Quarterly report pursuant to Section 13 or 15(d)

Note 3 - Fair Value Measurements

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Note 3 - Fair Value Measurements
 9 Months Ended
Jun. 30, 2024
Notes to Financial Statements  
Fair Value Disclosures [Text Block]

Note 3 – Fair Value Measurements

 

ASC 820 specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect market assumptions. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3 measurement).

 

The three levels of the fair value hierarchy are as follows:

 

Level 1 – Quoted prices for identical instruments in active markets.

 

Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.

 

Level 3 – Instruments with primarily unobservable value drivers.

 

As of June 30, 2024 and September 30, 2023, the Company’s financial liabilities measured at fair value on a recurring basis, which consisted of embedded derivatives, were classified within Level 3 of the fair value hierarchy.

 

The following table provides a reconciliation of the beginning and ending liability balance associated with embedded derivatives measured at fair value using significant unobservable inputs (Level 3) as of June 30, 2024 and 2023:

 

   

Nine Months Ended

  
   

June 30,

  
   

2024

    

2023

  
                 

Beginning balance

   $ 1,331,000     $ 4,294,000  

Change in fair value of derivative liabilities

     (102,000 )     (2,319,000 )

Ending balance

   $ 1,229,000     $ 1,975,000  

 

The gain associated with the change in fair value of the embedded derivatives is included as a separate line item on the accompanying unaudited condensed consolidated statements of operations.

 

The liabilities associated with embedded derivatives represent the fair value of the change of control provision in the Residual Royalty Agreement. See Note 8 for additional information. There is no current observable market for these types of derivatives. The Company estimates the fair value of the embedded derivative within the Residual Royalty Agreement by using a scenario-based method, whereby different scenarios are valued and probability weighted. The scenario-based valuation model incorporates transaction details such as the contractual terms of the instrument and assumptions including projected FC2 revenues, expected cash outflows, probability and estimated dates of a change of control, risk-free interest rates and applicable credit risk. A significant increase in projected FC2 revenues or a significant increase in the probability or acceleration of the timing of a change of control event, in isolation, would result in a significantly higher fair value measurement of the liability associated with the embedded derivative.

 

The following tables present quantitative information about the inputs and valuation methodologies used to determine the fair value of the embedded derivatives classified in Level 3 of the fair value hierarchy as of June 30, 2024 and September 30, 2023:

 

Valuation Methodology

  

Significant Unobservable Input

  

June 30, 2024

    

September 30, 2023

  
                     

Scenario-Based

  

Estimated change of control dates

  

March 2025 to March 2027

    

December 2024 to December 2026

  
   

Discount rate

     18.7% to 20.3%       14.1% to 15.1%  
   

Probability of change of control

     20% to 90%       20% to 90%  

 

The Company also has an investment in equity securities consisting of the BWV Preferred Stock. The BWV Preferred Stock was received on October 3, 2023 as a settlement of the receivable due on September 30, 2023 related to the sale of ENTADFI. See Note 15 for additional information. The Company has elected to measure the BWV Preferred Stock at fair value in accordance with ASC 825. The investment in the BWV Preferred Stock is classified within Level 3 of the fair value hierarchy because there is no market for the BWV Preferred Stock and the fair value is determined using significant unobservable inputs. The fair value of the BWV Preferred Stock has been determined using a probability-weighted bond plus call option model, which incorporates the stock price of BWV on the valuation date, expected volatility, expected term, and an applicable discount rate. The Company has also applied a discount for lack of marketability due to the fact that there is no market for the preferred stock and a probability of dissolution. The following table summarizes the significant unobservable inputs used in the bond plus call model as of October 3, 2023 (the date the shares of BWV Preferred Stock were received and initially recognized) and as of June 30, 2024:

 

Significant Unobservable Input

  

October 3, 2023

    

June 30, 2024

  
                 

Expected volatility

     79 %     88 %

Expected term (in years)

     3.0       2.3  

Discount rate

     35 %     35 %

Probability of dissolution

     60 %     85 %

Discount for lack of marketability

     15 %     13 %

 

Estimating the fair value of the shares of BWV Preferred Stock requires the use of estimates and judgments. Changes in estimates and judgments could result in a significant change in estimate of the fair value and future adjustments.

 

The following table provides a reconciliation of the beginning and ending balance associated with the BWV Preferred Stock measured at fair value for the nine months ended June 30, 2024, which is presented as investments in equity securities on the accompanying unaudited condensed consolidated balance sheet:

 

   

Nine Months Ended

  
   

June 30,

  
   

2024

    

2023

  
                 

Beginning balance

   $ —     $ —  

Additions

     918,372       —  

Change in fair value of equity securities

     (689,548 )     —  

Ending balance

   $ 228,824     $ —