FORD Forward Industries Inc

ITEM 1. FINANCIAL STATEMENTS

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1     OVERVIEW

Business

Forward Industries, Inc. (“Forward”, “we”, “our” or the “Company”) is a fully integrated design, development and manufacturing solution provider for top tier medical and technology customers worldwide. As a result of the continued expansion of our design and development capabilities through our wholly-owned subsidiaries, we are now able to introduce proprietary products to the market from concepts brought to us from a number of different sources, both inside and outside the Company.

Liquidity

For the nine months ended June 30, 2022, the Company generated a net loss of $595,000, and $1,158,000 of cash flows from operating activities. We believe our existing cash balance and working capital will be sufficient to meet our liquidity needs through at least August 31, 2023.

Impact of COVID-19

The effects of the COVID-19 pandemic continue to impact the retail and OEM distribution segments of our business. The increase in global consumer demand, coupled with the global shipping container shortage, dramatically increased demand for both ocean freight and ground transportation. These factors led to a significant increase in freight costs, particularly from the Asia-Pacific region and most notably in the second quarter of the fiscal year ending September 30, 2022 (“Fiscal 2022”). Labor shortages at U.S. ports and in ground transportation services caused container ships to spend a significant amount of time waiting for goods to be unloaded and to arrive at our warehouses. These factors caused an increase in the demand for and cost of ground transportation and delayed consumer availability for many of our products in Fiscal 2022. The timing and extent of these COVID-19 related transportation disruptions are still largely unknown but are expected to continue into Fiscal 2023.

The effects of the pandemic had a lesser impact on the design segment of our business. Rising inflation caused an increase in the cost of acquiring and maintaining our employees. The timing and extent of future inflation is difficult to predict, but we expect these rising costs to have a more significant impact in the second half of Fiscal 2022.

The effects of COVID-19 may further impact our business in ways we cannot predict, and such impacts could be significant. The current economic impact may continue to negatively impact our results of operations, cash flows and financial position in future periods as well as that of our customers, including their ability to pay for our services and to choose to allocate their budgets to new or existing projects which may or may not require our services. The long-term financial impact on our business cannot be reasonably estimated at this time. As a result, the effects of COVID-19 may not be fully reflected in our financial results until future periods.

Until the effects of the pandemic have fully receded, we expect business conditions to remain challenging. In response to these challenges, we will continue to focus on those factors that we can control: closely managing and controlling our expenses and inventory levels; aligning our design and development schedules with demand in a proactive manner to minimize our cash operating costs; pursuing further improvements in the productivity and effectiveness of our development, selling and administrative activities and, where appropriate, taking advantage of opportunities to enhance our business growth and strategy.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 2     ACCOUNTING POLICIES

Basis of Presentation

The accompanying condensed consolidated financial statements include the accounts of Forward Industries, Inc. and all of its subsidiaries: Forward Industries (IN), Inc. (“Forward US”), Forward Industries (Switzerland) GmbH (“Forward Switzerland”), Forward Industries UK Limited (“Forward UK”), Intelligent Product Solutions, Inc. (“IPS”) and Kablooe, Inc. (“Kablooe”). The terms “Forward”, “we”, “our” or the “Company” as used throughout this document are used to indicate Forward Industries, Inc. and all of its subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation.

In the opinion of management, the accompanying condensed consolidated financial statements presented in this Quarterly Report on Form 10-Q reflect all normal recurring adjustments necessary to present fairly the financial position and results of operations and cash flows for the interim periods presented herein but are not necessarily indicative of the results of operations for the year ending September 30, 2022. These condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements included in its Annual Report on Form 10-K for the fiscal year ended September 30, 2021, and with the disclosures and risk factors presented therein. The September 30, 2021 condensed consolidated balance sheet has been derived from the audited consolidated financial statements.

Accounting Estimates

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

Throughout this document, certain dollar amounts and percentages have been rounded to their approximate values.

Segment Reporting

The Company has three reportable segments: OEM distribution, retail distribution and design. The OEM distribution segment sources and distributes carrying cases and other accessories for medical monitoring and diagnostic kits and a variety of other portable electronic and non-electronic devices directly to OEMs or their contract manufacturers worldwide. The retail distribution segment sources and sells smart-enabled furniture and a variety of other products through various online retailer websites to customers predominantly located in the U.S. The design segment consists of two operating segments (IPS and Kablooe, which have been aggregated into one reportable segment) that provide a full spectrum of hardware and software product design and engineering services to customers predominantly located in the U.S. See Note 5 for more information on segments.

Accounts Receivable

Accounts receivable consist of unsecured trade accounts with customers. The Company maintains an allowance for doubtful accounts, which is recorded as a reduction to accounts receivable on the condensed consolidated balance sheets. Collectability of accounts receivable is estimated by evaluating the number of days accounts are outstanding, customer payment history, recent payment trends and perceived creditworthiness, adjusted as necessary based on specific customer situations. At June 30, 2022, September 30, 2021 and September 30, 2020, the Company had allowances for doubtful accounts of $90,000, $90,000 and $249,000, respectively, for the OEM distribution segment, $20,000, $0 and $0, respectively, for the retail distribution segment and $927,000, $706,000 and $347,000, respectively, for the design segment.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The Company has agreements with various retailers which contain different terms for trade discounts, promotional and other sales allowances. At June 30, 2022, September 30, 2021 and September 30, 2020, the Company recorded accounts receivable allowances of $84,000, $0 and $0, respectively, for the retail distribution segment.

Revenue Recognition

Distribution Segments

The Company generally recognizes revenue in its OEM and retail distribution segments when: (i) finished goods are shipped to its customers (in general, these conditions occur at either point of shipment or point of destination, depending on the terms of sale and transfer of control); (ii) there are no other deliverables or performance obligations; and (iii) there are no further obligations to the customer after the title of the goods has transferred. Revenue is measured as the amount of consideration expected to be received in exchange for the products provided, net of allowances for product returns, applicable variable consideration and any taxes collected from customers that will be remitted to governmental authorities. When the Company receives consideration before achieving the criteria previously mentioned, it records a contract liability, which is classified as a component of deferred income in the accompanying condensed consolidated balance sheets. The retail distribution segment had contract liabilities of $65,000, $0 and $75,000 at June 30, 2022, September 30, 2021 and September 30, 2020, respectively. The OEM distribution segment had no contract liabilities at June 30, 2022, September 30, 2021 or September 30, 2020.

Design Segment

The Company applies the “cost to cost” and “right to invoice” methods of revenue recognition to the contracts with customers in the design segment. The design segment typically engages in two types of contracts: (i) time and material and (ii) fixed price. The Company recognizes revenue over time on its time and material contracts utilizing a “right to invoice” method. Revenues from fixed price contracts that require performance of services that are not related to the production of tangible assets are recognized by using cost inputs to measure progress toward the completion of its performance obligations, or the “cost to cost” method. Revenues from fixed price contracts that contain specific deliverables are recognized when the performance obligation has been satisfied or the transfer of goods to the customer has been completed and accepted.

Recognized revenues that will not be billed until a later date, or contract assets, are recorded as an asset and classified as a component of accounts receivable in the accompanying condensed consolidated balance sheets. The design segment had contract assets of $833,000, $693,000 and $649,000 at June 30, 2022, September 30, 2021 and September 30, 2020, respectively. Contracts where collections to date have exceeded recognized revenues, or contract liabilities, are recorded as a liability and classified as a component of deferred income in the accompanying condensed consolidated balance sheets. The design segment had contract liabilities of $558,000, $188,000 and $410,000 at June 30, 2022, September 30, 2021 and September 30, 2020, respectively.

Goodwill 

The Company reviews goodwill for impairment at least annually, or more often if triggering events occur. The Company has two reporting units with goodwill (the IPS and Kablooe operating segments) and we perform our annual goodwill impairment test on September 30, the end of the fiscal year, or upon the occurrence of a triggering event. The Company has the option to perform a qualitative assessment to determine if an impairment is more likely than not to have occurred. If the Company can support the conclusion that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then the Company would not need to perform a quantitative impairment test for the reporting unit. If the Company cannot support such a conclusion or does not elect to perform the qualitative assessment, then the Company will perform the quantitative assessment by comparing the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value of the reporting unit exceeds its carrying value, no impairment charge is recognized. If the fair value of the reporting unit is less than its carrying value, an impairment charge will be recognized for the amount by which the reporting unit’s carrying amount exceeds its fair value. A significant amount of judgment is required in performing goodwill impairment tests including estimating the fair value of a reporting unit. Management evaluated and concluded that there were no indications goodwill was impaired at June 30, 2022.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Intangible Assets 

Intangible assets include trademarks and customer relationships, which were acquired as part of the acquisitions of IPS in Fiscal 2018 and Kablooe in Fiscal 2020 and are amortized over their estimated useful lives, which are periodically evaluated for reasonableness.

Our intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In assessing the recoverability of our intangible assets, we must make estimates and assumptions regarding future cash flows and other factors to determine the fair value of the respective assets. These estimates and assumptions could have a significant impact on whether an impairment charge is recognized and the magnitude of any such charge. Fair value estimates are made at a specific point in time, based on relevant information. These estimates are subjective in nature and involve uncertainties and matters of significant judgments and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates. If these estimates or material related assumptions change in the future, we may be required to record impairment charges related to our intangible assets. Management evaluated and concluded that there were no impairments of intangible assets at June 30, 2022.

Income Taxes

The Company recognizes future tax benefits and liabilities measured at enacted rates attributable to temporary differences between financial statement and income tax bases of assets and liabilities and to net tax operating loss carryforwards to the extent that realization of these benefits is more likely than not. At June 30, 2022, there was no change to our assessment that a full valuation allowance was required against all net deferred tax assets as it is not probable that such deferred tax assets will be realized. Accordingly, any deferred tax provision or benefit was offset by an equal and opposite change to the valuation allowance. No current book income tax provision was recorded against book net income due to the existence of significant net operating loss carryforwards.

Fair Value Measurements

We perform fair value measurements in accordance with the guidance provided by Accounting Standards Codification (“ASC”) 820, “Fair Value Measurement.” ASC 820 defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required to be recorded at their fair values, we consider the principal or most advantageous market in which we would transact and consider assumptions that market participants would use when pricing the assets or liabilities, such as inherent risk, transfer restrictions, and risk of nonperformance.

ASC 820 establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. An asset's or liability's categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. ASC 820 establishes three levels of inputs that may be used to measure fair value:

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Leases

Lease assets and liabilities are recognized at the commencement date based on the present value of lease payments over the lease term, using the Company’s incremental borrowing rate commensurate with the lease term, since the Company’s lessors do not provide an implicit rate, nor is one readily available. The Company has certain leases that may include an option to renew and when it is reasonably probable to exercise such option, the Company will include the renewal option terms in determining the lease asset and lease liability. Lease assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation to make lease payments arising from the lease. Lease expense for lease payments is recognized on a straight-line basis over the lease term. Operating lease assets are shown as right of use assets and financing lease assets are a component of property and equipment on the condensed consolidated balance sheets. The current and long-term portions of operating and financing lease liabilities are shown separately as such on the condensed consolidated balance sheets.

Reclassifications

Certain amounts in the accompanying financial statements at and for the three and nine months ended June 30, 2021 have been reclassified to conform to the current year presentation.

Recent Accounting Pronouncements

In November 2019, the Financial Accounting Standards Board (“FASB”) issued ASU 2019-11, “Codification Improvements to Topic 326, Financial Instruments – Credit Losses.” ASU 2019-11 is an accounting pronouncement that provides clarity to and amends earlier guidance on this topic and would be effective concurrently with the adoption of such earlier guidance. This pronouncement is effective for fiscal years beginning after December 15, 2022 and interim periods within those fiscal years. The Company is currently evaluating the effects of this pronouncement on its condensed consolidated financial statements.

In December 2019, the FASB issued ASU 2019-12 “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.” This guidance removes certain exceptions to the general principles in Topic 740 and provides consistent application of U.S. GAAP by clarifying and amending existing guidance. The effective date of the new guidance for public companies is for fiscal years beginning after December 15, 2020 and interim periods within those fiscal years. Early adoption is permitted. The Company adopted this guidance in the first quarter of fiscal 2022 with no material impact to its condensed consolidated financial statements.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The Company’s intangible assets resulted from the acquisitions of Kablooe and IPS in Fiscal 2020 and Fiscal 2018, respectively, and relate to the design segment of our business. Intangible assets are amortized over their expected useful lives of 15 years for the trademarks and 8 years for the customer relationships. Amortization expense related to intangible assets was $53,000 for the three months ended June 30, 2022 and 2021 and $160,000 for the nine months ended June 30, 2022 and 2021, which is included in general and administrative expenses on the condensed consolidated statements of operations.

At June 30, 2022, estimated amortization expense for the Company’s intangible assets is as follows:

Goodwill

Goodwill represents the future economic benefits of assets acquired in a business combination that are not individually identified or separately recognized. The Company’s goodwill resulted from the acquisitions of Kablooe and IPS in Fiscal 2020 and Fiscal 2018, respectively. The goodwill associated with the IPS acquisition is not deductible for tax purposes, but the goodwill associated with the Kablooe acquisition is deductible for tax purposes. All of the Company’s goodwill is held under the design segment of our business.

NOTE 4     FAIR VALUE MEASUREMENTS

The earnout consideration of $70,000 at June 30, 2022 and September 30, 2021 represents the fair value of the contingent earnout consideration related to the acquisition of Kablooe, which provides annual contingent earnout payments based on results of operations through August 2025. The fair value of the earnout liability is measured on a recurring basis at each reporting date using a Black-Scholes valuation model with inputs categorized within level three of the fair value hierarchy. The current and non-current portions of this liability are shown in the corresponding categories on the condensed consolidated balance sheets in each period presented. During the three and nine months ended June 30, 2022, there were no changes to the total fair value of this earnout liability.

NOTE 5     SEGMENTS AND CONCENTRATIONS

The Company has three reportable segments: OEM distribution, retail distribution and design. See Note 2 for more information on the composition and accounting policies of our reportable segments.

Our chief operating decision maker (“CODM”) regularly reviews revenue and operating income for each segment to assess financial results and allocate resources. In Fiscal 2021, due to the growth of our retail division, we determined it to be a separate reportable segment. For our OEM and retail distribution segments, we exclude general and administrative and general corporate expenses from their measure of profitability as these expenses are not allocated to the segments and therefore not included in the measure of profitability used by the CODM. For the design segment, general and administrative expenses directly attributable to that segment are included in its measure of profitability as these expenses are included in the measure of its profitability reviewed by the CODM. We do not include intercompany activity in our segment results shown below to be consistent with the information that is presented to the CODM. Segment assets consist of accounts receivable and inventory, which are regularly reviewed by the CODM, as well as goodwill and intangible assets resulting from design segment acquisitions.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The results of operations for the three and nine months ended June 30, 2021 for each segment discussed below have been reformatted from what was previously disclosed to segregate the retail distribution segment and exclude general corporate expenses from segment operating income to show them as a reconciling item so that results are comparable to the current period presentation.

Information by segment and related reconciliations are shown in tables below:

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The Company had certain customers in the OEM distribution segment whose individual percentage of the Company’s consolidated revenues was 10% or greater. Revenues from two customers or their affiliates or contract manufacturers represented 24.2% and 24.1%, respectively, of the Company’s consolidated net revenues for the three and nine months ended June 30, 2022. Revenues from one customer or its affiliates or contract manufacturers represented 13.7% of the Company’s consolidated net revenues for the three months ended June 30, 2021 and revenues from two customers or their affiliates or contract manufacturers represented 26.3% of the Company’s consolidated net revenues for the nine months ended June 30, 2021.

For the three and nine months ended June 30, 2022, the Company had one customer in the design segment whose individual percentage of the Company’s consolidated revenues was 10% or greater. Revenues from this customer represented 10.8% and 10.4%, respectively, of the Company’s consolidated net revenues for the three and nine months ended June 30, 2022. There were no customers in the design segment whose individual percentage of the Company’s consolidated revenues was 10% or greater during the three or nine months ended June 30, 2021.

At June 30, 2022 and September 30, 2021, the Company had customers in the OEM distribution segment whose accounts receivable balance accounted for 10% or more of the Company’s consolidated accounts receivable. Accounts receivable from three customers or their affiliates or contract manufacturers represented 40.4% and 44.0%, respectively, of the Company’s consolidated accounts receivable at June 30, 2022 and September 30, 2021.

NOTE 6     SHARE-BASED COMPENSATION

Stock Options

In October 2021, January 2022 and April 2022, the Company granted options to non-employee directors to purchase an aggregate of 58,000, 83,000 and 49,000 shares, respectively, of its common stock at an exercise price of $2.39, $1.56 and $1.72 per share, respectively. The options expire five years from the date of grant, approximately half vested immediately and approximately half vest one year from the date of grant. The options have a weighted average grant-date fair value of $1.03, $0.72 and $0.81 per share, respectively, and an aggregate grant date fair value of $60,000, $60,000 and $40,000, respectively, which will be recognized ratably over the vesting period.

In January 2022, the Company granted options to one of its employees to purchase an aggregate of 14,000 shares of its common stock at an exercise price of $1.56 per share. The options expire five years from the date of grant, approximately one-third vested immediately, approximately one-third vest one year from the date of grant and approximately one-third vest two years from the date of grant. The options have a weighted average grant-date fair value of $0.73 per share and an aggregate grant-date fair value of $10,000, which will be recognized ratably over the vesting period.

In February 2022, the Company granted options to one of its non-employee directors to purchase an aggregate of 31,000 shares of its common stock at an exercise price of $1.68 per share. The options vest one year from the date of grant and expire five years from the date of grant. The options have a weighted average grant-date fair value of $0.80 per share and an aggregate grant-date fair value of $25,000, which will be recognized ratably over the vesting period.

In February 2022, the Company granted options to one of its former non-employee directors to purchase an aggregate of 19,000 shares of its common stock at an exercise price of $1.68 per share. The options vested immediately and expire ten years from the date of grant. The options have a grant-date fair value of $1.07 per share and an aggregate grant-date fair value of $20,000, which was fully recognized on the grant date.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

There were no options exercised during the nine months ended June 30, 2022. During the nine months ended June 30, 2021, the Company issued 147,000 shares of its common stock pursuant to the exercise of stock options for aggregate cash proceeds of $234,000, which had an aggregate intrinsic value of $265,000.

The Company recognized compensation expense for stock option awards of $44,000 and $4,000 during the three months ended June 30, 2022 and 2021, respectively, and $148,000 and $66,000 during the nine months ended June 30, 2022 and 2021, respectively, which was recorded as a component of general and administrative expenses in its condensed consolidated statements of operations. At June 30, 2022, there was $51,000 of total unrecognized compensation cost related to nonvested stock option awards that is expected to be recognized over a weighted average period of 0.6 years.

NOTE 7     EARNINGS PER SHARE

Basic earnings per share data for each period presented is computed using the weighted average number of shares of common stock outstanding during each such period. Diluted earnings per share data is computed using the weighted average number of common and dilutive common equivalent shares outstanding during each period. Dilutive common-equivalent shares consist of shares that would be issued upon the exercise of stock options and warrants, computed using the treasury stock method. A reconciliation of basic and diluted earnings per share is as follows:

The following securities were excluded from the calculation of diluted earnings per share in each period because their inclusion would have been anti-dilutive:

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 8     RELATED PARTY TRANSACTIONS

Buying Agency and Supply Agreement

The Company has a Buying Agency and Supply Agreement (the “Supply Agreement”) with Forward Industries Asia-Pacific Corporation (“Forward China”). The Supply Agreement provides that, upon the terms and subject to the conditions set forth therein, Forward China will act as the Company’s exclusive buying agent and supplier of Products (as defined in the Supply Agreement) in the Asia-Pacific region.  The Company purchases products at Forward China’s cost and pays Forward China a monthly service fee equal to the sum of: (i) $100,000 and (ii) 4% of “Adjusted Gross Profit”, which is defined as the selling price less the cost from Forward China. The Supply Agreement expires October 22, 2023. Terence Wise, Chief Executive Officer and Chairman of the Company, is the owner of Forward China. In addition, Jenny P. Yu, a Managing Director of Forward China, beneficially owns more than 5% of the Company’s common stock. The Company recorded service fees to Forward China of $344,000 and $357,000 during the three months ended June 30, 2022 and 2021, respectively, and $1,056,000 and $1,040,000 during the nine months ended June 30, 2022 and 2021, respectively, which are included as a component of cost of sales upon sales of the related products.

The Company made prepayments to Forward China for inventory purchases of $20,000 and $317,000 at June 30, 2022 and September 30, 2021, respectively, which are included in prepaid expenses and other current assets on the condensed consolidated balance sheets.

Promissory Note

On January 18, 2018, the Company issued a $1,600,000 unsecured promissory note payable to Forward China to fund the acquisition of IPS. The promissory note bears an interest rate of 8% per annum and had an original maturity date of January 18, 2019. Monthly interest payments commenced on February 18, 2018, with the principal due at maturity. The Company incurred and paid interest associated with this note of $30,000 and $32,000, respectively, in the three months ended June 30, 2022 and 2021 and $93,000 and $96,000, respectively, in the nine months ended June 30, 2022 and 2021. The maturity date of this note was extended to December 31, 2023. The maturity date of this note has been extended on several occasions to assist the Company with liquidity. The Company made principal payments of $150,000 on this note during the nine months ended June 30, 2022.

Other Related Party Activity

In October 2020, the Company began selling smart-enabled furniture, which is sourced by Forward China and sold in the U.S. under the Koble brand name. The Koble brand is owned by The Justwise Group Ltd. (“JustWise”), a company owned by Terence Wise, Chief Executive Officer and Chairman of the Company. The Company recognized revenues from the sale of Koble products of $356,000 and $413,000 in the three months ended June 30, 2022 and 2021, respectively, and $1,337,000 and $752,000 in the nine months ended June 30, 2022 and 2021, respectively. The Company entered into an agreement with JustWise effective March 1, 2022, under which (i) JustWise will perform design and marketing services related to the Koble products sold by the Company and (ii) the Company was granted a license to sell Koble products. In exchange for such services, the Company will pay JustWise $10,000 per month plus 1% of the cost of Koble products purchased from Forward China. This agreement is effective until August 31, 2022, will be extended thereafter for a mutually agreed upon term and can be terminated thereafter by either party giving three months’ notice. The Company incurred costs of $33,000 and $55,000 under this agreement for the three and nine months ended June 30, 2022, respectively, of which $28,000 and $38,000, respectively, were included in selling and marketing expenses and $5,000 and $17,000 are included as a component of cost of sales upon sales of the related products.

A member of the Company’s Audit, Governance and Compensation Committees of its Board of Directors is also a member of the Board of Directors of a company to whom the Company’s OEM distribution division sold products. The Company recognized revenue of $63,000 from the sale of such products during the three and nine months ended June 30, 2021.

FORWARD INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 9     LEGAL PROCEEDINGS

From time to time, the Company may become a party to legal actions or proceedings in the ordinary course of its business. At June 30, 2022, there were no such actions or proceedings, either individually or in the aggregate, that, if decided adversely to the Company’s interests, the Company believes would be material to its operations or cash flows.

NOTE 10     LINE OF CREDIT

The Company, specifically IPS, has a $1,300,000 revolving line of credit with a bank which was renewed in February 2022. The line of credit has a maturity date of May 31, 2023, is guaranteed by the Company and is secured by all of IPS’ assets. The interest rate on the line of credit is 0.75% above The Wall Street Journal prime rate. The effective interest rate was 5.5% and 4.0% at June 30, 2022 and September 30, 2021, respectively. At June 30, 2022, the Company had $1,300,000 available under the line of credit. The Company is subject to certain debt-service ratio requirements which are measured annually. At September 30, 2021, the Company was in compliance with such covenants.

NOTE 11     DEBT

On April 18, 2020, the Company entered into a loan in an aggregate principal amount of $1,357,000 under the Paycheck Protection Program (the “PPP loan”) pursuant to the U.S. Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”). The loan was unsecured, bore interest at a rate of 1% per annum, and was scheduled to mature on April 18, 2022. In October 2020, the Company filed for forgiveness of this loan and in December 2020, the Small Business Administration (“SBA”) approved its forgiveness request. The forgiveness has been accounted for as an extinguishment of debt and the resulting gain has been recorded as forgiveness of note payable on the condensed consolidated statement of operations for the nine months ended June 30, 2021. There is a six-year period during which the SBA can review the Company’s forgiveness.

At June 30, 2022, the Company’s operating leases had a weighted average remaining lease term of 8.4 years and a weighted average discount rate of 5.7%.

At June 30, 2022, future minimum payments under non-cancellable operating leases were as follows: 

The discussion that follows below provides further details about our results of operations for the 2022 Quarter as compared to the 2021 Quarter.

Net revenues increased in the OEM and design segments and were partially offset by revenue declines in the retail segment.

Our gross profit decreased, driven by lower profit in the OEM and retail distribution divisions, partially offset by higher profit in the design segment. Gross margin declined from 21.9% in the 2021 Quarter to 18.1% in the 2022 Quarter. Higher utilization and billing rates drove design segment margins higher. However, higher importation and logistics costs drove margins down in both the OEM and retail distribution segments. Management believes there will be continued volatility in OEM and retail distribution cost of sales for the remainder of Fiscal 2022.

Sales and marketing expenses increased in the 2022 Quarter primarily due to an increase in sales related expenses in the design segment, partially offset by lower advertising costs and sales commissions related to our retail distribution segment. Sales and marketing as a percentage of revenues remained relatively flat at 6.3% in the 2022 Quarter. If revenues from the retail segment grow to comprise a larger portion of the overall business, management expects sales and marketing costs, both in total and as a percentage of revenues, to increase in future periods.

General and administrative expenses increased in the 2022 Quarter, primarily related to increases in corporate and design segment expenses. These increases were driven by higher payroll costs and higher cash and non-cash compensation for non-employee board members resulting from the cost cutting measures taken in the 2021 Quarter which were not implemented in the 2022 Quarter. Higher insurance costs accounted for a smaller portion of the increase. Management continues to monitor the various components of general and administrative expenses and how these costs are affected by inflationary and other factors. We intend to adjust these costs as needed based on the overall needs of the business.

Net other expense increased due to a decrease in interest income on a customer note receivable, partially offset by a decrease in interest expense resulting from a reduction in the amount of debt outstanding.

We generated a net loss of $419,000 and net income of $244,000 in the 2022 Quarter and 2021 Quarter, respectively. We maintain significant net operating loss carryforwards and do not recognize income tax expense or benefit as our deferred tax provision is typically offset by a full valuation allowance on our net deferred tax asset.

Consolidated basic and diluted (loss)/earnings per share were $(0.04) and $0.02 for the 2022 Quarter and the 2021 Quarter, respectively.

Segment Results

The discussion that follows below provides further details about the results of operations for each segment as compared to the prior year quarter. Due to the growth of our retail division, we determined it to be a separate reportable segment in the fourth quarter of fiscal 2021. The results of operations for the 2021 Quarter for each segment discussed below have been reformatted from what was previously disclosed to segregate the retail distribution segment and exclude general corporate expenses from segment operating income to show them as a reconciling item so that results are comparable to the current year presentation.

OEM Distribution Segment

Net revenues in the OEM distribution segment increased primarily from an increase in sales of diabetic products, partially offset by a decrease in revenues from other products. As consumer demand increases for diabetic testing products which require no carrying case, we expect diabetic product sales to represent a smaller portion of our OEM distribution revenue.

The following tables set forth revenues by product line of our OEM distribution segment customers for the periods indicated:

Diabetic Product Revenues

Our OEM distribution segment manufactures to the order of, and sells carrying cases for, blood glucose diagnostic kits directly to OEMs (or their contract manufacturers). The OEM customer or its contract manufacturer packages our carry cases “in box” as a custom accessory for the OEM’s blood glucose testing and monitoring kits, or to a lesser extent, sells them through their retail distribution channels.

Revenues from diabetic products increased in the 2022 Quarter due to shipping and other logistical delays in the 2021 Quarter which delayed recognition of revenue for some customers in the 2021 Quarter and a temporary increase in demand from one customer based on a change in product line. These increases were partially offset by a decrease in demand from another customer due to a computer chip shortage toward the end of the 2022 Quarter, which decreased demand for the related product’s carrying case, and lower overall demand from another customer. As mentioned above, management believes that revenues from diabetic customers will decline in future periods.

Revenues from diabetic products represented 86% of net revenues for the OEM distribution segment in the 2022 Quarter compared to 79% in the 2021 Quarter. The remaining revenues from our OEM distribution segment are described below.

Other Product Revenues

Our OEM distribution segment also sources and sells cases and protective solutions for a diverse array of portable electronic and non-electronic products (such as sporting and recreational products, bar code scanners, GPS location devices, tablets and firearms) on a made-to-order basis that are customized to fit the products sold by our OEM customers.

Revenues from other products decreased primarily due to lower sales volume with several existing customers. We will continue to focus on our sales and sales support teams in our continued efforts to expand and diversify our other products customer base.

Operating Income

Operating income for the OEM distribution segment decreased and operating income margin decreased from 8.1% in the 2021 Quarter to 3.7% in the 2022 Quarter, driven by lower gross margins due to a shift in the mix of revenue in each period as well as rising material and importation costs. While revenues increased overall, more revenue was generated from sales to diabetic customers, which yield a lower gross margin, while revenue from other OEM customers, which yield a higher gross margin, declined. The cost of importing all products from China has increased and both the diabetic and other OEM product lines have experienced pricing pressures from customers.

Retail Distribution Segment

Net revenues decreased in the 2022 Quarter primarily due to a reduction in sales volume of some products with one existing retailer. As the cost of products increases and inflation continues to reduce consumer spending, profitability becomes more challenging in the retail segment. We plan to focus our sales and sales support teams on efforts to match our product offerings with consumer demand, strategically increase the volume of revenue from more profitable products and expand these product offerings through additional retailer websites.

The decrease in revenues was coupled with a decrease in gross margin resulting from higher freight, storage and other logistics costs, further increasing the operating loss and operating loss margin from the prior year quarter. This was partially offset by lower sales and marketing expenses driven by lower sales commissions resulting from the decrease in revenue.

Design Segment

The increase in net revenues in the design segment was driven by an increase in projects from new and existing customers, which was partially offset by declines in revenues from certain prior year customers.

Operating income for the design segment increased, but operating income margin decreased slightly from 9.3% in the 2021 Quarter to 9.1% in 2022 Quarter. The increase in gross profit, driven by higher revenues and better utilization and billing rates, was partially offset by an increase in selling, general and administrative expenses due to higher payroll related costs.

RESULTS OF OPERATIONS FOR THE NINE MONTHS ENDED JUNE 30, 2022 COMPARED TO THE NINE MONTHS ENDED JUNE 30, 2021

The discussion that follows below provides further details about our results of operations for the 2022 Period as compared to the 2021 Period.

Net revenues increased across all segments, most notably in the design segment and to a lesser extent, in the retail and OEM distribution segments.

Our gross profit increased, primarily driven by the increase in revenues, but gross margin dropped slightly from 22.0% in the 2021 Period to 20.9% in the 2022 Period. Better utilization and higher billing rates in the design segment were mostly offset by higher importation and logistics costs, which drove OEM and retail distribution margins down. Management believes there will be continued volatility in OEM and retail distribution cost of sales for the remainder of Fiscal 2022.

Sales and marketing expenses increased in the 2022 Period primarily due to higher advertising and promotional costs coupled with sales commissions related to our retail distribution segment. Sales and marketing as a percentage of revenues increased slightly to 6.5% in the 2022 Period. If revenues from the retail segment grow to comprise a larger portion of the overall business, management expects sales and marketing costs, both in total and as a percentage of revenues, to increase in future periods.

General and administrative expenses increased in the 2022 Period, primarily related to an increase in corporate payroll costs and non-employee board members’ cash and equity compensation due to the cost cutting measures taken in the 2021 Quarter which were not implemented in the 2022 Period. Higher insurance costs and a reduction in certain foreign tax credits received for research and development activities comprised the balance of the increase. These increases were partially offset by lower bad debt expense in the design segment. Management continues to monitor the various components of general and administrative expenses and how these costs are affected by inflationary and other factors. We intend to adjust these costs as needed based on the overall needs of the business.

We reported other expense of $101,000 in the 2022 Period as compared to net other income of $1,323,000 in the 2021 Period. The variance is primarily due to the forgiveness of note payable related to the PPP loan in the 2021 Period, which did not recur in the 2022 Period. A decrease in interest income on a customer note receivable and a decrease in interest expense contributed to the balance of the change.

In the 2022 Period, we generated a net loss of $595,000. In the 2021 Period, we generated net income of $608,000, primarily resulting from the $1,357,000 forgiveness of note payable related to the PPP loan, which was not recognized as taxable income per the CARES Act. We maintain significant net operating loss carryforwards and do not recognize income tax expense or benefit as our deferred tax provision is typically offset by a full valuation allowance on our net deferred tax asset.

Consolidated basic and diluted (loss)/earnings per share were $(0.06) and $0.06 for the 2022 Period and the 2021 Period, respectively.

Segment Results

The discussion that follows below provides further details about the results of operations for each segment as compared to the prior year period. Due to the growth of our retail division, we determined it to be a separate reportable segment in the fourth quarter of fiscal 2021. The results of operations for the 2021 Period for each segment discussed below have been reformatted from what was previously disclosed to segregate the retail distribution segment and exclude general corporate expenses from segment operating income to show them as a reconciling item so that results are comparable to the current year presentation.

OEM Distribution Segment

Net revenues in the OEM distribution segment increased primarily due to higher sales of diabetic products coupled with a smaller increase in other OEM product revenue. Revenues from diabetic products increased $655,000 and revenue from other products increased $127,000. As consumer demand increases for diabetic testing products which require no carrying case, we expect diabetic product sales to represent a smaller portion of our OEM distribution revenue.

The following tables set forth revenues by product line of our OEM distribution segment customers for the periods indicated:

Diabetic Product Revenues

Our OEM distribution segment manufactures to the order of, and sells carrying cases for, blood glucose diagnostic kits directly to OEMs (or their contract manufacturers). The OEM customer or its contract manufacturer packages our carry cases “in box” as a custom accessory for the OEM’s blood glucose testing and monitoring kits, or to a lesser extent, sells them through their retail distribution channels.

Revenues from diabetic products increased in the 2022 Period due to shipping and other logistical delays in the 2021 Period which delayed recognition of revenue for some customers in the 2021 Period and a temporary increase in demand from one customer based on a change in product line. These increases were partially offset by a decrease in demand from another customer due to a computer chip shortage toward the end of the 2022 Period, which decreased demand for the related product’s carrying case, and lower overall demand from another customer. As mentioned above, management believes that revenues from diabetic customers will decline in future periods.

Revenues from diabetic products remained consistent at 85% of net revenues for the OEM distribution segment in both the 2022 Period and the 2021 Period. The remaining revenues from our OEM distribution segment are described below.

Other Product Revenues

Our OEM distribution segment also sources and sells cases and protective solutions for a diverse array of portable electronic and non-electronic products (such as sporting and recreational products, bar code scanners, GPS location devices, tablets and firearms) on a made-to-order basis that are customized to fit the products sold by our OEM customers.

Revenues from other products increased due to an increase in sales volume from existing customers, which was partially offset by declines in business from other customers. We will continue to focus on our sales and sales support teams in our continued efforts to expand and diversify our other products customer base.

Operating Income

Operating income for the OEM distribution segment decreased and operating income margin declined to 6.8% in the 2022 Period from 7.8% in the 2021 Period due to a shift in the mix of revenue and rising material and importation costs. The higher gross margins derived from other products was mostly offset by declining margins on diabetic products. The cost of importing all products from China has increased and both the diabetic and other OEM product lines have experienced pricing pressures from customers, resulting in a decrease in gross margin as compared to the prior year period. The decline in gross margin was partially mitigated by lower selling and marketing costs related to OEM sales commissions.

Retail Distribution Segment

Net revenues increased in the 2022 Period due to an increase in sales volume on some products with certain existing retailers. As the cost of products increases and inflation continues to reduce consumer spending, profitability becomes more challenging in the retail segment. We plan to focus our sales and sales support teams on efforts to match our product offerings with consumer demand, strategically increase the volume of revenue from more profitable products and expand these product offerings through additional retailer websites.

The rising cost of freight, storage and other logistics outpaced the increase in revenue, which led to a decrease in gross profit from the 2021 Period. This was further exacerbated by higher sales and marketing expenses related to sales commissions, advertising and promotional expenses to support the growth in revenue, which increased the operating loss margin from 25.8% in the 2021 Period to 33.6% in the 2022 Period.

Design Segment

The increase in net revenues in the design segment was driven by new customers and an increase in projects from certain existing customers, which was partially offset by declines in revenues from certain prior year customers.

Operating income for the design segment increased and operating income margin improved from 2.3% in the 2021 Period to 9.5% in the 2022 Period. The increase in gross profit, driven by higher revenues and better utilization and billing rates, was further enhanced by a decrease in general and administrative expenses primarily due to a reduction in bad debt expense.

LIQUIDITY AND CAPITAL RESOURCES

Our primary source of liquidity is our operations. The primary demand on our working capital has historically been (i) operating losses, (ii) repayment of debt obligations, and (iii) any increases in accounts receivable and inventories arising in the ordinary course of business. Historically, our sources of liquidity have been adequate to satisfy working capital requirements arising in the ordinary course of business. At June 30, 2022, our working capital was $5,067,000 compared to $5,587,000 at September 30, 2021.

At July 31, 2022, we had approximately $2,000,000 cash on hand and $1,300,000 available under our line of credit with a bank which matures May 31, 2023.

Forward China, our largest vendor and an entity owned by our Chairman of the Board and Chief Executive Officer, holds a $1,600,000 promissory note (the “FC Note”) issued by the Company which matures on December 31, 2023 (see Note 8 to the condensed consolidated financial statements). The balance of the FC Note was reduced to $1,450,000 after the Company made principal payments of $150,000 in Fiscal 2022. Although the FC Note has been extended on multiple occasions to assist us with our liquidity position, we plan on funding the repayment at maturity using existing cash balances and/or obtaining an additional credit facility as deemed necessary. Additionally, Forward China has extended payment terms on our outstanding payables due to them when necessary. We can provide no assurance that (i) Forward China will extend the FC Note again if we request an extension, (ii) Forward China will continue to extend payment terms when we need them, or (iii) any additional credit facility will be available on terms acceptable to us or at all.

We anticipate that our liquidity and financial resources for the 12 months following the date of this report will be adequate to manage our operating and financial requirements. If we have the opportunity to make a strategic acquisition (as we have in the past with the acquisitions of IPS and Kablooe) or an investment in a product or partnership, we may require additional capital beyond our current cash balance to fund the opportunity. If we seek to raise additional capital, there is no assurance that we will be able to raise funds on terms that are acceptable to us or at all.

Although we do not anticipate the need to purchase additional material capital assets in order to carry out our business, it may be necessary for us to purchase equipment and other capital assets in the future, depending on need.

Cash Flows

During the 2022 Period and 2021 Period, our sources and uses of cash were as follows:

Operating Activities

During the 2022 Period, cash provided by operating activities of $1,158,000 resulted from an increase in accounts payable and amounts due to Forward China of $3,064,000, an increase in accrued expenses and other liabilities of $546,000, an increase in deferred revenue of $436,000, non-cash expenses of $442,000 related to depreciation, amortization, share-based compensation and bad debt expense and the net change in other operating assets and liabilities of $74,000, partially offset by a $2,809,000 increase in inventories and a net loss of $595,000.

During the 2021 Period, cash used in operating activities of $338,000 resulted from an operating loss of $715,000, an increase in inventories of $631,000, an increase in accounts receivable of $595,000, and the net change in other operating assets and liabilities of $72,000, partially offset by an increase of $855,000 in accounts payable and amounts due to Forward China and non-cash expenses of $820,000 relating to depreciation, amortization, share-based compensation and bad debt expense.

Investing Activities

Cash used in investing activities in the 2022 Period and the 2021 Period of $140,000 and $61,000, respectively, resulted from purchases of property and equipment.

Financing Activities

In the 2022 Period, cash used in financing activities of $150,000 consisted of principal payments on the promissory note held by Forward China.

In the 2021 Period, cash used in financing activities of $921,000 consisted of net repayments of the line of credit of $1,000,000, repayments of notes payable and finance leases of $155,000, partially offset by proceeds from stock options exercised of $234,000. 

Related Party Transactions

For information on related party transactions and their financial impact, see Note 8 to the unaudited condensed consolidated financial statements contained herein.