Fitbit Inc.
Annual Report 2016

Plain-text annual report

Table of Contents UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ____________________________________________ FORM 10-K ____________________________________________ (Mark one) þ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2016 or o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________________ to ________________ Commission file number: 001-37444 ____________________________________________ FITBIT, INC. (Exact name of registrant as specified in its charter) ____________________________________________ Delaware (State or other jurisdiction of incorporation or organization) 20-8920744 (I.R.S. Employer Identification No.) 405 Howard Street San Francisco, California 94105 (Address of principal executive offices) (Zip Code) (415) 513-1000 (Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: Title of each class Class A Common Stock, par value $0.0001 Name of each exchange on which registered New York Stock Exchange Indicate by check mark whether the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes þ No o Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No þ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. Large accelerated filer Non-accelerated filer þ o (Do not check if a smaller reporting company) Accelerated filer Smaller reporting company o o Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant, based on the closing sale price of the registrant's Class A common stock on July 1, 2016, the last business day of the registrant's most recently completed second fiscal quarter, as reported on the New York Stock Exchange, was approximately $2.0 billion. As of February 17, 2017, there were 177,757,412 shares of the registrant’s Class A common stock outstanding and 48,450,746 shares of the registrant’s Class B common stock outstanding. Portions of the registrant’s Definitive Proxy Statement for the Annual Meeting of Stockholders are incorporated herein by reference in Part III of this Annual Report on Form 10-K to the extent stated herein. Such proxy statement will be filed with the Securities and Exchange Commission within 120 days of the registrant’s fiscal year ended December 31, 2016. DOCUMENTS INCORPORATED BY REFERENCE Table of Contents Fitbit, Inc. Form 10-K For the Fiscal Year Ended December 31, 2016 TABLE OF CONTENTS Item 1. Item 1A. Item 1B. Item 2. Item 3. Item 4. Item 5. Item 6. Item 7. Item 7A. Item 8. Item 9. Item 9A. Item 9B. Item 10. Item 11. Item 12. Item 13. Item 14. Item 15. Part I Business Risk Factors Unresolved Staff Comments Properties Legal Proceedings Mine Safety Disclosures Part II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Selected Financial Data Management's Discussion and Analysis of Financial Condition and Results of Operations Quantitative and Qualitative Disclosures About Market Risk Financial Statements and Supplementary Data Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Controls and Procedures Other Information Part III Directors, Executive Officers and Corporate Governance Executive Compensation Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters Certain Relationships and Related Transactions and Director Independence Principal Accounting Fees and Services Part IV Exhibits, Financial Statement Schedules Signatures Page 2 11 32 32 32 32 33 35 39 57 58 96 96 96 97 97 97 97 97 98 99 i Table of Contents NOTE ABOUT FORWARD-LOOKING STATEMENTS This Annual Report on Form 10-K contains forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, that involve risks and uncertainties. All statements contained in this Annual Report on Form 10-K other than statements of historical fact, including statements regarding our future results of operations and financial position, our business strategy and plans, and our objectives for future operations, are forward-looking statements. The words “believe,” “may,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “expect,” and similar expressions are intended to identify forward-looking statements. Forward-looking statements contained in this Annual Report on Form 10-K include, but are not limited to, statements about: • • • • • • • • • • • • • • • • • • • • • • continued investments in research and development, sales and marketing and international expansion and the impact of those investments; trends in our operating expenses, including personnel costs, research and development expense, sales and marketing expense and general and administrative expense; competitors and competition in our markets; our ability to anticipate and satisfy consumer preferences; our ability to develop new products and services or improve our existing products and services, or engage or expand our core user base; our ability to accurately forecast consumer demand and adequately manage inventory; our ability to deliver an adequate supply of product to meet demand; our ability to maintain and promote our brand and expand brand awareness; our ability to detect, prevent, or fix defects; our reliance on third-party suppliers, contract manufacturers and logistics providers and our limited control over such parties; trends in our quarterly operating results and other operating metrics; trends in revenue, costs of revenue and gross margin; legal proceedings and the impact of such proceedings; the effect of seasonality on our results of operations; our ability to attract and retain highly skilled employees; our expectation to derive the substantial majority of our revenue from sales of devices; growing our sales of subscription-based services ; the impact of foreign currency exchange rates; releasing and shipping new products and services, and the timing thereof; the sufficiency of our existing cash and cash equivalent balances and cash flow from operations to meet our working capital and capital expenditure needs for at least the next 12 months; the continued availability of our credit facility; and general market, political, economic and business conditions . We caution you that the foregoing list does not contain all of the forward-looking statements made in this Annual Report on Form 10-K. You should not rely upon forward-looking statements as predictions of future events. We have based the forward-looking statements contained in this Annual Report on Form 10-K primarily on our current expectations and projections about future events and trends that we believe may affect our business, financial condition, operating results, and prospects. The outcome of the events described in these forward-looking statements is subject to risks, uncertainties, and other factors described in the section titled “Risk Factors” and elsewhere in this Annual Report on Form 10-K. Moreover, we operate in a very competitive and rapidly changing environment. New risks and uncertainties emerge from time to time, and it is not possible for us to predict all risks and uncertainties that could have an impact on the forward-looking statements contained in this Annual Report on Form 10-K. We cannot assure you that the results, events, and circumstances reflected in the forward-looking statements will be achieved or occur, and actual results, events, or circumstances could differ materially from those described in the forward-looking statements. The forward-looking statements made in this Annual Report on Form 10-K relate only to events as of the date on which the statements are made. We undertake no obligation to update any forward-looking statements made in this Annual Report on Form 10-K to reflect events or circumstances after the date of this Annual Report on Form 10-K or to reflect new information or the occurrence of unanticipated events, except as required by law. We may not actually achieve the plans, intentions, or expectations disclosed in our forward-looking statements and you should not place undue reliance on our forward-looking statements. Our forward- looking statements do not reflect the potential impact of any future acquisitions, mergers, dispositions, joint ventures, or investments we may make. 1 Table of Contents PART I Item 1. Business Our Mission Fitbit helps people lead healthier, more active lives by empowering them with data, inspiration, and guidance to reach their goals. Overview Fitbit is transforming the way millions of people around the world achieve their health and fitness goals. The Fitbit platform combines connected health and fitness devices with software and services, including an online dashboard and mobile apps, data analytics, motivational and social tools, personalized insights, and virtual coaching through customized fitness plans and interactive workouts. Our platform helps people become more active, exercise more, sleep better, eat smarter, and manage their weight. Fitbit appeals to a large, mainstream health and fitness market by addressing these key needs with advanced technology embedded in simple-to-use products and services. We pioneered the connected health and fitness market starting in 2007, and since then, we have grown into a leading global health and fitness brand. The core of our platform is our family of wearable connected health and fitness trackers. These wrist-based and “clippable” devices automatically track users’ daily steps, calories burned, distance traveled, and active minutes and display real-time feedback to encourage them to become more active in their daily lives. Most of our trackers also measure floors climbed, sleep duration and quality, and our more advanced products track heart rate and GPS-based information such as speed, distance, and exercise routes. Several of our devices also feature deeper integration with smartphones, such as the ability to receive call and text notifications and control music. To accompany certain of our products, we offer accessories that include interchangeable wrist bands and frames, colored clips, device charging cables, wireless sync dongles, band clasps, sleep bands, and Fitbit apparel. In addition, we offer a Wi-Fi connected scale that records weight, body fat, and BMI. We are able to enhance the functionality and features of our connected devices through wireless updates. Our platform also includes our online dashboard and mobile apps, which wirelessly and automatically sync with our devices. Our platform allows our users to see trends and achievements, access motivational tools such as virtual badges and real-time progress notifications, and connect, support, and compete with friends and family. Our direct connection with our users enables us to provide personalized insights, premium services, and information about new products and services. Premium services include virtual coaching through customized fitness plans and interactive video-based exercise experiences on mobile devices and computers. In addition, we extend the value of our platform through our open API, which enables third-party developers to create health and fitness apps that interact with our platform. Through our open platform and our large community of users, we have established an ecosystem that includes thousands of third-party health and fitness apps that connect with our products and enhance the Fitbit experience. Our platform enables all types of people to get fit their own way, whatever their interests and goals. Our users range from people interested in improving their health and fitness through everyday activities to endurance athletes seeking to maximize their performance. To address this range of needs, we design our devices, apps, and services to be easy to use so that they fit seamlessly into peoples’ daily lives or activities. Our users can sync their Fitbit devices with, and view their dashboard on, their computers and over 200 mobile devices, including iOS, Android, and Windows Phone products. This broad compatibility, combined with our market-leading position, has enabled us to attract what we believe is the largest community of connected health and fitness device users. The size of our user community increases the likelihood that our users will be able to find and engage with friends and family, creating positive network effects that reinforce our growth. In addition, data from our large community enables us to enhance our product features, provide improved insights, and offer more valuable guidance for our users. The Fitbit Platform Our leading connected health and fitness platform is designed to enable our users to improve their health and fitness by: • Tracking activities through our connected health and fitness devices. We empower users to live healthier, more active lifestyles by both tracking the information that matters most to them and providing them with real-time feedback. Our connected health and fitness devices span multiple styles, form factors, and price points, addressing the needs of everyone—from people simply looking to get fit by increasing their activity levels to endurance athletes seeking to maximize their performance. Our devices, which include wrist-based and clippable fitness trackers and our Wi-Fi connected scale, feature 2 Table of Contents • • • proprietary and advanced sensor technologies and algorithms, high accuracy of measures, and long battery lives. In addition, the ease of use and small, lightweight, and durable designs of our devices help them fit effortlessly into our users’ lifestyles. Learning through our online dashboard and mobile apps. We offer our users a personalized online dashboard and mobile apps that sync automatically with, and display data from, our connected health and fitness devices. We provide our users with a wide range of information and analytics, such as charts and graphs of their progress and the ability to log caloric intake. Both our online dashboard and mobile apps are free and work with all of our connected health and fitness devices. Our internally-developed software is regularly updated and enhanced, increasing the utility of our health and fitness platform. Staying motivated through social features, notifications, challenges, and virtual badges. Our products help millions of users achieve their goals both individually and within the community that they choose. On an individual level, we motivate users by delivering real-time feedback, including notifications, leaderboard and challenge updates, and virtual badges. Our platform also offers users social features that allow them to receive and provide support and engage in friendly competition. Users can securely share some or all of their health and fitness information on an opt-in basis with friends, family, and other parties and compete against each other on key statistics through leaderboards and daily or multi-day fitness challenges. In addition, users can choose to share their data with thousands of third-party apps and through social networks on an opt-in basis. As users create more connections on our network, they often benefit from higher levels of fitness activity and overall value from our platform. Improving health and fitness through goal-setting, personalized insights, premium services, and virtual coaching. Our primary goal is to help our users improve their health and fitness. We believe our platform assists users in changing their daily behavior, such as eating healthier foods or going for a run or walking more to reach a goal or win a challenge. We empower our users to set their own health and fitness goals and track their progress towards these goals. We also offer premium services on a subscription basis that provide personalized insights and virtual coaching through customized fitness plans and interactive video-based exercise experiences on mobile devices and computers. Our premium services feature in-depth data analysis and personalized reports, as well as benchmarking against peers. Our Competitive Strengths We believe the following strengths will allow us to maintain and extend our leadership position: • • • • Leading market position and global brand. Our singular focus on building a connected health and fitness platform, coupled with our leading market share, has led to our brand becoming synonymous with the connected health and fitness category. Broad range of connected health and fitness devices. We believe everyone’s approach to fitness is different, so we offer our users a range of connected health and fitness devices spanning multiple styles, form factors, and price points to allow people to find the devices that fit their lifestyles and goals. In addition to our wrist-based and clippable wearable health and fitness devices, we also offer a Wi-Fi connected scale that tracks weight, body fat, and BMI. We believe the breadth of our connected health and fitness devices provides us with a competitive advantage over our competitors, which often have a more limited line of products. Advanced, purpose-built hardware and software technologies. Our connected health and fitness devices leverage industry-standard technologies, such as Bluetooth low energy, as well as proprietary technologies, such as our PurePulse continuous heart rate tracking, and our algorithms that more accurately measure and analyze user health and fitness metrics. We devote significant resources to ensure that our devices effortlessly fit into our users’ lifestyles. For example, we design our small, lightweight, durable, and fashionable products to be optimized for power efficiency, which enables automatic wireless data syncing without compromising battery life. We place a similarly strong emphasis on our online dashboard and mobile apps to provide users with visualization of their progress and personalized guidance. Our highly-scalable cloud infrastructure enables millions of users around the world to engage with our platform in real-time. Broad mobile compatibility and open API. Our broad mobile compatibility and open API enable a large health and fitness ecosystem that provides additional value to our existing users and extends our reach to potential new users. Our users can sync their Fitbit devices with, and view their online dashboard on, their computers and over 200 mobile devices, including iOS, Android, and Windows Phone products. This broad compatibility, combined with our market-leading position, has enabled us to build what we believe is the largest community of connected health and fitness device users. 3 Table of Contents Additionally, we enable seamless integration with thousands of apps across iOS, Android, and Windows Phone through our open API, which allows our users to share data with third-party apps on an opt-in basis. • • • Broad and differentiated go-to-market strategy. We have developed a broad go-to-market strategy that reaches individuals regardless of where they shop. We sell our products in over 55,000 retail stores and in 65 countries, through our retailers’ websites, through our online store at Fitbit.com, and as part of our corporate wellness offering. We believe the breadth and depth of our established selling channels and prominent presence in retail stores are unmatched in the connected health and fitness category and would be difficult for a competitor to replicate. Large and growing community and powerful network effects. We believe the size of our community of users makes it more likely that users can connect with friends and family and attracts many new users to our platform. Each of our users add value to our platform by making progress towards their goals and syncing their data with our platform, which we leverage to provide better insights for our users. As our community of users continues to grow, we will develop a deeper understanding of our users and expect to deliver additional value to them through more detailed insights and analysis. We believe the growth and scale of our user community allows users to become not only more engaged with personalized and relevant content, but also less likely to leave a community in which many of their friends and family are active members. Direct relationship and continuous communication with our users. The connectivity of our devices allows us to better understand our users’ health and fitness goals. This connectivity also allows us to communicate the most relevant analysis, features, advice, and content to our users throughout the day with our online dashboard, mobile apps, emails, and notifications. We also utilize these communication channels to help our users become aware of our new products and services. Our Users We aim to empower all people to improve their health and fitness, whatever their lifestyle or goals. Our community of users generally falls into three fitness levels and we design and market our products to them accordingly: Everyday users represent our largest group of users. These users are looking to incorporate more activity into their daily routines as the primary means to improve their overall fitness through everyday activities, such as walking more or taking the stairs instead of the elevator. They are most interested in receiving feedback on daily activity measures such as steps, distance, calories burned, and active minutes. We primarily market the Fitbit Zip, Fitbit One, Fitbit Flex 2, and Fitbit Alta to Everyday users. Active users exercise regularly to reach their fitness goals through activities such as running, using cardio equipment, and playing sports recreationally. As a result, these users are often interested in monitoring exercise intensity through heart rate tracking in addition to activity tracking. We primarily market the Fitbit Charge 2 and Fitbit Blaze to Active users. Performance users train regularly to improve their performance and achieve their personal bests. These users participate in endurance sports and fitness activities with higher intensity and longer duration, such as interval or distance running and cycling, and thrive on personal improvement and competition. Accordingly, these users are interested in GPS tracking of speed, distance, and exercise routes, in addition to heart rate and daily activity tracking. We primarily market the Fitbit Surge to Performance users. What Our Connected Health and Fitness Devices Track With each successive product offering, we have expanded the features and accuracy of our products and now track the following measures: • • • Steps. The cornerstone of our initial product offering, our trackers use accelerometers and proprietary algorithms that count the number of steps taken throughout their day. Calories burned. Our users can estimate the amount of calories burned throughout the day based on several methods depending on the tracker. We believe our more advanced devices that use our PurePulse heart rate tracking technology provide a more accurate estimate of calorie burn than non- PurePulse based products. Distance traveled. Our users can track the distance they have traveled throughout the day as a function of the number of steps they have taken throughout the day or through built-in GPS, depending upon the tracker. 4 Table of Contents • Heart rate. On trackers that are outfitted with our proprietary PurePulse technology, our users are able to automatically and continuously track their heart rate during everyday activity and exercise. Our PurePulse technology uses wrist-based optical LEDs, which measures heart rate using light reflection. We believe our PurePulse technology makes heart rate relevant as a means to more accurately measure calorie burn, maintain intensity during exercise, and train more effectively by using heart rate zones. Additionally, our heart rate tracking technology can conveniently provide our users with their resting heart rate, which is a widely used indicator of cardiovascular fitness and conditioning. • • • • • Floors climbed. Using a built-in altimeter sensor, our users are able to track flights of stairs climbed, which encourages users to take the stairs instead of using an escalator or elevator. Floors climbed are tracked by all trackers except Fitbit Zip and Fitbit Alta. Sleep duration and quality. Users can track their sleep duration and quality on all trackers, except Fitbit Zip, including restless and awake episodes throughout the night. Most trackers allow users to track this data automatically. Active minutes. Our trackers detect the number of minutes our users are more active. GPS-based tracking. Our Fitbit Surge allows our users to track their speed, distance, and exercise routes using the GPS capability integrated into the device during activities such as running, cycling, hiking, and walking. For those without Fitbit Surge, our mobile apps provide GPS tracking using the phone’s GPS capability. Fitbit Blaze allows users to connect to their smartphones’ GPS capabilities. SmartTrack. SmartTrack automatically recognizes continuous movement when users wear Fitbit Alta, Fitbit Charge HR, Fitbit Blaze, or Fitbit Surge. It identifies the type of activity and records it in the Fitbit app along with an exercise summary, including duration, calories burned and heart rate stats. SmartTrack is capable of identifying a wide variety of activities, including elliptical, outdoor biking, running, walking, and general categories of aerobic workouts and sports. • Weight, body fat, and BMI. Our Aria Wi-Fi connected scale allows users to track weight, BMI, lean mass, and body fat percentage separately and privately for up to eight users, helping individuals to track progress towards and achieve their body composition goals. • Caloric intake. Through our mobile apps, we provide a database with more than 300,000 specific food items that can be searched and tracked. Users can log food consumption and set calorie budgets based on their caloric intake and daily activity to achieve a desired weight goal. Our Devices We believe everyone’s approach to fitness is different, so we have created products with a wide variety of styles, sizes, features, and price points. Fitbit Zip is our entry-level wireless activity tracker for Everyday users that allows them to track the most important daily activity statistics such as steps, distance, calories burned, and active minutes. As a clippable tracker, Fitbit Zip can be worn discreetly in a pocket or on a belt. We offer the Fitbit Zip in five colors with a replaceable watch battery that lasts up to six months. Fitbit Zip has a U.S. MSRP of $59.95. Fitbit One is a more advanced clippable wireless tracker for Everyday users that tracks floors climbed and sleep in addition to daily steps, distance, calories burned, and active minutes. Fitbit One also has a silent alarm that gently vibrates to wake users at a desired time. Fitbit One is available in two colors and offers a rechargeable battery that lasts ten to fourteen days. Fitbit One has a U.S. MSRP of $99.95. Fitbit Flex is our first wristband-style tracker, with a sleek and stylish design intended for Everyday users. Fitbit Flex tracks steps, distance, calories burned, active minutes, and sleep. Fitbit Flex also has a silent alarm. Fitbit Flex features LED lights to show users’ progress towards their primary daily goal. We also offer users the ability to change wristbands for different colors to match their mood or personal style. Its rechargeable battery lasts up to five days. Fitbit Flex has been discontinued and replaced with Fitbit Flex 2. Fitbit Flex 2 replaces Fitbit Flex, and is our first water-resistant fitness wristband. We began selling Fitbit Flex 2 in September 2016. Fitbit Flex 2 is water resistant up to 50 meters, and automatically tracks pool swims including laps, duration and calories burned in the Fitbit App. It features SmartTrack automatic exercise recognition, tracks daily activities such as steps, distance, 5 Table of Contents calories burned, and active minutes, and automatically tracks sleep at night. Fitbit Flex 2 also features a slim design, easily interchangeable bands, and LED lights to show progress toward a user’s daily goal. Fitbit Flex 2 is available in four colors and two sizes, and uses a rechargeable battery that lasts up to five days. Fitbit Flex 2 has a U.S. MSRP of $99.95. Fitbit Charge is our activity and sleep wristband for Everyday users that we began selling in October 2014. It tracks steps, distance, calories burned, active minutes, floors climbed, and sleep. Fitbit Charge features a bright OLED display that shows users’ daily activity and time of day, as well as incoming caller ID notifications when the device is paired with the user’s phone. Fitbit Charge tracks sleep automatically and offers a silent wake alarm. Its rechargeable battery lasts seven to ten days. Fitbit Charge has been discontinued and replaced with Fitbit Charge 2. Fitbit Alta is our slim, sleek, and customizable wristband for Everyday users that we began selling in March 2016. Fitbit Alta offers call, text, and calendar notifications when paired with the user’s phone and SmartTrack automatic exercise recognition. It also features reminders to move throughout the day. It measures daily activities such as steps, distance, calories burned, active minutes, and automatically tracks sleep at night. Fitbit Alta can be personalized with interchangeable accessory bands and features a vibrant OLED display. Fitbit Alta is available in four colors and three sizes, and uses a rechargeable battery that lasts up to five days. Fitbit Alta has a U.S. MSRP of $129.95. Fitbit Charge HR is a wireless heart rate and activity wristband for Active users that we began selling in December 2014. Fitbit Charge HR offers all the features available on the Fitbit Charge and also includes our proprietary PurePulse heart rate tracking technology and SmartTrack automatic exercise recognition. Its rechargeable battery lasts up to five days. Fitbit Charge HR has been discontinued and replaced with Fitbit Charge 2. Fitbit Charge 2 replaces Fitbit Charge and Fitbit Charge HR, and is a wireless heart rate and activity wristband that we began selling in August 2016. Fitbit Charge 2 features connected GPS through a user’s smartphone, PurePulse heart rate tracking, and SmartTrack automatic exercise recognition. It provides an estimate of the user’s cardio fitness level, features guided breathing sessions, and provides text and call notifications. Fitbit Charge 2 tracks daily activities such as steps, distance, calories burned, floors climbed, and active minutes and automatically tracks sleep at night. Fitbit Charge 2 also features a slim design, easily interchangeable bands, and a tap-sensitive display. Fitbit Charge 2 is available in four colors and three sizes. Its rechargeable battery lasts up to five days. Fitbit Charge 2 has a U.S. MSRP of $149.95. Fitbit Blaze is our smart fitness watch for Active users that we began selling in February 2016. It combines features of a smartwatch, heart rate tracker, and activity tracker. It includes features such as FitStar on-screen workouts, connected GPS through a user’s smartphone’s GPS, PurePulse heart rate tracking, and SmartTrack automatic exercise recognition. It provides multi-sport functionality, tracks outdoor cycling activity, provides run cues, includes a stop watch and timer, and is also designed with advanced smartwatch features, including text and call notifications and music control. Like our other trackers, it measures daily activities such as steps, distance, calories burned, floors climbed, and active minutes and automatically tracks sleep at night. Fitbit Blaze also features a slim design, easily interchangeable bands and frames, and a color touchscreen. Fitbit Blaze is available in three colors and three sizes, and uses a rechargeable battery that lasts up to five days. Fitbit Blaze has a U.S. MSRP of $199.95. Fitbit Surge is our fitness “super watch” for Performance users that we began selling in December 2014. It combines features of a GPS watch, heart rate tracker, activity tracker, and smartwatch. On its touch screen LCD display, Fitbit Surge displays real-time statistics from its built-in GPS tracker such as speed, distance, and exercise routes. Fitbit Surge incorporates our PurePulse heart rate technology and SmartTrack automatic exercise recognition. It provides multi-sport functionality, tracks outdoor cycling activity, provides run cues, includes a stop watch and timer, and is also designed with advanced smartwatch features, including text and call notifications and music control. Like our other trackers, it measures daily activities such as steps, distance, calories burned, floors climbed, and active minutes and automatically tracks sleep at night. Fitbit Surge is available in three colors and three sizes and incorporates a rechargeable battery that lasts up to seven days. Fitbit Surge has a U.S. MSRP of $249.95. Aria is our Wi-Fi connected scale that tracks weight, body fat percentage, and BMI. Aria identifies users and shows their weight and body fat percentage on its easy-to-read display. The device recognizes up to eight individual users separately and privately. Aria is available in two colors and runs on standard AA batteries. Aria has a U.S. MSRP of $129.95. Fitbit Accessories include bands and frames for Fitbit Blaze, bands for Fitbit Charge 2, Fitbit Alta, Fitbit Flex 2 and Fitbit Flex, bangles and pendants for Fitbit Flex 2, colored clips for Fitbit One and Fitbit Zip, device charging cables, wireless sync dongles, band clasps, sleep bands, and Fitbit apparel. In addition, our partners Tory Burch, Simply Vera Vera Wang, and Public School offer accessory collections for Fitbit Alta and Fitbit Flex. Fitbit accessories are offered at U.S. MSRPs ranging from $4.95 to $295.00. 6 Table of Contents Our Interactive Experience Fitbit online dashboard and mobile apps. We offer our users a personalized online dashboard and mobile apps that sync automatically with, and display real-time data from, our connected health and fitness devices. Through these offerings, we provide users with charts and graphs of their progress, deeper analysis of their activities, and the ability to log caloric intake. Additionally, we motivate users through real-time feedback including notifications, leaderboard and challenge updates, and virtual badges. Our platform also offers users social features, such as leaderboards and challenges, that allow users to receive and provide support and engage in friendly competition. Our online dashboard and mobile apps are available for free through the iOS App Store, Google Play, Windows Store, and on Fitbit.com. Fitbit Premium is our premium membership that serves as a 24/7 virtual personal trainer delivered to users through any web browser. The program features personalized and dynamic 12 week fitness plans to gradually increase activity levels. It also includes personalized reports and analysis of weekly data accompanied by recommended health and fitness targets and comparisons against peer benchmarks for weight, activity, and sleep. Fitbit Premium is offered on a subscription basis for U.S. $49.99 per year. FitStar. In March 2015, we acquired FitStar, a provider of interactive video-based exercise experiences on mobile devices and computers that utilize proprietary algorithms to adjust and customize workouts for individual users based on data gathered during their workouts. Through our FitStar offerings, we provide exercise programs through personal trainer and yoga apps that continuously adjust to our users based on feedback throughout the workout. FitStar is offered monthly for U.S. $7.99 or on an annual subscription basis for U.S. $39.99 per year. Compatibility and Wireless Syncing In order to reach the widest set of users and facilitate a strong social experience on our platform, we focus on ensuring that our devices are compatible with a broad range of mobile devices and operating systems. Currently, our users can sync their Fitbit devices with, and use their online dashboard on, over 200 mobile devices including iOS, Android, and Windows Phone operating systems. Additionally, our users can access their online dashboard through a web browser on any smartphone, tablet, PC, or Mac. Our connected health and fitness trackers wirelessly sync with our online dashboard and mobile apps through Bluetooth low energy technology. This power efficient technology enables our devices to sync with our mobile apps automatically, allowing us to provide users with real-time feedback and notifications. For syncing our fitness trackers with computers, we include a Bluetooth low energy wireless sync dongle with each fitness tracker that plugs into any computer’s USB port. Our Aria Wi-Fi connected scale syncs data wirelessly and automatically with users’ computers through their home Wi-Fi network. The combination of our cross-platform compatibility and wireless syncing capabilities provides our users with a seamless connected health and fitness experience in the market and differentiates us from our competitors, which may only sync to a single mobile operating system, such as iOS, or to a more limited number of Android mobile devices, or not to computers at all. Our Commitment to Privacy We take privacy seriously and offer our users high levels of privacy and security. We are committed to respecting our users’ privacy, letting our users decide how their information is used and shared, and keeping their data safe. We have developed our data collection and use practices in accordance with the Fair Information Practice Principles, more commonly known as FIPPs. We are committed to the following privacy principles as outlined in our privacy policy: • • • • Limited Collection. We only collect data that is useful to improving our products, services, and user experience. Transparent and Easy to Understand Policies. We are transparent about our data practices and explain them in clear language. No Unexpected Uses. We never sell user data or use it other than as described in our privacy policy. Clear Notice and Consent. We only share personally identifiable data with third parties, including employers, when our users consent to the sharing and under the limited circumstances outlined in our privacy policy where users’ personally identifiable data can be shared without specific consent, such as our receipt of search warrants or subpoenas from law enforcement agencies or in response to a validly issued legal process in a civil litigation matter. We do not currently share 7 Table of Contents information such as heart rate data or geolocation data with employers under our corporate wellness offerings and do not intend to share such data in the future without specific user consent. • Prioritize Security. We take the security of our users’ data seriously. We use a combination of technical and administrative security controls to maintain the security of user data. Our platform enables users to share information from Fitbit on an opt-in basis with friends, family, and other parties. Users may link their Fitbit accounts to third-party apps, send status updates on social networks, such as Facebook and Twitter, or share certain data with employers as part of a corporate wellness program. We allow our users to revoke their consent to share data with third parties at any time using their Fitbit account settings. If users choose to share their data with a third party, the data is governed by the privacy policy of the third party. Research and Development We are passionate about developing innovative products and services that empower our users to reach their health and fitness goals. We believe our future success depends on our ability to develop new products and features that expand the versatility and performance of our existing platform and we plan to continue to invest significant resources to enhance performance, functionality, and convenience and style for our users. Our global research and development team supports the design and development of our connected health and fitness devices, proprietary sensors, firmware, data algorithms, and online dashboard and mobile apps. The team is comprised of dedicated research employees, electrical engineers, mechanical engineers, firmware engineers, site operations engineers, and mobile app developers. Our research and development team is primarily based at our headquarters in San Francisco, California as well as several other worldwide locations. Our research and development expenses were $320.2 million , $150.0 million , and $54.2 million , for 2016 , 2015 , and 2014 , respectively. Manufacturing, Logistics and Fulfillment We outsource the manufacturing of our products to several contract manufacturers, including Flextronics which is our primary contract manufacturer. These contract manufacturers produce our products in their facilities located in Asia. The components used in our products are sourced either directly by us or on our behalf by our contract manufacturers from a variety of component suppliers selected by us and located worldwide. Our operations employees coordinate our relationships with our contract manufacturers and component suppliers. We believe that using outsourced manufacturing enables greater scale and flexibility at lower costs than establishing our own manufacturing facilities. We evaluate on an ongoing basis our current contract manufacturers and component suppliers, including, whether or not to utilize new or alternative contract manufacturers or component suppliers. Under our agreement with Flextronics, Flextronics manufactures certain of our products using design specifications, quality assurance programs, and standards that we establish. We pay for and own all tooling and other equipment specifically required to manufacture our products and have purchase commitments based on our purchase orders and demand forecasts for certain amounts of finished goods, works-in-progress, and components purchased in order to support such purchase orders and forecasts. The agreement has an initial term of one-year that ends in March 2017, and automatically renews for successive one-year terms unless either party provides at least 90 days prior written notice. We expect for the agreement to be renewed in March 2017 for a one-year term. We may terminate the agreement for convenience upon providing at least 90 days prior written notice and Flextronics may terminate for convenience upon providing at least 180 days prior written notice. We work with third-party fulfillment partners that deliver our products from multiple locations worldwide, which allows us to reduce order fulfillment time, reduce shipping costs, and improve inventory flexibility. Sales Channels and Customers We sell our products through three primary channels: Retail and distribution channel. We offer our products in over 55,000 retail stores and in 65 countries. We focus on building close relationships with our retailers, working with them to merchandise our products in a compelling manner both in-store and on their e-Commerce sites, promote our products through their marketing efforts, and educate their sales forces about our products. In addition, we sell to distributors who resell our products to retailers. 8 Table of Contents Consumer electronics and specialty retailers. Our products are sold by retailers with a large domestic and international presence such as Best Buy. e-Commerce retailers. Our products are sold on Amazon.com, in addition to e-Commerce sites of our retailers. • • • Mass merchant , department store, and club retailers. Our products are sold by large retailers, including Target, Costco, Macy’s, Kohl’s, and Walmart. Sporting goods and outdoors retailers. Our products are sold by sporting goods and outdoors retailers, including Dick’s Sporting Goods and REI. • • Wireless carriers. Our products are sold by wireless carriers, including AT&T, Sprint, and Verizon. Distributors. Our products are sold by a network of distributors, including Wynit Distribution. • Consumer direct channel. We sell our full line of products directly to consumers in the United States and other countries through our online store at Fitbit.com. We drive consumers to our website through online and offline advertising as well as marketing promotions. Corporate wellness channel. We offer products and services to employers looking to enhance their employee wellness programs. We sell our corporate wellness offering directly to employers or through partners, such as wellness program providers and insurance companies. Through our corporate wellness offering employers can purchase our products at quantity discounts for their employees. We also offer a range of other services to maximize wellness program success, such as easy employee onboarding, an engaging employee leaderboard, real-time group reporting for company administrators, and employee insight into progress towards program goals. We can also integrate with our partners’ existing wellness programs. Backlog There is a relatively short cycle between order and shipment of our sales. Therefore, we believe that backlog information is not material to the understanding of our business. Marketing and Advertising Our marketing and advertising programs are focused on building global brand awareness, increasing product adoption, and driving sales. Our marketing and advertising efforts target a wide range of consumers and leverage traditional advertising methods (including television, cinema, and print magazines), sponsorships and public relations, digital marketing, channel marketing, and endorsements by professional athletes and celebrities. Our in-store merchandising strategy focuses on our point of purchase, or POP displays. We install our freestanding, in-line, and endcap POP displays of varying sizes at our various retailers. These displays communicate our marketing messages, present our products and their features and, in many cases, allow consumers to try on our devices and view an interactive app that enables them to learn more about our products. Intellectual Property Intellectual property is an important aspect of our business, and we seek protection for our intellectual property as appropriate. We rely upon a combination of patent, copyright, trade secret, and trademark laws and contractual restrictions, such as confidentiality agreements and licenses, to establish and protect our proprietary rights. As the leader in the fast-growing market for connected health and fitness devices, we have developed a significant patent portfolio to protect certain elements of our proprietary technology. As of December 31, 2016, we had 229 issued patents and 262 patent applications pending worldwide. We continually review our development efforts to assess the existence and patentability of new intellectual property. We pursue the registration of our domain names and trademarks and service marks in the United States and in certain locations outside the United States. To protect our brand, as of December 31, 2016, we had an international trademark portfolio comprised of 184 registered trademarks and 90 trademark applications pending in 70 countries. Competition The market for connected health and fitness devices is both evolving and competitive. The connected health and fitness devices category has a multitude of participants including specialized consumer electronics companies such as Garmin, Jawbone, and Misfit, traditional health and fitness companies such as adidas and Under Armour, and traditional watch companies such as Fossil and Movado. In addition, many large, broad-based consumer electronics companies either compete in our market or adjacent markets or have announced plans to do so, including Apple, Google, LG, Microsoft, and Samsung. For example, Apple sells the Apple Watch, which is a smartwatch with broad-based functionalities, including some health and fitness tracking capabilities, and 9 Table of Contents Apple has sold a significant volume of its smartwatches since introduction. We also face competition from manufacturers of lower-cost devices, such as Xiaomi and its Mi Band device. In addition, we compete with a wide range of stand-alone health and fitness-related mobile apps that can be purchased or downloaded through mobile app stores. The principal competitive factors in our market include: • • • • • • brand awareness and focus; breadth of product offerings; battery life, sensor technology, and tracking features; online and mobile app experience; strength of sales and marketing efforts; and distribution strategy. We believe we compete favorably with our competitors on the basis of these factors as a result of our leading market position and global brand, advanced and proprietary sensor technologies, software-driven online dashboard and mobile apps, our motivational and social tools, and our premium software offerings. By offering a broad range of products spanning styles and affordable price points and cross-platform compatibility, we empower a wide range of individuals with different fitness routines and goals that are difficult for other competitors to address. Moreover, our singular focus on building a connected health and fitness platform, coupled with a leading market share, has led to our brand becoming synonymous with the connected health and fitness category. This singular focus on health and fitness has driven us to dedicate significant resources to developing proprietary sensors, algorithms, and software to ensure that our products, which are specifically oriented towards health and fitness, have accurate measurements, insightful analytics, compact sizes, durability, and long battery lives. We believe this singular focus allows us to compete favorably with companies that have introduced or have announced plans to introduce devices with broad-based functionalities, including health and fitness tracking capabilities, which are not necessarily optimized for health and fitness usage. Furthermore, our platform and open API have together enabled us to establish a large and growing health and fitness ecosystem that not only provides additional value to our existing users, but also extends our reach to potential new users. This broad compatibility, combined with our market-leading position, has enabled us to attract what we believe is the largest community of connected health and fitness device users, making it more likely that users can connect with friends and family and creating positive network effects that reinforce our growth. Employees As of December 31, 2016 , we had 1,753 global employees. We have not experienced any work stoppages. We consider our relationship with our employees to be good. Corporate Information We were incorporated in Delaware in March 2007 as Healthy Metrics Research, Inc. We changed our name to Fitbit, Inc. in October 2007. We completed our initial public offering in June 2015 and our Class A common stock is listed on The New York Stock Exchange under the symbol “FIT.” Our principal executive offices are located at 405 Howard Street, San Francisco, California 94105, and our telephone number is (415) 513-1000. Our website address is www.fitbit.com and our investor relations website address is http://investor.fitbit.com. The information on, or that can be accessed through, our website is not incorporated by reference into this Annual Report on Form 10-K. Fitbit, the Fitbit logo, Fitbit Surge, Fitbit Blaze, Fitbit Charge 2, Fitbit Charge HR, Alta, Fitbit Charge, Fitbit Flex 2, Fitbit Flex, Fitbit One, Fitbit Zip, Aria, PurePulse, SmartTrack, FitStar, and our other registered or common law trade names, trademarks, or service marks appearing in this Annual Report on Form 10-K are our intellectual property. This Annual Report on Form 10-K contains additional trade names, trademarks, and service marks of other companies that are the property of their respective owners. Through a link on our website, we make available the following filings as soon as reasonably practicable after they are electronically filed with or furnished to the Securities and Exchange Commission, or SEC: our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, or the Exchange Act. All such filings are available free of charge. The public may also read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington DC, 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains a website at www.sec.gov that contains all reports that we file or furnish with the SEC electronically. 10 Table of Contents Item 1A. Risk Factors An investment in our Class A common stock involves a high degree of risk. You should carefully consider the risks and uncertainties described below, together with all of the other information in this Annual Report on Form 10-K, including the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes, before making a decision to invest in our Class A common stock. Our business, operating results, financial condition, or prospects could be materially and adversely affected by any of these risks and uncertainties. If any of these risks actually occurs, the trading price of our Class A common stock could decline and you might lose all or part of your investment. Our business, operating results, financial performance, or prospects could also be harmed by risks and uncertainties not currently known to us or that we currently do not believe are material. Risks Related to Our Business We operate in a highly competitive market. If we do not compete effectively, our prospects, operating results, and financial condition could be adversely affected. The connected health and fitness devices market is highly competitive, with companies offering a variety of competitive products and services. We expect competition in our market to intensify in the future as new and existing competitors introduce new or enhanced products and services that are potentially more competitive than our products and services. The connected health and fitness devices market has a multitude of participants, including specialized consumer electronics companies, such as Garmin, Jawbone, and Misfit, traditional health and fitness companies, such as adidas and Under Armour, and traditional watch companies such as Fossil and Movado. In addition, many large, broad-based consumer electronics companies either compete in our market or adjacent markets or have announced plans to do so, including Apple, Google, LG, Microsoft, and Samsung. For example, Apple sells the Apple Watch, which is a smartwatch with broad-based functionalities, including some health and fitness tracking capabilities, and Apple has sold a significant volume of its smartwatches since introduction. Moreover, smartwatches with health and fitness functionalities may displace the market for traditional connected health and fitness devices. We may also face competition from manufacturers of lower-cost devices, such as Xiaomi and its Mi Band device. In addition, we compete with a wide range of stand-alone health and fitness-related mobile apps that can be purchased or downloaded through mobile app stores. We believe many of our competitors and potential competitors have significant advantages, including longer operating histories, ability to leverage their sales efforts and marketing expenditures across a broader portfolio of products and services, larger and broader customer bases, more established relationships with a larger number of suppliers, contract manufacturers, and channel partners, greater brand recognition, ability to leverage app stores which they may operate, and greater financial, research and development, marketing, distribution, and other resources than we do. Our competitors and potential competitors may also be able to develop products or services that are equal or superior to ours, achieve greater market acceptance of their products and services, and increase sales by utilizing different distribution channels than we do. Some of our competitors may aggressively discount their products and services in order to gain market share, which could result in pricing pressures, reduced profit margins, lost market share, or a failure to grow market share for us. In addition, new products may have lower selling prices or higher costs than legacy products, which could negatively impact our gross margins and operating results. Furthermore, current or potential competitors may be acquired by third parties with greater available resources. As a result of such acquisitions, our current or potential competitors might be able to adapt more quickly to new technologies and consumer needs, devote greater resources to the promotion or sale of their products and services, initiate or withstand substantial price competition, take advantage of acquisition or other opportunities more readily or develop and expand their products and services more quickly than we do. If we are not able to compete effectively against our current or potential competitors, our prospects, operating results, and financial condition could be adversely affected. If we are unable to anticipate and satisfy consumer preferences in a timely manner, our business may be adversely affected. Our success depends on our ability to anticipate and satisfy consumer preferences in a timely manner. All of our products are subject to changing consumer preferences that cannot be predicted with certainty. Consumers may decide not to purchase our products and services as their preferences could shift rapidly to different types of connected health and fitness devices or away from these types of products and services altogether, and our future success depends in part on our ability to anticipate and respond to shifts in consumer preferences. In addition, our newer products and services that have additional features or new product designs, such as the Fitbit Charge 2, Fitbit Flex 2, Fitbit Blaze, and Fitbit Alta may have higher prices than many of our earlier products and the products of some of our competitors, which may not appeal to consumers or only appeal to a smaller subset of consumers. It is also possible that competitors could introduce new products and services that negatively impact consumer preference for our connected health and fitness devices, which could result in decreased sales of our products and services and a loss in market share. Accordingly, if we fail to anticipate and satisfy consumer preferences in a timely manner, or if it is perceived that our future products and services will not satisfy consumer preferences, our business may be adversely affected. 11 Table of Contents If we are unable to successfully develop and timely introduce new products and services or enhance existing products and services, our business may be adversely affected. We must continually develop and introduce new products, including trackers and accessories, and services and improve and enhance our existing products and services to maintain or increase our sales. We believe that our future growth depends on continuing to engage and expand our core user base by introducing new form factors, software services and other offerings. The success of new or enhanced products and services may depend on a number of factors including, anticipating and effectively addressing consumer preferences and demand, the success of our sales and marketing efforts, timely and successful research and development, effective forecasting and management of product demand, purchase commitments, and inventory levels, effective management of manufacturing and supply costs, and the quality of or defects in our products. The development of our products and services is complex and costly, and we typically have several products and services in development at the same time. Given the complexity, we occasionally have experienced, and could experience in the future, delays in completing the development and introduction of new and enhanced products and services. Problems in the design or quality of our products or services may also have an adverse effect on our brand, business, financial condition, and operating results. Our research and development efforts may require us to incur substantial expenses to support the development of our next generation devices and other new products and services. Our research and development expenses were $320.2 million , $150.0 million , and $54.2 million , for 2016 , 2015 , and 2014 , respectively. We anticipate that research and development expense will continue to increase in absolute dollars and as a percentage of revenue in 2017. Unanticipated problems in developing products and services could also divert substantial research and development resources, which may impair our ability to develop new products and services and enhancements of existing products and services, and could substantially increase our costs. In addition, in 2016, we began offering accessory collections in conjunction with new product introductions. If new or enhanced product and service introductions are delayed or not successful, we may not be able to achieve an acceptable return, if any, on our research and development efforts, and our business may be adversely affected. Our operating results could be materially harmed if we are unable to accurately forecast consumer demand for our products and services and adequately manage our inventory. To ensure adequate inventory supply, we must forecast inventory needs and expenses and place orders sufficiently in advance with our suppliers and contract manufacturers based on our estimates of future demand for particular products. Our ability to accurately forecast demand for our products, including trackers and accessories, and services could be affected by many factors, including an increase or decrease in customer demand for our products and services or for products and services of our competitors, product and service introductions by us and our competitors, channel inventory levels, sales promotions by us or our competitors, unanticipated changes in general market conditions, and the weakening of economic conditions or consumer confidence in future economic conditions. We face challenges acquiring adequate and timely supplies of our products to satisfy the levels of demand, particularly in connection with new product introductions, which we believe negatively affects our revenue. This risk may be exacerbated by the fact that we may not carry a significant amount of inventory, either directly or with our contract manufacturers or logistics providers to satisfy short-term demand increases. In addition, as we continue to introduce new products, we may face challenges managing the inventory of existing products. If we fail to accurately forecast customer demand, we may experience excess inventory levels or a shortage of products available for sale. No assurance can be given that we will not incur additional charges in future periods related to our inventory management or that we will not underestimate or overestimate forecast sales in a future period. If we do not accurately forecast customer demand for our products, we may in future periods be unable to meet customer, retailer or distributor demand for our products, or may be required to incur higher costs to secure the necessary production capacity and components, and our business and operating results could be adversely affected. Inventory levels in excess of customer demand may result in inventory write-downs or write-offs and the sale of excess inventory at discounted prices, which have caused and may continue to cause our gross margin to suffer and could impair the strength of our brand. For example, during the fourth quarter of 2016, as a result of reduced demand, we recorded write-downs for excess and obsolete inventory, accelerated depreciation of manufacturing and tooling equipment, and recorded a liability to our contract manufacturers for unutilized manufacturing capacity and components. In addition, we offered additional rebates and promotions to retailers and distributors. Conversely, if we underestimate customer demand for our products and services, our contract manufacturers may not be able to deliver products to meet our requirements, and this could result in damage to our brand and customer relationships and adversely affect our revenue and operating results. 12 Table of Contents Our quarterly operating results or other operating metrics may fluctuate significantly, which could cause the trading price of our Class A common stock to decline. Our quarterly operating results and other operating metrics have fluctuated in the past and may continue to fluctuate from quarter to quarter. We expect that this trend will continue as a result of a number of factors, many of which are outside of our control and may be difficult to predict, including: • • • • • • • • • • • • • • • • • • • • • the level of demand for our connected health and fitness devices and our ability to maintain or increase the size and engagement of our community of users; the timing and success of new product and service introductions by us and the transition from legacy products; the timing and success of new product and service introductions by our competitors or any other change in the competitive landscape of our market; the mix of products sold in a quarter; the continued market acceptance of, and the growth of the market for, connected health and fitness devices; pricing pressure as a result of competition or otherwise; delays or disruptions in our supply, manufacturing, or distribution chain; errors in our forecasting of the demand for our products, which could lead to lower revenue or increased costs, or both; seasonal buying patterns of consumers; increases in levels of channel inventory resulting from sales to our retailers and distributors in anticipation of future demand; increases in and timing of sales and marketing and other operating expenses that we may incur to grow and expand our operations and to remain competitive; insolvency, credit, or other difficulties faced by our distributors and retailers, affecting their ability to purchase or pay for our products; insolvency, credit, or other difficulties confronting our suppliers, contract manufacturers, or logistics providers leading to disruptions in our supply or distribution chain; levels of product returns, stock rotation, and price protection rights; levels of warranty claims or estimated costs of warranty claims; adverse litigation judgments, settlements, or other litigation-related costs; changes in the legislative or regulatory environment, such as with respect to privacy, information security, health and wellness devices, consumer product safety, and advertising; product recalls, regulatory proceedings, or other adverse publicity about our products; fluctuations in foreign exchange rates; costs related to the acquisition of businesses, talent, technologies, or intellectual property, including potentially significant amortization costs and possible write-downs; and general economic conditions in either domestic or international markets. Any one of the factors above or the cumulative effect of some of the factors above may result in significant fluctuations in our operating results. The variability and unpredictability of our quarterly operating results or other operating metrics could result in our failure to meet our expectations or those of any analysts that cover us or investors with respect to revenue or other operating results for a particular period. If we fail to meet or exceed such expectations for these or any other reasons, the market price of our Class A common stock could fall substantially, and we could face costly lawsuits, including securities class action suits. We do not expect to continue to grow in the future at the same rates as we have in the past and profitability in recent periods may not be indicative of future performance. Our historical revenue growth should not be considered indicative of our future performance. We expect our revenue growth to slow or decline in future periods due to a number of reasons, which may include slowing demand for our products and services, increasing competition, a decrease in the growth of our overall market, our failure, for any reason, to continue to capitalize on growth opportunities, or the maturation of our business. In addition, we have not consistently achieved profitability on a quarterly or annual basis. Due to competitive pricing pressures, new product introductions by us or our competitors, or other factors, the average selling price or gross margins of our products and services may decrease. If we are unable to offset any decreases in our average selling price or gross margins by increasing our sales volumes or by adjusting our product mix, our operating results and financial condition may be harmed. 13 Table of Contents From 2014 to 2016, our annual revenue grew rapidly from $745.4 million to $2.2 billion. As our revenue has increased, our annual growth rate has slowed, and our historical growth should not be considered as indicative of our future performance. Although our annual revenue in 2016 was up 17% compared to 2015, our fourth quarter 2016 revenue declined 19% on a year-over-year basis. In future periods, we could again experience a decline in revenue, or revenue could grow more slowly than we expect, which could have a material negative effect on our future operating results. Specifically, we anticipate our 2017 revenue to decline on a year-over-year basis. Lower levels of revenue and higher levels of operating expenses may result in limited profitability or losses. For example, we expect to record a substantial net loss in 2017. We rely on a limited number of suppliers, contract manufacturers, and logistics providers, and each of our products is manufactured by a single contract manufacturer. We rely on a limited number of suppliers, contract manufacturers, and logistics providers. In particular, we use contract manufacturers located in Asia, and each of our products is manufactured by a single contract manufacturer. Our reliance on a sole contract manufacturer for each of our products increases the risk that in the event of an interruption from any one of these contract manufacturers, including, without limitation, due to a natural catastrophe or labor dispute, we may not be able to develop an alternate source without incurring material additional costs and substantial delays. Accordingly, an interruption from any key supplier, contract manufacturer, or logistics provider could adversely impact our revenue, gross margins, and operating results. If we experience significantly increased demand, or if we need to replace an existing supplier, contract manufacturer, or logistics provider, we may be unable to supplement or replace such supply, contract manufacturing, or logistics capacity on terms that are acceptable to us, which may undermine our ability to deliver our products to customers in a timely manner. For example, for certain of our products, it may take a significant amount of time to on board a contract manufacturer that has the capability and resources to build the product to our specifications in sufficient volume. Identifying suitable suppliers, contract manufacturers, and logistics providers is an extensive process that requires us to become satisfied with their quality control, technical capabilities, responsiveness and service, financial stability, regulatory compliance, and labor and other ethical practices. Accordingly, a loss of any key supplier, contract manufacturer, or logistics provider could adversely impact our revenue, gross margins, and operating results. Because some of the key components in our products come from a limited number or single source of supply, we are susceptible to supply shortages, long lead times for components, and supply changes, any of which could disrupt our supply chain. Some of the key components used to manufacture our products come from a limited or single source of supply. Our contract manufacturers generally purchase these components on our behalf, subject to certain approved supplier lists. We are subject to the risk of shortages and long lead times in the supply of these components and the risk that our suppliers discontinue or modify components used in our products. In addition, the lead times associated with certain components are lengthy and preclude rapid changes in quantities and delivery schedules. We have in the past experienced and may in the future experience component shortages, and the predictability of the availability of these components may be limited. While component shortages have historically been immaterial, they could be material in the future. In the event of a component shortage or supply interruption from suppliers of these components, we may not be able to develop alternate sources in a timely manner. In addition, some of our suppliers, contract manufacturers, and logistics providers may have more established relationships with our competitors, and as a result of such relationships, such suppliers may choose to limit or terminate their relationship with us. Developing alternate sources of supply for these components may be time-consuming, difficult, and costly and we may not be able to source these components on terms that are acceptable to us, or at all, which may undermine our ability to meet our requirements or to fill our orders in a timely manner. Any interruption or delay in the supply of any of these parts or components, or the inability to obtain these parts or components from alternate sources at acceptable prices and within a reasonable amount of time, would harm our ability to meet our scheduled product deliveries to our customers and users. This could harm our relationships with our channel partners and users and could cause delays in shipment of our products and adversely affect our operating results. In addition, increased component costs could result in lower gross margins. If we are unable to buy these components in quantities sufficient to meet our requirements on a timely basis, we will not be able to deliver products and services to our customers and users. Our current and future products and services may experience quality problems from time to time that can result in adverse publicity, product recalls, litigation, regulatory proceedings, and warranty claims resulting in significant direct or indirect costs, decreased revenue and operating margin, and harm to our brand. We sell complex products and services that could contain design and manufacturing defects in their materials, hardware, and firmware. These defects could include defective materials or components, or “bugs” that can unexpectedly interfere with the products’ intended operations or cause injuries to users or property. For example, we recently corrected certain software errors relating to Fitbit Charge 2 through a software update. Although we extensively and rigorously test new and enhanced products and services before their release, there can be no assurance we will be able to detect, prevent, or fix all defects. For example, our 14 Table of Contents products may fail to provide accurate measurements and data to users under all circumstances, or there may be reports or claims of inaccurate measurements under certain circumstances. Failure to detect, prevent, or fix defects, or an increase in defects could result in a variety of consequences including a greater number of returns of products than expected from users and retailers, increases in warranty costs, regulatory proceedings, product recalls, and litigation, which could harm our revenue and operating results. For example, in 2016, we experienced an increase in actual and estimated warranty claims of $108.5 million as compared to 2015, which caused a 4% decline in gross margin in 2016 as compared to 2015. We generally provide a 45-day right of return for purchases through Fitbit.com and a 12-month warranty on all of our products, except in the European Union, where we provide a two-year warranty on all of our products. The occurrence of real or perceived quality problems or material defects in our current and future products could expose us to warranty claims in excess of our current reserves. Moreover, we may offer stock rotation rights and price protection to our distributors. If we experience greater returns from retailers or users, or greater warranty claims, in excess of our reserves, our business, revenue, gross margins, and operating results could be harmed. In addition, any negative publicity or lawsuits filed against us related to the perceived quality and safety of our products could also affect our brand and decrease demand for our products and services, and adversely affect our operating results and financial condition. We have limited control over our suppliers, contract manufacturers, and logistics providers, which subjects us to significant risks, including the potential inability to obtain or produce quality products on a timely basis or in sufficient quantity. We have limited control over our suppliers, contract manufacturers, and logistics providers, including aspects of their specific manufacturing processes and their labor, environmental, or other practices, which subjects us to significant risks, including the following: inability to satisfy demand for our products; reduced control over delivery timing and product reliability; reduced ability to oversee the manufacturing process and components used in our products; reduced ability to monitor compliance with our product manufacturing specifications; price increases; difficulties in establishing additional or alternative contract manufacturing relationships if we experience difficulties with our existing contract manufacturers; shortages of materials or components; • • misappropriation of our intellectual property; • • suppliers, contract manufacturers, and logistics providers may choose to limit or terminate their relationship with us; exposure to natural catastrophes, political unrest, terrorism, labor disputes, and economic instability resulting in the disruption of trade from foreign countries in which our products are manufactured; changes in local economic conditions in countries where our suppliers, contract manufacturers, or logistics providers are located; the imposition of new laws and regulations, including those relating to labor conditions, quality and safety standards, imports, duties, taxes, and other charges on imports, as well as trade restrictions and restrictions on currency exchange or the transfer of funds; and insufficient warranties and indemnities on components supplied to our contract manufacturers. • • • • • • • • • If there are defects in the manufacture of our products, we may face negative publicity, government investigations, and litigation, and we may not be fully compensated by our contract manufacturers for any financial or other liability that we suffer as a result. We are, and may in the future, be subject to claims and lawsuits alleging that our products fail to provide accurate measurements and data to our users. Our products are used to track and display various information about users’ activities, such as daily steps taken, calories burned, distance traveled, floors climbed, active minutes, sleep duration and quality, and heart rate and GPS-based information such as speed, distance, and exercise routes. We anticipate new features and functionality in the future, as well. From time to time, there have been reports and claims made against us alleging that our products do not provide accurate measurements and data to users, including claims asserting that certain features of our products do not operate as advertised. Such reports and claims have resulted in negative publicity, and, in some cases, have required us to expend time and resources to defend litigation. For example, in the first quarter of 2016, class action lawsuits were filed against us based upon claims that the PurePulse heart rate tracking technology in the Fitbit Charge HR and Fitbit Surge do not consistently and accurately record users’ heart rates. If our products fail to provide accurate measurements and data to users, or if there are reports or claims of inaccurate measurements, claims of false advertisement, or claims regarding the overall health benefits of our products and services in the future, we may become the 15 Table of Contents subject of negative publicity, litigation, including class action litigation, regulatory proceedings, and warranty claims, and our brand, operating results, and business could be harmed. The failure to effectively manage the introduction of new or enhanced products may adversely affect our operating results. We must successfully manage introductions of new or enhanced products. Introductions of new or enhanced products, including trackers and accessories, could adversely impact the sales of our existing products to retailers and consumers. For instance, retailers often purchase less of our existing products in advance of new product launches. Furthermore, we may experience greater returns from retailers or users of existing products or retailers may be granted stock rotation rights and price protection. Moreover, consumers may decide to purchase new or enhanced products instead of existing products. We may face challenges managing the inventory of existing products, which could lead to excess inventory and discounting of our existing products. In addition, new products may have lower selling prices or higher costs than legacy products, which could negatively impact our gross margins and operating results. We have also historically incurred higher levels of sales and marketing expenses accompanying each product introduction. Accordingly, if we fail to effectively manage introductions of new or enhanced products, our operating results could be harmed. We spend significant amounts on advertising and other marketing campaigns to acquire new users, which may not be successful or cost-effective. We spend significant amounts on advertising and other marketing campaigns, such as television, cinema, print advertising, and social media, as well as increased promotional activities, to acquire new users and we expect our marketing expenses to increase in the future as we continue to spend significant amounts to acquire new users and increase awareness of our products and services. In 2016, advertising expenses were $316.8 million, representing approximately 15% of our revenue. While we seek to structure our advertising campaigns in the manner that we believe is most likely to encourage people to use our products and services, we may fail to identify advertising opportunities that satisfy our anticipated return on advertising spend as we scale our investments in marketing, accurately predict user acquisition, or fully understand or estimate the conditions and behaviors that drive user behavior. If for any reason any of our advertising campaigns prove less successful than anticipated in attracting new users, we may not be able to recover our advertising spend, and our rate of user acquisition may fail to meet market expectations, either of which could have an adverse effect on our business. There can be no assurance that our advertising and other marketing efforts will result in increased sales of our products and services. An economic downturn or economic uncertainty may adversely affect consumer discretionary spending and demand for our products and services. Our products and services may be considered discretionary items for consumers. Factors affecting the level of consumer spending for such discretionary items include general economic conditions, and other factors, such as consumer confidence in future economic conditions, fears of recession, the availability and cost of consumer credit, levels of unemployment, and tax rates. As global economic conditions continue to be volatile or economic uncertainty remains, including economic conditions resulting from recent volatility in European markets, trends in consumer discretionary spending also remain unpredictable and subject to reductions. Unfavorable economic conditions may lead consumers to delay or reduce purchases of our products and services and consumer demand for our products and services may not grow as we expect. Our sensitivity to economic cycles and any related fluctuation in consumer demand for our products and services may have an adverse effect on our operating results and financial condition. Our future success depends on the continuing efforts of our key employees, including our founders, James Park and Eric N. Friedman, and on our ability to attract and retain highly skilled personnel and senior management. Our future success depends, in part, on our ability to continue to attract and retain highly skilled personnel. In particular, we are highly dependent on the contributions of our co-founders, James Park and Eric N. Friedman, as well as other members of our management team. The loss of any key personnel could make it more difficult to manage our operations and research and development activities, reduce our employee retention and revenue, and impair our ability to compete. Although we have generally entered into employment offer letters with our key personnel, these agreements have no specific duration and provide for at-will employment, which means they may terminate their employment relationship with us at any time. Competition for highly skilled personnel is often intense, especially in the San Francisco Bay Area where we are located, and we may incur significant costs to attract them. We may not be successful in attracting, integrating, or retaining qualified personnel to fulfill our current or future needs. We have, from time to time, experienced, and we expect to continue to experience, difficulty in hiring and retaining highly skilled employees with appropriate qualifications. In addition, job candidates and existing employees often consider the value of the equity awards they receive in connection with their employment. Fluctuations in the 16 Table of Contents price of our Class A common stock may make it more difficult or costly to use equity awards to motivate, incentivize and retain our employees. If the perceived value of our equity or equity awards declines, it may adversely affect our ability to attract or retain highly skilled employees. Furthermore, there can be no assurances that the number of shares reserved for issuance under our equity incentive plans will be sufficient to grant equity awards adequate to recruit new employees and to compensate existing employees. Additionally, we have a number of current employees whose equity ownership in our company gives them a substantial amount of personal wealth. Likewise, we have a number of current employees whose equity awards are fully vested and are entitled to receive substantial amounts of our capital stock. As a result, it may be difficult for us to continue to retain and motivate these employees, and this wealth could affect their decisions about whether or not they continue to work for us. If we fail to attract new personnel or fail to retain and motivate our current personnel, our business and future growth prospects could be severely harmed. Our failure or inability to protect our intellectual property rights, or claims by others that we are infringing upon or unlawfully using their intellectual property could diminish the value of our brand and weaken our competitive position, and adversely affect our business, financial condition, operating results, and prospects. We currently rely on a combination of patent, copyright, trademark, trade secret, and unfair competition laws, as well as confidentiality agreements and procedures and licensing arrangements, to establish and protect our intellectual property rights. We have devoted substantial resources to the development of our proprietary technologies and related processes. In order to protect our proprietary technologies and processes, we rely in part on trade secret laws and confidentiality agreements with our employees, licensees, independent contractors, commercial partners, and other advisors. These agreements may not effectively prevent disclosure of confidential information and may not provide an adequate remedy in the event of unauthorized disclosure of confidential information. We cannot be certain that the steps taken by us to protect our intellectual property rights will be adequate to prevent infringement of such rights by others, including imitation of our products and misappropriation of our brand. Additionally, the process of obtaining patent or trademark protection is expensive and time- consuming, and we may not be able to prosecute all necessary or desirable patent applications or apply for all necessary or desirable trademark applications at a reasonable cost or in a timely manner. We have obtained and applied for U.S. and foreign trademark registrations for the “Fitbit” brand and a variety of our product names, and will continue to evaluate the registration of additional trademarks as appropriate. However, we cannot guarantee that any of our pending trademark or patent applications will be approved by the applicable governmental authorities. Moreover, intellectual property protection may be unavailable or limited in some foreign countries where laws or law enforcement practices may not protect our intellectual property rights as fully as in the United States, and it may be more difficult for us to successfully challenge the use of our intellectual property rights by other parties in these countries. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and our failure or inability to obtain or maintain trade secret protection or otherwise protect our proprietary rights could adversely affect our business. We are and may in the future be subject to patent infringement and trademark claims and lawsuits in various jurisdictions, and we cannot be certain that our products or activities do not violate the patents, trademarks, or other intellectual property rights of third-party claimants. Companies in the technology industry and other patent, copyright, and trademark holders seeking to profit from royalties in connection with grants of licenses own large numbers of patents, copyrights, trademarks, domain names, and trade secrets and frequently commence litigation based on allegations of infringement, misappropriation, or other violations of intellectual property or other rights. Companies may also be subject to criminal prosecution for trade secret theft under 18 U.S.C. section 1832. As we face increasing competition, the intellectual property rights claims against us and asserted by us have grown and will likely continue to grow. For example, we are currently involved in litigation with Jawbone and under a related federal criminal investigation concerning alleged theft of Jawbone’s trade secrets, which is described in Note 7, “Commitments and Contingencies” in the notes to our consolidated financial statements. We intend to vigorously defend and prosecute these litigation matters and, based on our review, we believe we have valid defenses and claims with respect to each of these matters. However, litigation is inherently uncertain, and any judgment or injunctive relief entered against us or any adverse settlement could materially and adversely impact our business, financial condition, operating results, and prospects. In addition, litigation can involve significant management time and attention and can be expensive, regardless of outcome. During the course of these litigation matters, there may be announcements of the results of hearings and motions, and other interim developments related to the litigation matters. If securities analysts or investors regard these announcements as negative, the market price of our Class A common stock may decline. Further, from time to time, we have received and may continue to receive letters from third parties alleging that we are infringing upon their intellectual property rights. Successful infringement claims against us could result in significant monetary liability, prevent us from selling some of our products and services, or require us to change our branding. In addition, resolution of claims may require us to redesign our products, license rights from third parties at a significant expense, or cease using those rights altogether. We have also in the past and may in the future bring claims against third parties for infringing our intellectual property rights. Costs of supporting such litigation and disputes may be considerable, and there can be no assurances that a favorable 17 Table of Contents outcome will be obtained. Patent infringement, trademark infringement, trade secret misappropriation, and other intellectual property claims and proceedings brought against us or brought by us, whether successful or not, could require significant attention of our management and resources and have in the past and could further result in substantial costs, harm to our brand, and have an adverse effect on our business. Our operating margins may decline as a result of increasing product costs and operating expenses. Our business is subject to significant pressure on pricing and costs caused by many factors, including intense competition, the cost of components used in our products, labor costs, constrained sourcing capacity, inflationary pressure, pressure from users to reduce the prices we charge for our products and services, warranty claims, and changes in consumer demand. Costs for the raw materials used in the manufacture of our products are affected by, among other things, energy prices, consumer demand, fluctuations in commodity prices and currency, and other factors that are generally unpredictable and beyond our control. Increases in the cost of raw materials used to manufacture our products or in the cost of labor and other costs of doing business in the United States and internationally could have an adverse effect on, among other things, the cost of our products, gross margins, operating results, financial condition, and cash flows. Moreover, if we are unable to offset any decreases in our average selling price by increasing our sales volumes or by adjusting our product mix, our operating results and financial condition may be harmed. A substantial portion of our expenses are personnel related and include salaries, stock-based compensation and benefits, which are not seasonal in nature. Accordingly, in the event of revenue shortfalls, we are generally unable to mitigate a negative impact on operating margins in the short term. To the extent such revenue shortfalls recur in future periods, our operating results would be harmed. Our business is affected by seasonality and if our sales fall below our forecasts, our overall financial conditions and results of operations could be adversely affected. Our revenue and operating results are affected by general seasonal spending trends associated with holidays. For example, our fourth quarter has typically been our strongest quarter in terms of revenue and operating income, reflecting our historical strength in sales during the holiday season. We generated approximately 26%, 38%, and 50% of our full year revenue during the fourth quarters of 2016, 2015, and 2014, respectively. Accordingly, any shortfall in expected fourth quarter revenue would adversely affect our annual operating results, as was the case in the fourth quarter of 2016. In addition, if we fail to accurately forecast customer demand for the holiday season, we may experience excess inventory levels or a shortage of products available for sale. Furthermore, our rapid growth in recent years may obscure the extent to which seasonality trends have affected our business and may continue to affect our business. Accordingly, yearly or quarterly comparisons of our operating results may not be useful and our results in any particular period will not necessarily be indicative of the results to be expected for any future period. Seasonality in our business can also be impacted by introductions of new or enhanced products and services, including the costs associated with such introductions. Any material disruption of our information technology systems, or those of third-party partners and data center providers could materially damage user and business partner relationships, and subject us to significant reputational, financial, legal, and operational consequences. We depend on our information technology systems, as well as those of third parties, to develop new products and services, operate our website, host and manage our services, store data, process transactions, respond to user inquiries, and manage inventory and our supply chain. Any material disruption or slowdown of our systems or those of third parties whom we depend upon, including a disruption or slowdown caused by our failure to successfully manage significant increases in user volume or successfully upgrade our or their systems, system failures, or other causes, could cause outages or delays in our services, which could harm our brand and adversely affect our operating results. In addition, such disruption could cause information, including data related to orders, to be lost or delayed which could—especially if the disruption or slowdown occurred during the holiday season—result in delays in the delivery of products to stores and users or lost sales, which could reduce demand for our merchandise, harm our brand and reputation, and cause our revenue to decline. Problems with our third-party data center service providers, the telecommunications network providers with whom they contract, or with the systems by which telecommunications providers allocate capacity among their users could adversely affect the experience of our users. Our third-party data center service providers could decide to close their facilities or cease providing us services without adequate notice. Any changes in third-party service levels at our data centers or any errors, defects, disruptions, or other performance problems with our platform could harm our brand and may damage the data of our users. If changes in technology cause our information systems, or those of third parties whom we depend upon, to become obsolete, or if our or their information systems are inadequate to handle our growth, we could lose users and our business and operating results could be adversely affected. 18 Table of Contents We collect, store, process, and use personal information and other customer data, which subjects us to governmental regulation and other legal obligations related to privacy, information security, and data protection, and any security breaches or our actual or perceived failure to comply with such legal obligations could harm our business. We collect, store, process, and use personal information and other user data, and we rely on third parties that are not directly under our control to do so as well. Our users’ health and fitness-related data and other highly personal information may include, among other information, names, addresses, phone numbers, email addresses, payment account information, height, weight, and information such as heart rates, sleeping patterns, GPS-based location, and activity patterns. Due to the volume and sensitivity of the personal information and data we manage and the nature of our products, the security features of our platform and information systems are critical. If our security measures, some of which we manage using third-party solutions, are breached or fail, unauthorized persons may be able to obtain access to or acquire sensitive user data. Furthermore, if third-party service providers that host user data on our behalf experience security breaches or violate applicable laws, agreements, or our policies, such events may also put our users’ information at risk and could in turn have an adverse effect on our business. Additionally, if we or any third-party, including third-party applications, with which our users choose to share their Fitbit data were to experience a breach of systems compromising our users’ sensitive data, our brand and reputation could be adversely affected, use of our products and services could decrease, and we could be exposed to a risk of loss, litigation, and regulatory proceedings. Depending on the nature of the information compromised, in the event of a data breach or other unauthorized access to or acquisition of our user data, we may also have obligations to notify users about the incident and we may need to provide some form of remedy, such as a subscription to a credit monitoring service, for the individuals affected by the incident. A growing number of legislative and regulatory bodies have adopted consumer notification requirements in the event of unauthorized access to or acquisition of certain types of personal data. Such breach notification laws continue to evolve and may be inconsistent from one jurisdiction to another. Complying with these obligations could cause us to incur substantial costs and could increase negative publicity surrounding any incident that compromises user data. Our users may also inadvertently disclose or lose control of their passwords, creating the perception that our systems are not secure against third-party access. While we maintain insurance coverage that, subject to policy terms and conditions and a significant self-insured retention, is designed to address certain aspects of cyber risks, such insurance coverage may be insufficient to cover all losses or all types of claims that may arise in the event we experience a security breach. Cybersecurity risks could adversely affect our business and disrupt our operations. The threats to network and data security are increasingly diverse and sophisticated. Despite our efforts and processes to prevent breaches, our devices, as well as our servers, computer systems, and those of third parties that we use in our operations are vulnerable to cybersecurity risks, including cyber-attacks such as viruses and worms, phishing attacks, denial-of-service attacks, physical or electronic break-ins, employee theft or misuse, and similar disruptions from unauthorized tampering with our servers and computer systems or those of third parties that we use in our operations, which could lead to interruptions, delays, loss of critical data, unauthorized access to user data, and loss of consumer confidence. In addition, we may be the target of email scams that attempt to acquire sensitive information or company assets. Despite our efforts to create security barriers to such threats, we may not be able to entirely mitigate these risks. Any cyber-attack that attempts to obtain our or our users’ data and assets, disrupt our service, or otherwise access our systems, or those of third parties we use, if successful, could adversely affect our business, operating results, and financial condition, be expensive to remedy, and damage our reputation. In addition, any such breaches may result in negative publicity, adversely affect our brand, decrease demand for our products and services, and adversely affect our operating results and financial condition. Our success depends on our ability to maintain our brand. If events occur that damage our brand, our business and financial results may be harmed. Our success depends on our ability to maintain the value of the “Fitbit” brand. The “Fitbit” name is integral to our business as well as to the implementation of our strategies for expanding our business. Maintaining, promoting, and positioning our brand will depend largely on the success of our marketing and merchandising efforts, our ability to provide consistent, high quality products and services, and our ability to successfully secure, maintain, and defend our rights to use the “Fitbit” mark and other trademarks important to our brand. Our brand could be harmed if we fail to achieve these objectives or if our public image or brand were to be tarnished by negative publicity. For example, there has been media coverage of some of the users of our products reporting skin irritation, as well as personal injury lawsuits filed against us relating to the Fitbit Zip, Fitbit One, Fitbit Flex, Fitbit Charge, Fitbit Charge HR, and Fitbit Surge products. We also believe that our reputation and brand may be harmed if we fail to maintain a consistently high level of customer service. In addition, we believe the popularity of the “Fitbit” brand makes it a target for counterfeiting or imitation, with third parties attempting to sell counterfeit products that attempt to replicate our products. In addition, our products may be diverted from our authorized retailers and distributors and sold on the “gray market.” Gray market products result in shadow inventory that is not visible to us, thus making it difficult to forecast demand accurately. Also, when gray market products enter the market, we and our channel partners compete with often heavily discounted gray market 19 Table of Contents products, which adversely affects demand for our products and negatively impacts our margins. In addition, our inability to control gray market activities could result in user satisfaction issues, which may have a negative impact on our brand. When products are purchased outside our authorized retailers and distributors, there is a risk that our customers are buying substandard products, including products that may have been altered, mishandled, or damaged, or used products represented as new. Any occurrence of counterfeiting, imitation, or confusion with our brand could adversely affect our reputation, place negative pricing pressure on our products, reduce sales of our products, and impair the value of our brand. Maintaining, protecting, and enhancing our brand may require us to make substantial investments, and these investments may not be successful. If we fail to successfully maintain, promote, and position our brand and protect our reputation or if we incur significant expenses in this effort, our business, financial condition and operating results may be adversely affected. The market for connected health and fitness devices is still in the early stages of growth and if it does not continue to grow, grows more slowly than we expect, or fails to grow as large as we expect, our business and operating results would be harmed. The market for connected health and fitness devices is relatively new and unproven, and it is uncertain whether connected health and fitness devices will sustain high levels of demand and wide market acceptance. Our success will depend to a substantial extent on the willingness of people to widely adopt these products and services. In part, adoption of our products and services will depend on the increasing prevalence of connected health and fitness devices as well as new entrants to the connected health and fitness device market to raise the profile of both the market as a whole and our own platform. Our connected health and fitness devices have largely been used to measure and track activities such as walking, running, and sleeping. However, they have not been as widely adopted for other sports, exercise, and activities such as cycling, skiing, and swimming for which other niche products are more often used. Furthermore, some individuals may be reluctant or unwilling to use connected health and fitness devices because they have concerns regarding the risks associated with data privacy and security. If the wider public does not perceive the benefits of our connected health and fitness devices or chooses not to adopt them as a result of concerns regarding privacy or data security or for other reasons, then the market for these products and services may not further develop, it may develop more slowly than we expect, or it may not achieve the growth potential we expect it to, any of which would adversely affect our operating results. The development and growth of this relatively new market may also prove to be a short-term trend. We depend on retailers and distributors to sell and market our products, and our failure to maintain and further develop our sales channels could harm our business. We primarily sell our products through retailers and distributors and depend on these third-parties to sell and market our products to consumers. Any changes to our current mix of retailers and distributors could adversely affect our gross margin and could negatively affect both our brand image and our reputation. Our sales depend, in part, on retailers adequately displaying our products, including providing attractive space and POP displays in their stores, and training their sales personnel to sell our products. If our retailers and distributors are not successful in selling our products or overestimate demand for our products, our revenue would decrease and we could experience lower gross margins due to product returns or price protection claims. Our retailers also often offer products and services of our competitors in their stores. Furthermore, our business could be adversely affected if any of our large retailers were to experience financial difficulties or store closures, or change the focus of their businesses in a way that deemphasized the sale of our products. In addition, our success in expanding and entering into new markets internationally will depend on our ability to establish relationships with new retailers and distributors. We also sell and will need to continue to expand our sales through online retailers, such as Amazon.com, as consumers increasingly make purchases online. If we do not maintain our relationship with existing retailers and distributors or develop relationships with new retailers and distributors our ability to sell our products and services could be adversely affected and our business may be harmed. In 2016, our five largest retailers and distributors accounted for approximately 53% of our revenue. Of these retailers and distributors, Wynit Distribution, Amazon.com, and Best Buy accounted for approximately 14%, 14%, and 10% of our revenue for 2016, respectively. Accordingly, the loss of a small number of our large retailers and distributors, or the reduction in business with one or more of these retailers and distributors, could have a significant adverse impact on our operating results. While we have agreements with these large retailers and distributors, these agreements do not require them to purchase any meaningful amount of our products. Consolidation of retailers or concentration of retail market share among a few retailers may increase and concentrate our credit risk and impair our ability to sell products. The electronics retail and sporting goods markets in some countries are dominated by a few large retailers with many stores. These retailers have in the past increased their market share and may continue to do so in the future by expanding through acquisitions and construction of additional stores. These situations concentrate our credit risk with a relatively small number of retailers, and, if any of these retailers were to experience a shortage of liquidity, it would increase the risk that their outstanding payables to us 20 Table of Contents may not be paid. In addition, increasing market share concentration among one or a few retailers in a particular country or region increases the risk that if any one of them substantially reduces their purchases of our connected health and fitness devices, we may be unable to find a sufficient number of other retail outlets for our products to sustain the same level of sales. Any reduction in sales by our retailers would adversely affect our revenue, operating results, and financial condition. The insolvency, credit problems, or other financial difficulties confronting our retailers and distributors could expose us to financial risk. Some of our retailers and distributors have experienced and may continue to experience financial difficulties. The insolvency, credit problems, or other financial difficulties confronting our retailers and distributors could expose us to financial risk. In addition, if the credit capacity of any retailers or distributors and accounts receivable balances increase, we may be subject to additional financial risk. Financial difficulties of our retailers and distributors could impede their effectiveness and also expose us to risks if they are unable to pay for the products they purchase from us. The difficulties of retailers and distributors may also lead to price cuts of our products and adverse effects on our brand and operating results. Any reduction in sales by our current retailers or distributors, loss of large resellers or distributors, or decrease in revenue from our retailers or distributors could adversely affect our revenue, operating results, and financial condition. If we continue to grow, we may not be able to effectively manage our growth and the increased complexity of our business, which could negatively impact our brand and financial performance. We were founded in 2007 and have expanded our operations rapidly since our inception. Our employee headcount and the scope and complexity of our business have increased significantly, with the number of employees increasing from 469 as of December 31, 2014 to 1,101 as of December 31, 2015 to 1,753 as of December 31, 2016. In January 2017, we announced a reorganization, including a reduction in force, that impacted 107 employees, or 6% of our global workforce. Despite this reorganization, we have experienced rapid growth in recent periods and headcount is expected to grow in 2017. If our operations continue to grow, we may experience difficulties in obtaining components for our products in quantities sufficient to meet market demand, as well as delays in production and shipments, as our products are subject to risks associated with third-party sourcing and manufacturing. We could be required to continue to expand our sales and marketing, product development, and distribution functions, to upgrade our management information systems and other processes and technology, and to obtain more space for our expanding workforce. This expansion could increase the strain on our resources, and we could experience serious operating difficulties, including difficulties in hiring, training, and managing an increasing number of employees. If we do not adapt to meet these evolving challenges, and if the current and future members of our management team do not effectively scale with our growth, we may experience erosion to our brand, the quality of our products and services may suffer, and our corporate culture may be harmed. Because we have only a limited history operating our business at its current scale, it is difficult to evaluate our current business and future prospects, including our ability to plan for and model future growth. Our limited operating experience at this scale, combined with the rapidly evolving nature of the market in which we sell our products and services, substantial uncertainty concerning how these markets may develop, and other economic factors beyond our control, reduces our ability to accurately forecast quarterly or annual revenue. As such, any predictions about our future revenue and expenses may not be as accurate as they would be if we had a longer operating history or operated in a more developed and predictable market. Failure to manage our future growth effectively could have an adverse effect on our business, which, in turn, could have an adverse impact on our operating results and financial condition. Our active user metric only represents the potential size and growth of our engaged user community, and our registered device user metric only represents the number of users who have historically used our devices or paid for a subscription to our services. Therefore, you should not rely on these metrics as indicators of future retention of users, continual user engagement, future payments by users or other revenue opportunities. Our active user metric tracks the number of users who have an active Fitbit Premium or FitStar subscription, who paired a tracker or Aria scale to a Fitbit account, or who logged at least 100 steps or took a weight measurement within three months of the measurement date. Our registered device user metric tracks the number of users who have historically either paid for a Fitbit Premium or FitStar subscription or paired a tracker or Aria scale to a Fitbit account. The user is counted only once on the first day of becoming a registered device user, and the registered device users as of any certain date presents cumulative registered device users to date. The active user metric and registered device user metric do not provide information regarding the individual users that no longer pay us, or how frequently users engage with our platform or pay us. These metrics also do not take into account the extent to which inactive users are offset by new active users or how long a user remains active or continues to pay us. Given the recent 21 Table of Contents rapid growth of the number of users on our platform, it may be difficult to discern whether the growth in active users is the result of retaining existing users or adding new users onto our platform. The active user metric and registered device user metric only represent the potential size or growth of our user community and are not necessarily indicators of the actual size and growth of our user community. Therefore, you should not rely on our active user metric or our registered device user metric as indicators of the level of retention of individual users in the future, continual user engagement or future payments by users, nor the potential size and growth of our user community as an indicator for other revenue opportunities, such as subscription-based premium services and our corporate wellness offerings. See the sections titled, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Business Metrics—Active Users,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Business Metrics—Registered Device Users” in this Annual Report on Form 10- K for additional information. Our failure to comply with U.S. and foreign laws related to privacy, data security, and data protection, such as the E.U. Data Protection Directive, which requires an adequate legal mechanism for the transfer of personal data from the European Union to the United States, could adversely affect our financial condition, operating results, and our brand. We are or may become subject to a variety of laws and regulations in the United States and abroad regarding privacy, data protection, and data security. These laws and regulations are continuously evolving and developing. The scope and interpretation of the laws that are or may be applicable to us are often uncertain and may be conflicting, particularly with respect to foreign laws. In particular, there are numerous U.S. federal, state, and local laws and regulations and foreign laws and regulations regarding privacy and the collection, sharing, use, processing, disclosure, and protection of personal information and other user data. Such laws and regulations often have changes in scope, may be subject to differing interpretations, and may be inconsistent among different jurisdictions. We strive to comply with all applicable laws, policies, legal obligations, and industry codes of conduct relating to privacy, data security, and data protection. However, given that the scope, interpretation, and application of these laws and regulations are often uncertain and may be conflicting, it is possible that these obligations may be interpreted and applied in a manner that is inconsistent from one jurisdiction to another and may conflict with other rules or our practices. Any failure or perceived failure by us or third-party service-providers to comply with our privacy or security policies or privacy-related legal obligations, or the failure or perceived failure by third-party apps with which our users choose to share their Fitbit data to comply with their privacy policies or privacy-related legal obligations as they relate to the Fitbit data shared with them, or any compromise of security that results in the unauthorized release or transfer of personally identifiable information or other user data, may result in governmental enforcement actions, litigation, or negative publicity, and could have an adverse effect on our brand and operating results. Beginning on August 1, 2016, U.S. companies could self-certify to the E.U.-U.S. Privacy Shield Framework, or Privacy Shield, which is a new framework developed by the U.S. Department of Commerce and the European Commission to address transatlantic data flows. As of November 3, 2016, our self-certification was approved by the U.S. Department of Commerce and our certification is available on the Privacy Shield website. This Privacy Shield Framework supersedes the U.S.-E.U. Safe Harbor Framework as developed by the U.S. Department of Commerce, which has historically provided a method for U.S. companies to transfer personal data from citizens of E.U. member countries to the United States in a way that is consistent with the E.U. Data Protection Directive. If we fail to meet the principles under Privacy Shield, or if any of these Frameworks are later invalidated by the European courts or otherwise become defunct, national data protection authorities in the European Union or the Federal Trade Commission, or FTC, could bring enforcement actions seeking to prohibit or suspend our data transfers to the United States, or against us for being misleading or deceptive, and we could also face additional legal liability, fines, negative publicity, and resulting loss of business. Certain health-related laws and regulations such as the Health Insurance Portability and Accountability Act of 1996, or HIPAA, and the Health Information Technology for Economic and Clinical Health Act, or HITECH, may have an impact on our business. For example, in September 2015 we announced that we intend to offer HIPAA compliant capabilities to certain customers of our corporate wellness offerings who are “covered entities” under HIPAA, which may include our execution of Business Associate Agreements with such covered entities. In addition, changes in applicable laws and regulations may result in the user data we collect being deemed protected health information, or PHI, under HIPAA and HITECH. If we are unable to comply with the applicable privacy and security requirements under HIPAA and HITECH, or we fail to comply with Business Associate Agreements that we enter into with covered entities, we could be subject to claims, legal liabilities, penalties, fines, and negative publicity, which could harm our operating results. Governments are continuing to focus on privacy and data security and it is possible that new privacy or data security laws will be passed or existing laws will be amended in a way that is material to our business. Any significant change to applicable laws, regulations, or industry practices regarding our users’ data could require us to modify our services and features, possibly in 22 Table of Contents a material manner, and may limit our ability to develop new products, services, and features. Although we have made efforts to design our policies, procedures, and systems to comply with the current requirements of applicable state, federal, and foreign laws, changes to applicable laws and regulations in this area could subject us to additional regulation and oversight, any of which could significantly increase our operating costs. Our business and products are subject to a variety of additional U.S. and foreign laws and regulations that are central to our business; our failure to comply with these laws and regulations could harm our business or our operating results. We are or may become subject to a variety of laws and regulations in the United States and abroad that involve matters central to our business, including laws and regulations regarding consumer protection, advertising, privacy, intellectual property, manufacturing, anti-bribery and anti-corruption, and economic or other trade prohibitions or sanctions. The labeling, distribution, importation, marketing, and sale of our products are subject to extensive regulation by various U.S. state and federal and foreign agencies, including the U.S. Consumer Product Safety Commission, or CPSC, FTC, Food and Drug Administration, or FDA, Federal Communications Commission, and state attorneys general, as well as by various other federal, state, provincial, local, and international regulatory authorities in the countries in which our products and services are distributed or sold. If we fail to comply with any of these regulations, we could become subject to enforcement actions or the imposition of significant monetary fines, other penalties, or claims, which could harm our operating results or our ability to conduct our business. The global nature of our business operations also create various domestic and foreign regulatory challenges and subject us to laws and regulations such as the U.S. Foreign Corrupt Practices Act, or FCPA, the U.K. Bribery Act, and similar anti-bribery and anti-corruption laws in other jurisdictions, and our products are also subject to U.S. export controls, including the U.S. Department of Commerce’s Export Administration Regulations and various economic and trade sanctions regulations established by the Treasury Department’s Office of Foreign Assets Controls. If we become liable under these laws or regulations, we may be forced to implement new measures to reduce our exposure to this liability. This may require us to expend substantial resources or to discontinue certain products or services, which would negatively affect our business, financial condition, and operating results. In addition, the increased attention focused upon liability issues as a result of lawsuits, regulatory proceedings, and legislative proposals could harm our brand or otherwise impact the growth of our business. Any costs incurred as a result of compliance or other liabilities under these laws or regulations could harm our business and operating results. Our international operations subject us to additional costs and risks, and our continued expansion internationally may not be successful. We have entered into many international markets in a relatively short time and may enter into additional markets in the future. Outside of the United States, we currently have operations in Australia and a number of countries in Asia and Europe. There are significant costs and risks inherent in conducting business in international markets, including: • • • • • • • • • • • • • • establishing and maintaining effective controls at foreign locations and the associated increased costs; adapting our technologies, products, and services to non-U.S. consumers’ preferences and customs; variations in margins by geography; increased competition from local providers of similar products; longer sales or collection cycles in some countries; compliance with foreign laws and regulations; compliance with the laws of numerous taxing jurisdictions where we conduct business, potential double taxation of our international earnings, and potentially adverse tax consequences due to U.S. and foreign tax laws as they relate to our international operations; compliance with anti-bribery laws, such as the FCPA and the U.K. Bribery Act, by us, our employees, and our business partners; complexity and other risks associated with current and future foreign legal requirements, including legal requirements related to consumer protection, consumer product safety, and data privacy frameworks, such as the E.U. General Data Protection Regulation, and applicable privacy and data protection laws in foreign jurisdictions where we currently conduct business or intend to conduct business in the future; currency exchange rate fluctuations and related effects on our operating results; economic and political instability in some countries, particularly those in China where we have expanded; the uncertainty of protection for intellectual property rights in some countries and practical difficulties of enforcing rights abroad; tariffs and customs duties and the classification of our products by applicable governmental bodies; and other costs of doing business internationally. 23 Table of Contents Our products are manufactured overseas and imported into the United States, the European Union, and other countries and may be subject to duties, tariffs and anti-dumping penalties imposed by applicable customs authorities. Those duties and tariffs are based on the classification of each of our products and is routinely subject to review by the applicable customs authorities. We are unable to predict whether those authorities will agree with our classifications and if those authorities do not agree with our classifications additional duties, tariffs or other trade restrictions may be imposed on the importation of our products. Such actions could result in increases in the cost of our products generally and might adversely affect our sales and profitability. These factors and other factors could harm our international operations and, consequently, materially impact our business, operating results, and financial condition. Further, we may incur significant operating expenses as a result of our international expansion, and it may not be successful. We have limited experience with regulatory environments and market practices internationally, and we may not be able to penetrate or successfully operate in new markets. We may also encounter difficulty expanding into new international markets because of limited brand recognition in certain parts of the world, leading to delayed acceptance of our products and services by users in these new international markets. If we are unable to continue to expand internationally and manage the complexity of our global operations successfully, our financial condition and operating results could be adversely affected. To date, we have derived substantially all of our revenue from sales of our connected health and fitness devices, and sales of our subscription-based premium services have historically accounted for less than 1% of our revenue. To date, substantially all of our revenue has been derived from sales of our connected health and fitness devices, and we expect to continue to derive the substantial majority of our revenue from sales of these devices for the foreseeable future. In each of 2015 and 2016, we derived less than 1% of our revenue from sales of our subscription-based premium services. However, in the future we expect to increase sales of subscriptions to these services. Our inability to successfully sell and market our premium services could deprive us of a potentially significant source of revenue in the future. In addition, sales of our premium services may lead to additional sales of our connected health and fitness devices and user engagement with our platform. As a result, our future growth and financial performance may depend, in part, on our ability to sell more subscriptions to our premium services. We are regularly subject to general litigation, regulatory disputes, and government inquiries. We are regularly subject to claims, lawsuits, including potential class actions, government investigations, and other proceedings involving competition and antitrust, intellectual property, privacy, consumer protection, accessibility claims, securities, tax, labor and employment, commercial disputes, and other matters. The number and significance of these disputes and inquiries have increased as our company has grown larger, our business has expanded in scope and geographic reach, and our products and services have increased in complexity. The outcome and impact of such claims, lawsuits, government investigations, and proceedings cannot be predicted with certainty. Regardless of the outcome, such investigations and proceedings can have an adverse impact on us because of legal costs, diversion of management resources, and other factors. Determining reserves for our pending litigation is a complex, fact-intensive process that is subject to judgment calls. It is possible that a resolution of one or more such proceedings could require us to make substantial payments to satisfy judgments, fines or penalties or to settle claims or proceedings, any of which could harm our business. These proceedings could also result in reputational harm, criminal sanctions, or orders preventing us from offering certain products, or services, or requiring a change in our business practices in costly ways, or requiring development of non-infringing or otherwise altered products or technologies. Any of these consequences could harm our business. Our financial performance is subject to risks associated with changes in the value of the U.S. dollar versus local currencies. Our primary exposure to movements in foreign currency exchange rates relates to non-U.S. dollar denominated sales and operating expenses worldwide. Weakening of foreign currencies relative to the U.S. dollar adversely affects the U.S. dollar value of our foreign currency-denominated sales and earnings, and generally leads us to raise international pricing, potentially reducing demand for our products. In some circumstances, for competitive or other reasons, we may decide not to raise local prices to fully offset the strengthening of the U.S. dollar, or at all, which would adversely affect the U.S. dollar value of our foreign currency denominated sales and earnings. Conversely, a strengthening of foreign currencies relative to the U.S. dollar, while generally beneficial to our foreign currency-denominated sales and earnings, could cause us to reduce international pricing, incur losses on our foreign currency derivative instruments, and incur increased operating expenses, thereby limiting any benefit. Additionally, strengthening of foreign currencies may also increase our cost of product components denominated in those currencies, thus adversely affecting gross margins. 24 Table of Contents We use derivative instruments, such as foreign currency forward contracts, to hedge certain exposures to fluctuations in foreign currency exchange rates. The use of such hedging activities may not offset any, or more than a portion, of the adverse financial effects of unfavorable movements in foreign exchange rates over the limited time the hedges are in place. In addition, our counterparties may be unable to meet the terms of the agreements. We seek to mitigate this risk by limiting counterparties to major financial institutions and by spreading the risk across several major financial institutions. Changes in legislation in U.S. and foreign taxation of international business activities or the adoption of other tax reform policies, as well as the application of such laws, could materially impact our financial position and operating results. Recent or future changes to the U.S. and other foreign tax laws could impact the tax treatment of our foreign earnings. We generally conduct our international operations through wholly-owned subsidiaries, branches, or representative offices and report our taxable income in various jurisdictions worldwide based upon our business operations in those jurisdictions. Our income tax obligations are based on our corporate operating structure, including the manner in which we develop, value, and use our intellectual property, scope of our international operations, and intercompany arrangements with and amongst the subsidiaries within the company group. Our direct and indirect subsidiaries are subject to complex transfer pricing tax regulations administered by taxing authorities in various jurisdictions. Economic and political pressures to increase tax revenue in various jurisdictions may adversely impact various aspects of the existing framework under which our tax obligations are determined in various countries in which we operate. Any changes in the tax laws applicable to our international business activities, including the laws of the U.S. and other jurisdictions, may increase our worldwide effective tax rate, and may adversely affect our financial position, and operating results. In addition, our effective tax rates could be adversely affected by earnings being lower than anticipated in countries where we have lower statutory rates and higher than anticipated in countries where we have higher statutory rates, by changes in foreign currency exchange rates, or by changes in the relevant tax, accounting, and other laws, regulations, principles, and interpretations, or by changes in the valuation of our deferred tax assets and liabilities. As we operate in numerous taxing jurisdictions, the application of tax laws can be subject to diverging and sometimes conflicting interpretations by tax authorities of these jurisdictions. We are subject to review and audit by U.S. and other tax authorities. If any tax authority disagrees with any position we have taken, our tax liabilities and operating results may be adversely affected. If we are unable to protect our domain names, our brand, business, and operating results could be adversely affected. We have registered domain names for websites, or URLs, that we use in our business, such as Fitbit.com. If we are unable to maintain our rights in these domain names, our competitors or other third parties could capitalize on our brand recognition by using these domain names for their own benefit. In addition, although we own the “Fitbit” domain name under various global top level domains such as .com and .net, as well as under various country-specific domains, we might not be able to, or may choose not to, acquire or maintain other country-specific versions of the “Fitbit” domain name or other potentially similar URLs. The regulation of domain names in the United States and elsewhere is generally conducted by Internet regulatory bodies and is subject to change. If we lose the ability to use a domain name in a particular country, we may be forced to either incur significant additional expenses to market our solutions within that country, including the development of a new brand and the creation of new promotional materials, or elect not to sell our solutions in that country. Either result could substantially harm our business and operating results. Regulatory bodies could establish additional top-level domains, appoint additional domain name registrars, or modify the requirements for holding domain names. As a result, we may not be able to acquire or maintain the domain names that utilize the name “Fitbit” in all of the countries in which we currently conduct or intend to conduct business. Further, the relationship between regulations governing domain names and laws protecting trademarks and similar proprietary rights varies among jurisdictions and is unclear in some jurisdictions. Domain names similar to ours have already been registered in the United States and elsewhere, and we may be unable to prevent third parties from acquiring and using domain names that infringe, are similar to, or otherwise decrease the value of, our brand or our trademarks. Protecting and enforcing our rights in our domain names and determining the rights of others may require litigation, which could result in substantial costs, divert management attention, and not be decided favorably to us. Our use of “open source” software could negatively affect our ability to sell our products and subject us to possible litigation. A portion of the technologies we use incorporates “open source” software, and we may incorporate open source software in the future. Such open source software is generally licensed by its authors or other third parties under open source licenses. These licenses may subject us to certain unfavorable conditions, including requirements that we offer our products and services that incorporate the open source software for no cost, that we make publicly available source code for modifications or derivative works we create based upon, incorporating, or using the open source software, or that we license such modifications or derivative works under the terms of the particular open source license. Additionally, if a third-party software provider has incorporated open source software into software that we license from such provider, we could be required to disclose or provide at no cost any of 25 Table of Contents our source code that incorporates or is a modification of such licensed software. If an author or other third party that distributes open source software that we use or license were to allege that we had not complied with the conditions of the applicable license, we could be required to incur significant legal expenses defending against such allegations and could be subject to significant damages and enjoined from the sale of our products and services that contained the open source software. Any of the foregoing could disrupt the distribution and sale of our products and services and harm our business. We may engage in merger and acquisition activities, which could require significant management attention, disrupt our business, dilute stockholder value, and adversely affect our operating results. As part of our business strategy, we may make investments in other companies, products, or technologies. For example, in 2016, we acquired assets from Coin, Pebble and Vector Watch to enhance the features and functionality of our devices, and accelerate the expansion of our platform and ecosystem. We may not be able to find suitable acquisition candidates and we may not be able to complete acquisitions on favorable terms, if at all. If we do complete acquisitions, we may not ultimately strengthen our competitive position or achieve our goals, and any acquisitions we complete could be viewed negatively by users or investors. In addition, if we fail to successfully integrate such acquisitions, or the technologies associated with such acquisitions, into our company, the revenue and operating results of the combined company could be adversely affected. Acquisitions may disrupt our ongoing operations, divert management from their primary responsibilities, subject us to additional liabilities, increase our expenses, and adversely impact our business, financial condition, operating results, and cash flows. We may not successfully evaluate or utilize the acquired technology and accurately forecast the financial impact of an acquisition transaction, including accounting charges. We would have to pay cash, incur debt, or issue equity securities to pay for any such acquisition, each of which may affect our financial condition or the value of our capital stock and could result in dilution to our stockholders. If we incur more debt it would result in increased fixed obligations and could also subject us to covenants or other restrictions that would impede our ability to manage our operations. Additionally, we may receive indications of interest from other parties interested in acquiring some or all of our business. The time required to evaluate such indications of interest could require significant attention from management, disrupt the ordinary functioning of our business, and adversely affect our operating results. There have been reports that some users of certain of our devices have experienced skin irritations, which could result in additional negative publicity or otherwise harm our business. In addition, some of our users have filed personal injury lawsuits against us relating to certain of our devices, which could divert management’s attention from our operations and result in substantial legal fees and other costs. Due to the nature of some of our wearable devices, some users have had in the past and may in the future experience skin irritations or other biocompatibility issues not uncommon with jewelry or other wearable products that stay in contact with skin for extended periods of time. There have been reports of some users of certain of our devices experiencing skin irritations. This negative publicity could harm sales of our products and also adversely affect our relationships with retailers that sell our products, including causing them to be reluctant to continue to sell our products. In addition, some of our users have filed personal injury lawsuits against us relating to certain of our devices. While we do not believe that these lawsuits are material, due to the inherent uncertainties of litigation, we cannot accurately predict the ultimate outcome of any proceedings arising from such claims, and these actions or other third-party claims against us may result in the diversion of our management’s time and attention from other aspects of our business and may cause us to incur substantial litigation or settlement costs. If large numbers of users experience these problems, we could be subject to enforcement actions or the imposition of significant monetary fines, other penalties, or proceedings by the CPSC or other U.S. or foreign regulatory agencies and face additional personal injury or class action litigation, any of which could have a material adverse impact on our business, financial condition, and operating results. We may be subject to CPSC recalls, regulatory proceedings and litigation in various jurisdictions, including multi-jurisdiction federal and state class action and personal injury claims, which may require significant management attention and disrupt our business operations, and adversely affect our financial condition, operating results, and our brand. We face product liability, product safety and product compliance risks relating to the sale, use and performance of our products. The products we sell must be designed and manufactured to be safe for their intended purposes. Certain of our products must comply with certain federal and state laws and regulations. For example, some of our products are subject to the Consumer Product Safety Act and the Consumer Product Safety Improvement Act, which empower the CPSC. The CPSC is empowered to take action against hazards presented by consumer products, up to and including product recalls. We are required to report certain incidents related to the safety and compliance of our products to the CPSC, and failure to do so could result in a civil penalty. Our products may, from time to time, be subject to recall for product safety and compliance reasons. For example, in March 2014, we recalled one of our products, the Fitbit Force, after some of our users experienced allergic reactions to adhesives in the 26 Table of Contents wristband. These reactions included skin irritation, rashes, and blistering. The recall had a negative impact on our operating results, primarily in our fourth quarter of 2013, the first quarter of 2014, and the fourth quarter of 2015. We have provided and are continuing to provide full refunds to consumers who return the Fitbit Force. If returns of the Fitbit Force or other costs related to the recall are higher than anticipated, we will be required to increase our reserves related to the recall which would negatively impact our operating results in the future. The recall is being conducted in conjunction with the CPSC, which has been monitoring recall effectiveness and compliance. In addition to the financial impacts discussed elsewhere in this Quarterly Report on Form 10-Q, this recall requires us to collect a significant amount of information for the CPSC, which takes significant time and internal and external resources. A large number of lawsuits, including multi-jurisdiction complex federal and state class action and personal injury claims, were filed against us relating to the Fitbit Force. These litigation matters have required significant attention of our management and resources and disrupted the ordinary course of our business operations. We have settled all of the class action lawsuits, and a number of personal injury claims. In the fourth quarter of 2015, we received proceeds from the insurance policies that apply to these claims and related legal fees, and we recorded an accrual for liabilities arising under these claims that was immaterial and falls within the amount of the insurance proceeds received. In addition, the CPSC previously conducted an investigation into several of our products. Although the CPSC did not find a substantial product hazard, there can be no assurances that investigations will not be conducted or that product hazards or other defects will not be found in the future with respect to our products. The Fitbit Force product recall, regulatory proceedings, and litigation have had and may continue to have, and any future recalls, regulatory proceedings, and litigation could have an adverse impact on our financial condition, operating results, and brand. Furthermore, because of the global nature of our product sales, in the event we experience defects with respect to products sold outside the United States, we could become subject to recalls, regulatory proceedings, and litigation by foreign governmental agencies and private litigants, which could significantly increase the costs of managing any product issues. Any ongoing and future regulatory proceedings or litigation, regardless of their merits, could further divert management’s attention from our operations and result in substantial legal fees and other costs. The Aria Wi-Fi connected scale is subject to FDA regulation, and sales of this product or future regulated products could be adversely affected if we fail to comply with the applicable requirements. The Aria scale is regulated as a medical device by the FDA and corresponding state regulatory agencies, and we may have future products that are regulated as medical devices by the FDA. The medical device industry in the United States is regulated by governmental authorities, principally the FDA and corresponding state regulatory agencies. Before we can market or sell a new regulated product or make a significant modification to an existing medical device in the United States, we must obtain regulatory clearance or approval from the FDA, unless an exemption from pre-market review applies. The process of obtaining regulatory clearances or approvals to market a medical device can be costly and time consuming, and we may not be able to obtain these clearances or approvals on a timely basis, or at all, for future products. Any delay in, or failure to receive or maintain, clearance or approval for any medical device products under development could prevent us from generating revenue from these products. Medical devices, including the Aria scale, are also subject to numerous ongoing compliance requirements under the regulations of the FDA and corresponding state regulatory agencies, which can be costly and time consuming. For example, under FDA regulations medical device manufacturers are required to, among other things, (i) establish a quality system to help ensure that their products consistently meet applicable requirements and specifications, (ii) establish and maintain procedures for receiving, reviewing, and evaluating complaints, (iii) establish and maintain a corrective and preventive action procedure, (iv) report certain device-related adverse events and product problems to the FDA, and (v) report to the FDA the removal or correction of a distributed product. If we experience any product problems requiring reporting to the FDA or if we otherwise fail to comply with applicable FDA regulations or the regulations of corresponding state regulatory agencies, with respect to the Aria scale or future regulated products, we could jeopardize our ability to sell our products and could be subject to enforcement actions such as fines, civil penalties, injunctions, recalls of products, delays in the introduction of products into the market, and refusal of the FDA or other regulators to grant future clearances or approvals, which could harm our reputation, business, operating results, and financial condition. If we fail to maintain an effective system of disclosure controls and internal control over financial reporting, our ability to produce timely and accurate financial statements or comply with applicable regulations could be impaired. We are subject to the reporting requirements of the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and the rules and regulations of the applicable listing standards of the New York Stock Exchange. We expect that the requirements of these rules and regulations will continue to increase our legal, accounting, and financial compliance costs, make some activities more difficult, time-consuming, and costly, and place strain on our personnel, systems, and resources. 27 Table of Contents The Sarbanes-Oxley Act requires, among other things, that we maintain effective disclosure controls and procedures and internal control over financial reporting. We are also required to make a formal assessment and provide an annual management report on the effectiveness of our internal control over financial reporting, which must be attested to by our independent registered public accounting firm. In order to maintain the effectiveness of our disclosure controls and procedures and internal control over financial reporting, we have expended, and anticipate that we will continue to expend, resources, including accounting-related costs and management oversight. Our current controls and any new controls that we develop may become inadequate because of changes in conditions in our business. Further, weaknesses in our disclosure controls and internal control over financial reporting may be discovered in the future. Any failure to maintain or develop effective controls or any difficulties encountered in their implementation or improvement could harm our operating results or cause us to fail to meet our reporting obligations and may result in a restatement of our financial statements for prior periods. Any failure to maintain effective internal control over financial reporting also could adversely affect the results of periodic management evaluations and annual independent registered public accounting firm attestation reports regarding the effectiveness of our internal control over financial reporting. Ineffective disclosure controls and procedures and internal control over financial reporting could also cause investors to lose confidence in our reported financial and other information, which would likely have a negative effect on the trading price of our Class A common stock. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on the New York Stock Exchange. Our management team has limited experience managing a public company. Most members of our management team have limited experience managing a publicly-traded company, interacting with public company investors, and complying with the increasingly complex laws pertaining to public companies. We are subject to significant regulatory oversight and reporting obligations under the federal securities laws and the continuous scrutiny of securities analysts and investors. These obligations and constituents require significant attention from our senior management and divert their attention away from the day-to-day management of our business, which could adversely affect our business, financial condition, and operating results. Our business is subject to the risk of earthquakes, fire, power outages, floods, and other catastrophic events, and to interruption by manmade problems such as terrorism. Our business is vulnerable to damage or interruption from earthquakes, fires, floods, power losses, telecommunications failures, terrorist attacks, acts of war, human errors, break-ins, and similar events. The third-party systems and operations and contract manufacturers we rely on, such as the data centers we lease, are subject to similar risks. For example, a significant natural disaster, such as an earthquake, fire, or flood, could have an adverse effect on our business, operating results, and financial condition, and our insurance coverage may be insufficient to compensate us for losses that may occur. Our corporate offices and one of our data center facilities are located in California, a state that frequently experiences earthquakes. In addition, the facilities at which our contract manufacturers manufacture our products are located in parts of Asia that frequently endure typhoons and earthquakes. Acts of terrorism, which may be targeted at metropolitan areas that have higher population density than rural areas, could also cause disruptions in our or our suppliers’, contract manufacturers’, and logistics providers’ businesses or the economy as a whole. We may not have sufficient protection or recovery plans in some circumstances, such as natural disasters affecting California or other locations where we have data centers or store significant inventory of our products. As we rely heavily on our data center facilities, computer and communications systems, and the Internet to conduct our business and provide high-quality customer service, these disruptions could negatively impact our ability to run our business and either directly or indirectly disrupt suppliers’ businesses, which could have an adverse effect on our business, operating results, and financial condition. If our estimates or judgments relating to our critical accounting policies prove to be incorrect, our operating results could be adversely affected. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, as provided in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Annual Report on Form 10-K. The results of these estimates form the basis for making judgments about the carrying values of assets, liabilities, and equity, and the amount of revenue and expenses that are not readily apparent from other sources. Significant assumptions and estimates used in preparing our consolidated financial statements include those related to revenue recognition, inventories, product warranty reserves, business combinations, accounting for income taxes, and stock-based compensation expense. Our operating results may be adversely affected if our assumptions change or if actual circumstances differ from those in our assumptions, which could cause our operating results to fall below the expectations of securities analysts and investors, resulting in a decline in the price of our Class A common stock. 28 Table of Contents Our revolving credit facility provides our lenders with first-priority liens against substantially all of our assets, excluding our intellectual property, and contains financial covenants and other restrictions on our actions, which could limit our operational flexibility and otherwise adversely affect our financial condition. In December 2015, we amended and restated our existing revolving credit facility and revolving credit and guarantee agreement into one senior credit facility. Our credit agreement restricts our ability to, among other things: • • • • • • use our accounts receivable, inventory, trademarks, and most of our other assets as security in other borrowings or transactions; incur additional indebtedness; sell certain assets; guarantee certain obligations of third parties; declare dividends or make certain distributions; and undergo a merger or consolidation or other transactions. Our credit agreement also prohibits us from exceeding a consolidated fixed charge coverage ratio and requires us to maintain a minimum liquidity reserve. Our ability to comply with these and other covenants is dependent upon a number of factors, some of which are beyond our control. Our failure to comply with the covenants or payment requirements, or the occurrence of other events specified in our credit agreement, could result in an event of default under the credit agreement, which would give our lenders the right to terminate their commitments to provide additional loans under the credit agreement and to declare all borrowings outstanding, together with accrued and unpaid interest and fees, to be immediately due and payable. In addition, we have granted our lenders first-priority liens against all of our assets, excluding our intellectual property, as collateral. Failure to comply with the covenants or other restrictions in the credit agreement could result in a default. If the debt under our credit agreement was to be accelerated, we may not have sufficient cash on hand or be able to sell sufficient collateral to repay it, which would have an immediate adverse effect on our business and operating results. This could potentially cause us to cease operations and result in a complete loss of your investment in our Class A common stock. Based on our forecasts, we may fail to meet certain of our financial covenants under our Senior Facility during 2017. We currently do not have any borrowings outstanding under the Senior Facility and have $38.0 million in letters of credit issued under the line. We believe that should we fail to meet any of the financial covenants under the line of credit, we would be able to negotiate revised terms or fund outstanding letters of credit with available cash balances. However, if we are unable to do so we may default under our credit agreement. We are exposed to fluctuations in the market values of our investments. Credit ratings and pricing of our investments can be negatively affected by liquidity, credit deterioration, financial results, economic risk, political risk, sovereign risk, changes in interest rates, or other factors. As a result, the value and liquidity of our cash, cash equivalents, and marketable securities may fluctuate substantially. Therefore, although we have not realized any significant losses on its cash, cash equivalents, and marketable securities, future fluctuations in their value could result in a significant realized loss, which could materially adversely affect our financial condition and operating results. Regulations related to conflict minerals may cause us to incur additional expenses and could limit the supply and increase the costs of certain metals used in the manufacturing of our products. We are subject to requirements under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, which will require us to conduct due diligence on and disclose whether or not our products contain conflict minerals. The implementation of these requirements could adversely affect the sourcing, availability, and pricing of the materials used in the manufacture of components used in our products. In addition, we will incur additional costs to comply with the disclosure requirements, including costs related to conducting diligence procedures to determine the sources of minerals that may be used or necessary to the production of our products and, if applicable, potential changes to products, processes, or sources of supply as a consequence of such due diligence activities. It is also possible that we may face reputational harm if we determine that certain of our products contain minerals not determined to be conflict free or if we are unable to alter our products, processes, or sources of supply to avoid such materials. 29 Table of Contents Risks Related to Ownership of Our Class A Common Stock The market price of our Class A common stock has been and will likely continue to be volatile, and you could lose all or part of your investment. The market price of our Class A common stock has been, and will likely continue to be, volatile. Since shares of our Class A common stock were sold in our IPO in June 2015 at a price of $20.00 per share, our stock price has ranged from $5.62 to $51.90 through February 17, 2017. In addition, the trading prices of the securities of technology companies in general have been highly volatile. The market price of our Class A common stock may continue to fluctuate significantly in response to numerous factors, many of which are beyond our control, including: • • • • • • • • • • • • • overall performance of the equity markets; actual or anticipated fluctuations in our revenue and other operating results; changes in the financial projections we may provide to the public or our failure to meet these projections; failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors; recruitment or departure of key personnel; the economy as a whole and market conditions in our industry; negative publicity related to problems in our manufacturing or the real or perceived quality of our products, as well as the failure to timely launch new products that gain market acceptance; rumors and market speculation involving us or other companies in our industry; announcements by us or our competitors of significant technical innovations, acquisitions, strategic partnerships, joint ventures, or capital commitments; new laws or regulations or new interpretations of existing laws or regulations applicable to our business; lawsuits threatened or filed against us; other events or factors, including those resulting from war, incidents of terrorism, or responses to these events; and sales of shares of our Class A common stock by us or our stockholders. In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies. Stock prices of many companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. We are currently subject to securities litigation, which is described in Note 7, “Commitments and Contingencies” in the notes to our consolidated financial statements. This or any future securities litigation could subject us to substantial costs, divert resources and the attention of management from our business, and adversely affect our business. Sales of substantial amounts of our Class A common stock in the public markets, or the perception that they might occur, could cause the market price of our Class A common stock to decline. Sales of a substantial number of shares of our Class A common stock into the public market, particularly sales by our directors, executive officers, and principal stockholders, or the perception that these sales might occur, could cause the market price of our Class A common stock to decline. As of December 31, 2016, there were 225.7 million shares of Class A and Class B common stock outstanding. All shares of our common stock are available for sale in the public market, subject in certain cases to volume limitations under Rule 144 under the Securities Act of 1933, as amended, or the Securities Act, various vesting agreements, as well as our insider trading policy. In addition, as of December 31, 2016, we had stock options outstanding that, if fully exercised, would result in the issuance of 1.2 million shares of Class A common stock and 33.2 million shares of Class B common stock (which shares of Class B common stock generally convert to Class A common stock upon their sale or transfer). We also had RSUs outstanding as of December 31, 2016 that may be settled for 11.3 million shares of Class A common stock and 0.3 million shares of Class B common stock. All of the shares issuable upon the exercise of stock options or settlement of RSUs, and the shares reserved for future issuance under our equity incentive plans, are registered for public resale under the Securities Act. Accordingly, these shares may be freely sold in the public market upon issuance subject to applicable vesting requirements. 30 Table of Contents In addition, certain holders of our capital stock have rights, subject to some conditions, to require us to file registration statements for the public resale of their shares or to include such shares in registration statements that we may file for us or other stockholders. The dual class structure of our common stock has the effect of concentrating voting control with holders of our Class B common stock, including our directors, executive officers, and significant stockholders. This will limit or preclude your ability to influence corporate matters, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. Our Class B common stock has ten votes per share and our Class A common stock has one vote per share. As of December 31, 2016, our directors, executive officers, and holders of more than 5% of our common stock, and their respective affiliates, held a substantial majority of the voting power of our capital stock. Because of the ten-to-one voting ratio between our Class B and Class A common stock, the holders of our Class B common stock collectively will control a majority of the combined voting power of our common stock and therefore are able to control all matters submitted to our stockholders for approval until the earlier of June 17, 2027 or the date the holders of a majority of our Class B common stock choose to convert their shares. This concentrated control will limit or preclude your ability to influence corporate matters for the foreseeable future, including the election of directors, amendments of our organizational documents, and any merger, consolidation, sale of all or substantially all of our assets, or other major corporate transaction requiring stockholder approval. In addition, this may prevent or discourage unsolicited acquisition proposals or offers for our capital stock that you may feel are in your best interest as one of our stockholders. Future transfers by holders of Class B common stock will generally result in those shares converting to Class A common stock, subject to limited exceptions, such as certain transfers effected for estate planning purposes. The conversion of Class B common stock to Class A common stock will have the effect, over time, of increasing the relative voting power of those holders of Class B common stock who retain their shares in the long term. If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, the price of our Class A common stock and trading volume could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. We do not have any control over these analysts. If industry analysts cease coverage of us, the trading price for our common stock would be negatively affected. If one or more of the analysts who cover us downgrade our Class A common stock or publish inaccurate or unfavorable research about our business, our common stock price would likely decline. If one or more of these analysts cease coverage of us or fail to publish reports on us regularly, demand for our Class A common stock could decrease, which might cause our Class A common stock price and trading volume to decline. We do not intend to pay dividends for the foreseeable future. We have never declared or paid any cash dividends on our common stock and do not intend to pay any cash dividends in the foreseeable future. We anticipate that we will retain all of our future earnings for use in the development of our business and for general corporate purposes. Any determination to pay dividends in the future will be at the discretion of our board of directors. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize any future gains on their investments. In addition, our credit facility contains restrictions on our ability to pay dividends. Provisions in our charter documents and under Delaware law could make an acquisition of our company more difficult, limit attempts by our stockholders to replace or remove our current management, limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees, and limit the market price of our common stock. Provisions in our restated certificate of incorporation and restated bylaws may have the effect of delaying or preventing a change of control or changes in our management. Our restated certificate of incorporation and restated bylaws include provisions that: • • • • provide that our board of directors will be classified into three classes of directors with staggered three-year terms at such time as the outstanding shares of our Class B common stock represent less than a majority of the combined voting power of our common stock; permit the board of directors to establish the number of directors and fill any vacancies and newly-created directorships; require super-majority voting to amend some provisions in our restated certificate of incorporation and restated bylaws; authorize the issuance of “blank check” preferred stock that our board of directors could use to implement a stockholder rights plan; 31 Table of Contents • • • • • provide that only the chairman of our board of directors, our chief executive officer, or a majority of our board of directors will be authorized to call a special meeting of stockholders; provide for a dual class common stock structure in which holders of our Class B common stock have the ability to control the outcome of matters requiring stockholder approval, even if they own significantly less than a majority of the outstanding shares of our Class A and Class B common stock, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or its assets; prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders; provide that the board of directors is expressly authorized to make, alter, or repeal our bylaws; and establish advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings. In addition, our restated certificate of incorporation provides that the Court of Chancery of the State of Delaware will be the exclusive forum for: any derivative action or proceeding brought on our behalf; any action asserting a breach of fiduciary duty; any action asserting a claim against us arising pursuant to the Delaware General Corporation Law, our restated certificate of incorporation, or our restated bylaws; or any action asserting a claim against us that is governed by the internal affairs doctrine. This choice of forum provision may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or any of our directors, officers, or other employees, which may discourage lawsuits with respect to such claims. Alternatively, if a court were to find the choice of forum provision contained in our restated certificate of incorporation to be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving such action in other jurisdictions, which could harm our business, operating results, and financial condition. Moreover, Section 203 of the Delaware General Corporation Law may discourage, delay, or prevent a change in control of our company. Section 203 imposes certain restrictions on mergers, business combinations, and other transactions between us and holders of 15% or more of our common stock. Item 1B. Unresolved Staff Comments None. Item 2. Properties We are a global company with our corporate headquarters located in San Francisco, California. Our headquarters facilities in San Francisco comprise approximately 570,000 square feet of space pursuant to several leases that expire at various dates through June 2024. Our corporate headquarters serve as the principal facilities for our administrative, sales, marketing, product development, and customer support groups. We also lease additional office space in San Francisco and around the world for various product development, operational and support purposes. We believe our existing facilities are adequate to meet our current requirements. If we were to require additional space, we believe we will be able to obtain such space on acceptable and commercially reasonable terms. Item 3. Legal Proceedings For a discussion of legal proceedings, see Note 7, “Commitments and Contingencies,” in the notes to our consolidated financial statements included in Part II, Item 8 of this Annual Report on Form 10-K, which is incorporated herein by reference. Further, we are and, from time to time, we may become, involved in legal proceedings or be subject to claims arising in the ordinary course of our business. We are not presently a party to any other legal proceedings that in the opinion of our management, if determined adversely to us, would individually or taken together have a material adverse effect on our business, operating results, financial condition, or cash flows. Item 4. Mine Safety Disclosures None. 32 Table of Contents PART II Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities Price Range of Common Stock Our Class A common stock has been listed on the New York Stock Exchange under the symbol “FIT” since June 18, 2015. Prior to that date, there was no public trading market for our Class A common stock. The following table sets forth for the periods indicated the high and low sale prices per share of our Class A common stock as reported on the New York Stock Exchange: Fiscal Year 2016 Fourth Quarter Third Quarter Second Quarter First Quarter Fiscal Year 2015 Fourth Quarter Third Quarter Second Quarter (from June 18, 2015) Our Class B common stock is neither listed nor traded. Holders of Record High Low $ $ $ $ $ $ $ 15.08 $ 17.18 $ 18.85 $ 30.96 $ 41.97 $ 51.90 $ 40.45 $ 7.20 12.05 11.65 11.91 26.46 30.51 29.50 As of December 31, 2016 , we had 33 holders of record of our Class A common stock. Because many of our shares of Class A common stock are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of stockholders represented by these record holders. As of December 31, 2016 , we had 37 holders of record of our Class B common stock. Dividends We have never declared or paid any cash dividends on our capital stock. We currently intend to retain any future earnings and do not expect to pay any cash dividends on our common stock for the foreseeable future. Any determination to pay dividends in the future will be at the discretion of our board of directors, subject to applicable laws, and will depend on our financial condition, operating results, capital requirements, general business conditions, and other factors that our board of directors considers relevant. In addition, the terms of our credit facility contains restrictions on our ability to declare and pay cash dividends. Securities Authorized for Issuance under Equity Compensation Plans The information required by this item with respect to our equity compensation plans is incorporated by reference to our Proxy Statement for the 2017 Annual Meeting of Stockholders to be filed with the SEC within 120 days of the fiscal year ended December 31, 2016 . Stock Performance Graph The following graph compares the cumulative total return on our Class A common stock with that of the S&P 500 Index and the Nasdaq Composite Index. The period shown commences on June 18, 2015 and ends on December 31, 2016 , the end of our last fiscal year. The graph assumes $100 was invested at the close of market on June 28, 2015 in our Class A common stock, the S&P 500 Index and the Nasdaq Composite Index, and assumes the reinvestment of any dividends. The stock price performance on the following graph is not intended to forecast or be indicative of future stock price performance of our Class A common stock. 33 Table of Contents This performance graph shall not be deemed incorporated by reference into any of our other filings under the Exchange Act, or the Securities Act, except to the extent we specifically incorporate it by reference into such filing. Recent Sales of Unregistered Securities. None. Use of Proceeds On June 17, 2015, the SEC declared our registration statement on Form S-1 (File No. 333-203941) for our initial public offering effective. On November 12, 2015, the SEC declared our registration statement on Form S-1 (File No. 333-207753) for our follow-on offering effective. There has been no material change in the planned use of proceeds from our initial public offering or our follow-on offering as described in our final prospectuses filed with the SEC on June 18, 2015 and November 13, 2015, respectively, pursuant to Rule 424(b)(4). Purchases of Equity Securities by the Issuer and Affiliated Purchasers None. 34 Table of Contents Item 6. Selected Financial Data We derived the selected consolidated statements of operations data for 2016 , 2015 , and 2014 and the selected consolidated balance sheet data as of December 31, 2016 and 2015 from our audited consolidated financial statements included elsewhere in this Annual Report on Form 10-K. The consolidated statements of operations data for 2013 and 2012 , and the consolidated balance sheet data as of December 31, 2014 , 2013 , and 2012 are derived from consolidated financial statements that are not included in this Annual Report on Form 10-K. Our historical results are not necessarily indicative of the results that may be expected in the future. You should read this data together with our “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. Consolidated Statements of Operations Data : Revenue Cost of revenue (2) Gross profit Operating expenses: Research and development (2) Sales and marketing (2) General and administrative (2) Change in contingent consideration Total operating expenses Operating income (loss) Interest income (expense), net Other income (expense), net Income (loss) before income taxes Income tax expense (benefit) Net income (loss) Net income (loss) per share attributable to common stockholders (3) : Basic Diluted Other Data : Devices sold (4) Active users (5) Registered device users (5) Adjusted EBITDA (6) Non-GAAP free cash flow (7) As of or For the Year Ended December 31, 2016 2015 (1) 2014 (1) 2013 (1) 2012 (in thousands, except per share data) $ 2,169,461 $ 1,857,998 $ 745,433 $ 271,087 $ 1,323,577 845,884 956,935 901,063 387,776 357,657 210,836 60,251 320,191 491,255 146,903 — 958,349 (112,465) 3,156 14 (109,295) (6,518) 150,035 332,741 77,793 (7,704) 552,865 348,198 (1,019) (59,230) 287,949 112,272 54,167 112,005 33,556 — 199,728 157,929 (2,222) (15,934) 139,773 7,996 27,873 26,847 14,485 — 69,205 (8,954) (1,082) (3,649) (13,685) 37,937 (102,777) $ 175,677 $ 131,777 $ (51,622) $ (0.47) $ (0.47) $ 0.88 $ 0.75 $ 0.70 $ 0.63 $ (1.32) $ (1.32) $ 22,295 23,238 50,155 21,355 16,903 29,033 10,904 6,700 11,068 29,985 $ 389,879 $ 191,042 $ 30,894 $ 78,591 $ (7,721) $ 4,476 2,570 3,534 79,049 $ 25,647 $ $ $ $ $ $ 76,373 49,733 26,640 16,210 10,237 3,968 — 30,415 (3,775) (176) 26 (3,925) 291 (4,216) (0.11) (0.11) 1,279 558 (2,401) (9,389) 35 Table of Contents (1) In March 2014, we recalled the Fitbit Force. The recall, which primarily affected our results for the fourth quarter of 2013, the first quarter of 2014, and the fourth quarter of 2015, had the following effect on our income (loss) before income taxes in 2015, 2014, and 2013. The recall had a negligible effect on our loss before income taxes in 2016. Reduction of revenue Incremental (benefit to) cost of revenue Impact on gross profit Incremental general and administrative expenses (benefit) Impact on income (loss) before income taxes (2) Includes stock-based compensation expense as follows: Cost of revenue Research and development Sales and marketing General and administrative Total Year Ended December 31, 2015 2014 2013 (in thousands) $ $ — $ (5,755) (5,755) (4,416) 10,171 $ (8,112) $ 11,339 (19,451) 3,389 (22,840) $ (30,607) 51,205 (81,812) 2,838 (84,650) 2016 2015 2014 2013 2012 Year Ended December 31, (in thousands) $ $ 4,797 $ 4,739 $ 47,207 11,575 15,853 18,251 7,419 10,615 79,432 $ 41,024 $ 890 $ 2,350 1,295 2,269 6,804 $ 37 $ 288 204 91 620 $ 15 62 29 26 132 (3) See notes 2 and 10 of the notes to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K for an explanation of the calculations of our net income (loss) per share attributable to common stockholders, basic and diluted. (4) See the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Business Metrics—Devices Sold” for more information. (5) We believe that the active user and registered device user metrics are indicators of the potential size of our community, but currently we do not believe that these have a direct effect on our revenue and operating results. We began tracking registered device users in 2013. See the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Business Metrics” for more information. (6) Adjusted EBITDA is a financial measure that is not calculated in accordance with U.S. GAAP. See the section titled “—Non-GAAP Financial Measures—Adjusted EBITDA” for information regarding our use of adjusted EBITDA and a reconciliation of adjusted EBITDA to net income (loss). (7) Non-GAAP free cash flow is a financial measure that is not calculated in accordance with U.S. GAAP. See the section titled “—Non-GAAP Financial Measures—Non-GAAP free cash flow” for information regarding our use of non-GAAP free cash flow and a reconciliation to net cash provided by (used in) operating activities. As of December 31, 2016 2015 2014 2013 2012 (in thousands) Consolidated Balance Sheet Data : Cash, cash equivalents, and marketable securities $ 706,013 $ 664,478 $ 195,626 $ 81,728 $ Working capital Total assets Total long-term debt Retained earnings (accumulated deficit) Total stockholders’ equity (deficit) Non-GAAP Financial Measures 718,639 847,157 1,820,226 1,519,066 — 140,142 998,532 — 242,919 981,451 101,860 633,051 132,589 67,242 75,262 14,457 230,774 10,710 (64,535) (63,466) 13,148 17,477 51,699 8,439 (12,913) (12,707) To supplement our consolidated financial statements presented in accordance with U.S. GAAP, we monitor and consider adjusted EBITDA and free cash flow, which are non-GAAP financial measures. These non-GAAP financial measures are not based on any standardized methodology prescribed by U.S. GAAP and are not necessarily comparable to similarly-titled measures presented by other companies. 36 Table of Contents Adjusted EBITDA We define adjusted EBITDA as net income adjusted to exclude stock-based compensation expense, depreciation and intangible assets amortization, litigation expense related to matters with Aliphcom, Inc. d/b/a Jawbone, or Jawbone, the impact of the Fitbit Force recall, the revaluation of our redeemable convertible preferred stock warrant liability prior to our initial public offering, or IPO, change in contingent consideration, interest income (expense), net, and income tax expense (benefit). We began excluding Jawbone related litigation expense in the second quarter of 2016 because we do not believe these expenses have a direct correlation to the operations of our business and because of the singular nature of the claims underlying the Jawbone litigation matters. We use adjusted EBITDA to evaluate our operating performance and trends and make planning decisions. We believe that adjusted EBITDA helps identify underlying trends in our business that could otherwise be masked by the effect of the expenses and other items that we exclude in adjusted EBITDA. In particular, the exclusion of the effect of stock-based compensation expense and certain expenses in calculating adjusted EBITDA can provide a useful measure for period-to- period comparisons of our business. Accordingly, we believe that adjusted EBITDA provides useful information to investors and others in understanding and evaluating our operating results, enhancing the overall understanding of our past performance and future prospects, and allowing for greater transparency with respect to a key financial metric used by our management in its financial and operational decision-making. Adjusted EBITDA is not prepared in accordance with U.S. GAAP, and should not be considered in isolation of, or as an alternative to, measures prepared in accordance with U.S. GAAP. There are a number of limitations related to the use of this non-GAAP financial measure rather than net income (loss), which is the nearest U.S. GAAP equivalent of adjusted EBITDA. Some of these limitations are: • • • • • • • • • adjusted EBITDA excludes stock-based compensation expense, which has been, and will continue to be for the foreseeable future, a significant recurring expense for our business and an important part of our compensation strategy; adjusted EBITDA excludes depreciation and intangible assets amortization expense and, although these are non-cash expenses, the assets being depreciated and amortized may have to be replaced in the future; adjusted EBITDA excludes external litigation expenses to support our legal proceedings with Jawbone, which may continue to be a recurring expense; adjusted EBITDA excludes the Fitbit Force recall, which primarily impacted our results for the fourth quarter of 2013, the first quarter of 2014, and the fourth quarter of 2015; adjusted EBITDA excludes the revaluation of our redeemable convertible preferred stock warrant liability, which was a historically recurring non-cash charge prior to our initial public offering, but will not recur in the periods following the completion of our initial public offering; adjusted EBITDA excludes change in contingent consideration, a non-recurring benefit received for the reversal of a contingent liability incurred in connection with the acquisition of FitStar; adjusted EBITDA does not reflect interest expense, or the cash requirements necessary to service interest or principal payments on our debt, which reduces cash available to us; adjusted EBITDA does not reflect income tax payments that reduce cash available to us; and the expenses and other items that we exclude in our calculation of adjusted EBITDA may differ from the expenses and other items, if any, that other companies may exclude from adjusted EBITDA when they report their operating results. Because of these limitations, adjusted EBITDA should be considered along with other operating and financial performance measures presented in accordance with U.S. GAAP. 37 Table of Contents The following table presents a reconciliation of net income (loss) to adjusted EBITDA: Net income (loss) Stock-based compensation expense Depreciation and amortization Litigation expense — Jawbone Impact of Fitbit Force recall Revaluation of redeemable convertible preferred stock warrant liability Change in contingent consideration Interest (income) expense, net Income tax expense (benefit) Adjusted EBITDA Non-GAAP free cash flow Year Ended December 31, 2016 2015 2014 2013 2012 (in thousands) $ (102,777) $ 175,677 $ 131,777 $ (51,622) $ (4,216) 79,432 38,133 24,845 26 — — (3,156) (6,518) 41,024 21,107 — (10,171) 56,655 (7,704) 1,019 112,272 6,804 6,131 — 22,840 13,272 — 2,222 7,996 620 3,012 — 84,650 3,370 — 1,082 37,937 132 1,179 — — 37 — 176 291 $ 29,985 $ 389,879 $ 191,042 $ 79,049 $ (2,401) We define non-GAAP free cash flow as net cash provided by (used in) operating activities less purchase of property and equipment. We consider free cash flow to be a profitability and liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can possibly be used for investing in our business and strengthening ​the​ balance sheet, but it is not intended to represent the residual cash flow available for discretionary expenditures. Non-GAAP free cash flow is not prepared in accordance with U.S. GAAP, and should not be considered in isolation of, or as an alternative to, measures prepared in accordance with U.S. GAAP. The following table presents a reconciliation of net cash provided by (used in) operating activities to non-GAAP free cash flow: Net cash provided by (used in) operating activities Purchase of property and equipment Non-GAAP free cash flow Year Ended December 31, 2016 2015 2014 2013 2012 (in thousands) $ $ 109,534 $ 109,157 $ 18,774 $ 33,171 $ (78,640) (30,566) (26,495) (7,524) 30,894 $ 78,591 $ (7,721) $ 25,647 $ (6,884) (2,505) (9,389) 38 Table of Contents Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the section titled “Selected Financial Data” and our consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from such forward-looking statements. Factors that could cause or contribute to those differences include, but are not limited to, those identified below and those discussed above in the section titled “Risk Factors” included elsewhere in this Annual Report on Form 10-K. Overview Our mission is to help people lead healthier, more active lives by empowering them with data, inspiration, and guidance to reach their goals. Fitbit is transforming the way millions of people around the world achieve their health and fitness goals. The Fitbit platform combines connected health and fitness devices with software and services, including an online dashboard and mobile apps, data analytics, motivational and social tools, personalized insights, and virtual coaching through customized fitness plans and interactive workouts. Our platform helps people become more active, exercise more, sleep better, eat smarter, and manage their weight. Fitbit appeals to a large, mainstream health and fitness market by addressing these key needs with advanced technology embedded in simple-to-use products and services. We pioneered the connected health and fitness market starting in 2007, and since then, we have grown into a leading global health and fitness brand. We generate substantially all of our revenue from sales of our connected health and fitness devices. We sell our products in over 55,000 retail stores and in 65 countries, through our retailers’ websites, through our online store at Fitbit.com, and as part of our corporate wellness offering. We seek to build global brand awareness, increase product adoption, and drive sales through our sales and marketing efforts. We intend to continue to significantly invest in these sales and marketing efforts in the future. The following are financial highlights for 2016 , 2015 , and 2014 : Revenue Net income (loss) Adjusted EBITDA Devices sold Year Ended December 31, 2016 2015 (in thousands) 2014 $ $ $ 2,169,461 $ 1,857,998 $ (102,777) $ 29,985 $ 22,295 175,677 $ 389,879 $ 21,355 745,433 131,777 191,042 10,904 See the section titled “Selected Financial Data—Adjusted EBITDA” in this Annual Report on Form 10-K for information regarding our use of adjusted EBITDA and a reconciliation of adjusted EBITDA to net income (loss). See the section titled “—Key Business Metrics” in this Annual Report on Form 10-K for additional information regarding devices sold. As our revenue has increased, our annual growth rate has slowed to 17% in 2016 as compared to 149% in 2015, and our fourth quarter 2016 revenue declined 19% on a year- over-year basis due to softer-than-expected demand during the holiday season. In January 2017, we announced cost-efficiency measures to be implemented in 2017 that include realigning sales and marketing spend and improved optimization of research and development investments. In addition, we announced a reorganization, including a reduction in workforce. This reorganization impacted 107 employees or approximately 6% of our global workforce. We anticipate that we will complete the reorganization by the end of the second quarter of 2017. We estimate approximately $3.7 million in total restructuring expenses to be recorded in the first quarter of 2017. Key Business Metrics In addition to the measures presented in our consolidated financial statements, we use the following key metrics to evaluate our business, measure our performance, develop financial forecasts, and make strategic decisions. 39 Table of Contents Devices sold Active users Registered device users Adjusted EBITDA Non-GAAP free cash flow Devices Sold As of or For the Year Ended December 31, 2016 2015 (in thousands) 2014 22,295 23,238 50,155 29,985 $ 30,894 $ 21,355 16,903 29,033 389,879 $ 78,591 $ 10,904 6,700 11,068 191,042 (7,721) $ $ Devices sold represents the number of connected health and fitness devices that are sold during a period, net of expected returns and provisions for the Fitbit Force recall. Devices sold does not include sales of accessories. Growth rates between devices sold and revenue are not necessarily correlated because our revenue is affected by other variables, such as the types of products sold during the period, the introduction of new product offerings with differing U.S. MSRPs, and sales of accessories and premium services. Active Users We define an active user as a registered Fitbit user who, within the three months prior to the date of measurement, has (a) an active Fitbit Premium or FitStar subscription, (b) paired a health and fitness tracker or Aria scale with his or her Fitbit account, or (c) logged at least 100 steps with a health and fitness tracker or a weight measurement using an Aria scale. The number of active users is based on subscription and device activity associated with each Fitbit user account and, accordingly, a user with multiple devices synced to his or her Fitbit account is counted as only one active user regardless of the number of devices that such user syncs to the account. The number of active users excludes users who have downloaded our mobile apps without purchasing any of our connected health and fitness devices and users who have downloaded free versions of FitStar but are not subscribers to its paid premium offerings. We believe that the active user metric is an indicator of the size and growth of our community, but currently we do not believe that it has a direct effect on our revenue and operating results since substantially all of our revenue to date has been derived from sales of our connected health and fitness devices. The active user metric is not necessarily an indicator of the actual size and future growth of our user community, who we believe to be the most likely to purchase additional products and services on our platform, such as our subscription-based premium services. Accordingly, the active user metric only represents the potential size or growth of our engaged user community. The active user metric is not a measure of the levels of continuous engagement of our individual users over periods of time and does not track the number of individual users that have become inactive on our platform in a period. Instead, the active user metric, as of any given measurement date, represents an aggregate of both existing and new users who have met the definition of an “active user” on one occasion during the previous three months, whether that user became newly active or was an existing active user from a prior period. Accordingly, this metric does not take into account the extent to which inactive users are offset by new active users or how long an individual user remains active. Given the recent rapid growth of the number of users on our platform, it may be difficult to discern whether the growth in active users is the result of retaining existing users or adding new users onto our platform. Therefore, you should not rely on our active user metric as an indicator of the level of user retention of individual users in the future, continual user engagement or of future payments, nor the potential size and growth of our user community as an indicator for other revenue opportunities, such as subscription- based premium services and our corporate wellness offerings. Registered Device Users A user becomes a registered device user on the first day the user: (a) becomes a paid subscriber of Fitbit Premium, (b) becomes a paid subscriber to FitStar or (c) uses a health and fitness tracker or Aria scale with his or her Fitbit account. The user is counted only once on the first day of becoming a registered device user, and the registered device users as of any certain date presents cumulative registered device users to date. The number of registered device users excludes users who have only downloaded our mobile apps without pairing a health and fitness tracker or Aria scale and users who have only downloaded free versions of FitStar but are not subscribers to its paid premium offerings. 40 Table of Contents We believe that the registered device user metric is an indicator of the potential size and growth of our paid user community but is not necessarily an indicator of the actual size and future growth of our paid user community. The registered device user metric only reflects users that have historically used our devices or paid for a subscription to our services and it is not necessarily an indicator of future payments by users. The registered device user metric also does not provide information regarding the individual users that no longer pay us, how frequently users pay us, or how long a user remains paying. Furthermore, the registered device user metric is not a measure of the levels of continuous engagement of our individual users over periods of time and does not track the number of individual users that have become inactive on our platform in a period. Therefore, you should not rely on our registered device user metric as an indicator of the level of retention of individual users in the future, continual user engagement, future payment by users, nor the potential size and growth of our user community as an indicator for other revenue opportunities, such as subscription-based premium services and our corporate wellness offerings. Adjusted EBITDA We define adjusted EBITDA as net income adjusted to exclude stock-based compensation expense, depreciation and intangible assets amortization, litigation expense related to matters with Aliphcom, Inc. d/b/a Jawbone, or Jawbone, the impact of the Fitbit Force recall, the revaluation of our redeemable convertible preferred stock warrant liability prior to our initial public offering, or IPO, change in contingent consideration, interest income (expense), net, and income tax expense (benefit). See the section titled “Selected Financial Data—Non-GAAP Financial Measures—Adjusted EBITDA” in this Annual Report on Form 10-K for information regarding our use of adjusted EBITDA and a reconciliation of adjusted EBITDA to net income (loss). Non-GAAP free cash flow We define non-GAAP free cash flow as net cash provided by (used in) operating activities less purchase of property and equipment. See the section titled “Selected Financial Data—Non-GAAP Financial Measures—Non-GAAP free cash flow” in this Annual Report on Form 10-K for information regarding our use of non-GAAP free cash flow and a reconciliation of non-GAAP free cash flow to net cash provided by (used in) operating activities. Factors Affecting Our Future Performance Product Introductions To date, product introductions have had a significant, positive impact on our operating results due primarily to increases in revenue associated with sales of the new products in the quarters following their introduction. Furthermore, new product introductions could also adversely impact the sales of our existing products to retailers and users. New products may also have higher costs associated with them, as was the case for new products introduced in 2016, which could adversely affect our margins. In addition, we have incurred higher levels of sales and marketing expenses accompanying each product introduction. In the future, we intend to continue to release new products and enhance our existing products, and we expect that our operating results will be impacted by these releases. International Expansion Our products are sold in 65 countries, and we have experienced significant historical growth in international sales. In 2016 , 29% of our revenue, based on ship-to destinations, was from sales outside of the United States. We believe our global opportunity is significant, and to address this opportunity, we intend to continue to invest in sales and marketing efforts, distribution channels, and infrastructure and personnel to support our international expansion, including establishing additional sales offices globally. Our growth will depend in part on the adoption and sales of our products and services in international markets. Moreover, our international expansion efforts have resulted and will continue to result in increased costs and are subject to a variety of risks, including increased competition, uncertain enforcement of our intellectual property rights, more complex distribution logistics, and the complexity of compliance with foreign laws and regulations. In 2016, revenue from the EMEA region increased 86% as compared to 2015. We have recently experienced, and may experience in the future, a decline in growth rates in the APAC region. Category Adoption, Expansion of our Total Addressable Market, and Market Growth As a pioneer of the wearable device market and a leading connected health and fitness platform, we believe we have contributed significantly to the market’s growth. However, our future growth depends in part on the continued consumer adoption of wearable devices as a means to improve health and fitness and the growth of this market. In addition, our long-term growth depends in part on our ability to expand into adjacent markets in the future, such as the smartwatch market category. 41 Table of Contents Competition The market for connected health and fitness devices is both evolving and competitive. The connected health and fitness devices category has a multitude of participants, including specialized consumer electronics companies such as Garmin, Jawbone, and Misfit, traditional health and fitness companies such as adidas and Under Armour, and traditional watch companies such as Fossil and Movado. In addition, many large, broad-based consumer electronics companies either compete in our market or adjacent markets or have announced plans to do so, including Apple, Google, LG, Microsoft, and Samsung. For example, Apple sells the Apple Watch, which is a smartwatch with broad-based functionalities, including some health and fitness tracking capabilities, and has sold a significant volume of its smartwatches since introduction. We also face competition from manufacturers of lower-cost devices, such as Xiaomi and its Mi Band device. In addition, we compete with a wide range of stand-alone health and fitness-related mobile apps that can be purchased or downloaded through mobile app stores. We believe we compete favorably with our competitors as a result of our leading market position and global brand, advanced and proprietary sensor technologies, software-driven online dashboard and mobile apps, our motivational and social tools, and our premium software offerings. By offering a broad range of products spanning styles and affordable price points and cross-platform compatibility, we empower a wide range of individuals with different fitness routines and goals that are difficult for other competitors to address. Seasonality Historically, we have experienced higher revenue in the fourth quarter compared to other quarters due in large part to seasonal holiday demand. For example, in 2016, 2015 and 2014, our fourth quarter represented 26%, 38% and 50% of our annual revenue, respectively. We also incur higher sales and marketing expenses during these periods. Investing in Growth We intend to continue to make investments across our business to drive our long-term growth. We intend to continue to invest resources in our sales, marketing, advertising, and brand management efforts, and to realign sales and marketing spend, to drive demand for our products and services globally. We also intend to improve optimization of our research and development investments to enable us to introduce innovative new products and services and enhance existing products and services. We may also make acquisitions to further drive our growth . For example, we acquired FitStar in March 2015 to enhance our software and services offerings through interactive video-based exercise experiences on mobile devices and computers. In 2016, we acquired assets from Coin, Pebble and Vector Watch to enhance the features and functionality of our devices, and accelerate the expansion of our platform and ecosystem. Furthermore, we intend to increase our focus on building relationships with employers and wellness providers. The corporate wellness market for connected health and fitness devices is new and is subject to a variety of challenges, including whether employers will continue to invest in such programs, long sales cycles, and substantial upfront sales costs. In each of 2016 , 2015 , and 2014 , we derived less than 10% of our revenue from our corporate wellness offerings. However, we believe that as healthcare costs continue to rise and as employers continue to seek ways to keep their employees active, engaged, and productive, more employers will implement or enhance their corporate wellness programs. In order to grow our corporate wellness presence, we intend to enhance our corporate wellness offering as well as expand our sales team focused on this market. Product Quality We sell complex products and services that could contain design and manufacturing defects in their materials, hardware, and firmware. These defects could include defective materials or components, or “bugs,” that can unexpectedly interfere with the products’ intended operations or cause injuries to users or property. Although we extensively and rigorously test new and enhanced products and services before their release, there can be no assurance we will be able to detect, prevent, or fix all defects. In addition, we utilize products and services provided by third-parties, such as vendors and contract manufacturers, and we rely on their representations and do not have full control over their processes. Failure to detect, prevent, or fix defects, or an increase in defects could result in a variety of consequences including a greater number of returns of products than expected from users and retailers, increases in warranty costs, regulatory proceedings, product recalls, and litigation, which could harm our revenue and operating results. 42 Table of Contents Components of our Operating Results Revenue We generate substantially all of our revenue from the sale of our connected health and fitness devices and accessories. We also generate a small portion of our revenue from our subscription-based premium services. Cost of Revenue Cost of revenue consists of product costs, including costs of contract manufacturers for production, shipping and handling costs, warranty replacement costs, packaging, costs related to the Fitbit Force recall, fulfillment costs, manufacturing and tooling equipment depreciation, warehousing costs, write-downs of excess and obsolete inventory, amortization of developed technology intangible assets acquired, and certain allocated costs related to management, facilities, and personnel-related expenses and other expenses associated with supply chain logistics. Personnel-related expenses include salaries, bonuses, benefits, and stock- based compensation. Operating Expenses Operating expenses consist of research and development, sales and marketing, general and administrative expenses, and change in contingent consideration. Research and Development . Research and development expenses consist primarily of personnel-related expenses, consulting and contractor expenses, tooling and prototype materials, and allocated overhead costs. Substantially all of our research and development expenses are related to developing new products and services and improving our existing products and services. To date, research and development expenses have been expensed as incurred, because the period between achieving technological feasibility and the release of products and services for sale has been short and development costs qualifying for capitalization have been insignificant. Sales and Marketing. Sales and marketing expenses represent the largest component of our operating expenses and consist primarily of advertising and marketing promotions of our products and services and personnel-related expenses, as well as sales incentives, trade show and event costs, sponsorship costs, consulting and contractor expenses, travel, POP display expenses and related amortization, and allocated overhead costs. General and Administrative . General and administrative expenses consist of personnel-related expenses for our finance, legal, human resources, and administrative personnel, as well as the costs of professional services, any allocated overhead, information technology, amortization of intangible assets acquired, and other administrative expenses. Change in contingent consideration . The change in contingent consideration relates to the benefit received from the reversal of a contingent liability incurred in connection with the acquisition of FitStar. See note 12 of the notes to our consolidated financial statements included elsewhere in this Annual Report on Form 10-K for additional information. Interest Expense, Net Interest expense, net consists of interest expense associated with our debt financing arrangements, amortization of debt issuance costs, and interest income earned on our cash, cash equivalents, and marketable securities. Other Expense, Net Other expense, net consists of mark-to-market adjustments for the revaluation of our redeemable convertible preferred stock warrant liability prior to our initial public offering and foreign currency gains and losses. Income Tax Expense (Benefit) We are subject to income taxes in the United States and foreign jurisdictions in which we do business. These foreign jurisdictions have statutory tax rates different from those in the United States. Accordingly, our effective tax rates will vary depending on the relative proportion of foreign to U.S. income, the utilization of foreign tax credits, and changes in tax laws. 43 Table of Contents Operating Results The following tables set forth the components of our consolidated statements of operations for each of the periods presented and as a percentage of our revenue for those periods. The period-to-period comparison of operating results is not necessarily indicative of results for future periods. Year Ended December 31, 2016 2015 (in thousands) 2014 Consolidated Statements of Operations Data : Revenue Cost of revenue (1) Gross profit Operating expenses: Research and development (1) Sales and marketing (1) General and administrative (1) Change in contingent consideration Total operating expenses Operating income (loss) Interest income (expense), net Other income (expense), net Income (loss) before income taxes Income tax expense (benefit) Net income (loss) (1) Includes stock-based compensation expense as follows: Cost of revenue Research and development Sales and marketing General and administrative Total $ 2,169,461 $ 1,857,998 $ 1,323,577 845,884 320,191 491,255 146,903 — 958,349 (112,465) 3,156 14 (109,295) (6,518) 956,935 901,063 150,035 332,741 77,793 (7,704) 552,865 348,198 (1,019) (59,230) 287,949 112,272 (102,777) $ 175,677 $ 745,433 387,776 357,657 54,167 112,005 33,556 — 199,728 157,929 (2,222) (15,934) 139,773 7,996 131,777 Year Ended December 31, 2016 2015 (in thousands) 2014 4,797 $ 4,739 $ 47,207 11,575 15,853 18,251 7,419 10,615 79,432 $ 41,024 $ 890 2,350 1,295 2,269 6,804 $ $ $ 44 Table of Contents Consolidated Statements of Operations Data : Revenue Cost of revenue Gross profit Operating expenses: Research and development Sales and marketing General and administrative Change in contingent consideration Total operating expenses Operating income (loss) Interest income (expense), net Other income (expense), net Income (loss) before income taxes Income tax expense Net income (loss) Comparison of 2016 and 2015 Revenue Year Ended December 31, 2016 2015 2014 (as a percentage of revenue) 100 % 100% 100% 61 39 15 22 7 — 44 (5) — — (5) — (5)% 52 48 8 18 4 — 30 18 — (3) 15 6 9% 52 48 7 15 5 — 27 21 — (2) 19 1 18% Year Ended December 31, Change 2016 2015 $ % (in thousands) Revenue $ 2,169,461 $ 1,857,998 $ 311,463 17% Revenue increased $311.5 million , or 17% , from $1.9 billion for 2015 to $2.2 billion for 2016 . A substantial majority of the increase was due to an increase in the average selling price of our devices of 10% from $85 per device for 2015 to $94 per device for 2016 , due to new products introduced in 2016 , partially offset by a decrease in average selling price for certain legacy products. Average selling price was affected by a $42.2 million increase in rebates and promotions to retailers and distributors. Revenue from new products introduced in 2016 was $1.5 billion, or 70% of revenue, for 2016 . An increase in the number of devices sold from 21.4 million in 2015 to 22.3 million in 2016 also contributed to the increase in revenue. U.S. revenue, based on ship-to destinations, increased $158.4 million, or 11%, from $1.4 billion for 2015 to $1.5 billion for 2016 , and international revenue, based on ship-to destinations, increased by $153.1 million, or 32%, from $476.8 million for 2015 to $629.9 million for 2016 , primarily due to an increase in revenue from the EMEA region of 86%, partially offset by a decrease in revenue in the APAC region of 26%. For the full year 2017, we expect revenue to decrease as compared to 2016. Cost of Revenue Cost of revenue Gross profit Gross margin Year Ended December 31, Change 2016 2015 $ % $ 1,323,577 $ (dollars in thousands) $ 956,935 845,884 901,063 39% 48% 366,642 (55,179) 38 % (6)% 45 Table of Contents Cost of revenue increased $366.6 million , or 38% , from $956.9 million for 2015 to $1.3 billion for 2016 . The increase was primarily due to an increase in average cost per device related to new products introduced in 2016, an increase in the number of devices sold, an increase in actual and estimated costs of warranty claims on legacy products of $108.5 million, and as a result of a decrease in forecasted demand, a charge for liabilities to our contract manufacturers for excess components of $59.0 million, and accelerated depreciation of manufacturing and tooling equipment of $19.0 million. Gross margin decreased from 48% for 2015 to 39% for 2016 . Gross margin for 2016 was primarily affected by an increase in actual and estimated costs of warranty claims for legacy products, a charge for liabilities to our contract manufacturers for excess components, an increase in rebates and promotions to retailers and distributors, and accelerated depreciation of manufacturing and tooling equipment, which decreased gross margin by 4%, 3%, 2%, and 1%, respectively. These decreases in gross margin were partially offset by reduced costs on certain warranty replacement units, which increased gross margin by 1%. Research and Development Year Ended December 31, Change 2016 2015 $ % (in thousands) Research and development $ 320,191 $ 150,035 $ 170,156 113% Research and development expenses increased $170.2 million , or 113% , from $150.0 million for 2015 to $320.2 million for 2016 . The increase was primarily due to a $95.3 million increase in personnel-related expenses due to a 71% increase in headcount, a $41.1 million increase in allocated overhead, a $12.8 million increase in consultant and contractor expenses, an $11.7 million increase in tooling and prototype materials, a $4.4 million increase in travel expenses, and a $3.6 million increase in expenses for third-party hosting services. For the full year 2017, we expect our research and development expenses to increase in absolute dollars and as a percentage of revenue as compared to 2016. The increase is expected to be at a slower rate than historical periods due to the improved optimization of research and development investments. Sales and Marketing Year Ended December 31, Change 2016 2015 $ % (in thousands) Sales and marketing $ 491,255 $ 332,741 $ 158,514 48% Sales and marketing expenses increased $158.5 million , or 48% , from $332.7 million for 2015 to $491.3 million for 2016 . The increase was primarily due to a $98.2 million increase in expenses associated with advertising costs and other marketing programs, driven by the launch of media campaigns for the new products introduced during 2016. The increase was also due to a $52.3 million increase in consulting and contractor expenses, a $20.5 million increase in personnel-related expenses due to a 48% increase in headcount, and a $4.6 million increase in expenses for purchased software, partially offset by a $18.1 million decrease in allocated overhead. For the full year 2017, we expect sales and marketing expenses to decrease in absolute dollars and remain relatively consistent as a percentage of revenue as compared to the full year 2016 as we realign sales and marketing spend. General and Administrative General and administrative $ 146,903 $ 77,793 $ 69,110 89% General and administrative expenses increased $69.1 million , or 89% , from $77.8 million for 2015 to $146.9 million for 2016 . The increase was primarily due to a $31.1 million increase in legal fees, a $20.3 million increase in personnel-related expenses due to a 48% increase in headcount, a $12.5 million increase in consulting and contractor expenses, a $3.1 million increase in other administrative expenses and travel expenses, and a $3.2 million increase in allocated overhead. Year Ended December 31, Change 2016 2015 $ % (in thousands) 46 Table of Contents For the full year 2017, we expect general and administrative expenses to decrease in absolute dollars and remain relatively consistent as a percentage of revenue as compared to the full year 2016. Change in Contingent Consideration Year Ended December 31, 2016 2015 (in thousands) Change $ Change in contingent consideration $ — $ (7,704) $ 7,704 The change in contingent consideration benefit of $7.7 million for 2016 is a result of our re-measurement of the contingent consideration liability related to our acquisition of FitStar in 2015. This is a non-recurring benefit. The terms of the contingent liability expired as of December 31, 2015. Interest and Other Income (Expense), Net Interest income (expense), net Other income (expense), net Year Ended December 31, Change 2016 2015 $ % $ 3,156 $ 14 (in thousands) (1,019) $ (59,230) 4,175 59,244 (410)% (100)% Interest income (expense), net increased $4.2 million , or 410% , from expense of $1.0 million for 2015 to income of $3.2 million for 2016 . The increase was primarily due to interest earned on our cash, cash equivalents, and marketable securities. Other expense, net, increased $59.2 million , from expense of $59.2 million for 2015 to $14,000 for 2016 . The increase in other income (expense), net was primarily due to a decrease of $56.7 million in charges related to the revaluation of our convertible preferred stock warrant liability as the liability is no longer outstanding subsequent to our IPO, and an increase in foreign currency gains of $3.7 million. Income Tax Expense (Benefit) Income tax expense (benefit) Effective tax rate Year Ended December 31, Change 2016 2015 $ % $ (6,518) $ (in thousands) $ 112,272 6.0% 39.0% (118,790) (106)% Income tax expense decreased $(118.8) million from expense of $112.3 million for 2015 to a benefit of $(6.5) million for 2016 . Our effective tax rate was 6.0% and 39.0% for 2016 and 2015 , respectively. The decrease in income tax expense and effective tax rate for 2016 was primarily due to shift in geographic mix of profits before tax, increased losses in certain foreign jurisdictions for which a tax benefit may not be realized, and an increase in U.S. tax benefits from tax credits resulting from the increase in research and development expenses. Comparison of 2015 and 2014 Revenue Year Ended December 31, Change 2015 2014 $ % (in thousands) Revenue $ 1,857,998 $ 745,433 $ 1,112,565 149% Revenue increased $1.1 billion, or 149%, from $745.4 million for 2014 to $1.9 billion for 2015. A substantial majority of the increase was due to an increase in the number of devices sold from 10.9 million in 2014 to 21.4 million in 2015, including $1.4 billion in revenue in 2015 from new products introduced in the fourth quarter of 2014. Revenue also increased due to an increase in the average selling price of our devices by 29% from $66 per device for 2014 to $85 per device for 2015, due to new 47 Table of Contents products introduced in the fourth quarter of 2014. The increase in revenue includes the negative impact of foreign currency exchange rates of $56.3 million, net of the impact of foreign currency hedges. U.S. revenue, based on ship-to destinations, increased $818.6 million, or 146%, from $562.5 million for 2014 to $1,381.1 million 2015, and international revenue, based on ship-to destinations, increased by $293.9 million, or 161%, from $182.9 million for 2014 to $476.8 million for 2015. Cost of Revenue Cost of revenue Gross profit Gross margin Year Ended December 31, Change 2015 2014 $ % (dollars in thousands) $ 956,935 $ 387,776 $ 901,063 48% 357,657 48% 569,159 543,406 147% 152% Cost of revenue increased $569.2 million, or 147%, from $387.8 million for 2014 to $956.9 million for 2015. The increase was primarily due to the increase in the number of devices sold and an increase in average cost per device related to new products introduced in the fourth quarter of 2014. In addition, we recognized a $5.8 million benefit to cost of revenue for 2015 compared to an $11.3 million increase to cost of revenue for 2014 in connection with the recall of the Fitbit Force. Gross margin was 48% for both 2015 and 2014. Gross margin for 2015 was primarily affected by the aforementioned impact of lower margins on new products introduced in the fourth quarter of 2014 and the negative impact of foreign currency exchange rates on product pricing, offset by a reduction in costs incurred in connection with the recall of the Fitbit Force and to a lesser extent, reduced estimated costs of warranty claims. Research and Development Year Ended December 31, Change 2015 2014 $ % (in thousands) Research and development $ 150,035 $ 54,167 $ 95,868 177% Research and development expenses increased $95.9 million, or 177%, from $54.2 million for 2014 to $150.0 million for 2015. The increase was primarily due to a $64.3 million increase in personnel-related expenses due to a 176% increase in headcount, a $14.5 million increase in consultant and contractor expenses, a $6.8 million increase in tooling and prototype materials, a $5.3 million increase in allocated overhead, and a $2.2 million increase in travel expenses. Sales and Marketing Year Ended December 31, Change 2015 2014 $ % (in thousands) Sales and marketing $ 332,741 $ 112,005 $ 220,736 197% Sales and marketing expenses increased $220.7 million, or 197%, from $112.0 million for 2014 to $332.7 million for 2015. The increase was primarily due to a $178.2 million increase in expenses associated with advertising costs and other marketing programs, driven by the launch of media campaigns during 2015. In addition, consulting and contractor expenses increased $21.2 million, and personnel-related expenses increased $20.0 million due to a 96% increase in headcount. General and Administrative General and administrative $ 77,793 $ 33,556 $ 44,237 132% Year Ended December 31, Change 2015 2014 $ % (in thousands) General and administrative expenses increased $44.2 million, or 132%, from $33.6 million for 2014 to $77.8 million for 2015. The increase was primarily due to a $23.8 million increase in personnel-related expenses due to a 141% increase in headcount, 48 Table of Contents an $8.7 million increase in consulting and contractor expenses, a $7.8 million increase in other administrative expenses and taxes, a $0.9 million increase in recruiting expenses, a $0.8 million increase in allocated overhead, and a $0.7 million increase in legal fees. The $0.7 million increase in legal fees is net of a benefit of $4.4 million related to the Fitbit Force recall. Change in Contingent Consideration Year Ended December 31, 2015 2014 (in thousands) Change $ Change in contingent consideration $ (7,704) $ — $ (7,704) The change in contingent consideration benefit of $7.7 million for 2015 is a result of our re-measurement of the contingent consideration liability related to our acquisition of FitStar. This is a non-recurring benefit. There was no contingent liability as of December 31, 2015 as the terms of the contingent consideration have expired. Interest and Other Income (Expense), Net Interest expense, net Other expense, net Year Ended December 31, Change 2015 2014 $ % $ (1,019) $ (59,230) (in thousands) (2,222) $ (15,934) 1,203 (43,296) (54)% 272 % Interest expense, net decreased $1.2 million, or 54%, from $2.2 million for 2014 to $1.0 million for 2015. The decrease was primarily due to a decrease in 2015 in average indebtedness outstanding compared to 2014. Other expense, net, increased $43.3 million, from $15.9 million for 2014 to $59.2 million for 2015. The increase was primarily due to an increase of $43.4 million in charges related to the revaluation of our convertible preferred stock warrant liability from $13.3 million for 2014 to $56.7 million for 2015. Income Tax Expense Income tax expense Effective tax rate Year Ended December 31, Change 2015 2014 $ % $ 112,272 $ 39.0% (in thousands) 7,996 $ 5.7% 104,276 1,304% Income tax expense increased $104.3 million from $8.0 million for 2014 to $112.3 million for 2015. Our effective tax rate was 39.0% and 5.7% for 2015 and 2014, respectively. The increase in income tax expense and effective tax rate for 2015 was primarily due to increased earnings during this period. The low effective tax rate in 2014 was due to a $51.3 million tax benefit related to the release of a valuation allowance on deferred tax assets related to accruals, which includes the impact of costs incurred in 2013 in connection with the Fitbit Force recall, and tax credits from prior years. This non-recurring tax benefit is offset by income tax expense on earnings in 2014 and a downward revaluation of our deferred tax assets due to a change in state tax law enacted in 2014. Liquidity and Capital Resources Our operations have been financed primarily through cash flow from operating activities, the net proceeds from the sale of our equity securities, and borrowings under our credit facilities. As of December 31, 2016 , we had cash and cash equivalents of $301.3 million and marketable securities of $404.7 million . Of our total cash, cash equivalents, and marketable securities, $137.1 million is held by our foreign subsidiaries. Our intent is to indefinitely reinvest our earnings from foreign operations and current plans do not anticipate that we will require funds generated from foreign operations to fund our domestic operations. In the event funds from foreign operations are needed to fund operations in the United States in the future, and if U.S. income tax has not been previously accrued on unremitted earnings, we may be required to accrue and pay additional U.S. taxes on repatriated funds at that time. 49 Table of Contents We believe our existing cash, cash equivalent, and marketable securities balances, and cash flow from operations will be sufficient to meet our working capital and capital expenditure needs for at least the next 12 months. Our future capital requirements may vary materially from those currently planned and will depend on many factors, including our levels of revenue, the timing and extent of spending on research and development efforts and other business initiatives, the expansion of sales and marketing activities, the timing of new product introductions, market acceptance of our products, acquisitions, and overall economic conditions. To the extent that current and anticipated future sources of liquidity are insufficient to fund our future business activities and requirements, we may be required to seek additional equity or debt financing. The sale of additional equity would result in additional dilution to our stockholders. The incurrence of debt financing would result in debt service obligations and the instruments governing such debt could provide for operating and financing covenants that would restrict our operations. Credit Facility In December 2015, we entered into a second amended and restated credit agreement, or Senior Facility, with Silicon Valley Bank, or SVB, as administrative agent, collateral agent, and lender, SunTrust Bank as syndication agent, and several other lenders to replace our existing asset-based credit facility and cash flow facility. This Senior Facility allows us to borrow up to $250.0 million, including up to $50.0 million for the issuance of letters of credit and up to $25.0 million for swing line loans, subject to certain financial covenants and ratios. Borrowings under the Senior Facility may be drawn as Alternate Base Rate, or ABR, loans or Eurodollar loans, which matures in December 2020. ABR loans bear interest at a variable rate equal to the applicable margin plus the highest of (i) the prime rate, (ii) the federal funds effective rate plus 0.5%, and (iii) the Eurodollar rate plus 1.0%, but in any case at a minimum rate of 3.25% per annum. Eurodollar loans bear interest at a variable rate based on the LIBOR rate and Eurodollar reserve requirements, but in any case at a minimum rate of 1.0% per annum. We have the option to repay our borrowings under the Senior Facility without penalty prior to maturity. The Senior Facility requires us to comply with certain financial covenants, including maintaining a consolidated fixed charge coverage ratio of at least 1.15:1, and a consolidated leverage ratio of less than 3:1. The Senior Facility also requires us to comply with certain non-financial covenants. Pursuant to the terms of the Senior Facility, we excluded certain expenses from the consolidated fixed charge coverage ratio calculation with the approval of our lenders, and as a result, we were in compliance with all covenants as of December 31, 2016 . Our obligations under the credit facility are collateralized by substantially all of our assets, excluding our intellectual property. As of December 31, 2016 , we had no outstanding borrowings under the Senior Facility. Based on our forecasts, we may fail to meet certain of our financial covenants under our Senior Facility during 2017. We currently do not have any borrowings outstanding under the Senior Facility and have $38.0 million in letters of credit issued under the line. We believe that should we fail to meet any of the financial covenants under the line of credit, we would be able to negotiate revised terms or fund outstanding letters of credit with available cash balances. As of December 31, 2016 , we had outstanding letters of credit totaling $38.0 million issued to cover various security deposits on our facility leases. Cash Flows The following table summarizes our cash flows for the periods indicated: Net cash provided by (used in): Operating activities Investing activities Financing activities Net change in cash and cash equivalents Cash Flows from Operating Activities Year Ended December 31, 2016 2015 (in thousands) 2014 $ $ 109,534 $ 109,157 $ (392,666) 48,980 (170,027) 401,053 (234,152) $ 340,183 $ 18,774 (24,185) 119,264 113,853 Net cash provided by operating activities of $109.5 million for 2016 was primarily due to an increase in net change in operating assets and liabilities of $197.5 million and non-cash adjustments of $14.8 million, partially offset by a net loss of $102.8 million. The increase in net change in operating assets and liabilities was primarily due to a $259.0 million increase in accounts payable and accrued liabilities, largely driven by increases in the product warranty reserve, sales rebates accruals, and reserves for excess components, partially offset by a $62.0 million increase in inventories, a $37.9 million increase in prepaid expenses 50 Table of Contents and other assets, and an $8.7 million increase in accounts receivable. Non-cash adjustments primarily consisted of stock-based compensation expense, depreciation and amortization, and the abandonment of property and equipment, partially offset by deferred taxes and excess tax benefits from stock-based compensation. Our days sales outstanding in accounts receivable, calculated as the number of days of revenue represented by the accounts receivable balance as of period end, increased from 56 days as of December 31, 2015 to 85 days as of December 31, 2016 due to slower collections in the fourth quarter of 2016 as compared to the fourth quarter of 2015. Net cash provided by operating activities of $109.2 million for 2015 was primarily due to net income of $175.7 million and non-cash adjustments of $44.5 million, partially offset by a decrease in net change in operating assets and liabilities of $111.1 million. Non-cash adjustments primarily consisted of the revaluation of the redeemable convertible preferred stock warrant liability, stock-based compensation expense, and depreciation and amortization, partially offset by deferred taxes and excess tax benefits from stock-based compensation. The decrease in net change in operating assets and liabilities was primarily due to a $231.1 million increase in accounts receivable due to increased sales in the fourth quarter of 2015, and a $68.1 million increase in inventories as a result of increased product demand, partially offset by a $195.5 million increase in accounts payable and accrued liabilities related to growth of expenditures to support general business growth. Net cash provided by operating activities of $18.8 million for 2014 was primarily due to net income of $131.8 million, partially offset by a decrease in net change in operating assets and liabilities of $102.8 million, and non-cash adjustments of $10.2 million. The decrease in net change in operating assets and liabilities was primarily due to a $158.8 million increase in accounts receivable due to increased sales in the fourth quarter of 2014 as a result of increased product demand, a $61.6 million increase in inventories as a result of a decrease in inventory turnover during 2014 primarily due to increased inventory levels for new products announced in the fourth quarter of 2014, and a $60.5 million decrease in Fitbit Force recall liabilities, partially offset by a $171.5 million increase in accounts payable and accrued liabilities and other liabilities related to growth of expenditures to support general business growth. Non-cash adjustments primarily consisted of deferred taxes, partially offset by the revaluation of the redeemable convertible preferred stock warrant liability. Cash Flows from Investing Activities Cash used in investing activities for 2016 of $392.7 million was due to the purchases of marketable securities of $638.1 million, partially offset by the sale and maturities of marketable securities of $362.3 million, purchases of property and equipment of $78.6 million, and the cash portion of acquisitions of $38.3 million, net of cash acquired. Cash used in investing activities for 2015 of $170.0 million was due to the purchases of marketable securities of $230.9 million, purchases of property and equipment of $30.6 million, and the cash portion of the acquisition of FitStar of $11.0 million, net of cash acquired, partially offset by the sale and maturities of marketable securities of $102.5 million. Cash used in investing activities for 2014 of $24.2 million was due to $26.5 million used for purchases of property and equipment, partially offset by a decrease of $2.3 million in restricted cash related to operating lease obligations. We may continue to use cash in the future to acquire businesses and technologies that enhance and expand our product offerings. Due to the nature of these transactions, it is difficult to predict the amount and timing of such cash requirements to complete such transactions. We may be required to raise additional funds to complete future acquisitions. Cash Flows from Financing Activities Cash provided by financing activities for 2016 of $49.0 million was primarily related to excess tax benefits of $29.2 million from stock-based compensation, and net proceeds from issuance of common stock related to employee equity incentive plans of $21.0 million. Cash provided by financing activities for 2015 of $401.1 million was primarily related to proceeds from our public stock offerings of $505.3 million and excess tax benefits of $32.1 million from stock compensation, partially offset by net repayments of borrowings of $134.5 million under our credit facilities. Cash provided by financing activities for 2014 of $119.3 million was primarily related to net borrowings of $119.1 million under our credit facilities. 51 Table of Contents Contractual Obligations and Other Commitments The following table summarizes our non-cancelable contractual obligations as of December 31, 2016 : Operating leases (1) $ 300,360 $ 33,867 $ 86,165 $ 81,324 $ 99,004 Total Less than 1 Year Payments Due By Period 1-3 Years (in thousands) 3-5 Years More than 5 Years Total 300,360 $ (1) We lease our facilities under long-term operating leases, which expire at various dates through June 2024. The lease agreements frequently include provisions which require us to pay 81,324 $ 86,165 $ 33,867 $ 99,004 $ taxes, insurance, or maintenance costs. Purchase orders or contracts for the purchase of certain goods and services are not included in the preceding table. The aggregate amount of purchase orders open as of December 31, 2016 was approximately $158.4 million . We cannot determine the aggregate amount of such purchase orders that represent contractual obligations because purchase orders may represent authorizations to purchase rather than binding agreements. Our purchase orders are based on our current needs and are fulfilled by our suppliers, contract manufacturers, and logistics providers within short periods of time. We subcontract with other companies to manufacture our products. During the normal course of business, we and our contract manufacturers procure components based upon a forecasted production plan. If we cancel all or part of the orders, or materially reduce forecasted orders, we may be liable to our suppliers and contract manufacturers for the cost of the excess components purchased by our contract manufacturers. As of December 31, 2016, approximately $50.9 million was accrued for such liabilities to contract manufacturers. The table above excludes the liability for uncertain tax positions of $34.0 million as of December 31, 2016 , due to the uncertainty of when the related tax settlements will become due. Off-Balance Sheet Arrangements We have not entered into any off-balance sheet arrangements and do not have any holdings in variable interest entities. Critical Accounting Polices and Estimates Our management’s discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported revenue generated and expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We believe that the accounting policies discussed below are critical to understanding our historical and future performance, as these policies relate to the more significant areas involving management’s estimates, assumptions, and judgments. Revenue Recognition We generate substantially all of our revenue from the sale of our connected health and fitness devices and accessories. We also generate a small portion of our revenue from our subscription-based services. We recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred, the sales price is fixed or determinable, and collection is reasonably assured. We consider delivery of our products to have occurred once title and risk of loss has been transferred. For customers where transfer of risk of loss is at the customer’s destination, we use estimates to defer sales at the end of the reporting period based on historical experience of average transit time. We recognize revenue, net of estimated sales returns, sales incentives, discounts, and sales tax. We generally recognize revenue for products sold through retailers and distributors on a sell-in basis. We enter into multiple element arrangements that include hardware, software, and services. The first deliverable is the hardware and firmware essential to the functionality of our connected health and fitness devices delivered at the time of sale. The second deliverable is the software services included with the products, which are provided free of charge and enables users to sync, view, and access real-time data on our online dashboard and mobile apps. The third deliverable is the embedded right included with the purchase of the device to receive, on a when-and-if-available basis, future unspecified firmware upgrades and features 52 Table of Contents relating to the product’s essential firmware. In addition, we occasionally offer a fourth deliverable in bundled arrangements that allows access to certain subscription-based services related to our FitStar offering. We allocate revenue to all deliverables based on their relative selling prices. We use a hierarchy to determine the selling price to be used for allocating revenue to deliverables: (i) vendor-specific objective evidence, or VSOE, of fair value, (ii) third-party evidence, or TPE, and (iii) best estimate of the selling price, or BESP, of selling price. Our process for determining BESP considers multiple factors including consumer behaviors and our internal pricing model and may vary depending upon the facts and circumstances related to each deliverable. BESP for our connected health and fitness devices and unspecified upgrade rights reflect our best estimate of the selling prices if they were sold regularly on a stand-alone basis and comprise the majority of the arrangement consideration. BESP for upgrade rights currently ranges from $1 to $3. TPE for our online dashboard and mobile apps is currently estimated at $0.99. VSOE for access to FitStar subscription-based services is based on the price charged when sold separately. Amounts allocated to the delivered health and fitness devices are recognized at the time of delivery, provided the other conditions for revenue recognition have been met. Amounts allocated to our online dashboard and mobile apps and unspecified upgrade rights are deferred and recognized on a straight-line basis over the estimated usage period. We offer our users the ability to purchase subscription-based services, through which our users receive incremental features, including access to a digital personal trainer, in-depth analytics regarding the user’s personal metrics, or video-based customized workouts. Amounts paid for subscriptions are deferred and recognized ratably over the service period which is typically one year. Revenue from subscription-based premium services was less than 1% of revenue for all periods presented. In addition, we offer access to software and services to certain customers in the corporate wellness program, which includes distribution capabilities, a real- time dashboard, and support services. We are currently unable to establish VSOE or TPE for the corporate wellness software and services. BESP for the corporate wellness software and services is determined based on our internal pricing model for anticipated renewals for existing customers and pricing for new customers. Revenue allocated to the corporate wellness software and services is deferred and recognized on a straight-line basis over the estimated access period of one year, which is the typical service period. Revenue from the corporate wellness software and services was less than 1% of revenue for all periods presented. We account for shipping and handling fees billed to customers as revenue. Sales taxes and value added taxes collected from customers are remitted to governmental authorities, are not included in revenue, and are reflected as a liability on our consolidated balance sheets. Rights of Return, Stock Rotation Rights, and Price Protection We offer limited rights of return, stock rotation rights, and price protection under various policies and programs with our retailer and distributor customers and end-users. We estimate reserves for these policies and programs based on historical experience and record the reserves as a reduction of revenue and accounts receivable. Through December 31, 2016 , actual returns have primarily been open-box returns. When necessary, we also provide a specific reserve for products in the distribution channel in excess of estimated requirements. This estimate can be affected by the amount of a particular product in the channel, the rate of sell- through, product plans, and other factors. We also consider whether there are circumstances which may result in anticipated returns higher than the historical return rate from direct customers and record an additional specific reserve as necessary. Sales Incentives We offer sales incentives such as cooperative advertising and marketing development fund programs, rebates, and other incentives. We record cooperative advertising and marketing development fund programs with customers as a reduction to revenue unless we receive an identifiable benefit in exchange for credits claimed by the customer and can reasonably estimate the fair value of the identifiable benefit received, in which case we will record it as a marketing expense. We recognize a liability with a reduction to revenue for rebates or other incentives based on the estimated amount of rebates or credits that will be claimed by customers. Inventories Inventories consist of finished goods and component parts, which are purchased from contract manufacturers and component suppliers. Inventories are stated at the lower of cost or market on a first-in, first-out basis. We assess the valuation of inventory and periodically write down the value for estimated excess and obsolete inventory based upon estimates of future demand and market conditions. 53 Table of Contents Product Warranty We offer a standard product warranty that our products will operate under normal use for a period of one-year from the date of original purchase, except in the European Union where we provide a two-year warranty. We have the obligation, at our option, to either repair or replace the defective product. At the time revenue is recognized, an estimate of future warranty costs is recorded as a component of cost of revenues. Factors that affect the warranty obligation include product failure rates, service delivery costs incurred in correcting the product failures, and warranty policies. The warranty obligation does not consider historical experience of the Fitbit Force product as a separate reserve has been established for the Fitbit Force recall. Our products are manufactured by contractor manufacturers, and in certain cases, we may have recourse to such contract manufacturers. Business Combinations, Goodwill, and Intangible Assets We allocate the fair value of purchase consideration to tangible assets, liabilities assumed, and intangible assets acquired based on their estimated fair values. The excess of the fair value of purchase consideration over the fair values of these identifiable assets and liabilities is allocated to goodwill. The allocation of the purchase consideration requires management to make significant estimates and assumptions, especially with respect to intangible assets. These estimates can include, but are not limited to, future expected cash flows of acquired customers, acquired technology, and trade names from a market participant perspective, and estimates of useful lives, and discount rates. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable and, as a result, actual results may differ from estimates. During the measurement period, which is up to one year from the acquisition date, we may record adjustments to the assets acquired and liabilities assumed, with the corresponding offset to goodwill. Upon the conclusion of the measurement period, any subsequent adjustments are recorded to earnings. We assess goodwill for impairment at least annually during the fourth quarter and whenever events or changes in circumstances indicate that the carrying value of the asset may not be recoverable. Consistent with our determination that we have one operating segment, we have determined that there is one reporting unit and test goodwill for impairment at the entity level. We test goodwill using the two-step process in accordance with ASC 350, Intangibles—Goodwill and Other . In the first step, we compare the carrying amount of the reporting unit to the fair value based on the fair value of our common stock. If the fair value of the reporting unit exceeds the carrying value, goodwill is not considered impaired and no further testing is required. If the carrying value of the reporting unit exceeds the fair value, goodwill is potentially impaired and the second step of the impairment test must be performed. In the second step, we would compare the implied fair value of the goodwill, as defined by ASC 350, to its carrying amount to determine the amount of impairment loss, if any. We tested goodwill for impairment as of October 31, 2016, and 2015, and the fair value of our reporting unit exceeded the carrying value. Acquired finite-lived intangible assets are amortized over their estimated useful lives. We evaluate the recoverability of our intangible assets for possible impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable. Recoverability of these assets is measured by a comparison of the carrying amounts to the future undiscounted cash flows the assets are expected to generate. If such review indicates that the carrying amount of intangible assets is not recoverable, the carrying amount of such assets is reduced to fair value. We have not recorded any such impairment charge during the years presented. Income Taxes We utilize the asset and liability method of accounting for income taxes, which requires the recognition of deferred tax assets and liabilities for expected future consequences of temporary differences between the financial reporting and income tax bases of assets and liabilities using enacted tax rates. We make estimates, assumptions, and judgments to determine our expense (benefit) for income taxes and also for deferred tax assets and liabilities and any valuation allowances recorded against our deferred tax assets. We assess the likelihood that our deferred tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, we establish a valuation allowance. The calculation of our income tax expense involves the use of estimates, assumptions, and judgments while taking into account current tax laws, our interpretation of current tax laws, and possible outcomes of future tax audits. We have established reserves to address potential exposures related to tax positions that could be challenged by tax authorities. Although we believe our estimates, assumptions, and judgments to be reasonable, any changes in tax law or our interpretation of tax laws and the resolutions of potential tax audits could significantly impact the amounts provided for income taxes in our consolidated financial statements. The calculation of our deferred tax asset balance involves the use of estimates, assumptions, and judgments while taking into account estimates of the amounts and type of future taxable income. Actual future operating results and the underlying amount 54 Table of Contents and type of income could differ materially from our estimates, assumptions, and judgments, thereby impacting our financial position and operating results. We include interest and penalties related to unrecognized tax benefits within income tax expense. Interest and penalties related to unrecognized tax benefits have been recognized in the appropriate periods presented. Stock-Based Compensation Stock-based compensation is measured at the grant date based on the fair value of the award and is recognized as expense, net of estimated forfeitures, over the requisite service period, which is generally the vesting period of the respective award. Determining the fair value of stock-based awards at the grant date requires judgment. The fair value of restricted stock units, or RSUs, is the fair value of our common stock on the grant date. We use the Black-Scholes option-pricing model to determine the fair value of stock options and shares issued under our 2015 Employee Stock Purchase Plan, or 2015 ESPP. The determination of the grant date fair value of stock options and shares issued under our 2015 ESPP using an option-pricing model is affected by our estimated common stock fair value as well as assumptions regarding a number of variables. These variables include the fair value of our common stock, our expected common stock price volatility over the expected life of the options, expected term of the stock option, risk-free interest rates, and expected dividends, which are estimated as follows: Fair Value of Our Common Stock . Prior to our initial public offering, the fair value of the shares of common stock underlying stock options was historically established by our board of directors, which was responsible for these estimates, and was based in part upon a valuation provided by an independent third-party valuation firm. Because there was no public market for our common stock prior to our initial public offering, our board of directors considered this independent valuation and other factors, including, but not limited to, revenue growth, the current status of the technical and commercial success of our operations, our financial condition, the stage of our development, and competition to establish the fair value of our common stock at the time of grant of the option. The fair value of the underlying common stock was determined by the board of directors until our common stock was listed on a stock exchange. For stock options and RSUs granted subsequent to our initial public offering, the fair value was based on the closing price of our Class A common stock as reported on the New York Stock Exchange on the date of grant. Expected Term . The expected term represents the period over which we anticipate stock-based awards to be outstanding. We do not have sufficient historical exercise data to provide a reasonable basis upon which to estimate expected term due to the limited period of time stock-based awards have been exercisable. As a result, for stock options, we used the simplified method to calculate the expected term estimate based on the vesting and contractual terms of the option. Under the simplified method, the expected term is equal to the average of the stock-based award’s weighted average vesting period and its contractual term. The expected term of equity awards issued under our 2015 ESPP is the contractual term. Volatility . Expected volatility is a measure of the amount by which the stock price is expected to fluctuate. We estimate the expected volatility of the common stock underlying our stock options and equity awards issued under our 2015 ESPP at the grant date by taking the average historical volatility of the common stock of a group of comparable publicly traded companies over a period equal to the expected life. We use this method because we have limited information on the volatility of our Class A common stock because of our short trading history. Risk-Free Rate . The risk-free interest rate is estimated average interest rate based on U.S. Treasury zero-coupon notes with terms consistent with the expected term of the awards. Dividend Yield . We have never declared or paid any cash dividends and do not presently plan to pay cash dividends in the foreseeable future. Consequently, we used an expected dividend yield of zero. In addition, we are required to estimate the amount of stock-based compensation we expect to be forfeited based on our historical experience. The assumptions used in calculating the fair value of the stock-based awards represent management judgment. As a result, if factors change and different assumptions are used, the stock-based compensation expense could be materially different in the future. Recent Accounting Pronouncements In May 2014, the Financial Accounting Standards Board, or FASB, issued ASU 2014-09 (ASC 606), Revenue from Contracts with Customers , which affects any entity that either enters into contracts with customers to transfer goods and services or enters into contracts for the transfer of nonfinancial assets. ASU 2014- 09 will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. The standard’s core principle is that a company will recognize revenue when it transfers promised 55 Table of Contents goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under the currently effective guidance. This may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. ASU 2014-09 will become effective for us on January 1, 2018 and can be adopted either retrospectively to each prior reporting period presented or as a cumulative effect adjustment as of the date of adoption. In April 2016, the FASB issued ASU 2016-10, which clarifies guidance on identifying performance obligations and licensing implementation. We currently expect to adopt the revenue standards as of January 1, 2018, utilizing the modified retrospective transition method. Although the new standard may, in certain circumstances, impact the timing of when revenue is recognized for product shipped, and the timing and classification of certain sales incentives, we believe the new guidance is consistent with our current revenue policy. Therefore, we do not currently expect adoption to have a material impact on the consolidated financial statements. We are continuing to evaluate the impact of the adoption and preliminary assessments are subject to change. In February 2016, the FASB issued ASU 2016-02, Leases . This ASU requires lease assets and lease liabilities arising from leases, including operating leases, to be recognized on the balance sheet. ASU 2016-02 will become effective for us on January 1, 2019, and requires adoption using a modified retrospective approach. We are currently evaluating the impact of this guidance on the consolidated financial statements. We anticipate that the adoption will have a material impact on our consolidated balance sheets; however, we do not expect the adoption to have a material impact on our statements of operations. In March 2016, the FASB issued ASU 2016-09, Compensation — Stock Compensation (Topic 718). This ASU simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. ASU 2016-09 will become effective for us on January 1, 2017 and early adoption is permitted. We adopted ASU 2016-09 as of January 1, 2017. Any deferred tax asset recognized on adoption of ASU 2016-09 related to excess stock-based compensation, net of any applicable valuation allowance, was recorded to retained earnings as of the date of adoption. We do not currently expect the adoption to have a material impact on the 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 ASU provides for a new impairment model which requires measurement and recognition of expected credit losses for most financial assets and certain other instruments, including but not limited to accounts receivable and available for sale debt securities. ASU 2016-13 will become effective for us on January 1, 2020 and early adoption is permitted. We are currently evaluating the impact of this guidance on the consolidated financial statements. In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230) . This ASU provides guidance intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows. ASU 2016-15 will become effective for the Company on January 1, 2018 and early adoption is permitted. We are currently evaluating the impact of this guidance on the consolidated financial statements. 56 Table of Contents Item 7A. Quantitative and Qualitative Disclosures about Market Risk We are exposed to market risks in the ordinary course of our business. These risks primarily include interest rate and foreign currency risks as follows: Interest Rate Risk Our exposure to changes in interest rates relates primarily to our investment portfolio. As of December 31, 2016 , we had cash and cash equivalents of $301.3 million and marketable securities of $404.7 million , which consisted primarily of bank deposits, money market funds, U.S. government and agency securities, commercial paper, and corporate notes and bonds. The primary objectives of our investment activities are to preserve principal and provide liquidity without significantly increasing risk. Our investment policy specifies credit quality standards for our investments and limits the amount of credit exposure to any single issue, issuer, or type of investment. To date, we have not been exposed, nor do we anticipate being exposed, to material risks due to changes in interest rates. A hypothetical 10% change in interest rates during any of the periods presented would not have had a material impact on our consolidated financial statements. Foreign Currency Risk To date, all of our inventory purchases have been denominated in U.S. dollars. Our international sales are primarily denominated in foreign currencies and any unfavorable movement in the exchange rate between U.S. dollars and the currencies in which we conduct sales in foreign countries could have an adverse impact on our revenue. A portion of our operating expenses are incurred outside the United States and are denominated in foreign currencies, which are also subject to fluctuations due to changes in foreign currency exchange rates. In addition, our suppliers incur many costs, including labor costs, in other currencies. To the extent that exchange rates move unfavorably for our suppliers, they may seek to pass these additional costs on to us, which could have a material impact on our gross margins. Our operating results and cash flows are, therefore, subject to fluctuations due to changes in foreign currency exchange rates. However, we believe that the exposure to foreign currency fluctuation from operating expenses is relatively small at this time as the related costs do not constitute a significant portion of our total expenses. To partially mitigate the impact of changes in currency exchange rates on net cash flows from our foreign currency denominated revenue and expenses, we enter into foreign currency exchange forward and option contracts. We also hedge certain monetary assets and liabilities denominated in foreign currencies, which reduces but does not eliminate our exposure to currency fluctuations between the date a transaction is recorded and the date that cash is collected or paid. In general, the market risks of these contracts are offset by corresponding gains and losses on the transactions being hedged. We had outstanding contracts with a total notional amount of $20.0 million and $20.9 million in cash flow hedges for forecasted revenue and expense transactions, respectively, as of December 31, 2016 . We had outstanding balance sheet hedges with a total notional amount of $177.0 million as of December 31, 2016 . We assessed our exposure to movements in currency exchange rates by performing a sensitivity analysis of adverse changes in exchange rates and the corresponding impact to our results of operations. Based on transactions denominated in currencies other than respective functional currencies, a hypothetical change of 10% would have resulted in an impact on loss before income taxes of approximately $40.5 million for 2016 . 57 Table of Contents Item 8. Financial Statements and Supplementary Data FITBIT, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Report of Independent Registered Public Accounting Firm Consolidated Financial Statements: Consolidated Balance Sheets Consolidated Statements of Operations Consolidated Statements of Comprehensive Income (Loss) Consolidated Statements of Redeemable Convertible Preferred Stock and Stockholders’ Equity (Deficit) Consolidated Statements of Cash Flows Notes to Consolidated Financial Statements 58 Page 59 60 61 62 63 65 66 Table of Contents To the Board of Directors and Stockholders of Fitbit, Inc. Report of Independent Registered Public Accounting Firm In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, of comprehensive income (loss), of redeemable convertible preferred stock and stockholders’ equity (deficit) and of cash flows present fairly, in all material respects, the financial position of Fitbit, Inc. and its subsidiaries as of December 31, 2016 and December 31, 2015, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2016 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company's management is responsible for these financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in Management's Report on Internal Control Over Financial Reporting appearing under Item 9A. Our responsibility is to express opinions on these financial statements and on the Company's internal control over financial reporting based on our audits (which was an integrated audit in 2016). We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions. 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 (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) 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 (iii) 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/ PricewaterhouseCoopers LLP San Francisco, California March 1, 2017 59 Table of Contents FITBIT, INC. Consolidated Balance Sheets (In thousands, except share and per share amounts) Assets Current assets: Cash and cash equivalents Marketable securities Accounts receivable, net Inventories Prepaid expenses and other current assets Total current assets Property and equipment, net Goodwill Intangible assets, net Deferred tax assets Other assets Total assets Liabilities, Redeemable Convertible Preferred Stock, and Stockholders’ Equity Current liabilities: Accounts payable Accrued liabilities Deferred revenue Income taxes payable Total current liabilities Other liabilities Total liabilities Commitments and contingencies (Note 7) Stockholders’ equity: Preferred stock, $0.0001 par value, 10,000,000 shares authorized Class A common stock, $0.0001 par value, 600,000,000 shares authorized; 177,212,531 and 99,416,351 shares issued and outstanding as of December 31, 2016 and 2015, respectively Class B common stock, $0.0001 par value, 350,000,000 shares authorized; 48,450,746 and 115,365,222 shares issued and outstanding as of December 31, 2016 and 2015, respectively Additional paid-in capital Accumulated other comprehensive income (loss) Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity December 31, 2016 2015 $ 301,320 $ 404,693 477,825 230,387 66,346 535,846 128,632 469,260 178,146 43,530 1,480,571 1,355,414 $ $ 76,553 51,036 27,521 174,097 10,448 44,501 22,157 12,216 83,020 1,758 1,820,226 $ 1,519,066 313,773 $ 390,561 49,904 7,694 761,932 59,762 821,694 — 18 5 859,345 (978) 140,142 998,532 260,842 200,099 44,448 2,868 508,257 29,358 537,615 — 10 11 737,820 691 242,919 981,451 $ 1,820,226 $ 1,519,066 The accompanying notes are an integral part of these consolidated financial statements. 60 Table of Contents FITBIT, INC. Consolidated Statements of Operations (In thousands, except per share amounts) Revenue Cost of revenue Gross profit Operating expenses: Research and development Sales and marketing General and administrative Change in contingent consideration Total operating expenses Operating income (loss) Interest income (expense), net Other income (expense), net Income (loss) before income taxes Income tax expense (benefit) Net income (loss) Less: noncumulative dividends to preferred stockholders Less: undistributed earnings to participating securities Net income (loss) attributable to common stockholders—basic Add: adjustments for undistributed earnings to participating securities Net income (loss) attributable to common stockholders—diluted Net income (loss) per share attributable to common stockholders: Basic Diluted Shares used to compute net income (loss) per share attributable to common stockholders: Basic Diluted Year Ended December 31, 2016 2015 2014 $ 2,169,461 $ 1,857,998 $ 1,323,577 845,884 320,191 491,255 146,903 — 958,349 (112,465) 3,156 14 (109,295) (6,518) (102,777) — — (102,777) — 956,935 901,063 150,035 332,741 77,793 (7,704) 552,865 348,198 (1,019) (59,230) 287,949 112,272 175,677 (2,526) (59,133) 114,018 8,821 $ $ $ (102,777) $ 122,839 $ (0.47) $ (0.47) $ 0.88 $ 0.75 $ 220,405 220,405 129,886 164,213 745,433 387,776 357,657 54,167 112,005 33,556 — 199,728 157,929 (2,222) (15,934) 139,773 7,996 131,777 (5,326) (98,103) 28,348 10,175 38,523 0.70 0.63 40,351 61,179 The accompanying notes are an integral part of these consolidated financial statements. 61 Table of Contents FITBIT, INC. Consolidated Statements of Comprehensive Income (Loss) (In thousands) Net income (loss) Other comprehensive income (loss): Cash flow hedges: Year Ended December 31, 2016 2015 2014 $ (102,777) $ 175,677 $ 131,777 Change in unrealized gain on cash flow hedges, net of tax expense (benefit) of ($1,251), $1,509, and $ —, respectively Less reclassification for realized net gains included in net income (loss), net of tax expense of $509, $759, and $ —, respectively Net change, net of tax Available-for-sale investments: Change in unrealized loss on investments Less reclassification for realized net gains included in net income (loss) Net change, net of tax Change in foreign currency translation adjustment, net of tax Comprehensive income (loss) 9,422 1,276 (10,650) (1,228) (126) (6) (132) (309) (525) 751 (63) 8 (55) (42) — — — — — — 37 $ (104,446) $ 176,331 $ 131,814 The accompanying notes are an integral part of these consolidated financial statements. 62 Table of Contents FITBIT, INC. Consolidated Statements of Redeemable Convertible Preferred Stock and Stockholders’ Equity (Deficit) (In thousands except share amounts) Balance at December 31, 2013 Issuance of redeemable convertible preferred stock upon exercise of redeemable convertible preferred stock warrants Issuance of common stock upon exercise of stock options Stock-based compensation expense Excess tax benefit from stock-based compensation Net income Other comprehensive income Balance at December 31, 2014 Issuance of common stock upon public offerings, net of offering costs Issuance of redeemable convertible preferred stock upon net exercise of redeemable convertible preferred stock warrants Conversion of redeemable convertible preferred stock to common stock upon initial public offering Reclassification of redeemable convertible preferred stock warrant liability into additional paid in capital upon initial public offering Issuance of common stock upon exercise of stock options Issuance of common stock in connection with acquisition Issuance of common stock subject to vesting in connection with acquisition Issuance of common stock upon net exercise of common stock warrants Stock-based compensation expense Excess tax benefit from stock-based compensation Net income Other comprehensive income Balance at December 31, 2015 Redeemable Convertible Preferred Stock Class A and Class B Common Stock Shares Amount 139,503,915 $ 66,236 Shares 40,140,159 $ Amount Additional Paid-In Capital Accumulated Other Comprehensive Income (Loss) Retained Earnings (Accumulated Deficit) Total Stockholders’ Equity (Deficit) 4 $ 1,065 $ — $ (64,535) $ (63,466) 347,568 1,578 — — — — — 735,424 — — — — 139,851,483 — — — — — — 40,875,583 67,814 — — — — — — 4 — 97 6,804 13 — — 7,979 — — 25,387,500 3 499,102 1,485,583 56,678 — — — (141,337,066) (124,492) 141,337,066 14 124,478 — — — — — — — — — — — — — 5,396,591 — 1,059,688 — — — 308,216 416,929 — — — — — — — — 214,781,573 63 — — — — — — — — — 21 15,774 4,018 13,317 — — 41,052 32,100 — — 737,820 — — — — — 37 37 — — — — — — — — — — — 654 691 — — — — 131,777 — 67,242 — — — 97 6,804 13 131,777 37 75,262 499,105 — — 124,492 — — — — — — — 175,677 — 242,919 15,774 4,018 13,317 — — 41,052 32,100 175,677 654 981,451 Table of Contents FITBIT, INC. Consolidated Statements of Redeemable Convertible Preferred Stock and Stockholders’ Equity (Deficit) (Continued) (In thousands except share amounts) Issuance of common stock Stock-based compensation expense Taxes related to net share settlement of restricted stock units Excess tax benefit from stock-based compensation Net loss Other comprehensive loss Balance at December 31, 2016 — — — — — — — $ — 10,881,704 — — — — — — — 225,663,277 $ — — — — Redeemable Convertible Preferred Stock Common Stock Shares Amount Shares Amount Accumulated Other Comprehensive Income (Loss) Retained Earnings (Accumulated Deficit) Total Stockholders’ Equity (Deficit) Additional Paid-In Capital 25,812 79,107 2 — (4,939) 21,545 — — — — — — 23 $ 859,345 $ — — — — — — — — — 25,814 79,107 (4,939) 21,545 (102,777) (102,777) (1,669) — (978) $ 140,142 $ (1,669) 998,532 The accompanying notes are an integral part of these consolidated financial statements. 64 Table of Contents FITBIT, INC. Consolidated Statements of Cash Flows (In thousands) Cash Flows from Operating Activities Net income (loss) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Provision for doubtful accounts Provision for excess and obsolete inventory Depreciation Amortization of intangible assets Accelerated depreciation of property and equipment Amortization of issuance costs and discount on debt Stock-based compensation Deferred income taxes Excess of tax benefit from stock-based compensation Revaluation of redeemable convertible preferred stock warrant liability Change in contingent consideration Other Changes in operating assets and liabilities, net of acquisitions: Accounts receivable Inventories Prepaid expenses and other assets Fitbit Force recall reserve Accounts payable Accrued liabilities and other liabilities Deferred revenue Income taxes payable Net cash provided by operating activities Cash Flows from Investing Activities Purchase of property and equipment Purchase of marketable securities Sales of marketable securities Maturities of marketable securities Acquisitions, net of cash acquired Change in restricted cash Net cash used in investing activities Cash Flows from Financing Activities Payment of offering costs Proceeds from issuance of common stock Excess of tax benefit from stock-based compensation Taxes paid related to net share settlement of restricted stock units Proceeds from public offerings, net of underwriting discounts and commissions Proceeds from issuance of debt and revolving credit facility Repayment of debt Payment of issuance costs Proceeds from exercise of redeemable convertible preferred stock warrants Net cash provided by financing activities Net increase (decrease) in cash and cash equivalents Effect of exchange rate on cash and cash equivalents Cash and cash equivalents at beginning of period Cash and cash equivalents at end of period Year Ended December 31, 2016 2015 2014 $ (102,777) $ 175,677 $ 131,777 339 4,993 36,046 2,087 19,805 466 79,432 (98,734) (29,186) — — (423) (8,701) (61,975) (37,876) (3,869) 45,654 213,361 5,456 45,436 109,534 (78,640) (638,055) 46,511 315,774 (38,256) — (392,666) (1,236) 25,969 29,186 (4,939) — — — — — 48,980 (234,152) (374) 535,846 $ 301,320 $ 1,115 5,060 19,405 1,702 1,206 961 41,024 (42,538) (32,100) 56,655 (7,704) (263) (231,100) (68,108) (29,215) (17,354) 56,759 138,748 34,891 4,336 109,157 (30,566) (230,935) 58,011 44,500 (11,037) — (170,027) (5,089) 4,018 32,100 — 505,275 160,000 (294,503) (748) — 401,053 340,183 37 195,626 535,846 $ 864 2,964 6,131 — 1,004 795 6,804 (42,001) (13) 13,272 — — (158,788) (61,595) (9,679) (60,462) 123,761 47,733 3,403 12,804 18,774 (26,495) — — — — 2,310 (24,185) — 97 13 — — 163,000 (41,346) (2,575) 75 119,264 113,853 45 81,728 195,626 Supplemental Disclosure Cash paid for interest Cash paid for income taxes Supplemental Disclosure of Non-Cash Investing and Financing Activity Purchase of property and equipment included in accounts payable and accrued liabilities Conversion of redeemable convertible preferred stock into Class B common stock Reclassification of redeemable convertible preferred stock warrant liability to additional paid in capital Issuance of redeemable convertible preferred stock upon net exercise of redeemable convertible preferred stock warrants Issuance of redeemable convertible preferred stock warrants in connection with debt financing Deferred offering costs included in accounts payable and accruals Issuance of common stock in connection with acquisitions Contingent consideration related to acquisitions $ $ $ $ $ $ $ $ $ $ 624 34,014 $ $ 19,778 $ — $ — $ — $ — $ — $ — $ — $ 1,157 $ 150,923 $ 10,534 $ 124,492 $ 15,774 $ 56,678 $ — $ 1,080 $ 13,317 $ (7,704) $ 835 34,616 2,492 — — — — — — — The accompanying notes are an integral part of these consolidated financial statements. 65 Table of Contents 1. Business Overview and Basis of Presentation Description of Business FITBIT, INC. Notes to Consolidated Financial Statements Fitbit, Inc. (the “Company”) is transforming the way millions of people around the world achieve their health and fitness goals. The Fitbit platform combines connected health and fitness devices with software and services, including an online dashboard and mobile apps, data analytics, motivational and social tools, personalized insights, and virtual coaching through customized fitness plans and interactive workouts. The Company sells devices through diversified sales channels that include distributors, retailers, a corporate wellness offering, and Fitbit.com. The Company was incorporated in Delaware in 2007. The Company has established wholly-owned subsidiaries globally and its corporate headquarters are located in San Francisco, California. Basis of Presentation and Principles of Consolidation The consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (U.S. GAAP). The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany transactions and balances have been eliminated. The Company’s fiscal year ends on December 31 of each year. In the first quarter of 2016, the Company adopted a 4-4-5 week quarterly calendar, which, for the 2016 fiscal year, was comprised of four fiscal quarters ending on April 2, 2016, July 2, 2016, October 1, 2016, and December 31, 2016. The Company did not adjust operating results for quarters prior to 2016. Use of Estimates The preparation of consolidated financial statements in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the amounts reported and disclosed in the consolidated financial statements and accompanying notes. The estimates and assumptions made by management related to revenue recognition, reserves for sales returns and incentives, reserves for warranty, valuation of stock options, fair value of derivative assets and liabilities, allowance for doubtful accounts, inventory valuation, fair value of goodwill and acquired tangible and intangible assets and liabilities assumed during acquisitions, the number of reporting segments, the recoverability of intangible assets and their useful lives, the valuations of deferred income tax assets and uncertain tax positions, and accruals for the Fitbit Force recall. Actual results could differ from those estimates, and such differences may be material to the consolidated financial statements. Comprehensive Income (Loss) Comprehensive income (loss) consists of two components, net income (loss) and other comprehensive income (loss), net of tax. Other comprehensive income refers to revenue, expenses, and gains and losses that are recorded as an element of stockholders’ equity but are excluded from net income (loss). The Company’s other comprehensive income (loss) consists of net unrealized gains and losses on derivative instruments accounted for as cash flow hedges, foreign currency translation adjustments from those subsidiaries not using the U.S. dollar as their functional currency, and unrealized gains and losses on available-for-sale securities. Out-of-Period Adjustment During the first quarter of 2016, the Company identified an error, which resulted in an understatement of income tax expense by $3.0 million for the year ended December 31, 2015. The Company recorded an out-of-period adjustment to correct the error in the quarter ended April 2, 2016. The Company assessed the materiality of this error and concluded the error was not material to the 2015 and 2016 consolidated financial statements, and therefore, the Company recorded the correction in the first quarter of 2016. Non-Monetary Transaction The Company entered into an agreement with a third party during 2016 to exchange inventory for advertising credits and cash. The Company recorded the transaction based on the estimated fair value of the products exchanged. The Company recorded $15.0 million of revenue during 2016 related to the transaction. The $13.0 million of unused advertising credits remaining as of 66 Table of Contents December 31, 2016 were recorded in prepaid expenses and other current assets and other assets. Such credits are expected to be used over three years , and will be expensed as advertising services are received. 2. Significant Accounting Policies Cash, Cash Equivalents and Marketable Securities Cash and cash equivalents include all cash balances and highly liquid investments with original maturities of three months or less from the date of purchase. Cash equivalents and marketable securities consist of money market funds, U.S. government and agency securities, commercial paper, and corporate notes and bonds. The Company’s marketable securities are classified as available-for-sale as of the balance sheet date and are reported at fair value with unrealized gains and losses reported, net of tax, as a separate component of accumulated other comprehensive income in stockholders’ equity. Because the Company views marketable securities as available to support current operations as needed, it has classified all available-for-sale securities as current assets. Realized gains or losses and other- than-temporary impairments, if any, on available-for-sale securities are reported in other expense, net as incurred. Realized gains and losses on the sale of securities are determined by specific identification of each security’s cost basis. Investments are reviewed periodically to identify possible other-than-temporary impairments. No impairment loss has been recorded on the securities as the Company believes that any decrease in fair value of these securities is temporary and expects to recover up to, or beyond, the initial cost of investment for these securities. Fair Value of Financial Instruments Assets and liabilities recorded at fair value on a recurring basis are categorized based upon the level of judgment associated with inputs used to measure their fair values. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the reporting date. The Company estimates fair value by applying the following hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement: Level 1 —Quoted prices in active markets for identical assets or liabilities; Level 2 —Observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; and Level 3 —Inputs that are generally unobservable and typically reflect management’s estimate of assumptions that market participants would use in pricing the asset or liability. Foreign Currencies The Company and certain of the Company’s wholly-owned subsidiaries use the U.S. dollar as their functional currency. The Company’s subsidiaries that use the U.S. dollar as their functional currency remeasure local currency denominated monetary assets and liabilities at exchange rates in effect at the end of each period, and inventories, property, plant and equipment and other nonmonetary assets and liabilities at historical rates. Gains and losses from these remeasurements have been included in the Company’s operating results within other income (expense), net. Local currency transactions of these international operations are remeasured into U.S. dollars at the rates of exchange in effect at the date of the transaction. Foreign currency transaction gains (losses) were $ 11.7 million , $(1.3) million , and $(2.7) million for 2016 , 2015 , and 2014 , respectively. The Company translates the assets and liabilities of its non-U.S. dollar functional currency subsidiaries into U.S. dollars using exchange rates in effect at the end of each period. Revenue and expenses for these subsidiaries are translated using rates that approximate those in effect during the related period. Gains and losses from translations are recognized in foreign currency translation included in accumulated other comprehensive income (loss). Derivative Instruments The Company accounts for its derivative instruments as either assets or liabilities and carries them at fair value. Derivatives held by the Company that are not designated as hedges are adjusted to fair value through earnings at each reporting date. In addition, 67 Table of Contents the Company enters into derivatives that are accounted for as cash flow hedges. The Company records the gains or losses, net of tax, related to the effective portion of its cash flow hedges as a component of accumulated other comprehensive income in stockholders’ equity and subsequently reclassifies the gains or losses into revenue and operating expenses when the underlying hedged transactions are recognized. The Company periodically assesses the effectiveness of its cash flow hedges. The fair value of derivative assets and liabilities are included in prepaid expenses and other current assets and accrued liabilities on the consolidated balance sheets. Concentration of Credit Risk Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash, cash equivalents, accounts receivables, and derivative instruments. Cash and cash equivalents are deposited with high quality financial institutions and may, at times, exceed federally insured limits. Management believes that the financial institutions that hold the Company’s deposits are financially credit worthy and, accordingly, minimal credit risk exists with respect to those balances. Generally, these deposits may be redeemed upon demand and, therefore, bear minimal interest rate risk. The Company’s accounts receivable are derived from customers located principally in the United States. The Company maintains credit insurance for the majority of its customer balances, performs ongoing credit evaluations of its customers, and maintains allowances for potential credit losses on customers’ accounts when deemed necessary. Credit losses historically have not been significant. The Company continuously monitors customer payments and maintains an allowance for doubtful accounts based on its assessment of various factors including historical experience, age of the receivable balances, and other current economic conditions or other factors that may affect customers’ ability to pay. The Company’s derivative instruments expose it to credit risk to the extent that its counterparties may be unable to meet the terms of the agreements. The Company seeks to mitigate this risk by limiting counterparties to major financial institutions and by spreading the risk across several major financial institutions. In addition, the potential risk of loss with any one counterparty resulting from this type of credit risk is monitored on an ongoing basis. Supplier Concentration The Company relies on third parties for the supply and manufacture of its products, as well as third-party logistics providers. In instances where these parties fail to perform their obligations, the Company may be unable to find alternative suppliers or satisfactorily deliver its products to its customers on time, if at all. Inventories Inventories consist of finished goods and component parts, which are purchased from contract manufacturers and component suppliers. Inventories are stated at the lower of cost or market on a first-in, first-out basis. The Company assesses the valuation of inventory and periodically writes down the value for estimated excess and obsolete inventory based upon estimates of future demand and market conditions. Property and Equipment, Net Property and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization of property and equipment is calculated using the straight-line method over the estimated useful lives of the assets. Cost of maintenance and repairs that do not improve or extend the lives of the respective assets are expensed as incurred. The useful lives of the property and equipment are as follows: Tooling and manufacturing equipment Furniture and office equipment Purchased software Capitalized internally-developed software Leasehold improvements Internally-Developed Software Costs One to three years Three years Three years Two to eight years Shorter of remaining lease term or ten years The Company capitalizes eligible costs to acquire, develop, or modify internal-use software that are incurred subsequent to the preliminary project stage. Capitalized internally-developed software costs, net, were $6.3 million as of December 31, 2016 and were immaterial as of December 31, 2015. 68 Table of Contents Research and Development Research and development expenses consist primarily of personnel-related expenses, consulting and contractor expenses, tooling and prototype materials, and allocated overhead costs. Substantially all of the Company’s research and development expenses are related to developing new products and services and improving existing products and services. To date, research and development expenses have been expensed as incurred, because the period between achieving technological feasibility and the release of products and services for sale has been short and development costs qualifying for capitalization have been insignificant. Business Combinations, Goodwill, and Intangible Assets The Company allocates the fair value of purchase consideration to tangible assets, liabilities assumed, and intangible assets acquired based on their estimated fair values. The excess of the fair value of purchase consideration over the fair values of these identifiable assets and liabilities is allocated to goodwill. The allocation of the purchase consideration requires management to make significant estimates and assumptions, especially with respect to intangible assets. These estimates can include, but are not limited to, future expected cash flows from acquired customers, acquired technology, and trade names from a market participant perspective, useful lives, and discount rates. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable and, as a result, actual results may differ from estimates. During the measurement period, which is up to one year from the acquisition date, the Company may record adjustments to the assets acquired and liabilities assumed, with the corresponding offset to goodwill. Upon the conclusion of the measurement period, any subsequent adjustments are recorded to earnings. The Company assesses goodwill for impairment at least annually during the fourth quarter and whenever events or changes in circumstances indicate that the carrying value of the asset may not be recoverable. Consistent with the determination that the Company has one operating segment, the Company has determined that there is one reporting unit and tests goodwill for impairment at the entity level. Goodwill is tested using the two-step process in accordance with ASC 350, Intangibles—Goodwill and Other . In the first step, the carrying amount of the reporting unit is compared to the fair value based on the fair value of the Company’s common stock. If the fair value of the reporting unit exceeds the carrying value, goodwill is not considered impaired and no further testing is required. If the carrying value of the reporting unit exceeds the fair value, goodwill is potentially impaired and the second step of the impairment test must be performed. In the second step, the implied fair value of the goodwill, as defined by ASC 350, is compared to its carrying amount to determine the amount of impairment loss, if any. The Company tested goodwill for impairment as of October 31, 2016, and 2015, and the fair value of the reporting unit exceeded the carrying value. Acquired finite-lived intangible assets are amortized over their estimated useful lives. The Company evaluates the recoverability of intangible assets for possible impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable. Recoverability of these assets is measured by a comparison of the carrying amounts to the future undiscounted cash flows the assets are expected to generate. If such review indicates that the carrying amount of intangible assets is not recoverable, the carrying amount of such assets is reduced to fair value. The Company has not recorded any such impairment charge during the years presented. Impairment of Long-Lived Assets The Company evaluates its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability is measured by comparison of the carrying amounts to the expected future undiscounted cash flows attributable to these assets. If it is determined that an asset is not recoverable, an impairment loss is recorded in the amount by which the carrying amount of the assets exceeds the expected discounted future cash flows arising from those assets. Revenue Recognition The Company derives substantially all of its revenue from sales of connected health and fitness devices and accessories. The Company also generates a small portion of revenue from its subscription-based services. The Company recognizes revenue when persuasive evidence of an arrangement exists, delivery has occurred, the sales price is fixed or determinable, and collection is reasonably assured. The Company considers delivery of its products to have occurred once title and risk of loss has been transferred. For customers where transfer of risk of loss is at the customer’s destination, the Company uses estimates to defer sales at the end of the reporting period based on historical experience of average transit time. The Company recognizes revenue, net of estimated sales returns, sales incentives, discounts, and sales tax. The Company generally recognizes revenue for products sold through retailers and distributors on a sell-in basis. The Company enters into multiple element arrangements that include hardware, software, and services. The first deliverable is the hardware and firmware essential to the functionality of the connected health and fitness device delivered at the time of sale. 69 Table of Contents The second deliverable is the software services included with the products, which are provided free of charge and enable users to sync, view, and access real-time data on the Company’s online dashboard and mobile apps. The third deliverable is the embedded right included with the purchase of the device to receive, on a when-and-if-available basis, future unspecified firmware upgrades and features relating to the product’s essential firmware. Commencing in the first quarter of 2015, the Company began accounting for the embedded right as a separate unit of accounting, which is when it believes, through public announcements, it had created an implied obligation to, from time to time, provide future unspecified firmware upgrades and features to the firmware to improve and add new functionality to the health and fitness devices. In addition, the Company occasionally offers a fourth deliverable in bundled arrangements that allows access to subscription-based services related to the Company’s FitStar offering. The Company allocates revenue to all deliverables based on their relative selling prices. The Company uses a hierarchy to determine the selling price to be used for allocating revenue to deliverables: (i) vendor-specific objective evidence (“VSOE”) of fair value, (ii) third-party evidence (“TPE”), and (iii) best estimate of the selling price (“BESP”). The Company’s process for determining its BESP considers multiple factors including consumer behaviors and the Company’s internal pricing model and may vary depending upon the facts and circumstances related to each deliverable. BESP for the health and fitness devices and unspecified upgrade rights reflect the Company’s best estimate of the selling prices if they were sold regularly on a stand-alone basis and comprise the majority of the arrangement consideration. BESP for upgrade rights currently ranges from $1 to $3 . TPE for the online dashboard and mobile apps is currently estimated at $0.99 . VSOE for access to FitStar subscription-based services is based on the price charged when sold separately. Amounts allocated to the delivered health and fitness devices are recognized at the time of delivery, provided the other conditions for revenue recognition have been met. Amounts allocated to the online dashboard and mobile apps and unspecified upgrade rights are deferred and recognized on a straight-line basis over the estimated usage period. The Company offers its users the ability to purchase subscription-based services, through which the users receive incremental features, including access to a digital personal trainer, in-depth analytics regarding the user’s personal metrics, or video-based customized workouts. Amounts paid for subscriptions are deferred and recognized ratably over the service period which is typically one year. Revenue from subscription-based services was less than 1% of revenue for all periods presented. In addition, the Company offers access to software and services to certain customers in the corporate wellness program, which includes distribution capabilities, a real-time dashboard, and support services. The Company is currently unable to establish VSOE or TPE for the corporate wellness software and services. BESP for the corporate wellness software and services is determined based on the Company’s internal pricing model for anticipated renewals for existing customers and pricing for new customers. Revenue allocated to the corporate wellness software and services is deferred and recognized on a straight-line basis over the estimated access period of one year, which is the typical service period. Revenue for corporate wellness software and services was less than 1% of revenue for all periods presented. The Company accounts for shipping and handling fees billed to customers as revenue. Sales taxes and value added taxes (“VAT”) collected from customers are remitted to governmental authorities are not included in revenue, and are reflected as a liability on the consolidated balance sheets. Rights of Return, Stock Rotation Rights, and Price Protection The Company offers limited rights of return, stock rotation rights, and price protection under various policies and programs with its retailer and distributor customers and end-users. The Company estimates reserves for these policies and programs based on historical experience, and records the reserves as a reduction of revenue and accounts receivable. Through December 31, 2016 , actual returns have primarily been open-box returns. When necessary, the Company also provides a specific reserve for products in the distribution channel in excess of estimated requirements. This estimate can be affected by the amount of a particular product in the channel, the rate of sell-through, product plans, and other factors. The Company also considers whether there are circumstances which may result in anticipated returns higher than the historical return rate from direct customers and records an additional specific reserve as necessary. Sales Incentives The Company offers sales incentives through various programs, consisting primarily of cooperative advertising and marketing development fund programs. The Company records advertising and marketing development fund programs with customers as a reduction to revenue unless it receives an identifiable benefit in exchange for credits claimed by the customer and can reasonably estimate the fair value of the identifiable benefit received, in which case the Company records it as a marketing expense. The Company recognizes a liability and reduces revenue for rebates or other incentives based on the estimated amount of rebates or credits that will be claimed by customers. 70 Table of Contents Cost of Revenue Cost of revenue consists of product costs, including costs of contract manufacturers for production, shipping and handling costs, packaging, warranty replacement costs, fulfillment costs, manufacturing and tooling equipment depreciation, warehousing costs, excess and obsolete inventory write-downs, costs related to the Fitbit Force product recall, and certain allocated costs related to management, facilities, and personnel-related expenses and other expenses associated with supply chain logistics. Advertising Costs and Point of Purchase (“POP”) Displays Costs related to advertising and promotions, excluding cooperative advertising costs, are expensed to sales and marketing as incurred. Advertising and promotion expenses, including expenses for POP displays, for 2016 , 2015 , and 2014 were $316.8 million , $237.0 million , and $71.9 million , respectively. Co- op advertising costs are recorded as a reduction to revenue, and for 2016 , 2015 , and 2014 were $52.9 million , $38.3 million , and $12.7 million , respectively. The Company provides retailers with POP displays, generally free of charge, in order to facilitate the marketing of the Company’s products within retail stores. Any amounts capitalized related to the costs of the POP displays are recorded as prepaid expenses and other current assets on the consolidated balance sheets and recognized as expense over the expected period of the benefit provided by these assets, which is generally 12 months. The related expenses are included in sales and marketing expenses on the consolidated statements of operations. Product Warranty The Company offers a standard product warranty that the product will operate under normal use for a period of one year from date of original purchase except in the European Union where the Company provides a two -year warranty. The Company has the obligation, at its option, to either repair or replace the defective product. At the time revenue is recognized, an estimate of future warranty costs is recorded as a component of cost of revenues. Factors that affect the warranty obligation include product failure rates, service delivery costs incurred in correcting the product failures, and warranty policies. The warranty obligation does not consider historical experience of the Fitbit Force product as a separate reserve has been established for the Fitbit Force recall. The Company’s products are manufactured by third-party contract manufacturers, and in certain cases, the Company may have recourse to such third-party contract manufacturers. Fitbit Force Product Recall The Company established reserves for the Fitbit Force recall when circumstances giving rise to the recall became known. It considered various factors in estimating the product recall exposure. These include estimates for: • • • refunds and product returns from retailer and distributor customers and end-users, which were charged to revenue and cost of revenue on the consolidated statements of operations; logistics and handling fees for managing product returns and processing refunds, obsolescence of on-hand inventory, cancellation charges for existing purchase commitments and rework of component inventory by the Company’s contract manufacturers, accelerated depreciation of tooling and manufacturing equipment, which were charged to cost of revenue on the consolidated statements of operations; and legal fees and settlement costs, which were charged to general and administrative expenses on the consolidated statements of operations. These factors above are updated and reevaluated each period and the related reserves are adjusted when factors indicate that the recall reserves are either insufficient to cover or exceed the estimated product recall expenses. Stock-Based Compensation Stock-based compensation is measured at the grant date based on the fair value of the award and is recognized as expense, net of estimated forfeitures, over the requisite service period, which is generally the vesting period of the respective award. Determining the fair value of stock-based awards at the grant date requires judgment. The fair value of restricted stock units, or RSUs, is the fair value of the Company’s common stock on the grant date. The Company uses the Black-Scholes option-pricing model to determine the fair value of stock options and shares issued under our 2015 Employee Stock Purchase Plan, or 2015 ESPP. The Company recognizes tax benefits related to stock-based compensation to the extent that the total reduction to its income tax liability from stock-based compensation is greater than the amount of the deferred tax assets previously recorded in anticipation 71 Table of Contents of these benefits. The Company recognizes a benefit from stock-based compensation in equity to the extent that an incremental tax benefit is realized by following the ordering provisions of the tax laws. Segment Information The Company operates as one operating segment as it only reports financial information on an aggregate and consolidated basis to its Chief Executive Officer, who is the Company’s chief operating decision maker. Income Taxes The Company utilizes the asset and liability method of accounting for income taxes, which requires the recognition of deferred tax assets and liabilities for expected future consequences of temporary differences between the financial reporting and income tax bases of assets and liabilities using enacted tax rates. The Company makes estimates, assumptions, and judgments to determine its expense for income taxes and also for deferred tax assets and liabilities and any valuation allowances recorded against its deferred tax assets. The Company assesses the likelihood that its deferred tax assets will be recovered from future taxable income and, to the extent it believes that recovery is not likely, the Company establishes a valuation allowance. The calculation of the Company’s income tax expense involves the use of estimates, assumptions, and judgments while taking into account current tax laws, its interpretation of current tax laws, and possible outcomes of future tax audits. The Company has established reserves to address potential exposures related to tax positions that could be challenged by tax authorities. Although the Company believes its estimates, assumptions, and judgments to be reasonable, any changes in tax law or its interpretation of tax laws and the resolutions of potential tax audits could significantly impact the amounts provided for income taxes in its consolidated financial statements. The calculation of the Company’s deferred tax asset balance involves the use of estimates, assumptions, and judgments while taking into account estimates of the amounts and type of future taxable income. Actual future operating results and the underlying amount and type of income could differ materially from the Company’s estimates, assumptions, and judgments, thereby impacting its financial position and operating results. The Company includes interest and penalties related to unrecognized tax benefits within income tax expense. Interest and penalties related to unrecognized tax benefits have been recognized in the appropriate periods presented. Net Income (Loss) per Share Attributable to Common Stockholders Basic and diluted net income per share attributable to common stockholders is presented in conformity with the two-class method required for participating securities. The Company considers its redeemable convertible preferred stock to be participating securities. The holders of the redeemable convertible preferred stock did not have a contractual obligation to share in losses. In accordance with the two-class method, earnings allocated to these participating securities and the related number of outstanding shares of the participating securities, which include contractual participation rights in undistributed earnings, have been excluded from the computation of basic and diluted net income per share attributable to common stockholders. For the calculation of diluted EPS, net income attributable to common stockholders for basic EPS is adjusted by the effect of dilutive securities. Diluted net income per share attributable to common stockholders is computed by dividing the net income attributable to common stockholders by the weighted-average number of common shares outstanding, including all potentially dilutive common shares, if the effect of such shares is dilutive. In connection with the IPO in 2015, the Company established two classes of authorized common stock: Class A common stock and Class B common stock. As a result, all then-outstanding shares of common stock were converted into shares of Class B common stock. The rights of the holders of Class A common stock and Class B common stock are identical, except with respect to voting and conversion. Each share of Class A common stock is entitled to one vote per share and each share of Class B common stock is entitled to ten votes per share. Each share of Class B common stock is convertible at any time at the option of the stockholder into one share of Class A common stock, generally automatically converts into Class A common stock upon a transfer, and has no expiration date. The Company applies the two-class method of calculating earnings per share, but as the dividend rights of both classes are identical, basic and diluted earnings per share are the same for both classes. In 2016, basic net loss per share attributable to common stockholders is calculated by dividing the net loss attributable to common stockholders by the weighted-average number of shares of common stock outstanding during the period without consideration of common stock equivalents or the participation rights of the preferred stock as they do not share in losses. As the Company was in a net loss position in 2016, basic net loss per share attributable to common stockholders is the same as diluted net loss per share attributable to common stockholders as the inclusion of all potential shares of common stock outstanding would have been anti-dilutive. 72 Table of Contents Recent Accounting Pronouncements In May 2014, the Financial Accounting Standards Board, or FASB, issued ASU 2014-09 (ASC 606), Revenue from Contracts with Customers , which affects any entity that either enters into contracts with customers to transfer goods and services or enters into contracts for the transfer of nonfinancial assets. ASU 2014- 09 will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. The standard’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under the currently effective guidance. This may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. ASU 2014-09 will become effective for the Company on January 1, 2018 and can be adopted either retrospectively to each prior reporting period presented or as a cumulative effect adjustment as of the date of adoption. In April 2016, the FASB issued ASU 2016-10, which clarifies guidance on identifying performance obligations and licensing implementation. The Company currently expects to adopt the revenue standards as of January 1, 2018, utilizing the modified retrospective transition method. Although the new standard may, in certain circumstances, impact the timing of when revenue is recognized for product shipped, and the timing and classification of certain sales incentives, the Company believes the new guidance is consistent with its current revenue policy. Therefore, the Company does not currently expect adoption to have a material impact on the consolidated financial statements. The Company is continuing to evaluate the impact of the adoption and preliminary assessments are subject to change. In February 2016, the FASB issued ASU 2016-02, Leases . This ASU requires lease assets and lease liabilities arising from leases, including operating leases, to be recognized on the balance sheet. ASU 2016-02 will become effective for the Company on January 1, 2019, and requires adoption using a modified retrospective approach. The Company is currently evaluating the impact of this guidance on its consolidated financial statements. The Company anticipates that the adoption will have a material impact on its consolidated balance sheets; however, the Company does not expect the adoption to have a material impact on its statements of operations. In March 2016, the FASB issued ASU 2016-09, Compensation — Stock Compensation (Topic 718). This ASU simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The Company adopted ASU 2016-09 as of January 1, 2017. Any deferred tax asset recognized on adoption of ASU 2016-09 related to excess stock-based compensation, net of any applicable valuation allowance, was recorded to retained earnings as of the date of adoption. The Company does not currently expect the adoption to have a material impact on the 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 ASU provides for a new impairment model which requires measurement and recognition of expected credit losses for most financial assets and certain other instruments, including but not limited accounts receivable and available for sale debt securities. ASU 2016-13 will become effective for the Company on January 1, 2020 and early adoption is permitted. The Company is currently evaluating the impact of this guidance on its consolidated financial statements. In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230) . This ASU provides guidance intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows. ASU 2016-15 will become effective for the Company on January 1, 2018 and early adoption is permitted. The Company is currently evaluating the impact of this guidance on its consolidated financial statements. 3. Fair Value Measurements Fair Value Measurement of Financial Assets and Liabilities The carrying values of the Company’s accounts receivable and accounts payable, approximated their fair values due to the short period of time to maturity or repayment. 73 Table of Contents The following tables set forth the Company’s financial instruments that were measured at fair value on a recurring basis by level within the fair value hierarchy (in thousands): Assets: Money market funds U.S. government agencies Corporate debt securities Derivative assets Total Liabilities: Derivative liabilities Assets: Money market funds U.S. government agencies Corporate debt securities Derivative assets Total Liabilities: Derivative liabilities Level 1 Level 2 Level 3 Total December 31, 2016 50,125 $ — $ — — — 86,526 390,286 10,625 50,125 $ 487,437 $ — $ — — — — $ 50,125 86,526 390,286 10,625 537,562 — $ 3,780 $ — $ 3,780 Level 1 Level 2 Level 3 Total December 31, 2015 248,128 $ — $ — — — 113,314 193,964 6,002 248,128 $ 313,280 $ — $ — — — — $ 248,128 113,314 193,964 6,002 561,408 — $ 2,640 $ — $ 2,640 $ $ $ $ $ $ The fair value of the Company’s Level 1 financial instruments is based on quoted market prices in active markets for identical instruments. The fair value of the Company’s Level 2 financial instruments is based on observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data. In addition, Level 2 assets and liabilities include derivative financial instruments associated with hedging activity, which are further discussed in Note 3. Derivative financial instruments are initially measured at fair value on the contract date and are subsequently remeasured to fair value at each reporting date using inputs such as spot rates, forward rates, and discount rates. There is not an active market for each hedge contract, but the inputs used to calculate the value of the instruments are tied to active markets. The unexercised warrants to purchase redeemable convertible preferred stock were converted into warrants to purchase shares of Class B common stock upon the closing of the IPO in 2015. As a result, the Company revalued and reclassified the redeemable convertible preferred stock liability to additional paid-in capital upon the closing of the IPO. The fair value of the warrant liability was calculated using an option-pricing model. The following table sets forth a summary of the changes in the fair value of the redeemable convertible preferred stock warrant liability (in thousands): Balance at December 31, 2014 Change in fair value Settlement of warrant liability upon exercise Reclassification of unexercised warrants to additional paid in capital upon the IPO Balance at December 31, 2015 $ $ 15,797 56,655 (56,678) (15,774) — The Company’s acquisition-related contingent consideration was determined using the Monte Carlo simulation method. The increases or decreases in the fair value of the contingent consideration payable could result from changes in the anticipated fair value of the Company’s common stock, stock price volatility, and probability of various market-based scenarios. As the fair value 74 Table of Contents measure is based on significant inputs that are not observable in the market, they are categorized as Level 3. For additional information on the contingent consideration, see Note 12. The following table sets forth a summary of the changes in the fair value of the acquisition-related contingent consideration (in thousands): Balance at December 31, 2014 Addition from acquisition Change in fair value of contingent consideration Balance at December 31, 2015 $ $ — 7,704 (7,704) — There was no activity relating to Level 3 financial assets or liabilities during 2016, and there were no Level 3 financial assets or liabilities as of December 31, 2016. There have been no transfers between fair value measurement levels during 2016 , 2015 , and 2014 . 4. Financial Instruments Cash, Cash Equivalents, and Marketable Securities The following table sets forth the cash, cash equivalents, and marketable securities as of December 31, 2016 (in thousands): Cash Money market funds U.S. government agencies Corporate debt securities Total $ $ Amortized Cost 179,076 $ 50,125 86,533 390,466 Gross Unrealized Gains Gross Unrealized Losses Fair Value Cash and Cash Equivalents Marketable Securities — $ — $ 179,076 $ 179,076 $ — 8 24 — (15) (204) 50,125 86,526 390,286 50,125 — 72,119 — — 86,526 318,167 404,693 706,200 $ 32 $ (219) $ 706,013 $ 301,320 $ The following table sets forth the cash, cash equivalents, and marketable securities as of December 31, 2015 (in thousands): Cash Money market funds U.S. government agencies Corporate debt securities Total Amortized Cost 109,072 $ 248,128 113,315 194,018 664,533 $ $ $ Gross Unrealized Gains Gross Unrealized Losses Fair Value Cash and Cash Equivalents Marketable Securities — $ — 3 1 4 $ — $ 109,072 $ 109,072 $ — (4) (55) 248,128 113,314 193,964 248,128 63,464 115,182 — — 49,850 78,782 (59) $ 664,478 $ 535,846 $ 128,632 The gross unrealized gains or losses on marketable securities as of December 31, 2016 and December 31, 2015 were not material. There were no available-for-sale investments as of December 31, 2016 and December 31, 2015 that have been in a continuous unrealized loss position for greater than twelve months. The following table classifies marketable securities by contractual maturities (in thousands): Due in one year Due in one to two years Total December 31, 2016 $ $ 355,152 $ 49,541 404,693 $ December 31, 2015 128,632 — 128,632 75 Table of Contents Derivative Financial Instruments The Company operates in foreign countries, which exposes it to market risk associated with foreign currency exchange rate fluctuations between the U.S. dollar and various foreign currencies. In order to manage this risk, the Company may hedge a portion of its foreign currency exposures related to outstanding monetary assets and liabilities as well as forecasted revenues and expenses, using foreign currency exchange forward or option contracts. In general, the market risk related to these contracts is offset by corresponding gains and losses on the hedged transactions. The Company does not enter into derivative contracts for trading or speculative purposes. Cash Flow Hedges Beginning in the third quarter of 2015, the Company has entered into foreign currency derivative contracts designated as cash flow hedges to hedge certain forecasted revenue and expense transactions denominated in currencies other than the U.S. dollar. The Company’s cash flow hedges consist of forward contracts with maturities of 12 months or less. The Company periodically assesses the effectiveness of its cash flow hedges. Effectiveness represents a derivative instrument’s ability to generate offsetting changes in cash flows related to the hedged risk. All elements of the hedged transaction are included in the effectiveness assessment. The Company records the gains or losses, net of tax, related to the effective portion of its cash flow hedges as a component of accumulated other comprehensive income (loss) in stockholders’ equity and subsequently reclassifies the gains or losses into revenue and operating expenses when the underlying hedged transactions are recognized. The Company records the gains or losses related to the ineffective portion of the cash flow hedges, if any, immediately in other income (expense), net. If the hedged transaction becomes probable of not occurring, the corresponding amounts in accumulated other comprehensive income (loss) would immediately be reclassified to other income (expense), net. Cash flows related to the Company’s cash flow hedging program are recognized as cash flows from operating activities in its statements of cash flows. The Company had outstanding contracts with a total notional amount of $20.0 million and $20.9 million in cash flow hedges for forecasted revenue and expense transactions, respectively, as of December 31, 2016 , and $254.1 million in cash flow hedges for forecasted revenue transactions as of December 31, 2015 . Balance Sheet Hedges The Company enters into foreign exchange contracts to hedge monetary assets and liabilities that are denominated in currencies other than the functional currency of its subsidiaries. These foreign exchange contracts are carried at fair value, do not qualify for hedge accounting treatment and are not designated as hedging instruments. Changes in the value of the foreign exchange contracts are recognized in other expense, net and offset the foreign currency gain or loss on the underlying net monetary assets or liabilities. The net notional amount of foreign currency contracts open in U.S. dollar equivalents was $177.0 million and $104.8 million as of December 31, 2016 and December 31, 2015 , respectively. Fair Value of Foreign Currency Derivatives The foreign currency derivative contracts that were not settled at the end of the period are recorded at fair value, on a gross basis, in the consolidated balance sheets. The following table presents the fair value of the Company’s foreign currency derivative contracts as of the dates presented (in thousands): Cash flow designated hedges Cash flow designated hedges Hedges not designated Balance Sheet Location Prepaid expense and other current assets $ Accrued liabilities Prepaid expense and other current assets Hedges not designated Accrued liabilities December 31, 2016 December 31, 2015 Fair Value Derivative Assets Fair Value Derivative Liabilities Fair Value Derivative Assets Fair Value Derivative Liabilities 813 $ — — $ 3,116 $ 1,428 — 9,812 — — 2,352 2,886 — — 1,327 — 1,313 2,640 Total fair value of derivative instruments $ 10,625 $ 3,780 $ 6,002 $ 76 Table of Contents Financial Statement Effect of Foreign Currency Derivative Contracts The following table presents the pre-tax impact of the Company’s foreign currency derivative contracts on other comprehensive income (“OCI”) and the consolidated statement of operations for the periods presented (in thousands): Income Statement Location 2016 2015 2014 Year Ended December 31, Foreign exchange cash flow hedges: Gain (loss) recognized in OCI—effective portion Gain (loss) reclassified from OCI into income—effective portion Revenue Gain (loss) reclassified from OCI into income—effective portion Gain (loss) recognized in income—ineffective portion Operating expenses Other expense, net $ 8,171 $ 2,785 $ 10,153 17 (1,026) 2,183 (899) 202 — — — — Foreign exchange balance sheet hedges: Gain (loss) recognized in income Other expense, net $ 10,916 $ 5,861 $ 211 As of December 31, 2016 , all net derivative gains related to the Company’s cash flow hedges will be reclassified from OCI into net income within the next 12 months. Offsetting of Foreign Currency Derivative Contracts The Company presents its derivative assets and derivative liabilities at gross fair values in the consolidated balance sheets. The Company generally enters into master netting arrangements, which mitigate credit risk by permitting net settlement of transactions with the same counterparty. The Company is not required to pledge, and is not entitled to receive, cash collateral related to these derivative instruments. The following table sets forth the available offsetting of net derivative assets under the master netting arrangements as of December 31, 2016 and December 31, 2015 (in thousands): December 31, 2016 Gross Amounts of Recognized Assets Gross Amounts Offset in the Condensed Consolidated Balance Sheets Net Amounts Presented in Condensed Consolidated Balance Sheets Gross Amounts Not Offset in Condensed Consolidated Balance Sheets Financial Instruments Cash Collateral Received Net Amount Foreign exchange contracts $ 10,625 $ — $ 10,625 $ 3,780 $ — $ 6,845 December 31, 2015 Gross Amounts of Recognized Assets Gross Amounts Offset in the Condensed Consolidated Balance Sheets Net Amounts Presented in Condensed Consolidated Balance Sheets Gross Amounts Not Offset in Condensed Consolidated Balance Sheets Financial Instruments Cash Collateral Received Net Amount Foreign exchange contracts $ 6,002 $ — $ 6,002 $ 2,100 $ — $ 3,902 77 Table of Contents The following table sets forth the available offsetting of net derivative liabilities under the master netting arrangements as of December 31, 2016 and December 31, 2015 (in thousands): December 31, 2016 Gross Amounts of Recognized Liabilities Gross Amounts Offset in the Condensed Consolidated Balance Sheets Net Amounts Presented in Condensed Consolidated Balance Sheets Gross Amounts Not Offset in Condensed Consolidated Balance Sheets Financial Instruments Cash Collateral Pledged Net Amount Foreign exchange contracts $ 3,780 $ — $ 3,780 $ 3,780 $ — $ — December 31, 2015 Gross Amounts of Recognized Liabilities Gross Amounts Offset in the Condensed Consolidated Balance Sheets Net Amounts Presented in Condensed Consolidated Balance Sheets Gross Amounts Not Offset in Condensed Consolidated Balance Sheets Financial Instruments Cash Collateral Pledged Net Amount Foreign exchange contracts $ 2,640 $ — $ 2,640 $ 2,100 $ — $ 540 5. Balance Sheet Components Accounts Receivable Reserves Changes in accounts receivable reserves were as follows (in thousands): Balance at December 31, 2013 Increases Write-offs/returns taken Balance at December 31, 2014 Increases Write-offs/returns taken Balance at December 31, 2015 Increases Write-offs/returns taken Balance at December 31, 2016 Increases in the revenue returns reserve include provisions for open box returns and stock rotations. Inventories Inventories consisted of the following (in thousands): Components Finished goods Total inventories 78 Allowance for Doubtful Accounts Revenue Reserve $ 743 864 (769) 838 1,115 (128) 1,825 339 (1,882) 282 $ 15,416 42,740 (31,597) 26,559 169,677 (122,191) 74,045 275,815 (251,009) 98,851 $ $ December 31, 2016 2015 $ $ 1,035 $ 229,352 230,387 $ 5,359 172,787 178,146 Table of Contents Prepaid Expenses and Other Current Assets Prepaid expenses and other current assets consisted of the following (in thousands): POP displays, net Derivative assets Prepaid marketing Other Total prepaid expenses and other current assets Property and Equipment, Net Property and equipment, net, consisted of the following (in thousands): Tooling and manufacturing equipment Furniture and office equipment Purchased and internally-developed software Leasehold improvements Total property and equipment Less: Accumulated depreciation and amortization Property and equipment, net Goodwill and Intangible Assets December 31, 2016 2015 22,804 $ 10,625 5,764 27,153 66,346 $ 9,990 6,002 150 27,388 43,530 December 31, 2016 2015 60,944 $ 14,424 12,032 28,489 115,889 (39,336) 76,553 $ 53,092 6,809 3,794 8,388 72,083 (27,582) 44,501 $ $ $ $ The changes in the carrying amount of goodwill were as follows (in thousands). See Note 12 for additional information. Balance at December 31, 2014 Goodwill acquired Subsequent goodwill adjustments Balance at December 31, 2015 Goodwill acquired Balance at December 31, 2016 79 Goodwill — 22,562 (405) 22,157 28,879 51,036 $ $ Table of Contents The carrying amounts of the intangible assets as of December 31, 2016 and December 31, 2015 were as follows (in thousands, except useful life). See Note 12 for additional information. In-process research and development is not amortized until the completion or abandonment of the related development. December 31, 2016 December 31, 2015 Gross Accumulated Amortization Net Gross Accumulated Amortization Net Developed technology Trademarks and other Total finite-lived intangible assets subject to amortization, net In-process research and development $ 26,092 $ (3,247) $ 22,845 $ 12,640 $ (1,442) $ 11,198 1,278 (542) 736 1,278 (260) 1,018 27,370 3,940 (3,789) — 23,581 3,940 13,918 (1,702) 12,216 — — — Total intangible assets, net $ 31,310 $ (3,789) $ 27,521 $ 13,918 $ (1,702) $ 12,216 Weighted Average Remaining Useful Life (years) 4.8 3.5 Total amortization expense related to intangible assets was $2.1 million and $1.7 million for 2016 and 2015 , respectively. There were no recognized intangible assets outstanding as of December 31, 2014. The estimated future amortization expense of acquired finite-lived intangible assets to be charged to cost of revenue and operating expenses after 2016 , is as follows (in thousands): 2017 2018 2019 2020 2021 Thereafter Total intangible assets, net Accrued Liabilities Accrued liabilities consisted of the following (in thousands): Product warranty Accrued manufacturing expense and freight Accrued sales incentives Accrued sales and marketing Accrued co-op advertising and marketing development funds Employee related liabilities Sales taxes and VAT payable Inventory received but not billed Accrued legal fees Derivative liabilities Customer deposits Other Accrued liabilities Cost of Revenue Operating Expenses Total 5,436 $ 230 $ 5,276 4,496 3,716 3,557 364 230 230 46 — — 5,666 5,506 4,726 3,762 3,557 364 22,845 $ 736 $ 23,581 $ $ December 31, 2016 2015 $ 99,923 $ 75,579 74,181 41,948 40,002 13,934 8,891 7,363 3,963 3,780 1,923 19,074 $ 390,561 $ 80 40,212 10,723 24,324 33,389 29,077 27,394 8,349 4,292 3,138 2,640 2,062 14,499 200,099 Table of Contents Product warranty reserve activities were as follows (in thousands): Balance at December 31, 2013 Charged to cost of revenue Settlement of claims Balance at December 31, 2014 Charged to cost of revenue Changes in estimate related to pre-existing warranties Settlement of claims Balance at December 31, 2015 Charged to cost of revenue Changes in estimate related to pre-existing warranties Settlement of claims $ $ Reserve For Product Warranty (1) 8,480 19,462 (7,844) 20,098 55,642 (8,968) (26,560) 40,212 134,771 4,073 (79,133) Balance at December 31, 2016 99,923 (1) Does not include reserves established as a result of the recall of the Fitbit Force. See the section titled “—Fitbit Force Recall Reserve” for additional information regarding such reserves. $ During 2016, changes related to pre-existing warranties resulted primarily from a reduction in the estimated cost of replacement units. During 2015, changes in estimate related to pre-existing warranties resulted from a reduction in the estimated number of units to be replaced and in the estimated cost of replacement units based on additional historical experience. Fitbit Force Recall Reserve In March 2014, the Company announced a recall for one of its products, the Fitbit Force (“Fitbit Force Recall”). The product recall, which is regulated by the U.S. Consumer Product Safety Commission, covered all Fitbit Force units sold since the product was first introduced in October 2013. The product recall program has no expiration date. As a result of the product recall, the Company established reserves that include cost estimates for customer refunds, logistics and handling fees for managing product returns and processing refunds, obsolescence of on-hand inventory, cancellation charges for existing purchase commitments and rework of component inventory with the contract manufacturer, accelerated depreciation of tooling and manufacturing equipment, and legal settlement costs. Fitbit Force recall reserve activities were as follows (in thousands): Balance at December 31, 2013 Charged to revenue Charged to cost of revenue Charged to general and administrative Settlement of claims Balance at December 31, 2014 Charged to cost of revenue Charged to general and administrative Settlement of claims Balance at December 31, 2015 Settlement of claims Balance at December 31, 2016 81 Reserve For Fitbit Force Recall 82,938 8,112 11,339 505 (80,418) 22,476 (5,755) (1,174) (10,425) 5,122 (3,869) 1,253 $ $ Table of Contents During 2014, legal fees of $2.9 million were recognized as incurred, in addition to legal settlement costs of $0.5 million related to the Fitbit Force recall, which were included in general and administrative costs in the consolidated statement of operations. During 2015, a benefit to cost of revenue of $5.8 million was recognized due to a change in estimate of costs to fulfill Fitbit Force returns. In addition, a benefit to legal expenses of $4.4 million was recognized in general and administrative costs, of which $1.2 million was previously included in the Fitbit Force recall reserve, due to the settlement of Fitbit Force legal liabilities. Accumulated Other Comprehensive Income The components and activity of accumulated other comprehensive income (“AOCI”), net of tax, were as follows (in thousands): Unrealized Gains on Cash Flow Hedges Currency Translation Adjustments Unrealized Gains (Losses) on Available-for-Sale Investments Total Balance at December 31, 2014 Other comprehensive income (loss) before reclassifications Amounts reclassified from AOCI Other comprehensive income (loss) Balance at December 31, 2015 Other comprehensive income (loss) before reclassifications Amounts reclassified from AOCI Other comprehensive income (loss) Balance at December 31, 2016 $ $ — $ 37 $ — $ 1,276 (525) 751 751 9,422 (10,650) (1,228) (477) $ (42) — (42) (5) (309) — (309) (314) $ (63) 8 (55) (55) (126) (6) (132) (187) $ 37 1,171 (517) 654 691 8,987 (10,656) (1,669) (978) Other comprehensive income consisted only of currency translation adjustments of an immaterial amount in 2014. 6. Debt 2015 Credit Agreement In December 2015, the Company entered into a second amended and restated credit agreement, or Senior Facility, with Silicon Valley Bank, or SVB, as administrative agent, collateral agent, and lender, SunTrust Bank as syndication agent, SunTrust Robinson Humphrey, Inc. and several other lenders to replace the existing asset-based credit facility and cash flow facility. This Senior Facility allows the Company to borrow up to $250.0 million , including up to a $50.0 million for the issuance of letters of credit and up to $25.0 million for swing line loans, subject to certain financial covenants and ratios. Borrowings under the Senior Facility may be drawn as Alternate Base Rate, or ABR, loans or Eurodollar loans, and matures in December 2020. ABR loans bear interest at a variable rate equal to the applicable margin plus the highest of (i) the prime rate, (ii) the federal funds effective rate plus 0.5% , and (iii) the Eurodollar rate plus 1.0% , but in any case at a minimum rate of 3.25% per annum. Eurodollar loans bear interest at a variable rate based on the LIBOR rate and Eurodollar reserve requirements, but in any case at a minimum rate of 1.0% per annum. The Company has the option to repay our borrowings under the Senior Facility without penalty prior to maturity. The Senior Facility requires the Company to comply with certain financial covenants, including maintaining a consolidated fixed charge coverage ratio of at least 1.15:1 , and a consolidated leverage ratio of less than 3:1 . The Senior Facility also requires the Company to comply with certain non-financial covenants. The Senior Facility contains customary covenants that restrict the Company’s ability to, among other things, incur additional indebtedness, sell certain assets, guarantee certain obligations of third parties, declare dividends or make certain distributions, and undergo a merger or consolidation or certain other transactions. Pursuant to the terms of the Senior Facility, the Company excluded certain expenses from the consolidated fixed charge coverage ratio calculation with the approval of its lenders, and as a result, the Company was in compliance with all covenants as of December 31, 2016 . Obligations under the credit facility are collateralized by substantially all of our assets, excluding our intellectual property. As of December 31, 2016 , there were no outstanding borrowings under the Senior Facility. Based on the Company’s forecasts, the Company may fail to meet certain of its financial covenants under the Senior Facility during 2017. The Company currently does not have any borrowings outstanding under the Senior Facility and has $38.0 million 82 Table of Contents in letters of credit issued under the line. The Company believes that should it fail to meet any of the financial covenants under the line of credit, the Company would be able to negotiate revised terms or fund outstanding letters of credit with available cash balances. Capitalized issuance costs are amortized to interest expense over the term of the related financing arrangement on a straight-line basis. Interest expense related to issuance costs for 2016 , 2015 , and 2014 was $0.5 million , $1.0 million , and $0.8 million , respectively. As of December 31, 2016, capitalized issuance costs were $ 1.3 million . Letters of Credit As of December 31, 2016 and 2015 , the Company had outstanding letters of credit of $38.0 million and $17.1 million , respectively, issued to cover the security deposit on the lease of its office headquarters in San Francisco, California, and other facility leases. 7. Commitments and Contingencies Leases The Company’s principal facility is located in San Francisco, California. The Company also leases office space in various locations with expiration dates between 2017 and 2024. The lease agreements often include leasehold improvement incentives, escalating lease payments, renewal provisions and other provisions which require the Company to pay taxes, insurance, maintenance costs or defined rent increases. All of Company’s leases are accounted for as operating leases. Rent expense is recorded over the lease terms on a straight-line basis. Rent expense was $29.9 million , $8.4 million , and $4.1 million for 2016 , 2015 , and 2014 , respectively. Future minimum payments under the leases as of December 31, 2016 were as follows (in thousands): Year ending December 31, 2017 2018 2019 2020 2021 Thereafter Total Purchase Commitments $ Amounts 33,867 41,222 44,943 41,176 40,148 99,004 $ 300,360 The aggregate amount of purchase orders open as of December 31, 2016 was approximately $158.4 million . The Company cannot determine the aggregate amount of such purchase orders that represent contractual obligations because purchase orders may represent authorizations to purchase rather than binding agreements. The Company’s purchase orders are based on its current needs and are fulfilled by its suppliers, contract manufacturers, and logistics providers within short periods of time. Legal Proceedings Jawbone. On May 27, 2015, Aliphcom, Inc. d/b/a Jawbone (“Jawbone”), filed a lawsuit in the Superior Court of California in the County of San Francisco against the Company and certain of its employees who were formerly employed by Jawbone, alleging trade secret misappropriation and unfair and unlawful business practices against all defendants, and alleging breach of contract and breach of implied covenant of good faith and fair dealing against the employee defendants. The complaint seeks unspecified damages, including punitive damages and injunctive relief. On June 23, 2016, Jawbone filed a Second Amended Complaint, adding an additional employee defendant and related allegations. No trial date has been set. On June 10, 2015, Jawbone and BodyMedia, Inc., a wholly-owned subsidiary of Jawbone (“BodyMedia”), filed a lawsuit against the Company in the U.S. District Court for the Northern District of California alleging that the Company infringes certain U.S. patents. The complaint seeks unspecified compensatory damages and attorneys’ fees from the Company and to permanently 83 Table of Contents enjoin the Company from making, manufacturing, using, selling, importing, or offering the Company’s products for sale. The lawsuit has been stayed pending the investigation in the U.S. International Trade Commission (the “ITC”). On July 7, 2015, Jawbone and BodyMedia filed a complaint with the ITC requesting an investigation into purported violations of the Tariff Act of 1930 by the Company and Flextronics International Ltd. and Flextronics Sales and Marketing (A-P) Ltd. The complaint makes the same patent infringement and trade secret misappropriation claims as the two earlier cases. The complaint seeks a limited exclusion order and a cease and desist order halting the importation and sale of the infringing products. The ITC instituted the investigation on August 17, 2015. As a result of motions, all of the patent infringement claims were dismissed from the case. A trial on the trade secrets allegations took place from May 9, 2016 through May 17, 2016. On August 23, 2016, the ALJ concluded that the Company did not misappropriate any Jawbone trade secrets. On October 20, 2016, the ITC terminated the investigation in the ITC. On December 19, 2016, Jawbone filed a notice of appeal with the Federal Circuit. On September 3, 2015, the Company filed a complaint for patent infringement against Jawbone in the U.S. District Court for the District of Delaware, asserting that Jawbone’s activity trackers infringe certain U.S. patents. This case has been transferred to the U.S. District Court for the Northern District of California. On September 8, 2015, the Company filed a complaint for patent infringement against Jawbone in the U.S. District Court for the Northern District of California, asserting that Jawbone’s activity trackers infringe certain U.S. patents. On October 29, 2015, the Company filed a complaint for patent infringement against Jawbone in the United States District Court for the District of Delaware, asserting that Jawbone’s activity trackers infringe certain U.S. patents. This case has been stayed pending the ITC investigation. On November 2, 2015, the Company filed a complaint with the ITC requesting an investigation into violations of the Tariff Act of 1930 by Jawbone and Body Media. The complaint asserts that Jawbone’s products infringe certain U.S. patents. The complaint seeks a limited exclusion order and a cease and desist order halting the importation and sale of infringing products. The ITC instituted the investigation on December 1, 2015. On December 23, 2016, the Company filed a motion to terminate the investigation based on changed circumstances. On August 12, 2016, the Company was notified by Jawbone that Jawbone had received a confidential subpoena from the U.S. Attorney’s Office in the Northern District of California requesting certain Fitbit confidential business information that appeared to be related to Jawbone’s allegations of trade secret misappropriation. On February 17, 2017, the Company received a subpoena from the same office. Fitbit is cooperating with the U.S. Attorney’s Office. The Company intends to vigorously defend and prosecute each of the Jawbone litigation matters and, based on its review, the Company believes it has valid defenses and claims with respect to each of these matters. However, litigation is inherently uncertain, and any judgment or injunctive relief entered against the Company or any adverse settlement could materially and adversely impact its business, financial condition, operating results, and prospects. Regarding the five matters still in the early stages of litigation, the Company is unable to estimate a reasonably possible loss or range of loss, if any, that may result from these matters. In addition, these litigation matters are complex, likely to involve significant management time and attention, and the cost of defending and prosecuting these matters is likely to be expensive, regardless of outcome. Sleep Tracking. On May 8, 2015, a purported class action lawsuit was filed against the Company in the U.S. District Court for the Northern District of California, alleging that the sleep tracking function available in certain trackers does not perform as advertised. Plaintiffs seek class certification, restitution, an award of unspecified compensatory and punitive damages, an award of reasonable costs and expenses, including attorneys’ fees, and other further relief as the Court may deem just and proper. Plaintiffs have amended their complaint four times, and on January 15, 2016, the Company moved to dismiss the Fourth Amended Complaint. On July 15, 2016, the Court denied the motion to dismiss. Trial is currently scheduled for July 10, 2017. The Company believes that the plaintiffs’ allegations are without merit, and intends to vigorously defend against the claims. Because the Company is in the early stages of this litigation matter, the Company is unable to estimate a reasonably possible loss or range of loss, if any, that may result from this matter. Heart Rate Tracking . On January 6, 2016 and February 16, 2016, two purported class action lawsuits were filed against the Company in the U.S. District Court for the Northern District of California, alleging that the PurePulse heart rate tracking technology does not consistently and accurately record users’ heart rates. Plaintiffs allege common law claims as well as violations of various states’ false advertising and unfair competition statutes, and seek class certification, injunctive and declaratory relief, restitution, an award of unspecified compensatory damages, exemplary damages, punitive damages, and statutory penalties and damages, an award of reasonable costs and expenses, including attorneys’ fees, and other further relief as the Court may deem just and proper. On April 15, 2016, the plaintiffs filed a Consolidated Master Class Action Complaint and, on May 19, 2016, filed an Amended 84 Table of Contents Consolidated Master Class Action Complaint. The Company has filed a motion to compel arbitration, and a hearing has been scheduled for March 16, 2017. The Company believes that the plaintiffs’ allegations are without merit, and intends to vigorously defend against the claims. Because the Company is in the early stages of this litigation matter, the Company is unable to estimate a reasonably possible loss or range of loss, if any, that may result from this matter. Securities Litigation. On January 11, 2016, a putative securities class action was filed in the U.S. District Court for the Northern District of California naming as defendants the Company, certain of its officers and directors, and underwriters of the Company’s IPO. On May 10, 2016, the Court appointed the Fitbit Investor Group (consisting of five individual investors) as lead plaintiff, and an Amended Complaint was filed on July 1, 2016. Plaintiffs allege violations of the Securities Act of 1933, as amended, or the Securities Act, and the Securities Exchange Act of 1934, as amended, or the Exchange Act, based on alleged materially false and misleading statements about the Company’s products between October 27, 2014 and November 23, 2015. Plaintiffs seek to represent a class of persons who purchased or otherwise acquired the Company’s securities (i) on the open market between June 18, 2015 and May 19, 2016; and/or (ii) pursuant to or traceable to the IPO. Plaintiffs seek class certification, an award of unspecified compensatory damages, an award of reasonable costs and expenses, including attorneys’ fees, and other further relief as the Court may deem just and proper. On April 28, 2016, a putative class action lawsuit alleging violations of the Securities Act was filed in the Superior Court of California, County of San Mateo, naming as defendants the Company, certain of its officers, its board members, underwriters of our IPO, and a number of its investors. Plaintiff alleges that the IPO registration statement contained material misstatements about the Company’s products. Plaintiff seeks to represent a class of persons who purchased the Company’s common stock in and/or traceable to the IPO. Plaintiff seeks class certification, an award of unspecified compensatory damages, an award of reasonable costs and expenses, including attorneys’ fees, and other further relief as the Court may deem just and proper. On May 17, 2016, a similar class action lawsuit was filed in the Superior Court of California, County of San Francisco. The cases have now been consolidated in the County of San Francisco. On November 11, 2016, a derivative lawsuit was filed in the U.S. District Court for the Northern District of California naming as defendants the Company and certain of its officers and board members. Plaintiffs allege breach of fiduciary duty based on the same alleged set of facts in the federal and state securities class action litigation. The court has ordered a stay in the litigation. The Company believes that the plaintiffs’ allegations in these actions are without merit, and intends to vigorously defend against the claims. Because the Company is in the early stages of this litigation matter, the Company is unable to estimate a reasonably possible loss or range of loss, if any, that may result from this matter. Other. The Company is and, from time to time, may in the future become, involved in other legal proceedings in the ordinary course of business. The Company currently believes that the outcome of any of these existing legal proceedings, including the aforementioned cases, either individually or in the aggregate, will not have a material impact on the operating results, financial condition or cash flows of the Company. With respect to existing legal proceedings, the Company has either determined that the existence of a material loss is not reasonably possible or that it is unable to estimate a reasonably possible loss or range of loss. The Company may incur substantial legal fees, which are expensed as incurred, in defending against these legal proceedings. Indemnifications In the ordinary course of business, the Company enters into agreements that may include indemnification provisions. Pursuant to such agreements, the Company may indemnify, hold harmless and defend an indemnified party for losses suffered or incurred by the indemnified party. Some of the provisions will limit losses to those arising from third-party actions. In some cases, the indemnification will continue after the termination of the agreement. The maximum potential amount of future payments the Company could be required to make under these provisions is not determinable. To date, the Company has not incurred material costs to defend lawsuits or settle claims related to these indemnification provisions. The Company has also entered into indemnification agreements with its directors and officers that may require the Company to indemnify its directors and officers against liabilities that may arise by reason of their status or service as directors or officers to the fullest extent permitted by Delaware corporate law. The Company also currently has directors’ and officers’ insurance. 85 Table of Contents 8. Stockholders’ Equity Initial public offering and follow-on offering In June 2015, the Company completed its IPO of Class A common stock, in which the Company issued and sold 22.4 million shares and certain of its stockholders sold 19.7 million shares, for which the Company did not receive any proceeds, including 5.5 million shares pursuant to the underwriters’ option to purchase additional shares. The shares were sold at an initial public offering price of $20.00 per share for net proceeds of $420.9 million to the Company, after deducting underwriting discounts and commissions of $26.9 million . Offering costs incurred by the Company were approximately $5.0 million . In November 2015, the Company completed a follow-on offering of Class A common stock, in which the Company sold 3 million shares and certain of its stockholders sold 16.6 million shares, for which the Company did not receive any proceeds, including 2.6 million shares pursuant to the underwriters’ option to purchase additional shares. The shares were sold at a public offering price of $29.00 per share for net proceeds of $84.4 million to the Company, after deducting underwriting discounts and commissions of $2.6 million . Offering costs incurred by the Company were approximately $1.2 million . Redeemable convertible preferred stock and redeemable convertible preferred stock warrants In connection with the Company’s IPO, the then-outstanding 141.3 million shares of redeemable convertible preferred stock were converted into Class B common stock upon the closing of the IPO. In addition, the then-outstanding 0.4 million redeemable convertible preferred stock warrants automatically converted to Class B common stock warrants upon the closing of the IPO. These remaining outstanding Class B common stock warrants were exercised subsequent to the IPO during 2015. Preferred Stock Upon completion of its IPO on June 22, 2015, the Company filed a Restated Certificate of Incorporation, which authorized the issuance of preferred stock with rights and preferences, including voting rights, designated from time to time by the board of directors. As of December 31, 2016 , there were 10 million shares of preferred stock authorized with a par value of $0.0001 per share, and no shares of preferred stock issued or outstanding. Common Stock In connection with the IPO in 2015, the Company established two classes of authorized common stock, Class A common stock and Class B common stock. All shares of common stock outstanding immediately prior to the IPO were converted into an equivalent amount of shares of Class B common stock. As of December 31, 2016 , the Company had 600 million shares of Class A common stock authorized with a par value of $0.0001 per share and 350 million shares of Class B common stock authorized with a par value of $0.0001 per share. As of December 31, 2016 , 177.2 million shares of Class A common stock were issued and outstanding and 48.5 million shares of Class B common stock were issued and outstanding. As of December 31, 2015 , the Company 99.4 million shares of Class A common stock were issued and outstanding and 115.4 million shares of Class B common stock were issued and outstanding. Holders of Class A common stock are entitled to one vote for each share of Class A common stock held on all matters submitted to a vote of stockholders and holders of Class B common stock are entitled to ten votes for each share of Class B common stock held on all matters submitted to a vote of stockholders. Except with respect to voting, the rights of the holders of Class A and Class B common stock are identical. Shares of Class B common stock are voluntarily convertible into shares of Class A common stock at the option of the holder and generally automatically convert into shares of our Class A common stock upon a transfer. 2007 Equity Incentive Plan The Amended and Restated 2007 Stock Plan (the “2007 Plan”) provides for the grant of incentive and non-statutory stock options and RSUs to employees, directors, and consultants under terms and provisions established by the board of directors. Stock options granted under the 2007 Plan are generally subject to a four -year vesting period, with 25% vesting after a one -year period and monthly vesting thereafter. Stock options expire after ten years. RSUs granted under the 2007 Plan are generally subject to a three - or four -year vesting period with annual vesting. The 2015 Equity Incentive Plan (the “2015 Plan”) became effective in June 2015. As a result, the Company will not grant any additional stock options under the 2007 Plan and the 2007 Plan has been terminated. Any outstanding stock options and RSUs granted under the 2007 Plan will remain outstanding, subject to the terms of the 2007 Plan and applicable award agreements, until 86 Table of Contents such shares are issued under those awards, by exercise of stock options or settlement of RSUs, or until the awards terminate or expire by their terms. 2015 Equity Incentive Plan In May 2015, the Company’s board of directors and stockholders adopted and approved the 2015 Plan. The 2015 Plan became effective in June 2015 and serves as the successor to the 2007 Plan. The remaining shares available for issuance under the 2007 Plan became reserved for issuance under the 2015 Plan. The number of shares reserved for issuance under the 2015 Plan will increase automatically on the first day of January of each year starting in 2016 through 2025 by the number of shares of Class A common stock equal to 5% of the total outstanding shares of common stock as of the immediately preceding December 31. The share reserve may also increase to the extent that outstanding awards expire or terminate un-exercised. As of December 31, 2016 , 6.7 million shares were available for grant under the 2015 Plan. The 2015 Plan authorizes the award of stock options, restricted stock awards, stock appreciation rights, RSUs, performance awards, and stock bonuses to employees, directors, consultants, independent contractors, and advisors. In general, stock options and RSUs will vest over a four -year period, and have a maximum term of ten years. The exercise price of a stock option will be not less than 100% of the fair market value of the shares on the date of grant. 2015 Employee Stock Purchase Plan In May 2015, the Company’s board of directors adopted the 2015 Employee Stock Purchase Plan (“2015 ESPP”), which became effective in June 2015. The number of shares reserved for issuance under the 2015 Plan will increase automatically on the first day of January of each year starting in 2016 through 2025 by the number of shares of Class A common stock equal to 1% of the total outstanding shares of common stock as of the immediately preceding December 31. The 2015 ESPP allows eligible employees to purchase shares of the Company’s Class A common stock at a discount through payroll deductions of up to 15% of eligible compensation, subject to any plan limitations. Except for the initial offering period, the 2015 ESPP provides for 6-month offering periods beginning in May and November of each year. The initial offering period began June 17, 2015, and ended in May 2016. On each purchase date, eligible employees will purchase Class A common stock at a price per share equal to 85% of the lesser of the fair market value of the Company’s Class A common stock (i) on the first trading day of the applicable offering period and (ii) the last trading day of each purchase period in the applicable offering period. Stock Options Activity under the 2007 Plan and 2015 Plan is as follows (in thousands except per share amounts): Balance—December 31, 2015 Granted Exercised Canceled Balance—December 31, 2016 Stock options exercisable—December 31, 2016 Stock options vested and expected to vest—December 31, 2016 Number of Shares Subject to Stock Options Stock Options Outstanding Weighted– Average Exercise Price Weighted– Average Remaining Contractual Term (in years) Aggregate Intrinsic Value 44,362 955 (8,619) (2,244) 34,454 20,654 34,223 $ $ $ $ $ $ $ 3.20 14.06 1.21 5.54 3.85 2.51 3.82 $ 121,268 6.8 $ 6.2 $ 6.8 $ 145,568 107,573 145,097 The aggregate intrinsic values of stock options outstanding, exercisable, vested and expected to vest were calculated as the difference between the exercise price of the stock options and the fair value of the Class A common stock of $7.32 as of December 31, 2016 . 87 Table of Contents Restricted Stock Units RSU activity under the equity incentive plans is as follows: Unvested balance—December 31, 2015 Granted Vested Forfeited or canceled Unvested balance—December 31, 2016 Stock-Based Compensation Expense Total stock-based compensation recognized was as follows (in thousands): Cost of revenue Research and development Sales and marketing General and administrative Total stock-based compensation expense Weighted- Average Grant Date Fair Value RSUs Outstanding (in thousands) 3,292 $ 10,356 (1,117) (953) 11,578 34 13.48 31.5 27.87 16.85 890 2,350 1,295 2,269 6,804 Year Ended December 31, 2016 2015 2014 $ $ 4,797 $ 4,739 $ 47,207 11,575 15,853 18,251 7,419 10,615 79,432 $ 41,024 $ The weighted-average grant date fair value of stock options granted during 2016 , 2015 , and 2014 was $14.06 , $10.67 , and $2.40 per share, respectively. The total grant date fair value of stock options that vested during 2016 , 2015 , and 2014 was $32.9 million , $18.6 million , and $1.7 million , respectively. As of December 31, 2016 , the total unrecognized compensation expense related to unvested stock options, net of estimated forfeitures, was $49.8 million , which the Company expects to recognize over an estimated weighted average period of 2.1 years . As of December 31, 2016 , the total unrecognized compensation expense related to unvested RSUs, net of estimated forfeitures, was $163.7 million , which the Company expects to recognize over an estimated weighted average period of 3.2 years . Stock-based compensation is measured at the grant date based on the fair value of the award and is recognized as expense, net of estimated forfeitures, over the requisite service period, which is generally the vesting period of the respective award. The fair value of RSUs is the fair value of the Company’s Class A common stock on the grant date. In determining the fair value of the stock options and the equity awards issued under the 2015 ESPP, the Company uses the Black-Scholes option-pricing model and assumptions discussed below. Each of these inputs is subjective and generally requires significant judgment. Fair Value of Common Stock —The fair value of the shares of common stock underlying stock options had historically been established by the Company’s board of directors. Following the completion of the IPO, the Company began using the market closing price for the Company’s Class A common stock as reported on the New York Stock Exchange. Expected Term —The Company does not have sufficient historical exercise data to provide a reasonable basis upon which to estimate expected term due to the limited period of time stock-based awards have been exercisable. As a result, for stock options, the Company used the simplified method to calculate the expected term, which is equal to the average of the stock-based award’s weighted average vesting period and its contractual term. The expected term of the 2015 ESPP is based on the contractual term. Volatility —The Company estimates the expected volatility of the common stock underlying its stock options at the grant date by taking the average historical volatility of the common stock of a group of comparable publicly traded companies over a period equal to the expected life of the stock options. Risk-Free Rate —The risk-free interest rate is estimated average interest rate based on U.S. Treasury zero-coupon notes with terms consistent with the expected term of the awards. 88 Table of Contents Dividend Yield —The Company has never declared or paid any cash dividends and does not presently plan to pay cash dividends in the foreseeable future. Consequently, it used an expected dividend yield of zero. In addition, the Company is required to estimate the amount of stock-based compensation that it expects to be forfeited based on historical experience. The assumptions used in calculating the fair value of the stock-based awards represent management judgment. As a result, if factors change and different assumptions are used, the stock-based compensation expense could be materially different in the future. The fair value of the stock option awards and awards issued under the 2015 ESPP granted to employees was estimated at the date of grant using a Black-Scholes option-pricing model with the following assumptions: Employee stock options Expected term (in years) Volatility Risk-free interest rate Dividend yield Employee stock purchase plan Expected term (in years) Volatility Risk-free interest rate Dividend yield 9. Income Taxes 2016 6.25 40.7% 1.6% —% 0.5 30.1% - 39.0% 0.4% - 0.6% —% Year Ended December 31, 2015 6.25 52.1% - 56.9% 1.5% - 1.9% —% 0.5 – 0.9 27.7% - 35.0% 0.3% —% 2014 6.25 54.83% – 60.94% 1.73% – 2.04% —% — —% —% —% The following table presents domestic and foreign components of income (loss) before income taxes for the periods presented (in thousands): United States Foreign Total The income tax expense (benefit) is composed of the following (in thousands): Current: Federal State Foreign Total current Deferred: Federal State Foreign Total deferred Total income tax expense (benefit) $ $ $ Year Ended December 31, 2016 2015 2014 5,577 $ 286,380 $ (114,872) 1,569 (109,295) $ 287,949 $ 150,137 (10,364) 139,773 Year Ended December 31, 2016 2015 2014 78,025 $ 140,396 $ 9,878 4,313 92,216 (86,827) (11,622) (285) (98,734) 13,307 1,107 154,810 (33,421) (8,941) (176) (42,538) 47,565 2,319 113 49,997 (39,339) (2,651) (11) (42,001) 7,996 $ (6,518) $ 112,272 $ 89 Table of Contents The reconciliation of the Company’s effective tax rate to the statutory federal rate is as follows: Tax at federal statutory rate State taxes, net of federal effect Foreign rate differential Tax credits Domestic production activities deduction Stock-based compensation Change in prior year reserves Out-of-period adjustment Warrant fair value adjustment Change in valuation allowance Other Effective tax rate Year Ended December 31, 2016 2015 2014 35.0 % 35.0 % 35.0 % 4.3 (38.9) 9.0 5.0 (4.6) 1.9 (2.8) — — (2.9) 6.0 % 1.5 (0.8) (2.0) (3.3) 1.7 — — 6.9 — — 39.0 % (0.2) 2.7 (1.1) (2.6) — — — 3.3 (32.0) 0.6 5.7 % For 2016, the Company recorded a benefit for income taxes of $(6.5) million , for an effective tax rate of 6.0% . The effective tax rate is different than the statutory federal tax rate primarily due to losses incurred in certain foreign jurisdictions for which we will not realize a tax benefit. The decrease in our provision was also a result of additional federal research and development credits and a reduction in state taxes. For 2015, the Company recorded an expense for income taxes of $112.3 million , for an effective tax rate of 39% . The effective tax rate is higher than the statutory federal tax rate primarily due to state taxes, net of federal benefit and certain permanent differences related to the non-deductible change in fair value of the redeemable convertible preferred stock warrant liability and non-deductible stock-based compensation expense, partially offset by non-taxable income associated with the change in contingent consideration from the FitStar acquisition and a permanent domestic production activities deduction. The tax effects of temporary differences that give rise to significant portions of the deferred tax assets were as follows (in thousands): Net operating losses and credits Fixed assets and intangible assets Accruals and reserves Fitbit Force recall reserve Stock-based compensation Inventory Other Gross deferred tax assets Debt issuance costs Net deferred tax assets December 31, 2016 2015 $ 9,446 $ 16,272 111,216 469 17,864 8,513 10,665 174,445 (353) $ 174,092 $ 5,225 1,227 54,891 1,910 9,642 3,477 7,089 83,461 (441) 83,020 The Company accounts for deferred taxes under ASC Topic 740, “Income Taxes” (“ASC 740”) which involves weighing positive and negative evidence concerning the realizability of the Company’s deferred tax assets in each jurisdiction. The Company evaluated its ability to realize the benefit of its net deferred tax assets and weighed all available positive and negative evidence both objective and subjective in nature. In determining the need for a valuation allowance, the weight given to positive and negative evidence is commensurate with the extent to which the evidence may be objectively verified. Consideration was given to negative evidence such as: the duration and severity of losses in prior years, high seasonal revenue concentrations, increasing competitive pressures, and a challenging retail environment. Realization of our net deferred tax assets is dependent upon our generation of sufficient taxable income in future years in appropriate tax jurisdictions to obtain benefit from the reversal of temporary differences, net operating loss carryforwards and tax credit carryforwards. The amount of net deferred tax assets considered realizable is subject to adjustment in future periods if estimates of future taxable income change. As of December 31, 2016 , the Company continued 90 Table of Contents to believe that it was more-likely-than-not that it would have future taxable income sufficient to realize the benefit of the Company’s net deferred tax assets. As of December 31, 2016, the Company has federal net operating loss carryforwards of $2.2 million which expire beginning after 2033 and California net operating loss carryforwards of $2.2 million which expire beginning after 2033. As of December 31, 2016, the Company has federal research tax credit carryforwards of approximately $0.2 million , which if not utilized, begin to expire after 2030, California research tax credit carryforwards of approximately $16.2 million , which do not expire, Massachusetts research tax credit carryforwards of approximately $0.4 million , which if not utilized, begin to expire after 2031, and California hiring tax credit carryforwards of approximately $0.1 million , which if not utilized, begin to expire after 2026. As of December 31, 2016, the Company has United Kingdom net operating loss carryforwards of $16.5 million , which do not expire. These United Kingdom net operating losses are related to excess stock-based compensation, and accordingly no deferred tax asset is recognized for such amounts prior to the adoption of ASU 2016-09. Any deferred tax asset recognized on adoption of ASU 2016-09 related to excess stock-based compensation, net of any applicable valuation allowance, will be recorded to retained earnings as of the date of adoption. Utilization of the net operating loss and tax credit carry forwards are subject to an annual limitation due to the ownership percentage change limitations provided by the Internal Revenue Code of 1986 and similar state provisions. The annual limitation may result in the expiration of the net operating loss before utilization. The Company does not expect the limitation to result in a reduction in total amount utilizable. It is the intention of the Company to indefinitely reinvest the earnings of the Company’s foreign subsidiaries. The Company does not provide for U.S. income taxes on the earnings of its foreign subsidiaries as such earnings are to be reinvested indefinitely. If these earnings were distributed to the United States in the form of dividends or if the shares of the relevant foreign subsidiaries were sold or otherwise transferred the Company would be subject to additional U.S. income taxes, subject to adjustment for foreign tax credits, and foreign withholding taxes. As of December 31, 2016 , there was $0.6 million of cumulative foreign earnings upon which U.S. income taxes have not been provided. Determining the unrecognized deferred tax liability related to investments in these non-U.S. subsidiaries that are indefinitely reinvested is not practical. We are subject to income taxes in the U.S. (federal and state) and numerous foreign jurisdictions. Significant judgment is required in evaluating our tax positions and determining our provision for income taxes. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. We establish reserves for tax-related uncertainties based on estimates of whether, and the extent to which, additional taxes will be due. These reserves are established when we believe that certain positions might be challenged despite our belief that our tax return positions are fully supportable. We adjust these reserves in light of changing facts and circumstances, such as the outcome of tax audits. The provision for income taxes includes the impact of reserve provisions and changes to reserves that are considered appropriate. As of December 31, 2016 and 2015, the Company has $35.6 million and $23.5 million of unrecognized tax benefits. A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows (in thousands): Balance at beginning of year Reductions based on tax positions related to prior year Additions based on tax positions related to prior year Additions based on tax positions related to current year Balance at end of year December 31, 2016 2015 2014 23,518 $ 10,594 $ (2,100) 2,809 11,357 35,584 $ (18) — 12,942 23,518 $ 7,991 (418) — 3,021 10,594 $ $ At December 31, 2016 , the total amount of gross unrecognized tax benefits was $35.6 million , all of which would affect the effective tax rate if recognized. The Company does not have any tax positions as of December 31, 2016 for which it is reasonably possible the total amount of gross unrecognized tax benefits will increase or decrease within the following 12 months . The Company’s policy is to record interest and penalties related to unrecognized tax benefits as income tax expense. As of December 31, 2016 and 2015, the Company has accrued $2.2 million and $0.6 million related to interest and penalties. The Company is subject to taxation in the United States and various states and foreign jurisdictions. The material jurisdictions in which the Company is subject to potential examination include the United States and Ireland. The Company believes that adequate amounts have been reserved for these jurisdictions. The Company is under examination by the Internal Revenue Service for the tax years 2013 and 2014 and under state examinations for the tax years 2013 through 2016. For federal, state and non-U.S. tax returns, the Company is generally no longer subject to tax examinations for years prior to 2008. 91 Table of Contents 10. Net Income (Loss) per Share Attributable to Common Stockholders The following table sets forth the computation of the Company’s basic and diluted net income (loss) per share attributable to common stockholders (in thousands, except per share amounts): Numerator: Net income (loss) Less: noncumulative dividends to preferred stockholders Less: undistributed earnings to participating securities Net income (loss) attributable to common stockholders—basic Add: adjustments to undistributed earnings to participating securities Net income (loss) attributable to common stockholders—diluted Denominator: Weighted-average shares of common stock—basic for Class A and Class B Effect of dilutive securities Weighted-average shares of common stock—diluted for Class A and Class B Net income (loss) per share attributable to common stockholders: Basic Diluted Year Ended December 31, 2016 2015 2014 $ $ $ $ (102,777) $ 175,677 $ — — (102,777) — (2,526) (59,133) 114,018 8,821 (102,777) $ 122,839 $ 220,405 — 220,405 129,886 34,327 164,213 (0.47) $ (0.47) $ 0.88 $ 0.75 $ 131,777 (5,326) (98,103) 28,348 10,175 38,523 40,351 20,828 61,179 0.70 0.63 The following potentially dilutive common shares (in thousands) were excluded from the computation of diluted net income (loss) per share for the periods presented because including them would have been antidilutive: Stock options to purchase common stock Restricted stock units Redeemable convertible preferred stock Redeemable convertible preferred stock warrants Total 2016 December 31, 2015 2014 34,454 11,578 — — 46,032 445 692 65,903 921 67,961 4,420 — 139,851 1,955 146,226 11. Significant Customer Information and Other Information Retailer and Distributor Concentration Retailers and distributors with revenue equal to or greater than 10% of total revenue were as follows: A C B * Revenue was less than 10%. 2016 December 31, 2015 2014 14% 14 10 15% 14 14 13% 11 12 92 Table of Contents Retailers and distributors that accounted for equal to or greater than 10% of accounts receivable at December 31, 2016 and 2015 were as follows: C A D B * Accounts receivable were less than 10%. Geographic and Other Information Revenue by geographic region, based on ship-to destinations, was as follows (in thousands): December 31, 2016 2015 19% 16 12 * 23% 15 * 19 United States Americas excluding United States Europe, Middle East, and Africa APAC Total 2016 December 31, 2015 2014 $ $ 1,539,600 $ 1,381,152 $ 110,111 389,154 130,596 92,252 208,767 175,827 2,169,461 $ 1,857,998 $ 562,553 38,576 60,699 83,605 745,433 As of December 31, 2016 and 2015 , long-lived assets, which represent property and equipment, located outside the United States were $30.1 million and $28.9 million , respectively. 12. Acquisitions 2016 Acquisitions In December 2016, the Company completed a purchase of certain assets from Pebble Industries, Inc., a privately-held company, which was accounted for as a business combination, for total cash consideration of $23.4 million , of which $9.6 million was allocated to developed technology intangible assets, $14.4 million to goodwill, and $0.6 million to assumed liabilities. Approximately $3.5 million of the consideration payable to Pebble Industries, Inc. was held as partial security for certain indemnification obligations, and will be held back for payment until March 2018. The acquisition is expected to enhance the features and functionality of the Company’s devices. The amortization period of the acquired developed technology is approximately 5 years . Goodwill is deductible for tax purposes. In December 2016, the Company completed a purchase of certain assets from Vector Watch S.R.L., a privately-held company, which was accounted for as a business combination, for total cash consideration of $15.0 million , of which $3.9 million was allocated to developed technology intangible assets, $11.4 million to goodwill, and $0.3 million to assumed liabilities. Approximately $2.3 million of the consideration payable to Vector Watch S.R.L. was held as partial security for certain indemnification obligations, and will be held back for payment until December 2018. The acquisition is expected to enhance the features and functionality of the Company’s devices. The amortization period of the acquired developed technology is approximately 2.5 years . Goodwill is deductible for tax purposes. In May 2016, the Company completed a purchase of certain assets from Coin, Inc., a privately-held company, which was accounted for as a business combination, for total cash consideration of $7.0 million , of which $3.9 million was allocated to in-process research and development intangible assets, and $3.1 million to goodwill. The acquisition is expected to enhance the features and functionality of the Company’s devices. In-process research and development is not amortized until the completion or abandonment of the related development. Goodwill is deductible for tax purposes. 93 Table of Contents FitStar Acquisition — 2015 In March 2015, the Company acquired all of the outstanding securities of FitStar, Inc., a privately-held company, for aggregate acquisition consideration of $32.5 million , comprised of $13.3 million related to the issuance of 1,059,688 shares of the Company’s common stock, net of a repurchase of 24,949 shares, $11.5 million of cash, and $7.7 million of contingent consideration. FitStar is a provider of interactive video-based exercise experiences on mobile devices and computers that utilize proprietary algorithms to adjust and customize workouts for individual users. The acquisition is expected to enhance the Company’s software and services offerings. Under the acquisition agreement, the Company was obligated to issue additional common stock or pay cash to FitStar shareholders. The actual amount of this contingent consideration depended on market-based events that may occur in the future. The Company determined the fair market value of this contingent consideration to be $7.7 million as of the acquisition date using the Monte Carlo simulation method. The fair value of this liability was adjusted at each reporting period, and the change in fair value was included in other income (expense), net on the consolidated statement of operations. As a result of the Company’s IPO, the Company recorded a change in fair value of $7.7 million as a benefit and as of December, 31, 2015 the fair value of the contingent consideration liability was zero . The terms related to the contingent consideration have expired as of December 31, 2015 and no amounts were paid or shares issued for the contingent consideration. The following table summarizes the fair value of assets acquired and liabilities assumed (in thousands): Goodwill Developed and core technology Customer relationships Trademarks Assumed liabilities, net of assets Total $ $ 22,157 12,640 128 1,150 (3,552) 32,523 The amortization periods of the acquired developed technology, customer relationships, and trademarks are 7.0 years , 1.3 years , and 5.0 years , respectively. Goodwill is not deductible for tax purposes. In addition, upon acquisition, the Company issued 308,216 shares of common stock net of a repurchase of 24,948 shares, valued at $4.2 million . The Company is also obligated to make cash payments up to $1.2 million . Both the common stock and the cash payments are additional consideration which is contingent upon former employees of FitStar continuing to be employed by the Company. As such, this additional consideration was not part of the purchase price and is recognized as post-acquisition compensation expense over the related requisite service period. The Company recorded acquisition-related transaction costs of $1.3 million and $0.3 million , which were included in general and administrative expenses in the consolidated statement of operations during 2016 and 2015, respectively. The results of operations for the acquired companies during 2016 and 2015 are included in the accompanying consolidated statements of operations from the date of acquisition. Pro forma and historical results of operations for the acquired companies have not been presented because they are not material, either individually or in the aggregate, to the Company’s consolidated financial statements. 94 Table of Contents 13. Selected Unaudited Quarterly Financial Data The following tables show a summary of the Company’s unaudited quarterly financial information for each of the four quarters of 2016 and 2015 (in thousands, except per share amounts): Revenue Gross profit Net income (loss) $ $ $ Net income (loss) per share attributable to common stockholders—basic $ Net income (loss) per share attributable to common stockholders— diluted Revenue Gross profit Net income Net income per share attributable to common stockholders—basic Net income per share attributable to common stockholders—diluted 14. Subsequent Events Restructuring $ $ $ $ $ $ December 31, 2016 October 1, 2016 July 2, 2016 April 2, 2016 Three Months Ended 573,775 $ 126,502 $ (146,273) $ (0.65) $ 503,802 $ 240,658 $ 26,120 $ 0.12 $ 586,528 $ 244,969 $ 6,341 $ 0.03 $ (0.65) $ 0.11 $ 0.03 $ 505,356 233,755 11,035 0.05 0.05 December 31, 2015 September 30, 2015 June 30, 2015 March 31, 2015 Three Months Ended 711,570 $ 348,299 $ 64,165 $ 0.30 $ 0.26 $ 409,262 $ 196,013 $ 45,834 $ 0.22 $ 0.19 $ 400,412 $ 187,542 $ 17,681 $ 0.09 $ 0.07 $ 336,754 169,209 47,997 0.26 0.22 In January 2017, the Company announced a reorganization, including a reduction in workforce. This reorganization impacted 107 employees or approximately 6% of the Company’s global workforce. The Company anticipates that it will complete the reorganization by the end of the second quarter of 2017, and estimates it will incur approximately $ 3.7 million in restructuring expenses to be recorded in the first quarter of 2017. Stock Option Exchange The Company intends to seek stockholder approval for a program under which certain employees may relinquish out-of-the-money stock options at the time of the exchange program in return for a fewer number of RSUs. An estimate of the financial impact of the exchange program is impracticable to be made until the terms of the exchange program are finalized. 95 Table of Contents Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure None. Item 9A. Controls and Procedures Evaluation of Disclosure Controls and Procedures We maintain “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of December 31, 2016 . Based on the evaluation of our disclosure controls and procedures as of December 31, 2016 , our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level. Management’s Report on Internal Control Over Financial Reporting Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act). Our management conducted an assessment of the effectiveness of our internal control over financial reporting based on the criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on the assessment, our management has concluded that our internal control over financial reporting was effective as of December 31, 2016 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. The effectiveness of our internal control over financial reporting as of December 31, 2016 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report included in Part II, Item 8 of this Annual Report on Form 10-K. Changes in Internal Control over Financial Reporting There was no change in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the three months ended December 31, 2016 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. Inherent Limitations on Effectiveness of Controls Our management, including the CEO and CFO, recognizes that our disclosure controls or our internal control over financial reporting cannot prevent or detect all possible instances of errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. The design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Item 9B. Other Information None. Table of Contents PART III Item 10. Directors, Executive Officers and Corporate Governance The information required for this Item is incorporated by reference from our Proxy Statement to be filed in connection with our 2017 Annual Meeting of Stockholders within 120 days after the end of the fiscal year ended December 31, 2016 . Item 11. Executive Compensation The information required for this Item is incorporated by reference from our Proxy Statement to be filed in connection with our 2017 Annual Meeting of Stockholders within 120 days after the end of the fiscal year ended December 31, 2016 . Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters The information required for this Item is incorporated by reference from our Proxy Statement to be filed in connection with our 2017 Annual Meeting of Stockholders within 120 days after the end of the fiscal year ended December 31, 2016 . Item 13. Certain Relationships and Related Transaction, and Director Independence The information required for this Item is incorporated by reference from our Proxy Statement to be filed in connection with our 2017 Annual Meeting of Stockholders within 120 days after the end of the fiscal year ended December 31, 2016 . Item 14. Principal Accounting Fees and Services The information required for this Item is incorporated by reference from our Proxy Statement to be filed in connection with our 2017 Annual Meeting of Stockholders within 120 days after the end of the fiscal year ended December 31, 2016 . 97 Table of Contents PART IV ITEM 15. Exhibits, Financial Statement Schedules. (a) The following documents are filed as part of this Annual Report on Form 10-K: 1. Consolidated Financial Statements The financial statements filed as part of this Annual Report on Form 10-K are listed in the “Index to Consolidated Financial Statements” under Part II, Item 8 of this Annual Report on Form 10-K. 2. Financial Statement Schedules All schedules are omitted as the required information is inapplicable or the information is presented in the consolidated financial statements or notes to consolidated financial statements under Item 8. 3. Exhibits See Exhibit Index following the signature page of this Annual Report on Form 10-K. 98 Table of Contents Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. SIGNATURES March 1, 2017 FITBIT, INC. By: /s/ James Park James Park President, Chief Executive Officer, and Chairman POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS that each individual whose signature appears below constitutes and appoints James Park and William Zerella, and each of them, his true and lawful attorneys-in-fact and agents with full power of substitution, for him and in his name, place, and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K, and to file the same, with all exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents or any of them, or his or their substitute or substitutes, may lawfully do or cause to be done or by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Name /s/ James Park James Park /s/ William Zerella William Zerella /s/ Eric N. Friedman Eric N. Friedman /s/ Laura J. Alber Laura J. Alber /s/ Jonathan D. Callaghan Jonathan D. Callaghan /s/ Glenda Flanagan Glenda Flanagan /s/ Steven Murray Steven Murray /s/ Christopher Paisley Christopher Paisley Title Date President, Chief Executive Officer, and Chairman March 1, 2017 (Principal Executive Officer) Chief Financial Officer March 1, 2017 (Principal Financial and Accounting Officer) Chief Technology Officer and Director March 1, 2017 Director Director Director Director Director 99 March 1, 2017 March 1, 2017 March 1, 2017 March 1, 2017 March 1, 2017 Table of Contents EXHIBIT INDEX Exhibit Number 3.1 3.2 4.1 4.2 10.1* 10.2* 10.3* 10.4* 10.5* 10.6* 10.7* 10.8* 10.9 10.10 10.11† 10.12 Exhibit Description Restated Certificate of Incorporation of Registrant. Restated Bylaws of Registrant. Form of Registrant’s Class A common stock certificate. Form 10-Q 10-Q S-1/A Incorporated by Reference File No. Exhibit 001-37444 001-37444 333-203941 3.1 3.2 4.1 4.2 S-1 333-203941 Filed Herewith Filing Date 8/7/2015 8/7/2015 6/2/2015 5/7/2015 Third Amended and Restated Investors’ Rights Agreement by and among the Registrant and certain stockholders of the Registrant, dated June 6, 2013. Form of Indemnification Agreement. Amended and Restated 2007 Stock Plan, as amended, and forms of award agreements. 2015 Equity Incentive Plan and forms of award agreements. Form of Notice of Stock Option Grant and Stock Option Agreement under the 2015 Equity Incentive Plan. 2015 Employee Stock Purchase Plan. Offer Letter by and between the Registrant and William Zerella, dated April 24, 2014. Offer Letter by and between the Registrant and Edward Scal, dated October 9, 2010. Offer Letter by and between the Registrant and Andy Missan, dated March 15, 2013. Office Lease by and between the Registrant and 405 Howard, LLC, dated September 30, 2013. Office Lease by and between the Registrant and GLL BIT Fremont Street Partners, L.P., dated June 26, 2015. Flextronics Manufacturing Services Agreement by and among Fitbit International Limited, the Registrant, and Flextronics Sales & Marketing (A-P) Ltd., dated March 19, 2015. Second Amended and Restated Credit Agreement, by and among Fitbit, Inc., the lenders party thereto and Silicon Valley Bank, as administrative agent, dated December 10, 2015. S-1 S-1 S-1 8-K S-1 S-1 333-203941 10.1 5/7/2015 333-203941 10.2 5/7/2015 333-203941 10.3 5/7/2015 001-37444 10.1 2/9/2016 333-203941 10.4 5/7/2015 333-203941 10.5 5/7/2015 10-K 001-37444 10.7 2/29/2016 10-K 001-37444 10.8 2/29/2016 S-1 333-203941 10.6 5/7/2015 10-Q 001-37444 10.3 8/7/2015 S-1/A 333-203941 10.7 5/21/2015 8-K 001-37444 10.1 12/15/2015 Table of Contents Exhibit Number 10.13 10.14* 10.15* 10.16* 10.17† 21.1 23.1 24.1 31.1 31.2 32.1◊ 32.2◊ Exhibit Description Revolving Credit and Guaranty Agreement by and among Registrant, the Guarantors party thereto, the Lenders party thereto, Morgan Stanley Bank N.A., and Morgan Stanley Senior Funding, Inc., dated August 13, 2014. Form of Retention Agreement. Fitbit, Inc. Bonus Plan. Global Notice of Stock Option Grant and Global Stock Option Agreement under the 2015 Equity Incentive Plan. Office Sublease, dated April 11, 2016, by and between the Registrant and Charles Schwab & Co., Inc.. List of Subsidiaries of Registrant. Consent of PricewaterhouseCoopers LLP, independent registered public accounting firm. Power of Attorney (included on page II-2). Rule 13a-14(a)/ 15d-14(a) Certification of Chief Executive Officer. Rule 13a-14(a)/ 15d-14(a) Certification of Chief Financial Officer. Section 1350 Certification of Chief Executive Officer. Section 1350 Certification of Chief Financial Officer. 101.INS XBRL Instance Document. 101.SCH XBRL Schema Linkbase Document. 101.CAL XBRL Calculation Linkbase Document. 101.DEF XBRL Definition Linkbase Document. 101.LAB XBRL Extension Label Linkbase Document. 101.PRE XBRL Presentation Linkbase Document. Incorporated by Reference Form S-1 File No. 333-203941 Exhibit 10.9 Filing Date 5/7/2015 Filed Herewith S-1/A 8-K 10-Q 333-203941 10.10 5/21/2015 001-37444 10.1 3/29/2016 001-37444 10.3 5/6/2016 10-Q 001-37444 10.1 8/4/2016 X X X X X X X X X X X X X * † ◊ Indicates a management contract or compensatory plan. Portions of this exhibit have been granted confidential treatment by the SEC These certifications are deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or the Exchange Act, or otherwise subject to the liability of that section, nor shall they be deemed incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Exchange Act. LIST OF SUBSIDIARIES FITBIT, INC.* EXHIBIT 21.1 Fitbit International Limited (Ireland) Fitbit Holdings (Ireland) *Pursuant to Item 601(b)(21)(ii) of Regulation S-K, the names of other subsidiaries of Fitbit, Inc. are omitted because, considered in the aggregate, they would not constitute a significant subsidiary as of the end of the year covered by this Annual Report on Form 10-K. CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM EXHIBIT 23.1 We hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (No. 333-205045 and No. 333-209787) of Fitbit, Inc. of our report dated March 1, 2017 relating to the consolidated financial statements and the effectiveness of internal control over financial reporting, which appears in this Form 10-K. /s/ PricewaterhouseCoopers LLP San Francisco, California March 1, 2017 CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 EXHIBIT 31.1 I, James Park, certify that: 1. I have reviewed this annual report on Form 10-K of Fitbit, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting. 5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting. Date: March 1, 2017 /s/ James Park James Park President, Chief Executive Officer, and Chairman (Principal Executive Officer) EXHIBIT 31.2 CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, William Zerella, certify that: 1. I have reviewed this annual report on Form 10-K of Fitbit, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, 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; c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting. 5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting. Date: March 1, 2017 /s/ William Zerella William Zerella Chief Financial Officer (Principal Financial and Accounting Officer) CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 EXHIBIT 32.1 I, James Park, President, Chief Executive Officer and Chairman of Fitbit Inc., do hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that to the best of my knowledge: • • the Annual Report on Form 10-K of Fitbit, Inc. for the year ended December 31, 2016 fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and the information contained in such Annual Report on Form 10-K fairly presents, in all material respects, the financial condition and results of operations of Fitbit, Inc. Date: March 1, 2017 By: /s/ James Park James Park President, Chief Executive Officer, and Chairman (Principal Executive Officer) CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 EXHIBIT 32.2 I, William Zerella, Chief Financial Officer of Fitbit Inc., do hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes- Oxley Act of 2002, that to the best of my knowledge: • • the Annual Report on Form 10-K of Fitbit, Inc. for the year ended December 31, 2016 fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and the information contained in such Annual Report on Form 10-K fairly presents, in all material respects, the financial condition and results of operations of Fitbit, Inc. Date: March 1, 2017 By: /s/ William Zerella William Zerella Chief Financial Officer (Principal Financial and Accounting Officer) 

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