Summary of ALIGN TECHNOLOGY INC

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 together with "Selected Consolidated Financial Data" and our consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K.
Overview
Align Technology, Inc. is a global medical device company that pioneered the invisible orthodontics market with the introduction of the Invisalign system in 1999. Today, we are focused on designing, manufacturing and marketing innovative, technology-rich products to help dental professionals achieve the clinical results they expect and deliver effective, convenient cutting-edge dental treatment options to their patients. Align Technology was founded in March 1997 and is headquartered in San Jose, California with offices worldwide. Our international headquarters are located in Amsterdam, the Netherlands. We have two operating segments: (1) Clear Aligner, known as the Invisalign system; and (2) Scanner and CAD/CAM Services ("SCCS"), known as the iTero intra-oral scanners and OrthoCAD services.
We received FDA clearance in 1998 and began our first commercial sales of Invisalign to U.S. orthodontists in 1999 followed by U.S General Practitioner Dentists (GPs) in 2002. Over the next decade, we introduced Invisalign to the European market and Japan, added distribution partners in Asia-Pacific, Latin America, and EMEA, and introduced a full range of treatment options including Invisalign Express 10, Invisalign Teen, Invisalign Assist, and Vivera retainers. By 2011, we launched Invisalign G3 and Invisalign G4, which includes significant new aligner and software features across all Invisalign products that make it easier for doctors to use Invisalign on more complex cases, and introduced Invisalign to the People's Republic of China. Most recently, we launched SmartTrack, the next generation of Invisalign clear aligner material which became the new standard aligner material for Invisalign clear aligner products in North America and Europe beginning January 21, 2013 and for other international markets where we have received regulatory approval in the first quarter of 2013.
In 2011, we acquired Cadent Holdings, Inc., a leading provider of 3D digital scanning solutions for orthodontics and dentistry, and makers of the iTero intra-oral scanner and OrthoCAD services. We believe that the combination of Align's and Cadent's technologies and capabilities creates greater growth opportunities for Align by bringing innovative new Invisalign treatment tools to customers and by extending the value of intra-oral scanning in dental practices. Intra-oral scanners provide a dental "chair-side" platform for accessing valuable digital diagnosis and treatment tools, with potential for enhancing accuracy of records, treatment efficiency, and the overall patient experience. We believe there are numerous benefits for customers and the opportunity to accelerate the adoption of Invisalign through interoperability with our intra-oral scanners. The use of digital technologies such as CAD/CAM for restorative dentistry or in-office restorations has been growing rapidly and intra-oral scanning is a critical part of enabling these new digital technologies and procedures in dental practices. Since the acquisition, we have launched significant product options and software enhancements to the scanner product line. In late 2012, we commercially launched the Invisalign Outcome Simulator, the first Invisalign chair-side application powered by the iTero scanner. The interactive application provides dentists and orthodontists an enhanced platform for patient education and is designed to increase treatment acceptance by helping patients visualize the benefits possible with Invisalign treatment. The new iTero scanner was available in North America beginning in February 2013 and will be available soon thereafter in select international markets as a single hardware platform with software options for restorative or orthodontic procedures.
The Invisalign system is offered in more than 45 countries and has been used to treat more than 2.0 million patients. Our iTero intra-oral scanner is available in over 25 countries and provide dental professionals with an open choice to send digital impressions to any laboratory-based CAD/CAM system or to any of the more than 1,800 dental labs worldwide.
Our goal is to establish the Invisalign system as the standard method for treating malocclusion and to establish our intra-oral scanning platform as the preferred scanning protocol for 3D digital scans, ultimately driving increased product adoption by dental professionals. We intend to achieve this by focusing on the key strategic initiatives set forth in the Business Strategy section in this Annual Report on Form 10-K.
In addition to the successful execution of our business strategy, there are a number of other factors which may affect our results in 2013 and beyond, which are described below:

•         Product innovation and clinical effectiveness. We recently announced
          the introduction of SmartTrack, a proprietary, custom engineered,
          aligner material, designed to deliver gentle, more constant force to
          improve control of tooth movements with Invisalign clear aligner
          treatment, will build on the success we have seen with Invisalign G3/G4
          and encourage even greater confidence and adoption in our customers'
          practices. Although the introduction of SmartTrack will result in
          higher cost of goods sold and reduction in gross margins in our clear
          aligner segment due to higher material costs, we believe these
          innovations are important contributors to increase utilization across
          our channels worldwide. Additionally, we recently introduced the new
          iTero scanner, which is a single hardware platform with software
          options for restorative or orthodontic procedures, Invisalign
          interoperability, as well as the Invisalign Outcome Simulator, our
          first chair-side application powered by our iTero scanner. We believe
          that over the long-term these types of product and clinical innovations
          will increase adoption of Invisalign and increase sales of our
          intra-oral scanners. However, it is difficult to predict the rate of
          adoption which may vary by region and channel.


•         Invisalign Utilization rates. Our goal is to establish Invisalign as
          the treatment of choice for treating malocclusion ultimately driving
          increased product adoption and frequency of use by dental
          professionals, or utilization. Our quarterly utilization rates for the

previous 11 quarters are as follows:

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*Invisalign Utilization rates = # of cases shipped divided by # of doctors cases were shipped to

Total utilization in the fourth quarter of 2012 decreased slightly to 4.1 cases per doctor compared to 4.2 cases in the third quarter driven primarily by the decrease in utilization by our North American Orthodontic customers from 7.7 to 7.3 cases per doctor as well as expansion of our submitting International customers. This decrease by our North American Orthodontic customers reflects a decline in the number of teen-aged cases shipped as teen case starts are down in the fourth quarter following the seasonally busier summer months. Although we expect that over the long-term our utilization rates will gradually improve, we expect that period over period comparisons of our utilization rates will fluctuate.

•         Number of new Invisalign doctors trained. We continue to expand our
          Invisalign customer base through training new doctors. In 2012,
          Invisalign growth was driven primarily by the continued expansion of
          our customer base as we trained a total of 6,845 new orthodontists and
          GPs in North America and internationally. We expect to train
          approximately 7,220 doctors in 2013.

•         International Clear Aligner. We will continue to focus our efforts
          towards increasing adoption of our products by dental professionals in
          our core European markets as well as expansion into new markets. On a
          year over year basis, international volume increased 23%, driven
          primarily by growth in our direct business in Europe as well as by
          continued strong performance by our distribution partners. Although
          sales through our distribution partners represented 8% of total
          worldwide case shipments in 2012, sales through our distributors,
          particularly our partner covering the Asia-Pacific region, continued to
          grow at a faster rate than direct sales in other international
          geographic regions and we expect this trend to continue in the near
          term. Based on the continued progress in the Asia-Pacific region, we
          expect to revert to a direct sales model in this region beginning in
          the second quarter of 2013. Therefore, we will not renew our
          distribution agreement when it expires in April 2013. As a result, on
          May 1, 2013, four of the largest indirect country markets of Australia,
          New Zealand, Hong Kong and Singapore will revert back to a direct sales
          region and we will begin to recognize direct sales of Invisalign
          products sold in that region at our full average selling price ("ASP")
          rather than at the discounted average sales price under the
          distribution agreement.   In 2012, this distributor accounted for
          approximately 3% of worldwide revenues, and we expect them to become an
          even more meaningful contributor to revenue growth beginning in May
          2013. In the near term, however, the assumption of the direct operating
          costs will offset the uplift to ASPs. Although we expect volumes and
          revenues will increase, we may experience difficulties in achieving the
          anticipated financial benefits. We expect the remaining eight indirect
          country markets in Brunei, Indonesia, Macau, Malaysia, Philippines,
          South Korea, Taiwan, Thailand and Vietnam as well as the EMEA and Latin
          America regions will continue under a distribution model.


•         Increased Sales Force Coverage. Our direct sales organization in North
          America is comprised of a team of territory managers and to a lesser
          extent, territory specialists. These territory specialists are used to
          enhance coverage in larger territories, especially with our lower
          volume GP customers. Due to the success of this sales coverage model,
          in 2013 we expect to add approximately 20 sales representatives in
          2013, predominantly in North America. In addition, when we transition
          our Asia-Pacific distributor to a direct sales model in May 2013, we
          will acquire approximately 15 additional sales representatives in that
          region.


•         Vivera Retainer Shipment Consolidation in North America. In the first
          quarter of 2013, we began consolidating Vivera retainer product
          shipments into one shipment per year rather than four shipments per
          year as had been our practice. As a result, our first quarter results
          will reflect approximately $4 million benefit to revenue associated
          with our Vivera product as we will recognize nine additional months of
          the subscription revenue in the first quarter instead of recognizing it
          ratably every quarter for one year. In addition, we will also begin to
          reduce freight costs as we make this change.


•         International Scanner and CAD/CAM Services.In October 2012, we reached
          a mutual agreement to terminate the exclusive distribution arrangement
          with Straumann for iTero intra-oral scanners in Europe, as well as the
          non-exclusive distribution agreement for iTero intra-oral scanners in
          North America effective December 31, 2012. The global market for
          restorative dentistry is far more fragmented and complex than
          orthodontics with hundreds of thousands of labs, suppliers, general
          dentists and specialists. In Europe, adoption of digital restorative
          technology has been slowed due to challenging economic conditions and
          reluctance to invest in capital equipment. In view of these conditions,
          we expect to have very few scanner sales internationally in the near
          term as we determine the most effective way to re-stage growth in this
          market. Our direct sales model remains unchanged in North America where
          most of the scanner and CAD/CAM services revenue is generated.


•         Increase in Invisalign Selling Price. In recent years, we have
          significantly increased investment in research and development
          resulting in product innovations, such as Invisalign G3, Invisalign G4
          and SmartTrack clear aligner material. We have also continued to
          increase our consumer advertising spending to drive more patient
          demand. In addition, beginning January 1, 2013, the Federal Government
          imposed a new excise tax on medical device manufacturers, and
          Invisalign clear aligners are considered a taxable medical device. As a
          result of this new tax and our continued investments in research and
          development and consumer advertising, we increased our Invisalign
          pricing by adding $26.00 to $50.00 per case compared to 2012 prices,
          effective January 1, 2013. For 2013, we expect that the impact on our
          average sales price from this price increase will be offset somewhat by
          an expected increases in our rebate program due to the anticipated
          increase in utilization by our customers, increased volume from our
          lower price products, including Invisalign Express 5 and Invisalign i7,
          as well as slightly higher material costs for the SmartTrack clear
          aligner material. The prices for Invisalign Teen, Invisalign retainers,
          and Vivera retainers will remain unchanged.


•         2013 Operating expenses. We expect operating expenses to increase in
          2013 compared to 2012 due to the increase in North American sales force
          coverage, the acquisition of the direct sales force in Asia-Pacific,
          and the inclusion

of the medical device excise tax, which was enacted into law as part of the comprehensive healthcare reform legislation in March 2010.

•         Balance sheet reclassification. Subsequent to our Results of Operations
          and Financial Conditions on Form 8-K filed with the SEC on January 30,
          2013, we have made a $3.2 million reclassification of deferred
          revenues, which is a short-term liability to long-term deferred
          revenues which is included in other long-term liabilities in our
          consolidated balance sheet presented in this Form 10-K. This
          reclassification was not considered to be material and did not have an
          impact to our consolidated statement of cash flows or operations for
          2012.


•         Foreign exchange rates. Although the U.S. dollar is our reporting
          currency, a portion of our net revenues and income are generated in
          foreign currencies. Net revenues and income generated by subsidiaries
          operating outside of the U.S. are translated into U.S. dollars using
          exchange rates effective during the respective period and as a result
          are affected by changes in exchange rates. We have generally accepted
          the exposure to exchange rate movements without using derivative
          financial instruments to manage this risk. Therefore, both positive and
          negative movements in currency exchange rates against the U.S. dollar
          will continue to affect the reported amount of net revenues and income
          in our consolidated financial statements.

Results of Operations

Net revenues by Reportable Segment Comparison for Years Ended December 31, 2012, 2011 and 2010:

We group our operations into two reportable segments: Clear Aligner segment and Scanners and CAD/CAM Services segment.

•         Our Clear Aligner segment consists of our Invisalign system which
          includes Invisalign Full, Express/Lite, Teen, Assist, Vivera retainers,
          along with our training and ancillary products for treating
          malocclusion.


•         Our Scanners and CAD/CAM Services segment consists of intra-oral
          scanning systems and additional services available with the intra-oral
          scanners that provide digital alternatives to the traditional cast
          models. This segment includes our iTero scanner and OrthoCAD services.

The below represents net revenues for our Clear Aligner segment by region, channel, and product and our Scanner and CAD/CAM Services segment by region and product for the years ended December 31, 2012, 2011 and 2010 as follows (in millions):

                                                      Years Ended December 31,
                                       Net          %                       Net          %
Clear Aligner              2012       Change      Change        2011       Change      Change       2010
Region and Channel
  North America
       Ortho             $ 172.5     $   25.0       16.9  %   $ 147.5     $   30.1       25.6 %   $ 117.4
       GP                  188.6         20.7       12.3  %     167.9         22.8       15.7 %     145.1
  Total North America      361.1         45.7       14.5  %     315.4         52.9       20.2 %     262.5
  International            124.8         13.3       11.9  %     111.5         21.4       23.8 %      90.1
   Invisalign Teen
deferred revenue release       -            -        N/A            -        (14.3 )      N/A        14.3
  Invisalign non-case
revenues                    30.7          6.0       24.3  %      24.7          4.5       22.3 %      20.2
Total (1)                $ 516.6     $   65.0       14.4  %   $ 451.6     $   64.5       16.7 %   $ 387.1
Product
  Invisalign Full        $ 338.6     $   36.3       12.0  %   $ 302.3     $   37.5       14.2 %   $ 264.8
  Invisalign
Express/Lite                51.5          8.9       20.9  %      42.6          8.0       23.1 %      34.6
  Invisalign Teen(2)        67.1         12.6       23.1  %      54.5          1.7        3.2 %      52.8
  Invisalign Assist         28.7          1.3        4.7  %      27.4         12.7       86.4 %      14.7
  Invisalign non-case
revenues                    30.7          5.9       23.8  %      24.8          4.6       22.8 %      20.2
Total                    $ 516.6     $   65.0       14.4  %   $ 451.6     $   64.5       16.7 %   $ 387.1
Scanners and CAD/CAM
Services (3):
Region
  North America          $  42.2     $   18.2       75.8  %   $  24.0     $   24.0        N/A     $     -
  International              1.2         (2.9 )    (70.7 )%       4.1          4.1        N/A           -
Total                    $  43.4     $   15.3       54.4  %   $  28.1     $   28.1        N/A     $     -
Product
  Scanners               $  20.0     $    6.7       50.4  %   $  13.3     $   13.3        N/A     $     -
  CAD/CAM Services          23.4          8.6       58.1  %      14.8         14.8        N/A           -
Total                    $  43.4     $   15.3       54.4  %   $  28.1     $   28.1        N/A     $     -
Total Revenue            $ 560.0     $   80.3       16.7  %   $ 479.7     $   92.6        N/A     $ 387.1


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(1) In the fourth quarter of 2012, we identified an error that the actual case refinement usage rate was lower than our estimate and, as a result, we recorded a net revenue release of $4.9 million previously deferred for case refinement of which $5.2 million was a correction of an error of which $4.5 million relates to the first three quarters for the fiscal year 2012 and $0.7 million relates to the fiscal year 2011. The adjustment was not material to any quarter within 2012. The net amount of $4.9 million is not material to the results of operations for twelve months ended December 31, 2012.

(2 Net revenues for the year ended December 31, 2010 includes a $14.3 million release of revenue previously deferred for Invisalign Teen replacement aligners. Excluding the $14.3 million for the Invisalign Teen replacement aligners, the percentage change from 2010 to 2011 was approximately 41.6%.

(3) As the acquisition of Cadent closed on April 29, 2011, the year ended December 31, 2011 balances for Scanners and CAD/CAM Services only reflect eight months of revenues.

Clear Aligner Case Volume by Channel and Product

Case volume data which represents Invisalign case shipments by channel and
product, for the years ended December 31, 2012, 2011 and 2010 as follows (in
thousands):

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                                                     Years Ended December 31,
                                          Net        %                  Net        %
Region and Channel               2012    Change    Change      2011    Change    Change      2010
North America:
     Ortho                      137.0      21.6      18.7 %   115.4      25.1      27.8 %    90.3
     GP                         139.7      16.5      13.4 %   123.2      14.1      12.9 %   109.1
Total North American Invisalign 276.7      38.1      16.0 %   238.6      39.2      19.7 %   199.4
International Invisalign         86.8      16.0      22.6 %    70.8       9.3      15.1 %    61.5
Total Invisalign case volume    363.5      54.1      17.5 %   309.4      48.5      18.6 %   260.9
Product
Invisalign Full                 235.0      28.7      13.9 %   206.3      26.6      14.8 %   179.7
Invisalign Express/Lite          58.7      14.5      32.8 %    44.2       6.8      18.2 %    37.4
Invisalign Teen                  48.3      10.3      27.1 %    38.0       9.3      32.4 %    28.7
Invisalign Assist                21.5       0.6       2.9 %    20.9       5.8      38.4 %    15.1
Total Invisalign case volume    363.5      54.1      17.5 %   309.4      48.5      18.6 %   260.9

Fiscal Year 2012 compared to Fiscal Year 2011

Total net revenues increased $80.3 million in 2012 primarily as a result of volume growth of 17.5% across all regions and customer channels in our Clear Aligner segment and the inclusion of a full year of Scanner and CAD/CAM Services (SCCS) segment activity in 2012 compared to eight months in 2011.

Clear Aligner

Revenue from our Clear Aligner segment, increased by 14.4% due to increased case volumes across all products partially offset by lower ASP. Additionally, in the fourth quarter of 2012, we determined that the actual case refinement usage rate was lower than our estimate and, as a result, Invisalign revenue includes the release of $4.9 million of revenue previously deferred for case refinement (refer to Item 8 on this Form 10-K for further discussion).

North American revenue growth of 14.5% was driven by increased volumes of 16% in the Ortho Channel and GP channels due to higher utilization and an increased number of doctors submitting cases. ASP's were slightly lower due to increased discounting from our volume rebate program and a product mix shift towards our lower priced products.

International revenue growth of 11.9% was mainly due to volume increases of 22.6% across all products offset by lower ASP's due to higher discounts, unfavorable foreign exchange rates and a product mix shift towards distributor sales and lower priced products.

Invisalign non-case revenues, consisting of training fees and sales of ancillary products, were higher in 2012 compared to 2011 primarily due to increased sales of our Vivera product and training.

Scanner and CAD/CAM Services
Revenue from our Scanner and CAD/CAM Services segment, consisting of scanner and CAD/CAM services, increased by $15.3 million as a result of $18.2 million increase in North America revenue related to higher scanner volume from a full year of activity in 2012 compared to eight months in 2011. This is partially offset by a $2.9 million decrease in international revenue due to lower scanner volume as a result of the termination of our exclusive distribution agreement with Straumann for iTero intra-oral scanners. The financial results of Cadent have been included in this segment since the acquisition date on April 29, 2011. Fiscal Year 2011 compared to Fiscal Year 2010 Total net revenues increased $92.6 million in 2011 as a result of worldwide volume growth across all customer channels and the inclusion of our Scanner and CAD/CAM Services segment.
Geographically, both North America and International revenue increased by $102.3 million due to an 18.6% growth in case volume, favorable foreign exchange rates, and the inclusion of eight months of Scanner and CAD/CAM Service revenues.

Invisalign case volume growth was driven by both improved utilization and an increase in the number of doctors submitting cases.
Revenue from our Clear Aligner segment, consisting of our Invisalign products, increased by 16.7% as a result of additional case volumes across all products. The most significant volume percentage increases were in the Invisalign Teen and Assist products. Although Invisalign Teen case volume increased 32.4%, revenue for Invisalign Teen was comparable to the prior year primarily because of the $14.3 million release of deferred revenue in 2010. Invisalign Assist revenue growth was comprised of both an increase in case volume and additional revenue being recognized as each batch is shipped over the course of treatment instead of deferring until the final batch shipment. Additionally, Invisalign non-case revenues, consisting of training fees and sales of ancillary products, were higher in 2011 compared to 2010 primarily due to increased sales of our Vivera product.
Since date of the acquisition until the end of the 2011 fiscal year end, the Scanner and CAD/CAM services segment generated $28.1 million of revenue from sales of iTero and iOC scanners and OrthoCad Services.

Cost of net revenues and gross profit (in millions):

                                                 Years Ended December 31,
                                    2012       Change      2011       Change      2010
Clear Aligner
Cost of revenues                  $ 110.6     $  13.5    $  97.1     $  13.4    $  83.7
% of net segment revenues            21.4 %                 21.5 %                 21.6 %
Gross profit                      $ 406.0     $  51.3    $ 354.7     $  51.3    $ 303.4
Gross margin %                       78.6 %                 78.5 %                 78.4 %
Scanners and CAD/CAM Services (1)
Cost of revenues                  $  33.0     $  11.6    $  21.4     $  21.4    $     -
% of net segment revenues            75.9 %                 76.3 %                    -
Gross profit                      $  10.4     $   3.9    $   6.5     $   6.5    $     -
Gross margin %                       24.1 %                 23.7 %                    -
Total cost of revenues            $ 143.6     $  25.1    $ 118.5     $  34.8    $  83.7
. . .