Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

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Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

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MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

Management’s Responsibility for Preparation of the Financial Statements

Management is responsible for the preparation of the consolidated financial statements included in this Annual Report on Form 10-K. The consolidated financial statements were prepared in accordance with the accounting principles generally accepted in the United States of America and include amounts that are based on the best estimates and judgments of management. The other financial information contained in this Annual Report on Form 10-K is consistent with the consolidated financial statements.

Management’s Report on Internal Control Over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control system is designed to provide reasonable assurance concerning the reliability of the financial data used in the preparation of the Company’s consolidated financial statements, as well as reasonable assurance with respect to safeguarding the Company’s assets from unauthorized use or disposition.

All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement presentation and other results of such systems.

Management conducted an evaluation of the effectiveness of the Company’s internal control over financial reporting as of June 30, 2018. In making this evaluation, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control – Integrated Framework (2013). Management’s evaluation included reviewing the documentation of its controls, evaluating the design effectiveness of controls and testing their operating effectiveness. Management excluded from the scope of its assessment of internal control over financial reporting the operations and related assets of Kaiam Laser Limited, Inc., which was acquired in August 2017. The recent acquisition excluded from management’s assessment of internal controls over financial reporting represented approximately $107.2 million and $98.1million of total assets and net assets, respectively, as of June 30, 2018 and approximately $3.4 million and $12.5 million of total revenues and net loss, respectively, for the fiscal year then ended. Based on the evaluation, management concluded that as of June 30, 2018, the Company’s internal controls over financial reporting were effective.

Ernst & Young LLP, an independent registered public accounting firm, has issued its report on the effectiveness of our internal control over financial reporting as of June 30, 2018. Its report is included herein.

Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of II-VI Incorporated and Subsidiaries

Opinion on Internal Control over Financial Reporting

We have audited II-VI Incorporated and Subsidiaries’ internal control over financial reporting as of June 30, 2018, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). In our opinion, II-VI Incorporated and Subsidiaries (the Company) maintained, in all material respects, effective internal control over financial reporting as of June 30, 2018, based on the COSO criteria.

As indicated in the accompanying Management’s Report on Internal Control Over Financial Reporting, management’s assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal controls of Kaiam Laser Limited, Inc., which is included in the June 30, 2018 consolidated financial statements of the Company and constituted $107.2 million and $98.1 million of total and net assets, respectively, as of June 30, 2018 and $3.4 million and $12.5 million of revenues and net loss, respectively, for the fiscal year then ended. Our audit of internal control over financial reporting of the Company also did not include an evaluation of the internal control over financial reporting of Kaiam Laser Limited, Inc.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of June 30, 2018 and 2017, the related consolidated statements of earnings, comprehensive income, shareholders’ equity and cash flows for each of the three years in the period ended June 30, 2018, and the related notes and the financial statement schedule listed in the Index at Item 15(a)(2) and our report dated August 28, 2018 expressed an unqualified opinion thereon.

Basis for Opinion

The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.

Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

Definition and Limitations of Internal Control Over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

/s/ Ernst & Young LLP

Pittsburgh, Pennsylvania

August 28, 2018

Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of II-VI Incorporated and Subsidiaries

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of II-VI Incorporated and Subsidiaries (the Company) as of June 30, 2018 and 2017, the related consolidated statements of earnings, comprehensive income, shareholders’ equity and cash flows for each of the three years in the period ended June 30, 2018, and the related notes and the financial statement schedule listed in the Index at Item 15(a)(2) (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at June 30, 2018 and 2017, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2018, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of June 30, 2018, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated August 28, 2018 expressed an unqualified opinion thereon.

Basis for Opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

/s/ Ernst & Young LLP

We have served as the Company’s auditor since 2008.

Pittsburgh, Pennsylvania

August 28, 2018

II-VI Incorporated and Subsidiaries

Consolidated Balance Sheets

($000)

June 30,20182017
Assets
Current Assets
Cash and cash equivalents$247,038$271,888
Accounts receivable - less allowance for doubtful accounts of $837 at June 30, 2018 and $1,314 at June 30, 2017215,032193,379
Inventories248,268203,695
Prepaid and refundable income taxes7,8456,732
Prepaid and other current assets43,65426,602
Total Current Assets761,837702,296
Property, plant & equipment, net524,890367,728
Goodwill270,678250,342
Other intangible assets, net125,069133,957
Investments69,21511,727
Deferred income taxes2,0463,023
Other assets7,9268,224
Total Assets$1,761,661$1,477,297
Liabilities and Shareholders' Equity
Current Liabilities
Current portion of long-term debt$20,000$20,000
Accounts payable89,77465,540
Accrued compensation and benefits66,32258,178
Accrued income taxes payable17,39212,178
Other accrued liabilities42,97929,056
Total Current Liabilities236,467184,952
Long-term debt419,013322,022
Deferred income taxes27,24115,345
Other liabilities54,62954,415
Total Liabilities737,350576,734
Shareholders' Equity
Preferred stock, no par value; authorized - 5,000,000 shares; none issued--
Common stock, no par value; authorized - 300,000,000 shares; issued - 75,692,683 shares at June 30, 2018; 74,081,451 shares at June 30, 2017351,761269,638
Accumulated other comprehensive income (loss)(3,780)(13,778)
Retained earnings836,064748,062
1,184,0451,003,922
Treasury stock, at cost - 12,395,791 shares at June 30, 2018 and 10,940,062 shares at June 30, 2017(159,734)(103,359)
Total Shareholders' Equity1,024,311900,563
Total Liabilities and Shareholders' Equity$1,761,661$1,477,297

See Notes to Consolidated Financial Statements.

II-VI Incorporated and Subsidiaries

Consolidated Statements of Earnings

Year Ended June 30,201820172016
($000, except per share data)
Revenues$1,158,794$972,046$827,216
Costs, Expenses and Other Expense (Income)
Cost of goods sold697,506583,693514,403
Internal research and development117,24496,81060,354
Selling, general and administrative208,757176,002160,646
Interest expense18,3526,8093,081
Other expense (income), net(5,259)(10,056)(1,223)
Total Costs, Expenses and Other Expense (Income)1,036,600853,258737,261
Earnings Before Income Taxes122,194118,78889,955
Income Taxes34,19223,51424,469
Net Earnings$88,002$95,274$65,486
Basic Earnings Per Share$1.41$1.52$1.07
Diluted Earnings Per Share$1.35$1.48$1.04

See Notes to Consolidated Financial Statements.

II-VI Incorporated and Subsidiaries

Consolidated Statements of Comprehensive Income

Year Ended June 30,201820172016
($000)
Net earnings$88,002$95,274$65,486
Other comprehensive income (loss):
Foreign currency translation adjustments7,152(2,275)(15,651)
Pension adjustment, net of taxes of $763, $674, and ($1,886) for the years ended June 30, 2018, 2017, and 2016, respectively2,8462,514(7,031)
Other comprehensive income (loss)9,998239(22,682)
Comprehensive income$98,000$95,513$42,804

See Notes to Consolidated Financial Statements.

II-VI Incorporated and Subsidiaries

Consolidated Statements of Shareholders’ Equity

Accumulated
Other
Common StockComprehensiveRetainedTreasury Stock
SharesAmountIncome (Loss)EarningsSharesAmountTotal
(000)
Balance - June 30, 201571,780$226,609$8,665$587,302(10,565)$(93,495)$729,081
Share-based and deferred compensation activities1,06017,790--(20)(466)17,324
Net earnings---65,486--65,486
Purchases of treasury stock----(381)(6,284)(6,284)
Foreign currency translation adjustments--(15,651)---(15,651)
Pension adjustment, net of taxes of ($1,886)--(7,031)---(7,031)
Tax deficiency from share-based compensation expense-(587)----(587)
Balance - June 30, 201672,840$243,812$(14,017)$652,788(10,966)$(100,245)$782,338
Share-based and deferred compensation activities1,24125,826--26(3,114)22,712
Net earnings---95,274--95,274
Foreign currency translation adjustments--(2,275)---(2,275)
Pension adjustment, net of taxes of $674--2,514---2,514
Balance - June 30, 201774,081$269,638$(13,778)$748,062(10,940)$(103,359)$900,563
Share-based and deferred compensation activities1,61225,717--(41)(6,500)19,217
Net earnings---88,002--88,002
Purchases of treasury stock----(1,415)(49,875)(49,875)
Foreign currency translation adjustments--7,152---7,152
Equity portion of convertible debt, net of issuance costs of $1,694-56,406----56,406
Pension adjustment, net of taxes of $763--2,846---2,846
Balance - June 30, 201875,693$351,761$(3,780)$836,064(12,396)$(159,734)$1,024,311

See Notes to Consolidated Financial Statements.

II-VI Incorporated and Subsidiaries

Consolidated Statements of Cash Flows

Year Ended June 30,201820172016
($000)
Cash Flows from Operating Activities
Net earnings$88,002$95,274$65,486
Adjustments to reconcile net earnings to net cash provided by operating activities:
Depreciation66,20250,89444,324
Amortization14,56812,74312,339
Share-based compensation expense15,31211,7569,675
Losses (gains) on foreign currency remeasurements and transactions850(1,275)(51)
Earnings from equity investments(3,594)(744)(29)
Deferred income taxes945(1,184)977
Increase (decrease) in cash from changes in (net of effects of acquisitions and dispositions):
Accounts receivable(21,044)(26,247)(20,770)
Inventories(38,732)(24,992)(8,650)
Accounts payable17,4366,7045,715
Income taxes7,38073513,416
Other operating net assets13,689(5,048)538
Net cash provided by operating activities161,014118,616122,970
Cash Flows from Investing Activities
Additions to property, plant & equipment(153,438)(138,517)(58,170)
Purchases of equity investments(52,056)--
Proceeds from the sale of business--45,000
Purchases of businesses, net of cash acquired(80,503)(40,015)(122,157)
Other investing activities1,0471,291161
Net cash used in investing activities(284,950)(177,241)(135,166)
Cash Flows from Financing Activities
Proceeds from issuance of 0.25% convertible senior notes due 2022345,000--
Proceeds from borrowings under Credit Facility100,000129,000125,200
Payments on borrowings under Credit Facility(292,000)(25,000)(65,700)
Payment on earnout consideration-(2,000)-
Proceeds from exercises of stock options10,46915,0929,653
Payments in satisfaction of employees' minimum tax obligations(6,564)(4,136)(2,004)
Debt issuance costs(10,061)(1,384)-
Purchases of treasury stock(49,875)-(6,284)
Other financing activities--587
Net cash provided by financing activities96,969111,57261,452
Effect of exchange rate changes on cash and cash equivalents2,117496(4,445)
Net (decrease) increase in cash and cash equivalents(24,850)53,44344,811
Cash and Cash Equivalents at Beginning of Period271,888218,445173,634
Cash and Cash Equivalents at End of Period$247,038$271,888$218,445
Non cash transactions:
Purchases of business - earnout consideration recorded in Other liabilities$-$-$2,417
Purchases of business - earnout consideration recorded in Other accrued liabilities$-$2,250$1,935
Capital lease obligation incurred on facility lease$-$25,000$-
Additions to property, plant & equipment included in accounts payable$12,313$4,428$-

See Notes to Consolidated Financial Statements.

II-VI Incorporated and Subsidiaries

Notes to the Consolidated Financial Statements

Note 1.Nature of Business and Summary of Significant Accounting Policies

Nature of Business. II-VI Incorporated and its subsidiaries (the “Company,” “we,” “us,” or “our”), a global leader in engineered materials and optoelectronic components and devices, is a vertically-integrated manufacturing company that develops, manufactures and markets engineered materials and optoelectronic components and devices for precision use in industrial materials processing, optical communications, military, consumer electronics, semiconductor equipment, life sciences and automotive applications. The Company markets its products through its direct sales force and through distributors and agents.

The Company uses certain uncommon materials and compounds to manufacture its products. Some of these materials are available from only one proven outside source. The continued high quality of these materials is critical to the stability of the Company’s manufacturing yields. The Company has not experienced significant production delays due to a shortage of materials. However, the Company does occasionally experience problems associated with vendor-supplied materials not meeting specifications for quality or purity. A significant failure of the Company’s suppliers to deliver sufficient quantities of necessary high-quality materials on a timely basis could have a material adverse effect on the Company’s results of operations.

Principles of Consolidation. The Consolidated Financial Statements include the accounts of the Company. All intercompany transactions and balances have been eliminated.

Estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“U.S. GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Foreign Currency Translation. For II-VI Singapore Pte., Ltd. and its subsidiaries, II-VI Laser Enterprise of the II-VI Laser Solutions segment, II-VI Network Solutions Division of the II-VI Photonics segment, and II-VI Performance Metals of the II-VI Performance Products segment, the functional currency is the United States (U.S.) dollar. The determination of the functional currency is made based on the appropriate economic and management indicators.

For all other foreign subsidiaries, the functional currency is the local currency. Assets and liabilities of those operations are translated into U.S. dollars using period-end exchange rates while income and expenses are translated using the average exchange rates for the reporting period. Translation adjustments are recorded as accumulated other comprehensive income within shareholders’ equity in the accompanying Consolidated Balance Sheets.

Cash and Cash Equivalents. The Company considers highly liquid investment instruments with an original maturity of three months or less to be cash equivalents. We place our cash and cash equivalents with high credit quality financial institutions and to date have not experienced credit losses in these instruments. Cash of foreign subsidiaries is on deposit at banks in China, Vietnam, Singapore, Japan, Switzerland, the Netherlands, Germany, the Philippines, Belgium, Italy, Hong Kong, the United Kingdom, South Korea and Taiwan.

Accounts Receivable. The Company establishes an allowance for doubtful accounts based on historical experience and believes the collection of revenues, net of this allowance, is reasonably assured.

Inventories. Inventories are valued at the lower of cost or net realizable value, with cost determined on the first-in, first-out basis. Inventory costs include material, labor and manufacturing overhead. In evaluating the net realizable value of inventory, management also considers, if applicable, other factors, including known trends, market conditions, currency exchange rates and other such issues. The Company generally records an inventory adjustment as a charge against earnings for all products on hand more than 12 to 24 months, depending on the products that have not been sold to customers or cannot be further manufactured for sale to alternative customers. An additional charge may be recorded for product on hand that is in excess of product sold to customers over the same periods noted above. The cumulative adjustments to the carrying value of inventory totaled $22.5 million and $18.5 million at June 30, 2018 and 2017, respectively.

Property, Plant and Equipment. Property, plant and equipment are carried at cost or fair value upon acquisition. Major improvements are capitalized, while maintenance and repairs are generally expensed as incurred. The Company reviews its property, plant and equipment and other long-lived assets for impairment whenever events or circumstances indicate that the carrying amounts may not be recoverable. Depreciation for financial reporting purposes is computed primarily by the straight-line method over the estimated useful lives for building, building improvements and land improvements of 10 to 20 years and three to 20 years for machinery and equipment.

Business Combinations. The Company accounts for business acquisitions by establishing the acquisition-date fair value as the measurement for all assets acquired and liabilities assumed. Certain provisions of U.S. GAAP prescribe, among other things, the determination of acquisition-date fair value of consideration paid in a business combination (including contingent consideration) and the exclusion of transaction and acquisition-related restructuring costs from acquisition accounting. The Company accounts for contingent consideration received in accordance with the “Loss Recovery Approach” under U.S. GAAP. Contingent consideration is accounted for as a gain contingency and not recognized in other expense (income), net until all contingencies have been satisfied.

Goodwill. The excess purchase price over the fair value allocated to identifiable tangible and intangible net assets of businesses acquired is reported as goodwill in the accompanying Consolidated Balance Sheets. The Company tests goodwill for impairment at least annually as of April 1, or when events or changes in circumstances indicate that goodwill might be impaired. The evaluation of impairment involves comparing the current fair value of the Company’s reporting units to the recorded value (including goodwill). The Company uses a discounted cash flow (“DCF”) model and/or a market analysis to determine the current fair value of its reporting units. A number of significant assumptions and estimates are involved in estimating the forecasted cash flows used in the DCF model, including markets and market shares, sales volume and pricing, costs to produce, working capital changes and income tax rates. Management considers historical experience and all available information at the time the fair values of the reporting units are estimated. Goodwill impairment is now measured as the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill.

The Company has the option to perform a qualitative assessment of goodwill prior to completing the quantitative assessment described above to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount, including goodwill and other intangible assets. If the Company concludes that this is the case, it must perform the quantitative assessment. Otherwise, the Company will forego the quantitative assessment and does not need to perform any further testing. As of April 1 of fiscal years 2018 and 2017, the Company completed its annual impairment tests of its reporting units using the quantitative assessment. Based on the results of these analyses the Company’s goodwill was not impaired.

Intangibles. Intangible assets are initially recorded at their cost or fair value upon acquisition. Finite-lived intangible assets are amortized for financial reporting purposes using the straight-line method over the estimated useful lives of the assets ranging from five to 20 years. Indefinite-lived intangible assets are not amortized but tested annually for impairment at April 1, or when events or changes in circumstances indicate that indefinite-lived intangible assets might be impaired.

Investments in Other Entities. In the normal course of business, the Company enters into various types of investment arrangements, each having unique terms and conditions. These investments may include equity interests held by the Company in business entities, including general or limited partnerships, contractual ventures, or other forms of equity participation. The Company determines whether such investments involve a variable interest entity (“VIE”) based on the characteristics of the subject entity. If the entity is determined to be a VIE, then management determines if the Company is the primary beneficiary of the entity and whether or not consolidation of the VIE is required. The primary beneficiary consolidating the VIE must normally have both (i) the power to direct the activities of a VIE that most significantly affect the VIE’s economic performance and (ii) the obligation to absorb losses of the VIE or the right to receive benefits from the VIE, in either case that could potentially be significant to the VIE. When the Company is deemed to be the primary beneficiary, the VIE is consolidated and the other party’s equity interest in the VIE is accounted for as a noncontrolling interest.

The Company generally accounts for investments it makes in VIEs in which it has determined that it does not have a controlling financial interest but has significant influence over and holds at least a 20% ownership interest using the equity method. Any such investment not meeting the parameters to be accounted under the equity method would be accounted for using the cost method unless the investment had a readily determinable fair value, at which it would then be reported.

If an entity fails to meet the characteristics of a VIE, management then evaluates such entity under the voting model. Under the voting model, management consolidates the entity if they determine that the Company, directly or indirectly, has greater than 50% of the voting shares and determines that other equity holders do not have substantive participating rights.

Commitments and Contingencies. Liabilities for loss contingencies arising from claims, assessments, litigation, fines, and penalties and other sources are recorded when it is probable that a liability has been incurred and the amount of the assessment and/or remediation can be reasonably estimated. Legal costs incurred in connection with loss contingencies are expensed as incurred. Such accruals are adjusted as further information develops or circumstances change. The Company had no material loss contingency liabilities at June 30, 2018 related to commitments and contingencies.

Income Taxes. Deferred income tax assets and liabilities are determined based on the differences between the consolidated financial statement and tax basis of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred income tax assets to the amount more likely than not to be realized.

The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate resolution. The amount of unrecognized tax benefits is adjusted for changes in facts and circumstances. For example, adjustments could result from significant amendments to existing tax law and the issuance of regulations or interpretations by the taxing authorities, new information obtained during a tax examination, or resolution of an examination. The Company believes that its estimates for uncertain tax positions are appropriate and sufficient to pay assessments that may result from examinations of its tax returns. The Company recognizes both accrued interest and penalties related to unrecognized tax benefits in income tax expense.

Revenue Recognition. The Company recognizes revenues for product shipments when persuasive evidence of a sales arrangement exists, the product has been shipped or delivered, the sale price is fixed or determinable and collectability is reasonably assured. Title and risk of loss passes from the Company to its customer at the time of shipment in most cases with the exception of certain customers. For these customers, title does not pass and revenue is not recognized until the customer has received the product at its physical location.

The Company’s revenue recognition policy is consistently applied across the Company’s segments, product lines and geographical locations. Further for the periods covered herein, we did not have post shipment obligations such as training or installation, customer acceptance provisions, credits and discounts, rebates and price protection, or other similar privileges. Our distributors and agents are not granted price protection. Our distributors and agents, which comprise less than 10% of consolidated revenues, have no additional product return rights beyond the right to return defective products covered by our warranty policy. Revenues generated from transactions other than product shipments are contract related and have historically accounted for approximately 1% of consolidated revenues. We believe our revenue recognition practices have adequately considered the requirements under U.S. GAAP.

Shipping and Handling Costs. Shipping and handling costs billed to customers are included in revenues. Shipping and handling costs incurred by the Company are included in selling, general and administrative expenses in the accompanying Consolidated Statements of Earnings. Total shipping and handling revenue and costs included in revenues and in selling, general and administrative expenses were not significant for the fiscal years ended June 30, 2018, 2017 and 2016.

Research and Development. Internal research and development costs and costs not related to customer and government funded research and development contracts are expensed as incurred.

Share-Based Compensation. Share-based compensation arrangements require the recognition of the grant-date fair value of stock compensation in net earnings. The Company recognizes the share-based compensation expense over the requisite service period of the individual grantees, which generally equals the vesting period.

Accumulated Other Comprehensive Income. Accumulated other comprehensive income is a measure of all changes in shareholders’ equity that result from transactions and other economic events in the period other than transactions with owners. Accumulated other comprehensive (loss) income is a component of shareholders’ equity and consists of accumulated foreign currency translations adjustments and pension adjustments.

Fair Value Measurements. The Company applies fair value accounting for all financial assets and liabilities that are required to be recognized or disclosed at fair value in the financial statements. Fair value is defined as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities, the Company considers the principal or most advantageous market in which the Company would transact, and the market-based risk measurements or assumptions that market participants would use in pricing the asset or liability, such as inherent risk, transfer restrictions and credit risk.

Operating Leases. The Company classifies operating leases in accordance with the provisions of lease accounting. Rent expense under noncancelable operating leases with scheduled rent increases or rent holidays is accounted for on a straight-line basis over the lease term, beginning on the date of initial possession or the effective date of the lease agreement. The amount of the excess straight-line rent expense over scheduled payments is recorded as a deferred liability. The current portion of unamortized deferred lease costs is included in other accrued liabilities and the long-term portion is included in other liabilities in the Consolidated Balance Sheets.

Capital Leases. The Company accounts for capital leases at the lesser of the estimated fair market value of the leased property or the net present value of the aggregate future minimum lease payments. The current and long-term portion of the capital lease obligation is recorded in Other accrued liabilities and other liabilities, respectively, in the Consolidated Balance Sheet. Capital lease assets are included in property, plant & equipment and are generally depreciated over the term of the lease. Interest expense on capital leases are included in interest expense in the Consolidated Statements of Earnings.

Recently Issued Financial Accounting Standards

Adopted Pronouncements

In January 2017, the FASB issued ASU 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Accounting for Goodwill Impairment. This standard removes the second step of the goodwill impairment test, where a determination of the fair value of individual assets and liabilities of a reporting unit were needed to measure the goodwill impairment. Under this updated standard, goodwill impairment will now be the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. The Company has adopted this standard for any impairment test that is performed after July 1, 2017 as permitted under the standard.

In March 2016, the FASB issued ASU 2016-09, Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. This update simplifies several aspects of the accounting for employee share-based payment transactions, including the accounting for income taxes, forfeitures, and statutory tax withholding requirements, and classification in the statement of cash flows. Under this ASU, excess tax benefits or deficiencies are recognized in income tax expense in the Consolidated Statement of Earnings. Upon adoption of this ASU, the Company had a valuation allowance for its U.S. deferred tax assets and did not recognize any tax benefit. Had the Company not had a valuation allowance, the Company would have recognized a tax benefit of $2.4 million. The impact to the Company’s dilutive shares under this new standard was immaterial.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory. This update simplifies the measurement of inventory valuation at the lower of cost or net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. The adoption of this standard did not have a material effect on the Company’s Consolidated Financial Statements.

In March 2016, the FASB issued ASU 2016-07, Investments – Equity Method and Joint Ventures (Topic 323): Simplifying the Transition to the Equity Method of Accounting. This update eliminates the requirement to retrospectively apply the equity method in previous periods when an investor obtains significant influence over an investee. The adoption of this standard did not have a material effect on the Company’s Consolidated Financial Statements.

Revenue Recognition Pronouncement

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09: Revenue from Contracts with Customers (Topic 606), that outlines a five-step revenue recognition model based on the principle that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services. This new standard became effective for the Company on July 1, 2018, and will be adopted using the modified retrospective transition method.

Based on review and analysis of our contracts, the standard primarily impacts our II-VI Performance Product segment, which has long-term production contracts with customers that sell to the U.S. Government. Prior to adoption of the new standard, revenue was generally recognized for these contracts at a point-in-time as units were shipped, while under the new standard, revenue will be recognized over time, principally under the units-of-delivery method which faithfully depicts the transfer of control to the customers. This change will result in an immaterial change in revenue for these contracts and no transition adjustment is anticipated for July 1, 2018.

We have updated the accounting policies affected by this standard, redesigned our related internal controls over financial reporting and are expanding the disclosures to be included in our first quarter 2019 Condensed Consolidated Financial Statements to meet the new requirements.

Other Pronouncements Currently Under Evaluation

In June 2018, the FASB issued ASU 2018-07, “Improvements to Nonemployee Share-Based Payment Accounting”, which simplifies the accounting for share-based payments granted to nonemployees for goods and services. Under the ASU, most of the guidance on such payments to nonemployees would be aligned with the requirements for share-based payments granted to employees. The standard will be effective for the Company’s 2020 fiscal year. Early adoption is permitted, but no earlier than an entity’s adoption date of Topic 606. The Company is evaluating the impact of this guidance on the Company’s Consolidated Financial Statements.

In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. The guidance eliminates the requirement to separately measure and report hedge ineffectiveness and generally requires the entire change in the fair value of a hedging instrument to be presented in the same income statement line as the hedged item. The standard will be effective for the Company’s 2019 fiscal year. The adoption of this ASU is not expected to have a material effect on the Company’s Consolidated Financial Statements.

In March 2017, the FASB issued ASU 2017-07, Compensation (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. This update affects employers’ presentation of defined benefit retirement plan costs. Early adoption is permitted. The standard will be effective for the Company’s 2019 fiscal year. The adoption of this ASU is not expected to have a material effect on the Company’s Consolidated Financial Statements.

In January 2017, the FASB issued ASU 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business. This update changes the definition of a business to assist entities with evaluating when a set of transferred assets and activities is a business. Early adoption is permitted. The standard will be effective for the Company’s 2019 fiscal year. The adoption of this ASU is not expected to have a material effect on the Company’s Consolidated Financial Statements.

In October 2016, the FASB issued ASU 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory. This update requires that when intra-entity asset transfers occur, the entity must recognize tax effects in the period in which the transfer occurs. The standard will be effective for the Company’s 2019 fiscal year. Early adoption is permitted. The adoption of this ASU is not expected to have a material effect on the Company’s Consolidated Financial Statements.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. The guidance clarifies how entities should classify certain cash receipts and cash payments on the statement of cash flows. The guidance also clarifies how the predominance principle should be applied when cash receipts and cash payments have aspects of more than one class of cash flow. The update will be effective for the Company’s 2019 fiscal year. Early adoption is permitted. The adoption of the ASU is not expected to have a material effect on the Company’s Consolidated Financial Statements.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This update is intended to provide financial statement users with more decision-useful information about expected credit losses and other commitments to extend credit held by the reporting entity. The standard replaces the incurred loss impairment methodology in current GAAP with one that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. The update will be effective for the Company’s 2021 fiscal year. Early adoption is permitted. The Company is evaluating the impact of this guidance on the Company’s Consolidated Financial Statements.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). This update modifies lease accounting for lessees to increase transparency and comparability by recording lease assets and liabilities for operating leases and disclosing key information about leasing arrangements. The new standard will become effective for the Company’s fiscal year 2020, which begins on July 1, 2019. The Company will adopt the new guidance utilizing the modified retrospective transition method. We have reviewed the requirements of this standard and have formulated a plan for implementation. We are currently working on accumulating a complete population of leases from all of our locations and have selected a software repository to track all of our lease agreements and to assist in the reporting and disclosure requirements required by the standard. We will continue to assess and disclose the impact that this new guidance will have on our consolidated financial statements, disclosures and related controls, when known.

Note 2.Acquisitions

CoAdna, Inc.

In March 2018, the Company announced its intention to acquire CoAdna, Inc. (“CoAdna”), a publically traded company on the Taiwan Stock Exchange and based in Sunnyvale, CA, in a cash transaction valued at approximately $85.0 million, net of any cash acquired. The transaction is expected to close during the first quarter of fiscal year 2019 and will be subject to regulatory approvals and customary closing conditions.

Kaiam Laser Limited, Inc.

In August 2017, the Company acquired Kaiam Laser Limited, Inc. (“Kaiam”), a privately held company based in Newton Aycliffe, United Kingdom. Under the terms of the merger agreement, the consideration consisted of cash paid at the acquisition date of $79.5 million, net of cash acquired and an adjustment for a purchase price reduction of $0.5 million. The acquisition of Kaiam provides the Company with a 150mm wafer fabrication platform to significantly expand the Company’s capacity for the production of vertical cavity surface emitting lasers (“VCSELs”) for the 3D sensing market and broadens the capability to address new market opportunities in other compound semiconductor materials. Kaiam now operates under the name II-VI Compound Semiconductor Ltd., within the Company’s II-VI Laser Solutions operating segment.

The following table presents the final allocation of the purchase price of the assets acquired and liabilities assumed at the date of acquisition ($000):

Assets
Accounts receivable$79
Inventories4,559
Prepaid and other assets1,246
Property, plant & equipment63,899
Intangible assets4,046
Goodwill18,956
Total assets acquired$92,785
Liabilities
Accounts payable$751
Other accrued liabilities2,486
Deferred tax liabilities10,555
Total liabilities assumed13,792
Net assets acquired$78,993

The goodwill of $19.0 million is included in the II-VI Laser Solutions segment and is attributed to the expected synergies and the assembled workforce of II-VI Compound Semiconductor Ltd. None of the goodwill is deductible for income tax purposes. The Company expensed transaction costs of $0.6 million for the year ended June 30, 2018.

The amount of revenues of II-VI Compound Semiconductor Ltd. included in the Company’s Consolidated Statement of Earnings for the year ended June 30, 2018 was $3.4 million. The amount of net losses of II-VI Compound Semiconductor Ltd. included in the Company’s Consolidated Statements of Earnings for the year ended June 30, 2018 was $12.5 million.

Integrated Photonics, Inc.

In June 2017, the Company acquired Integrated Photonics, Inc. (“IPI”), a privately held company based in New Jersey. IPI is a leader in engineered magneto-optic materials that enable high-performance directional components such as optical isolators for the optical communications market. Under the terms of the merger agreement, the consideration consisted of initial cash paid at the acquisition date of $40.1 million, net of cash acquired and a final working capital adjustment of $0.8 million. In addition, the agreement provides up to a maximum of $2.5 million of additional cash earnout opportunities based upon IPI achieving certain agreed-upon financial and transitional objectives, which if earned would be payable in the amount of $2.5 million for the achievement of the annual target.

The following table presents the final purchase price at the date of acquisition ($000):

Net cash paid at acquisition$40,098
Working capital adjustment848
Fair value of cash earnout arrangement2,215
Purchase price$43,161

The following table presents the final allocation of the purchase price of the assets acquired and liabilities assumed at the date of acquisition ($000):

Assets
Accounts receivable$2,083
Inventories3,968
Prepaid and other assets322
Property, plant & equipment11,235
Intangible assets23,554
Goodwill17,514
Total assets acquired$58,676
Liabilities
Accounts payable$847
Other accrued liabilities1,032
Long-term debt assumed3,834
Deferred tax liabilities9,802
Total liabilities assumed15,515
Net assets acquired$43,161

The goodwill of $17.5 million is included in the II-VI Photonics segment and is attributed to the expected synergies and the assembled workforce of IPI. None of the goodwill is deductible for income tax purposes. The fair value of accounts receivable acquired was $2.1 million, with the gross contractual amount being $2.1 million. At the time of acquisition, the Company expected to collect all of the accounts receivable. The Company expensed transaction costs of $0.3 million during the year ended June 30, 2017.

The amount of revenues of IPI included in the Company’s Consolidated Statements of Earnings for the years ended June 30, 2018 and 2017 was $19.3 million and $1.3 million, respectively. The amount of net earnings of IPI included in the Company’s Consolidated Statements of Earnings for the years ended June 30, 2018 and 2017 was $3.8 million and $0.1 million, respectively.

Note 3.Other Investments

Purchase of Equity Investment

In November 2017, the Company acquired a 93.8% equity investment in a privately-held company for $51.5 million. In addition, the Company paid $0.2 million for a working capital adjustment to that purchase price. The Company’s pro-rata share of earnings from this investment since the acquisition date was $2.4 million for the year ended June 30, 2018 and was recorded in other expense (income), net in the Consolidated Statement of Earnings.

This investment is accounted for under the equity method of accounting (“Equity Investment”). The following table summarizes the Company's equity in this nonconsolidated investment:

InterestOwnership % as ofEquity as of
LocationTypeJune 30, 2018June 30, 2018 ($000)
USAEquity Investment93.8%$56,331

The Equity Investment has been determined to be a variable interest entity because the Company has an overall 93.8% economic position in the investee, comprising a significant portion of its capitalization, but has only a 25% voting interest. The Company’s obligation to receive rewards and absorb expected losses is disproportionate to its voting interest. The Company is not the primary beneficiary because it does not have the power to direct the activities of the equity investment that most significantly impact its economic performance. Certain business decisions, including decisions with respect to operating budgets, material capital expenditures, indebtedness, significant acquisitions or dispositions, and strategic decisions, require the approval of owners holding a majority percentage in the Equity Investment. Beginning on the date it was acquired, the Company accounted for its interest as an equity method investment as the Company has the ability to exercise significant influence over operating and financial policies of the Equity Investment.

As of June 30, 2018, the Company’s maximum financial statement exposure related to the Equity Investment was approximately $56.3 million, which is included in Investments on the Consolidated Balance Sheet as of June 30, 2018.

The Company has the right to purchase all of the outstanding interest of each of the minority equity holders and the minority equity holders have the right to cause the Company to purchase all of their outstanding interests at any time on or after the third anniversary of the investment, or earlier upon certain events. The purchase price is equal to the greater of: (a) (i) the product of the aggregate trailing 12-month revenues of the equity investment preceding the date of purchase, multiplied by (ii) a factor of 2.9 multiplied by (iii) a factor of 0.723, multiplied by (iv) the percentage interest owned by each minority equity holder and (b) $966,666. The Company performed a Monte Carlo simulation to estimate the fair value of the net put option at the investment date and recorded a liability of $2.2 million in Other long-term liabilities in the Consolidated Balance Sheet in accordance with ASC 815-10, Derivatives and Hedging. The fair value of the net put option is adjusted as necessary on a quarterly basis, with any changes in the fair value recorded through earnings. The change in fair value of the net purchase option from the investment date to June 30, 2018 was not material.

Guangdong Fuxin Electronic Technology Equity Investment

The Company has an equity investment of 20.2% in Guangdong Fuxin Electronic Technology, based in Guangdong Province, China, which is accounted for under the equity method of accounting. The total carrying value of the investment recorded at June 30, 2018 and June 30, 2017 was $12.9 million and $11.7 million, respectively. During the years ended June 30, 2018, 2017 and 2016, the Company’s pro-rata share of earnings from this investment was $1.2 million, $0.7 million and $0.1 million, respectively, and was recorded in other expense (income), net in the Consolidated Statements of Earnings. During the years ended June 30, 2018, 2017 and 2016, the Company received dividends from this equity investment of $0.4 million, $0.4 million and $0.6 million, respectively.

Note 4.Inventories

The components of inventories were as follows:

June 30,20182017
($000)
Raw materials$97,502$78,979
Work in progress83,00261,679
Finished goods67,76463,037
$248,268$203,695
Note 5.Property, Plant & Equipment

Property, plant & equipment consist of the following:

June 30,20182017
($000)
Land and land improvements$9,072$5,667
Buildings and improvements216,507144,293
Machinery and equipment633,934492,042
Construction in progress88,35088,458
947,863730,460
Less accumulated depreciation(422,973)(362,732)
$524,890$367,728

Depreciation expense was $66.2 million, $50.9 million and $44.3 million for the fiscal years ended June 30, 2018, 2017 and 2016, respectively.

Note 6.Goodwill and Other Intangible Assets

Goodwill represents the excess of the cost over the net tangible and identifiable intangible assets of acquired businesses. Identifiable intangible assets acquired in business combinations are recorded based upon fair value at the date of acquisition.

Changes in the carrying amount of goodwill were as follows ($000):

Year Ended June 30, 2018
II-VI LaserII-VIII- VI Performance
SolutionsPhotonicsProductsTotal
Balance-beginning of period$84,180$113,272$52,890$250,342
Goodwill acquired18,956--18,956
Goodwill adjustment for prior year acquisition - IPI-407-407
Foreign currency translation254719-973
Balance-end of period$103,390$114,398$52,890$270,678
Year Ended June 30, 2017
II-VI LaserII-VIII- VI Performance
SolutionsPhotonicsProductsTotal
Balance-beginning of period$84,105$96,760$52,890$233,755
Goodwill acquired-17,107-17,107
Foreign currency translation75(595)-(520)
Balance-end of period$84,180$113,272$52,890$250,342

The gross carrying amount and accumulated amortization of the Company’s intangible assets other than goodwill as of June 30, 2018 and 2017 were as follows ($000):

June 30, 2018June 30, 2017
GrossNetGrossNet
CarryingAccumulatedBookCarryingAccumulatedBook
AmountAmortizationValueAmountAmortizationValue
Technology and Patents$66,812$(32,979)$33,833$65,438$(27,313)$38,125
Trade Names15,882(1,471)14,41115,806(1,340)14,466
Customer Lists127,603(50,792)76,811123,058(41,740)81,318
Other1,573(1,559)141,571(1,523)48
Total$211,870$(86,801)$125,069$205,873$(71,916)$133,957

Amortization expense recorded on the intangible assets for the fiscal years ended June 30, 2018, 2017 and 2016 was $14.6 million, $12.7 million, and $12.3 million, respectively. The technology and patents are being amortized over a range of 60 to 240 months with a weighted-average remaining life of approximately 91 months. The customer lists are being amortized over 60 to 240 months with a weighted-average remaining life of approximately 140 months.

In conjunction with the acquisition of II-VI Compound Semiconductor Ltd., the Company recorded $0.4 million attributed to the value of technology and patents and $3.6 million of customer lists. The intangibles were recorded based on the Company’s final purchase price allocation utilizing either a discounted cash flow or relief from royalty method to derive the fair value.

In connection with past acquisitions, the Company acquired trade names with indefinite lives. The carrying amount of these trade names of $14.3 million as of June 30, 2018 is not amortized but tested annually for impairment. The Company completed its impairment test of these trade names with indefinite lives in the fourth quarter of fiscal years 2018 and 2017. Based on the results of these tests, the trade names were not impaired in fiscal years 2018 and 2017.

The estimated amortization expense for existing intangible assets for each of the five succeeding years is as follows ($000):

Year Ending June 30,
2019$12,400
202014,000
202112,600
202210,900
202310,700
Note 7.Debt

The components of debt were as follows ($000):

June 30,20182017
0.25% Convertible senior notes$345,000$-
Convertible senior notes unamortized discount attributable to cash conversion option and debt issuance costs including initial purchaser discount(56,409)-
Term loan, interest at LIBOR, as defined, plus 1.75% and 1.50%, respectively65,00085,000
Line of credit, interest at LIBOR, as defined, plus 1.75% and 1.50%, respectively80,000252,000
Credit facility unamortized debt issuance costs(1,126)(1,491)
Yen denominated line of credit, interest at LIBOR, as defined, plus 1.75% and 0.625%, respectively2,7142,679
Note payable assumed in IPI acquisition3,8343,834
Total debt439,013342,022
Current portion of long-term debt(20,000)(20,000)
Long-term debt, less current portion$419,013$322,022

0.25% Convertible Senior Notes

On August 24, 2017, the Company entered into a purchase agreement with Merrill Lynch, Pierce, Fenner & Smith Incorporated, as representative of the several initial purchasers named therein (collectively, the “Initial Purchasers”), to issue and sell $300 million aggregate principal amount of our 0.25% convertible senior notes due 2022 (the "Notes") in a private placement to qualified institutional buyers within the meaning of Rule 144A under the Securities Act of 1933, as amended. In addition, we granted the Initial Purchasers a 30-day option to purchase up to an additional $45 million aggregate principal amount of the Notes (the “Over-Allotment Option”).

On August 29, 2017, the Initial Purchasers exercised their Over-Allotment Option to purchase the entire $45 million in aggregate principal amount of additional Notes. The Notes mature on September 1, 2022, unless earlier repurchased by the Company or converted by holders in accordance with the terms of the Notes. Interest is payable semi-annually in arrears on March 1 and September 1 of each year, beginning on March 1, 2018.

The sale of the Notes to the Initial Purchasers settled on August 29, 2017, and resulted in approximately $336 million in net proceeds to the Company after deducting the initial purchasers’ discount and the estimated offering expenses. The net proceeds from the offering and sale of the Notes were used, in part, to repurchase approximately $49.9 million of our common stock. The Company used the remaining net proceeds to repay $252 million on its revolving credit facility and to pay debt issuance costs of $10.1 million.

The Notes are governed by an Indenture between the Company, as issuer, and U.S. Bank, National Association, as trustee. The Notes are our senior unsecured obligations and rank senior in right of payment to any of our indebtedness that is expressly subordinated in right of payment to the Notes; equal in right of payment to any of our indebtedness that is not so subordinated; effectively junior in right of payment to any of our secured indebtedness to the extent of the value of the assets securing such indebtedness; and structurally junior to all indebtedness and other liabilities (including trade payables) of our subsidiaries. In the event of our bankruptcy, liquidation, reorganization or other winding up, our assets that secure secured debt will be available to pay obligations on the Notes only after all indebtedness under such secured debt has been repaid in full from such assets. Upon conversion, the Company will pay or deliver, as the case may be, cash, shares of our common stock or a combination of cash and shares of our common stock, at the Company’s election.

As a result of our cash conversion option, the Company separately accounted for the value of the embedded conversion option as a debt discount. The value of the embedded conversion option was determined based on the estimated fair value of the debt without the conversion feature, which was determined using an expected present value technique (income approach) to estimate the fair value of similar nonconvertible debt; the debt discount is being amortized as additional non-cash interest expense over the term of the Notes using the effective interest method with an effective interest rate of 4.5% per annum.

The equity component is not remeasured as long as it continues to meet the conditions for equity classification. The initial conversion rate is 21.25 shares of common stock per $1,000 principal amount of Notes, which is equivalent to an initial conversion price of $47.06 per share of common stock. Throughout the term of the Notes, the conversion rate may be adjusted upon the occurrence of certain events. The if-converted value of the Notes amounted to $318.5 million as of June 30, 2018 (based on the Company’s closing stock price on the last trading day of the year ended June 30, 2018).

Holders of the Notes will not receive any cash payment representing accrued and unpaid interest upon conversion of a note. Accrued but unpaid interest will be deemed to be paid in full upon conversion rather than cancelled, extinguished or forfeited.

Prior to the close of business on the business day immediately preceding June 1, 2022, the Notes will be convertible only upon satisfaction of at least one of the conditions as follows:

a)During any fiscal quarter (and only during such fiscal quarter), if the last reported sale price of our common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on the last trading day of the immediately preceding quarter is greater than or equal to 130% of the conversion price on each applicable trading day;
b)During the five business day period after any five consecutive trading day period (the “measurement period”) in which the trading price per $1,000 principal amount of Notes for each trading day of the measurement period was less than 98% of the product of the last reported sale price of our common stock and the conversion rate on each such trading day; or
c)Upon the occurrence of specified corporate events.

On or after June 1, 2022 until the close of business on the business day immediately preceding the maturity date, holders may convert all or any portion of their Notes, in multiples of $1,000 principal amount, at the option of the holder regardless of the foregoing circumstances.

As of June 30, 2018, the Notes are not yet convertible. The Notes will become convertible upon the satisfaction of at least one of the above conditions. In accounting for the transaction costs related to the Note issuance, the Company allocated the total amount of offering costs incurred to the debt and equity components based on their relative values. Offering costs attributable to the debt component, totaling $8.4 million, are being amortized as non-cash interest expense over the term of the Notes, and offering costs attributable to the equity component, totaling $1.7 million, were recorded within Shareholders' Equity.

The Company was in compliance with all the covenants set forth under the indenture.

The following table sets forth total interest expense recognized related to the Notes for the fiscal year ended June 30, 2018 (representing an effective interest rate of 4.5%):

Year ended June 30,2018
0.25% contractual coupon$731
Amortization of debt discount and debt issuance costs including initial purchaser discount10,058
Interest expense$10,789

The unamortized discount amounted to $49.3 million as of June 30, 2018 and is being amortized over 4 years.

Amended Credit Facility

On July 28, 2016, the Company amended and restated its existing credit agreement. The Third Amended and Restated Credit Agreement (the “Amended Credit Facility”) provides for a revolving credit facility of $325 million, as well as a $100 million term loan. The term loan is being repaid in consecutive quarterly principal payments on the first business day of each January, April, July and October, with the first payment having commenced on October 1, 2016, as follows: (i) twenty consecutive quarterly installments of $5 million and (ii) a final installment of all remaining principal due and payable on the maturity date of July 27, 2021. Amounts borrowed under the revolving credit facility are due and payable on the maturity date. The Amended Credit Facility is unsecured, but is guaranteed by each existing and subsequently acquired or organized wholly-owned domestic subsidiary of the Company. The Company has the option to request an increase to the size of the revolving credit facility in an aggregate additional amount not to exceed $100 million. The Amended Credit Facility has a five-year term through July 27, 2021 and has an interest rate of either a Base Rate Option or a Euro-Rate Option, plus an Applicable Margin, as defined in the agreement governing the Amended Credit Facility. If the Base Rate option is selected for a borrowing, the Applicable Margin is 0.00% to 1.25% and if the Euro-Rate Option is selected for a borrowing, the Applicable Margin is 1.00% to 2.25%. The Applicable Margin is based on the ratio of the Company’s consolidated indebtedness to consolidated EBITDA. Additionally, the Credit Facility is subject to certain covenants, including those relating to minimum interest coverage and maximum leverage ratios. As of June 30, 2018, the Company was in compliance with all financial covenants under its Amended Credit Facility.

Yen Loan

The Company’s yen denominated line of credit is a 500 million Yen ($4.5 million) facility. The Yen line of credit matures in August 2020. The interest rate equal to LIBOR, as defined in the loan agreement, plus 0.625% to 1.75%. At June 30, 2018 and 2017, the Company had 300 million yen outstanding under the line of credit. Additionally, the facility is subject to certain covenants, including

those relating to minimum interest coverage and maximum leverage ratios. As of June 30, 2018, the Company had $2.7 million outstanding and was in compliance with all covenants under its Yen facility.

Note Payable

In conjunction with the acquisition of IPI, the Company assumed a non-interest bearing note payable owed to a major customer of IPI. The agreement, if not terminated early by either party, is payable in full in January 2020.

Singapore Line of Credit

The Company has a line of credit facility with a Singapore bank which permits maximum borrowings in the local currency of approximately $0.6 million for the fiscal years ended June 30, 2018 and 2017, respectively. Borrowings are payable upon demand with interest charged at the rate of 1.00% above the bank’s prevailing prime lending rate. The interest rate was 5.25% at June 30, 2018 and June 30, 2017. At June 30, 2018 and 2017, there were no outstanding borrowings under this facility. The Company had $0.3 million and $0.2 million of letters of credit supported by the Singapore line of credit facility as of June 30, 2018 and 2017, respectively.

Aggregate Availability

The Company had aggregate availability of $246.4 million and $73.5 million under its lines of credit as of June 30, 2018 and 2017, respectively. The amounts available under the Company’s lines of credit are reduced by outstanding letters of credit. As of June 30, 2018 and 2017, total outstanding letters of credit supported by the credit facilities were $0.4 million and $1.3 million, respectively.

Weighted Average Interest Rate

The weighted average interest rate of total borrowings was 1.3% and 2.2% for the years ended June 30, 2018 and 2017, respectively. The weighted average of total borrowings for the fiscal years ended June 30, 2018 and 2017 was $476.6 million and $272.1 million, respectively.There are no interim maturities or minimum payment requirements related to the credit facilities before their respective expiration dates. Interest and commitment fees paid during the fiscal year ended June 30, 2018, 2017 and 2016 were $6.6 million, $6.1 million and $3.1 million, respectively.

Remaining Annual Principal Payments

Remaining annual principal payments under the Company’s existing credit facilities and notes payable as of June 30, 2018 were as follows ($000):

U.S.
Dollar
TermYen LineLine ofNoteConvertibles
PeriodLoanof CreditCreditPayableNotesTotal
June 30, 2019$20,000$-$-$-$-$20,000
June 30, 202020,000--3,834-$23,834
June 30, 202120,0002,714---$22,714
June 30, 20225,000-80,000--$85,000
June 30, 2023----345,000$345,000
Total$65,000$2,714$80,000$3,834$345,000$496,548
Note 8.Income Taxes

The components of earnings (losses) before income taxes were as follows:

Year Ended June 30,201820172016
($000)
U.S. loss$(15,207)$(6,944)$(5,809)
Non-U.S. income137,401125,73295,764
Earnings before income taxes$122,194$118,788$89,955

The components of income tax expense were as follows:

Year Ended June 30,201820172016
($000)
Current:
Federal$699$2,133$3,704
State4012535
Foreign32,14722,31219,783
Total Current$33,247$24,698$23,492
Deferred:
Federal$(3,064)$(6,963)$2,759
State1,615(1,251)1,302
Foreign2,3947,030(3,084)
Total Deferred$945$(1,184)$977
Total Income Tax Expense$34,192$23,514$24,469

Principal items comprising deferred income taxes were as follows:

June 30,20182017
($000)
Deferred income tax assets
Inventory capitalization$5,267$6,338
Non-deductible accruals1,1251,705
Accrued employee benefits7,6149,738
Net-operating loss and credit carryforwards48,73853,048
Share-based compensation expense7,92512,386
Other3,2421,761
Valuation allowances(21,797)(42,562)
Total deferred income tax assets$52,114$42,414
Deferred income tax liabilities
Tax over book accumulated depreciation$(24,174)$(7,803)
Intangible assets(24,649)(38,108)
Tax on unremitted earnings(13,090)(6,210)
Convertible debt(11,376)-
Other(4,020)(2,615)
Total deferred income tax liabilities$(77,309)$(54,736)
Net deferred income taxes$(25,195)$(12,322)

The reconciliation of income tax expense at the statutory U.S. federal rate to the reported income tax expense is as follows:

Year Ended June 30,2018%2017%2016%
($000)
Taxes at statutory rate$34,28428$41,57635$31,48435
Increase (decrease) in taxes resulting from:
State income taxes-net of federal benefit1,4261(641)-8641
Taxes on non U.S. earnings(16,058)(13)(12,907)(11)(13,860)(15)
Valuation allowance(6,008)(5)(806)(1)8,4649
Research and manufacturing incentive deductions and credits(7,024)(6)(5,681)(5)(4,374)(5)
Stock compensation(4,103)(3)1,77027021
Repatriation tax36,77730----
Impact of U.S. tax rate change on deferred balances(4,209)(3)----
Other(893)(1)203-1,1891
$34,19228$23,51420$24,46927

U.S. Tax Reform

On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “Tax Act”). The Tax Act significantly revises the future ongoing U.S. corporate income tax by, among other things, lowering U.S. corporate income tax rates and implementing a territorial tax system. As the Company has a June 30 fiscal year end, the lower corporate income tax rate was phased in, resulting in a U.S. statutory federal rate of approximately 28% for the Company’s fiscal year ending June 30, 2018, and 21% for subsequent fiscal years. As part of the transition to the new territorial tax system, the Tax Act imposes a one-time repatriation tax on total post-1986 earnings and profits (“E&P”) of foreign subsidiaries that were previously deferred from U.S. income taxes.

At June 30, 2018, the Company has not finalized its accounting for the tax effects of the Tax Act; however, as described below, management has made a reasonable estimate of the effects on existing deferred tax balances and has recorded an estimated amount for its one-time repatriation tax, resulting in an increase in income tax expense. The Company has yet to complete its calculation of the total post-1986 foreign E&P and therefore may change.

The impact of the repatriation tax is expected to be offset by available net operating loss and credit carryforwards which currently have a valuation allowance. Thus the tax expense reported is reduced by the release of the valuation allowance on U.S. deferred tax assets. The reduction of the U.S. corporate tax rate caused the Company to adjust the U.S. deferred tax assets and liabilities to the lower U.S. statutory federal rate of 21%. However, the Company will continue to analyze certain aspects of the Tax Act which could affect the measurement of these balances or give rise to new deferred tax amounts. In addition, the Company has recorded withholding taxes on planned repatriation due to the change to a territorial tax system. The transitional impacts described above resulted in a cumulative provisional net charge to income tax expense of $8.0 million for the year ended June 30, 2018.

The changes included in the Tax Act are broad and complex. The final transition impacts of the Tax Act may differ from the estimates recorded during the year ended June 30, 2018, possibly materially, due to, among other things, changes in interpretations of the Tax Act, any legislative action to address questions that arise because of the Tax Act, any changes in accounting standards for income taxes or related interpretations in response to the Tax Act, or any updates or changes to estimates the Company has utilized to calculate the transition impacts, including impacts from changes to current year earnings estimates and foreign exchange rates of foreign subsidiaries. The Securities and Exchange Commission has issued rules that allow for a measurement period of up to one year after the enactment date of the Tax Act to finalize the recording of the related tax impacts. The Company currently anticipates finalizing and recording any resulting adjustments by the end of the quarter ending December 31, 2018.

During the fiscal years ended June 30, 2018, 2017, and 2016, net cash paid by the Company for income taxes was $21.3 million, $23.6 million, and $18.5 million, respectively.

Our foreign subsidiaries in the Philippines operate under various tax holiday arrangements. The benefits of such arrangements phase out through the fiscal year ended June 30, 2019. The impact of the tax holidays on our effective rate is a reduction in the rate of 0.17%, 0.31% and 0.37% for the fiscal years ended June 30, 2018, 2017 and 2016, respectively, and the impact of the tax holidays on diluted earnings per share is immaterial.

The Company has the following gross operating loss carryforwards and tax credit carryforwards as of June 30, 2018:

TypeAmountExpiration Date
($000)
Tax credit carryforwards:
Federal research and development credits$13,913June 2019-June 2038
Foreign tax credits251June 2024-June 2028
State tax credits5,594June 2019-June 2038
Operating loss carryforwards:
Loss carryforwards - federal$68,661June 2020-June 2038
Loss carryforwards - state47,756June 2019-June 2038
Loss carryforwards - foreign16,347June 2019-June 2028

The Company has recorded a valuation allowance against the majority of the loss and credit carryforwards. The Company’s U.S. federal loss carryforwards, federal research and development credit carryforwards, and certain state tax credits resulting from the Company’s acquisitions are subject to various annual limitations under Section 382 of the U.S. Internal Revenue Code.

Changes in the liability for unrecognized tax benefits for the fiscal years ended June 30, 2018, 2017 and 2016 were as follows:

201820172016
($000)
Beginning balance$7,577$5,559$4,022
Increases in current year tax positions2,5368952,146
Increases in prior year tax positions2242,605190
Decreases in prior year tax positions(9)-(67)
Settlements-(1,143)-
Expiration of statute of limitations(436)(339)(732)
Ending balance$9,892$7,577$5,559

The Company classifies all estimated and actual interest and penalties as income tax expense. During fiscal year 2018 and 2017, there was $0.3 million and $0.5 million of interest and penalties within income tax expense, respectively. During the fiscal year 2016, there was no interest or penalties within income tax expense. The Company had $0.6 million and $0.3 million of interest and penalties accrued at June 30, 2018 and 2017, respectively. The Company has classified the uncertain tax positions as non-current income tax liabilities, as the amounts are not expected to be paid within one year. Including tax positions for which the Company determined that the tax position would not meet the more likely than not recognition threshold upon examination by the tax authorities based upon the technical merits of the position, the total estimated unrecognized tax benefit that, if recognized, would affect our effective tax rate, was approximately $1.6 million and $1.3 million at June 30, 2018 and 2017, respectively. The Company expects a decrease of $3.4 million of unrecognized tax benefits during the next 12 months due to the expiration of statutes of limitation.

Fiscal years 2015 to 2018 remain open to examination by the Internal Revenue Service, fiscal years 2013 to 2018 remain open to examination by certain state jurisdictions, and fiscal years 2008 to 2018 remain open to examination by certain foreign taxing jurisdictions. The Company is currently under examination for the U.S. Federal income tax return for the year ended June 30, 2016; certain subsidiary companies in the Philippines for the year ended June 30, 2017; and Germany for the years ended June 2012 through June 2015. The Company believes its income tax reserves for these tax matters are adequate.

Note 9.Earnings Per Share

The following table sets forth the computation of earnings per share for the periods indicated. Basic net income per share has been computed using the weighted average number of shares of common stock outstanding during the period. Diluted net income per share has been computed using the weighted average number of common shares outstanding during the period plus dilutive potential shares of common stock from (1) stock options, performance and restricted shares (under the treasury stock method) and (2) convertible debt (under the If-Converted method) outstanding during the period. The Company’s convertible debt calculated under the If-Converted method was antidilutive for the fiscal year 2018 and was excluded from the calculation of earnings per share.

Year Ended June 30,201820172016
($000 except per share)
Net earnings$88,002$95,274$65,486
Divided by:
Weighted average shares62,49962,57661,366
Basic earnings per common share$1.41$1.52$1.07
Net earnings$88,002$95,274$65,486
Divided by:
Weighted average shares62,49962,57661,366
Dilutive effect of common stock equivalents2,6341,9311,543
Diluted weighted average common shares65,13364,50762,909
Diluted earnings per common share$1.35$1.48$1.04

The following table presents potential shares of common stock excluded from the calculation of diluted net income per share, as their effect would have been antidilutive ($000):

Year Ended June 30,201820172016
Stock options and restricted shares135140153
0.25% Convertible Senior Notes due 20227,331--
Total anti-dilutive shares7,466140153
Note 10.Operating Leases

The Company leases certain property under operating leases that expire at various dates. Future rental commitments applicable to the operating leases at June 30, 2018 are as follows:

Year Ending June 30,
($000)
2019$20,100
202019,100
202114,500
202211,700
20239,800
Thereafter52,700

Rent expense was approximately $17.0 million, $14.7 million, and $14.2 million for the fiscal years ended June 30, 2018, 2017 and 2016, respectively.

Note 11.Share-Based Compensation Plans

The Company’s Board of Directors adopted the II-VI Incorporated Amended and Restated 2012 Omnibus Incentive Plan (the “Plan”) which was approved by the shareholders at the Annual Meeting in November 2014 as amended. The Plan provides for the grant of non-qualified stock options, stock appreciation rights, restricted shares, restricted share units, deferred shares, performance shares and performance share units to employees, officers and directors of the Company. The maximum number of shares of the Company’s common stock authorized for issuance under the Plan is limited to 4,900,000 shares of common stock, not including any remaining shares forfeited under the predecessor plans that may be rolled into the Plan. The Plan has vesting provisions predicated upon the death, retirement or disability of the grantee. As of June 30, 2018, there were approximately 955,000 shares available to be issued under the Plan, including forfeited shares from predecessor plans.

The Company records share-based compensation expense for these awards which requires the recognition of the grant-date fair value of share-based compensation in net earnings. The Company recognizes the share-based compensation expense over the requisite service period of the individual grantees, which generally equals the vesting period. The Company accounts for cash-based stock appreciation rights, cash-based restricted share unit awards and cash-based performance share unit awards as liability awards, in accordance with applicable accounting standards.

Share-based compensation expense for the fiscal years ended June 30, 2018, 2017 and 2016 is as follows ($000):

Year Ended June 30,201820172016
Stock Options and Cash-Based Stock Appreciation Rights$6,605$5,611$4,309
Restricted Share Awards and Cash-Based Restricted Share Unit Awards7,8506,7994,401
Performance Share Awards and Cash-Based Performance Share Unit Awards5,2213,6262,196
$19,676$16,036$10,906

The share-based compensation expense is allocated approximately 20% to cost of goods sold and 80% to selling, general and administrative expense in the Consolidated Statements of Earnings, based on the employee classification of the grantee. Share-based compensation expense associated with liability awards was $4.4 million, $4.3 million, and $1.2 million, in the fiscal years ended June 30, 2018, 2017 and 2016, respectively.

Stock Options and Cash-Based Stock Appreciation Rights:

The Company utilized the Black-Scholes valuation model for estimating the fair value of stock option expense. During the fiscal years ended June 30, 2018, 2017 and 2016, the weighted-average fair value of options granted under the stock option plan was $14.23, $8.88 and $7.35, respectively, per option using the following assumptions:

Year Ended June 30,201820172016
Risk-free interest rate2.00%1.43%1.68%
Expected volatility37%37%38%
Expected life of options6.43 years6.28 years6.43 years
Dividend yieldNoneNoneNone

The risk-free interest rate is derived from the average U.S. Treasury Note rate during the period, which approximates the rate in effect at the time of grant related to the expected life of the options. The risk-free interest rate shown above is the weighted average rate for all options granted during the fiscal year. Expected volatility is based on the historical volatility of the Company’s common stock over the period commensurate with the expected life of the options. The expected life calculation is based on the observed time to post-vesting exercise and/or forfeitures of options by our employees. The dividend yield of zero is based on the fact that the Company has never paid cash dividends and has no current intention to pay cash dividends in the future. The estimated annualized forfeitures are based on the Company’s historical experience of option pre-vesting cancellations and are estimated at a rate of 17.6%. The Company will record additional expense in future periods if the actual forfeiture rate is lower than estimated, and will adjust expense in future periods if the actual forfeitures are higher than estimated.

Stock option and cash-based stock appreciation rights activity during the fiscal year ended June 30, 2018 was as follows:

Stock OptionsCash-Based Stock Appreciation Rights
Number ofWeighted AverageNumber ofWeighted Average
SharesExercise PriceRightsExercise Price
Outstanding - July 1, 20174,080,915$18.15214,467$19.17
Granted474,270$35.5447,800$35.46
Exercised(573,004)$18.27(30,467)$18.44
Forfeited and Expired(53,473)$27.67(26,352)$23.14
Outstanding - June 30, 20183,928,708$20.07205,448$22.56
Exercisable - June 30, 20182,288,266$17.2459,766$18.47

As of June 30, 2018, 2017 and 2016, the aggregate intrinsic value of stock options and cash-based stock appreciation rights outstanding and exercisable was $96.1 million, $69.3 million and $10.1 million, respectively. Aggregate intrinsic value represents the total pretax intrinsic value (the difference between the Company’s closing stock price on the last trading day of the year ended June 30, 2018, and the option’s exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all option holders exercised their options on June 30, 2018. This amount varies based on the fair market value of the Company’s stock. The total intrinsic value of stock options and cash-based stock appreciation rights exercised during the fiscal years ended June 30, 2018, 2017, and 2016 was $14.7 million, $12.3 million, and $4.5 million, respectively. As of June 30, 2018, total unrecognized compensation cost related to non-vested stock options and cash-based stock appreciation rights was $13.9 million. This cost is expected to be recognized over a weighted-average period of approximately three years. Outstanding and exercisable stock options at June 30, 2018 were as follows:

Stock Options and Cash-Based StockStock Options and Cash-Based Stock
Appreciation Rights OutstandingAppreciation Rights Exercisable
WeightedWeightedWeightedWeighted
Number ofAverage RemainingAverageNumber ofAverage RemainingAverage
Range ofShares orContractual TermExerciseShares orContractual TermExercise
Exercise PricesRights(Years)PriceRights(Years)Price
$10.04 - $15.38902,0224.21$13.25667,8783.54$12.99
$15.47 - $23.502,647,0155.58$19.291,657,1294.40$18.80
$25.91 - $39.65569,5599.00$34.7923,0257.14$31.23
$41.50 - $45.2415,5609.55$42.87--$-
4,134,1565.77$20.202,348,032$4.18$17.27

Restricted Share Awards and Cash-Based Restricted Share Unit Awards:

Restricted share awards and cash-based restricted share unit awards compensation expense was calculated based on the number of shares or units expected to be earned by the grantee multiplied by the stock price at the date of grant (for restricted share awards) or the stock price at the period end date (for cash-based restricted share unit awards), and is being recognized over the vesting period. Generally, the restricted share awards and restricted share unit awards have a three year tranche vesting provision and an estimated forfeiture rate of 10.2%.

Restricted share and cash-based restricted share unit activity during the fiscal year ended June 30, 2018, was as follows:

Restricted Share AwardsCash-Based Restricted Share Units
Number ofWeighted AverageNumber ofWeighted Average
SharesGrant Date Fair ValueUnitsGrant Date Fair Value
Nonvested - June 30, 2017811,833$19.45140,927$19.12
Granted166,348$35.5846,012$35.43
Vested(370,571)$18.15(55,189)$17.45
Forfeited(12,091)$28.71(14,424)$24.97
Nonvested - June 30, 2018595,519$24.58117,326$25.57

As of June 30, 2018, total unrecognized compensation cost related to non-vested restricted share and cash-based restricted share unit awards was $9.7 million. This cost is expected to be recognized over a weighted-average period of approximately two years. The restricted share compensation expense was calculated based on the number of shares expected to be earned, multiplied by the stock price at the date of grant, and is being recognized over the vesting period. The cash-based restricted share unit compensation expense was calculated based on the number of shares expected to be earned, multiplied by the stock price at the period-end date, and is being recognized over the vesting period. The total fair value of the restricted share and cash-based restricted share unit awards granted during the years ended June 30, 2018, 2017 and 2016, was $7.5 million, $7.8 million and $6.3 million, respectively. The total fair value of restricted shares and cash-based restricted share unit awards vested was $17.0 million, $6.2 million and $5.5 million during fiscal years 2018, 2017 and 2016, respectively.

Performance Share Awards and Cash-Based Performance Share Unit Awards:

The Compensation Committee of the Board of Directors of the Company has granted certain executive officers and employees performance share awards and performance share unit awards under the Plan. As of June 30, 2018, the Company had outstanding grants covering performance periods ranging from 12 to 36 months. These awards are intended to provide continuing emphasis on specified financial performance goals that the Company considers important contributors to the creation of long-term shareholder value. These awards are payable only if the Company achieves specified levels of financial performance during the performance periods.

The performance share compensation expense was calculated based on the number of shares expected to be earned, multiplied by the stock price at the date of grant, and is being recognized over the vesting period. The cash-based performance share unit compensation expense was calculated based on the number of shares expected to be earned, multiplied by the stock price at the period-end date, and is being recognized over the vesting period. Performance share and cash-based performance share unit award activity relating to the Plan during the year ended June 30, 2018, was as follows:

Performance Share AwardsCash-Based Performance Share Units
Number ofWeighted AverageNumber ofWeighted Average
SharesGrant Date Fair ValueUnitsGrant Date Fair Value
Nonvested - June 30, 2017377,710$19.5217,152$19.37
Granted99,168$35.259,120$35.25
Vested(70,210)$14.84(2,221)$15.42
Forfeited(24,398)$17.84(6,772)$25.88
Nonvested - June 30, 2018382,270$24.5717,279$25.71

As of June 30, 2018, total unrecognized compensation cost related to non-vested performance share and cash-based performance share unit awards was $4.7 million. This cost is expected to be recognized over a weighted-average period of approximately one year. The total fair value of the performance share and cash-based performance share unit awards granted during the fiscal years ended June 30, 2018, 2017 and 2016 was $3.8 million, $5.3 million and $2.4 million, respectively. The total fair value of performance shares vested during the fiscal years ended June 30, 2018, 2017 and 2016 was $3.6 million, $5.9 million and $1.5 million, respectively.

For our relative Total Shareholder Return (“TSR”) performance-based awards, which are based on market performance of our stock as compared to the Russel 2000 Index, the compensation cost is recognized over the performance period on a straight-line basis net of forfeitures, because the awards vest only at the end of the measurement period and the probability of actual shares expected to be earned is considered in the grant date valuation. As a result, the expense is not adjusted to reflect the actual shares earned. We estimate the fair value of the TSR performance-based awards using the Monte-Carlo simulation model.

Note 12.Segment and Geographic Reporting

The Company reports its business segments using the “management approach” model for segment reporting. This means that the Company determines its reportable business segments based on the way the chief operating decision maker organizes business segments within the Company for making operating decisions and assessing performance.

The Company reports its financial results in the following three segments: (i) II-VI Laser Solutions, (ii) II-VI Photonics, and (iii) II-VI Performance Products, and the Company’s chief operating decision maker receives and reviews financial information based on these segments. The Company evaluates business segment performance based upon segment operating income, which is defined as earnings before income taxes, interest and other income or expense.

The II-VI Laser Solutions segment is located in the United States, Singapore, China, Germany, Switzerland, Japan, Belgium, the United Kingdom, Italy, South Korea, the Philippines and Taiwan. II-VI Laser Solutions designs, manufactures and markets optical and electro-optical components and materials sold under the II-VI Infrared brand name and used primarily in high-power CO2 lasers, fiber-delivered beam delivery systems and processing tools and direct diode lasers for industrial lasers sold under the II-VI HIGHYAG and II-VI Laser Enterprise brand names. II-VI Laser Solutions also manufactures compound semiconductor epitaxial wafers for applications in optical components, wireless devices, and high-speed communication systems and manufactures 6-inch GaAs wafers allowing for the production of high performance lasers and integrated circuits in high volume sold under the II-VI EpiWorks and II-VI OptoElectronic Devices Division brand names.

The II-VI Photonics segment is located in the United States, China, Vietnam, Germany, Japan, the United Kingdom, Italy and Hong Kong. II-VI Photonics manufactures crystal materials, optics, microchip lasers and optoelectronic modules for use in optical communication networks and other diverse consumer and commercial applications. In addition, the segment manufactures pump lasers, optical isolators, and optical amplifiers and micro-optics for optical amplifiers, for both terrestrial and submarine applications within the optical communications market.

The II-VI Performance Products segment is located in the United States, Vietnam, Japan, China, Germany and the Philippines. II-VI Performance Products is further divided into production and administrative units that are directed by managers. II-VI Performance Products designs, manufactures and markets infrared optical components and high-precision optical assemblies for military, medical and commercial laser imaging applications. In addition, the segment designs, manufactures and markets unique engineered materials for thermoelectric and silicon carbide applications servicing the semiconductor, military and medical markets.

On August 7, 2017, the Company completed its acquisition of II-VI Compound Semiconductor Ltd. See Note 2. Acquisitions. The operating results of this acquisition have been reflected in the selected financial information of the Company’s II-VI Laser Solutions segment.

On June 19, 2017, the Company completed its acquisition of IPI. See Note 2. Acquisitions. The operating results of this acquisition have been reflected in the selected financial information of the Company’s II-VI Photonics segment.

The accounting policies of the segments are the same as those of the Company. The Company’s corporate expenses are allocated to the segments. The Company evaluates segment performance based upon reported segment operating income, which is defined as earnings from continuing operations before income taxes, interest and other income or expense. Inter-segment sales and transfers have been eliminated.

The following tables summarize selected financial information of the Company’s operations by segment:

II-VIII-VI
LaserII-VIPerformance
SolutionsPhotonicsProductsEliminationsTotal
($000)
2018
Revenues$427,968$464,457$266,369$-$1,158,794
Inter-segment revenues34,66114,5425,609(54,812)-
Operating income36,79767,73230,758-135,287
Interest expense----(18,352)
Other income, net----5,259
Income taxes----(34,192)
Net earnings----88,002
Depreciation and amortization38,55224,98417,234-80,770
Expenditures for property, plant & equipment82,47839,16239,683-161,323
Segment assets760,988595,909404,764-1,761,661
Equity investments--69,215-69,215
Goodwill103,390114,39852,890-270,678
II-VIII-VI
LaserII-VIPerformance
SolutionsPhotonicsProductsEliminationsTotal
($000)
2017
Revenues$339,341$418,515$214,190$-$972,046
Inter-segment revenues33,79214,23610,189(58,217)-
Operating income30,93162,97521,635-115,540
Interest expense----(6,809)
Other income, net----10,056
Income taxes----(23,514)
Net earnings----95,274
Depreciation and amortization24,95821,44217,237-63,637
Expenditures for property, plant & equipment82,76027,39732,788-142,945
Segment assets589,239578,315309,743-1,477,297
Equity investment--11,727-11,727
Goodwill84,180113,27252,890-250,342
II-VIII-VI
LaserII-VIPerformance
SolutionsPhotonicsProductsEliminationsTotal
($000)
2016
Revenues$303,002$325,879$198,335$-$827,216
Inter-segment revenues24,29012,0817,274(43,645)-
Operating income36,18437,84917,780-91,813
Interest expense----(3,081)
Other income, net----1,223
Income taxes----(24,469)
Net earnings----65,486
Depreciation and amortization17,22219,85519,586-56,663
Expenditures for property, plant & equipment25,62021,09611,454-58,170

Geographic information for revenues from the country of origin (shipped from), and long-lived assets from the country of origin, which include property, plant and equipment, net of related depreciation, and certain other long-term assets, were as follows:

Revenues
Year Ended June 30,201820172016
($000)
United States$373,735$294,200$266,347
Non-United States
China253,672208,595172,292
Hong Kong186,978190,702140,821
Germany132,16188,30472,070
Japan89,15376,21257,287
Switzerland49,55750,49754,760
Vietnam26,89822,49724,267
Italy11,45810,79110,160
Korea9,7576,5843,887
United Kingdom9,3598,4738,154
Singapore5,9413,9133,039
Belgium4,5117,5036,026
Philippines3,9093,0578,106
Taiwan1,705718-
Total Non-United States785,059677,846560,869
$1,158,794$972,046$827,216
Long-Lived Assets
June 30,201820172016
($000)
United States$309,062$240,029$137,521
Non-United States
China81,17562,02451,824
United Kingdom65,357396203
Switzerland37,15536,79538,202
Germany14,87615,32315,162
Vietnam10,0428,2728,895
Philippines6,6286,1154,399
Hong Kong2,8181,9141,765
Other598704943
Total Non-United States218,649131,543121,393
$527,711$371,572$258,914
Note 13.Fair Value of Financial Instruments

The FASB defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous markets for the asset and liability in an orderly transaction between market participants at the measurement date. The Company estimates fair value of its financial instruments utilizing an established three-level hierarchy in accordance with U.S. GAAP. The hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date as follows:

•Level 1 – Valuation is based upon unadjusted quoted prices for identical assets or liabilities in active markets.
•Level 2 – Valuation is based upon quoted prices for similar assets and liabilities in active markets, or other inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instruments.
•Level 3 – Valuation is based upon other unobservable inputs that are significant to the fair value measurements.

The classification of fair value measurements within the hierarchy is based upon the lowest level of input that is significant to the measurement.

At June 30, 2018, the Company had foreign currency forward contracts recorded at fair value. The fair values of these instruments were measured using valuations based upon quoted prices for similar assets and liabilities in active markets (Level 2) and are valued by reference to similar financial instruments, adjusted for credit risk and restrictions and other terms specific to the contracts.

In February 2016, the Company entered into a contingent earnout arrangement which provides up to a maximum of $6.0 million of additional cash earnout opportunities based upon EpiWorks achieving certain agreed-upon financial and operational targets for capacity, wafer output and gross margin, which if earned would be payable for the achievement of each specific annual target over the next three years. The Company paid the first year earnout amount of $2.0 million during the year ended June 30, 2017.

In June 2017, the Company entered into a contingent earnout arrangement which provides up to a maximum of $2.5 million of additional cash earnout opportunities based upon IPI achieving certain agreed-upon financial and transitional objectives relating to finance, information technology and human resources, which if earned, would be payable for the achievement of each specific annual target over the next year.

In November 2017, the Company acquired a 93.8% equity investment in a privately held company. The Company has the right to purchase all of the outstanding interest of each of the minority equity holders and the minority equity holders have the right to cause the Company to purchase all of their outstanding interests at any time on or after the third anniversary of the investment, or earlier upon certain events. The Company performed a Monte Carlo simulation to estimate the fair value of the net put option at the investment date and recorded a liability of $2.2 million in “Other Liabilities” in the Consolidated Balance Sheet as of the acquisition date in accordance with ASC 815-10, Derivatives and Hedging. The fair value of the net put option is adjusted as necessary on a quarterly basis with any changes in the fair value recorded through earnings. The change in fair value of the net purchase option from the investment date to June 30, 2018 was not material.

The fair values of these contingent earnout arrangements and the net put option were measured using valuations based on other unobservable inputs that are significant to the fair value measurement (Level 3).

The Company estimated the fair value of the 0.25% convertible notes based on quoted market prices as of the last trading day prior to June 30, 2018; however, the convertible notes have only a limited trading volume and, as such, this fair value estimate is not necessarily the value at which the convertible notes could be retired or transferred. The Company concluded that this fair value measurement should be categorized within Level 2. The carrying value of the convertible notes is net of unamortized discount and issuance costs. See Note 7. Debt for details on the Company’s debt facilities. The fair value and carrying value of the convertible notes were as follows at June 30, 2018 ($000):

Fair ValueCarrying Value
Convertible notes$388,125$288,591

The following tables provide a summary by level of the fair value of financial instruments that are measured on a recurring basis as of June 30, 2018 and 2017 ($000):

Fair Value Measurements at June 30, 2018 Using:
Quoted Prices inSignificant
Active MarketsOtherSignificant
for IdenticalObservableUnobservable
AssetsInputsInputs
June 30, 2018(Level 1)(Level 2)(Level 3)
Assets:
Foreign currency forward contracts$121$-$121$-
Liabilities:
Contingent earnout arrangements$5,405$-$-$5,405
Net put option$2,024$-$-$2,024
Fair Value Measurements at June 30, 2017 Using:
Quoted Prices inSignificant
Active MarketsOtherSignificant
for IdenticalObservableUnobservable
AssetsInputsInputs
June 30, 2017(Level 1)(Level 2)(Level 3)
Assets:
Foreign currency forward contracts$191$-$191$-
Liabilities:
Contingent earnout arrangements$5,795$-$-$5,795

The Company’s policy is to report transfers into and out of Levels 1 and 2 of the fair value hierarchy at fair values as of the beginning of the period in which the transfers occur. There were no transfers in and out of Levels 1 and 2 of the fair value hierarchy during fiscal years 2018 and 2017.

The following table presents a reconciliation of the beginning and ending fair value measurements of the Company’s level 3 contingent earnout arrangements related to the acquisitions of II-VI EpiWorks and IPI and the net put option relating to the purchase of the equity investment in November 2017. ($000):

Significant
Unobservable Inputs
(Level 3)
Balance at July 1, 2017$5,795
Activity:
Purchase price adjustment - IPI(35)
Net put option2,233
Changes in fair value recorded in other expense (income), net(564)
Balance at June 30, 2018$7,429

The fair values of cash and cash equivalents are considered Level 1 among the fair value hierarchy and approximate fair value because of the short-term maturity of those instruments. The Company’s borrowings includes both variable and fixed interest rates, non-interest bearing debt and a capital lease obligation and are considered Level 2 among the fair value hierarchy and accordingly their carrying amounts approximate fair value.

Note 14.Derivative Instruments

The Company, from time to time, purchases foreign currency forward exchange contracts, primarily in Japanese Yen, that permit it to sell specified amounts of these foreign currencies expected to be received from its export sales, for pre-established U.S. dollar amounts at specified dates. These contracts are entered into to limit transactional exposure to changes in currency exchange rates of export sales transactions in which settlement will occur in future periods and which otherwise would expose the Company, on the basis of its aggregate net cash flows in respective currencies, to foreign currency risk.

The Company has recorded the fair value of these contracts in the Company’s financial statements. These contracts had a total notional amount of $12.0 million and $12.7 million at June 30, 2018 and 2017, respectively. As of June 30, 2018, these forward contracts had expiration dates ranging from July 2018 through October 2018, with Japanese Yen denominations individually between 250 million and 500 million Yen. The Company does not account for these contracts as hedges as defined by U.S. GAAP and records the change in the fair value of these contracts in Other expense (income), net in the Consolidated Statements of Earnings as they occur. The fair value measurement takes into consideration foreign currency rates and the current creditworthiness of the counterparties to these contracts, as applicable, and is based upon quoted prices for similar assets and liabilities in active markets, or other inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instruments and thus represents a Level 2 measurement. These contracts are recorded in prepaid and other current assets in the Company’s Consolidated Balance Sheets as of June 30, 2018. The change in the fair value of these contracts for the fiscal year ended June 30, 2018, 2017 and 2016 was insignificant.

Note 15.Employee Benefit Plans

Eligible U.S. employees of the Company participate in a profit sharing retirement plan. Contributions accrued for the plan are made at the discretion of the Company’s board of directors and were $5.0 million, $4.3 million, and $3.4 million for the years ended June 30, 2018, 2017 and 2016, respectively.

The Company has an employee stock purchase plan available for employees who have completed six months of continuous employment with the Company. The employee may purchase the Company’s common stock at 5% below the prevailing market price. The amount of shares which may be bought by an employee during each fiscal year is limited to 10% of the employee’s base pay. This plan, as amended, limits the number of shares of common stock available for purchase to 1,600,000 shares. There were 462,798 and 477,949 shares of common stock available for purchase under the plan at June 30, 2018 and 2017, respectively.

Switzerland Defined Benefit Plan

In conjunction with the acquisition of II-VI Laser Enterprise in fiscal year 2014, the Company assumed a pension plan covering employees of our Swiss subsidiary (the “Swiss Plan”). Employer and employee contributions are made to the Swiss Plan based on various percentages of salary and wages that vary according to employee age and other factors. Employer contributions to the Swiss Plan for years ended June 30, 2018 and 2017 were $2.7 million and $2.4 million, respectively. Expected employer contributions in fiscal year 2019 are $2.7 million.

The changes in the funded status of the Swiss Plan during the fiscal years ended June 30, 2018 and 2017 were as follows:

Year Ended June 30,20182017
Change in projected benefit obligation:
Projected benefit obligation, beginning of period$59,518$54,094
Service cost3,7663,689
Interest cost424163
Benefits accumulated, net of benefits paid1,4741,743
Plan amendments (Reduction of the conversion rate 6.8% to 6.2%)(4,068)-
Actuarial (gain) loss on obligation1,606(2,777)
Participant contributions1,4151,262
Currency translation adjustment(1,581)1,344
Projected benefit obligation, end of period$62,554$59,518
Change in plan assets:
Plan assets at fair value, beginning of period42,99035,857
Actual return on plan assets1,566805
Employer contributions2,7312,432
Participant contributions1,4151,262
Benefits accumulated, net of benefits paid1,4741,743
Currency translation adjustment(1,142)891
Plan assets at fair value, end of period$49,034$42,990
Amounts recognized in consolidated balance sheets:
Other non-current assets:
Deferred tax asset$2,859$3,496
Other non-current liabilities:
Underfunded pension liability$13,52016,528
Amounts recognized in accumulated other comprehensive income, net of tax:
Pension adjustment$2,846$2,514
Accumulated benefit obligation, end of period$59,800$56,457

Net periodic pension cost associated with the Swiss Plan included the following components:

Year Ended June 30,201820172016
Service cost$3,766$3,689$2,680
Interest cost424163434
Expected return on plan assets849(742)(1,097)
Net actuarial loss and prior service credit203594(234)
Net periodic pension cost$5,242$3,704$1,783

The projected and accumulated benefit obligations for the Swiss Plan were calculated as of June 30, 2018 and 2017 using the following assumptions:

June 30,20182017
Discount rate0.9%0.8%
Salary increase rate2.0%2.0%

The net periodic pension cost for the Swiss Plan was calculated during the fiscal years ended June 30 2018, 2017, and 2016 using the following assumptions:

Year Ended June 30,201820172016
Discount rate0.8%0.3%1.1%
Salary increase rate2.0%2.0%2.0%
Expected return on plan assets2.0%2.0%2.0%

The discount rate is based on assumed pension benefit maturity and estimates developed using the rate of return and yield curves for high quality Swiss corporate and government bonds. The salary increase rate is based on our best assessment for on-going increases over time. The expected long-term rate of return on plan assets is based on the expected asset allocation, taking into consideration historical long-term rates of return for the relevant asset categories.

As is customary with Swiss pension plans, the assets of the plan are invested in a collective fund with multiple employers. We have no investment authority over the assets of the plan, which are held and invested by a Swiss insurance company. The investment strategy of the Swiss Plan is managed by an independent asset manager with the objective of achieving a consistent long-term return which will provide sufficient funding for future pension obligations while limiting risk.

The Swiss Plan is legally separate from II-VI, as are the assets of the plan. As of June 30, 2018, the Swiss Plan’s asset allocation was as follows (all of which are categorized as Level 2 in the fair value hierarchy):

June 30,20182017
Fixed income investments12.0%10.0%
Equity investments50.0%52.0%
Real estate31.0%26.0%
Cash4.0%9.0%
Other3.0%3.0%
100.0%100.0%

Estimated future benefit payments under the Swiss Plan are estimated to be as follows:

Year Ending June 30,
($000)
2019$5,100
20201,800
20212,700
20222,900
20233,200
Next five years22,400

Other Employee Benefit Plans

The Company has no program for post-retirement health and welfare benefits.

The II-VI Incorporated Deferred Compensation Plan (the “Compensation Plan”) is designed to allow officers and key employees of the Company to defer receipt of compensation into a trust fund for retirement purposes. Under the Compensation Plan, as it is currently implemented by the Company, eligible participants can elect to defer up to 100% of certain discretionary incentive compensation and certain equity awards into the Compensation Plan. The Compensation Plan is a nonqualified, defined contribution employees’ retirement plan. At the Company’s discretion, the Compensation Plan may be funded by the Company making contributions based on compensation deferrals, matching contributions and discretionary contributions. Compensation deferrals will be based on an election by the participant to defer a percentage of compensation under the Compensation Plan. All assets in the Compensation Plan are subject to claims of the Company’s creditors until such amounts are paid to the Compensation Plan participants. Employees of the Company made contributions to the Compensation Plan in the amounts of approximately $1.1 million, $0.8 million, and $1.2 million for the fiscal years ended June 30, 2018, 2017, and 2016, respectively. There were no employer contributions made to the Compensation Plan for the fiscal year ended June 30, 2016.

Note 16.Other Accrued Liabilities

The components of other accrued liabilities were as follows:

June 30,20182017
($000)
Deferred revenue$3,384$2,345
Warranty reserve4,6794,546
Earnout arrangements5,4053,930
Other accrued liabilities29,51118,235
$42,979$29,056

The following table summarizes the change in the carrying value of the Company’s warranty reserve included in Other Accrued Liabilities as of and for the years ended June 30, 2018 and 2017.

Year Ended June 30,20182017
($000)
Balance-Beginning of Year$4,546$3,908
Settlements during the period(3,688)(4,212)
Additional warranty liability recorded3,8214,850
Balance-End of Year$4,679$4,546
Note 17.Commitments and Contingencies

The Company has purchase commitments for materials and supplies as part of the ordinary conduct of business. A portion of the commitments are long-term and are based on minimum purchase requirements. Certain short-term raw material purchase commitments have a variable price component which is based on market pricing at the time of purchase. Due to the proprietary nature of some of the Company’s materials and processes, certain contracts may contain liquidated damage provisions for early termination. The Company does not believe that a significant amount of liquidated damages are reasonably likely to be incurred under these commitments based upon historical experience and current expectations. The Company also has commitments relating to earnout arrangements on its prior year acquisitions of $5.4 million and $85.0 million for the planned acquisition of CoAdna. Inc., for fiscal year 2019. Total future commitments are as follows:

Year Ending June 30,
($000)
2019$114,307
20203,477
2021567
2022-
2023-
Note 18.Share Repurchase Programs

In August 2017, in conjunction with the Company’s offering and sale of the Notes, the Company’s Board of Directors authorized the Company to purchase up to $50 million of its common stock with a portion of the net proceeds received from the offering and sale of the Notes. The shares that were purchased by the Company pursuant to this authorization were retained as treasury stock and are available for general corporate purposes. The Company purchased 1,414,900 shares of its common stock for approximately $49.9 million pursuant to this authorization in fiscal 2018.

In August 2014, the Company’s Board of Directors authorized the Company to purchase up to $50 million of its common stock through a share repurchase program (the “Program”) that calls for shares to be purchased in the open market or in private transactions from time to time. The Program has no expiration and may be suspended or discontinued at any time. Shares purchased by the Company are retained as treasury stock and available for general corporate purposes. The Company did not repurchase shares pursuant to this Program during the fiscal years ended June 30, 2018 and 2017. During the fiscal year ended June 30, 2016, the Company purchased 380,538 shares of its common stock for $6.3 million under this program. Through June 30, 2018, the Company has cumulatively purchased 1,316,587 shares of its common stock pursuant to the Program for approximately $19.0 million.

Note 19.Accumulated Other Comprehensive Income (Loss)

The changes in accumulated other comprehensive income (“AOCI”) by component, net of tax, for the years ended June 30, 2018, 2017, and 2016 were as follows ($000):

ForeignTotal
CurrencyDefinedAccumulated Other
TranslationBenefitComprehensive
AdjustmentPension PlanIncome
AOCI - June 30, 2015$9,466$(801)$8,665
Other comprehensive income (loss) before reclassifications(15,651)(6,805)(22,456)
Amounts reclassified from AOCI-(226)(226)
Net current-period other comprehensive income(15,651)(7,031)(22,682)
AOCI - June 30, 2016(6,185)(7,832)(14,017)
Other comprehensive income (loss) before reclassifications(2,275)1,920(355)
Amounts reclassified from AOCI-594594
Net current-period other comprehensive income(2,275)2,514239
AOCI - June 30, 2017$(8,460)$(5,318)$(13,778)
Other comprehensive income (loss) before reclassifications7,1522,6439,795
Amounts reclassified from AOCI-203203
Net current-period other comprehensive income7,1522,8469,998
AOCI - June 30, 2018$(1,308)$(2,472)$(3,780)
Note 20.Capital Lease

During fiscal 2017, the Company’s OptoElectronic Devices subsidiary entered into a capital lease related to a building in Warren, New Jersey. The following table shows the future minimum lease payments due under the non-cancelable capital lease ($000):

Fiscal Year Ending June 30,Amount
2019$2,292
20202,355
20212,419
20222,486
20232,554
Thereafter24,740
Total minimum lease payments$36,846
Less amount representing interest11,906
Present value of capitalized payments$24,940

The current and long-term portion of the capital lease obligation was recorded in Other accrued liabilities and Other liabilities, respectively, in the Company’s Consolidated Balance Sheets as of June 30, 2018 and 2017. The present value of the minimum capital lease payments at inception was $25.0 million recorded in Property, Plant & Equipment, net, in the Company’s Consolidated Balance Sheet, with associated depreciation being recorded over the 15 year life of the lease. During the fiscal year ended June 30, 2018, the Company recorded $1.7 million of depreciation expense associated with the capital leased asset.

Quarterly Financial Data (unaudited)

Fiscal Year 2018

September 30,December 31,March 31,June 30,
Quarter Ended2017201720182018
($000)
2018
Net revenues$261,503$281,470$294,746$321,075
Cost of goods sold155,528172,037176,361193,580
Internal research and development25,57427,76430,56033,346
Selling, general and administrative50,62449,12253,08755,924
Interest expense3,6454,6445,0145,049
Other expense (income) - net(767)(1,965)(1,496)(1,031)
Earnings before income taxes26,89929,86831,22034,207
Income taxes5,75820,2721,1227,040
Net Earnings$21,141$9,596$30,098$27,167
Basic earnings per share$0.34$0.15$0.48$0.44
Diluted earnings per share$0.32$0.15$0.45$0.42

Fiscal Year 2017

September 30,December 31,March 31,June 30,
Quarter Ended2016201620172017
($000)
2017
Net revenues$221,520$231,822$244,987$273,717
Cost of goods sold133,918137,559147,277164,939
Internal research and development21,83223,63225,38025,966
Selling, general and administrative42,07943,49543,29147,137
Interest expense1,2461,3651,9362,262
Other expense (income) - net(1,402)(6,045)(2,164)(445)
Earnings before income taxes23,84731,81629,26733,858
Income taxes7,5537,9136,8371,211
Net Earnings$16,294$23,903$22,430$32,647
Basic earnings per share$0.26$0.38$0.36$0.52
Diluted earnings per share$0.26$0.37$0.35$0.50

SCHEDULE II

II-VI INCORPORATED AND SUBSIDIARIES

VALUATION AND QUALIFYING ACCOUNTS

YEARS ENDED JUNE 30, 2018, 2017, AND 2016

(IN THOUSANDS OF DOLLARS)

Balance atChargedChargedDeductionBalance
Beginningtoto Otherfromat End
of YearExpenseAccountsReservesof Year
YEAR ENDED JUNE 30, 2018:
Allowance for doubtful accounts$1,314$(129)$-$(348)(2)$837
Warranty reserves$4,546$3,821$-$(3,688)$4,679
Deferred tax asset valuation allowance$42,562$(4,602)$(16,163)(5)$-$21,797
YEAR ENDED JUNE 30, 2017:
Allowance for doubtful accounts$2,016$(134)$-$(568)(2)$1,314
Warranty reserves$3,908$4,850$-$(4,212)$4,546
Deferred tax asset valuation allowance$42,641$(79)$-$-$42,562
YEAR ENDED JUNE 30, 2016:
Allowance for doubtful accounts$1,048$1,123$-$(155)(2)$2,016
Warranty reserves$3,251$4,648$82(1)$(4,073)$3,908
Deferred tax asset valuation allowance$2,713$8,464$36,240(3)$(4,776)(4)$42,641
(1)Relates to the warranty reserve acquired from acquisitions.
(2)Primarily relates to write-offs of accounts receivable.
(3)Valuation allowance recorded through goodwill.
(4)Reduction in valuation allowance as a result of divesture of portion of business.
(5)Primarily relates to the Company’s deferred taxes on the conversion feature of the convertible debt.

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