of the Topic 606, the Company recorded an increase to retained earnings of $5.0 million for contracts still in force as of January 1, 2018 for the following items in the first quarter of 2018:

●

$237,000 reduction in deferred revenue balances for the differences in the amount of revenue recognition for the Company’s revenue streams as a result of allocation of revenue based on standalone selling prices to the Company’s various performance obligations.

●

$151,000 increase in deferred revenue balances, related to the accretion of financing costs for multi-year post-warranty service contracts for customers who pay more than one year in advance of receiving the service. The Company estimated interest expense for such advance payments under the new revenue standard.

	●	$210,000 for variable consideration on sale transactions.
	●	$4.7 million for the capitalization of the incremental contract acquisition costs, such as sales commissions paid in connection with system sales. These contract acquisition costs were capitalized and amortized over the period of anticipated support renewals. Under the prior guidance, the Company expensed such costs when incurred.

The Company’s revenue consists of product and service revenue resulting from the sale of systems, training on the systems, extended service contracts, consumables and other accessories. The Company accounts for a contract with a customer when there is a legally enforceable contract between the Company and the customer, the rights of the parties are identified, the contract has commercial substance, and collectability of the contract consideration is probable. Revenues are recognized when control of the promised goods or services are transferred to our customers, in an amount that reflects the consideration that we expect to receive in exchange for those goods or services.

~~There~~The Company's system sale arrangements generally contain multiple products and services. For these bundled sale arrangements, the Company accounts for individual products and services as separate performance obligations if they are distinct, which is if a product or service is separately identifiable from other items in the bundled package, and if a customer can benefit from it on its own or with other resources that are readily available to the customer. The Company’s system sale arrangements include a combination of the following performance obligations: The System and software license (considered as one performance obligation), system accessories (hand pieces), training, other accessories, extended service contracts and marketing services. For the Company’s system sale arrangements that include an extended service contract, the period of service commences at the expiration of the Company’s standard warranty offered at the time of the system sale. The Company considers the extended service contracts terms in the arrangements that are legally enforceable to be performance obligations. Other than service and training, the Company generally satisfies all of the performance obligations at a point in time. System, system accessories (hand pieces), training, and service are also sold on a stand-alone basis, and related performance obligations are satisfied over time as the services are performed.

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The following table summarizes the effects of adopting Topic 606 on the Company’s condensed consolidated balance sheet as of March 31,2018:

	As reported under Topic 606		Adjustments			Balances under Prior GAAP
	(In thousands)
Other long-term assets		5,367		4,862			505
Accrued Liabilities		20,083		(111	)		20,194
Deferred revenue		11,015		(194	)		10,821
Retained earnings		5,888		5,167			721

The following table summarizes the effects of adopting Topic 606 on Company’s condensed consolidated income statement for the three months ended March 31,2018:

	As reported under Topic 606		Adjustments			Balances under Prior GAAP
	(In thousands, except per share amounts)
Products revenue	$	29,264	$	10		$	29,254
Service revenue		4,861		64			4,797
Sales and marketing		13,088		(185	)		13,273
Interest and other income, net*		98		(65	)		163

* Included in interest and other income, net is the estimated interest expense for advance payment related to contract services under the new revenue standard going forward. Adoption of the standard had no impact to total net cash from or used in operating, investing, or financing activities within the Condensed Consolidated Statements of Cash Flows.

As part of the Company's adoption of ASC 606, the Company elected to use the following practical expedients (i) not to adjust the promised amount of consideration for the effects of a significant financing component when the Company expects, at contract inception, that the period between the Company's transfer of a promised product or service to a customer and when the customer pays for that product or service will be one year or less; (ii) to expense costs as incurred for costs to obtain a contract when the amortization period would have been no ~~additional new~~one year or ~~material changes~~less; (iii) not to ~~the significant accounting policies discussed~~recast revenue for contracts that begin and end in the ~~Company’s Annual Report on Form 10-K for~~same fiscal year; and (iv) not to assess whether promised goods or services are performance obligations if they are immaterial in the ~~fiscal year ended December 31, 2016, that are~~context of ~~significance or potential significance to~~ the ~~Company.~~contract with the customer.

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Note 2. 3.Cash, Cash Equivalents and Marketable Investments

The Company invests its cash primarily in money market funds and in highly liquid debt instruments of U.S. federal and municipal governments and their agencies, commercial paper and corporate ~~notes and bonds, municipal bonds, and~~ debt ~~securities issued by the U.S. government and its agencies. The Company considers~~securities. All highly liquid investments with stated maturities of three months or less from date of purchase are classified as cash equivalents; all highly liquid investments with ~~an original maturity~~stated maturities of greater than three months ~~or less~~are classified as marketable investments. The majority of the Company’s cash and investments are held in U.S. banks and its foreign subsidiaries maintain a limited amount of cash in their local banks to cover their short term operating expenses.

The Company determines the appropriate classification of its investments in marketable securities at the time of purchase ~~to be cash equivalents. Investments with maturities of greater than three months~~and re-evaluates such designation at ~~the time of purchase are~~each balance sheet date. The Company’s marketable securities have been classified and accounted for as ~~“available-for-sale,”~~available-for-sale. Investments with remaining maturities more than one year are viewed by the Company as available to support current operations, and are classified as current assets under the caption marketable investments in the accompanying Consolidated Balance Sheets. Investments in marketable securities are carried at fair value, with the unrealized gains and losses reported as a component of ~~stockholders’ equity,~~stockholders’ equity. Any realized gains or losses on the sale of marketable securities are ~~held for use in current operations~~determined on a specific identification method, and such gains and losses are ~~classified in current assets~~reflected as ~~“marketable investments.”~~a component of interest and other income, net.

The following tables summarize the components, and the unrealized gains and losses position, related to the ~~Company~~’sCompany’s cash, cash equivalents and marketable investments (in thousands):

September 30, 2017	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Market Value
March 31, 2018										Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Market Value
Cash and cash equivalents:
Cash	$	6,703	$	—	$	—		$	6,703	$	10,579	$	—	$	—		$	10,579
Money market funds		1,636		—		—			1,636		331		—		—			331
Commercial paper		6,445		—		—			6,445
Total cash and cash equivalents		14,784		—		—			14,784		10,910		—		—			10,910

Marketable investments:
U.S. government notes		5,133		—		(4	)		5,129		7,110		—		(14	)		7,096
U.S. government agencies		—		—		—			—
Municipal securities		201		—		—			201		201		—		(1	)		200
Commercial paper		15,942		1		(1	)		15,942
Corporate debt securities		14,419		9		(8	)		14,420		5,795		1		(30	)		5,766
Total marketable investments		35,695		10		(13	)		35,692		13,106		1		(45	)		13,062

Total cash, cash equivalents and marketable investments	$	50,479	$	10	$	(13	)	$	50,476	$	24,016	$	1	$	(45	)	$	23,972

December 31, 2016	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Market Value
December 31, 2017										Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Market Value
Cash and cash equivalents:
Cash	$	6,672	$	—	$	—		$	6,672	$	14,058	$	—	$	—		$	14,058
Money market funds		6,053		—		—			6,053		126		—		—			126
Commercial paper		1,050		—		—			1,050
Total cash and cash equivalents		13,775		—		—			13,775		14,184		—		—			14,184

Marketable investments:
U.S. government notes		8,403		4		(9	)		8,398		11,885		—		(15	)		11,870
U.S. government agencies		3,918		—		(2	)		3,916
Municipal securities		1,325		—		—			1,325		201		—		(1	)		200
Commercial paper		12,299		2		(2	)		12,299		1,836		—		(3	)		1,833
Corporate debt securities		14,366		3		(8	)		14,361		7,838		2		(15	)		7,825
Total marketable investments		40,311		9		(21	)		40,299		21,760		2		(34	)		21,728

Total cash, cash equivalents and marketable investments	$	54,086	$	9	$	(21	)	$	54,074	$	35,944	$	2	$	(34	)	$	35,912

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As of ~~September 30, 2017~~ March 31, 2018 and December 31, ~~2016, total gross~~2017, the net unrealized losses were ~~$13,000~~$45,000 and ~~$21,000,~~$34,000, respectively, and were related to interest rate changes on available-for-sale marketable investments. The Company has concluded that it is ~~more- likely- than-~~ more-likely-than-not that the securities will be held until maturity or the recovery of their cost basis. No securities were in an unrealized loss position for more than 12 months.

The following table summarizes the contractual maturities of the ~~Company~~’sCompany’s available-for-sale securities, classified as marketable investments as of ~~September 30, 2017 (in~~March 31, 2018 (in thousands):

	Amount		Amount
Due in less than one year	$	30,410	$	11,867
Due in 1 to 3 years		5,282		1,195
Total marketable investments	$	35,692	$	13,062

Note 3. 4.Fair Value of Financial Instruments

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In determining fair value, the Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible as well as considers counterparty credit risk in its assessment of fair value. Carrying amounts of the Company’s financial instruments, including cash equivalents, accounts receivable, accounts payable and accrued liabilities, approximate their fair values as of the balance sheet dates because of their generally short maturities. The fair value hierarchy distinguishes between ~~(1)~~(1) market participant assumptions developed based on market data obtained from independent sources ~~(observable~~(observable inputs) and ~~(2)~~(2) an entity’s own assumptions about market participant assumptions developed based on the best information available in the circumstances (~~unobservable inputs~~)(unobservable inputs). The fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities ~~(Level 1)~~(Level 1) and the lowest priority to unobservable inputs ~~(Level 3)~~(Level 3). The three levels of the fair value hierarchy are described ~~below:~~below in accordance to ASC 820:

●

● Level 1: Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities.

● Level 2: Directly or indirectly observable inputs as of the reporting date through correlation with market data, including quoted prices for similar assets and liabilities in active markets and quoted prices in markets that are not active. Level 2 also includes assets and liabilities that are valued using models or other pricing methodologies that do not require significant judgment since the input assumptions used in the models, such as interest rates and volatility factors, are corroborated by readily observable data from actively quoted markets for substantially the full term of the financial instrument.

● Level 3: Unobservable inputs that are supported by little or no market activity and reflect the use of significant management judgment. These values are generally determined using pricing models for which the assumptions utilize management’s estimates of market participant assumptions.

~~Level 1:~~ ~~Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities.~~

●

~~Level 2:~~ Directly or indirectly observable inputs as of the reporting date through correlation with market data, including quoted prices for similar assets and liabilities in active markets and quoted prices in markets that are not active. Level 2 also includes assets and liabilities that are valued using models or other pricing methodologies that do not require significant judgment since the input assumptions used in the models, such as interest rates and volatility factors, are corroborated by readily observable data from actively quoted markets for substantially the full term of the financial instrument.

●

~~Level 3:~~ Unobservable inputs that are supported by little or no market activity and reflect the use of significant management judgment. These values are generally determined using pricing models for which the assumptions utilize management’s estimates of market participant assumptions.

In determining fair value, the Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible as well as considers counterparty credit risk in its assessment of fair value.

As of ~~September 30, 2017,~~ March 31, 2018, financial assets measured and recognized at fair value on a recurring basis and classified under the appropriate level of the fair value hierarchy as described above were as follows (in thousands):

September 30, 2017	Level 1		Level 2		Level 3		Total
March 31, 2018									Level 1		Level 2		Level 3		Total
Cash equivalents:
Money market funds	$	1,636	$	—	$	—	$	1,636	$	331	$	—	$	—	$	331
Commercial paper		—		6,445		—		6,445
Marketable investments:
Available-for-sale securities		—		35,692		—		35,692		—		13,062		—		13,062
Total assets at fair value	$	1,636	$	42,137	$	—	$	43,773	$	331	$	13,062	$	—	$	13,393

As of December 31, ~~2016,~~ 2017, financial assets measured and recognized at fair value on a recurring basis and classified under the appropriate level of the fair value hierarchy as described above was as follows (in thousands):

December 31, 2016	Level 1		Level 2		Level 3		Total
December 31, 2017									Level 1		Level 2		Level 3		Total
Cash equivalents:
Money market funds	$	6,053	$	—	$	—	$	6,053	$	126	$	—	$	—	$	126
Commercial paper		—		1,050		—		1,050		—		—		—		—
Marketable investments:
Available-for-sale securities		—		40,299		—		40,299		—		21,728		—		21,728
Total assets at fair value	$	6,053	$	41,349	$	—	$	47,402	$	126	$	21,728	$	—	$	21,854

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The ~~Company~~’sCompany’s Level 1 financial assets are money market funds with fair values that are based on quoted market prices. The Company’s Level 2 investments include U.S. government-backed securities and corporate securities that are valued based upon observable inputs that may include benchmark yields, reported trades, broker/dealer quotes, issuer spreads, ~~two-sided~~two-sided markets, benchmark securities, bids, offers and reference data including market research publications. The ~~weighted~~ average remaining maturity of the Company’s Level 2 investments as of ~~September 30, 2017~~ March 31, 2018 is less than ~~1 year~~7 months and all of these investments are rated by S&P and Moody’s at A-A or better. The Company recognizes transfers between levels of the fair value hierarchy as of the end of the reporting period. There were no transfers within the hierarchy during the quarter and year ended March 31, 2018 and December 31, 2017 respectively.

Note 4. 5.Balance Sheet Details

Inventories

As of ~~September 30, 2017~~ March 31, 2018 and December 31, ~~2016,~~ 2017, inventories consist of the following (in thousands):

	September 30, 2017		December 31, 2016		March 31, 2018		December 31, 2017
Raw materials	$	18,201	$	10,966	$	18,735	$	19,160
Work in process						2,813		2,744
Finished goods		5,527		4,011		9,431		6,878
Total	$	23,728	$	14,977	$	30,979	$	28,782

Accrued Liabilities

As of ~~September 30, 2017~~ March 31, 2018 and December 31, ~~2016,~~ 2017, accrued liabilities consist of the following (in thousands):

	September 30, 2017		December 31, 2016		March 31, 2018		December 31, 2017
Accrued payroll and related expenses	$	10,869	$	9,036	$	9,003	$	12,567
Sales and marketing programs		3,060		706
Sales and marketing accruals						2,136		3,710
Warranty liability		2,940		2,461		3,373		3,508
Sales tax		2,206		2,373		1,718		2,920
Other		3,128		2,821		3,853		4,143
Total	$	22,203	$	17,397	$	20,083	$	26,848

Note 5.6. Warranty

~~The Company provides a standard one-year warranty on all systems. For direct sales to end customers, warranty coverage provided is for labor~~ and parts necessary to repair the systems during the warranty period. For sales to distributors, we provide a 14 to 16 month warranty for parts only. The distributor provides the labor to their end customer.Service Contracts

The Company has a direct field service organization in the U.S. Internationally, the Company provides direct service support through its wholly-owned subsidiaries in Australia, Belgium, Canada, France, Hong Kong, Japan, and Switzerland, as well as through third-party service providers in Spain and the United Kingdom. In several other countries, where it does not have a direct presence, the Company provides service through a network of distributors and ~~third-party~~third-party service providers.

After the original warranty period, maintenance and support are offered on a service contract basis or on a time and materials basis. The Company provides for the estimated cost to repair or replace products under warranty at the time of sale. The following table provides the changes in the product warranty accrual for the three ~~and~~ ~~nine~~ months ended ~~September 30, 2017~~ March 31, 2018 and ~~2016~~2017 (in thousands):

	Three Months Ended						Nine Months Ended						Three Months Ended
	September 30,						September 30,						March 31,
	2017			2016			2017			2016			2018			2017
Beginning Balance	$	2,877		$	2,000		$	2,461		$	1,819		$	3,508		$	2,461
Add: Accruals for warranties issued during the period		959			1,202			5,038			3,634			2,264			2,135
Less: Warranty related expenses during the period		(896	)		(1,102	)		(4,559	)		(3,353	)
Less: Settlements made during the period														(2,399	)		(1,861	)
Ending Balance	$	2,940		$	2,100		$	2,940		$	2,100		$	3,373		$	2,735

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Note 7. Revenue

Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration to which the Company expects to be entitled in exchange for promised goods or services. The Company’s performance obligations are satisfied either over time or at a point in time. Revenue from performance obligations that are transferred to customers over time accounted for approximately 14% of the Company’s total revenue for the three months ended March 31,2018.

The Company's system sale arrangements generally contain multiple products and services. For these bundled sale arrangements, the Company accounts for individual products and services as separate performance obligations if they are distinct, which is if a product or service is separately identifiable from other items in the bundled package, and if a customer can benefit from it on its own or with other resources that are readily available to the customer. The Company’s system sale arrangements include a combination of the following performance obligations: The system and software license (considered as one performance obligation), system accessories (hand pieces), training, other accessories, extended service contracts and marketing services.

For the Company’s system sale arrangements that include an extended service contract, the period of service commences at the expiration of the Company’s standard warranty offered at the time of the system sale. The Company considers the extended service contracts terms in the arrangements that are legally enforceable to be performance obligations. Other than extended contract services and training, the Company satisfies all of the performance obligations at a point in time. System, system accessories (hand pieces), training, and services are also sold on a stand-alone basis, and related performance obligations are satisfied over time as the services are performed. For contracts with multiple performance obligations, the Company allocates the transaction price of the contract to each performance obligation, on a relative basis using its standalone selling price. The stated contract value is the transaction price to be allocated to the separate performance obligations.

Nature of Products and Services

Systems

System revenue represents the sale of a system or an upgrade of an existing system. A system consists of a console that incorporates a universal graphic user interface, a laser and or other energy based module, control system software and high voltage electronics; as well as one or more hand pieces. However, depending on the application, the laser or other energy based module is sometimes contained in the hand piece such as with the Company’s Pearl and Pearl Fractional applications instead of within the console.

The Company considers system and software license as one performance obligation. The system and the software are highly interrelated and interdependent. Both are necessary for the system to work as designed. The customer cannot benefit from the system without the license to the embedded software. The Company offers customers the ability to select the system that best fits their practice at the time of purchase and then to cost-effectively add applications to their system as their practice grows. This provides customers the flexibility to upgrade their systems whenever they choose and provides us with a source of additional Systems revenue.

The Company considers set-up or installation an immaterial promise as set-up or installation for systems other than enlighten system takes only a short time. The related costs to complete set-up or installation are immaterial to the Company. The enlighten system includes the related software license as one performance obligation and the calibration or installation service as a separate performance obligation since a third party could perform this service.

For systems sold directly to end-customers that are credit approved, revenue is recognized when the Company transfers control to the end customer, which occurs when the product is shipped to the customer or when the customer receives the product, depending on the nature of the arrangement. The Company recognizes revenue on cash basis for system sales to other international direct end-customer sales that have not been credit approved, and after satisfying all remaining obligations on the agreement. For systems sold through credit approved distributors, revenue is recognized at the time of shipment. The Company’s system arrangements generally do not provide a right of return. The Company provides a standard one-year warranty coverage for all systems sold to end-customers, to cover parts and service, and offer extended service plans that vary by the type of product and the level of service desired.

The Company typically receives payment for its system consoles and other accessories within 30 days of shipment. Certain international distributor arrangements allow for longer payment terms because of the volume of purchases by these distributors.

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Skincare products

The Company sells third-party manufactured skincare products in Japan. The Company purchases and inventories these third-party skincare products from the manufacturers and sells them to licensed physicians. The Company acts as the principal in this arrangement as it determines the price to charge customers for the skincare products, and controls the products before they are transferred to the customer. The Company warrants that the cosmeceuticals will be free of significant defects in workmanship and materials for 90 days from shipment. Skincare products are typically sold in a separate contract as the only performance obligations. The Company recognizes revenue for skincare products at a point in time, generally upon shipment or delivery.

Consumables (Other accessories)

The Company treats its customer’s purchase of replacement Titan and truSculpt 3D hand pieces as “consumable” revenue, which provides the Company with a source of recurring revenue from existing customers. The Company’s recently launched Juliet and Secret RF products have single use disposable tips which need to be replaced after every treatment. Sale of these consumable tips further enhance the Company’s recurring revenue stream. Hand piece refills of the Company’s legacy truSculpt product are includedin the standard warranty and service contract offerings for this product.

Extended contract services

The Company offers post-warranty services to its customers through extended service contracts that cover preventive maintenance and or replacement parts and labor, or by direct billing for detachable hand piece replacements, parts and labor. These post-warranty services serve as additional sources of recurring revenue from the Company’s installed product base. Service revenue is recognized over time as the customers benefit from the service throughout the service period. Revenue related to services performed on a time-and-materials basis is recognized when performed. For the Company's performance obligations recognized over time, revenue is generally recognized using a time-based measure of progress reflecting generally consistent efforts to satisfy those performance obligations throughout the arrangement term.

Training

Sales of system to customers include training on the system to be provided within 90 days of purchase. The Company considers training as a separate performance obligation as customers can benefit from readily available resources due to the fact that the customer already has the system. If training occurred before the system was delivered, the customer would not have readily available resources and could not benefit from the training. Training is also sold separately from the system. This occurs when customers hire new employees and want the Company to train them on a system the customer already owns. The training is useful in providing an enhanced approach to using the System, so the training also has benefit. The Company recognizes revenue for training over time as the training is provided. As training is not required for customers to use the systems, the Company concludes that it has no effect on the Company’s evaluation of when the risks and rewards of ownership transfer to customers.

Customer Marketing Support

In North America, the Company offers marketing and consulting phone support to its customers who purchase its truSculpt 3D system. This includes a unique marketing program and a customizable practice support kit to help customers inform, inspire and engage their current and prospective patients. This is a personalized program designed to help customers jump-start their practice with truSculpt 3D. It includes a business model and marketing training performed remotely with ongoing phone consultations for six months from date of purchase.

The Company considers this a separate performance obligation, and allocates and recognizes revenue over the six-month term of support. The Company determines the standalone selling price based on cost plus a margin.

Significant Judgments

More judgments and estimates are required under Topic 606 than were required under the previous revenue recognition guidance, Topic 605. Due to the nature of certain contracts, the actual revenue recognition treatment required under Topic 606 for the Company’s arrangements may be dependent on contract-specific terms and may vary in some instances.

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The Company’s contract agreement with customers for system purchases includes the delivery of the system and a nonexclusive, nontransferable license to use such software and/or firmware in connection with customer’s use of the product. The tangible product, including the embedded software, are delivered to the customer at the time of sale. In some circumstances, in conjunction with the purchase of a system or upgrade, customers purchase service contracts for one or more years to cover their products. For these transactions, the following multiple-element arrangement exists: a tangible product delivered to the customer at the inception of the revenue arrangement; and a service contract for delivery of services to the customer over a contractually stated period of time defined in the service contract.

Determining whether licenses and services are distinct performance obligations that should be accounted for separately, or not distinct and thus accounted for together, requires significant judgment. The system and the software are highly interrelated and interdependent. Both are necessary for the system to work as designed. The customer cannot benefit from one without the other. The Company has concluded that systems and the related software license are one performance obligation. The enlighten system includes the related software license as one performance obligation and the calibration/installation service as a separate performance obligation. The calibration/installation is a separate performance obligation for the enlighten system because a knowledgeable third-party could perform this service.

The Company has however concluded that set-up or installation for all other systems (excluding the enlighten system) is perfunctory as the set-up or installation for systems other than enlighten take only a short time, the related costs to complete set-up or installation are immaterial.

Sales of Products to customers include training on the products to be provided within 90 days of purchase. Training is considered a separate performance obligation.

Extended warranty, if included in the agreement, requires the Company to provide extended warranty services for one, two or three years. The Company considers extended warranty as a separate performance obligation.

Skincare products are typically sold in a separate contract as the only performance obligations.

Judgment is required to determine the standalone selling price ("SSP") for each distinct performance obligation. The Company rarely licenses or sells products on a standalone basis, so the Company estimates SSPs for each performance obligation as follows:

enlighten system: SSP is estimated from observable inputs, if available, and if not available, the Company estimates the SSP using cost plus margin.

All other systems: For systems other than truSculpt 3D with marketing program, and other marketing support, SSP is estimated from observable inputs, if available, and if not available, the Company estimates the SSP using cost plus margin. The Company estimates SSP for truSculpt 3D with marketing support using cost plus margin approach; for truSculpt 3D without marketing support, the Company estimates SSP from observable inputs, if available, and if not available, SSP is estimated using cost plus margin.

Training: SSP is estimated from observable inputs when sold on a standalone basis.

Extended warranty: SSP is estimated from observable inputs when sold on a standalone basis (by customer type).

Marketing program (excluding third-party marketing support, which is not considered a performance obligation.): SSP is estimated based on cost plus a margin.

Skincare products: Skincare products are the only performance obligation in the contracts. All product is delivered at the same time, therefore the Company does not have to allocate the transaction price for skincare products.

The Company allocates transaction price and discount to each performance obligation (i.e., system, extended warranty, training) based on the relative SSP of the performance obligation in the contract.

The Company recognizes revenue for all products (systems, accessories, etc.) at a point in time. The software license embedded in the system is a functional license giving the customer the right to use the software as it exists at the time of shipment. Therefore, revenue related to the software license is recognized at a point in time – upon shipment, and the software license does not change the timing of revenue recognition for the system. The Company concluded that it should recognize revenue for extended warranty over the service period on a straight-line basis. The Company also concluded that it should recognize the revenue for the marketing support (excluding third-party marketing) over the committed period for the service. The Company plans to use the invoice practical expedient for services provided on a time and materials basis (i.e., recognize the revenue for services as the time and materials are incurred and invoiced to the customer).

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The Company will combine two or more contracts entered into at or near the same time with the same customer (or related parties of the customer) and account for the contracts as a single contract. If a group of agreements are so closely related that they are, in effect, part of a single arrangement, such agreements are deemed to be one arrangement for revenue recognition purposes. The Company exercises significant judgment to evaluate the relevant facts and circumstances in determining whether the separate agreements should be accounted for separately or as, in substance, a single arrangement. The Company’s judgments about whether a group of contracts comprise a single arrangement can affect the allocation of consideration to the distinct performance obligations, which could have an effect on results of operations for the periods involved.

The Company is required to estimate the total consideration expected to be received from contracts with customers. In limited circumstances, the consideration expected to be received is variable based on the specific terms of the contract or based on the Company’s expectations of the term of the contract. Generally, the Company has not experienced significant returns or refunds to customers. These estimates require significant judgment and the change in these estimates could have an effect on its results of operations during the periods involved.

Contract balance

The Company’s service contracts include an upfront payment for the one, two or three-year contract terms. The timing of receipt of payment and timing of performance of the services create timing differences that result in contract liabilities (deferred revenue) on the Company’s condensed consolidated balance sheet. The advance payments under these contracts are recorded in deferred revenue (contract liability), and the Company recognizes the revenue on a straight-line basis over the period of the applicable contract. Contracted but unsatisfied performance obligations were approximately $11.0 million as of March 31, 2018, of which the Company expects to recognize approximately 80% of the revenue over the next 12 months and the remainder thereafter.

Deferred Sales Commissions

The Company records a contract asset for the incremental costs of obtaining a contract with a customer, including direct sales commissions that are earned upon execution of the contract for its post-warranty service contracts that are capitalized and amortized over the estimated customer relationship period.

The Company uses the portfolio method to capitalize and recognize the amortization expense related to these capitalized costs related to initial contracts and renewals and such expense is recognized over a period associated with the revenue of the related portfolio, which is generally two to three years for the Company’s product and service arrangements. The Company determined that it would apply the one-year practical expedient to sales commissions on systems sales and training because the revenue for these items would be recognized at a point in time (systems) or shortly after the sale is completed (training).

Incremental costs related to initial contracts and renewals are amortized over the same period because the commissions paid on both the initial contract and renewals are commensurate with one another. Total capitalized costs as of March 31,2018 were $4.9 million and are included in other assets in the Company’s condensed consolidated balance sheet. Amortization of these assets was $0.4 million during the three months ended March 31, 2018 and is included in sales and marketing expense in the Company’s condensed consolidated income statement.

Note 6.8. Deferred Service Contract Revenue

The Company generates Service revenue from the sale of extended service contracts and from time and material services provided to customers who are not under a warranty or extended service contract. Service contract revenue is recognized on a straight-line basis over the period of the applicable contract. Service revenue from time and material services is recognized as the services are provided.

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The following table provides changes in the deferred service contract revenue balance for the three months ended March 31, 2018 and ~~nine month ended September 30,~~ 2017 ~~and 2016~~ (in thousands):

	Three Months Ended						Nine Months Ended						Three Months Ended
	September 30,						September 30,						March 31,
	2017			2016			2017			2016			2018			2017
Beginning Balance	$	10,013		$	10,223		$	9,431		$	10,469		$	10,719		$	9,431
Add: Payments received		3,178			2,517			10,290			8,825			2,995			3,391
Less: Revenue recognized		(3,233	)		(3,447	)		(9,763	)		(10,001	)		(3,347	)		(3,267	)
Ending Balance	$	9,958		$	9,293		$	9,958		$	9,293		$	10,367		$	9,555

Costs ~~incurred by the Company~~ for ~~servicing~~ extended service contracts were ~~$1.2 million and $1.7~~$1.9 million for the three months ended ~~September 30,~~March 31, 2018 and 2017, respectively.

*The Company recognized $0.8 million related to training, marketing assistance and installation for the enlighten system related to revenue deferred in 2017 and ~~2016, respectively; and $4.2 million and $4.9 million for~~recognized during the ~~nine months ended September 30, 2017 and 2016, respectively.~~first quarter of 2018.

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Note ~~7. Stockholders~~’9. Stockholders’ Equity and Stock-based Compensation Expense

~~Amended~~In 1998, the Company adopted the 1998 Stock Plan, or 1998 Plan, under which 4,650,000 shares of the Company’s common stock were reserved for issuance to employees, directors and ~~Restated~~consultants. On January 12, 2004,the Board of Directors adopted the 2004 Equity Incentive Plan. A total of 1,750,000 shares of common stock were originally reserved for issuance pursuant to the 2004 Equity Incentive Plan. In addition, the shares reserved for issuance under the 2004 Equity Incentive Plan included shares reserved but un-issued under the 1998 Plan and shares returned to the 1998 Plan as the result of termination of options or the repurchase of shares. In 2012 the stockholders approved a “fungible share” provision whereby each full-value award issued under the 2004 Equity Incentive Plan results in a requirement to subtract 2.12 shares from the shares reserved under the Plan.

The Company’s Board of Directors (“Board”) and stockholders approved the amendment and restatement of the 2004 equity incentive plan (“Amended and Restated 2004 Equity Incentive Plan”) in April and June 2017, respectively. The amendments included the extension of the term of the plan to the date of the annual meeting ofActivity under the Company’s ~~stockholders in 2022, an increase in the number of shares available for future grant by 1,600,000 shares, and other terms of the plan. The Amended and Restated~~ 2004 Equity Incentive Plan, provides for the grant of incentive stock options, non-statutory stock options, restricted stock, restricted stock units ("RSUs"), stock appreciation rights, performance stock units ("PSUs"), performance shares, and other stock or cash awards.

~~Activity under the Company’s Amended and Restated 2004 Equity Incentive Plan for the nine months ended September 30, 2017~~as amended, is summarized as follows:

				Options Outstanding								Options Outstanding
	Shares Available for Grant			Number of Stock Options Outstanding			Weighted- Average Exercise Price		Shares Available for Grant			Number of Stock Options Outstanding			Weighted- Average Exercise Price
Balance as of December 31, 2016		721,657			1,116,472		$	9.56
Additional shares reserved		1,600,000
Balance, December 31, 2017										1,494,866			839,919		$	16.46
Options granted		(154,000	)		154,000			21.82		(14,500	)		14,500			53.90
Stock awards granted^{(1) (2)}		(558,694	)
Stock awards granted⁽¹⁾										(310,275	)		—			—
Options exercised		—			(447,673	)		8.90		—			(66,167	)		9.57
Options canceled		53,393			(53,393	)		16.58		32,438			(32,438	)		15.87
Stock awards canceled⁽¹⁾		110,278								43,990			—			—
Balance as of September 30, 2017		1,772,634			769,406		$	11.91
Balance, March 31, 2018										1,246,519			755,814		$	17.81

~~(1)~~(1)

The Company has a “fungible share” provision in its ~~Amended and Restated~~ 2004 Equity Incentive Plan whereby for each full-value award (RSU/PSU) issued or canceled under the ~~Amended and Restated 2004 Equity Incentive~~ Plan requires the subtraction or ~~addition~~add back of 2.12 shares from or to the ~~shares available~~Shares Available for ~~grant, as applicable.~~Grant, respectively.

~~(2)~~

~~Included in the 'Stock awards granted' total of~~ ~~558,694~~, are 221,540 fungible shares relating to 104,500 of PSUs granted. These PSUs may result in a lower number of shares of common stock that may be released on January 1, 2018, based on PSUs forfeited due to employment terminations and the degree of achievement of two performance goals compared to targets that were pre-determined by the Board and disclosed in a Current Report on Form 8-K filed with the SEC on January 11, 2017.

Under the 2004 Equity Incentive Plan, as amended, the Company issued 156,181 shares of common stock during the three months ended March 31, 2018, in conjunction with stock options exercised and the vesting of RSUs and PSUs.

As of ~~September 30, 2017,~~March 31, 2018, there was approximately $15.7 million of unrecognized compensation expense, net of projected forfeitures, ~~related to non-vested equity awards issued under the Company’s Amended~~for stock options and ~~Restated 2004 Equity Incentive Plan and the 2004 Employee Stock Purchase Plan (“ESPP”),~~ ~~was approximately~~ ~~$4.9 million. This~~stock awards. The expense is expected to be recognized over the remaining weighted-average period of ~~1.88~~2.51 years. The actual expense recorded in the future may be higher or lower based on a number of factors, including, actual forfeitures experienced and the degree of achievement of the performance goals related to the ~~granted PSUs.~~PSUs granted.

~~Pursuant~~2004Employee Stock Purchase Plan

On January 12, 2004, the Board of Directors adopted the 2004 Employee Stock Purchase Plan. Under the 2004 Employee Stock Purchase Plan, or 2004 ESPP, eligible employees are permitted to ~~the Company’s Amended~~purchase common stock at a discount through payroll deductions. The 2004 ESPP offering and ~~Restated~~ purchase periods are for approximately six months. The 2004 ~~Equity Incentive Plan and the~~ ESPP ~~the Company issued the following number of~~has an evergreen provision based on which shares of common stock eligible for purchase are increased on the first day of each fiscal year by an amount equal to the lesser of:

i. 600,000 shares;

ii. 2.0% of the outstanding shares of common stock on such date; or

iii. an amount as determined by the Board of Directors.

Non-Employee Stock-Based Compensation

The Company granted 1,640 RSUs and 1,640 PSUs to one non-employee during the ~~three~~ quarter ended March 31, 2018, and ~~nine months~~7,745 stock options and 2,478 RSUs during the year ended ~~September 30, 2017~~December 31, 2017. The 7,745 stock options vests over 4 years at 25% on the first anniversary of the grant date and ~~2016:~~1/48th each month thereafter.

Three Months Ended

Nine Months Ended

September 30,

September 30,

2017

2016

2017

2016

Stock options
77,511 413,588 447,673 706,522
Stock awards, net of shares withheld to satisfy employees’ minimum income tax withholding
9,881 8,107 152,972 114,832
ESPP
— — 51,185 41,980
Total stock issued
87,392 421,695 651,830 863,334

The 4,118 RSUs vests over 4 years at 25% each anniversary of the grant date, whiles the 1,640 PSUs vesting is subject to the recipient's continued service and achievement of pre-established goals. These RSUs/PSUs and stock options were granted in exchange for consulting services to be rendered and are measured and recognized as they are earned. The Company revalues stock options granted to non-employees at each reporting date as the underlying equity instruments vest.

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~~Stock Repurchase Program~~

On February 8, 2016, the Company announced that Board approved the expansion of its Stock Repurchase Program by $10 million, under which the Company is authorized to repurchase shares of its common stock. As of December 31, 2016, there remained an additional $5.1 million in the Stock Repurchase Program to use for repurchasing the Company’s common stock. On February 13, 2017 and July 28, 2017 the Company’s Board of Directors approved the expansion of its Stock Repurchase Program by an additional $5 million and $25 million, respectively.

~~In the three and nine~~ months ended September 30, 2017, the Company repurchased 184,536 and 518,780 shares of its common stock for approximately $6.7 million and $13.8 million, respectively. As of September 30, 2017, there remained an additional $21.4 million available in the Stock Repurchase Program to repurchase shares of common stock. All shares repurchased were retired and returned to authorized but unissued status.

Stock-based Compensation Expense

Stock-based compensation expense by department recognized during the three ~~and nine~~ months ended ~~September 30, 2017~~ March 31, 2018 and ~~2016,~~2017 were as follows (in thousands):

	Three Months Ended				Nine Months Ended				Three Months Ended
	September 30,				September 30,				March 31,
	2017		2016		2017		2016		2018		2017
Cost of revenue	$	101	$	73	$	377	$	254	$	154	$	129
Sales and marketing		394		239		1,215		844
Employee										452		420
Non-employee										37		-
Research and development		157		131		633		416		191		237
General and administrative		345		127		1,398		1,138		854		609
Total stock-based compensation expense	$	997	$	570	$	3,623	$	2,652	$	1,688	$	1,395

~~Note 8.~~ ~~Lease Termination Income~~

On May 2, 2017, the Company entered into a building lease with the intent to relocate its corporate headquarters to a new facility in Fremont, California. On July 6, 2017, the Company agreed to terminate this lease in return for a lump sum receipt from the lessor of $4.0 million. Simultaneously with the execution of the lease termination, the Company entered into an amendment to its existing lease agreement for the Company to maintain its corporate headquarters in its current facility in Brisbane, California. This amendment extends the term of the lease from December 31, 2017 to January 31, 2023. The $4.0 million is reported as “Lease termination income,” as a component of operating expenses, in the Company’s Condensed Consolidated Statements of Operations for the three and nine month periods ending September 30, 2017.

Note 910. Net ~~Income (Loss)~~Loss Per Share

Basic net income (loss) per share is computed using the weighted-average number of shares outstanding during the period. In periods of net income, diluted shares outstanding include the dilutive effect of in-the-money equity awards (stock options, restricted stock units, performance stock units and employee stock purchase plan contributions), which is calculated based on the average share price for each fiscal period using the treasury stock method. ~~Under~~In accordance with ASC 718, the assumed proceeds under the treasury stock method include the ~~amount~~average unrecognized compensation expense of in-the money stock options and restricted stock units. This results in the ~~employee must pay for~~assumed buyback of additional shares, thereby reducing the dilutive impact of equity ~~award, and the amount of compensation cost for future service that the Company has not yet recognized, are all assumed to be used to repurchase shares.~~ awards.

Diluted earnings per share is the same as basic earnings per share for the periods in which the Company had a net loss because the inclusion of outstanding common stock equivalents would be anti-dilutive.

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The following table sets forth the computation of basic and diluted net income (loss) and the weighted average number of shares used in computing basic and diluted net income (loss) per share (in thousands, except per share data):

Three Months Ended

Nine Months Ended

September 30,

September 30,

2017

2016

2017

2016

Numerator

Net income (loss)
$ 6,188 $ 1,644 $ 7,113 $ (1,636
)
Denominator

Weighted average shares of common stock outstanding used in computing net income (loss) per share, basic
13,973 13,163 13,917 13,102
Dilutive effect of incremental shares and share equivalents
794 381 816 —
Weighted average shares of common stock outstanding used in computing net income (loss) per share, diluted
14,767 13,544 14,733 13,102
Net income (loss) per share:

Net income (loss) per share, basic
$ 0.44 $ 0.12 $ 0.51 $ (0.12
)
Net income (loss) per share, diluted
$ 0.42 $ 0.12 $ 0.48 $ (0.12
)

Three months
ended March 31,
2018

Three months
ended March 31,
2017

Numerator:

Net loss
$ (2,032 ) $ (1,022 )
Denominator:

Weighted-average shares outstanding in basic calculation
13,587 13,840
Add: dilutive effect of potential common shares
— —
Weighted-average shares used in computing diluted net income per share
13,587 13,840
Net loss per share:

Net loss per share, basic and diluted
$ (0.15 ) $ (0.07 )
Basic net loss per share is calculated by dividing net loss by the weighted-average number of common shares outstanding during the year. Diluted net loss per common share is the same as basic net loss per common share, as the effect of the potential common stock equivalents is anti-dilutive and as such is excluded from the calculations of the diluted net loss per share.
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The following numbers of ~~weighted~~ shares outstanding, prior to the application of the treasury stock method, were excluded from the computation of diluted net ~~income (loss)~~loss per common share for the period presented because including them would have had an anti-dilutive effect (in thousands):

Three Months Ended

Nine Months Ended

September 30,

September 30,

2017

2016

2017

2016

Options to purchase common stock
42 1,740 31 1,952
Restricted stock units
— 334 6 395
Performance stock units
— 64 — 81
Employee stock purchase plan shares
— 40 — 83
Total
42 2,178 37 2,511
Three Months Ended
March 31,
2018
2017
Options to purchase common stock
807 1,088
Restricted stock units
396 384
Performance stock units
23 164
Employee stock purchase plan shares
34 49
Total
1,260 1,685

~~Note~~ N10ote 11. Income Taxes

The Company calculates the provision for income taxes during interim reporting periods by applying an estimate of the annual effective tax rate for the full ~~fiscal~~ year to ~~“ordinary”~~"ordinary" income or loss (pretax income or loss excluding unusual or infrequently occurring discrete items) for the reporting period. When applicable, the year-to-date tax provision reflects adjustments from discrete tax items. InThe income tax benefit for the ~~quarter ended December 31, 2016, the Company adopted ASU No. 2016-09, Improvements to Employee Share-Based Payment Accounting. As a result of the adoption of the ASU No. 2016-09, the~~ ~~nine~~three months ended ~~September 30, 2017~~March 31, 2018 reflects a projected income tax ~~provision includes the discrete accounting of the net tax benefit of excess compensation cost (“windfalls”). In the periods prior to the adoption of ASU No. 2016-09, the tax benefit of windfalls~~expense for U.S. and ~~tax deficiencies (“shortfalls”) were recorded~~non-U.S. operations resulting in ~~equity to the extent of previous windfalls, and then to the income statement.~~

~~For the~~ nine- month period ended September 30, 2016, the Company used a discrete effective tax rate method to calculate the provision for income taxes. The Company determined that since small changes in estimated “ordinary” income would result in significant changes in the estimatedan annual effective tax rate applied to the ~~historical method would not provide~~year-to-date ordinary loss. This tax benefit is increased by excess tax benefit generated by stock deductions exercised or vested in the three months ended March 31, 2018. For the three months ended March 31, 2018, the Company's income tax benefit was $2,619,000, compared to a ~~reliable estimate~~tax benefit of $118,000 for the ~~fiscal nine-month~~same period ~~ended September 30, 2016.~~

in 2017.The ~~Company~~’s income tax ~~expense of $225,000 and $166,000~~benefit for the three ~~and nine~~ months ended ~~September 30, 2017, respectively, related primarily to the Company’s U.S. and non-U.S. operations based on the annual effective tax rate method. In addition, it included~~March 31, 2018 includes a tax benefit for excess tax deductions of approximately ~~$50,000 and $160,000~~$1,460,000, recorded discretely in the three and nine months ended September 30, 2017, respectively. The Company’s income tax expense for the three and nine months ended September 30, 2016 was $61,000 and $115,000, respectively, and related primarily to income taxes of the Company’s non-U.S. operations.reporting period.

The Company utilizes the asset and liability method of accounting for income taxes, under which deferred taxes are determined based on the temporary differences between the financial statement and tax basis of assets and liabilities using enacted tax rates expected to be in effect during the years in which the basis differences reverse. A valuation allowance is recorded when it is more likely than not that some of the deferred tax assets will not be realized. As of December 31, 2017, the Company released its valuation allowance against U.S. Federal and all other domestic state net deferred tax assets except for California and Massachusetts. The Company maintained this valuation allowance position through March 31, 2018. Significant management judgment is required in determining any valuation allowance recorded against deferred tax assets. In evaluating the ability to recover deferred tax assets, the Company considered available positive and negative evidence giving greater weight to its recent ~~historical financial results~~cumulative profits and lesser weight to its projected financial results due to the subjectivity involved in forecasting future periods. The Company also considered, commensurate with its objective verifiability, the forecast of future taxable income including the reversal of temporary differences, ~~and~~ the implementation of feasible and prudent tax planning ~~strategies. As of September 30, 2017~~strategies and ~~December 31, 2016~~ the Company had a 100% valuation allowance against its U.S. deferred tax assets. In the near future, as and when the Company concludes that sufficient positive evidence, including its estimate of future taxable income, exists to support a reversal of all or a portionimpact of the ~~valuation allowance, then~~Tax Cuts and Jobs Act of 2017 (the “2017 Tax Act”).

Note 12. Segment reporting

Segment reporting is based on the ~~Company expects~~“management approach,” following the method that ~~a significant portion of any release~~management organizes the company’s reportable segments for which separate financial information is made available to, and evaluated regularly by, the chief operating decision maker in allocating resources and in assessing performance. The Company’s chief operating decision maker ("CODM") is its CEO, and makes decision on allocating resources and in assessing performance. The CODM reviews the Company's consolidated results as one operating segment. In making operating decisions, the CEO primarily considers consolidated financial information, accompanied by disaggregated information about revenues by geography and product. All of the ~~valuation allowance will be recorded as an income tax benefit at~~Company’s principal operations and decision-making functions are located in the ~~time~~United States. The Company’s chief operating decision maker viewed its operations, managed its business, and used one measurement of ~~release,~~profitability for the one operating segment - which ~~will have~~sells aesthetic medical equipment and services, and distributes skincare products, to qualified medical practitioners. Substantially all of the Company’s long-lived assets are located in the U.S.

The following table presents a ~~material impact on~~summary of revenue by geography for the financial statements. Thereafter, the income tax expense recorded in future quarters could also be significantly higher than it has been since fiscal year 2009, when we recorded a valuation allowance for our U.S. deferred tax assets.three months ended March 31, 2018 and 2017:

Three Months Ended
March 31,

Revenue mix by geography: 2018 2017
United States $ 21,136 $ 16,544
Japan 3,555 3,880
Asia, excluding Japan 2,843 3,184
Europe 2,570 2,225
Rest of the world 4,021 3,466
Total consolidaed revenue $ 34,125 $ 29,299

Revenue mix by product category:
Products $ 27,239 $ 22,992
Consumables (Hand Piece Refills) 769 499
Skincare 1,256 984
Total product revenue $ 29,264 $ 24,475
Service 4,861 4,824
Total consolidated revenue $ 34,125 $ 29,299

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Note 11.13. Commitments and Contingencies

Operating Leases~~Lease~~s

The Company leases space for operations in United States, Japan and France. Future minimum lease commitments under the Company’s facility operating leases as of ~~September 30, 2017~~ March 31, 2018 were as follows (in thousands):

Year Ending September 30,	Amount
Year Ending March 31,			Amount
2018	$	2,446	$	2,266
2019		2,677		3,002
2020		2,743		2,937
2021		2,593		2,529
2022		2,477		2,495
2023 and beyond		838		213
Total future minimum lease payments	$	13,774
Total future minimum lease payments			$	13,442

In addition to the above facility leases, the Company also routinely leases automobiles for certain sales and field service employees under operating leases for which the remaining committed lease payments are not material.

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Contingencies

The Company is named from time to time as a party to other legal proceeds product liability, commercial disputes, employee disputes, and contractual lawsuits ~~and other general corporate matters~~ in the normal course of business. ~~The Company routinely assesses~~A liability and related charge are recorded to earnings in the ~~likelihood of any adverse judgments or outcomes related to~~Company’s consolidated financial statements for legal ~~matters and claims, as well as ranges of probable losses. A determination of the amount of the reserves required, if any, for these~~ contingencies ~~is made after analysis of each known issue, historical experience, whether it is more likely than not that the Company shall incur a loss, and whether~~when the loss is ~~estimable. As~~considered probable and the amount can be reasonably estimated. The assessment is re-evaluated each accounting period and is based on all available information, including discussion with outside legal counsel. If a reasonable estimate of ~~September 30, 2017, there were~~ a known or probable loss cannot be made, but a range of probable losses can be estimated, the low-end of the range of losses is recognized if no amount within the range is a better estimate than any other. If a material ~~exposures beyond~~loss is reasonably possible, but not probable and can be reasonably estimated, the ~~amounts accrued~~estimated loss or range of loss is disclosed in the ~~Company's~~notes to the consolidated financial statements. The Company expenses legal fees as incurred.

As of March 31, 2018 and December 31, 2017, the Company had accrued $40,000 and $91,000 respectively, related to various pending contractual and product liability lawsuits. The Company does not believe that a material loss in excess of accrued amounts is ~~not currently a party to any material legal proceedings.~~reasonably possible.

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ITEM 2.

~~MANAGEMENT~~’SMANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

~~Caution Regarding Forward-Looking Statements~~

~~This~~You should read the following management’s discussion and analysis of our financial condition and results of operations in conjunction with our unaudited condensed consolidated financial statements and notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q (“and with our audited financial statements and notes thereto for the year ended December 31, 2017, included in our annual report on Form ~~10-Q”)~~10-K filed on March 26, 2018 with the U.S. Securities and Exchange Commission (SEC).

Special note regarding forward-looking statements

This report contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those discussed in the forward-looking statements. The statements contained in this report that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act ~~of 1933~~ and Section 21E of the Securities Exchange Act of 1934, as amended, ~~(the “Exchange Act”). The Private Securities Litigation Reform Act~~or the Exchange Act. Forward-looking statements are often identified by the use of ~~1995 provides a “safe harbor” for certain forward-looking statements.~~ ~~The~~ words such as, but not limited to, “anticipate,” “believe,” ~~“potential,~~“can,” ~~“forecast,~~“continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “project,” ~~“expect,” “anticipate,” “plan,” “intend,” “foresee,~~“seek,” “should,” ~~“would,~~“strategy,” ~~“could,~~“target,” ~~“may,~~“will,” ~~“estimate,” “project” or other~~“would” and similar expressions ~~are~~or variations intended to identify forward-looking statements. These ~~forward-looking~~ statements are based on the beliefs and assumptions of our current expectations and beliefs concerning future developments and their potential effects on us. There can be no assurance that future developments affecting us will be those that we anticipate. All discussion concerning our expectations for future revenues and operating results aremanagement based on ~~our forecasts for our existing operations. These~~information currently available to management. Such forward-looking statements ~~involve significant~~are subject to risks, uncertainties and ~~uncertainties (some~~other important factors that could cause actual results and the timing of ~~which~~certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are ~~beyond our control)~~not limited to, those identified below and ~~assumptions. They~~those discussed in the section titled “Risk Factors” included under Part II, Item 1A below.

Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements. The statements are subject to change based on various factors, including but not limited to the risks and uncertainties summarized below:

	●	changes in our common stock price;
	●	~~changes in~~the ability of our ~~profitability;~~sales force to effectively market and promote our products, and the extent to which those products gain market acceptance;
	●	~~regulatory activities~~the existence and ~~announcements, including the failure to obtain regulatory~~timing of any product approvals ~~for our new products;~~or changes;
	●	~~effectiveness~~the rate and size of expenditures incurred on our ~~internal controls over financial reporting;~~clinical, manufacturing, sales, marketing and product development efforts;
	●	~~fluctuations in future quarterly operating results;~~
	●	~~failure to comply with, or changes in, laws, regulations or administrative practices affecting government regulation of our products, including, but not limited to, United States~~ ~~Food and Drug Administration laws and regulations;~~
	●	~~failure to establish, expand or maintain market acceptance or payment for the purchase of our products;~~
	●	~~failure to maintain the current regulatory approvals for our indications;~~
	●	~~unfavorable results from clinical studies;~~
	●	~~variations in sales and~~ ~~operating expenses relative to estimates;~~
	●	our ~~dependence on certain suppliers~~ability to obtain and ~~manufacturers to provide certain materials, components and contract services necessary for the production of our products;~~
	●	~~product liability-related losses and costs;~~
	●	~~protection, expiration and validity of our intellectual property;~~
	●	~~changes in technology, including the development of superior or alternative technology or devices by competitors;~~
	●	~~failure to comply with applicable domestic laws and regulations, including federal and state privacy and security laws and regulations;~~
	●	~~failure to comply with foreign laws and regulations;~~
	●	~~international operational and economic risks and concerns;~~
	●	~~failure to attract or~~ retain ~~key~~ personnel;
	●	~~losses or costs from pending or future lawsuits~~the availability of key components, materials and ~~governmental investigations;~~contract services, which depends on our ability to forecast sales, among other things;
	●	~~changes in accounting rules that adversely affect the characterization~~investigations of our ~~consolidated results of income, financial position~~business and business-related activities by regulatory or ~~cash flows;~~other governmental authorities;
	●	~~changes~~variations in ~~customer spending patterns;~~timing and quantity of product orders;
	●	temporary manufacturing interruptions or disruptions;
	●	the timing and success of new product and new market introductions, as well as delays in obtaining domestic or foreign regulatory approvals for such introductions;
	●	increased competition, patent expirations or new technologies or treatments;
	●	product recalls or safety alerts;
	●	litigation, including product liability, patent, employment, securities class action, stockholder derivative, general commercial and other lawsuits;
	●	continued volatility in the global market and worldwide economic ~~conditions;~~conditions, including, but not limited to, the impact of events such as Brexit;
	●	changes in tax laws, including changes due to Brexit, or exposure to additional income tax liabilities;
	●	~~failure~~the financial health of our customers and their ability to ~~adequately secure~~purchase our ~~information technology systems from hacker intrusion, malicious viruses and other cybercrime attacks;~~products in the current economic environment; and
	●	~~weather~~other unusual or ~~natural disasters that interrupt our business operations~~non-operating expenses, such as expenses related to mergers or ~~the business operations of our customers~~.acquisitions, may cause operating result variations.

Other factors that could cause our actual results to differ from our projected results are described in (1) “Part II, Item 1A. Risk Factors” and elsewhere in this Form 10-Q, (2) our Annual Report on Form 10-K for the period ended December 31, 2016 (“2016 Form 10-K”), (3) our reports and registration statements filed and furnished from time to time with the U.S. Securities and Exchange Commission (“SEC”) and (4) other announcements we make from time to time.

~~Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this report.~~ We undertake no obligation to update or revise any forward-looking statements after the date they are made, whether as a result of new information, future events or otherwise. You should read the following discussion and analysis in conjunction with our unaudited Condensed Consolidated Financial Statements and related notes included elsewhere in this report. Operating results for the three and nine months ended September 30, 2017 are not necessarily indicative of future results, including the full fiscal year. You should also refer to our “Annual Consolidated Financial Statements,” “Notes” thereto, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors” contained in our 2016 Form 10-K.

~~Table of Contents~~

Introduction

The ~~Management~~’sManagement’s Discussion and Analysis, or MD&A, is organized as follows:

●

Executive Summary. This section provides a general description and history of our business, a brief discussion of our product lines and the opportunities, trends, challenges and risks we focus on in the operation of our business.

●

Critical Accounting Policies and Estimates. This section describes the key accounting policies that are affected by critical accounting estimates.

●

Results of Operations. This section provides our analysis and outlook for the significant line items on our Condensed Consolidated Statements of Operations.

●

Liquidity and Capital Resources. This section provides an analysis of our liquidity and cash flows, as well as a discussion of our ~~commitments.~~commitments that existed as of March 31, 2018.

Table of Contents

Executive Summary

Company Description

We are a leading medical device company specializing in the research, development, manufacture, marketing and servicing of laser and other ~~energy-based~~energy based aesthetics systems for practitioners worldwide. In addition to internal development of products, we distribute third party sourced products under our own brand names. We offer easy-to-use products which enable physicians and other qualified practitioners to perform safe and effective aesthetic procedures, including treatment ~~of vascular conditions~~for body contouring, skin resurfacing and rejuvenation, tattoo removal, removal of benign pigmented lesions, vascular conditions, hair removal, ~~skin rejuvenation, body contouring, skin resurfacing, tattoo removal and~~ toenail fungus ~~treatment.~~and vaginal health. Our platforms are designed to be easily upgraded to add additional applications and hand pieces, which provide flexibility for our customers as they expand their practices. ~~The sales of systems, system upgrades, hand pieces, hand piece refills (applicable to~~ ~~Titan~~ ~~and~~ ~~truSculpt~~~~) and the distribution of third party manufactured skincare products are classified as “Products” revenue.~~ In addition to ~~Products~~systems and upgrade revenue, we generate revenue from the sale of ~~post-warranty~~post warranty service contracts, ~~parts, detachable hand piece replacements (except~~providing services for~~Titan~~ ~~and~~ ~~truSculpt~~~~) and service labor for the repair and maintenance of~~ products that are out of warranty, ~~all~~hand piece refills, and distribution of ~~which is classified as “Service” revenue.~~third-party manufactured skincare products.

Our ongoing research and development activities are primarily focused on improving and enhancing our portfolio of products. We are exploring ways to expand our product offerings through the launch of new products. We introduced Juliet, a product for women’s health, in December 2017, and Secret RF, a fractional RF microneedling device for skin rejuvenation, in January 2018. Enlighten SR also began sales in the first quarter of 2018.

Our corporate headquarters and U.S. operations are located in Brisbane, California, from where we conduct our manufacturing, warehousing, research and development, regulatory, sales and marketing, service, and administrative activities. We ~~have wholly-owned subsidiaries located~~market, sell and service our products through direct sales and service employees in the U.S., Australia, Belgium, Canada, France, Hong Kong, Japan, Spain, Switzerland and the United Kingdom. ~~We market, sell~~Sales and ~~service our products~~Service outside of ~~the United States~~these direct markets are made through ~~our direct employees, third party service providers, as well as~~ a ~~global~~worldwide distributor network in over 40 countries.

Products and Services

Our revenue is derived from the sale of Products and Services. ~~Our Products~~Product revenue is derived from the sale and upgrade of ~~Systems, Hand~~ ~~Piece Refills (applicable~~systems (classified as “Systems” revenue), sale of replacement hand pieces, as well as single use disposable tips applicable to ~~Titan~~Juliet, Secret RF ~~and~~ ~~truSculpt~~(classified as “Consumables”), and the ~~distribution~~sale of ~~third party manufactured Skincare products. Systems~~skincare products (classified as “Skincare” revenue). System revenue ~~includes~~represents the ~~sales~~sale of ~~new systems and additional applications that customers purchase as their practice grows.~~a system or an upgrade of a system. A system consists of a console that incorporates a universal graphic user interface, a laser and/or other ~~energy-based~~energy based module, control system software and high voltage ~~electronics and~~electronics; as well as one or more hand pieces. However, depending on the application, the laser or other energy based module is sometimes contained in the hand piece such as with our Pearl and PearlFractional applications instead of within the console.

The Company offers customers the ability to select the system that best fits their practice at the time of purchase and then to cost-effectively add applications to their system as their practice grows. This provides customers the flexibility to upgrade their systems whenever they choose and provides us with a source of additional Systems revenue.

Skincare revenue relates to the distribution of ZO’s skincare products in Japan.

Our primary system platforms include:

●

e~~nlighten~~

●

~~excel HR~~

●

~~truSculpt~~

●

~~excel V~~

●

xeo

~~Other than the above mentioned five primary systems, we continue to generate revenue from our legacy products such as~~ ~~GenesisPlus~~^TM, ~~CoolGlide~~^®~~, and a third-party sourced system called~~ ~~myQ~~^® ~~for the Japanese market. We have renewed our distribution contract for the sale of~~ ~~myQ~~ ~~in Japan on a non-exclusive basis through September 30, 2018. For our~~ ~~Titan~~ ~~and~~ excel V, excel HR, enlighten, Juliet, Secret RF, truSculpt hand pieces, after a set number of treatments have been performed, the customer is required to send the hand piece back to the factory for refurbishment, which we refer to as “refilling” the hand piece. In Japan, we also distribute ZO Medical Health Inc. (“ZO”) skincare products.and xeo.

Service revenue relates to amortization of prepaid service contracts, training, enlighten installation, direct billings for detachable hand piece replacements ~~(except for~~ ~~Titan~~ ~~and~~ ~~truSculpt~~) and revenue for parts and labor on out-of-warranty products.

Significant Business Trends

We believe that our ability to grow revenue will be primarily dependent on the following:

●

~~Consumer demand for the applications of our products~~;

●

~~Customer (physicians and other practitioners) demand for our products~~;

●

~~Continuing~~continuing to expand our product offerings ─ both through internal development and sourcing from other ~~vendors~~;vendors;

~~Table of Contents~~

●

~~Ongoing~~ongoing investment in our global sales and marketing ~~infrastructure~~;infrastructure;

●

~~Use~~use of clinical results to support new aesthetic products and ~~applications~~;applications;

●

~~Increased collaboration with key opinion leaders of~~enhanced luminary development and reference selling efforts (to develop a location where our ~~industry~~products can be displayed and used to assist us in selling ~~efforts;~~efforts);

●	customer demand for our products;

●	~~Marketing~~strengthening against the U.S. dollar of key international currencies in which we transact (Australian Dollar, Japanese Yen, Euro, Swiss Franc and British Pound);

●	consumer demand for the application of our products;

●	marketing to physicians in the core dermatology and plastic ~~surgery~~surgeon specialties, as well as outside those ~~specialties~~;specialties; and

●

~~Generating ongoing~~generating recurring revenue from our growing installed base of customers through the sale of ~~systems,~~ system upgrades, services, hand piece refills, skincare products and ~~services.~~replacement tips for Juliet and Secret RF products.

Table of Contents

For a detailed discussion of the significant business trends impacting our business, please see the section titled “Results of Operations” below.

Factors that May Impact Future Performance

Our industry is impacted by numerous competitive, regulatory ~~macroeconomic~~ and other significant factors. Our industry is highly competitive and our future performance depends on our ability to compete successfully. Additionally, our future performance ~~depends on~~ is dependent upon our ability to continue to expand our product offerings ~~develop~~with innovative technologies, obtain regulatory clearances for our products, protect the proprietary technology of our products and our manufacturing processes, manufacture our products cost-effectively, and successfully market and distribute our products in a profitable manner. If we fail to execute on the aforementioned initiatives, our business ~~could~~would be adversely affected. A detailed discussion of these and other factors that could impact our future performance are provided in ~~(1) “Part II,~~Part I, Item ~~1A. Risk~~1A “Risk Factors” and elsewhere in this Form 10-Q, ~~(2)~~(1) our ~~2016~~2017 Form 10-K, ~~(3)~~(2) our reports and registration statements filed and furnished from time to time with the SEC, and ~~(4)~~(3) other announcements we make from time to time.

Critical ~~Accounting Policies~~accounting policies, significant judgments and ~~Estimates~~use of estimates

The Company's management discussion and analysis of financial condition and results of operations are based upon our unaudited condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America, (“U.S. GAAP”). The preparation of ~~our Condensed Consolidated Financial Statements and related disclosures in conformity with GAAP~~these condensed consolidated financial statements requires us to make estimates ~~judgments~~ and ~~assumptions~~judgments that affect the reported amounts of assets, liabilities ~~revenue~~ and expenses. ~~These~~On an ongoing basis, we evaluate our critical accounting policies and estimates. We base our estimates ~~judgments and assumptions are based~~ on historical experience and on various other ~~factors~~assumptions that we believe to be reasonable in the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are ~~reasonable under the circumstances. We periodically review our estimates and make adjustments when facts and circumstances dictate. To the extent that there are material differences between~~not readily apparent from other sources. Actual results may differ from these estimates under different assumptions and ~~actual results,~~conditions. Our significant accounting policies are more fully described in Note 1 of the accompanying unaudited condensed consolidated financial statements and in Note 2 to our audited consolidated financial ~~condition~~statements contained in the Annual Report on Form 10-K filed on March 26, 2018 with the Securities Exchange Commission, or ~~results~~the SEC. With the exception of ~~operations will be affected.~~

~~Critical accounting estimates,~~the change in revenue recognition as ~~defined by~~a result of the ~~SEC, are those that are most important~~adoption of ASC 606, (see Notes 2 and 7) there have been no new or material changes to the ~~portrayal of our financial condition and results of operations and require our management’s most difficult and subjective judgments and estimates of matters that are inherently uncertain. The~~critical accounting policies and estimates that we consider to be critical, subjective, and requiring judgment in their application are summarized in “Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations”discussed in our ~~2016~~Annual Report on Form ~~10-K. There have been no significant changes~~10-K for the fiscal year ended December 31, 2017, that are of significance, or potential significance to the ~~accounting policies and estimates disclosed in our Form 10-K.~~Company.

~~Table of Contents~~

Results of Operations

The following table sets forth selected consolidated financial data for the periods indicated, expressed as a percentage of ~~net~~ total ~~revenue.~~revenue, net. Percentages in this table and throughout our discussion and analysis of financial condition and results of operations may reflect rounding adjustments.

Three Months Ended

Nine Months Ended

September 30,

September 30,

2017

2016

2017

2016

Net revenue
100
%
100
%
100
%
100
%
Cost of revenue
42
%
41
%
43
%
42
%
Gross margin
58
%
59
%
57
%
58
%

Operating expenses:

Sales and marketing
34
%
35
%
35
%
37
%
Research and development
9
%
10
%
9
%
11
%
General and administrative
9
%
9
%
10
%
12
%
Lease termination income
(10
)%
— (3
)%
—
Total operating expenses
42
%
54
%
51
%
60
%

Income (loss) from operations
16
%
5
%
6
%
(2
)%
Interest and other income, net
1
%
1
%
1
%
—
Income (loss) before income taxes
17
%
6
%
7
%
(2
)%

Provision for income taxes
1
%
—
%
—
%
—
%
Net income (loss)
16
%
6
%
7
%
(2
)%
~~Total Net Revenue~~

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in thousands)

2017

% Change

2016

2017

% Change

2016

Revenue mix by geography:

United States
$ 23,275 52
%
$ 15,356 $ 64,058 52
%
$ 42,216
Rest of World
14,898 —

14,925 39,803 5
%
37,965
Consolidated total revenue
$ 38,173 26
%
$ 30,281 $ 103,861 30
%
$ 80,181

United States as a percentage of total revenue
61
%
51
%
62
%
53
%
Rest of World as a percentage of total revenue
39
%
49
%
38
%
47
%

Revenue mix by product category:

Systems – North America
$ 21,869 57
%
$ 13,896 $ 58,955 60
%
$ 36,808
Systems – International
9,993 —

9,983 26,014 6
%
24,448
Total Systems
31,862 33
%
23,879 84,969 39
%
61,256
Service
4,687 (2
)%
4,788 14,173 (1
)%
14,278
Hand Piece Refills
595 (1
)%
602 1,743 (8
)%
1,886
Skincare
1,029 2
%
1,012 2,976 8
%
2,761
Consolidated total revenue
$ 38,173 26
%
$ 30,281 $ 103,861 30
%
$ 80,181
~~Total Net Revenue:~~
~~Our~~ total revenue increased by $7.9 million, or 26%, and $23.7 million, or 30%, in the three and nine months ended September 30, 2017, respectively, compared to the same periods in 2016, due primarily to an increase in the volume of systems sold.
~~Revenue by Geography:~~
~~Our U.S. revenue increased by $~~7.9 million, or 52%, and by $21.8 million, or 52%, in the three and nine months ended September 30, 2017, respectively, compared to the same periods in 2016. This growth was due primarily to an increase in the volume of ~~truSculpt~~ ~~systems sold as a result of the launch of our~~ ~~truSculpt 3D~~ ~~in the second quarter ended June 30, 2017, as well as increased sales headcount, marketing and promotional activities.~~

Three Months Ended

March 31,

2018

2017

Net revenue
100
%
100
%
Cost of revenue
49
%
47
%
Gross margin
51
%
53
%

Operating expenses:

Sales and marketing
38
%
37
%
Research and development
10
%
10
%
General and administrative
16
%
11
%
Total operating expenses
64
%
58
%

Loss from operations
(14
)%
(5
)%
Interest and other income, net
—
%
1
%
Loss before income taxes
(14
)%
(4
)%

Benefit for income taxes
(8
)%
—
%
Net loss
(6
)%
(4
)%

1924
Table of Contents

~~Our~~Revenue
The Company primarily generate revenue ~~outside~~ from the ~~U.S.~~sale of systems, training on the systems, extended service contracts, consumables and other accessories. The timing of our revenue is significantly affected by the mix of system products, installation, training, consumables and extended contract services. The revenue generated in any given period is also impacted by whether the revenue is recognized over time or at a point in time, upon completion of delivery. For an additional description on revenue, see Note 2 in the notes to consolidated financial statements on the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2017 and notes 2 and 7 to the condensed consolidated financial statements.
As of March 31, 2018, approximately 14% of the Company’s revenue is recognized over time, and the remainder of the revenue is recognized upon completion of delivery. Revenue recognized over time includes revenue from the Company’s extended contract services, training, and Installation of the Enlighten systems. Revenue recognized upon delivery is primarily generated by the sales of system products, consumables and skincare.
During the first quarter of fiscal 2018, we recognized revenue based on the ASU 2014-09, “Revenue from Contracts with Customers (Topic 606),” but revenue for the three months ended March 31, 2017 was ~~$14.9 million for each~~recognized based on Topic 605. Therefore, the periods are not directly comparable. For additional information on the impact of the new accounting standard on our revenue, see Notes 2 and 7 in the notes to condensed consolidated financial statements.
Total Net Revenue

Three Months Ended March 31,

(Dollars in thousands)

2018

% Change

2017

Revenue mix by geography:

United States
$ 21,136 28
%
$ 16,544
International
12,989 2 % 12,755
Consolidated total revenue
$ 34,125 16
%
$ 29,299

United States as a percentage of total revenue
62 % 56 %
International as a percentage of total revenue
38 % 44 %

Revenue mix by product category:

Systems – North America
$ 18,944 31
%
$ 14,460
Systems – Rest of World
8,295 (3
)%
8,532
Total Systems
27,239 18
%
22,992
Consumables
769 54
%
499
Skincare
1,256 28
%
984
Total Products
29,264 20 % 24,475
Service
4,861 1
%
4,824
Total Net Revenue
$ 34,125 16
%
$ 29,299
Total Net Revenue:
The Company’s revenue increased by 16% in the three month ~~periods~~period ended ~~September 30, 2017 and September 30, 2016. For the nine months ended September 30, 2017,~~March 31, 2018, compared to the same period in ~~2016,~~2017, due primarily to increased system revenues.
Revenue by Geography:
The Company’s U.S. revenue ~~outside the U.S.~~ increased by ~~$1.8~~$4.6 million, or ~~5%.~~28%, in the three months ended March 31, 2018, compared to the same period in 2017. This ~~growth~~increase was due primarily ~~attributable~~ to new products introduced into the market in January 2018.
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Table of Contents
The Company’s international revenue was relatively flat, increasing by $234,000, or 2%, in the three months ended March 31, 2018, compared to the same period in 2017. The increase was due to growth in ~~Japan, Australia,~~the Company’s business in Europe and the Middle East, partially offset ~~in part~~ by a decline in ~~revenue from Latin America.~~
sales in Asia including Japan.
Revenue by Product Type:

Systems Revenue

Systems revenue in North America increased by $~~7.9~~$4.5 million, or ~~57%, and by $22.2 million, or 60%~~31%, in the three ~~and nine~~ months ended ~~September 30, 2017, respectively, compared to the same periods in 2016. This growth was primarily attributable to an increase in revenue from~~ ~~truSculpt~~ 3D~~, enlighten~~ ~~III~~, xeo~~and~~ ~~excel HR~~ ~~products, offset by a small decline in revenue from~~ ~~excel V~~. In addition, the North America revenue growth was the result of increased sales headcount, higher productivity of our field sales representatives, and the impact of additional marketing and promotional activities.
~~International~~ Systems revenue was $10 million for each of the three months ended September 30, 2017 and September 30, 2016. International Systems revenue increased by $1.6 million, or 6%, in the nine months ended September 30, 2017,March 31, 2018, compared to the same period in ~~2016. This growth~~2017 due to strong sales in Canada and the new products launched during the first quarter of 2018. The rest of the world systems revenue decreased by $237,000 or 3%. The decrease in rest of world revenue was ~~driven~~ primarily ~~by increased revenue from~~ ~~enlighten III~~~~and~~ ~~xeo~~, ~~partially offset by~~a result of a decline in revenue from the Company’s direct business in Asia, including Japan, partially offset by increases in our direct business in Australia, as well as increases in our distributor business in the Middle East, and Europe.
~~excel V~~ Consumables Revenue
Consumables revenue increased by $270,000, or 54%, in the three months ended March 31, 2018, compared to the same period in 2017. The increase in consumables was due to the introduction of Secret RF and Juliet during January 2018, all of which have consumable elements.
Skincare Revenue
The Company’s revenue from Skincare products in Japan increased by $272,000, or 28%, in the three months ended March 31, 2018, compared to the same period in 2017. This increase was due primarily to increased marketing and promotional activities for this distributed product.

Service Revenue

~~Our worldwide~~The Company’s Service revenue ~~was relatively flat~~increased by $37,000, or 1%, in the three ~~and nine~~ months ended ~~September 30, 2017,~~March 31, 2018, compared to the same ~~periods~~period in ~~2016.~~
~~Hand Piece Refills Revenue~~
~~Revenue from o~~ur Hand Piece Refills was flat during the three months ended September 30, 2017, and declined by $143,000 or 8%, in the nine months ended September 30, 2017, compared to the same periods in 2016. This decrease was primarily due to reduced utilization of the ~~Titan~~ ~~hand pieces.~~
~~Skincare Revenue~~
~~Revenue~~ from our Skincare products in Japan was flat during the three months ended September 30, 2017, and increased by $215,000, or 8%, in the nine months ended September 30, 2017, compared to the same periods in 2016.2017. This increase was due primarily ~~due~~to increased sales of system parts to the ~~launch~~Company's network of ~~new product lines as well as increased marketing and promotional activities for this distributed product.~~international distributors.

Gross Profit

Three Months Ended March 31,

(Dollars in thousands)

2018

% Change

2017

Gross profit
$ 17,334 12
%
$ 15,521
As a percentage of total net revenue
51
%
53
%

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in thousands)

2017

% Change

2016

2017

% Change

2016

Gross profit
$ 22,210 25
%
$ 17,743 $ 58,777 27
%
$ 46,222
As a percentage of total net revenue
58
%
59
%
57
%
58
%
~~Our~~The Company’s cost of revenue consists primarily of material, personnel expenses, product warranty costs, and manufacturing overhead expenses. ~~Gross margin~~
The gross profit as a percentage of total revenues was 51% in ~~the three and nine months ended September 30, 2017,~~2018, compared to ~~same periods~~53% in ~~2016, declined slightly~~2017, due primarily to increased material, manufacturing and warranty costs, as well as higher Service personnel costs due ~~to:~~to an investments in additional headcount to fuel future growth.

●
a ~~reduction in the average selling prices in international markets, largely driven by~~ ~~enlighten~~ ~~system sales; and~~
●
i~~ncreased warranty, personnel and overhead costs in support of higher revenue levels; partially offset by~~
●
~~higher~~ ~~margins generated from our~~ ~~truSculpt 3D~~ ~~system launched in North America in May 2017 and in select European countries in September 2017.~~

Sales and Marketing

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in thousands)

2017

% Change

2016

2017

% Change

2016

Sales and marketing
$ 13,148 24
%
$ 10,574 $ 36,708 22
%
$ 30,002
As a percentage of total net revenue
34
%
35
%
35
%
37
%
20
~~Table of Contents~~

Three Months Ended March 31,

(Dollars in thousands)

2018

% Change

2017

Sales and marketing
$ 13,088 21
%
$ 10,773
As a percentage of total net revenue
38
%
37
%

Sales and marketing expenses consist primarily of personnel expenses, expenses associated with customer-attended workshops and trade shows, post-marketing studies, and advertising. Sales and marketing expenses ~~as a percentage~~increased by $2.3 million, and represented 38% of total net revenue ~~declined to~~ ~~34% and 35% during the three and nine months ended September 30, 2017, respectively, compared to 35% and 37% during the three and nine months ended September 30, 2016, respectively. The reduction~~ in ~~sales and marketing expense as a percent of revenue was due primarily to improved leverage of our sales and marketing expenses, as well as an increase in our direct sales employee productivity.~~
~~The $2.6 million, or 24%, increase in sales and marketing expenses during~~ the three months ended ~~September 30, 2017,~~March 31, 2018, compared to 37% in the same period in ~~2016,~~2017. The $2.3 million increase was due primarily to:

●
$~~2.0~~1.8 million net increase in personnel related expenses, ~~largely~~which were driven primarily by ~~increased~~higher headcount and ~~commission expenses~~commissions in ~~support~~North America due to higher revenue;
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Table of Contents
●
$0.4 million of higher ~~revenue levels;~~promotional and product demonstration expenses, primarily in North America; and

●
$~~217,000~~ ~~increased promotional~~0.1 million of consulting costs and travel related expenses ~~primarily~~ in North ~~America;~~America associated with the increased activity and
●
$~~185,000 increased marketing consulting services in the U.S.~~ headcount.

~~Sales and marketing expenses increased by $6.7 million, or 22%, in the nine months ended September 30, 2017, compared to the same period in the prior year, due primarily to:~~
●
$~~4.6 million increase in personnel related expenses, largely driven by increased headcount and commission expenses in support of higher revenue levels;~~
●
$~~781,000 increased promotional expenses, primarily in North America;~~
●
~~$574,000~~ ~~increased marketing consulting services in the U.S.; and~~
●
~~$512,000~~ ~~increased travel related expenses, primarily in North America, resulting from the increased headcount supporting higher revenue levels.~~
Research and Development (“R&D”)

Three Months Ended March 31,

(Dollars in thousands)

2018

% Change

2017

Research and development
$ 3,556 21
%
$ 2,945
As a percentage of total net revenue
10
%
10
%

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in thousands)

2017

% Change

2016

2017

% Change

2016

Research and development
$ 3,467 19
%
$ 2,914 $ 9,393 13
%
$ 8,335
As a percentage of total net revenue
9 % 10
%
9
%
11
%
R&D expenses consist primarily of personnel expenses, clinical research, regulatory and material costs. R&D expenses increased by $~~553,000,~~$611,000, and represented 9%10% of total net revenue, in the three months ended ~~September 30, 2017,~~March 31, 2018, compared to 10% for the same period in ~~2016.~~2017. This increase in expense was due primarily ~~to:~~to increased material and regulatory expenses, as well as personnel and consulting related expenses.

●
$~~336,000 increase in personnel and consulting related expenses due to increased headcount and product development activities; and~~
●
~~$141,000 increased material spending relating to new product development.~~
~~R&D expenses increased by $1.1 million, and represented 9% of total net revenue, in the nine months ended September 30, 2017, compared to 11% for the same period in 2016. This increase in expense was due primarily to:~~
●
$~~749,000 increase in personnel and consulting related expenses due to increased headcount and product development activities; and~~
●
~~$136,000 increased material spending relating to new product development.~~
General and Administrative (“G&A”)

Three Months Ended March 31,

(Dollars in thousands)

2018

% Change

2017

General and administrative
$ 5,439 69
%
$ 3,216
As a percentage of total net revenue
16
%
11
%

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in thousands)

2017

% Change

2016

2017

% Change

2016

General and administrative

$
3,379

24
%

$
2,716

$
10,143

2
%

$
9,933

As a percentage of total net revenue

9
%

9
%

10
%

12
%
21
~~Table of Contents~~
G&A expenses consist primarily of personnel expenses, legal fees, accounting, higher audit and tax consulting fees, and other general and administrative expenses. G&A expenses increased by ~~$663,000~~$2.2 million and represented ~~9% of total net revenue in both the three months ended September 30, 2017 and 2016. The increase in G&A expenses was due primarily to:~~
●
$~~595,000 increase in personnel related expenses due to increased headcount; and~~
●
$~~112,000 increased consulting service fees; partially offset by~~
●
$~~146,000 reduction in legal fees.~~
~~G&A expenses~~ ~~increased by $210,000 and represented 10%~~16% of total net revenue in the ~~nine~~three months ended ~~September 30, 2017,~~March 31, 2018, compared to ~~12%~~11% in the same period in ~~2016, due~~2017. This increase is primarily ~~to:~~
●
$~~720,000 increase in personnel related expenses due primarily to increased headcount;~~
●
$~~471,000 increased consulting service fees; and~~
●
$~~155,000 increased credit card fees as a result of increased North America system revenue; partially offset by~~
●
~~$1.2 million~~ ~~one-time litigation settlement expense and related legal fees associated with a matter settled in the second quarter of 2016, not recurring in 2017.~~
~~Lease Termination Income~~attributable to higher audit and tax fees related to the adoption of ASC 606, as well as increased personnel costs related to increased headcount.

In July 2017, we agreed to terminate the building lease for a new facility in Fremont, California, which was entered into in May 2017. In conjunction with this lease termination, we received a lump sum termination payment of $4.0 million from the landlord.
Interest and Other Income, Net
~~Interest and other income (net), consists of the following:~~

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in thousands)

2017

% Change

2016

2017

% Change

2016

Interest income
$ 145 81
%
$ 80 $ 388 65
%
$ 235
Other income (expense), net
52 (40
)%
86 358 23
%
292
Total interest and other income, net
$ 197 19
%
$ 166 $ 746 42
%
$ 527

Interest and other income, net, ~~increased $31,000~~consists of the following:

Three Months Ended March 31,

(Dollars in thousands)

2018

% Change

2017

Interest and other income, net
$ 98 (64
%)
$ 273
Interest and other income, net, decreased $175,000 in the three months ended ~~September 30, 2017,~~March 31, 2018, compared to the same period in ~~2016.~~2017. This decrease was due primarily to an increase in net foreign exchange losses, interest expense on multi-year contracts with customers related to the adoption of ASC 606 as well as a decrease in interest income from our marketable ~~investments resulting from higher investment balances as well as higher rates of return, partially offset by a reduction in net foreign exchange gains.~~investments.

~~Interest and other income (net) increased $~~219,000 in the nine months ended September 30, 2017, compared to the same period in 2016. This was due primarily to an increase in interest income from our marketable investments resulting from higher investment balance as well as higher rates of return, and increase in vendor discounts for early payments, partially offset by higher interest payments for leased vehicles.
Provision for Income Taxes

Three Months Ended March 31,

(Dollars in thousands)

2018

% Change

2017

Loss before income taxes
$ (4,651
)
308%

$ (1,140
)
Benefit for income taxes
(2,619
)
2119%

(118 )

Three Months Ended September 30,

Nine Months Ended September 30,

(Dollars in thousands)

2017

% Change

2016

2017

% Change

2016

Income (loss) before income taxes
$ 6,413 276
%
$ 1,705 $ 7,279 579
%
$ (1,521
)
Provision for income taxes
225 269
%
61 166 44
%
115
For the three months ended ~~September 30, 2017,~~March 31, 2018, our income tax ~~expense~~benefit was ~~$225,000,~~$2,619,000, compared to ~~$61,000~~a tax benefit of $118,000 in the same period in ~~2016. For the nine months ended September 30, 2017, our income tax expense was $166,000, compared to $115,000 in the same period in 2016.~~
2017. In the three ~~and~~ ~~nine~~ months ended ~~September 30, 2017,~~March 31, 2018, we calculated the provision for income taxes for interim reporting periods by applying an estimate of the "annual effective tax rate" for the full ~~fiscal~~ year to ordinary ~~income. The result related primarily to U.S. alternative minimum taxes as we are able to utilize our net operating losses brought forward. In addition, we recorded discretely~~income or loss for the ~~net~~reporting period. Our income tax benefit offor the three months ended March 31, 2018 reflects a projected income tax expense for U.S. and non-U.S. operations resulting in an annual effective tax rate applied to the year-to-date ordinary loss. The income tax benefit includes excess ~~equity compensation costs (“windfalls”) of approximately $50,000 and $160,000~~tax benefits generated by stock deductions exercised or vested in the three ~~and nine~~ months ended ~~September 30, 2017, respectively.~~March 31, 2018.

For our income tax provision in the three ~~and nine~~ months ended ~~September 30, 2016,~~March 31, 2017, the tax ~~expense~~benefit was primarily related to projected U.S. alternative minimum taxes and income taxes from non-U.S. operations. The income tax benefit resulted from applying the annual effective tax rate by the year-to-date ordinary loss. The projected income tax reflected utilization of ~~our non-U.S. operations as our U.S. operations were~~net operating loss carryforwards. However, the tax effect of such utilization was offset by a change in ~~a loss position and we had a 100%~~ valuation allowance ~~against them. We did not record a year-to-date tax benefit associated with~~for the ~~projected 2016 U.S. tax expense due to historical losses and uncertainties related to the projected income.~~three months ended March 31, 2017.

2227
Table of Contents
Due to the uncertainty regarding the timing and extent of our future profitability, we continue to record a full valuation allowance to offset our U.S. deferred tax assets, which primarily represent future income tax benefits associated with our operating losses because we do not currently believe that the positive evidence outweighs the negative evidence. In the near future, if we conclude that sufficient positive evidence (including our estimate of future taxable income) exists to support a reversal of all or a portion of the valuation allowance, we expect that a significant portion of any release of the valuation allowance will be recorded as an income tax benefit at the time of release, ~~which will have a material impact on our financial statements.~~ ~~In addition, as and when we discontinue recording a valuation allowance against our deferred tax assets, w~~e expect that our income tax expense recorded in future quarters will also be significantly higher than it has been since fiscal year 2009, when we recorded a valuation allowance for our U.S. deferred tax assets.
Liquidity and Capital Resources

Liquidity is the measurement of our ability to meet potential cash requirements, fund the planned expansion of our operations and acquire businesses. Our sources of cash include ~~operating activities,~~operations, stock option exercises, ~~ESPP contributions,~~ and ~~the liquidation of marketable investments.~~employee stock purchases. We actively manage our cash usage and investment of liquid cash to ensure the maintenance of sufficient funds to meet our daily needs. The majority of our cash and investments are held in U.S. banks and our foreign subsidiaries maintain a limited amount of cash in their local banks to cover their short-term operating expenses.

At March 31, 2018 and December 31, 2017, we had 40.3 million and $45.1 million of working capital, and our cash and cash equivalents and marketable investments totaled $23.9 and $35.9 million as of March 31, 2018 and December 31, 2017 respectively. Our combined cash and cash equivalents and marketable investments balance decreased by $11.9 million in the quarter end March 31, 2018 principally due to the settlement of Accrued liabilities, increased inventory purchases related to the increasing demand of our products, and an increase in investments in sales, service and other management headcount to facilitate continued revenue expansion. The following table summarizes our cash and cash equivalents and marketable investments:
Cash, Cash Equivalents and Marketable Investments

The following table summarizes our cash, cash equivalents and marketable investments:

(Dollars in thousands)

September 30,
2017

December 31,
2016

Change

March 31,
2018

December 31,
2017

Change

Cash and cash equivalents
$ 14,784 $ 13,775 $ 1,009 $ 10,910 $ 14,184 $ (3,274
)
Marketable investments
35,692 40,299 (4,607
)
13,062 21,728 (8,666
)
Total
$ 50,476 $ 54,074 $ (3,598
)
$ 23,972 $ 35,912 $ (11,940
)

Cash Flows

Nine Months Ended September 30,

Three Months Ended March 31,

(Dollars in thousands)

2017

2016

2018

2017

Net cash flow provided by (used in):

Operating activities
$ 7,605 $ (2,749
)
$ (10,047
)
$ (3,785
)
Investing activities
4,220 2,050 8,550 3,274
Financing activities
(10,816
)
1,106 (1,777
)
(1,821 )
Net increase (decrease) in cash and cash equivalents
$ 1,009

$ 407
Net decrease in cash and cash equivalents
$ (3,274
)
$ (2,332
)

Cash Flows from Operating Activities
~~Net cash generated from operating activities in the~~ ~~nine months ended September 30, 2017 was $7.6 million, due primarily to:~~
●
$11.4 million generated by net income of $7.1 million, which included a non-recurring $4.0 million of lease termination income, and was further increased by non-cash related items of $3.6 million of stock-based compensation expense and $750,000 in depreciation and amortization expenses;
●
~~$4.8 million of increased cash due to an increase in accrued liabilities as a result of higher personnel and warranty costs;~~
●
~~$3.2 million of increased cash~~ ~~due to an increase in accounts payable as a result of increased material purchases to support higher revenue levels;~~
●
~~$652,000 generated from an increase in deferred revenue; partially offset by~~
●
~~$8.8 million used to increase inventories in support of a greater volume of product sales;~~
●
~~$3.0 million used as a result of increased accounts receivables resulting from the higher revenue; and~~
●
~~$633,000 used to increase other assets and pre-paid expenses.~~

Net cash used in operating activities in the ~~nine~~three months ended ~~September 30, 2016~~March 31, 2018 was ~~$2.7~~$10.0 million, which was due primarily to:

●
$~~1.7~~2.4 million ~~generated~~ ~~by a~~used due to the net loss of ~~$1.6~~$2.0 million ~~offset~~increased by non-cash related items of $(0.4) million consisting primarily of income tax benefit of $2.7 million, stock-based compensation expense ~~and $733,000 in~~of $1.7 million, depreciation expense of $254,000 and amortization ~~expenses;~~
●
~~$1.3 million generated from an increase in accounts payable primarily as a result of higher inventory purchases for the increased volume of business;~~
●
~~$886,000 generated from an increase in accrued liabilities primarily~~expense related to ~~higher personnel expenses; partially offset by~~
23
~~Table of Contents~~
●
~~$4.4 million used to increase inventory;~~capitalized commission costs of $372,000;

●
$1.2 million ~~used~~generated from an increase in ~~deferred revenue resulting primarily from the amortization of deferred service contract revenue; and~~
●
~~$690,000 used to increase other current assets and prepaid expenses primarily related to insurance premiums and future marketing tradeshows.~~
~~Cash Flows from Investing Activities~~
~~We generated net cash of $4.2 million in our investing activities in the nine months ended September 30, 2017, which was attributable primarily to:~~
●
$~~48.8 million in net proceeds from the sales and maturities of marketable investments; partially offset by~~
●
$~~44.2 million of cash used to purchase marketable investments; and~~
●
$~~443,000 of cash used to purchase property, equipment and software.~~
~~We generated net cash of $2.1 million in our investing activities in the nine months ended September 30, 2016, which was attributable primarily to:~~
●
~~$26.3 million in net proceeds from the sales and maturities of marketable investments;~~accounts payable; partially offset by

●
$~~23.9~~6.7 million ~~of cash~~ used to ~~purchase marketable investments;~~pay down the high year-end accrued liabilities balance;
●
$0.9 million provided by accounts receivables;
●
$2.2 million used to increase inventories.
●
$0.4 million used to increase prepaid expenses and other assets ( includes capitalized commission costs of $4.7 million less other increase in prepaid and other expenses); and

●
$~~311,000 of cash used~~0.4 million related to ~~purchase property, equipment and software.~~decrease in deferred revenue
28
Table of Contents
Cash Flows from Investing Activities
The Company generated net cash of $8.6 million in our investing activities in the three months ended March 31, 2018, which was attributable primarily to:
●     $13.0 million in net proceeds from the sales of marketable investments; partially offset by
●     $4.4 million of cash used to purchase marketable investments.
Cash Flows from Financing Activities

Net cash used in financing activities was $~~10.8~~$1.8 million in the ~~nine~~three months ended ~~September 30, 2017,~~March 31, 2018, which was primarily due to:

●
$~~13.8 million used to repurchase common stock;~~
●
$~~1.3~~2.3 million of cash used for taxes paid related to net share settlement of equity awards;
●
$~~274,000 used to pay down our capital lease obligations; partially offset by~~
●
$~~4.6 million of cash generated from the issuance of common stock due to employees exercising their stock options and purchasing stock through the ESPP program.~~
~~Net cash provided by financing activities was $1.1 million in the nine months ended September 30, 2016, which was primarily due to:~~
●
~~proceeds of $6.2 million from the issuance of common stock due to employees exercising their stock options and purchasing stock through the ESPP program; partially offset by~~
●
~~repurchase of common stock for $4.9 million; and~~

●
payments for capital lease obligations of ~~$218,000.~~ $122,000; partially offset by
●
proceeds of $633,000 from the issuance of common stock due to employees exercising their stock options.

Adequacy of ~~Cash Resources~~Cash Resources to ~~Meet Future Needs~~Meet Future Needs

We had cash, cash equivalents, and marketable investments of $~~50.5~~$24.0 million as of ~~September 30, 2017.~~March 31, 2018. For the ~~nine~~first three months ~~ended September 30, 2017,~~of 2018, we financed our operations ~~and stock repurchases~~ through ~~cash generated by our operating activities,~~the sales ~~and maturities~~ of marketable investments and cash from the sale of stock due to employees exercising their stock ~~options and purchasing stock through the ESPP program.~~
~~As of September 30, 2017, we had $21.4 million remaining under our Board approved Stock Repurchase Program.~~options. We believe ~~the~~that our existing ~~capital~~cash resources ~~including cash, cash equivalents and investments of $50.5 million,~~ are sufficient to meet our ~~operating~~anticipated cash needs for working capital and capital ~~requirements~~expenditures for at least the next several ~~years, and enable us to repurchase stock pursuant to our Stock Repurchase Program.~~ years.

~~In July 2017, we agreed to terminate the building lease for a new facility in Fremont, California, entered into in May 2017.~~ In conjunction with this lease termination, we received a lump sum termination payment of $4.0 million from the landlord. Except for the foregoing, cash used to fund our operating activities in certain historical quarters, purchase fixed assets and repurchase our common stock, we are unaware of any other known trends or any known demands, commitments, events or uncertainties, including collectability of our accounts receivable, that will result in, or that are reasonably likely to result in, liquidity increasing or decreasing in any material way.
24
~~Table of Contents~~
Commitments and Contingencies
~~Contractual Obligations~~
~~The following are our contractual obligations, consisting of future minimum lease commitments related to facility~~ ~~leases as of September 30, 2017:~~

Payments Due by Period ($’000’s)

Contractual Obligations

Total

Less Than
1 Year

1-3 Years

3-5 Years

More Than
5 Years

Operating leases
Operating leases
Operating leases 13,774 2,446 $ 5,420 $ 5,070 $ 838
~~In addition to~~During the ~~above facility leases, we also routinely lease automobiles for certain sales and field service employees under operating leases for which the remaining committed lease payments are not material.~~
~~Except as set forth above,~~three months ended March 31, 2018, there ~~have been~~were no material changes to our commitments and contingencies ~~from those disclosed~~described under Management’s Discussion and Analysis of Financial Condition and Results of Operations in ~~our 2016~~the Annual Report on Form ~~10-K.~~10-K for the year ended December 31, 2017, filed with the SEC on March 26, 2018.

ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

~~There have been no material changes to~~A summary of the ~~Company~~’skey market ~~risk during~~risks facing the ~~nine months ended September 30, 2017.~~Company is disclosed below. For a detailed discussion, please see our Annual Report on Form 10-K for the year ended December 31, 2017, filed with the SEC on March 26, 2018.
Interest Rate Fluctuations
The Company holds cash equivalents as well as short-term and long-term fixed income securities. The Company’s investment portfolio includes fixed and floating rate securities. Changes in interest rates could impact our anticipated interest income. Fixed rate securities may have their fair market value adversely impacted due to fluctuations in interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, our future investment income may fall short of expectation due to changes in interest rates or we may suffer losses in principal if forced to sell securities which have declined in market value due to changes in interest rates. The primary objective of our investment activities is to preserve principal while at the same time maximizing yields without significantly increasing risk. To achieve this objective, we invest in debt instruments of the ~~Company’s~~U.S. Government and its agencies and municipal bonds, high grade corporate bonds, commercial paper, CDs and money markets, and, by policy, restrict our exposure to ~~market risk, refer~~any single type of investment or issuer by imposing concentration limits. To minimize the exposure due to adverse shifts in interest rates, we maintain investments at a weighted average maturity of generally less than eighteen months. Based on discounted cash flow modeling with respect to our total investment portfolio as of March 31, 2018, assuming a hypothetical increase in interest rates of one percentage point, the fair value of our total investment portfolio would potentially decline by approximately $66,000.
Inflation
The Company does not believe that inflation has had a material effect on our business, financial condition, or results of operations. If our costs were to become subject to significant inflationary pressures, we may not be able to fully offset such higher costs through price increases. Our inability or failure to do so could harm our business, financial condition, and results of operations.
Foreign Exchange Fluctuations:
The Company generates revenue in Japanese Yen, Euros, Australian Dollars, Canadian Dollars, British Pounds and Swiss Francs. Additionally, a portion of our operating expenses and assets and liabilities are denominated in each of these currencies. Therefore, fluctuations in these currencies against the U.S. dollar could materially and adversely affect our results of operations upon translation of The Company’s ~~market risk disclosures set forth~~revenue denominated in ~~Part II, Item 7A, “Quantitative and Qualitative Disclosures About Market Risk”~~these currencies, as well as the remeasurement of ~~the 2016 Form 10-K.~~our international subsidiaries’ financial statements into U.S. dollars
29
Table of Contents
The Company has historically not engaged in hedging activities relating to our foreign currency denominated transactions, given we have a natural hedge resulting from our foreign cash receipts being utilized to fund our respective local currency expenses

ITEM 4.     CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures
An evaluation as of March 31, 2018 was carried out under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our “disclosure controls and procedures.” Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended, or the “Exchange Act,” defines “disclosure controls and procedures” as controls and other procedures of a company that are designed to ensure that the information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at March 31, 2018.

Attached as exhibits to this Quarterly Report are certifications of our Chief Executive Officer (“CEO”) and ~~consultant~~ Chief Financial Officer (“CFO”), which are required in accordance with Rule 13a-14 of the Securities Exchange Act of 1934, as amended (“Exchange Act”). This Controls and Procedures section includes the information concerning the controls evaluation referred to in the certifications, and it should be read in conjunction with the certifications for a more complete understanding of the topics presented.

We conducted an evaluation of the effectiveness of the design and operation of its disclosure controls and procedures (as defined in the Rules 13a-15(e) and 15d-15(e) under the Exchange Act) (“Disclosure Controls”) as of the end of the period covered by this Report required by Exchange Act Rules 13a-15(b) or 15d-15(b). The controls evaluation was conducted under the supervision and with the participation of our management, including the CEO and CFO. Based on this evaluation, the CEO and CFO have concluded that as of the end of the period covered by this report the disclosure controls and procedures were effective at a reasonable assurance level.
~~Definition of Disclosure Controls~~
Disclosure Controls are controls and procedures designed to reasonably assure that information required to be disclosed in our reports filed under the Exchange Act, such as this Report, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure Controls are also designed to reasonably assure that such information is accumulated and communicated to our management, including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure. Our Disclosure Controls include components of internal control over financial reporting, which consists of control processes designed to provide reasonable assurance regarding the reliability of its financial reporting and the preparation of financial statements in accordance with generally accepted accounting principles in the U.S. To the extent that components of our internal control over financial reporting are included within Disclosure Controls, they are included in the scope of our annual controls evaluation.
25
~~Table of Contents~~
~~Limitations on the Effectiveness of Controls~~
Our management, including the CEO and CFO, does not expect that our disclosure controls or internal control over financial reporting will prevent all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision making can be faulty and that breakdowns can occur because of simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting ~~that occurred~~ during the ~~most recent fiscal quarter~~three-month period ended March 31, 2018 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Limitations on the Effectiveness of Controls
A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues, if any, within a company have been detected. Accordingly, our disclosure controls and procedures are designed to provide reasonable, not absolute, assurance that the objectives of our disclosure control system are met. As set forth above, our Chief Executive Officer and Chief Financial Officer have concluded, based on their evaluation as of the end of the period covered by this report, that our disclosure controls and procedures were effective to provide reasonable assurance that the objectives of our disclosure control system were met.
PART II. OTHER INFORMATION

ITEM 1.
LEGAL PROCEEDINGS

~~We are named from~~From time to time, asThe Company may be involved in legal and administrative proceedings and claims of various types. For a ~~party~~description of The Company’s material pending legal and regulatory proceedings and settlements refer to ~~product liability~~Note 12 to the Company’s consolidated financial statements entitled “Litigation and ~~contractual lawsuits~~Related Matters,” in the ~~normal course of business. We routinely assess~~Annual Report on Form 10-K for the ~~likelihood of any adverse judgments or outcomes related to legal matters and claims, as well as ranges of probable losses. A determination of~~year ended December 31, 2017, filed with the amount of the reserves required, if any, for these contingencies is made after analysis of each known issue, historical experience, whether it is more likely than not that we shall incur a loss, and whether the loss is estimable. We are not currently a party to any material legal proceedings.SEC on March 26, 2018.

ITEM 1A.
RISK FACTORS

~~Our~~The Company’s business faces many risks. Any of the risks referenced in this Form 10-Q or ~~our~~the Company’s other SEC filings could have a material impact on our business and consolidated financial position or results of operations. Additional risks and uncertainties not presently known to us or that we currently believe to be immaterial may also impair our business operations.

There have been no material changes in the risk factors set forth in Part I, Item 1A, “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017. For detailed discussion of risk factors that should be understood by any investor contemplating investment in our stock, please refer to “Part I. Item 1A. Risk Factors” in our ~~2016~~2017 Form 10-K and elsewhere in this Form 10-Q.

~~Our ability to reverse all or any part~~
30
Table of ~~the valuation allowance against our U.S. deferred tax assets is uncertain.~~
Contents

~~We have recorded a full valuation allowance against our U.S. deferred tax assets due to the uncertainty of the ultimate realization of the future benefits of those assets.~~ To the extent we determine that all, or a portion of, our valuation allowance is no longer necessary, we will reverse the valuation allowance and recognize an income tax benefit in the reported financial statement earnings in that period. Once the valuation allowance is eliminated or reduced, its reversal will no longer be available to offset our current financial statement tax provision in future periods. We believe that there is a possibility that, within the next 3-12 months, sufficient positive evidence may become available to allow us to reach a conclusion that a significant portion of the valuation allowance will no longer be needed. Release of the valuation allowance would result in the recognition of certain deferred tax assets and a decrease to income tax expense for the period the release is recorded. However, the exact timing and amount of the valuation allowance release are subject to change on the basis of the level of profitability that we are able to actually achieve. Due to significant estimates used to determine the valuation allowance and the potential for changes in facts and circumstances, the Company cannot guarantee that it will be able to reverse all or any of the valuation allowance or that the Company will not need to increase its deferred tax asset valuation allowance in the future.
ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

~~The following table summarizes the activity related to stock repurchases for the three~~ ~~months ended September 30, 2017~~ ~~(in thousands except per share data)~~:None.

Period

Total Number
of Shares
Purchased

Average Price
Paid
per Share

Total Number of
Shares Purchased
as Part of
Publicly Announced
Plans or Programs

Approximate
Dollar Value
of Shares
That May Yet
Be Purchased
Under the Plans
or Program

July 1-31, 2017

—

—

—

28,110

August 1-31, 2017

109

34.71

109

24,340

September 1-30, 2017

76

38.99

76

21,380

July 1, 2017 - September 30, 2017

185

$
36.47

185

$
21,380

26
~~Table of Contents~~
ITEM 3.
DEFAULTS UPON SENIOR SECURITIES

~~As of December 31, 2016, we had $5.1 million available in our Stock Repurchase Program.~~ ~~On February 13, 2017 and July 28, 2017, our Board of Directors approved an incremental $5 million and $25 million, respectively, to be added to the Stock Repurchase Program.~~None.

ITEM 4.
MINE SAFETY DISCLOSURES
In the three months ended September 30, 2017, we repurchased 184,536 shares for approximately $6.7 million, or $36.47 per share, and retired and returned them to an authorized but unissued status. As of September 30, 2017, $21.4 million remained available for future repurchases of our stock.
None.

27
~~Table of Contents~~
ITEM 5.
OTHER INFORMATION
None.

ITEM 6.     EXHIBITS

Exhibit
No.

Description
~~3.4~~3.2
⁽¹⁾
~~Bylaws~~Amended and Restated Certificate of Incorporation of the ~~Company.~~Registrant (Delaware).

~~3.5~~3.4
⁽⁵⁾⁽¹⁾
~~Second Amended and Restated Certificate of Incorporation~~Bylaws of the ~~Company (as filed with the state of Delaware).~~Registrant.

4.1
⁽²⁾
Specimen Common Stock certificate of the ~~Company.~~Registrant.

~~10.26~~10.14
⁽³⁾
~~Lease termination agreement relating to 6530 Paseo Padre Parkway Fremont, California,~~ ~~dated July 6, 2017 by~~Cutera, Inc. 2004 Amended and ~~between the Company and SI 28, LLC.~~
~~10.27~~ ⁽⁴⁾
~~Second Amendment to Brisbane Technology Park Lease dated July 6, 2017 by and between the Company and BMR-BAYSHORE BOULEVARD LP.~~
~~10.28~~ ⁽⁵⁾ ~~Transition Agreement dated July 12, 2017 by and between the Company and Ronald J. Santilli.~~
~~10.29~~ ⁽⁵⁾
~~Consulting Agreement dated July 12, 2017 by and between the Company and Sandra A. Gardiner~~Restated Equity Incentive Plan.

31.1

Certification of ~~the~~ Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2

Certification of ~~the~~ Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1

Certification of ~~the~~ Chief Executive Officer and ~~the~~ Chief Financial Officer pursuant to 18 U.S.C Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101.ins

~~XBRL~~ Instance Document

101.sch

XBRL Taxonomy Extension Schema Document

101.cal

XBRL Taxonomy Extension Calculation Linkbase Document

101.def

XBRL Taxonomy Extension Definition Linkbase Document

101.lab

XBRL Taxonomy Extension Label Linkbase Document

101.pre

XBRL Taxonomy Extension Presentation Linkbase Document

(1)
Incorporated by reference from our ~~Current Report~~Registration Statement on Form ~~8-K filed~~S-1 (Registration No. 333-111928) which was declared effective on ~~January 8, 2015.~~ March 30, 2004.
(2)
Incorporated by reference from our Annual Report on Form 10-K filed with the SEC on March 25, 2005.
(3)
~~Filed as Exhibit 10.26 to the Company’s Quarterly Report~~Incorporated by reference from our Definitive Proxy Statement on Form ~~10-Q~~14A filed with the SEC on ~~August~~ April 27 ~~2017, and incorporated by reference.~~
~~(4)~~, 201
~~Filed as Exhibit 10.27 to the Company’s Quarterly Report on Form 10-Q filed with the SEC on August 7, 2017, and incorporated by reference.~~5
~~(5)~~
~~Filed herewith.~~.

2831
Table of Contents

SIGNATURE

Pursuant to the requirements of Section 13 or 15(d) of ~~the~~The Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the city of Brisbane, State of California, on the ~~7th~~9th day of ~~November, 2017.~~May, 2018.

CUTERA, INC.

/S/ SANDRA A. GARDINER

Sandra A. Gardiner

~~Consultant~~Executive Vice President and Chief Financial Officer

(Principal Financial and Accounting Officer)

2932

	Three months ended March 31, 2018			Three months ended March 31, 2017
Numerator:
Net loss	$	(2,032	)	$	(1,022	)
Denominator:
Weighted-average shares outstanding in basic calculation		13,587			13,840
Add: dilutive effect of potential common shares		—			—
Weighted-average shares used in computing diluted net income per share		13,587			13,840
Net loss per share:
Net loss per share, basic and diluted	$	(0.15	)	$	(0.07	)

	Three Months Ended March 31,
Revenue mix by geography:	2018		2017
United States	$	21,136	$	16,544
Japan		3,555		3,880
Asia, excluding Japan		2,843		3,184
Europe		2,570		2,225
Rest of the world		4,021		3,466
Total consolidaed revenue	$	34,125	$	29,299

Revenue mix by product category:
Products	$	27,239	$	22,992
Consumables (Hand Piece Refills)		769		499
Skincare		1,256		984
Total product revenue	$	29,264	$	24,475
Service		4,861		4,824
Total consolidated revenue	$	34,125	$	29,299

	Three Months Ended September 30,									Nine Months Ended September 30,
(Dollars in thousands)	2017			% Change			2016			2017			% Change			2016
Revenue mix by geography:
United States	$	23,275			52	%	$	15,356		$	64,058			52	%	$	42,216
Rest of World		14,898			—			14,925			39,803			5	%		37,965
Consolidated total revenue	$	38,173			26	%	$	30,281		$	103,861			30	%	$	80,181

United States as a percentage of total revenue		61	%					51	%		62	%					53	%
Rest of World as a percentage of total revenue		39	%					49	%		38	%					47	%

Revenue mix by product category:
Systems – North America	$	21,869			57	%	$	13,896		$	58,955			60	%	$	36,808
Systems – International		9,993			—			9,983			26,014			6	%		24,448
Total Systems		31,862			33	%		23,879			84,969			39	%		61,256
Service		4,687			(2	)%		4,788			14,173			(1	)%		14,278
Hand Piece Refills		595			(1	)%		602			1,743			(8	)%		1,886
Skincare		1,029			2	%		1,012			2,976			8	%		2,761
Consolidated total revenue	$	38,173			26	%	$	30,281		$	103,861			30	%	$	80,181

	Three Months Ended March 31,
(Dollars in thousands)	2018		% Change			2017
Interest and other income, net	$	98		(64	%)	$	273

(Dollars in thousands)	September 30, 2017		December 31, 2016		Change			March 31, 2018		December 31, 2017		Change
Cash and cash equivalents	$	14,784	$	13,775	$	1,009		$	10,910	$	14,184	$	(3,274	)
Marketable investments		35,692		40,299		(4,607	)		13,062		21,728		(8,666	)
Total	$	50,476	$	54,074	$	(3,598	)	$	23,972	$	35,912	$	(11,940	)

	Nine Months Ended September 30,						Three Months Ended March 31,
(Dollars in thousands)	2017			2016			2018			2017
Net cash flow provided by (used in):
Operating activities	$	7,605		$	(2,749	)	$	(10,047	)	$	(3,785	)
Investing activities		4,220			2,050			8,550			3,274
Financing activities		(10,816	)		1,106			(1,777	)		(1,821	)
Net increase (decrease) in cash and cash equivalents	$	1,009		$	407
Net decrease in cash and cash equivalents							$	(3,274	)	$	(2,332	)

Period	Total Number of Shares Purchased		Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs		Approximate Dollar Value of Shares That May Yet Be Purchased Under the Plans or Program
July 1-31, 2017		—		—		—		28,110
August 1-31, 2017		109		34.71		109		24,340
September 1-30, 2017		76		38.99		76		21,380
July 1, 2017 - September 30, 2017		185	$	36.47		185	$	21,380

Exhibit No.		Description
~~3.4~~3.2	⁽¹⁾	~~Bylaws~~Amended and Restated Certificate of Incorporation of the ~~Company.~~Registrant (Delaware).

~~3.5~~3.4	⁽⁵⁾⁽¹⁾	~~Second Amended and Restated Certificate of Incorporation~~Bylaws of the ~~Company (as filed with the state of Delaware).~~Registrant.

4.1	⁽²⁾	Specimen Common Stock certificate of the ~~Company.~~Registrant.

~~10.26~~10.14	⁽³⁾	~~Lease termination agreement relating to 6530 Paseo Padre Parkway Fremont, California,~~ ~~dated July 6, 2017 by~~Cutera, Inc. 2004 Amended and ~~between the Company and SI 28, LLC.~~

~~10.27~~	⁽⁴⁾	~~Second Amendment to Brisbane Technology Park Lease dated July 6, 2017 by and between the Company and BMR-BAYSHORE BOULEVARD LP.~~

~~10.28~~	⁽⁵⁾	~~Transition Agreement dated July 12, 2017 by and between the Company and Ronald J. Santilli.~~

~~10.29~~	⁽⁵⁾	~~Consulting Agreement dated July 12, 2017 by and between the Company and Sandra A. Gardiner~~Restated Equity Incentive Plan.

31.1		Certification of ~~the~~ Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification of ~~the~~ Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1		Certification of ~~the~~ Chief Executive Officer and ~~the~~ Chief Financial Officer pursuant to 18 U.S.C Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101.ins		~~XBRL~~ Instance Document

101.sch		XBRL Taxonomy Extension Schema Document

101.cal		XBRL Taxonomy Extension Calculation Linkbase Document

101.def		XBRL Taxonomy Extension Definition Linkbase Document

101.lab		XBRL Taxonomy Extension Label Linkbase Document

101.pre		XBRL Taxonomy Extension Presentation Linkbase Document

	(3)	~~Filed as Exhibit 10.26 to the Company’s Quarterly Report~~Incorporated by reference from our Definitive Proxy Statement on Form ~~10-Q~~14A filed with the SEC on ~~August~~ April 27 ~~2017, and incorporated by reference.~~
	~~(4)~~, 201	~~Filed as Exhibit 10.27 to the Company’s Quarterly Report on Form 10-Q filed with the SEC on August 7, 2017, and incorporated by reference.~~5
	~~(5)~~	~~Filed herewith.~~.

	CUTERA, INC.

	/S/ SANDRA A. GARDINER
	Sandra A. Gardiner
	~~Consultant~~Executive Vice President and Chief Financial Officer
	(Principal Financial and Accounting Officer)