Note 1.Nature of Business and Significant Accounting Policies



Principles of consolidation and nature of operations:  The consolidated financial statements include the accounts of The Female Health Company (FHC or the Company) and its wholly owned subsidiary, The Female Health Company – UK, and its wholly owned subsidiaries, The Female Health Company - UK, plc and The Female Health Company (M) SDN.BHD. All significant intercompany transactions and accounts have been eliminated in consolidation. Prior to the completion of the merger transaction with APP (see note 14), the Company had been a single product company engaged in the marketing, manufacture and distribution of a consumer health care product, the FC2 female condom (FC2).  The Female Health Company - UK, is the holding company of The Female Health Company - UK, plc, which is located in a 6,400 sq. ft. leased office facility located in London, England (collectively the U.K. subsidiary). The Female Health Company (M) SDN.BHD leases a 45,800 sq. ft. manufacturing facility located in Selangor D.E., Malaysia (the Malaysia subsidiary).



FC2 has been distributed in either or both commercial (private sector) and public health sector markets in 144 countries.  It is marketed to consumers through distributors, public health programs and retailers in 16 countries.



The Company's standard credit terms vary from 30 to 120 days, depending on the class of trade and customary terms within a territory, so accounts receivable is affected by the mix of purchasers within the period.  As is typical in the Company's business, extended credit terms may occasionally be offered as a sales promotion or for certain sales.  The Company has agreed to credit terms of up to 150 days with our distributor in the Republic of South Africa.  For the most recent order of 15 million units under the Brazil tender, the Company has agreed to up to 360 day credit terms with our distributor in Brazil subject to earlier payment upon receipt of payment by the distributor from the Brazilian Government.  For the past twelve months, the Company's average days’ sales outstanding was approximately 304 days. Over the past five years, the Company’s bad debt expense has been less than 0.02 percent of product sales.



Use of estimates:  The preparation of financial statements requires management to make estimates and use assumptions that affect certain reported amounts and disclosures. Significant accounting estimates include the deferred income tax valuation allowance and the value of share-based compensation. Actual results may differ from those estimates.



Cash concentration: The Company’s cash is maintained primarily in three financial institutions, located in Chicago, Illinois, London, England and Kuala Lumpur, Malaysia, respectively.



Accounts receivable and concentration of credit risk:  Accounts receivable are carried at original invoice amount less an estimate made for doubtful receivables based on a review of all outstanding amounts on a periodic basis.  The components of accounts receivable consist of the following at September 30, 2016 and 2015:





The Company has long-term trade receivables that may not be collectable within one year of the balance sheet date based on the credit terms with our Brazil distributor.



The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments on accounts receivable.  Management determines the allowance for doubtful accounts by identifying troubled accounts and by using historical experience applied to an aging of accounts.  Management also periodically evaluates individual customer receivables and considers a customer’s financial condition, credit history, and the current economic conditions.  Accounts receivable are written-off when deemed uncollectible.  The table below sets forth the components of the allowance for doubtful accounts for the years ended September 30:





Recoveries of accounts receivable previously written-off are recorded when received.  The Company’s customers are primarily large global agencies, non-government organizations, ministries of health and other governmental agencies which purchase and distribute the female condom for use in HIV/AIDS prevention and family planning programs.  In fiscal year 2016 and fiscal year 2015, our significant customers were Semina Indústria e Comércio Ltda (Semina), United Nations Population Fund (UNFPA), and the United States Agency for International Development (USAID).  In fiscal year 2014, our significant customers were UNFPA, USAID, Sekunjalo Investments Corporation (PTY) Ltd (Sekunjalo), and Azinor International Lda (Azinor).  No other single customer accounted for more than 10 percent of unit sales during those periods. 





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*  Less than 10 percent of unit sales.



Semina’s current accounts receivable balance represented 44 percent and 46 percent of current assets at September 30, 2016 and 2015, respectively.  No other single customer’s accounts receivable balance accounted for more than 10 percent of current assets at the end of those periods.  Semina’s total accounts receivable balance represented 85 percent and 71 percent of trade receivables at September 30, 2016 and 2015, respectively.



Inventory:  Inventories are valued at the lower of cost or market.  The cost is determined using the first-in, first-out (FIFO) method.  Inventories are also written down for management’s estimates of product which will not sell prior to its expiration date.  Write-downs of inventories establish a new cost basis which is not increased for future increases in the market value of inventories or changes in estimated obsolescence.



Foreign currency translation and operations: Effective October 1, 2009, the Company determined that there were significant changes in facts and circumstances, triggering an evaluation of its subsidiaries’ functional currency.  The evaluation indicated that the U.S. dollar is the currency with the most significant influence upon the subsidiaries.  Because all of the U.K. subsidiary's future sales and cash flows would be denominated in U.S. dollars following the October 2009 cessation of production of the Company’s first generation product, FC1, the U.K. subsidiary adopted the U.S. dollar as its functional currency effective October 1, 2009. As the Malaysia subsidiary is a direct and integral component of the U.K. parent’s operations, it, too, adopted the U.S. dollar as its functional currency as of October 1, 2009. The consistent use of the U.S. dollar as functional currency across the Company reduces its foreign currency risk and stabilizes its operating results. The Company recognized a foreign currency transaction loss of $147,540, a foreign currency transaction gain of $58,483, and a foreign currency transaction loss of $83,844 for the years ended September 30, 2016, 2015, and 2014, respectively. The cumulative foreign currency translation loss included in accumulated other comprehensive loss was $581,519 as of September 30, 2016 and 2015. Assets located outside of the U.S. totaled approximately $5,500,000 and $10,000,000 at September 30, 2016 and 2015, respectively.



Equipment, furniture and fixtures:  Depreciation and amortization are computed using primarily the straight-line method.  Depreciation and amortization are computed over the estimated useful lives of the respective assets which range as follows:







Depreciation on leased assets is computed over the lesser of the remaining lease term or the estimated useful lives of the assets.  Depreciation on leased assets is included with depreciation on owned assets.



Patents and trademarks:   The costs for patents and trademarks are expensed when incurred.  FC2 patents have been issued by the United States, Europe, Canada, Australia, South Africa, the People’s Republic of China, Japan, Mexico, Brazil, India and the African Regional Intellectual Property Organization (ARIPO), which includes Botswana, Gambia, Ghana, Kenya, Lesotho, Malawi, Mozambique, Namibia, Sierra Leone, Sudan, Swaziland, Tanzania, Uganda, Zambia, and Zimbabwe.  Further, the European patent for FC2 has been validated in the following countries: Austria, Belgium, Bulgaria, Switzerland, Republic of Cyprus, Czech Republic, Germany, Denmark, Estonia, Spain, Finland, France, United Kingdom, Greece, Hungary, Ireland, Italy, Luxembourg, Monaco, Netherlands, Portugal, Romania, Sweden, Slovenia, Slovakia, and Turkey.  The patents cover the key aspects of FC2, including its overall design and manufacturing process.  The patents have expiration dates in 2023 and 2024.



The Company has a registration for the trademark “FC2 Female Condom” in the United States.  Furthermore, the Company has filed applications or secured registrations in 40 countries or jurisdictions around the world to protect the various names and symbols used in marketing its Female Condoms.  In addition, the experience that has been gained through years of manufacturing its Female Condoms (FC1 and FC2) has allowed the Company to develop trade secrets and know-how, including certain proprietary production technologies, that further protect its competitive position.



Financial instruments:  The Company follows ASC Topic 820, Fair Value Measurements and Disclosures, which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. The fair value framework requires the categorization of assets and liabilities into three levels based upon the assumptions (inputs) used to price the assets or liabilities. Level 1 provides the most reliable measure of fair value, whereas Level 3 generally requires significant management judgment.



The Company currently does not have any assets or liabilities measured at fair value on a recurring or non-recurring basis. Substantially all of the Company’s cash, as well as restricted cash, are held in demand deposits with three financial institutions. The Company has no financial instruments for which the carrying value is materially different than fair value.



Research and development costs:  Research and development costs are expensed as incurred. The amount of costs expensed for the years ended September 30, 2016, 2015, and 2014 were $99,393,  $219,815, and $5,575, respectively.



Restricted cash:  Restricted cash relates to security provided to one of the Company’s U.K. banks for performance bonds issued in favor of customers. The Company has a facility of $250,000 for such performance bonds.  Such security has been extended infrequently and only on occasions where it has been a contract term expressly stipulated as an absolute requirement by the customer or its provider of funds. The expiration of the bond is defined by the completion of the event such as, but not limited to, a period of time after the product has been distributed or expiration of the product shelf life.  Restricted cash was $134,443 and $85,697 for the years ended September 30, 2016 and 2015, respectively, and is included in cash on the accompanying balance sheets.



Revenue recognition:  The Company recognizes revenue from product sales when each of the following conditions has been met: an arrangement exists, delivery has occurred, there is a fixed price, and collectability is reasonably assured. 



Share-based compensation: The Company accounts for stock-based compensation expense for equity awards exchanged for services over the vesting period based on the grant-date fair value. In many instances, the equity awards are issued upon the grant date subject to vesting periods. In certain instances, the equity awards provide for future issuance contingent on future continued employment or performance of services as of the issuance date.



Advertising:  The Company's policy is to expense advertising costs as incurred. Advertising costs were $88,866,  $0, and $58,121 for the years ended September 30, 2016, 2015, and 2014, respectively. 



Income taxes:  The Company files separate income tax returns for its foreign subsidiaries. ASC Topic 740 requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns.  Under this method, deferred tax assets and liabilities are determined based on the differences between the financial statements and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Deferred tax assets are also provided for carryforwards for income tax purposes. In addition, the amount of any future tax benefits is reduced by a valuation allowance to the extent such benefits are not expected to be realized.



Earnings per share (EPS):  Basic EPS is computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted EPS is computed by dividing net income by the weighted average number of common shares outstanding during the period after giving effect to all dilutive potential common shares that were outstanding during the period. Dilutive potential common shares consist of the incremental common shares issuable upon the exercise of stock options and unvested shares granted to employees and directors.

 

Other comprehensive income:  Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income.  Although certain changes in assets and liabilities, such as foreign currency translation adjustments, are reported as a separate component of the equity section of the accompanying consolidated balance sheets, these items, along with net income, are components of comprehensive income.



The U.S. parent company and its U.K. subsidiary routinely purchase inventory produced by its Malaysia subsidiary for sale to their respective customers. These intercompany trade accounts are eliminated in consolidation. The Company’s policy and intent is to settle the intercompany trade account on a current basis.  Since the U.K. and Malaysia subsidiaries adopted the U.S. dollar as their functional currencies effective October 1, 2009, no foreign currency gains or losses from intercompany trade are recognized.  In fiscal 2016, 2015, and 2014, comprehensive income is equivalent to the reported net income.    



Recently issued accounting pronouncements:  In November 2015, the Financial Accounting Standards Board (FASB) issued ASU 2015-17, Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes.  The amendments in this Update require that deferred tax liabilities and assets be classified as non-current in a classified statement of financial position.  Current accounting principles require an entity to separate deferred income tax liabilities and assets into current and non-current amounts in a classified statement of financial position.  ASU 2015-17 will be effective for the Company beginning on October 1, 2017. 



In May 2014, the FASB issued ASU 2014-09 “Revenue from Contracts with Customers” (Topic 606).  This new accounting guidance on revenue recognition provides for a single five-step model to be applied to all revenue contracts with customers.  The new standard also requires additional financial statement disclosures that will enable users to understand the nature, amount, timing and uncertainty of revenue and cash flows relating to customer contracts.  ASU 2014-09 will be effective for the Company beginning on October 1, 2018.  We are currently evaluating the impact of the new guidance on our consolidated financial statements and have not yet selected a transition approach to implement the standard.



In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory.  This new accounting guidance more clearly articulates the requirements for the measurement and disclosure of inventory.  Topic 330, Inventory, currently requires an entity to measure inventory at the lower of cost or market.  Market could be replacement cost, net realizable value, or net realizable value less an approximately normal profit margin.  This new accounting guidance requires the measurement of inventory at the lower of cost or net realizable value.  ASU 2015-11 will be effective for the Company beginning on October 1, 2017.  The adoption of this guidance is not expected to have a material impact on our consolidated financial statements.



In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842).  The amendments in this Update increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements.  ASU 2016-02 will be effective for the Company beginning on October 1, 2019.  We are currently evaluating the impact of the new guidance on our consolidated financial statements and have not yet selected a transition approach to implement the standard.



In March 2016, the FASB issued ASU 2016-09, Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.  The amendments in this Update simplify the income tax effects, minimum statutory tax withholding requirements and impact of forfeitures related to how share-based payments are accounted for and presented in the financial statements.  ASU 2016-09 will be effective for the Company beginning on October 1, 2017.  We are currently evaluating the impact of the new guidance on our consolidated financial statements and have not yet selected a transition approach to implement the standard.