U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(MARK ONE)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2003
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE EXCHANGE ACT
For the transition period from __________ to ____________
Commission File Number 1-13602
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THE FEMALE HEALTH COMPANY
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(Exact Name of Small Business Issuer as Specified in Its Charter)
Wisconsin 39-1144397
--------------------------- -----------------------------
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
515 N. State Street, Suite 2225, Chicago, IL 60610
-------------------------------------------- -----
(Address of Principal Executive Offices) (Zip Code)
(312) 595-9123
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(Issuer's Telephone Number, Including Area Code)
Not applicable
-----------------------------------------------
(Former Name, Former Address and Former Fiscal Year,
If Changed Since Last Report)
Check whether the issuer: (1) has filed all reports required to be filed by
Section 13 or 15 (d) of the Exchange Act during the past 12 months (or for such
shorter period that the issuer was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days.
YES X NO
--- ---
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practical date:
Common Stock, $.01 Par Value - 19,226,901 shares outstanding
as of May 12, 2003
Transitional Small Business Disclosure Format (check one):
YES NO X
--- ---
FORM 10-QSB
THE FEMALE HEALTH COMPANY AND SUBSIDIARIES
INDEX
PART I. FINANCIAL INFORMATION AND MANAGEMENT'S
DISCUSSION AND ANALYSIS: PAGE
----
Cautionary Statement Regarding Forward Looking
Statements . . . . . . . . . . . . . . . . . . . . . . . 3
Unaudited Condensed Consolidated Balance Sheet -
March 31, 2003 . . . . . . . . . . . . . . . . . . 4
Unaudited Condensed Consolidated
Statements of Operations -
Three Months Ended March 31, 2003
and March 31, 2002 . . . . . . . . . . . . . . . . 5
Unaudited Condensed Consolidated
Statements of Operations -
Six Months Ended March 31, 2003
and March 31, 2002 . . . . . . . . . . . . . . . . 6
Unaudited Condensed Consolidated
Statements of Cash Flows -
Six Months Ended March 31, 2003
and March 31, 2002 . . . . . . . . . . . . . . . . 7
Notes to Unaudited Condensed Consolidated
Financial Statements . . . . . . . . . . . . . . . . . 8
Management's Discussion and Analysis . . . . . . . . . 17
Controls and Procedures . . . . . . . . . . . . . . . . . 26
PART II. OTHER INFORMATION
Items 1 - 5 . . . . . . . . . . . . . . . . . . . . . . . 27
Exhibits and Reports on Form 8-K . . . . . . . . . . 28
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . 29
CERTIFICATIONS . . . . . . . . . . . . . . . . . . . . . . 30
2
CAUTIONARY STATEMENT REGARDING
FORWARD LOOKING STATEMENTS
Certain statements included in this quarterly report on Form 10-QSB which are
not statements of historical fact are intended to be, and are hereby identified
as, "forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. The Company cautions readers that forward-looking
statements involve known and unknown risks, uncertainties and other factors that
may cause the actual results, performance or achievements of the Company to be
materially different from any future results, performance or achievement
expressed or implied by such forward-looking statements. Such factors include,
among others, the following: the Company's inability to secure adequate capital
to fund operating losses, working capital requirements, advertising and
promotional expenditures and principal and interest payments on debt
obligations; factors related to increased competition from existing and new
competitors including new product introduction, price reduction and increased
spending on marketing; limitations on the Company's opportunities to enter into
and/or renew agreements with international partners, the failure of the Company
or its partners to successfully market, sell, and deliver its product in
international markets, and risks inherent in doing business on an international
level, such as laws governing medical devices that differ from those in the
U.S., unexpected changes in the regulatory requirements, political risks, export
restrictions, tariffs, and other trade barriers, and fluctuations in currency
exchange rates; the disruption of production at the Company's manufacturing
facility due to raw material shortages, labor shortages, and/or physical damage
to the Company's facilities; the Company's inability to manage its growth and to
adapt its administrative, operational and financial control systems to the needs
of the expanded entity and the failure of management to anticipate, respond to
and manage changing business conditions; the loss of the services of executive
officers and other key employees and the Company's continued ability to attract
and retain highly-skilled and qualified personnel; the costs and other effects
of litigation, governmental investigations, legal and administrative cases and
proceedings, settlements and investigations; and developments or assertions by
or against the Company relating to intellectual property rights.
3
THE FEMALE HEALTH COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEET
March 31,
2003
------------
ASSETS
Current Assets:
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 473,235
Restricted cash. . . . . . . . . . . . . . . . . . . . . . . . . 113,688
Accounts receivable, net . . . . . . . . . . . . . . . . . . . . 1,512,926
Inventories. . . . . . . . . . . . . . . . . . . . . . . . . . . 1,314,309
Prepaid expenses and other current assets. . . . . . . . . . . . 331,677
-------------
TOTAL CURRENT ASSETS. . . . . . . . . . . . . . . . . . . . . . . . 3,745,835
-------------
Certificate of deposit. . . . . . . . . . . . . . . . . . . . . . . 94,313
Intellectual property rights, net . . . . . . . . . . . . . . . . . 331,837
Other assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . 158,432
-------------
584,582
-------------
PROPERTY, PLANT AND EQUIPMENT . . . . . . . . . . . . . . . . . . . 4,104,097
Less accumulated depreciation and amortization. . . . . . . . . . . (3,542,435)
-------------
Net property, plant, and equipment . . . . . . . . . . . . . . . . 561,662
-------------
TOTAL ASSETS. . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 4,892,079
=============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Note payable, related party, net of unamortized discount . . . . $ 737,744
Accounts payable . . . . . . . . . . . . . . . . . . . . . . . . 412,138
Accrued expenses and other current liabilities . . . . . . . . . 635,706
Current maturities of obligations under capital leases . . . . . 24,682
Preferred dividends payable. . . . . . . . . . . . . . . . . . . 7,008
-------------
TOTAL CURRENT LIABILITIES . . . . . . . . . . . . . . . . . . . . . 1,817,278
-------------
Note payable, bank, net of unamortized discount. . . . . . . . . 1,121,245
Obligations under capital leases . . . . . . . . . . . . . . . . 40,872
Deferred gain on sale of facility. . . . . . . . . . . . . . . . 1,236,680
-------------
TOTAL LIABILITIES . . . . . . . . . . . . . . . . . . . . . . . . . 2,398,797
-------------
STOCKHOLDERS' EQUITY:
Convertible preferred stock. . . . . . . . . . . . . . . . . . . 560
Common stock . . . . . . . . . . . . . . . . . . . . . . . . . . 192,270
Additional paid-in-capital . . . . . . . . . . . . . . . . . . . 55,991,668
Unearned consulting compensation . . . . . . . . . . . . . . . . (168,540)
Deferred compensation. . . . . . . . . . . . . . . . . . . . . . (257,377)
Accumulated deficit. . . . . . . . . . . . . . . . . . . . . . . (55,305,287)
Accumulated other comprehensive income . . . . . . . . . . . . . 254,786
Treasury stock, at cost. . . . . . . . . . . . . . . . . . . . . (32,076)
-------------
TOTAL STOCKHOLDERS' EQUITY. . . . . . . . . . . . . . . . . . . . . 676,004
-------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY. . . . . . . . . . . . . $ 4,892,079
=============
See notes to unaudited condensed consolidated financial statements.
4
THE FEMALE HEALTH COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended
March 31,
--------------------------
2003 2002
------------ ------------
Net revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,684,293 $ 2,260,298
Cost of products sold. . . . . . . . . . . . . . . . . . . . . . . . 1,090,256 1,264,044
------------ ------------
Gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . 594,037 996,524
------------ ------------
Advertising & promotion. . . . . . . . . . . . . . . . . . . . . . . 7,035 10,134
Selling, general and administrative. . . . . . . . . . . . . . . . . 1,025,765 681,112
Stock compensation . . . . . . . . . . . . . . . . . . . . . . . . . 192,141 64,546
------------ ------------
Total operating expenses . . . . . . . . . . . . . . . . . . . . . . 1,224,941 755,792
------------ ------------
Operating income (loss) . . . . . . . . . . . . . . . . . . . . . . (630,904) 240,462
Interest, net and other expense. . . . . . . . . . . . . . . . . . . 265,204 222,380
------------ ------------
Net income(loss) . . . . . . . . . . . . . . . . . . . . . . . . . . (896,108) 18,082
Preferred dividends, Series 1. . . . . . . . . . . . . . . . . . . . 2,761 32,553
------------ ------------
Net (loss) attributable to common stockholders . . . . . . . . . . . $ (898,869) $ (14,471)
============ ============
Net (loss) per common share outstanding. . . . . . . . . . . . . . . $ (0.05) $ (0.00)
Weighted average common shares outstanding . . . . . . . . . . . . . 19,200,034 16,003,165
See notes to unaudited condensed consolidated financial statements.
5
THE FEMALE HEALTH COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Six Months Ended
March 31,
--------------------------
2003 2002
------------ ------------
Net revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,928,233 $ 3,930,469
Cost of products sold. . . . . . . . . . . . . . . . . . . . . . . . 2,355,555 2,316,725
------------ ------------
Gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,572,678 1,613,744
------------ ------------
Advertising & promotion. . . . . . . . . . . . . . . . . . . . . . . 22,973 21,075
Selling, general and administrative. . . . . . . . . . . . . . . . . 1,899,388 1,434,830
Stock compensation . . . . . . . . . . . . . . . . . . . . . . . . . 516,114 84,154
------------ ------------
Total operating expenses . . . . . . . . . . . . . . . . . . . . . . 2,438,475 1,540,059
------------ ------------
Operating income (loss) . . . . . . . . . . . . . . . . . . . . . . (865,797) 73,685
Interest, net and other expense. . . . . . . . . . . . . . . . . . . 513,798 411,893
------------ ------------
Net income(loss) . . . . . . . . . . . . . . . . . . . . . . . . . . (1,379,595) (338,208)
Preferred dividends, Series 1. . . . . . . . . . . . . . . . . . . . 5,809 65,824
------------ ------------
Net (loss) attributable to common stockholders . . . . . . . . . . . $(1,385,404) $ (404,032)
============ ============
Net (loss) per common share outstanding. . . . . . . . . . . . . . . $ (0.07) $ (0.03)
Weighted average common shares outstanding . . . . . . . . . . . . . 18,751,585 15,934,252
See notes to unaudited condensed consolidated financial statements.
6
THE FEMALE HEALTH COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Six Months Ended
March 31,
2003 2002
---------- ----------
OPERATIONS:
Net (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $(1,379,595) $(338,208)
Adjustment for noncash items:
Depreciation and amortization . . . . . . . . . . . . . . . . . . . . . . 249,074 259,795
Interest added to certificate of deposit. . . . . . . . . . . . . . . . . (2,313) (2,758)
Amortization of discounts on notes payable. . . . . . . . . . . . . . . . 344,794 257,011
Amortization of unearned consulting fees. . . . . . . . . . . . . . . . . 175,474 84,154
Common stock issued for bonuses . . . . . . . . . . . . . . . . . . . . . 128,700 ---
Stock compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . 340,640 ---
Changes in operating assets and liabilities . . . . . . . . . . . . . . . 341,591 (537,754)
---------- ----------
Net cash provided by (used in) operating activities. . . . . . . . . . . . 198,365 (277,760)
---------- ----------
INVESTING ACTIVITIES:
Decrease in restricted cash. . . . . . . . . . . . . . . . . . . . . . . . 68,687 ---
Capital expenditures . . . . . . . . . . . . . . . . . . . . . . . . . . . (34,351) (30,747)
---------- ----------
Net cash provided by (used in)investing activities . . . . . . . . . . . . 34,336 (30,747)
---------- ----------
FINANCING ACTIVITIES:
Proceeds from note payable, bank . . . . . . . . . . . . . . . . . . . . . - 500,000
Dividends paid on preferred stock. . . . . . . . . . . . . . . . . . . . . (103,197) (95,816)
Payments on capital lease obligations. . . . . . . . . . . . . . . . . . . (12,343) -
Proceeds from issuance of common stock . . . . . . . . . . . . . . . . . . - 60,000
---------- ----------
Net cash (used in) provided by financing activities. . . . . . . . . . . . (115,540) 464,184
---------- ----------
Effect of exchange rate changes on cash. . . . . . . . . . . . . . . . . . (21,234) (12,095)
---------- ----------
INCREASE IN CASH . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 95,927 143,582
Cash at beginning of period. . . . . . . . . . . . . . . . . . . . . . . . 377,308 406,766
---------- ----------
CASH AT END OF PERIOD. . . . . . . . . . . . . . . . . . . . . . . . . . . $ 473,235 $ 550,348
========== ==========
Schedule of noncash financing and investing activities:
Common stock issued for payment of preferred stock dividends
and convertible debenture interest. . . . . . . . . . . . . . . . . . . . $ 40,777 $ 60,925
Common stock issued for conversion of convertible debentures . . . . . . . 450,000 -
Preferred dividends declared, Series 1 . . . . . . . . . . . . . . . . . . 5,809 65,824
Issuance of warrants on notes payable and credit facility. . . . . . . . . 265,700 681,137
See notes to unaudited condensed consolidated financial statements.
7
THE FEMALE HEALTH COMPANY AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - Basis of Presentation
-----------------------
The accompanying financial statements are unaudited but in the opinion of
management contain all the adjustments (consisting of those of a normal
recurring nature) considered necessary to present fairly the financial position
and the results of operations and cash flow for the periods presented in
conformity with generally accepted accounting principles for interim financial
information and the instructions to Form 10-QSB and Article 10 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements.
Operating results for the six months ended March 31, 2003 are not necessarily
indicative of the results that may be expected for the fiscal year ending
September 30, 2003. For further information, refer to the consolidated financial
statements and footnotes thereto included in the Company's annual report on Form
10-KSB for the fiscal year ended September 30, 2002.
Principles of consolidation and nature of operations:
----------------------------------------------------------
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries, The Female Health Company - UK and The Female
Health Company - UK, plc. All significant intercompany transactions and accounts
have been eliminated in consolidation. The Female Health Company ("FHC" or the
"Company") is currently engaged in the marketing, manufacture and distribution
of a consumer health care product known as the female condom, "FC," in the U.S.
and "femidom", "femy" and "the female condom" outside the U.S. The Female Health
Company - UK, is the holding company of The Female Health Company - UK, plc,
which operates a 40,000 sq. ft. leased manufacturing facility located in London,
England.
Stock-Based compensation:
-------------------------
The Company accounts for its stock-based compensation plans under the
recognition and measurement principles of APB Opinion No. 25, Accounting for
Stock Issued to Employees, and related interpretations. The following table
illustrates the effect on net income and earnings per share if the Company had
applied the fair value recognition provisions of FASB Statement No. 123,
Accounting for Stock-Based Compensation, to stock-based employee compensation.
Six Months Ended March 31
----------------------------
2003 2002
---------- -----------
Net loss, as reported . . . . . . . . . . . . . $(1,385,404) $(404,032)
Deduct: Total stock-based employee
compensation expense determined under
fair value based method for all awards,
net of related tax effects . . . . . . . . . . (356) (23,766)
------------ ----------
Pro forma net loss. . . . . . . . . . . . . . . $(1,385,760) $(427,798)
============ ==========
Loss per share:
As reported . . . . . . . . . . . . . . . . $ (0.07) $ (0.03)
============ ==========
Pro forma . . . . . . . . . . . . . . . . . $ (0.07) $ (0.03)
============ ==========
8
NOTE 1 - Basis of Presentation - (Continued)
-------------------------------------
New accounting pronouncements:
-------------------------------
On November 2002, the Financial Accounting Standards Board (FASB) issued FASB
Interpretation (FIN) No. 45, Guarantor's Accounting and Disclosure Requirements
for Guarantees, Including Indirect Guarantees of Indebtedness to Others. FIN 45
elaborates on the disclosures to be made by a guarantor in its interim and
annual financial statements about its obligations under certain guarantees that
it has issued. It also clarifies that a guarantor is required to recognize, at
the inception of certain guarantee contracts, a liability for the fair value of
the obligation undertaken in issuing the guarantee. FIN 45 also incorporates,
without change, the guidance in FIN 34, Disclosure of Indirect Guarantees of
Indebtedness of Others, which is being superseded. FIN 45 is effective for
financial statements issued for fiscal years ending after December 15, 2002.
FIN 45 has no effect on the Company's financial statements.
In December 2002, the Financial Accounting Standards Board (FASB) issued FASB
Interpretation (FIN) No. 46, Consolidation of Variable Interest Entities. FIN 46
establishes standards for identifying a variable interest entity and for
determining under what circumstances a variable interest entity should be
consolidated with its primary beneficiary, including those to which the usual
condition of consolidation does not apply. FIN 46 applies immediately to
variable interest entities created after January 31, 2003 and applies to
existing variable interest entities in the first fiscal year or interim period
beginning after June 15, 2003. Management does not anticipate that the adoption
of FIN 46 will have a significant effect on the Company's financial statements.
Reclassification:
----------------
Certain items in the financial statements for the three and six months ended
March 31, 2002 have been reclassified to be consistent with the presentation
shown for the three and six months ended March 31, 2003.
NOTE 2 - Earnings Per Share
--------------------
Earnings per share (EPS): Basic EPS is computed by dividing income available to
-------------------------
common stockholders by the weighted average number of common shares outstanding
for the period. Diluted EPS is computed 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 conversion of
convertible preferred or convertible debt and the exercise of stock options and
warrants for all periods. Fully diluted (loss) per share is not presented since
the effect would be anti-dilutive.
NOTE 3 - Comprehensive Income (Loss)
-----------------------------
Total Comprehensive Loss was $(939,969) and $(1,355,211) for the three and six
months ended March 31, 2003 and $(26,938) and $(389,178) for the three and six
months ended March 31, 2002.
9
NOTE 4 - Inventories
-----------
The components of inventory consist of the following:
March 31, 2003
--------------
Raw Material and work in process $ 632,825
Finished goods . . . . . . . . . 686,952
---------------
Inventory, gross . . . . . . . . 1,319,777
Less: inventory reserves . . . . (5,468)
---------------
Inventory, net . . . . . . . . . $ 1,314,309
===============
NOTE 5 - Financial Condition
--------------------
The Company's consolidated financial statements have been prepared on a going
concern basis which contemplates the realization of assets and the settlement of
liabilities and commitments in the normal course of business. The Company
incurred a net loss of $1.4 million for the six months ended March 31, 2003 and
as of March 31, 2003 had an accumulated deficit of $55.3 million. At March 31,
2003, the Company had working capital of $1.9 million and stockholders' equity
of $0.7 million. In the near term, the Company expects operating and capital
costs to on occasion exceed funds generated from operations due principally to
the Company's manufacturing costs relative to current production volumes and the
ongoing need to commercialize the Female Condom around the world. As a result,
operations in the near future are expected to continue to use working capital.
Management recognizes that the Company's continued operations may depend on its
ability to raise additional capital through a combination of equity or debt
financing, strategic alliances and increased sales volumes.
At various points during the developmental stage of the product, the Company was
able to secure resources, in large part through the sale of equity and debt
securities, to satisfy its funding requirements. As a result, the Company was
able to obtain FDA approval, worldwide rights, manufacturing facilities and
equipment and to commercially launch the Female Condom.
10
NOTE 5- Financial Condition - (Continued)
--------------------------------------
Management believes that developments, including the Company's agreement with
the UNAIDS, a joint United Nations program on HIV/AIDS, and various distribution
partners in major countries, provide an indication of the Company's success in
broadening awareness and distribution of the Female Condom and may benefit
future efforts to raise additional capital and to secure additional agreements
to promote and distribute the Female Condom throughout other parts of the world.
On May 18, 2001, the Company entered into an agreement with Heartland Bank
providing for a $2,000,000 credit facility. The unpaid balances on the credit
facility are due May 18, 2004 and bear interest payable at a rate of 10% per
year. The agreement contains certain covenants which include restrictions on
distributions and on the issuance of warrants, which the Company was in
violation of at March 31, 2003. Under the terms of the agreement, Heartland Bank
would have had the right to demand payment of the entire balance of the credit
facility as a result of this violation. On May 14, 2003, the Company obtained a
waiver from Heartland Bank of its right to demand payment of the credit facility
as a result of the violation through the entire fiscal year ending September 30,
2003. The Company may borrow under the credit facility from time to time subject
to a number of conditions, including obtaining personal guarantees of 125% of
the amount outstanding under the credit facility. As of March 31, 2003 the
Company had paid down $100,000 of the $2,000,000 borrowed under the credit
facility. The credit facility is recorded at March 31, 2003, net of unamortized
discount of $1,121,245.
On June 1, 2001 the Company issued an aggregate of $200,000 of convertible
debentures to two accredited investors. The debentures were due May 30, 2004,
bore interest payable at a rate of 10% per annum, and were convertible into the
Company's common stock based on a price equal to $0.50 per share. The Company
did not issue warrants in connection with the issuance of the convertible
debentures. On December 5, 2002, the investors converted their debentures into
an aggregate of 400,000 shares of the Company's common stock.
On March 30, 2001 the Company issued a $250,000 convertible debenture to one
accredited investor. The debenture was due March 30, 2004, bore interest payable
at a rate of 12% per annum, and was convertible into the Company's common stock
based on a price equal to $0.50 per share. The Company did not issue warrants in
connection with the issuance of the convertible debenture. On January 12, 2003,
the investor converted his debenture into 500,000 shares of the Company's common
stock.
11
NOTE 5 - Financial Condition - (Continued)
--------------------------------------
While the Company believes that its existing capital resources will be adequate
to fund its currently anticipated capital needs, if they are not, the Company
may need to raise additional capital until its sales increase sufficiently to
cover operating expenses.
Until internally generated funds are sufficient to meet cash requirements, FHC
will remain dependent upon its ability to generate sufficient capital from
outside sources. While management believes that revenue from sales of the Female
Condom will eventually exceed operating costs and that ultimately operations
will generate sufficient funds to meet capital requirements, there can be no
assurance that such level of operations will ultimately be achieved, or be
achieved in the near term. Likewise, there can be no assurance that the Company
will be able to source all or any portion of its required capital through the
sale of debt or equity or, if raised, the amount will be sufficient to operate
the Company until sales of the Female Condom generate sufficient revenues to
fund operations. In addition, any funds raised may be costly to the Company
and/or dilutive to stockholders. If the Company is not able to source the
required funds or any future capital which becomes required, the Company may be
forced to sell certain of its assets or rights or cease operations.
NOTE 6 - Stock Compensation
-------------------
In September 2001, the holders of exercisable stock options waived their rights
to exercise their options until the Company amended its articles of
incorporation to increase the number of shares of common stock authorized for
issuance. To obtain this waiver, the Company agreed to re-price these options at
$0.56 per share once the amendment was approved. The Company's common stock was
trading at less than $0.56 per share when the waivers were obtained. The total
number of options that were waived at September 30, 2001, was 2,659,800.
On May 8, 2002, the shareholders approved an amendment to the Amended and
Restated Articles of Incorporation to increase the total number of authorized
shares of common stock from 27,000,000 to 35,500,000 shares. Since the amendment
was approved, the stock options have been re-priced to $0.56 per share. The
Company has accounted for all of these stock options in accordance with variable
plan accounting guidance provided in APB No. 25 and related interpretations. The
reduction in the exercise price of the re-priced options and the increase in the
stock price of the Company's common stock as of September 30, 2002 resulted in
$1,720,322 of stock compensation expense due to the repricing for the year ended
September 30, 2002.
12
NOTE 6 - Stock Compensation - (Continued)
-----------------------------------
Effective September 2002, the holders of outstanding options to purchase a total
of 2,365,980 shares of common stock agreed to exchange their options for:
- a total of 469,000 shares of restricted common stock in the case of U.S.
option holders or the right to receive a total of 122,495 shares of
deferred common stock in September 2003 in the case of U.K. option holders;
and
- the right to receive a grant of new options to purchase a total of
2,365,980 shares of common stock on the first business day that is at least
six months and one day after the effective date of the exchange.
The shares of restricted common stock and the right to receive the shares of
deferred common stock are subject to forfeiture if the participant voluntarily
resigns or is terminated for cause on or before September 26, 2003 and may not
be transferred on or before September 26, 2003. As of September 30, 2002, the
Company had issued the restricted common stock to U.S. option holders and
accrued for the issuance of deferred common stock to U.K. option holders. The
restricted and deferred shares have been recorded as deferred compensation
within stockholders' equity as of September 30, 2002, and will be amortized over
the employees' one-year service periods.
The new options will have an exercise price equal to 100% of the fair market
value of the common stock on the grant date and a vesting schedule of 1/36 per
month for each of the first 36 months after the date of grant. The new options,
when granted, will be accounted for in accordance with fixed plan accounting
guidance provided in APB No. 25. Options to purchase a total of 320,000 shares
of common stock did not participate in the exchange. As of March 31, 2003 10,000
of the 320,000 share total were still outstanding and will continue to be
accounted for in accordance with variable plan accounting guidance.
13
NOTE 7. PREFERRED STOCK
----------------
During September 2002, the Company offered the holders of the outstanding 8
percent cumulative convertible preferred stock (Series 1) the right to convert
their shares of Series 1 Preferred Stock into shares of common stock based on a
price of $1.80 per share. This resulted in a conversion rate of approximately
1.39 shares of common stock per share of Series 1 Preferred Stock rather than
the 1 to 1 conversion rate set forth in the Company's Articles of Incorporation.
As of March 31, 2003, a total of 604,000 shares of Series 1 Preferred Stock were
converted into a total of 838,799 shares of common stock.
The Company has 56,000 outstanding shares of Series 1 Preferred Stock. Each
share of Series 1 Preferred Stock is convertible into one share of the Company's
common stock on or after August 1, 1998. Annual preferred stock dividends will
be paid if and as declared by the Company's Board of Directors. No dividends or
other distributions will be payable on the Company's common stock unless
dividends are paid in full on the Series 1 Preferred Stock. The Series 1
Preferred Stock may be redeemed at the option of FHC, in whole or in part, on or
after August 1, 2000, subject to certain conditions, at $2.50 per share plus
accrued and unpaid dividends. In the event of a liquidation or dissolution of
the Company, the Series 1 Preferred Stock would have priority over the Company's
common stock.
14
NOTE 8 - Industry Segments And Financial Information About Foreign and
-------------------------------------------------------------------
Domestic Operations
--------------------
The Company currently operates primarily in one industry segment which includes
the development, manufacture and marketing of consumer health care products.
The Company operates in foreign and domestic regions. Information about the
Company's operations by geographic area is as follows:
(Amounts in Thousands)
Net Sales to
External Customers
For the Long-Term Assets
Six months ended as of
March 31, March 31,
2003 2002 2003 2002
------ ------ ------ ------
United States. . . . . . . . . . . . . .$ 1,268 $1,562 $ 137 $ 145
Brazil . . . . . . . . . . . . . . . . . * 546 - -
France . . . . . . . . . . . . . . . . . 326 *
Kenya. . . . . . . . . . . . . . . . . . 269 * - -
Nigeria. . . . . . . . . . . . . . . . . 250 * - -
South Africa . . . . . . . . . . . . . . 436 378
United Kingdom . . . . . . . . . . . . . * * 1,009 1,327
Zimbabwe . . . . . . . . . . . . . . . . 406 542 - -
Other. . . . . . . . . . . . . . . . . . 973 902 - -
------ ------ ------ ------
$3,928 $3,930 $1,146 $1,472
* Less than 5 percent of total net sales
NOTE 9 - Contingent Liabilities
-----------------------
The testing, manufacturing and marketing of consumer products by the Company
entail an inherent risk that product liability claims will be asserted against
the Company. The Company maintains product liability insurance coverage for
claims arising from the use of its products. The coverage amount is currently
$5,000,000 for FHC's consumer health care product.
15
Note 10. Accounting Change and Acquired Intangible Asset
----------------------------------------------------
The Company adopted SFAS 142, Goodwill and Other Intangible Assets, effective
October 1, 2002. At the date of adoption, the Company reassessed the estimated
useful lives of its definite life intangible assets, and found the previously
determined lives to be appropriate. The following is a summary of acquired
intangible assets at March 31, 2003:
Gross Carrying Accumulated
Amount Amortization
-------------- -------------
Subject to amortization:
Patents. . . . . . . . $1,123,214 $ 791,377
Amortization expense recognized on all amortizable intangible assets totaled
$58,549 and $52,839 for the six months ended March 31, 2003 and 2002,
respectively.
Estimated aggregate amortization expenses for each of the next five years is as
follows:
Year ending September 30:
2003 $ 58,549
2004 117,078
2005 117,078
2006 39,132
--------
$331,837
========
16
THE FEMALE HEALTH COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
GENERAL
The Female Health Company ("FHC" or the "Company") manufactures, markets and
sells the female condom, the only FDA-approved product under a woman's control
which can prevent unintended pregnancy and sexually transmitted diseases
("STDs"), including HIV/AIDS.
The female condom has undergone extensive testing for efficacy, safety and
acceptability, not only in the United States but also in many countries around
the world. Certain of these studies show that having the female condom
available allows women to have more options, resulting in an increase in
protected sex acts and a decrease in STDs, including HIV/AIDS.
The product is currently sold or available in various venues including
commercial (private sector) and public sector clinics in over 100 countries. It
is commercially marketed in 21 countries by various FHC country specific
partners, including the United States, United Kingdom, Japan, Canada, Holland,
France, Venezuela, and Brazil.
As noted above, the female condom is sold to the global public sector. In the
U.S., the product is marketed to city and state public health clinics as well as
not-for-profit organizations such as Planned Parenthood. The product is
available to developing countries under the umbrella of an agreement with
UNAIDS. This agreement facilitates the availability and distribution of the
female condom at a reduced price based on the Company's cost of production. The
current price per unit is approximately 0.38 (Pounds), or approximately $0.60.
Currently 87 developing countries purchase the female condom under the terms of
this agreement.
Product
The female condom is made of polyurethane, a thin but strong material which is
resistant to rips and tears during use. The female condom consists of a soft,
loose fitting sheath and two flexible O rings. One of the rings is used to
insert the device and helps to hold it in place. The other ring remains outside
the vagina after insertion. The female condom lines the vagina, preventing skin
from touching skin during intercourse. The female condom is pre-lubricated and
disposable and is intended for use during only one sex act.
Raw Materials
Polyurethane is the principal raw material the Company uses to produce the
female condom. The Company has entered into a supply agreement with Deerfield
Urethane, Inc. for the purchase of all of the Company's requirements of
polyurethane. Under this agreement, the parties negotiate pricing on an annual
basis. The original term of the agreement extended to December 31, 1995 and
thereafter automatically renews for additional one year periods unless either
party gives at least 12 months prior written notice of termination.
17
Global Market Potential
It is more than twenty years since the first clinical evidence of AIDS was
noted. HIV/AIDS is the most devastating pandemic that humankind has faced in
recorded history. UNAIDS and the World Health Organization ("WHO") estimate that
more than 60 million people have been infected with the virus and that, at the
end of 2002, 44 million people globally were living with HIV. Women now comprise
the majority of the new cases. AIDS is not the only sexually transmitted disease
that the global public health community is battling. In the United States, the
Centers for Disease Control and Prevention noted that one in five Americans over
the age of 12 has Herpes and 1 in every 3 sexually active people will get an STD
by age 24.
Currently there are only two products that prevent the transmission of HIV/AIDS
through sexual intercourse --the latex male condom and the female condom.
Male Condom Market: It is estimated the global annual market for male condoms is
close to 5 billion units. However, the majority of all acts of sexual
intercourse, excluding those intended to result in pregnancy, are completed
without protection. As a result, it is estimated the potential market for
barrier contraceptives is much larger than the identified male condom market.
Advantages Versus the Male Condom
The female condom is currently the only available barrier contraceptive method
controlled by women which allows them to protect themselves from unintended
pregnancy and STDs, including HIV/AIDS. The most important advantage is that
using the female condom, a woman has a prevention method she controls as many
men do not like to wear male condoms and may refuse to do so.
The polyurethane material that is used for the female condom offers a number of
benefits over latex, the material that is most commonly used in male condoms.
Polyurethane is much stronger than latex, reducing the probability that the
female condom sheath will tear during use. Unlike latex, polyurethane quickly
transfers heat, so the female condom immediately warms to body temperature when
it is inserted, which may result in increased pleasure and sensation during use.
The product offers an additional benefit to the 7% to 20% of the population that
is allergic to latex and who, as a result, may be irritated by latex male
condoms. To the Company's knowledge, there is no reported allergy to date to
polyurethane. The female condom is also more convenient, providing the option
of insertion hours before sexual arousal and as a result is less disruptive
during sexual intimacy than the male condom which requires sexual arousal for
application.
Cost Effectiveness
Various studies have been reported in the literature on the cost-effectiveness
of the female condom. The studies show that making the female condom available
is highly cost effective in reducing public health costs in developing countries
as well as in the U.S. Further studies show that including the female condom in
prevention programs to high risk groups is not only cost-effective but
cost-saving.
18
Worldwide Regulatory Approvals
The female condom received Pre-Market Approval ("PMA") as a Class III Medical
Device from the U.S. Food and Drug Administration ("FDA") in 1993. The
extensive clinical testing and scientific data required for FDA approval laid
the foundation for approvals throughout the rest of the world, including receipt
of a CE Mark in 1997 which allows the Company to market the female condom
throughout the European Union ("EU"). In addition to the United States and the
EU, several other countries have approved the female condom for sale, including
Canada, Russia, Australia, Japan, South Korea and Taiwan.
The Company believes that the female condom's PMA and FDA classification as a
Class III Medical Device create a significant barrier to entry. The Company
estimates that it would take a minimum of four to six years to implement,
execute and receive FDA approval of a PMA to market another type of female
condom.
The Company believes there are no material issues or material costs associated
with the Company's compliance with environmental laws related to the manufacture
and distribution of the female condom.
Strategy
The Company's strategy is to act as a manufacturer, selling the female condom to
the global public sector, United States public sector and commercial partners
for country-specific marketing. The public sector and commercial partners assume
the cost of shipping and marketing the product. As a result, as volume
increases, the Company's operating expenses will not increase significantly.
The Company recently announced that it has filed a patent on a second generation
female condom (FC2). If safety studies are successful, the Company anticipates a
meaningful reduction in cost to manufacture FC2.
Commercial Markets
The Company markets the product directly in the United Kingdom. The Company has
distribution agreements with commercial partners in 17 countries including the
United States, Japan, Canada, Brazil, Venezuela, Denmark, Holland and France,
and signed a non-binding memorandum of understanding with Hindustan Latex
Limited in India. The agreements are generally exclusive for a single country.
Under these agreements, each partner markets and distributes the female condom
in a single country and the Company manufactures the female condom and sells the
product to the partner for distribution in that country.
Relationships and Agreements with Public Sector Organizations
Currently, it is estimated more than 1.5 billion male condoms are distributed
worldwide by the public sector each year. The female condom is seen as an
important addition to prevention strategies by the public sector because studies
show that the availability of the female condom decreases the amount of
unprotected sex by as much as 25% over male condoms alone.
19
The Company has an agreement with UNAIDS to supply the female condom to
developing countries at a reduced price which is negotiated each year based on
the Company's cost of production. The current price per unit is approximately
0.38 (pounds), or approximately $0.60. Under the agreement, UNAIDS and the
Company cooperate in education efforts and marketing the female condom in
developing countries. Sales of the female condom are made directly to public
health authorities in each country at the price established by the agreement
with UNAIDS. The term of the agreement currently expires on December 31, 2003,
but automatically renews for additional one-year periods unless either party
gives at least 90 days prior written notice of termination. The female condom is
available in 87 countries through public sector distribution. Twenty-seven
countries have significant programs and are using The Female Condom - the Guide
To Programming and Planning, published by UNAIDS and WHO with the Company's
input. This is up from eight countries the previous year.
In the United States, the product is marketed to city and state public health
clinics, as well as not-for-profit organizations such as Planned Parenthood.
State-of-the-Art Manufacturing Facility
The Company manufactures the female condom in a 40,000 square-foot leased
facility in London, England. The facility is currently capable of producing 60
million units per year. With additional equipment, this capacity can be
significantly increased.
Government Regulation
In the U.S., the female condom is regulated by the FDA. Pursuant to section
515(a)(3) of the Safe Medical Amendments Act of 1990 (the "SMA Act"), the FDA
may temporarily suspend approval and initiate withdrawal of the PMA if the FDA
finds that the female condom is unsafe or ineffective, or on the basis of new
information with respect to the device, which, when evaluated together with
information available at the time of approval, indicates a lack of reasonable
assurance that the device is safe or effective under the conditions of use
prescribed, recommended or suggested in the labeling. Failure to comply with
the conditions of FDA approval invalidates the approval order. Commercial
distribution of a device that is not in compliance with these conditions is a
violation of the SMA Act.
Competition
The Company's female condom participates in the same market as male condoms but
is not seen as directly competing with male condoms. Rather, the Company
believes that providing the female condom is additive in terms of prevention and
choice. Latex male condoms cost less and have brand names that are more widely
recognized than the female condom. In addition, male condoms are generally
manufactured and marketed by companies with significantly greater financial
resources than the Company. It is also possible that other parties may develop
a female condom. These competing products could be manufactured, marketed and
sold by companies with significantly greater financial resources than those of
the Company.
20
Patents and Trademarks
The Company currently holds product and technology patents in the United States,
Japan, the United Kingdom, France, Italy, Germany, Spain, the European Patent
Convention, Canada, The People's Republic of China, Brazil, South Korea and
Australia. Additional technology patents are pending in Japan. The patents cover
the key aspects of the female condom, including its overall design and
manufacturing process. The Company has the registered trademark "FC Female
Condom" in the United States. The Company has also secured, or applied for, 12
trademarks in 22 countries to protect the various names and symbols used in
marketing the product around the world. These include 'femidom', 'femy' and
others. In addition, the experience that has been gained through years of
manufacturing the female condom has allowed the Company to develop trade secrets
and know-how, including certain proprietary production technologies that further
secure its competitive position.
RESULTS OF OPERATIONS
-----------------------
THREE MONTHS ENDED MARCH 31, 2003 COMPARED TO THREE MONTHS ENDED MARCH 31, 2002
The Company had net revenues of $1,684,293 and a net loss attributable to common
stockholders of $(898,869) or $(0.05) per share for the three months ended March
31, 2003 compared to net revenues of $2,260,298 and a net loss attributable to
common stockholders of $(14,471) or $(0.00) per share for the three months ended
March 31, 2002.
Gross profit decreased $402,487, or 40%, to $594,037 for the three months ended
March 31, 2003 from $996,524 for the three months ended March 31, 2002. The
decrease was a result of declining net revenues combined with a less than
proportionate decrease in cost of products sold. Gross profit as a percentage of
net revenues decreased to 35% for the three months ended March 31, 2003 compared
to 44% for the three months ended March 31, 2002.
Net revenues decreased $576,005 in the current quarter, or 25%, compared with
the same period last year. The lower sales occurred because of lower unit sales
shipped to global and domestic public sector customers. Overall, unit sales in
the current quarter decreased 28% from the same period last year.
The results for the second fiscal quarter of 2003 reflect a significant
quarterly variation due to the timing and shipment of large orders and not any
fundamental change in the business. Units shipped to date and orders in house
for the third fiscal quarter 2003 may result in record revenues for the quarter.
The Company routinely notes the potential for such quarter to quarter variations
in its press releases and SEC filings.
21
Cost of products sold decreased $173,788 to $1,090,256 in the current quarter
from $1,264,044 for the same period last year. The cost of products sold
decrease of 14% on a 25% sales decrease resulted in a increase in costs of
products sold as a percentage of sales to 65% in the current quarter from 56%
during the same period in the prior year. Higher indirect production,
distribution and research and development costs for the current quarter compared
to the same period last year. Higher employment and maintenance costs were the
primary factors causing the rise in indirect production costs. The higher
research and development cost related to efforts to develop a second generation
product.
Advertising and promotional expenditures decreased $3,099 to $7,035 in the
current quarter from $10,134 for the same period in the prior year.
Selling, general and administrative expenses increased $344,653, or 51%, to
$1,025,765 in the current quarter from $681,112 for the same period last year.
As a percentage of net revenues, selling, general and administrative expenses
increased to 60% for the three months ended March 31, 2003 from 30% for the
three months ended March 31, 2002. Increases in outside legal, accounting and
consulting costs as well as $128,700 fiscal year 2002 non-cash bonus provided to
senior management were the primary factors for the quarterly increase. The
additional legal fees were largely related to services related to the
development of the second generation product. The rise in accounting costs stems
from research provided primarily related to employee stock option plans. The
bonuses were approved by the board of director's compensation committee on
February 12, 2003.
Non-cash stock compensation costs increased $127,595 to $192,141 for the current
quarter compared to $64,546 for the same period last year. Deferred compensation
costs and an increase in compensation provided to outside investor relation
consultants for the three months ended March 31, 2003 compared to the three
months ended March 31, 2002 resulted in the increase.
Net interest and other expenses increased $42,824 to $265,204 for the current
period from $222,380 for the same period last year. The increase occurred
primarily because the Company had a larger amount of non-cash expenses incurred
from the amortization of discounts on notes payable and credit facility
than the second quarter of the prior year.
SIX MONTHS ENDED MARCH 31, 2003 COMPARED TO SIX MONTHS ENDED MARCH 31, 2002
The Company had net revenues of $3,928,233 and a net loss attributable to common
stockholders of $(1,385,404) or $(0.07) per share for the six months ended March
31, 2003 compared to net revenues of $3,930,469 and a net loss attributable to
common stockholders of $(404,032) or $(0.03) per share for the six months ended
March 31, 2002.
Gross profit decreased $41,066, or 3%, to $1,572,678 for the six months ended
March 31, 2003 from $1,613,744 for the six months ended March 31, 2002. The
decrease was a result of slightly declining net revenues combined with a 2%
increase in cost of products sold. Gross profit as a percentage of net revenues
decreased to 40% for the six months ended March 31, 2003 compared to 41% for the
six months ended March 31, 2002.
Net revenues for the six months ended March 31, 2003 decreased $2,236 compared
with the same period last year. The lower sales occurred because of lower unit
sales shipped to domestic public sector offset by an increase in global public
sector shipments. Overall unit sales for the six months ended March 31, 2003
decreased 2% compared to the same period last year.
22
Cost of products sold increased $38,830, to $2,355,555 for the six months ended
March 31, 2003 from $2,316,725 for the same period last year. The cost of
products sold increase of 2% resulted from a increase in costs of products sold
as a percentage of sales to 60% in the first six months of the 2003 fiscal year
compared to 59% during the same period in the prior year. The adverse variance
resulted from an increase in indirect production and research and development
costs between the current and prior fiscal years. Higher employment and
maintenance costs were the primary factors for the rise in indirect production.
The higher research and development cost related to efforts to develop a second
generation product.
Advertising and promotional expenditures increased $1,898 to $22,973 in the
current quarter from $21,075 for the same period in the prior year.
Selling, general and administrative expenses increased $464,558, or 32%, to
$1,899,388 for the six months ended March 31, 2003 from $1,434,830 for the same
period last year. As a percentage of net revenues, selling, general and
administrative expenses increased to 48% for the six months ended March 31, 2003
from 37% for the six months ended March 31, 2002. Increases in UK rates,
insurance, outside legal, accounting and consulting costs as well as a $128,700
fiscal year 2002 non-cash bonus provided to senior management were the primary
causes for the 32% increase. The higher rates were due to a combination of a
rent increase effective in fiscal 2003 and a rent rebate which was experienced
within the first six months of the 2002 fiscal year. The additional legal fees
were largely related to services related to the development of the second
generation product. The rise in accounting costs stems from research provided
primarily related to employee stock option plans. The bonuses were approved by
the board of director's compensation committee on February 12, 2003.
Non-cash stock compensation costs increased $431,960 to $516,114 for the six
months ended March 31, 2003 compared to $84,154 for the same period last year.
Deferred compensation costs and an increase in compensation provided to outside
investor relation consultants for the six months ended March 31, 2003 compared
to the six months ended March 31, 2002 resulted in the increase.
Net interest and other expenses increased $101,905, or 25%, to $513,798 for the
six months ended March 31, 2003 from $411,893 for the same period last year. The
increase occurred primarily because the Company had a larger amount of non-cash
expenses incurred from the amortization of discounts on notes payable and credit
facilty than the first two quarters of the prior year.
Despite the less than favorable financial results experienced in the second
quarter of fiscal year 2003, the Company has been able to operate without any
cash infusion and has experienced a positive cash flow from operations
throughout the current fiscal year.
Factors That May Affect Operating Results and Financial Condition
The Company's future operating results and financial condition are dependent on
the Company's ability to increase demand for and to cost-effectively manufacture
sufficient quantities of the female condom. Inherent in this process is a number
of factors that the Company must successfully manage in order to achieve
favorable future results and improve its financial condition.
Reliance on a Single Product
The Company expects to derive the vast majority, if not all, of its future
revenues from the female condom, its sole current product. While management
believes the global potential for the female condom is significant, the product
is in the early stages of commercialization and, as a result, the ultimate level
of consumer demand around the world is not yet known. To date, sales of the
female condom have not been sufficient to cover the Company's operating costs,
on an annual basis.
23
Distribution Network
The Company's strategy is to act as a manufacturer and to develop a global
distribution network for the product by completing partnership arrangements with
companies with the necessary marketing and financial resources and local market
expertise. To date, this strategy has resulted in numerous in-country
distributions in the public sector, particularly in Africa, Latin America and
recently in India. Several partnership agreements have been completed for the
commercialization of the female condom in private sector markets around the
world. However, the Company is dependent on country governments as well as city
and state public health departments within the United States to continue their
commitment to prevention of STDs, including AIDS, by including female condoms in
their programs. The Company is also dependent on finding appropriate partners
for the private sector markets around the world. Once an agreement is completed,
the Company is reliant on the effectiveness of its partners to market and
distribute the product. Failure by the Company's partners to successfully market
and distribute the female condom or failure of country governments to implement
prevention programs which include distribution of barrier methods against the
AIDS crisis, or an inability of the Company to secure additional agreements for
AIDS crisis, or an inability of the Company to secure additional agreements for
new markets either in the public or private sectors could adversely affect the
Company's financial condition and results of operations.
As part of this strategy the Company has entered into two agreements in the year
ended September 30, 2002.
On November 29, 2001, the Company signed a non-binding memorandum of
understanding with Hindustan Latex Limited ("HLL"), an Indian government
Organization and India's largest male condom manufacturer. HLL distributes to
public sector customers including government and non-government organizations
and to consumers through 160,000 retail outlets. Jointly with HLL a marketing
strategy will be developed for the country of India. Over time, the Company
anticipates that HLL and the Company will explore manufacturing options within
India.
On December 18, 2001, the Company announced the appointment of Total Access
Group ("TAG") as the exclusive distributor for public sector sales within a 15
state region in the western United States. TAG is a privately held national
distributor to the United States public sector and serves over 2,500 customers,
which include state and local health departments, community based organizations,
HIV/STD prevention organizations, Planned Parenthood clinics and family planning
organizations. TAG is a full service distributor and will provide marketing,
education and customer service support. TAG is required to purchase 2,190,000
units within a three year period to retain exclusive distribution rights.
Inventory and Supply
All of the key components for the manufacture of the female condom are
essentially available from either multiple sources or multiple locations within
a source.
24
Global Market and Foreign Currency Risks
The Company manufactures the female condom in a leased facility located in
London, England. Further, a material portion of the Company's sales are in
foreign markets. Manufacturing costs and sales to foreign markets are subject to
normal currency risks associated with changes in the exchange rate of foreign
currencies relative to the United States dollar. To date, the Company's
management has not deemed it necessary to utilize currency hedging strategies to
manage its currency risks. On an ongoing basis, management continues to
evaluate its commercial transactions and is prepared to employ currency hedging
strategies when it believes such strategies are appropriate. In addition, some
of the Company's future international sales may be in developing nations where
dramatic political or economic changes are possible. Such factors may adversely
affect the Company's results of operations and financial condition.
Government Regulation
The female condom is subject to regulation by the FDA, pursuant to the federal
Food, Drug and Cosmetic Act (the "FDC Act"), and by other state and foreign
regulatory agencies. Under the FDC Act, medical devices must receive FDA
clearance before they can be sold. FDA regulations also require the Company to
adhere to certain "Good Manufacturing Practices," which include testing, quality
control and documentation procedures. The Company's compliance with applicable
regulatory requirements is monitored through periodic inspections by the FDA.
The failure to comply with applicable regulations may result in fines, delays or
suspensions of clearances, seizures or recalls of products, operating
restrictions, withdrawal of FDA approval and criminal prosecutions. The
Company's operating results and financial condition could be materially
adversely affected in the event of a withdrawal of approval from the FDA.
Liquidity and Sources of Capital
Historically, the Company had incurred cash operating losses relating to
expenses incurred to develop and promote the Female Condom. During the six
months ended March 31, 2003, cash provided by operations totaled $0.2 million.
The Company was able to fund capital expenditures, and payments of preferred
stock dividends and capital lease obligations during the six months ended March
31, 2003 without any debt or equity financing.
At March 31, 2003, the Company had current liabilities of $1.8 million including
a $1.0 million note payable due March 25, 2004 to Mr. Dearholt, a Director of
the Company. As of March 31, 2003, Mr. Dearholt beneficially owns 4,735,305
shares of the Company's Common Stock.
On January 15, 2003, the Company entered into a line of credit agreement with
Heartland Bank. The line of credit facility allows the Company to borrow up to
$1,000,000 in $100,000 increments and matures on December 1, 2004. Interest is
due monthly at the prime rate plus 1 percent (prime was 4.25 percent on January
15, 2003) and it is collateralized by the Company's inventory and letter of
credit backed by accounts receivables.
In the near term, the Company's management expects from time to time operating
and capital costs may exceed funds generated from operations, due principally to
the Company's fixed manufacturing costs relative to current production volumes
and the ongoing need to commercialize the Female Condom around the world. For
the first six months of fiscal year 2003 the Company's had a positive cash flow
from operations.
25
While the Company believes that revenue from sales of the female condom will
eventually exceed operating costs, and that, ultimately, operations will
generate sufficient funds to meet capital requirements, the Company can make no
assurance that it will achieve such level of operations in the near term or at
all. Likewise, the Company can make no assurance that the Company will be able
to source all or any portion of its required capital through the sale of debt or
equity or, if raised, the amount will be sufficient to operate until sales of
the female condom generate sufficient revenues to fund operations. In addition,
any funds raised may be costly to the Company and/or dilutive to its
shareholders. If the Company is unable to raise adequate financing when needed,
the Company may be required to sharply curtail the Company's efforts to promote
the female condom, to attempt to sell certain of its assets and rights or to
curtail certain of its operations and may ultimately be forced to cease
operations. Currently, the Company is focused on growing its business and,
therefore, the Company has made no plans to sell any assets nor has it
identified any assets to be sold or potential buyers. In the event that the
Company lacks sufficient capital to continue its operations, neither the Company
nor its shareholders may be able to realize any significant value from the
Company's assets.
IMPACT OF INFLATION AND CHANGING PRICES
Although the Company cannot accurately determine the precise effect of
inflation, the Company has experienced increased costs of product, supplies,
salaries and benefits, and increased selling, general and administrative
expenses. Historically, the Company has absorbed increased costs and expenses
without increasing selling prices.
CONTROLS AND PROCEDURES
Within 90 days prior to the date of this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and the Company's
Principal Accounting Officer, of the effectiveness of the design and operation
of the Company's disclosure controls and procedures. Based on this evaluation,
the Company's Chief Executive Officer and Principal Accounting Officer concluded
that the Company's disclosure controls and procedures were effective in timely
alerting them to material information relating to the Company required to be
included in the Company's periodic filings with the Securities and Exchange
Commission. It should be noted that in designing and evaluating the disclosure
controls and procedures, management recognized that any controls and procedures,
no matter how well designed and operated, can provide only reasonable assurance
of achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating the cost-benefit relationship of
possible controls and procedures.
There have been no significant changes in the Company's internal controls or in
other factors that could significantly affect the internal controls subsequent
to the date the Company completed its evaluation.
26
PART II - OTHER INFORMATION
---------------------------
ITEMS 1-5
----------
ITEM 2 (C)
------------
The Company held an Annual Meeting of its shareholders on March 27, 2003. At the
meeting, shareholders were asked to approve an amendment to the Company's
Articles of Incorporation to increase the number of shares of the Company's
Common Stock authorized from 35,500,000 to 38,500,000, to elect O.B. Parrish,
Mary Ann Leeper, Ph.D., William R. Gargiulo, Jr., Stephen M. Dearholt, David R.
Bethune, Michael R. Walton, James R. Kerber, and Richard E. Wenninger to the
Board of Directors to serve until the 2004 Annual Meeting, and to ratify the
appointment of McGladery & Pullen LLP as the Company's independent public
accountants for the fiscal year ending September 30, 2003. The results of the
shareholder voting are listed below:
Matter Voted On: For Against Withheld Abstentions
--------------- ---------- ------- -------- -----------
Increase authorized common stock from
35,500,000 shares to 38,500,000 shares . . . . 14,739,928 938,614 16,775
O.B. Parrish. . . . . . . . . . . . . . . . . . 15,589,371 105,946
William R. Gargiulo,Jr. . . . . . . . . . . . . 15,588,271 107,046
Mary Ann Leeper Ph.D. . . . . . . . . . . . . . 15,589,371 105,946
Stephen M. Dearholt . . . . . . . . . . . . . . 15,588,491 106,826
David R. Bethune. . . . . . . . . . . . . . . . 15,588,371 106,946
Michael R. Walton . . . . . . . . . . . . . . . 15,583,491 111,826
Richard E. Wenninger. . . . . . . . . . . . . . 15,583,491 111,826
James R. Kerber . . . . . . . . . . . . . . . . 15,583,491 111,826
Ratification of Independent Public Accountants. 15,602,924 82,493 9,900
On March 30, 2001 the Company issued a $250,000 convertible debenture to one
accredited investor. The debenture was due March 30, 2004, bore interest payable
at a rate of 12% per annum, and was convertible into the Company's common stock
based at a price per share of the Company's common stock of $0.50 per share. The
Company did not issue warrants in connection with the issuance of the
convertible debenture. On January 12, 2003, the investor converted his debenture
into 500,000 shares of the Company's common stock.
The Company believes it has satisfied the exemption from the securities
registration requirement provided by section 3(a)(9) of the Securities Act for
the conversion.
27
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
-------------------------------------------------
(a) Exhibits
Exhibit
Number Description
------- -----------
3.1 Amended and Restated Articles of Incorporation. (1)
3.2 Articles of Amendment to the Amended and Restated Articles of
Incorporation of the Company increasing the number of authorized
shares of common stock to 27,000,000 shares (2)
3.3 Articles of Amendment to the Amended and Restated Articles of
Incorporation of the Company increasing the number of authorized
shares of common stock to 35,500,000 shares (3)
3.4 Articles of Amendment to the Amended and Restated Articles of
Incorporation of the Company increasing the number of authorized
shares of common stock to 38,500,000 shares
3.5 Amended and Restated By-Laws. (4)
4.1 Amended and Restated Articles of Incorporation. (same as Exhibit 3.1)
4.2 Articles of Amendment to the Amended and Restated Articles of
Incorporation of the Company (same as Exhibit 3.2)
4.3 Articles of Amendment to the Amended and Restated Articles of
Incorporation of the Company increasing the number of authorized
shares of common stock to 35,500,000 shares (same as Exhibit 3.3)
4.4 Articles of Amendment to the Amended and Restated Articles of
Incorporation of the Company increasing the number of authorized
shares of common stock to 38,500,000 shares (same as Exhibit 3.4)
4.5 Articles II, VII, and XI of the Amended and Restated By-Laws (included
in Exhibit 3.4).
_____________________________
(1) Incorporated herein by reference to the Company's Registration
Statement on Form SB-2, filed with the Securities and Exchange
Commission on October 19, 1999.
(2) Incorporated by reference to the Company's Registration Statement
on Form SB-2, filed with the Securities and Exchange Commission
on September 21, 2000.
(3) Incorporated by reference to the Company's Registration Statement
on Form SB-2, filed with the Securities and Exchange Commission
on September 6, 2002.
(4) Incorporated herein by reference to the Company's Registration
Statement on Form S-18, as filed with the securities and Exchange
Commission on May 25, 1999.
(b) Report on Form 8-K - No reports on Form 8-K were filed during the
quarter ended March 31, 2003.
28
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
THE FEMALE HEALTH COMPANY
DATE: May 15, 2003 /s/ O.B. Parrish
-----------------------------
O.B. Parrish, Chairman and
Chief Executive Officer
DATE: May 15, 2003 /s/ Robert R. Zic
------------------------------
Robert R. Zic, Principal
Accounting Officer (Principal
Financial Officer)
29
CERTIFICATIONS
--------------
I, O.B. Parrish, Chairman and Chief Executive Officer of The Female Health
Company, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of The Female
Health Company;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in
this quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
DATE: May 15, 2003 /s/ O.B. Parrish
-----------------------------
O.B. Parrish, Chairman and
Chief Executive Officer
30
CERTIFICATIONS
--------------
I, Robert R. Zic, Principal Accounting Officer of The Female Health Company,
certify that:
1. I have reviewed this quarterly report on Form 10-QSB of The Female
Health Company;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in
this quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
DATE: May 15, 2003 /s/ Robert R. Zic
------------------------------
Robert R. Zic, Principal
Accounting Officer (Principal
Financial Officer)
31